The investment banking powerhouse Goldman Sachs (GS 0.27%) was handed a slice of humble pie last week when it announced it would scale back its consumer banking efforts and reorganize its business lines into three different units. Over the past six years, Goldman exercised an ambitious retail banking strategy through its digital platform Marcus and various credit card offerings.
Goldman's CEO David Solomon on the bank's earnings call said the company would "focus on existing deposit customers and consumers that we already have access to ... rather than seeking to acquire customers on a mass scale."
The change in strategy comes after multiple news reports detailed struggles in Goldman's consumer banking unit amid a challenging backdrop for investment banking. Goldman's consumer banking efforts had been an effort by management to get Goldman's stock rerated to a higher valuation. Now, with the pullback, it looks like this storied Wall Street bank will need to find another way to achieve its goal.
What happened in the consumer bank?
Goldman launched its consumer banking efforts in 2016. The goal was to bring in more stable funding for deposits and diversify its earnings stream to make it more stable and consistent. It can be difficult for investment banks to get the same type of valuations as more traditional retail banks like JPMorgan Chase and Bank of America because their earnings are volatile and difficult to forecast.
Image source: Getty Images.
Goldman did see some real success in its consumer banking efforts in terms of growth. In about six years, Goldman acquired 15 million customers, managed roughly $110 billion of deposits, and had loan balances of about $19 billion at the end of the third quarter. Over the last year, the consumer bank generated roughly $2.2 billion of revenue.
But in recent months, there have been many news reports detailing issues at Goldman's consumer division. Notably, the bank was seeing higher probable loan loss rates in its credit card portfolio and the consumer unit had reportedly lost $4 billion since its launch.
The problems come as the bank is likely thinking about tightening its belt, with one of its core businesses, investment banking, having seen revenue in the third quarter fall 57% year over year. Also, with interest rates soaring, the battle for deposits is intensifying and will likely make customer acquisition much more difficult as funding costs rise.
The consumer unit had a big role to play
Through the first nine months of 2022, Goldman's consumer and wealth management unit generated about 18% of the company's total revenue but consumer banking revenue for the year was only about $1.84 billion at the end of the third quarter, or about 5% of total revenue.
While not a big driver of revenue or profitability yet, management believed that once fully built out and scaled, the consumer banking unit could lead to a rerating for the stock, which has traded lower than some of its peers in recent years.
GS Price to Tangible Book Value data by YCharts
Banks like Bank of America and JPMorgan have large investment banking and sales and trading businesses but also large lending franchises. When things were extremely volatile during the pandemic and even now, sales and trading can perform well.
But as higher interest rates put a lot of pressure on investment banking, JPMorgan and Bank of America saw revenue and profits from their lending franchises surge because higher rates pushed up the yields on many of their loan and bond holdings. Goldman doesn't have this revenue stream, so will likely need to find another way to a higher valuation.
The path forward
I'm not terribly pleased that management did such a big reversal of strategy, considering the bank spent six years and a significant amount of resources on this initiative. Management also really seemed to emphasize how important consumer banking was to Goldman's future.
But according to one analyst on the call, it doesn't really seem like institutional investors were all that excited about Goldman's push into consumer banking in the first place.
Goldman will continue to focus on its flagship businesses in investment banking and sales and trading. The rerating effort will likely come from Goldman's asset and wealth management businesses, which were folded together under one unit. Management still has a goal of generating $10 billion in annual asset management fees by 2024, including $2 billion-plus in fees from alternative assets such as real estate. Goldman had roughly $2.25 billion in management fees in the third quarter, so the bank is well on its way toward this goal.
Morgan Stanley, a similar company to Goldman Sachs, has seen its stock rerated through a comparable path. But Goldman still seems far away from achieving the kind of scale that Morgan Stanley has in investment management.
Through the first nine months of the year, wealth and investment management revenue made up about 53% of total revenue at Morgan Stanley. Wealth and asset management revenue at Goldman made up about 23% of total revenue this year through the first nine months, so the bank still has a considerable amount of work to do.
