It must be frustrating for Citigroup’s board to watch JPMorgan Chase and Co. take advantage of the credit crunch to scoop up Bear Stearns Companies Inc. But rather than take this as a sign that bigger is better, Citi’s new chief executive, Vikram Pandit, should zig while JPMorgan zags. The US bank’s recent troubles have highlighted what investors have been telegraphing for years: the scale of the bank makes it unmanageable.
If, as many investors believe, Citi has to return to the trough for a third time for fresh capital, Pandit will need to offer something in return. As a quid pro quo, investors should demand he separate the retail and consumer bank from the corporate and investment arm.
The arguments for keeping them together have always been wobbly. Chuck Prince, Pandit’s predecessor, fought against suggestions the bank should break up for most of his tenure. But the company’s sprawl almost certainly contributed to executives’ inability to manage exposures on so many toxic fronts. Citi’s board appeared equally stumped. From leveraged buyout loans to credit card receivables, subprime securities to structured credit, no financial institution has taken it on so many chins as Citi.
Citi’s managers and directors used to argue that sheer size gave it an advantage in absorbing hits in one market without torpedoing the overall bottom line. This has proven a sham. Last year the write-downs and reserve builds totalled an eye-popping $32.5 billion (Rs1.3 trillion)—reducing profits by $18 billion compared with 2006. These woes have shaken confidence in the megabank: more than $165 billion has been wiped off Citi’s market capitalization from its high in January last year. Both Bank of America Corp. and JPMorgan are now worth more, and Wells Fargo and Co. is nipping at Citi’s heels.
Then there are the synergies that piecing together a financial Wal-Mart were supposed to bring. They have never materialized. Sure, Smith Barney brokers can hawk stock on the floors of Citi branches in Boston. But these are not meaningful measures and could just as easily be gained through commercial partnerships. Citi’s earnings never grew faster than its revenues either, even during the fattest years of the credit boom. Things are hardly likely to get better from here.
It’s true that there are some specific instances where the retail and institutional businesses have worked well in tandem. The investment bank can make an entrepreneur rich by taking his company public, and then manage his money through Smith Barney. Or a private banker can introduce his client to the bank, which might then help his company do a deal. That’s an argument for keeping the private banking business inside the wholesale bank, a model common on Wall Street and accepted by investors.
Of course, just splitting Citi into two focused global commercial and institutional businesses won’t solve all its current problems. Citigroup is confident it has raised enough capital to weather the storm, but it might still need another injection—Merrill Lynch estimates Citi will take an additional $18 billion hit. That’s before taking into account the need to start building reserves against loans to less dodgy borrowers as the economy slows.
Dividing in half won’t raise new money. Citi only has two options for that: sell assets, or ask investors to pitch in. The problem is that divesting businesses in today’s horrific market risks destroying even more shareholder value.
No one wants the bad assets. And the good ones such as Mexico’s Banamex, perhaps worth $20 billion on a good day, or Citi’s retail banks in South Korea and Poland, might fetch less than stellar prices. That leaves going back to shareholders, who should demand a promise of partition from Pandit in exchange for their support.