Citigroup Net Falls 57 Percent on
BRADLEY KEOUN / Bloomberg 15oct2007
Citigroup Inc., the biggest U.S. bank, said mortgage delinquencies and consumer lending will deteriorate for the rest of the year after earnings fell 57 percent in the third quarter.
Citigroup had its biggest drop in two months in New York trading after Chief Financial Officer Gary Crittenden said on a conference call that borrower defaults are "accelerating."
Chief Executive Officer Charles Prince, who has overseen a 17 percent drop in the company's stock this year, said momentum "continues very strong" in most of the company's businesses. Since Prince became CEO in 2003, Citigroup shares are virtually unchanged, compared with a 29 percent jump at Bank of America Corp., the second-largest U.S. bank by assets.
"They certainly had a lot of troubles and to some extent have been tripping over themselves the last couple of years," Jeffery Harte, an analyst at Sandler O'Neill & Partners LP in Chicago, said in an interview. Prince is "doing the right things strategically. It's become more of an execution problem lately."
The New York-based company said in a statement that net income declined to $2.38 billion, or 47 cents a share, from $5.51 billion, or $1.10, a year earlier. Citigroup said two weeks ago that earnings would fall 60 percent.
Citigroup dropped $1.81, or 3.8 percent, to $46.06 in composite trading on the New York Stock Exchange at 2:42 p.m.
Wall Street Writedowns
The results included about $6.5 billion of costs for fixed- income trading and underwriting losses and consumer loans gone bad. Like Wall Street rivals Goldman Sachs Group Inc., Morgan Stanley and Merrill Lynch & Co., Citigroup had to write down the value of mortgages, asset-backed securities and corporate loans held on trading books or in its underwriting business.
Earnings included a $729 million pretax gain on the sale of shares of Redecard SA, MasterCard Inc.'s transaction processor in Brazil. Revenue climbed 5.8 percent to $22.7 billion.
Return on equity, a gauge of how effectively the company reinvests earnings, dropped to 7.4 percent from 18.9 percent a year earlier, making it the second-lowest among Wall Street firms that have reported earnings, after Bear Stearns Cos.' 5.3 percent. Goldman Sachs Group Inc.'s 31.6 percent was the highest.
Citigroup is the first of the nation's biggest banks to report earnings for the quarter. New York-based JPMorgan Chase & Co. releases its results on Oct. 17, and Bank of America, based in Charlotte, North Carolina, is scheduled for Oct. 18.
Citigroup's profit exceeded analysts' estimates of 44 cents a share, according to a Bloomberg survey.
"Their revenues actually weren't as bad as we were expecting," Harte said. "The trading and some of the banking businesses held up better than we thought."
Revenue in Citigroup's trading and investment-banking division was $4.6 billion, compared with Harte's estimate of $3.75 billion. Revenue from wealth management, including the company's Smith Barney retail brokerage, was $3.51 billion. Harte had predicted $3.25 billion.
Bank of America is expected to report a return on equity of 15 percent for the third quarter, Fox-Pitt Kelton Cochran Caronia Waller analysts estimated. Wachovia Corp., the nation's fourth- largest bank, will report an ROE of 13 percent when it releases earnings on Oct. 19, according to the analysts.
Citigroup's profit drop included costs of $1.35 billion for leveraged-buyout loans and $1.56 billion for subprime mortgage assets. It also suffered a $636 million fixed-income trading loss and reported $2.98 billion of costs to guard against rising defaults for consumer loans. The losses and writedowns announced today were $600 million bigger than the company estimated two weeks ago.
On Oct. 11, Citigroup replaced Thomas Maheras, 44, who ran trading, and Randy Barker, 48, a senior fixed-income executive. The company promoted Vikram Pandit, 50, to run trading, investment banking and alternative investments.
The board is "comfortable" with the management changes, Prince said on the call, declining to comment on whether his own job was in jeopardy.
Past-due home loans doubled in the U.S. The slide in the mortgage business is frustrating Prince's effort to increase revenue faster than expenses.
Surging defaults "raise fear that credit quality may continue to be challenging," said Tom Kersting, an analyst at Edward Jones & Co. in Des Peres, Missouri. The delinquencies are "worse than they talked about even a couple of weeks ago."
The percentage of U.S. real-estate loans where borrowers were more than 90 days behind on payments climbed to 1.8 percent, from 1.4 percent in the second quarter and 1 percent a year earlier, Citigroup said.
Investors were further disheartened after Crittenden said capital ratios — a measure of the bank's ability to handle a business downturn — have fallen below the company's target, according to Kersting. The bank now has to divert spare capital away from share buybacks, Crittenden said.
