Goldman Sachs (GS, Financial), the $81 billion financial firm, reported 26.6% growth in net revenues to $8 billion and 80% profit growth to $2.16 billion – 26.9% margin vs. 18.9% in the same period last year.
“The operating environment was mixed with client activity challenged in certain market-making businesses and a more attractive backdrop for underwriting in our investment banking franchise.
“As the economy improves, we are well positioned to not only meet our clients’ diverse needs but also to generate operating leverage for our shareholders.” – Lloyd C. Blankfein, chairman and CEO
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Valuations
Goldman Sachs is undervalued compared to its peers. According to GuruFocus, the financial firm had a trailing price-earnings (P/E) ratio of 11.2 times vs. the industry median of 20 times, a price-book (P/B) ratio of 1.1 times vs. the industry’s 1.27 times and a price-sales (P/S) ratio 2.8 times vs. industry’s 4 times.
The firm had a trailing dividend yield of 1.18% with 14% payout ratio.
Average sales and earnings-per-share expectations indicated forward multiples of 2.7 times and 11 times.
Total return
Goldman Sachs returned 11.2% total losses to its shareholders so far this year compared to S&P 500 index’s 8.7% (Morningstar). In the past five years, the firm outperformed the index with 18% gains vs. 15%.
Goldman Sachs
According to filings, Goldman Sachs is a leading global investment banking, securities and investment management firm that provides a wide range of financial services to a substantial and diversified client base that includes corporations, financial institutions, governments and individuals. The firm was founded 148 years ago and headquartered in New York.
In the first quarter, 61% of Goldman Sachs’ revenue was generated in Americas, 24% in Europe, Middle East and Africa and 15% in Asia.
The bank has four business segments: Investment Banking, Institutional Client Services, Investing & Lending and Investment Management.
Investment Banking
Investment Banking serves public and private sector clients around the world. The firm provides financial advisory services and helps companies raise capital to strengthen and grow their businesses.
In the first quarter, revenue in investment banking rose 16.4% to $1.7 billion (21% unadjusted sales) and delivered a pretax profit margin of 42.7% compared to 47.9% in the same period a year ago.
Institutional Client Services
Institutional Client Services serves Goldman Sachs’ clients who had consulted the firm to buy and sell financial products, raise funding and manage risk.
The firm does this by acting as a market maker and offering market expertise on a global basis. Institutional Client Services makes markets and facilitates client transactions in fixed income, equity, currency and commodity products. In addition, Goldman makes markets in and clear client transactions on major stock, options and futures exchanges worldwide.
In 1Q 2017, revenue in institutional client services fell 2.4% to $3.4 billion –Â largest of all segments in terms of contribution at 42% of total unadjusted sales –Â and had a pretax profit margin of 24% compared to 29.7% the year prior.
Investing & Lending
Goldman’s investing and lending activities, which are typically longer term, include the firm’s investing and relationship lending activities across various asset classes, primarily debt securities and loans, public and private equity securities, infrastructure and real estate.
These aforementioned activities include investing directly in publicly and privately traded securities and in loans, and also through certain investment funds that the firm manages and through funds managed by external parties.
In addition, the company also provides financing to corporate clients and individuals, including bank loans, personal loans and mortgages.
In the first quarter revenue in this segment shot up by 1,583% to $1.5 billion compared to $87 million the year prior. In addition, pretax profit of $714 million or 48.8% margin (most profitable) in the quarter compared to losses of $356 million a year ago.
According to Goldman, the incredible recovery in the recent quarter was brought generally by higher global equity prices, and tighter credit spreads contributed to a favorable environment for the firm’s equity and debt investments. The results also reflected net gains from corporate performance and company-specific events, including sales. The current environment sharply contrasts with the first quarter of 2016.
Investment Management
Investment Management provides investment and wealth advisory services to help clients preserve and grow their financial assets.
Goldman’s clients include institutions and high-net-worth individuals as well as retail investors who primarily access the firm’s products through a network of third-party distributors around the world.
