Scotia Capital, 6 December 2010
• RY cash operating EPS declined 20% YOY to $0.84, significantly below expectations due to weak Wholesale and International Banking results. Operating ROE: 13.5%, RRWA: 1.85%, Tier 1 Capital: 13.0%.
Implications
• Reported cash EPS was $0.76 per share including a $116M after-tax or $0.08 per share loss on the announced sale of Liberty Life.
• Fiscal 2010 operating EPS declined 17% to $3.70 per share from $4.45 per share in 2009 due to a 33% decline in Wholesale Banking earnings. Operating ROE 2010: 15.9%, RRWA: 2.11%.
• RBC Capital Markets earnings declined 35% YOY to $374M, although recovering from the extremely low level of $202M in the previous quarter. International Banking operating loss in Q4 deteriorated to $132M versus a loss of $52M in the previous quarter.
Recommendation
• We are reducing our 2011E EPS to $4.20 from $4.40 and introducing 2012E EPS of $4.80. Our one-year share price target is unchanged at $60. We maintain our 2-SP rating as the premium P/E multiple remains vulnerable given RY's declining relative profitability and earnings risk.
• RY cash operating EPS declined 20% YOY to $0.84, significantly below expectations due to weak Wholesale and International Banking results. Operating ROE: 13.5%, RRWA: 1.85%, Tier 1 Capital: 13.0%.
Implications
• Reported cash EPS was $0.76 per share including a $116M after-tax or $0.08 per share loss on the announced sale of Liberty Life.
• Fiscal 2010 operating EPS declined 17% to $3.70 per share from $4.45 per share in 2009 due to a 33% decline in Wholesale Banking earnings. Operating ROE 2010: 15.9%, RRWA: 2.11%.
• RBC Capital Markets earnings declined 35% YOY to $374M, although recovering from the extremely low level of $202M in the previous quarter. International Banking operating loss in Q4 deteriorated to $132M versus a loss of $52M in the previous quarter.
Recommendation
• We are reducing our 2011E EPS to $4.20 from $4.40 and introducing 2012E EPS of $4.80. Our one-year share price target is unchanged at $60. We maintain our 2-SP rating as the premium P/E multiple remains vulnerable given RY's declining relative profitability and earnings risk.
__________________________________________________________
The Globe and Mail, Eric Reguly, 26 November 2010, Friday
Nattily dressed, minus a tie, Gord Nixon saunters into the Blue Bar at The Berkeley Hotel in Knightsbridge, orders a Hendrick’s gin and tonic, reaches into his breast pocket and presents me with a folded piece of paper. I think I know what’s coming and my heart sinks.
It is a photocopy of a column I wrote in May, 2007, when Fred Goodwin, then boss of Royal Bank of Scotland, was on top of the banking heap, buying everything in sight and putting Edinburgh on the global financial services map. The headline, “Bold RBS puts our banks to shame,” suggested that another blue-blooded bank – Royal Bank of Canada – could leap into the international big leagues too if only one Gordon M. Nixon had Mr. Goodwin’s famous bravura.
Today, RBS, minus Mr. Goodwin, is 84-per-cent owned by Her Majesty’s Treasury after reporting a stunning £24.1-billion loss in the 2008 crisis year. The market value of what was once the world’s fifth-biggest bank is now the equivalent of about $38-billion (Canadian). And RBC? It’s worth $77-billion, putting it among the planet’s top 15. What’s more, it has become Canada’s corporate ambassador to the world, the textbook example of a bank that used classic Canadian caution, backed by sound regulation, to survive and thrive while many others around it toppled like dominoes.
Mr. Nixon, who became chief executive officer of RBC in 2001, chuckles and tells me not to feel bad about the article; pre-crunch, all sorts of misguided reporters and analysts were telling him to go big or go home. Some members of his own executive team heaped pressure on him to do the same.
To his credit, he resisted. Indeed, RBC’s rise can’t be down to sheer dumb luck. It was due ultimately to Mr. Nixon’s strength of personality and belief that banks shouldn’t take the easy route to growth. “A lot of CEOs who fell by the wayside lost sight of the fact that they were supposed to be growing franchises,” he says. “Instead, they were growing assets. The easiest thing to grow is a bank’s assets. We could double our balance sheet tomorrow if we went out and made a lot of loans, bought securities and businesses that don’t have good returns.”
That’s what Mr. Goodwin did and that’s why Sir Fred – he was knighted in 2004 – is now often referred to as a “villain” or the “world’s worst banker.”
