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There are two ways to fix Credit Suisse Group AG: quickly and expensively, or slowly and expensively. Its leaders know the Swiss bank’s problems and they have a good idea of what they want the bank to become. The puzzle that Chairman Axel Lehmann and the rest of the board are struggling to solve is how to get from here to there – and how to pay for the journey.
Rumors are flying: It could quit the US entirely (that one at least was swiftly denied); it will split into two, or maybe three, pieces; outside investors will fund part of its investment bank; or maybe it will spin that business off to fend for itself. All this is unsettling for the bank’s most valuable clients and most successful remaining bankers. Investors, lenders, staff and customers need to see a detailed and plausible roadmap quickly, otherwise Credit Suisse’s fate will be years of struggle to cut costs as quickly as it loses revenue.
To quell the chatter, the bank put out a statement Monday to say its comprehensive review was on track, including potential sales of assets or whole businesses. The bank needs funding up front to restructure quickly: One long-shot option could be to look for a white knight — like Warren Buffett, who invested in some institutions during the 2008 financial crisis.
To recap briefly: Credit Suisse has not earned its cost of capital in more than a decade, with the investment bank largely to blame. Its average annual return on equity from 2011 to last year was barely 1.5%. An expected loss this year of nearly $2 billion will bring its cumulative result for the past eight years to a net loss of almost $500 million. Not to rub it in, but Credit Suisse shares have been a bad investment for a long time.
Parts of the investment bank are always profitable, but unexpected losses, restructurings, fines and other issues have regularly undermined the bits that performed. The answer is to shrink it dramatically, focus on activities most relevant for its private-banking and wealth businesses, and make sure that it pays its own way by earning its own cost of capital. This is the vision Lehmann outlined at the bank’s results in July.
Credit Suisse’s investment bank should end up with teams of bankers to advise entrepreneurs and some companies on dealmaking and raising funds in debt and stock markets. It’ll also need traders focused on equities and foreign exchange, which are favorite areas of investment and speculation for wealth clients. But these operations will need to be slimmed down and made much more efficient than today.
What it won’t need is ranks of bond and interest-rate traders, a large business focused on financing private equity buyouts with leveraged loans, and (least of all) its securitized-products division, which buys things like mortgages and leveraged loans and packages them into bonds.
How to shed this second set of activities is the hard question, and the clock is ticking. The collapse in its share price and the rising yields on its own debt make the bank more costly to fund and less attractive as a trading counterparty — that could lead to lost business as it did for Deutsche Bank AG.
The quick solution is to ask shareholders to pay for the restructuring up front. Analysts at Deutsche Bank think about $4 billion would cover it; analysts at RBC Capital Markets say up to $6 billion would be needed. With the stock hitting a record low last week and trading at a valuation of less than one-quarter of forecast book value, Credit Suisse’s board won’t want to go there.
It would be extremely costly: $4 billion is more than one-third of the bank’s market value today compared with less than one-sixth a year ago and one-ninth before Credit Suisse lost more than $5 billion on the collapse of Archegos Capital Management.
The slow way would be to split the part of the investment bank that it doesn’t want into a non-core division. This is a familiar playbook in Europe meant to get investors focused on the better businesses that will be kept and ignore those that are eventually going to go away. The hope is that investors value the bank’s shares based on the former and not worry too much about how long it will take to get rid of the latter. It tends not to work very well because the non-core businesses lose revenue quickly but their costs and assets take longer than advertised to shift.
A cleaner, quicker break is always going to be better. Investors are more likely to bid up the value of the core Credit Suisse if its promised returns are much closer to the returns they actually receive. There are other ways Credit Suisse could find funds to buy its way out of trouble.
First, its own suggestion is to get an outside investor to put capital into its securitized-products division and maybe eventually buy it outright. However, potential partners like France’s BNP Paribas SA, or US private equity firm Apollo Global Management are more likely to bid for specific assets rather than enter a tie-up, according to analysts at Citigroup Inc.
Credit Suisse could pursue an earlier idea to list a minority stake in its domestic Swiss bank, which would likely be valued more highly than the rest of the group and easily raise $4 billion. But that would cut out a big chunk of Credit Suisse’s most reliable earnings and leave investors even less interested in the rest of it.
A third route that would still be costly, but potentially less immediately damaging to shareholders, would be to look for the kind of investment that Buffett made in Goldman Sachs Group Inc. and Swiss Re AG during the 2008 financial crisis. Credit Suisse could seek a deep-pocketed, patient investor and sell them instruments with more debt-like fixed returns and perhaps an option to convert to stock at a price that would represent a big recovery at the bank.
It would be costly financing – possibly more than than the roughly 10% yield paid by Goldman and Swiss Re – and the bank would likely need to negotiate with regulators exactly where it fits into its regulated capital base. But Credit Suisse has already been a pioneer in paying bankers in hybrid forms of capital. And this option could be much cheaper than a straight share sale. It would also let everyone see a light at the end of the tunnel much sooner.
More From Bloomberg Opinion:
• Credit Suisse and the Hotel California Effect: Marc Rubinstein
• Change at Credit Suisse? Don’t Hold Your Breath: Paul J. Davies
• Greensill’s Ghost Will Haunt the Finance World: Lionel Laurent
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Paul J. Davies is a Bloomberg Opinion columnist covering banking and finance. Previously, he was a reporter for the Wall Street Journal and the Financial Times.
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