UBS Profit Target May Elude CEO Ermotti as Cost Cuts Slow
When UBS AG (UBSN) Chief Executive Officer Sergio Ermotti announced 10,000 job cuts in 2012, he put hundreds of staff on leave the same day. Since then efforts by Switzerland’s biggest bank to cut costs and boost profit slowed.
The lender may report return on equity, a key measure of a bank’s profitability, of 12.9 percent in 2016, missing a target of 15 percent, according to the average estimate of 15 analysts surveyed by Bloomberg. UBS, which declined to comment on the survey, will update investors on its strategy at a meeting in Zurich tomorrow.
Failing to reach the 2016 goal would be a blow to Ermotti, 53, who delayed the objective by a year after Swiss regulators demanded the bank hold more capital to cover legal risks. The slowdown in shedding non-core assets, at the center of the cost-cutting program, has hurt the share price -- while UBS gained 57 percent in the 12 months after Ermotti announced the plan in October 2012, it fell 4.4 percent since Oct. 29, when he put back the target. European financial shares rose 4.1 percent since then.
The bank should speed up the asset-reduction program to increase profitability, said Huw van Steenis, an analyst at Morgan Stanley in London.
“UBS needs to accelerate the run-down of the non-core unit,” he said. “And it’s not just about the sale of assets, it’s also about addressing the cost base and trying to bring forward a date when the non-core unit is no longer a drag on group profitability.”
UBS, whose annual return on equity averaged 22 percent over the seven years before it started posting losses in 2007, has struggled to revive profit as capital requirements increased. After reporting a loss in 2007, 2008, 2009 and 2012, return on equity dropped to 6.7 percent last year from 8.5 percent in 2011 and 16.7 percent in 2010.
Ermotti’s plan to bolster earnings by focusing on high-return money-managing businesses that don’t require much capital hinges on the bank exiting the non-core assets, which are producing losses and eating up resources.
Risk-weighted assets at the non-core and legacy portfolio unit, which totaled 63.5 billion francs ($72 billion) on Dec. 31, produced a 2.31 billion-franc pretax loss for 2013. That nullified a 2.3 billion-franc pretax profit at the investment bank.
The assets at the non-core unit are down from 102.5 billion francs at the end of 2012, and UBS’s target is to reduce them to about 55 billion francs by the end of 2015. The goal isn’t ambitious enough, JPMorgan Chase & Co. analysts Kian Abouhossein and Amit Ranjan said in an e-mailed report last week.
“Management should provide an update on its timeline for exiting the non-core and legacy positions, which would in our view lead to greater confidence among investors,” the London-based analysts said.
UBS may accelerate the exit targets and may be willing to take losses should it mean freeing up capital and resources, said Christopher Wheeler, a London-based analyst at Mediobanca SpA. That may also allow UBS to cut more expenses, as it will probably miss its 60 percent to 70 percent cost-to-income ratio target, he said, predicting the ratio will be 78.3 percent in 2015 and 72.7 percent in 2016.
UBS said in October 2012 it would exit capital-intensive businesses and cut fixed income risk-weighted assets by 80 billion francs from 110 billion francs, with the majority of the reductions happening in the rates and credit businesses.
“Cost is definitely a key factor,” said Wheeler. “That’s where they’re perhaps under the most pressure. The problem is that a lot of those 10,000 job cuts had to do with the runoff of the non-core book.”
The bank said in 2012 job reductions will take group headcount to about 54,000. At the end of last year, UBS employed 60,205 people. The bank still needs to produce 2.1 billion francs in net cost savings by the end of 2015, the JPMorgan analysts said, forecasting more cuts at the corporate center.
“The market doesn’t believe in these targets,” said Guy de Blonay, who manages $900 million in assets including UBS shares in a financials fund for Jupiter Asset Management Ltd. “A tremendous amount of work has already been done. UBS will need to speed up efforts.”
Investors would welcome UBS being “more aggressive” with its ambitions for the investment bank, where it targets a return on equity of more than 15 percent and delivered 29 percent in 2013, said de Blonay. Raising that target may help shed businesses with lower returns, he said.
UBS last week hired Barclays Plc's investment-banking chairman Ros Stephenson as its global head of corporate client solutions, adding to the roster of senior arrivals, including William Vereker and Piero Novelli, for its advisory business since Andrea Orcel became the sole head of the investment bank in 2012.
Meanwhile, UBS's biggest rival in Switzerland, Credit Suisse Group AG, the country's second-largest bank, may be facing criminal charges in the U.S. for tax evasion, a person familiar with the matter said last week, in what would be a major shift in the way the U.S. prosecutes banks.
UBS also needs to lay out plans to increase profit at the wealth management unit, headed by Juerg Zeltner, where pretax earnings fell 6.6 percent to 2.25 billion francs last year, said Morgan Stanley’s van Steenis.
“Driving bottom line profitability and growth in private banking is a big focus for investors,” he said. “Trying to invest for future growth while delivering better efficiency will be key.”
The asset management business, where pretax profit rose 1.2 percent to 576 million francs in 2013, has been under review since Ulrich Koerner took over the unit this year. The business made an average annual profit of 1.25 billion francs from 2005 to 2007, with assets under management of 891 billion francs at the end of that year, 53 percent more than at the end of 2013.
The unit saw 191.6 billion francs in net outflows over the past seven years, of which more than 132 billion francs over the past six years came from UBS’s own wealth management clients, company reports showed. To stop outflows, the bank needs to improve the returns its funds produce for investors, said Dirk Becker, a Frankfurt-based analyst at Kepler Cheuvreux.
And just like at the investment bank, UBS will need to review asset management businesses based on its strengths and needs of its wealth management clients, said Mediobanca’s Wheeler. UBS could sell its O’Connor single-manager hedge funds business and may review whether it needs to keep the institutional asset management unit, he said.
“They really want to keep pushing returns up because that’s how they’re going to get value for the stock,” he said. “For that, they need to keep taking a new look at things.”
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