Should Goldman Sachs go out of business?

By Bethany McLean
July 9, 2012

Among those who believe that Goldman is basically the devil’s spawn, there’s of course only one answer to the above question: Yes! But there’s another group that seems to be asking the same question, and that’s investors.

Consider that in the past year, Goldman’s stock has fallen some 30 percent. It trades for just 0.7 times book value, which says that investors either think that Goldman can’t earn enough to cover its cost of capital, or that its assets are overstated or liabilities understated. Consider this: Except during the financial crisis, Goldman’s market capitalization was last around $50 billion back in the fall of 2005. Back then, Goldman had $670 billion in assets, and $27 billion in shareholders’ equity. Today, Goldman has $951 billion in assets, and $72 billion in shareholders’ equity.

Goldman Sachs stock price, July 1, 2011 - July 1, 2012

Another way to think about Goldman’s valuation is that the firm effectively has $300 billion in cash and close cash equivalents on its balance sheet. You can get to that figure by adding cash, Level 1 assets, and Level 2 assets that could be easily liquidated. Goldman has total long-term and short-term debt of $220 billion, and a market value of $50 billion. In other words, the market is giving Goldman very little credit for the ongoing earnings of its business, and Goldman has a lot of dry powder relative to the opportunities it has. (A caveat: Goldman’s immense derivatives business would gobble up lots of cash were the firm to be hit with credit downgrades.)

Among its banking brethren, Goldman isn’t unique or even the worst off – Bank of America trades at about 60 percent of book value and Citigroup at just over 50 percent. Analysts question whether these banks can earn their cost of capital. Last month, Philip Purcell, the former CEO of Morgan Stanley – and the architect of the megamerger between Morgan Stanley and Dean Witter – wrote a piece in the Wall Street Journal arguing that shareholders would get better value if the big banks broke themselves up. He chalked the sinking stocks up to the “mismatch” between volatile investment banking and trading businesses on the one hand, and “safer, more client-centric businesses” like asset management and banking and credit cards on the other hand. Others who have called for a breakup of the big banks cite the essential unmanageability of these giant, risky firms.

But Goldman hasn’t suffered the blatant management missteps of its peers, at least from a bottom-line perspective; moreover, it’s hard to see how splitting up is an option for Goldman. Unlike a Citi or a BofA, Goldman lacks the pieces in which to break. Although Goldman is now officially a bank, it doesn’t do much that resembles banking as we know it. True, Goldman does have an asset management business, but it has succeeded despite less-than-stellar performance. A good chunk of its value is precisely because it’s part of Goldman Sachs.

So what’s the problem, and is there a solution? One view is that Goldman has always been run for the benefit of its employees, rather than shareholders – over the years, many of the former have gotten rich, while some of the latter have lost a lot of money – and shareholders have finally wised up. In this view, it doesn’t matter what Goldman earns because ultimately that wealth will be transferred to management, not shareholders, through ever-larger compensation packages. So Goldman should take itself private and stop pretending that shareholders are part of the equation.

But there are also a number of more constructive theories, all of which could be true. One possibility is that the black-box nature of Goldman Sachs is no longer acceptable to investors, in which case Goldman could work to make itself more transparent – a Lucite box! Another is that the ongoing threat of legal liabilities, in particular, the Department of Justice investigation into Goldman’s behavior during the crisis, is weighing down the stock. A third is that given the myriad uncertainties in world markets, of course Goldman’s stock is going to suffer. Market participants say that Goldman is no longer taking risk the way it once did. But as soon as the clouds lift, normalcy – i.e., the risk-taking and the mega-profits of the pre-crash years – will return.

Yet another possibility, though, is that the world has changed, and Goldman either needs to shrink – or show investors how it can reinvent itself. New regulations are one reason. Despite frenzied lobbying, regulations from higher capital requirements to whatever iteration of the Volcker Rule emerges from the murk of D.C. will add cost and lessen opportunities. But the more important reason is that Europe, Japan and North America, which analyst Meredith Whitney wrote in a report accounted for 80 percent of Wall Street’s revenues over the last decade, are all in a massive, lengthy deleveraging process. Yet during that period, over a third of Wall Street’s revenues came from debt capital markets, and in turn, over 40 percent of that came from the issuance of financial debt. Even more, at the big banks, a huge percentage of the debt they sold at the peak was their own. (In Goldman’s case, Whitney says, 40 percent of its total debt capital markets business in 2006 was the issuance of its own debt.) Less debt equals less profit. (Goldman says it doesn’t make money issuing its own debt.)

