CRZBY - Deutsche Bank's New Capital Update Reinforces The Bull Case

2023-10-25 23:24:45 ET

Summary

• Deutsche Bank reports a 3% Y/Y increase in Q3 net revenues, driven by the Corporate Bank and Private Bank. Full-year outlook seen +6.6% to €29 billion.
• Cost of risk was 28 basis points in the first 9 months, with the bank expecting a result close but below 30 basis points for the full year.
• Return on tangible equity of 7.3% in Q3 and 7% year-to-date; tangible book value per share up by 2.9% Q/Q to €27.74/share in Q3.
• CET1 ratio of 13.9% at the end of Q3. Additional capital optimization efforts and a smaller Basel III impact are set to release €3 billion in capital.
• The bank is on track to return €2 billion on average to shareholders in each of the next three years.

Introduction

Deutsche Bank ( DB ) recently reported its Q3 2023 earnings, which I will discuss in detail in this article. The Q3 2023 earnings report is available here , while the analyst presentation is available here . Most recently, I covered DB at the height of the banking crisis this spring, with the article available here .

Company Overview

Deutsche Bank reports operations under four distinct businesses, namely the Corporate Bank at 26.5% of Q3 net revenues, the Investment Bank at 31.8%, the Private Bank at 32.9%, and Asset Management at 8.3% of Q3 net revenues:

Operational Overview

Corporate Bank net revenues grew 21% Y/Y in Q3. Growth was broad-based across businesses, although dominated by gains in net interest income (+35% Y/Y), while commissions were down 2% Y/Y. Expenses declined by 2% Y/Y, which resulted in a return on tangible equity (RoTE) of 18.3% in Q3 and 17.1% year-to-date.

Investment Bank net revenues fell 4% Y/Y in Q3, driven by a 12% decline in Fixed Income, Currency ((FIC)) Sales & Trading. Expenses were up 2% Y/Y, driving RoTE to only 6.2% in the quarter and 6.6% YTD.

Private Bank net revenues grew 3% Y/Y in Q3. Drawing parallels with the Corporate Bank, net interest income was up 17% Y/Y, which helped offset a 6% decline in commissions. Expenses were also elevated, up 7% Y/Y, resulting in a RoTE of 6.2% in the quarter and 4.8% in the first 9 months - the weakest segment profit in the bank.

Asset Management net revenues declined 10% Y/Y in Q3, impacted by a broad-based decline in fee income. Expenses were down by only 8% Y/Y, resulting in a RoTE of 12.6% in Q3 and 12.9% YTD.

On a consolidated basis, revenues increased 3% Y/Y in Q3, weaker than the 4% growth in expenses. This resulted in a RoTE of 7.3% in Q3 and 7% year-to-date, down from 8.2% and 8.1% in the prior-year period respectively. Tangible book value per share was €27.74/share in Q3, up 2.9% Q/Q. Earnings per share were € 0.56/share in Q3, down 1.7% Y/Y.

2023 Outlook

The provision for credit losses was 28 basis points year-to-date, with the bank expecting the provision for credit losses to be at the upper end of its communicated range of 25 - 30 basis points for the full year.

2023 revenues are expected at €29 billion, up 6.6% relative to 2022. Expenses are also seen slightly higher, attributable to higher nonoperating costs; adjusted costs are essentially flat.

Updated Capital Plan

The bank ended Q3 with a CET1 ratio of 13.9%, up 0.1% Q/Q, with risk-weighted assets (RWA) optimization initiatives and organic earnings offsetting the impact of regulatory changes.

Deutsche Bank also boosted its original €15-20 billion RWA optimization plan by €10 billion, to a new target of €25-30 billion, of which some 36% has already been achieved. The additional €10 billion RWA reduction, coupled with a smaller Basel III final implementation impact /set to take effect in 2025/, will free about €3 billion in capital through 2025:

Expected Shareholder Distributions

As stated in the prepared remarks for the Q3 analyst conference call, DB is only getting started with its objective to distribute €8 billion to shareholders until 2026 (final distributions in respect of 2025):

We are on track to complete the 450 million euro share repurchase announced in July, thereby delivering total distributions across 2022 and 2023 of 1.75 billion euros.

As a result, it is reasonable to believe that in each of the next three years (2024-2026), the bank will strive to return €2 billion on average to shareholders via dividends and buybacks on an annual basis, with a 50% payout targeted from 2025:

The returns are still likely to be somewhat tilted towards 2025-2026, with management likely to wait for the final impact of Basel III before allocating excess capital.

Commerzbank Capital Return

While cross-town rival Commerzbank ( OTCPK:CRZBF ) is yet to announce Q3 earnings, the smaller German lender came out with a capital return policy update on its own recently, available here .

The key takeaway is that given the strong capital position of the bank, it will target an extraordinarily high payout ratio of 70% in 2024, higher than the 50% payout in 2023. What's more, Commerzbank targets an 11% RoTE in 2027, higher than DB's 2025 aspiration of 10%:

The new Commerzbank target seems very ambitious and I am looking forward to the company's Q3 earnings and Capital Markets update, both scheduled for November 8.

Conclusion

Deutsche Bank delivered sequential profitability improvement versus Q2, helped primarily by the Corporate Bank. That said, further operational optimization of the Private and Investment banks remains to be achieved. Nevertheless, given the expected €2 billion in average annual distributions in each of the next three years and a market capitalization of about €20 billion (at the current price to tangible book of just 0.37), DB remains one of my top picks in the European banking space.

Thank you for reading.

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