Royal Bank of Scotland Profit Surges

But Morningstar analysts leave their fair value for RBS unchanged as most of last year's improvement in operating profit was due to lower costs

Morningstar Manager Analysts 15 February, 2019 | 4:27PM
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Royal Bank of Scotland (RBS) reported full-year 2018 operating profit of GBP 3.4 billion, up 50% from last year. We maintain our fair value estimate of 290p 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 £8.7 billion from £9 billion last year. To give credit where credit is due, RBS did lower its operating costs by 3% and plans further reductions of £300 million, equivalent to 4%, next year. Also, total income generation was up 2% as other non-interest income more than offset the weaker spread business. To sum up our subdued enthusiasm for the results presented on February 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%.

The bank agreed to pay a special dividend to shareholders, taking the total payout to 13p per share. RBS announced in August last year that it would resume payouts to shareholders for the first time since the financial crisis, when the bank was bailed out by the UK Government.

We share management's view that the 50% efficiency ratio target 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 materialise 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%. The Tier 1 ratio is the financial cushion a bank holds to protect against unexpected shocks. This figure already includes the impact of the £2 billion US Department of Justice settlement as well as the ordinary and special dividends of £1.6 billion in total.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
NatWest Group PLC322.80 GBX-0.25Rating

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