Goldman gets a bigger chunk of its profits from outside the U.S. and Europe than others do. But while Asia and Latin America are growing quickly, they are still relatively small. And it’s hard to tell how much of Goldman’s derivatives business, which has been a huge chunk of its profits, was tied to the issuance of debt. In a world where debt in the developed world has to decrease, a world where everything can’t be turned into a derivative, maybe the robust return on equity Goldman produced is a thing of the past.

While Goldman people are the first to say that there is no certainty about anything today, the firm – not surprisingly! – rejects the idea that the market wants it to liquidate. You can see the firm’s optimism in its headcount, which is now about 32,000. True, that’s down some 8 percent from last year (and Goldman has cut costs more aggressively than headcount reflects), but it is still up about 9,000 from the end of 2005. Goldman executives have argued that even if Europe – European banks in particular – do need to delever, there could be a silver lining, which is that companies in Europe, which traditionally have relied upon loans from banks, will now instead sell debt in the capital markets, thereby spelling opportunity for firms like Goldman. There’s also an argument that while Goldman’s return on equity of 12 percent in the first quarter (which, in fairness, was a big improvement on the 3.7 percent Goldman posted in 2011) is a fraction of the stunning 40 percent returns it posted at the peak, a 12 percent return on equity, if sustainable, is not so terrible in a zero-interest-rate world.

If you look at the firm over the decades, its real business model has been to be wherever there’s money to be made, to turn on a dime to get there, and to find a way to adapt and prosper no matter what the conditions. But even Goldman admits that in the meantime, investors have to be patient – and patient is one thing that most modern investors are not.

15 comments

We welcome comments that advance the story through relevant opinion, anecdotes, links and data. If you see a comment that you believe is irrelevant or inappropriate, you can flag it to our editors by using the report abuse links. Views expressed in the comments do not represent those of Reuters. For more information on our comment policy, see http://blogs.reuters.com/fulldisclosure/2010/09/27/toward-a-more-thoughtful-conversation-on-stories/

It won’t happen but if it did, it would be a good thing for the entire world

Posted by p19 | Report as abusive

It’s no longer really a bank. Yes, it should go out of business; operating as recklessly as it has is a hazard to the well-being of the world’s economy.

Posted by borisjimbo | Report as abusive

all the focus on finance finance finance-paper pushing by any other name-the usa had the opportunity paradigm during the “great recession” to recreate itself as the leader in green tech and green living but failed to deliver the goods-let’s focus less on the wall st money machine that pays very big to the very few and more on a total green initiative for N America that will see us power ourselves successfully just from sustainable resources in the lower 48-dr chu where are you?-can’t you convince your boss to come out with some bold strokes instead of piecemeal which is not working-thanks bethany

Posted by Conservastore | Report as abusive

GS is in the business of financial speculation, gambling, manipulation and leverage. It also does ‘dirty’ work on behave of the Fed to help control world finance.

This is not banking. Therefore, it should de-register as being a bank, even as an investment bank. It should become just like those companies running Las Vegas Stripe.

Posted by TomKi | Report as abusive

If the world were just a little bit fairer, GS would be fined an amount that matches all the money they made selling Europe down the Danube. Lesser crooks like Madoff end up in jail, but institutionalized cons like GS end up winning the hearts and minds of Wall Street and are the darlings of the Regulatory industry.

Posted by hyperlux | Report as abusive

Goldman plays hard and sometimes crosses the legal line, and their ethics are sometimes more than questionable. However, Goldman bashing for its own sake sounds like jealousy or sour grapes. Like Clan Campbell in Scottish history, their greatest crime was to be on the winning side more often than their competitors.

So, for those who have broken the law, let the law take its course.
For those shareholders who feel management should be brought to heel, they have recourse at the annual shareholders meeting or voting with their feet by selling their shares.
For those who think Goldman are thoroughly bad characters, they don’t have to do business with them and can recommend the same to others.
The TBTF problem isn’t just Goldman and is a wider issue that must be addressed by us all in another forum.

I do not own any Goldman shares, and I don’t recommend you buy any right now.
I am not a stakeholder in Goldman in any form.

I like having Goldman around as they make life more interesting though some of them probably should be in jail. That being said, Goldman Sachs is survivor.

rwmccoy

Posted by rwmccoy | Report as abusive

In my opinion, the worst aspect of the ongoing scandal that is GS is that, as many have said, GS executives have made 7- and 8-figure compensation a way of life by gaming the system and relying on cronies to cover their backs. One need look no farther than the management at the Fed and Treasury – GS former execs whose full-time jobs are supposed to be controlling GS and its cousins in the “banking” industry (which, as we all agreed, is no longer anything about banking). If that isn’t the epitome of cronyism, I don’t know what is.