Gin and tonics downed, we repair to Koffmann’s at The Berkeley, next door for dinner. It is chef Pierre Koffmann’s comeback restaurant after a decade-long absence. Koffmann’s specialty is hearty Gascon fare, supported by fine French wines, a combination that has made it the newest darling of London’s fine-cuisine scene.
Mr. Nixon orders fish soup and Dover sole on the bone. I opt for the black pudding and mackerel. In spite of his laidback, boyish air, Mr. Nixon knows a thing or two about wine and is especially fond of Italian whites from Piedmont. But this is a French restaurant and Mr. Koffmann doesn’t put Italians on the menu. Mr. Nixon picks a Domaine Alain Chavy premier cru, 2006, from the Puligny-Montrachet vineyards. I wouldn’t know until the bill arrived that it cost almost as much as my flight to London from Rome.
When he realizes that my fish comes with a cup of gorgeously plump French fries, and his doesn’t, he orders his own. “I’m a French fry fiend,” he explains. When they arrive, he goes into rapture: “That’s perfect; much better than bread.”
Mr. Nixon is in a good mood, in spite of complaining about having overindulged the previous evening. He is in town to attend the Duke of Edinburgh’s Award ceremony at Buckingham Palace – RBC is a sponsor of the award – see his daughter Jackie, who works as a Goldman Sachs investment banker in London, and visit RBC’s ever-expanding London capital markets and wealth-management operations. They were recently bolstered by the £963-million purchase of BlueBay Asset Management, a British bond trader.
Less than two months short of his 54th birthday, he is a different sort of executive than he was a decade ago, when he went from relationship manager at RBC’s investment arm to the CEO’s suite at Canada’s top bank virtually overnight. “I would say they were all surprised when I came in,” he says.
The new boy might have exuded confidence, but it was something of a show because he had a big hole in his knowledge: As a career investment banker, he knew almost nothing about RBC’s retail business, which was not without its problems at the time. “The business I was least comfortable with was [retail] banking, which was our biggest business,” he says. “It probably took a few years to get comfortable with decision making around the retail bank.”
That was one problem; another was being surrounded by Type A executives, some of whom had different views on how the bank should be run and many of whom didn’t get along with each other. “There was a lack of functionality across my executives in the early years,” he says. “It wasn’t a team. You had very different views, very different perspectives, and a lot of turf wars between various members of the executive committee.”
Two of the executives, chief financial officer Peter Currie and banking chief Jim Rager, wanted RBC to make a big splash in the United States, where RBC’s capital markets and banking assets, such as Centura, were too small, too scattered and struggling to make a buck. Mr. Nixon kept fighting them, not, he says, because he was a quivering M&A coward, but because he never liked the American banking model.
“It was a very low-return business and extremely competitive,” he says. “They all compete for retail deposits and they have to deploy these deposits, which means plowing money into the real estate market, which allowed them to grow. How do you justify paying three times book for a bank with a 9-per-cent return on equity?” (RBC’s overall returns on equity typically range from the high teens to the low 20s).
Mr. Nixon won the internal battle. RBC did not go big in the United States (though it was an open secret that it looked at Bear Stearns and Lehman Bros., among others). Mr. Currie and Mr. Rager hit the road in 2004 and chief risk officer Suzanne Labarge, who had sided with Mr. Nixon on his anti-M&A strategy, retired. In came a new senior executive team. It wasn’t until that point that Mr. Nixon was in full control of RBC. At least, that was the view of the analysts.
“It seemed from the outside, that after 2004, Gord really began to put his stamp on the company and ushered in an era of significant operating improvements across the entire bank,” says Rob Wessel, the former banking analyst turned managing partner of Toronto’s Hamilton Capital Partners. “Gord’s management changes laid the groundwork for the great performance that followed.”
The next four years were uneventful, in the sense that rising markets lifted all banks and hid a lot of mistakes. “Those were enjoyable years,” Mr. Nixon says. “All businesses were growing and gaining market share; all were doing well.”
Still, he resisted making a big U.S. acquisition, opting instead to pump capital into investment banking, insurance, wealth management and other businesses with the aim of creating a stable, diversified bank with relatively low earnings volatility. “The best decision he ever made was not making a big U.S. retail acquisition in 2006 or 2007; he would have bought at the top of the market,” Mr. Wessel says.
In spite of RBC’s caution, the stupidly inflated U.S. real estate market did bite RBC in the butt. RBC Dominion Securities took $4-billion in financial crisis-related writedowns. That wasn’t huge, compared with the damage suffered by other banks, but it wasn’t fun. Neither was going through the post-Lehman banking crisis. Mr. Nixon says there were moments when he thought RBC might collapse, not because RBC had hidden time bombs primed to explode at any moment, but because the global banking system was at risk. “There’s no such thing in financial services as the last man standing,” he says. “If the system falls apart, everyone goes down with it.”