Prince, 57, said when the losses were announced that they were an "aberration" and that profit would "return to a normal earnings environment" in the fourth quarter. Citigroup is part of a group of banks that agreed to set up a fund of about $80 billion to revive the market for asset-backed commercial paper, or loans that mature in 270 days or less.
The stock's slide has fueled criticism from investors such as Second Curve Capital LLC's Thomas Brown. Prince came under fire last year from Saudi billionaire Prince Alwaleed bin Talal, Citigroup's largest individual shareholder, for failing to control costs.
Prince placated Alwaleed by pledging earlier this year to cut annual expenses by $4.6 billion, or 10 percent, by 2009. The CEO announced plans in April to eliminate 17,000 jobs. Alwaleed said this month that he supports Prince.
Crittenden, the CFO, said on the conference call that the company is "ahead of our commitment" on headcount reductions and expense savings.
Since taking over in October 2003, Prince has defended the company's breadth as helping to assure stable earnings. The bank says it has about 200 million customer accounts in more than 100 countries.
"Prince has been dealt a tough hand," said Michael Chren, a portfolio manager at Allegiant Asset Management Co., which oversees about 1 million Citigroup shares. "He's doing the best job he can, and I think at this point you have to give him the benefit of the doubt."
Citigroup Posts 57 Percent Drop in 3Q
MADLEN READ / AP 15oct2007
NEW YORK — Citigroup Inc.'s report of a 57 percent drop in third-quarter profit didn't surprise anyone. What did sound some alarms was the biggest U.S. bank's somber take on current conditions — suggesting that the industry rebound investors were hoping for may not come so easily.
Citigroup saw mortgage-backed security losses of $1.56 billion in the third quarter, more than the bank estimated two weeks ago, because mortgage delinquencies accelerated in September, CFO Gary Crittenden said.
Also higher than previously estimated was the bank's boost in loan-loss provisions, which came to $2.24 billion. Crittenden said consumer credit continues to deteriorate.
Though Chairman and CEO Charles Prince said Oct. 1 he foresaw a more "normal" profit environment in the fourth quarter, Citigroup's comments Monday were not quite as upbeat.
Crittenden said in a conference call with analysts that parts of its fixed-income holdings have weakened: "We are not optimistic they will regain a foothold in the market," he said.
In the third quarter, worries about bad loans caused the credit markets to freeze up. The Federal Reserve lowered interest rates and helped loosen up the markets, but they're nowhere near as liquid as they were earlier this year. Citigroup, JPMorgan Chase & Co. and Bank of America Corp. confirmed Monday they are joining to buy assets that lost value in the market for mortgage-backed securities.
Citigroup's net income fell to $2.38 billion, or 47 cents per share, in the July to September period, from $5.51 billion, or $1.10 a share, in the same period last year. Revenue rose 6 percent to $22.66 billion from $21.42 billion a year earlier.
The results included a $729 million pretax gain from the sale of shares of Redecard SA, a company that signs up merchants in Brazil for MasterCard Inc.
Excluding the Redecard gain and acquisitions, Citigroup's revenue fell 3 percent to approximately $20.8 billion. That's below the revenue forecast by Thomson Financial analysts, who predicted earnings of 44 cents a share and revenue of $21.76 billion. Analyst forecasts don't typically include one-time gains.
Citigroup's shares fell $1.82, or 3.8 percent, to $46.05 by Monday afternoon.
That's down about 10 percent since the start of July, and about 16 percent year-to-date. Officials said there would be no stock buybacks before early 2008.
"The company continues to face pressure to improve financial performance and despite recent changes to its structure, management will have to deliver better results over the next few quarters to restore investor confidence," Goldman Sachs analysts wrote in a note.
Last week, the bank combined its investment banking and alternative investments units into one business led by former Morgan Stanley executive Vikram Pandit, who has run Citigroup's alternative investments unit for several months. Tom Maheras, co-CEO of the investment banking unit, and Randy Barker, a co-head of fixed-income trading, left.
Prince called the third quarter "disappointing."
"We're working very hard on the areas that need improvement," Prince said during the analyst call.
Disappointment among shareholders over Prince's leadership, which has been brewing for a few years now, appears to be growing.
"The bottom line here is almost all the investors that I talk with feel like there needs to be more significant changes in terms of management," Deutsche Bank analyst Mike Mayo said during the call, after noting that investment banking was not Citigroup's only weak point last quarter.
Mayo pointed to risk management issues, and the likelihood of expenses outpacing revenues this year. Citigroup's third-quarter operating expenses rose 22 percent.
