Deutsche Bank chief executive Christian Sewing on Monday morning unveiled what he described as the most radical transformation of the bank in decades.
“We are doing nothing short of reinventing Deutsche Bank,” he told participants on a conference call intended to put flesh on the bones of a strategy that had been announced after a supervisory board meeting on Sunday.
Banks typically reach for the axe and the org chart when looking to present themselves as transforming. In this Deutsche has not disappointed.
|Christian Sewing, |
CEO Deutsche Bank
Senior executives are leaving: Garth Ritchie, the former equities head who has run the corporate and investment bank for the last two years, was already known to be going. But also on their way out are Sylvie Matherat, chief regulatory officer, and Frank Strauss, who was responsible for the private and commercial bank.
Businesses are being closed: the bank is shutting the whole of its equity sales and trading division, and Sewing confirmed speculation that some parts of this operation will end up in the hands of BNP Paribas. The capital allocated to parts of fixed income will be cut, especially in the rates business.
And the divisional set-up of the bank is being rejigged. Global transaction banking is being extracted from the old corporate and investment bank and bundled with parts of its commercial client business into a new corporate banking division, to be led by Stefan Hoops, who was most recently head of the global transaction bank and head of the corporate and investment bank in Germany.
The investment bank, shorn of corporate banking and the equities division, will be its own unit that will be led by Mark Fedorcik, who joined through Bankers Trust in 1995 and has worked in the investment bank and in transaction banking.
The retail bank and wealth management remain as another division, as does the DWS asset management business.
The bank is creating a bad bank, but prefers to call it a ‘capital release unit’ in an effort to convince shareholders that much of what will sit inside it is good assets deemed unsuitable for its new approach, rather than dross that will take costly decades to unwind.
"We are doing nothing short of reinventing Deutsche Bank"
- Christian Sewing
Some 20% of the Deutsche’s leverage exposure, about €288 billion, will be dumped inside it at the start, comprising about €74 billion of risk-weighted assets.
The wind-down in some areas is expected to be quick: in others, not so much. That €288 billion of leverage exposure is planned to fall to just €9 billion in 2022. But only about €38 billion of the €74 billion of RWAs being transferred are accounted for by markets and credit risk. These are to fall to €6 billion in 2022, but the remaining €36 billion are operational RWAs and at the moment are projected to fall to €28 billion.
In this area, “there is some additional work to do,” noted chief financial officer James von Moltke.
All of these actions have one overriding goal: to make Deutsche the kind of profitable enterprise that can finally generate a return for shareholders. But as much as that certainly represents a change to recent performance (in 2018 the bank’s return on tangible equity was a shocking 0.5%), ambitions remain pretty limited for the moment. Sewing is aiming for an ROTE of merely 8% by 2022. JPMorgan posted 17% last year.
It’s not the only way in which Deutsche Bank’s shareholders have been a long-suffering lot, having seen the stock collapse to just €7 from about €107 in early 2007 and having injected €30 billion in fresh equity over the last 10 years.
Sewing is unwilling to rile them further: he has eschewed yet another capital call, stating his confidence that the restructuring of the firm – expected to cost €7.4 billion by 2022 – can be organically funded through existing resources and a lowering of its target minimum common equity tier-1 ratio from 13% to 12.5%.
The CET1 change was taken in consultation with regulators, who Sewing said were supportive of the bank’s plans. That support has in part come from a slight easing of worries over Deutsche’s controls. Unlike last year, the bank avoided the embarrassment of failing the annual US stress tests last month, which Sewing argues is evidence of improved systems. And he is allocating €4 billion of further investment in controls by 2022.
"[Corporate banking] is the business we were founded for. We will make it stronger than ever before."
- Christian Sewing
Shareholders will take some more pain, however. In their long wait for that 8% ROTE, they will enjoy no dividends for the next two years. But then things might change: from 2022, the bank hopes to be able to return €5 billion of capital to shareholders.
More immediately, results will be tough. With €3 billion of restructuring costs to be booked in the second quarter of 2019, the bank expects to post a net loss for the quarter of about €2.8 billion instead of a net profit of €120 million. It will report results on July 24.
Holders of Deutsche’s additional tier-1 (AT1) notes – who have at times had to endure their own bouts of nervousness about the bank’s ability or willingness to service them – will be pleased to hear Sewing say that despite the suspension of common equity dividends, “we intend to pay the AT1 coupons.”
The oxygen to prosper
Sewing argues that in order to focus the bank on the areas where it can be most competitive, he needs to provide those businesses with “the oxygen to prosper while withdrawing it from others”.
The exit from equities – a €2 billion-revenue business in 2018 that encompasses prime brokerage, sales and trading and derivatives – is the starkest example of this.
That there was unsolicited interest in these parts of the business in addition to BNP Paribas confirmed to Sewing that these were good assets that simply didn’t fit in Deutsche Bank. Nonetheless, the businesses that underperformed in the past – notably equities – constituted a €1.1 billion drag on Deutsche’s pre-tax profits in 2018 alone.
Sewing wants it to generate €5 billion of annual revenues from the outset (in 2018, global transaction banking posted €3.8 billion alone). By 2022, he is planning for at least €6 billion revenue and €2 billion of pre-tax profits – targets that he recognises are conservative.
“This is the business that we were founded for,” he said. “We will make it stronger than ever before.”
Reallocation of capital, as well as additional incremental investment, is how that will be achieved, he added.
Sewing says that the investment bank will shrink in size but become more competitive. It will continue to compete in all areas of debt capital markets, and he argues that it will still be able to support clients’ equity capital market needs even without a secondary franchise.
