“We certainly had a lot of the wrong assets in the wrong places at the wrong time.”
That’s the refreshingly candid assessment offered by Jim Westlake, who runs Royal Bank of Canada’s (TSX: RY, NYSE: RY) international banking operations, to Bloomberg TV after his company announced a USD3.62 billion deal to unload its US retail banking and credit card assets. “A lot of things went bad before we had a chance to do a lot of cleanup.”
That work will now be done by PNC Financial Services Group (NYSE: PNC), the sixth-largest US bank in terms of deposits. PNC wants to expand its operations in the American Southeast beyond its existing Florida base; taking on Raleigh, North Carolina-based RBC Bank adds about 420 branches across the region. Mr. Westlake pointed out that PNC has a solid track record integrating acquisitions and that there’s no overlap between its existing Southeast operations and the acquired RBC Bank assets.
But clearly Royal Bank, No. 1 among the Great White North’s Big Six, wanted out of the US. RBC Bank posted 11 straight losing quarters, or a total of USD3.1 billion through Mar. 31, 2011. The parent’s desire to get rid of the subsidiary had as much to do with the circumstances of its US position, when it bought and where the consumer-focused retail branches were concentrated. It established a US retail presence with the USD2.16 billion acquisition of what was Centura Banks in June 2001.
Centura was a North Carolina-focused bank. But rapid expansion to other Southeastern states, including Georgia, in the latter half of the 2000s left RBC particularly exposed to the implosion of the US housing market. It lacked the scale south of the border to build business and commercial client bases as well as to ride out the weakness afflicting American consumers.
PNC has the option to pay USD1 billion of the total USD3.62 billion purchase price in stock, which means Royal Bank is likely to maintain an interest in US retail banking. And Royal Bank continues to operate in US wealth management and investment banking markets, another indication that there is some economic life south of the border. So, too, do the continuing efforts of Royal rivals Toronto-Dominion (TSX: TD, NYSE: TD) and Bank of Montreal (TSX: BMO, NYSE: BMO), which continue to pursue opportunities to add US financial services assets.
TD, the No. 2 bank in Canada, closed its USD6.3 billion acquisition of Chrysler Financial Corp–which is no TD Auto Finance–on Apr. 1. And last December Bank of Montreal agreed to buy distressed Midwest bank Marshall & Ilsley Corp for USD4.1 billion in stock; BMO will combine M&I’s Wisconsin-headquartered operation with its existing Chicago-based Harris Bank unit.
The Bay Street analyst community is bullish on the deal from Royal Bank’s perspective. Royal Bank will take a CAD1.6 billion writeoff–stemming from a goodwill charge of CAD1.3 billion as well as a markdown of the value of RBC Bank’s US loan book–and the total transaction value still equals approximately 97 percent of RBC Bank’s tangible book value, lower than the average for similar, recent deals. However analysts expect unloading the US retail assets will be immediately accretive to earnings, and it should boost Royal Bank’s capital ratios as well, lifting Tier 1 capital 140 basis points and Tier 1 common equity 100 basis points.
Royal Bank will use case proceeds of at least USD2.62 billion (based on a USD1 billion maximum equity component) to boosts its investment banking and wealth management operations, domestically and in the US.
For the investor Royal Bank’s maneuvers demonstrate that right now there are smart ways and there are not so smart ways to allocate capital in the US. Roger Conrad discusses Canadian Edge companies’ forays south of the border in a June feature article, “Canada Heads South.” My colleague Elliott Gue and our friends at Personal Finance will take a deeper look at how to make money in America in the July 27, 2011, issue.
Canada vs. America
We haven’t been shy in identifying the relative strength of Canada versus the United States in this space and in the pages of Canadian Edge. The fine folks at Worthwhile Canadian Initiative have provided yet more data that highlight why the Great White North is experiencing quite a different economy than their North American partner.
Here are the three serious problems illustrated in a series of graphs:
- US real per capita net worth is back to what it was back in 1999.
- The problem is on the assets side of the balance sheet.
- Although US housing prices fell dramatically, non-housing assets declined significantly as well.
- Aggregate household liabilities have also fallen in the US, but not by enough.
- The last time the real, per capita value of US housing equity was at its current level was 1978.