European economy can help BNP clear low return bar
Europe’s recovering economy can help BNP Paribas clear a low return bar. Aiming for a return on equity of 10 percent – roughly in line with the French bank’s cost of capital – over the next two years might suggest a lack of ambition. Crucially, however, the target also looks achievable at a time when many rivals appear unable to escape from single-digit returns.
Lower revenue and a 1.9 percent year-on-year rise in operating costs squeezed the bank’s gross operating income, which dropped 5.8 percent. A sharp reduction in provisions for bad debts and various one-off benefits helped the bank report a slight increase in net income. Shareholders were duly rewarded with a 12 percent dividend hike.
Given the expected rise in euro zone interest rates, BNP is unlikely to get any further benefit from shrinking bad debts. What then will change to the bank’s advantage? Higher long-term rates would help expand its top line in Europe – which is home to nearly three-quarters of BNP assets. Lending in BNP’s “domestic markets” division, which accounts for around one-third of pre-tax profits, rose by a solid 5.6 percent last year, but slim net interest margins continue to weigh on profitability.
Higher operating costs should also reverse in time. BNP is targeting 2.7 billion euros of cumulative savings by 2020, but is spending around 1 billion euros per year until 2019 to achieve these reductions. All being well, the benefits will flow through by 2020, enabling BNP to meet its ROE target.
This is hardly spectacular. A consolation is that dividends, which have roughly doubled since 2014, should continue to rise given the bank’s pledge to pay out half of earnings. For an institution trading at just under 1 times tangible book value, there is something to be said for setting a modest but credible hurdle.
Source:- https://www.reuters.com/article/us-bnp-paribas-results-breakingviews/breakingviews-european-economy-can-help-bnp-clear-low-return-bar-idUSKBN1FQ1LD