“Our view is that secondary flow in this business is increasingly less linked to primary activities,” he said.
Others may disagree, particularly since Deutsche’s co-head of European ECM and global head of syndicate, Ed Sankey, has just left the bank after 15 years.
Investment bank revenues are expected to be at €7.5 billion by 2022, with €2 billion of profit. The profit is the key here: his target looks very conservative from a revenue perspective, given that after stripping out equities and transaction banking, the division posted €7.3 billion in 2018. But it made just €500 million of profit in 2018 – and that included transaction banking.
Sewing talks of the corporate bank allowing Deutsche to address client needs more thoroughly, without internal structural barriers. Clients want “holistic solutions”, he said, and didn’t think about a particular product when considering their day-to-day needs.
If that sounds familiar, it should: there is no bank chief executive in the world that would not say something similar.
Why hadn’t Deutsche done this in the past?
“We were not set up this way,” said Sewing.
Costs and casualties
Costs have been sporadically cut in recent years, but Sewing said that what was being put in place now was of a different scale. Some €6 billion will come out of annual costs by 2022, with a target run-rate then of €17 billion.
The cut represents about one quarter of the current cost base. By 2022 Sewing wants the bank’s cost-to-income ratio to be about 70%: in 2018 it was over 92%.
A big part of the reduction is to come from staff cuts: about 18,000 people will be let go by 2022, to bring staffing down to about 74,000. Sewing confirmed that talk this morning of equities staff already being let go in Asian offices was correct, and that the process of talking to others around the world would also begin today.
But neither he nor von Moltke would be drawn on any regional or business-line breakdown of where the axe would fall – and von Moltke cautioned against a simple read-across from reductions in assets and leverage exposure to staffing.
Just because about 60% of the €288 billion reduction in leverage exposure was attributable to the closure of the equities division did not imply that this was proportionate to where the job reductions would be, for example.
"Do not take from all this that we are moving away from the US, which is the second most important country for us after Germany"
- Christian Sewing
Deutsche doesn’t break out its staffing in specific business lines: in its most recently quarterly results, it said that there were about 38,000 full-time staff in its corporate and investment bank – including about 18,000 front-office staff – and 91,000 in the group as a whole.
Sewing said that there was no regional concentration in the reductions – not even in London, which he said would remain a critical part of the bank’s setup. Nor did the changes represent an exit from the US, where the bank is still pressing on with its plan to move its headquarters from 60 Wall Street to Columbus Circle in MidTown.
“We will have about €5 billion of revenues generated in the US in the future, so do not take from all this that we are moving away from the US, which is the second most important country for us after Germany,” Sewing added.
As with ECM, however, such confidence looks odd given recent departures. Among those to have jumped ship in the US recently include high-profile names such as Mark Hantho and John Eydenberg, who are both headed to Citi.
A newly installed head of the Americas, Christiana Riley, who was most recently CFO of the corporate and investment bank, will have much to do in settling nerves.
Those that stay at the bank will be paid competitively and will not bear the brunt of the adjustment costs, Sewing said: “We are aware that this is sensitive, but obviously we will compensate our people according to the operating performance in their businesses.”
The market is treating this moment as an existential one for Deutsche, and Sewing was at pains to acknowledge this by talking in similar terms.
“This is about who this bank wants to be, what is our north star, what is our mission,” he said, adding that he looked at this across four dimensions that had at their heart the goal of rediscovering what the bank has stood for over the last 150 years.
Number one, the bank’s mission to be the leading bank in Germany but with a global network is unchanged.
“We are aligned with the strength of our home market economy,” Sewing said, but added that its competitive strength derived from the fact that “no German bank is as global as we are and no global bank is as German as we are”.
Second, while technology was and would continue to be an important element of the bank’s development, it was vital that clients saw the firm as a trusted risk manager.
That led to the third lens through which he saw the restructuring, namely the need for a robust balance sheet and better controls to safeguard the firm’s integrity.
The final piece, however, is the one that looks to have driven the changes – and the bank’s presentation of them – most fundamentally.
“We will only operate where our clients want us to be, and that is also where we have the greatest potential to operate profitably,” Sewing said.
Mindful of likely scepticism in the market as a result of failed attempts in the past to recast the bank in the eyes of clients, shareholders and employees, many of Sewing’s comments were designed to pitch the bank’s plans – and the manner in which they will be executed – as unprecedented.
Historically, the bank had spread itself too thin, he said, leading to a culture of poor capital allocation. This had to change. And there was no more scope for mere trimming, as had been tried before: areas where the bank could not compete had to be shut.
“You have probably heard parts of this before, but it is different this time,” Sewing added. “We are not going to shareholders to share the burden, we are managing this transformation organically.”
He said that this time the bank was tackling its problems head-on in a resolute way, hence the actions taken to shut poorly performing areas.
Can it be done? Sewing is inevitably confident that it can, but so were all his predecessors. There has been regular scepticism among analysts and commentators about the bank’s prospects of increasing revenues and market shares in its home market, given the competitive nature of Germany and the historic difficulties of the entire sector to generate consistent profit.
Sewing sees a few reasons to be hopeful: first, that in his opinion the restructuring he is presiding over is very different to what has been done in the past. But he also references the momentum he has observed over the last 12 months, with lending and investment up, and argues that the new focus of the bank and its reallocation of capital should act as a further driver of that momentum.
“When we take an honest look in the mirror, we all know that we are not where we need to be,” said Sewing, acknowledging what he described as fundamental questions about the bank’s ability to compete. “Our duty is to demonstrate Deutsche Bank’s real value and make its core strengths visible again.
“In the past, we kept too many options open.”