Prince responded that several of Citigroup's businesses have been improving. Citigroup's global wealth management revenue rose 41 percent in the third quarter, fueled by a 42 percent increase in international revenue and a 24 percent jump to record revenue at Smith Barney. Global consumer revenue rose 14 percent after a 35 percent rise in international consumer revenue.
"A fair-minded person would say the strategic plan is working," Prince said.
As in previous quarters, the bank's international businesses — with the exception of its lagging Japan consumer finance unit — performed better than stateside operations. U.S. consumer revenue was flat, after increases in retail operations and consumer lending offset decreases in U.S. cards and commercial businesses.
Markets and banking revenue fell 24 percent, despite a 7 percent international revenue gain. In addition to the $1.56 billion in mortgage-related losses, the segment suffered a $1.35 billion write-down on highly leveraged debt tied to corporate deals and $636 million in fixed income credit trading losses.
Credit costs rose $2.98 billion. Revenue in alternative investments fell 63 percent.
Big Banks Announce Plan To Bolster Credit Market
CARRICK MOLLENKAMP, DEBORAH SOLOMON
and ROBIN SIDEL / Wall Street Journal 15oct2007
Several large U.S. banks unveiled a plan today for a fund to buy troubled assets in exchange for new short-term debt, in an effort to ignite demand in certain credit markets.
The high-stakes plan to rescue banks from losses on mortgage securities amounts to a big bet that a consortium of financial giants — at the prodding of the U.S. government — can persuade investors to pour more money into the troubled credit market.
Over the weekend, the Treasury hosted talks to help those banks set up the fund, estimated at $100 billion, which they hope to have up and running within 90 days. The Treasury hopes the plan will jump-start demand for commercial paper, which froze up this summer amid the credit crunch that roiled global financial markets.
Treasury Secretary Henry Paulson said Monday that regulatory changes may be needed to head off future problems involving so-called structured investment vehicles, or SIVs. "I do think we're going to need greater transparency," he said, adding, that's "one of the lessons of this period of turmoil."
In the short term, however, Mr. Paulson said he's pleased with the move by major banks to create a conduit to purchase highly rated assets from existing SIVs. "That will have real benefits to the marketplace," Mr. Paulson said.
Citigroup CFO Gary Crittenden, on a conference call to discuss Citigroup's earnings, declined to comment on specifics of the bailout plan. But he said that in theory, such a plan "could provide reassurance to the market and make the funding of very high-quality assets a little easier."
Companies depend on commercial paper to finance day-to-day expenses like payroll and rent. Some financial commercial paper — known as asset-backed paper — has been able to find buyers in recent weeks. But investors have remained skeptical of other types, including paper issued by certain bank-affiliated investment funds
The lack of buying signaled that the markets weren't working properly, despite the efforts of central banks, and that investor confidence was low, since commercial paper typically is considered a safe investment.
Some influential investors think the Treasury-backed strategy might work. Other object to the Treasury's role in seeking to help banks avoid a big financial hit for making bad bets.
The coordinated effort is a good way to help restart stalled debt markets, said Mohamed El-Erian, who runs Harvard University's $35 billion endowment and is set to become co-chief executive and co-chief investment officer of money-management firm Pacific Investment Management Co. in January. "No bank would do this on its own."
"The proposal has the potential to restore liquidity to a market," he added.
Four weeks ago, in an unusual move, Treasury officials convened a meeting of some 10 banks, including Citigroup Inc., to discuss a private-sector solution to the problems and sounded out other market participants about their views on a rescue package. The problems stem from affiliated funds called structured investment vehicles, or SIVs, which Citigroup and others set up as a way to make money without taking the risk involved onto their balance sheets. Such vehicles are formally independent of the banks that create them. They issue their own short-term debt, usually at relatively low rates that reflects their high credit rating. Then, they use the proceeds to buy higher-yielding assets such as securities tied to mortgages or receivables from midsize businesses seeking to raise cash.
The government isn't putting money into the plan but its role could be crucial in luring investors to buy debt issued by the rescue fund as part of the plan.
Even that's too much for some big investors. "I have never seen Treasury play this kind of role," said John Makin, a visiting scholar with the conservative American Enterprise Institute in Washington and a principal with hedge fund Caxton Associates LLC. The banks made "riskier investments that didn't work out. They should now put it back on their balance sheet."
The popularity of SIVs has boomed since two Citigroup bankers, Nicholas J. Sossidis and Stephen Partridge-Hicks, invented the strategy in London in the late 1980s. (They later left to form their own company, London-based Gordian Knot, which operates the world's largest SIV.)