Two years after the banking crunch, RBC and Mr. Nixon are on top of the world. Even in the meltdown year, RBC was hugely profitable – its profit was $3.86-billion in the year to the end of October, 2009. Which begs the question: Why not quit at the top?
The rumour indeed is that he will hit the links full-time when he turns 55 (Nixon loves golf and plays well, though a friend describes him as “hypercompetitive”). His answers to the retirement question are tantalizingly vague and he gives no clue about the identity of his preferred successor. “I’m only 53. I’d be very surprised if I made it to 60, but I have no intention of leaving in the near term, so it’s somewhere between now and 60,” he says.
He insists there’s a lot left to do before he’s truly happy with the bank, which was actually the worst performer of the Big Five Canadian banks in the last year. RBC’s international bank – the U.S. and Caribbean operations, plus RBC Dexia – needs fixing. That division has lost money in the past two years, though Mr. Nixon expects vast improvements under Jim Westlake, the head of international banking and insurance. Investment banking, wealth management and insurance will be pumped up and made more efficient. Each of the bank’s main businesses is capable of far greater profitability, he says.
I suggest that sticking around to squeeze another 10 or 20 per cent or so from an unbroken bank seems rather unambitious. What about something big and bold, something that would define his management of the company? Forget it, he says. “I’m very happy to stick around and build our businesses. When a CEO starts talking about his legacy, it’s time to short the stock.”
______
Curriculum Vitae:
Beginnings
Born in 1957 in Montreal
Educated at Queen’s University, graduating with an honours degree in commerce
Home life
Lives in Toronto and has holiday homes in Muskoka and Florida
Married to Janet. Three children, each of them outside Canada for work or schooling (London, Paris and North Carolina)
Sports and other passions
Golf, tennis, sailing Olympic-class Lasers, Pilates and the odd game of hockey
Drives a Mercedes S500
Likes Italian white wine from Italy’s Piedmont region
Career
Made more money in 2001, when he spent almost half the year at RBC Dominion Securities, than he did last year ($10.4-million)
Began career in 1979 at Dominion Securities in Toronto
Worked for Dominion in Tokyo from 1986 to 1989
Became CEO of RBC Dominion Securities in 1999
Appointed president of RBC in 2001
Other interests
Chairman of MaRS, a not-for-profit organization that connects science, business and capital
Co-chairman, Toronto Region Immigrant Employment Council
Chairman of the Queen’s University Capital Campaign
Appointed a member of the Order of Canada this year
______
Viewpoints:
On the future of banking
“I don’t think banks any longer will be measured by size. It’s not a game to show that you’re bigger than the next guy. I think the world has changed dramatically, which is why you’re seeing very little in terms of M&A activity in financial services. If you can’t deploy capital in a way that gives you a good return, you shouldn’t be doing it.”
On the 2008 financial crisis
“We didn’t have [a backup plan]. There was nothing you could do. You were basically ensuring the bank had liquidity in the event there was a complete collapse of the global financial system, which almost happened in Europe, where the interbank lending system disappeared.”
On Lehman Brothers’ collapse
“Letting it go was way more damaging to the system. I think it could have been managed down.”
On reporters’ tape recorders
“I’m more honest when they’re off. That way I can deny it.”
;
Nattily dressed, minus a tie, Gord Nixon saunters into the Blue Bar at The Berkeley Hotel in Knightsbridge, orders a Hendrick’s gin and tonic, reaches into his breast pocket and presents me with a folded piece of paper. I think I know what’s coming and my heart sinks.
It is a photocopy of a column I wrote in May, 2007, when Fred Goodwin, then boss of Royal Bank of Scotland, was on top of the banking heap, buying everything in sight and putting Edinburgh on the global financial services map. The headline, “Bold RBS puts our banks to shame,” suggested that another blue-blooded bank – Royal Bank of Canada – could leap into the international big leagues too if only one Gordon M. Nixon had Mr. Goodwin’s famous bravura.
Today, RBS, minus Mr. Goodwin, is 84-per-cent owned by Her Majesty’s Treasury after reporting a stunning £24.1-billion loss in the 2008 crisis year. The market value of what was once the world’s fifth-biggest bank is now the equivalent of about $38-billion (Canadian). And RBC? It’s worth $77-billion, putting it among the planet’s top 15. What’s more, it has become Canada’s corporate ambassador to the world, the textbook example of a bank that used classic Canadian caution, backed by sound regulation, to survive and thrive while many others around it toppled like dominoes.
