Goldman's Golden Touch

The world's largest investment bank easily beats expectations for the fourth fiscal quarter. But investors are questioning its '08 prospects

By BW staff and the Associated Press

While other investment banks have suffered as the deepening subprime meltdown squeezes their balance sheets—and profits—Goldman Sachs (GS) has managed to sidestep the crisis. Indeed, the financial titan continues to prosper. Goldman said on Dec. 18 that higher investment banking fees and smart bets in mortgage-backed bonds helped it easily beat Wall Street expectations for the fourth fiscal quarter.

The world's largest investment bank reported profit after paying preferred dividends rose to $3.17 billion, or $7.01 per share, from $3.10 billion, or $6.59 per share, in the year-ago period. Revenue for the three months ended Nov. 30 rose to $10.74 billion, from $9.41 billion a year earlier.

Results surpassed Wall Street projections for a profit of $6.87 per share, on revenue of $10.16 billion, according to analysts polled by Thomson Financial.

Goldman's stock climbed 29% during the fourth quarter to close November at $226.64. The stock rose in premarket electronic trading on Dec. 18 before turning lower in the regular session, falling 3.1% to $202.24 in late afternoon trading after the company said it was "cautious about the near-term outlook" in a conference call.

Morningstar analyst Ryan Lentell said the drop was the market's nod of agreement with Goldman's humble look towards the future. "Goldman played everything almost perfectly this year, but they're not immune to mistakes," he said. "There will be a period in the future where they don't wear the glass slipper."

Analysts Upbeat

Lloyd Blankfein, the investment bank's chairman and chief executive, has been hailed this year for sidestepping the mortgage losses that slammed rivals. During the fourth quarter, Goldman said it boosted assets under management from mortgages and earned about $500 million in trading of non-investment grade loans.

"Inherent in our commitment to our clients is the need to help them execute their transactions in all market conditions and, as a result, we are ever mindful of the importance of effective risk management," Blankfein said in a statement.

Analysts were generally upbeat, with a few reservations. Standard & Poor's equity analyst Matthew Albrecht reiterated his buy rating on the shares, noting that the company's EPS of $7.01 beat his $5.41 estimate. (S&P, like BusinessWeek, is a unit of The McGraw-Hill Companies (MHP).) Albrecht said in a Dec. 18 note that Goldman's revenues were helped by results in equity businesses, and hedges to offset exposure to troubled fixed-income markets.

"Compensation costs were lower than we expected, but other costs rose due to global expansion efforts and expenses related to trading volume," he wrote. Albrecht also noted that Goldman's investment banking backlogs have come down, and he looks for weaker results in fiscal 2008. He cut his fiscal 2008 EPS forecast to $19.92 from $20.49, but kept his 12-month target price of $250.

So Far, the Street's Gold Standard

Meanwhile, Sandler O'Neill analysts Jeff Harte and Devin Ryan wrote in a Dec. 18 note that while the company handily exceeded consensus expectations during the quarter, "we expect some investors will be less impressed with the mix of earnings as trading was clearly difficult," though they point out weak trading was offset by larger principal investment gains.

But the analysts said they viewed Goldman's results as a "modest positive as any revenue beat…in such a challenging quarter should be viewed favorably, particularly relative to peers." Sandler O'Neill also maintains a buy rating on Goldman shares, and has a 12-month price target of $265. (Goldman Sachs is a client of and receives non-investment banking securities-related services from Sandler O'Neill.)

The company's results follow Lehman Brothers, which last week said fiscal fourth-quarter profit declined, but surpassed expectations. Morgan Stanley posts results on Dec. 19, followed by Bear Stearns on Dec. 20. Based on Goldman's fourth-quarter numbers, its Wall Street peers will have a hard time keeping up.

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