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Will Royal Bank of Scotland Q3 Earnings Impress This Season?

The Royal Bank of Scotland Group plc (RBS) is scheduled to report its third-quarter 2014 results on Friday, Oct 31.

In the preliminary first-half 2014, this foreign bank reported encouraging earnings for the six months ended Jun 30, 2014. First-half 2014 profit from continuing operations more than doubled from the prior-year comparable period.

Results were driven by lower loan impairment losses and reduced operating expenses. Additionally, the results reflected higher net interest income. However, reduced non-interest income was on the downside.

Will RBS be able to keep the earnings streak alive after combating the challenges that the industry witnessed during the quarter? Let's see what factors might have influenced the earnings report this time around.

Factors to Influence Q3 Results

RBS, which was bailed out with £45 billion by the British government in 2008 has been striving for growth with several restructuring initiatives that include cost reduction measures, increased focus on markets where it has a strong presence and long-term growth prospects, and improvement in its capital ratios.

Notably, as part of its restructuring activities, RBS is set to eliminate a minimum of 30,000 employees in its investment banking division and international operations in the coming three to five years. The figure represents 1/4th of its existing staff.

During the third quarter, the bank initiated the public listing of Citizens Financial Group, Inc – the U.S. retail banking subsidiary at the time when the banking space was encountering several challenges including slow economic recovery, persistent low interest rate environment, stricter regulations and a competitive landscape.

At a time when RBS is burdened with numerous litigations and operational inefficiencies, we remain optimistic about the IPO, as it will not only enhance the company’s capital levels but shift its focus to more profitable markets and pave the way for sustainability and growth in the long run.

However, RBS has been embroiled in several lawsuits and investigations. As a result, the company might have kept additional reserve for litigation expenses, which would dampen the bottom line to some extent.

Further, the Federal Reserve’s stricter capital rules for foreign banking organizations (FBOs) sizably operating in the U.S. could cripple their balance sheet further. According to the new rules, the U.S. operations of foreign banks need to hold risk-based capital, liquidity and leverage similar to their U.S. peers with effect from Jul 1, 2016.

Anyway, amid several litigation issues and internal inefficiencies, this foreign bank is striving hard through restructuring initiatives that focus on building capital levels to achieve operational efficiency and reduce risk-weighted assets (RWAs).

What Management Expects

With the ongoing economic recovery in the UK, management anticipates net interest margin to remain close to the first-half 2014 levels in 2014. Moreover, income from fixed income products is anticipated to reduce in the second half of 2014. The decline is expected to reflect seasonality and the continuation of the bank’s efforts in minimizing balance sheet risk.

RBS targets £1 billion cost reductions in 2014 to be accomplished, though restructuring costs are expected to be higher in the second half of 2014. Notably, restructuring charges of about £1.5 billion is anticipated in 2014, with overall restructuring costs to be around £5 billion over 2014 to 2017.

Management expects RCR funded assets to be down from £29 billion at its inception to about £15 to £18 billion at the end of 2014. The overall costs including impairments, disposal losses and running expenses for RCR are expected to be £2.5 to £3.0 billion between 2014 and 2016, of which £0.8 billion is anticipated in 2014, subject to potential volatility.

Further, RBS anticipates credit impairment charges in the second half of 2014 to remain low, subject to macro economic conditions, resulting in a charge of about £1 billion for 2014, subject to quarter-to-quarter volatility.

Activities of RBS during the third quarter of the year were inadequate to win analysts’ confidence. As a result, the Zacks Consensus Estimate for the quarter remained stable at 32 cents per ADR over the last 7 days.

Earnings Whispers

Our proven model does not conclusively show that RBS is likely to beat the Zacks Consensus Estimate in the third quarter. This is because a stock needs to have both a positive Earnings ESP and a Zacks Rank #1 (Strong Buy) or at least #2 (Buy) or #3 (Hold) for this to happen. Unfortunately, this is not the case here as elaborated below.

Zacks ESP: The earnings ESP for RBS is 0.00%. This is because both the Most Accurate estimate and the Zacks Consensus Estimate stand at 32 cents.

Zacks Rank: RBS’ Zacks Rank #1 (Strong Buy), however, increases the predictive power of ESP. However, we also need to have a positive ESP to be confident of an earnings surprise call.

Other foreign banks that are expected to release results in the coming days include Itau Unibanco Holding S.A. (ITUB), Royal Bank of Canada (RY) and HSBC Holdings plc (HSBC). HSBC will report third-quarter 2014 results on Nov 3 and Itau Unibanco on Nov 4, while Royal Bank of Canada is scheduled to report its fourth-quarter fiscal 2014 (ended Sep 30) results on Dec 3.

Read the Full Research Report on RBS
Read the Full Research Report on ITUB
Read the Full Research Report on RY
Read the Full Research Report on HSBC


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