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Is Barclays’ share price a value trap?

Barclays' [BARC] recent share price losses have erased early 2019 gains.

With overwhelming majority, Barclays’ investors voted to allow chief executive Jes Staley to continue with his vision to transform the bank into a corporate and investment banking powerhouse earlier this month.

Almost 87.2% of shareholders rejected the bid by Edward Bramson, the activist investor who has been pushing to scale back the corporate and investment bank (CIB) unit, to be appointed to the board,  implicitly giving the green light to Staley’s plan to put the unit at the core of future profits.

With shareholder activism out of the way (for now), the real challenge begins for Staley, who has taken direct control of the day-to-day operations at CIB. Barclays’ share price dipped below 150p last week, a number not seen since the end of 2018, and after a torrid Q1 for investment banks at large, Staley faces an uphill battle if he wants to please investors.Barclays 1-year share price performance, CMC Markets, 29 May 2019

 

A European champion?

Barclays’ investment banking division, which was born out of the ashes of Lehman Brothers’ [LHHMQ] assets, remains a laggard compared to US peers, posting a return on tangible equity (ROTE) of 9.5% last quarter, compared to Morgan Stanley’s [MS] 14.9% and Goldman Sachs’ [GS] 11.1%. For Bramson, the lacklustre performance stems from Barclay’s lack of scale in wealth management and corporate banking, which forces the bank to concentrate on lower-margin trading activity.

“Since it is extremely difficult and time consuming to gain corporate customer market share, Barclays’ CIB has instead aggressively pursued ‘buy side’ business which can be gained more quickly and easily through price reductions or loosening of credit standards,” Sherborne Investors (the firm founded by Bramson) wrote in a letter to Barclays’ shareholders ahead of the annual general meeting. In the same letter, Barclay’s CIB division was unflatteringly compared to the Deutsche Bank [DBK] unit of the same name.

“Since it is extremely difficult and time consuming to gain corporate customer market share, Barclays’ CIB has ... pursued ‘buy side’ business which can be gained more quickly and easily through price reductions or loosening of credit standards” - Sherborne Investors in a note to Barclays' shareholders

Despite this, Barclays ranks respectably among its European investment banking peers, with Credit Suisse [CS] and UBS [UBS] reporting 7.8% and 9.8% ROTE respectively last quarter. And Staley is looking to narrow the gap with the consumer and business banking division, which posted a ROTE of 16.4%.

 

Market cap£25.98bn
PE ratio (TTM)7.81
EPS (TTM)19.30
Quarterly revenue growth (YoY)-5.20%

Barclays share price vitals, Yahoo finance, 29 May 2019

 

During the bank’s Q1 earnings call, Staley acknowledged that there are “execution challenges we must still meet in order to deliver acceptable returns and on a consistent basis, particularly in [CIB]”. He went on to reiterate his target of a group-wide ROTE above 9% in 2019, and above 10% in 2020. “We are now finally approaching a position to reward your patience,” he told shareholders at the annual general meeting. 

 

Cost levers

While analysts’ opinion on Barclays’ stock remains broadly positive, some are questioning management’s capacity to achieve this year’s targets. Jefferies said it expected the bank to only achieve 9% ROTE in 2021, two years later than Staley is aiming for. “We remain ‘buy’ on the name [Barclays] but management have to execute on ROTE expansion … lest [shares] become a value trap," the firm wrote on 16 April.

+10%

Barclays' targeted ROTE by 2020

One way Staley has hinted the expansion could be achieved is by adjusting costs in coming quarters. While he has left 2019 cost guidance unvaried at £13.6bn–13.9bn between Q4 and Q1 results, he left the door open for further cost reductions. “If the income environment isn’t where we would like it to be, then we are prepared to go below £13.6bn in order to find a balance between current profitability and medium and longer-term investments,” he said at an analyst event on 29 April, suggesting that bonuses could be reduced if necessary.

The analysts at Jefferies may be right in that bigger margins may only be achieved further down the line. At the late April event, Staley himself admitted that “we probably have a very small window left of current year impacts”.

But should he succeed in building the bank he envisions, the wait for shareholders would be worth it. As Nicholas Hyett, an analyst at Hargreaves Lansdown, wrote in a February note: “Barclays was always going to be a longer-term project. If it can deliver the 10%-plus return on equity it's targeting by 2020, and do that consistently, then this year's dividend hike … might be the first of several.”

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