We were pleased with the Royal Bank of Scotland’s (RBS) announcement on Tuesday that it has made the necessary £1.2 billion payment on the Treasury’s Dividend Access Share, as management had signalled it planned to do. The payment eliminates the Treasury’s priority on RBS’s dividend payments, and thereby paves the way for dividends for ordinary shareholders.
Meaningful dividends are a long way off
However, we think meaningful dividends are a long way off, and we’re currently pencilling in dividends to resume in the second half of 2017.
We think that ordinary dividends are not likely until RBS’s legal woes are behind it, and the timing of that is largely in the hands of U.S. regulators. We maintain our position that RBS won’t return capital to shareholders until its U.S. mortgage litigation is largely resolved, a position reinforced by management’s comments in the past, although many analysts on the call seemed to feel otherwise.
We anticipate that the largest settlements ahead of RBS are related to U.S. subprime bonds, and we expect settlements to be in the billions – we’re pencilling in a $3 billion settlement with the U.S. Department of Justice, for which RBS has not yet set aside reserves, and £7.3 billion in total settlements in over the next several years, for which RBS has set aside £5.6 billion of provisions. We plan to maintain our fair value estimate for the no-moat bank.
We think 2016 will be another ugly year. The headline £2.7 billion loss in RBS’ messy fourth quarter of 2015 was in line with our expectations, although we were disappointed by the underlying performance of its business divisions and management’s indications that the separation of Williams & Glyn will be slower and more complex than had been expected.
In our view, RBS destroyed its economic moat in 2007 with its ill-considered acquisition of ABN AMRO. Enormous losses in 2008, largely a consequence of the merger, resulted in several rounds of government bailouts. U.K. taxpayers still own more than 70% of the group's shares.
We think that RBS has the opportunity to re-earn its narrow moat rating as it continues its recovery and concentrates on its core businesses. RBS has an attractive U.K. retail banking market, which we think has the potential to earn 30%-plus returns on equity in the U.K.'s concentrated banking market. We think these returns are largely the result of cost advantages in the concentrated U.K. retail banking market.