In the first quarter revenue in this segment grew 11.5% to $1.5 billion (19% of total unadjusted sales), and the company reported a pretax profit margin of 18.8% vs. 15.5% the year prior.
Financial metrics
Return on assets
Return on assets (ROA) is an indicator of how profitable a company is relative to its total assets (Investopedia).
ROA was 0.24% in the first quarter compared to 0.14% in the same period last year.
Return on equity
Return on equity (ROE) is the amount of net income returned as a percentage of shareholders equity. Return on equity measures a corporation's profitability by revealing how much profit a company generates with the money shareholders have invested (Investopedia).
ROE was 2.5% in the recent quarter compared to 1.4% in the same period last year.
Loan loss provision
Loan loss provision is an expense set aside as an allowance for uncollected loans and loan payments (Investopedia).
Goldman Sachs provided figures for allowance for losses on loans and lending commitments; this figure was $790 million in the recent quarter compared to $721 million in first-quarter 2016.
Capital adequacy in Tier 1
Tier 1 Capital
Tier 1 capital consists of shareholders' equity and retained earnings. Tier 1 capital is intended to measure a bank's financial health and is used when a bank must absorb losses without ceasing business operations (Investopedia).
Under Basel III, the minimum tier 1 capital ratio is 6%, which is calculated by dividing the bank's tier 1 capital by its total risk-based assets.
In the recent quarter, Goldman Sachs provided a standardized figure of 11.9% and Basel III advanced a figure of 18.1% compared to 12% and 18.7% the same period last year.
Sales and profits
The firm had three-year revenue decline average of 3.6%, profit decline average of 2.7% and profit margin average of 21% (Morningstar).
Cash, debt and book value
As of March, Goldman Sachs had $122 billion in cash and cash equivalents and $235.2 billion in unsecured borrowings with a debt-equity ratio 2.71 times vs. 2.61 times in the year-earlier period. As observed, the firm added $8.4 billion in borrowings on a year over year basis.
The company also had a book value of $86.9 billion –Â nearly flat at 0.09% growth compared to the same period last year.
Cash flow
In the recent quarter, Goldman Sachs registered $3.4 billion in cash outflows from its operations compared to outflows of $2.5 billion in the prior year period. Despite higher profits in the quarter, higher cash outflow came from financial instruments owned and sold but not yet purchased.
Capital expenditures were $838 million leaving Goldman Sachs with $4.2 billion in free cash outflow compared to $3.12 billion in outflows the same period last year. Despite heavy outflows, the firm allocated $1.9 billion in dividends and common shares repurchased, excluding APEX purchases. In the past three years, Goldman Sachs had averaged 102% in free cash flow payouts.
In review, Goldman Sachs repurchased 6.2 million shares for $243.22 a share –Â 15% higher than today’s share price of $211.26 (at the time of writing). In 2016, the firm repurchased 36.6 million shares of its common stock for a total cost of $6.07 billion –Â suggesting an average buyback price of $165.85.
In the recent quarter, Goldman Sachs also took in $4.3 billion in borrowings including derivative contracts with financing elements.
Conclusion
Goldman Sachs exhibited marked recovery in all but one of its segments in the recent quarter. That segment, Institutional Client Services, generated 45% of Goldman’s revenue in the past three years on average.
Nonetheless, Investing & Lending (18% of unadjusted revenue and most profitable segment) made a remarkable comeback and return to profitability and was reflective of higher global equity prices among others.
The firm also delivered flat book value growth and a leveraged balance sheet in the recent quarter while maintaining generous payouts to shareholders.
Twenty-four analysts have an average price target of $244.08 –Â 15.5% upside from today’s share price. Asking a 20% discount from the firm’s current book value would indicate a value of $69.5 billion or $177 per share.
In summary, Goldman Sachs is a speculative buy with $240 per share target price.
Disclosure: I do not have shares in any of the companies mentioned.
