Standard Chartered’s (STAN) new CEO Bill Winters firmly put his stamp on the bank this week when he sent a memo to staff indicating that he plans to dismiss 25% of the bank’s top 1,000 managers.
This year will focus on risks from emerging markets
We think the move is clearly a positive in the short term – assuming average compensation per manager of $500,000, the cuts will save about 2% of 2014’s compensation costs – but could increase risk in the long term, as institutional knowledge is lost.
We think back to George Mathewson’s decision in 1992 to fire one third of Royal Bank of Scotland's top managers. Initially, the move was a huge success, but it helped kick off an aggressive selling culture that was ultimately a negative for the bank. We do not expect this scenario to reoccur for Standard Chartered, because we think Winters is strongly focused on moving away from, rather than toward, risk but we'll be wary of any sign that management is turning a blind eye to the risks that clearly lie ahead.
In any event, we think that the decision will put full ownership of the no-moat bank in Winters' hands in eyes of investors. We expect that the leaner structure will help streamline decision making and speed up Standard Chartered’s responses to challenges, which have been a weak point for the bank. We plan to maintain our £10 fair value estimate.
We think that Winters is hesitating to announce a rights issue, as it would be expensive for shareholders – shares currently trading at 70% of book value, and that’s after increasing 15% more than over the last week. Still, we continue to see it as necessary unless conditions improve quickly, and given that the U.K. stress tests this year will focus on risks from emerging markets. Some 19% of Standard Chartered's risk-weighted assets and 31% of its customer's loans are in Greater China.
So far, credit quality in the region has remained strong, with credit losses well under 1% of loans, but we think they could rise to 2% of loans as China's slowdown takes hold. Our fair value estimate anticipates that Standard Chartered will need to raise £6 billion of new equity, which would add about 150 basis points to the bank’s 11.5% fully loaded common equity Tier 1 ratio as of June 30.