Behind Treasury's concern were banks like Citigroup, whose affiliates owned $80 billion in assets backed by mortgages and other securities. The world's biggest bank, by market value, held the assets off its balance sheet and was facing the prospect of either having to unload them in a disorderly fire-sale fashion or moving them onto its books.
Either scenario would have hurt financial markets and could have damped the economy by curtailing banks' ability to make new loans to consumers and corporations. Treasury envisioned a potentially "disorderly" unwinding of assets that could worsen the credit crunch, said a person familiar with the matter.
When it began discussions with the banks last month, Treasury made clear that a government-backed bailout or any publicly financed rescue effort was "not on the table," and that it wanted to facilitate a private-sector response, this person said.
Under the proposed rescue package Citigroup, J.P. Morgan Chase & Co. and Bank of America Corp. will set up a fund, or "superconduit," to act as a buyer of last resort. It will pay market prices for SIV assets in an effort to prevent dumping.
J.P. Morgan and Bank of America don't have SIVs, but they plan to participate because they would earn fees for helping arrange the superconduit, whose lifespan, according to people briefed on the plan, is expected to be about a year. The superconduit can buy assets from any bank or fund around the world.
Details are still being worked out but the oversight committee of the three banks will set criteria for what the new fund, to be called the Master-Liquidity Enhancement Conduit, will buy. For now, it is unlikely the fund will buy assets underpinned by subprime mortgages due to concern that they would constrain it, people familiar with the matter said. Subprime mortgages are those aimed at borrowers with shaky credit.
The plan means that some banks now stand to profit from the problems their industry helped create. Citigroup, J.P. Morgan and Bank of America, for example, will be paid fees for providing the financial backstop to the fund. In addition, the broker-dealer arms of the banks could be paid for helping the new structure raise capital. Bank of America highlighted the opportunity to generate fees in discussions leading up to the final plans, people familiar with the matter said.
Citigroup took the lead in pushing for the rescue plan. Large sums of SIV debt were coming due in November. And increasingly debt analysts were forecasting a tough future for SIVs. A Citigroup research report, issued two days before the banks and Treasury met for the first time, noted, "SIVs now find themselves in the eye of the storm."
The banks and Treasury consulted the Federal Reserve early on. The Fed was available to answer technical questions but left it to Treasury to oversee the talks. At a critical meeting convened by Treasury on Sunday, Sept. 16, Anthony Ryan, Treasury's assistant secretary for financial markets, asked the bankers about their outlook. The response was that assets could be sold, but in a process that would bring disorder to the markets.
Banks would face huge losses if their affiliated funds were forced to unload billions of dollars in mortgage-backed securities and other assets because it would drive down prices and lead to big write-offs at the new, lower market prices. Indeed, in the past several months, Citigroup's own affiliates have sold some $20 billion in assets.
Some bankers objected to the plan, calling it an escape hatch for Citigroup, which has more SIVs than any other bank, according to people familiar with the situation. The bank has accounted for about 25% of the global SIV market. As of August, assets held by SIVs totaled $400 billion.
In coming weeks, there could be challenges in getting other banks to join because they may be concerned their investors could view it as a signal that their books are weak.
In recent weeks, investors have grown worried about the size of bank-affiliated funds that have invested huge sums in securities tied to shaky U.S. subprime mortgages and other assets. Citigroup has drawn special scrutiny. The bank and its London office run seven affiliates, or SIVs, that would be able to sell assets to the superconduit.
Bringing assets onto its balance sheet would be a big problem for Citigroup because it would be required to set aside reserves to cover the assets. The banking titan operates with a capital ratio that is thinner than peers.
Auditors in recent weeks also had taken a hard-line when it came to assessing losses within SIVs. As the credit crunch worsened in August, many financial institutions argued that losses due to market volatility didn't reflect the assets' long-term value.
But on Oct. 3, the Center for Audit Quality, backed by the Big Four accounting firms, issued analysis that said market prices were real and couldn't be ignored. One paper argued that banks must periodically reassess the condition of off-balance-sheet funding vehicles and take account of market prices and any resulting losses, even if these were seen as an anomaly. If the losses become so great that a bank sponsoring one of these vehicles may have to shoulder some of their cost, "the sponsor would be required to consolidate" the vehicle, the paper said.
The Center for Audit Quality drafted the papers after consulting with the Securities and Exchange Commission. As a result, this put companies on notice that the Big Four accounting firms, along with the SEC, had taken a common stand on these complex accounting questions.
—Bob Sechler, David Reilly, Craig Karmin, and Ian McDonald contributed to this article.