Mr. Nixon, who became chief executive officer of RBC in 2001, chuckles and tells me not to feel bad about the article; pre-crunch, all sorts of misguided reporters and analysts were telling him to go big or go home. Some members of his own executive team heaped pressure on him to do the same.
To his credit, he resisted. Indeed, RBC’s rise can’t be down to sheer dumb luck. It was due ultimately to Mr. Nixon’s strength of personality and belief that banks shouldn’t take the easy route to growth. “A lot of CEOs who fell by the wayside lost sight of the fact that they were supposed to be growing franchises,” he says. “Instead, they were growing assets. The easiest thing to grow is a bank’s assets. We could double our balance sheet tomorrow if we went out and made a lot of loans, bought securities and businesses that don’t have good returns.”
That’s what Mr. Goodwin did and that’s why Sir Fred – he was knighted in 2004 – is now often referred to as a “villain” or the “world’s worst banker.”
Gin and tonics downed, we repair to Koffmann’s at The Berkeley, next door for dinner. It is chef Pierre Koffmann’s comeback restaurant after a decade-long absence. Koffmann’s specialty is hearty Gascon fare, supported by fine French wines, a combination that has made it the newest darling of London’s fine-cuisine scene.
Mr. Nixon orders fish soup and Dover sole on the bone. I opt for the black pudding and mackerel. In spite of his laidback, boyish air, Mr. Nixon knows a thing or two about wine and is especially fond of Italian whites from Piedmont. But this is a French restaurant and Mr. Koffmann doesn’t put Italians on the menu. Mr. Nixon picks a Domaine Alain Chavy premier cru, 2006, from the Puligny-Montrachet vineyards. I wouldn’t know until the bill arrived that it cost almost as much as my flight to London from Rome.
When he realizes that my fish comes with a cup of gorgeously plump French fries, and his doesn’t, he orders his own. “I’m a French fry fiend,” he explains. When they arrive, he goes into rapture: “That’s perfect; much better than bread.”
Mr. Nixon is in a good mood, in spite of complaining about having overindulged the previous evening. He is in town to attend the Duke of Edinburgh’s Award ceremony at Buckingham Palace – RBC is a sponsor of the award – see his daughter Jackie, who works as a Goldman Sachs investment banker in London, and visit RBC’s ever-expanding London capital markets and wealth-management operations. They were recently bolstered by the £963-million purchase of BlueBay Asset Management, a British bond trader.
Less than two months short of his 54th birthday, he is a different sort of executive than he was a decade ago, when he went from relationship manager at RBC’s investment arm to the CEO’s suite at Canada’s top bank virtually overnight. “I would say they were all surprised when I came in,” he says.
The new boy might have exuded confidence, but it was something of a show because he had a big hole in his knowledge: As a career investment banker, he knew almost nothing about RBC’s retail business, which was not without its problems at the time. “The business I was least comfortable with was [retail] banking, which was our biggest business,” he says. “It probably took a few years to get comfortable with decision making around the retail bank.”
That was one problem; another was being surrounded by Type A executives, some of whom had different views on how the bank should be run and many of whom didn’t get along with each other. “There was a lack of functionality across my executives in the early years,” he says. “It wasn’t a team. You had very different views, very different perspectives, and a lot of turf wars between various members of the executive committee.”
Two of the executives, chief financial officer Peter Currie and banking chief Jim Rager, wanted RBC to make a big splash in the United States, where RBC’s capital markets and banking assets, such as Centura, were too small, too scattered and struggling to make a buck. Mr. Nixon kept fighting them, not, he says, because he was a quivering M&A coward, but because he never liked the American banking model.
“It was a very low-return business and extremely competitive,” he says. “They all compete for retail deposits and they have to deploy these deposits, which means plowing money into the real estate market, which allowed them to grow. How do you justify paying three times book for a bank with a 9-per-cent return on equity?” (RBC’s overall returns on equity typically range from the high teens to the low 20s).
Mr. Nixon won the internal battle. RBC did not go big in the United States (though it was an open secret that it looked at Bear Stearns and Lehman Bros., among others). Mr. Currie and Mr. Rager hit the road in 2004 and chief risk officer Suzanne Labarge, who had sided with Mr. Nixon on his anti-M&A strategy, retired. In came a new senior executive team. It wasn’t until that point that Mr. Nixon was in full control of RBC. At least, that was the view of the analysts.
