EUR 850.00 For Business Accounts Only

Morningstar | Lower Strategic Costs Boost 2018 Results for RBS; FVE Unchanged

Royal Bank of Scotland reported full-year 2018 operating profit of GBP 3.4 billion, up 50% from last year. We maintain our fair value estimate of $7.40/GBX 290 per share and no-moat rating despite this seemingly outstanding performance. Having a closer look at results, the lion’s share of operating profit improvements came from lower strategic costs booked, which are guided to increase next year again. Net interest income declined to GBP 8.7 billion from GBP 9 billion last year as the spread margin shrank 15 basis points to 198 basis points. To give credit where credit is due, RBS did lower its operating costs by 3% and plans further reductions of GBP 300 million, equivalent to 4%, next year. Also, total income generation was up 2% as other noninterest income more than offset the weaker spread business. To sum up our subdued enthusiasm for the results presented Feb. 15, we would point investors towards the return on equity of 4.8% in 2018 compared with 2.2% last year, still far behind our cost of equity assumption of 9%.

We share management's view that the 50% efficiency ratio targeted by 2020 is on the optimistic side, although we do expect relief from lower conduct and litigation costs going forward. RBS also mentioned that it expects higher loan impairments starting to materialize next year after enjoying a rather benign economic environment more recently. We think this is probably a result of lower economic growth base expectations as well as potential Brexit fallout effects.

RBS’ capital base is solid. After passing even the most stringent stress tests by the Bank of England in 2018, which included a hard-Brexit scenario in tandem with a global economic recession, RBS added 30 basis points to its common equity Tier 1 ratio, which now stands at 16.2%. This figure already includes the impact of the GBP 2 billion U.S. Department of Justice settlement as well as the ordinary and special dividends of GBP 1.6 billion in total.