Two big events over the past few days have given investors reason to squirm:
- The resignation of one of Citi's chief masterminds, former Treasury Secretary Robert Rubin.
- The announcement of plans to sell its brokerage unit, Smith Barney, in a possible deal with Morgan Stanley (NYSE: MS ) .
No, this isn't the kind of pants-wetting news that rattled shareholders in November. Now that Uncle Sam has skin in the game, failure isn't an option -- although that doesn't mean shareholders can't be wiped out. Regardless, the events of the past few days, and what they say about Citi's future, are anything but encouraging for shareholders.
Everything must go
Let's start with the big news: the possible sale of Citi's crown-jewel wealth-management asset, Smith Barney. Why is it such a big deal? For one, a mere seven weeks ago, CEO Vikram Pandit mentioned, "I have got no desire to sell Smith Barney. I love that business."
Investors have been trying in vain to suss out Citi's strategy. Now, what little information they've been fed has been rescinded. In a market where tolerance for uncertainty is nil, shareholders have every right to question Pandit's apparent waffling.
As for Smith Barney, its profits weren't massive, but they were certainly among the most stable in Citi's arsenal. In 2006, it contributed just more than $1 billion of net income to Citi's $21.5 billion bottom line. In 2007, Smith Barney earned $1.3 billion in net income -- more than one-third of total profits that year. By the third quarter of 2008, wealth management was the last profitable major division remaining.
That stable profitability brings up two important points: If Citi's jettisoning one of its best divisions -- a unit for which the CEO recently expressed love, nonetheless -- we can be sure that (a) it still needs more capital, and (b) it's almost certainly giving up on the "supermarket" bank structure it rode to fat profits over the past decade.
Great. So now what?
Which brings me to Robert Rubin. After the megabank cheerleader resigned last week -- because he is "tired of it," according to The Wall Street Journal -- there are few doubts that management finally acknowledges that the monstrosity it created has grown too big for its britches. And it's about time: I called for a Citigroup breakup back in July.
Still, ask AIG (NYSE: AIG ) what it's like shedding assets in this market. Buyers are practically nonexistent. Nearly every company in the world, save for maybe Berkshire Hathaway (NYSE: BRK-B ) , is on the defensive right now. That said, you can't mention the words "sell assets" without the caveat of "fire-sale prices" these days. It's too late in the game for Citigroup to assume it can sell its way out.
As testament, bank analyst Meredith Whitney estimates a deal with Morgan Stanley will up Citi's tangible common equity by between $5 billion and $6 billion. While that might sound like big bucks, at last count Citi had $36 billion in tangible common equity supporting $2.1 trillion in assets -- effectively 58-to-1. Tack on $6 billion, and tangible common equity "strengthens" to around 50-to-1 ... not a vast improvement. Citi can sell assets until the cows come home, but little will be done to significantly mend its wounds.
Let's also not forget that this is the same Citigroup many expected would merge its way out of trouble. After surrendering to Wells Fargo (NYSE: WFC ) following a tooth-and-nail fight for Wachovia, chances of buying a big-league commercial bank and adding cheap deposits seem bleak. The two other megabanks -- Bank of America (NYSE: BAC ) and JPMorgan Chase (NYSE: JPM ) -- haven't been shy about buying up fallen comrades on the cheap over the past year. The silence surrounding Citigroup's position among peers is deafening.
Add it up
Where's Citigroup go from here? Three scenarios seem plausible:
- Spin off Smith Barney, cross fingers, and wait. (Unlikely.)
- Hope a merger partner(s) saves the day. (Highly unlikely.)
- Commence Hail Mary asset sales and hope for the best. (Likely -- and frightening.)
None provides much comfort for common shareholders. Call me glum, but when you weigh the thought that the credit crunch isn't anywhere near over against the reality that Citigroup is one of -- if not the -- weakest of the megabanks, investors' prospects these days seem wishful at best.
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