“It seemed from the outside, that after 2004, Gord really began to put his stamp on the company and ushered in an era of significant operating improvements across the entire bank,” says Rob Wessel, the former banking analyst turned managing partner of Toronto’s Hamilton Capital Partners. “Gord’s management changes laid the groundwork for the great performance that followed.”
The next four years were uneventful, in the sense that rising markets lifted all banks and hid a lot of mistakes. “Those were enjoyable years,” Mr. Nixon says. “All businesses were growing and gaining market share; all were doing well.”
Still, he resisted making a big U.S. acquisition, opting instead to pump capital into investment banking, insurance, wealth management and other businesses with the aim of creating a stable, diversified bank with relatively low earnings volatility. “The best decision he ever made was not making a big U.S. retail acquisition in 2006 or 2007; he would have bought at the top of the market,” Mr. Wessel says.
In spite of RBC’s caution, the stupidly inflated U.S. real estate market did bite RBC in the butt. RBC Dominion Securities took $4-billion in financial crisis-related writedowns. That wasn’t huge, compared with the damage suffered by other banks, but it wasn’t fun. Neither was going through the post-Lehman banking crisis. Mr. Nixon says there were moments when he thought RBC might collapse, not because RBC had hidden time bombs primed to explode at any moment, but because the global banking system was at risk. “There’s no such thing in financial services as the last man standing,” he says. “If the system falls apart, everyone goes down with it.”
Two years after the banking crunch, RBC and Mr. Nixon are on top of the world. Even in the meltdown year, RBC was hugely profitable – its profit was $3.86-billion in the year to the end of October, 2009. Which begs the question: Why not quit at the top?
The rumour indeed is that he will hit the links full-time when he turns 55 (Nixon loves golf and plays well, though a friend describes him as “hypercompetitive”). His answers to the retirement question are tantalizingly vague and he gives no clue about the identity of his preferred successor. “I’m only 53. I’d be very surprised if I made it to 60, but I have no intention of leaving in the near term, so it’s somewhere between now and 60,” he says.
He insists there’s a lot left to do before he’s truly happy with the bank, which was actually the worst performer of the Big Five Canadian banks in the last year. RBC’s international bank – the U.S. and Caribbean operations, plus RBC Dexia – needs fixing. That division has lost money in the past two years, though Mr. Nixon expects vast improvements under Jim Westlake, the head of international banking and insurance. Investment banking, wealth management and insurance will be pumped up and made more efficient. Each of the bank’s main businesses is capable of far greater profitability, he says.
I suggest that sticking around to squeeze another 10 or 20 per cent or so from an unbroken bank seems rather unambitious. What about something big and bold, something that would define his management of the company? Forget it, he says. “I’m very happy to stick around and build our businesses. When a CEO starts talking about his legacy, it’s time to short the stock.”
______
Curriculum Vitae:
Beginnings
Born in 1957 in Montreal
Educated at Queen’s University, graduating with an honours degree in commerce
Home life
Lives in Toronto and has holiday homes in Muskoka and Florida
Married to Janet. Three children, each of them outside Canada for work or schooling (London, Paris and North Carolina)
Sports and other passions
Golf, tennis, sailing Olympic-class Lasers, Pilates and the odd game of hockey
Drives a Mercedes S500
Likes Italian white wine from Italy’s Piedmont region
Career
Made more money in 2001, when he spent almost half the year at RBC Dominion Securities, than he did last year ($10.4-million)
Began career in 1979 at Dominion Securities in Toronto
Worked for Dominion in Tokyo from 1986 to 1989
Became CEO of RBC Dominion Securities in 1999
Appointed president of RBC in 2001
Other interests
Chairman of MaRS, a not-for-profit organization that connects science, business and capital
Co-chairman, Toronto Region Immigrant Employment Council
Chairman of the Queen’s University Capital Campaign
Appointed a member of the Order of Canada this year
______
Viewpoints:
On the future of banking
“I don’t think banks any longer will be measured by size. It’s not a game to show that you’re bigger than the next guy. I think the world has changed dramatically, which is why you’re seeing very little in terms of M&A activity in financial services. If you can’t deploy capital in a way that gives you a good return, you shouldn’t be doing it.”
On the 2008 financial crisis
“We didn’t have [a backup plan]. There was nothing you could do. You were basically ensuring the bank had liquidity in the event there was a complete collapse of the global financial system, which almost happened in Europe, where the interbank lending system disappeared.”
On Lehman Brothers’ collapse
“Letting it go was way more damaging to the system. I think it could have been managed down.”
On reporters’ tape recorders
“I’m more honest when they’re off. That way I can deny it.”
