How Far Can Banks Cinch That Belt?


As they struggle to survive and thrive in the years since the financial crisis, banks have taken to streamlining operations in an effort to reduce expenses. Not that there is anything wrong with that. Some of the nation's biggest banks got fat during the days leading up to the crisis, and needed some strict dieting. But five years after the crash, I'm starting to wonder if all the reducing won't soon leave investors with an empty plate -- and banks with no clear plan in regards to filling it up again.

Cost-cutting widespread among big banks
As far as austerity programs go, the prize goes to Bank of America . Chief Brian Moynihan's Project New BAC has been a model of cost reduction since its unveiling in the fall of 2011, when he announced planned cuts of $5 billion by the end of this year. By Nov. 2012, Moynihan noted that the bank had sold off $60 billion in non-core assets, allowing it to pad capital reserves by $12 billion. Recently, B of A has done even more trimming, selling off more big blocks of mortgage-servicing rights.

The effects of this strategy showed up nicely in the bank's recent fourth-quarter report, at least as far as capital reserves are concerned. B of A now sports a Basel III Tier 1 common capital ratio of 9.25%, up from 8.97% in the third quarter.

Other big banks are nipping and tucking as well. Citigroup , which went through some painful management changes in the latter part of last year, announced some 11,000 layoffs in December. Those savings won't be realized until sometime this year, keeping approximately an extra $1 billion per year on Citi's books.

Morgan Stanley has also scaled back on staff, finishing 2012 with 10% fewer workers than it had the previous year, and plans to cut another 1,600 this year. The bank has cut its compensation expenses even further, doling out bonuses that were 7.6% smaller last year than they were in 2011. They weren't the only ones skimping on these payouts: JPMorgan Chase and Goldman Sachs both cut their compensation back as well, while Goldman has also cut back its workforce by 5% since the latter part of 2011.

Regional banks haven't been immune to the slenderizing craze, either. At about the same time that Moynihan announced his Project New BAC, PNC Financial unveiled its own pruning plan, which it predicted would reduce expenses by $550 million in 2012. With the company's acquisition of RoyalBank of Canada's U.S. operations, the bank is planning further cuts to streamline that new unit. BB&T also instituted an expense-containment plan in the latter part of 2011, as it faced declining revenue from loans.

Does it really work?
While announcements of layoffs and expense-slashing usually make investors cheer, cutting only goes so far. Eventually, banks need to show that the bottom line is responding to treatment, and that earnings are rising, not just staying flat.

For the regionals, the end results have been good, not only due to cost containment, but because of newfound sources of revenue. Both PNC and BB&T have noted increases in lending, both in home loans and through their commercial and industrial departments. For BB&T, the net income increase of 29% since last year is especially noteworthy since its net interest margin dropped 18 basis points. Comerica, a Midwest regional, also saw expenses decline and net income rise by an astounding 33% year over year -- despite a NIM that plummeted by 32 bps.

How about the regionals' big brothers? While the current job cuts were factored into Citi's last earnings report as a charge rather than a savings, it is notable that this is not the first time the bank has attempted to cut back. It has sold over $250 billion in assets since 2008, and shed at least 73,000 jobs. Still, Citi hasn't exactly bounced back. Could it be because of its reluctance to lend? Very possibly, I think.

As for Bank of America, Moynihan is downplaying the expense curtailment and broadcasting the bank's intention to generate more revenue. Originating more mortgages is definitely on the agenda, but there are many roadblocks that will slow that process down. Meantime, its Merrill Lynch division has been strutting its stuff, contributing to B of A's bottom line by doubling its profit from the same time last year.

There's no doubt that banks suffering from bloat due to excessive mergers and acquisitions during pre-crisis times -- such as Citi and B of A -- needed to be shrunk in order to become competitive again. But cutting can't go on forever, and new sources of income need to be cultivated. It looks as if the regionals have figured out the formula for success. To survive, the big boys will do well to take a page from their book.

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Fool contributor Amanda Alix has no position in any stocks mentioned. The Motley Fool recommends Goldman Sachs. The Motley Fool owns shares of Bank of America, Citigroup, JPMorgan Chase, and PNC Financial Services. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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