Societe Generale looks short of options to solve its biggest problem: it doesn’t make enough money. Full-year results on Feb. 13 indicate that the French bank is improving its capital position, and the threats from strict government regulation have receded. But even after the bank restructures its business, it will take time before it solves its fundamental problem – poor return on equity.
SocGen’s ROE for 2012 was a paltry 7.3 percent, even after discounting some exceptional items. That’s way off its 11-12 percent cost of equity. The master plan to close the gap is to create synergies by merging the business into three main clusters – the relatively profitable French retail arm, international retail and insurance, and investment and private banking. Even then, this would only get SocGen to 10 percent by 2015, according to an insider.
There are some silver linings. SocGen held the line in its second-tier fixed-income business: core revenues were only down 5 percent quarter on quarter. And the French government watered down its bank reform proposals to such an extent that only 1 percent of SocGen’s assets might be ring-fenced, instead of around 17 percent, according to a Mediobanca analyst estimate. Without this, and a similar relaxation of Basel III liquidity reforms, the ROE figure would in future look even flimsier.
SocGen investors could agitate for more radical solutions. The most extreme of these would be a breakup of the bank: fair value could reach 42 euros, about 35 percent more than the current share price, Mediobanca reckons. That suggests a generous valuation for French retail, presupposes that the bank could offload its non-core division, which consumes half its capital, while taking only 5 percent losses on disposal. Another plan – merging SocGen’s investment bank with Credit Agricole’s in order to cut costs – would still leave returns behind those of bigger rival BNP Paribas.
Investors’ best hope is that the bank’s cost of equity will fall as it gets safer. A euro zone recovery sustainable enough to allow SocGen’s two jewels, French retail and equity derivatives, to motor, would help. But the safer bet is that decent returns are still some way off.