As for “poor Bernie Madoff” being jailed… the only reason he was arrested is that a few thousand of the high and mighty succumbed to his line and then got sucker-punched. So, he was tried and sentenced to 150 years in jail – supposedly as proof that the new American justice system works to protect the citizens. Really? This trial occurred at precisely the same time that, due to the “shenanigans” of GS and their crony cousins, 150 million American homeowners – the vast majority of whom have a home as their only capital asset – lost an average of 16% of the value of that asset. As of this past March, almost 16 million homeowners – nearly a third of all homeowners with mortgages – now owe more than the value of their homes.

Thank GOODNESS the US Gov’t acted to make available to some of those folks USD 26 billion – I mean, wow: USD 26 BILLION! – if they can jump through the considerable bureaucratic hoops created by that same US Gov’t to get the money via those same banks that fudged the figures and gamed the system in the first place… You think I’m kidding? Check out this quote from the Feb 9 NY Times (http://www.nytimes.com/2012/02/10/busin ess/states-negotiate-26-billion-agreemen t-for-homeowners.html?pagewanted=all): “The bulk of the settlement, about $20 billion, would go to one million American homeowners who would have their mortgage debts reduced or their loans refinanced at a lower interest rate. It also includes $1.5 billion for roughly 750,000 people who lost their homes to foreclosure between 2008 and 2011, with each receiving between $1,500 and $2,000.” Are you feeling better, dears? In exchange for the graft, corruption, and other illegal activity that nets those oh-so-smart executives at US casinos – sorry, I meant US banks – their outrageous compensation, they have deigned to allow you to pay yourself, via US Gov’t funds (that is: from your own income tax payments) up to $2,000 for the inconvenience of being kicked out of your own home that they advised you to gamble on in the first place and then collected on the bets you made.

Please note that well over USD 2 trillion in the combined asset value of the nation’s homes has been wiped out – or, more correctly, transferred to the annual bonuses of Blankfein et al – and how many of them have been sentenced to one year in jail? any jail time at all? even arrested? ZERO. In the worst case (ever so rarely played out), they get fired – and then they get massive severance packages. THAT will teach them a thing or two…

Let’s be clear, since these are big numbers: US homeowners had their main, often only, asset devalued by an average of 16% and an aggregate of over USD 2 billion, while the US Gov’t has offered to distribute USD 26 billion – not in fines, not in seized profits, but in US taxpayer money – so, YOUR OWN money – to people harmed by those very same banks. That means that the amount lost is over 76 times bigger than the amount on offer to repair the loss. How happy would you be if a thief stole your $760 ring and your insurance company offered to pay you $10 for the loss? The statistics in this article in the Huffpost Blog (http://www.huffingtonpost.com/tracy-van -slyke/obama-economy-foreclosure-banks-_ b_1543699.html) yesterday, July 10, say it all: “Thirty five point three billion dollars is the [2011] first quarter earnings of the financial industry, the highest earnings reported since before the economic collapse. Fifteen point seven million is the number of homeowners in this country who owe more on their mortgage than their home is worth. That means that nearly one in every three mortgage holders is trapped, upside down or underwater on their mortgage. Put simply, Wall Street has more than recovered while the American people sink further and further away from economic security.”

How appropriate that one of the articles on the Reuters sidebar is titled “Many Wall Street executives says wrongdoing is necessary: survey”. What do you think happens when a group of arrogant, spoiled, plutocrats-in-progress jointly agree that “We need to break the law to do our jobs…”? Not so very surprisingly, they break the law. What’s amazing is that, in the four years since the WFWs (World Financial Wizards) nearly brought the global economy to meltdown, the SEC, the Dept of Commerce, the Dept of Justice, the FBI, and even the US Attorney for Southern New York (the place where Rudy Guiliani made his name) ALL have been unable to find a single guily party, a single smoking gun, or even a single whistleblower – even with the whistleblower getting paid 10% of the amount recovered from such unconscionable ratting out of some real rats, which amounts would have to be in the billions. Really? REALLY? HAS ANYONE EVEN TRIED?

Section 12B of the Australian Securities And Investments Commission Act 2001 (see: http://www.austlii.edu.au/cgi-bin/sinodi sp/au/legis/cth/consol_act/asaica2001529  /s12cb.html?stem=0&synonyms=0&query=unc onscionable) proscribes a stronger party (for example, a bank or a banker) from engage in conduct against a substantially weaker party (for example, an indebted homeowner) actions that are “unconscionable” and subjects such stronger parties to fines and/or jail sentencing. Of course, it would not be possible to institute such a law here in the US, since both the targets of the law (bankers) and the very persons charged with developing such national legislation (politicians, most of whom are lawyers) have no conscience.

Posted by JeffsComment | Report as abusive

B-b-b-b-b-but who’s gonna be Sec’y of Treasury if Goldman goes ’86′?

Posted by crocodilechuck | Report as abusive

Goldman Sachs & their Likes should not only be shut down, but all of their executive mobsters should be prosecuted ruthlessly.
They have committed horrendous frauds to so many investors and they have collaborated with so many corrupt sovereign governments (especially in the EU) that is nothing less than a financial carnage. I would be the first to throw on the switch to their executive electric chairs.

Posted by GMavros | Report as abusive

It should be noted to all who read the article that Bethany McLean, author of the article, is a former investment banker for….drumroll please…..Goldman Sachs.

While one may say this allows her to provide unique perspective, it also highlights the professional launching pad GS provides to elitists.

That is all.

Posted by CNBCS | Report as abusive

[...] Nå har hun en ny artikkel som vekker oppsikt; «Burde Goldman Sachs gå konkurs?» [...]

Thanks, CNBCS (whoever you really are)…

Note to Bethany: Maybe that key piece of information is worth a disclosing note, eh? I mean, either in the article or in the bio thumbnail on the right sidebar, don’t you think people should know that you are former investment banker at GS? For better or worse, that fact certainly informs your journalism, at least on this subject.

Of course, the GS culture was all about the most insidious type of lying – the lie by omission. I’m sure the muppets who bought CDOs and similar financial instruments from GS would have liked to know that the other side of the GS house was selling puts in the form of various derivatives on the same instruments, since they knew the toxicity contained therein and knew it was only a matter of time before such instruments would self-destruct. But, for some reason that I’ve never seen fully explained – and that was never reached in the hearings at which Blankfein et al testified – the obvious conclusion that “It’s just wrong” was never applied to this situation and no penalties of any substantial kind (ie – commensurate with the actions) were ever assessed. Let’s put it this way: If Bernie got 150 years for knowingly orchestrating over a period of years the theft of $50 billion, then the theft of over $2 trillion – 40 times as much – should merit 40 tims the sentnce. I’m really OK with not giving too much to one person – despite how guilty are the likes of Blankfein, Fulda and especially at Cassano Lehmann, Liddy and Benmosche at AIG, Pandit and Parsons at Citigroup, and so many others. No, let’s divide the 6,000 years among, say, 1,200 of the financial chiefs who benefitted most from the behavior of their employees – who were driven to do bad things or get fired for “not performing.” Five years isn’t so burdensome, right? – in Ossining.

By the way, if you think the grab for greed and power wasn’t completely well orchestrated and completely conspiratorial – including our BFFs at GS past and present – please read this article by Matt Taibbi that appeared March 22, 2009 in The Rolling Stone: http://www.commondreams.org/view/2009/03  /22-6. (Warning: Mr Taibbi’s “journalistic style” is quite a bit rougher than Bethany’s – but, he also fully discloses and doesn’t mince words….)

In the meantime, should we forgive Bethany for not yet fully overcoming her “training” at GS? Or, is the yardstick of “it’s just wrong” a measure to be applied even to the high and mighty reporters of Reuters?

Posted by JeffsComment | Report as abusive

Errata to my posting today:
No 1 – Cassano, the “greedy little turd with a knack for selective accounting,” was WFW (World Financial Wizard) No 1 at AIG, not Lehmann.
No 2 – The division of the current $2 trillion in asset theft by Bernie’s theft of $50 billion getting 150 years of jail time produces 4,000 years of jail time, not 6,000 years. The thing is that I continue to search for two different sources of verification that the amount stolen by the WFWs from American assets is not, in total, over $2 trillion but (as I know I’ve read) over $3 trillion – which would right the math for 6,000 years of jail time to disburse among the 1,200 WFWs “most deserving.”

Posted by JeffsComment | Report as abusive

@ JeffsComments: Bethany McLean is NOT a Reuters journalist (as it is clear from the bio thumbnail)
Her opinions are hosted, as with many other external commentators’ in the Analysys & Opinion section of the blog and as stated,
“ANY OPINIONS EXPRESSED HERE ARE THE AUTHOR’S OWN.”
Be reassured that Reuters journalist have very strict rules about disclosing potential conflict of interest when covering stories.

Posted by Amis | Report as abusive

[...] Should Goldman Sachs go out of business? [...]

[...] Should Goldman Sachs go out of business? [...]

[...] Should Goldman Sachs go out of business? [...]

No

Posted by Em2013 | Report as abusive

Wolf in sheep’s clothing… anything these people touch withers and dies. IPOs derivative markets, the US government… perhaps someone (Buffet) will raid the company and break it into a billion pieces…

Posted by paulos777 | Report as abusive