Market unfazed by Nomura's $7.2 billion loss

Markets respond calmly to Nomura's historic loss for the latest fiscal year.

Compared to the near-hysteria surrounding the results of Western investment banks, Nomura Securities' consolidated results announcement after the market closed on Friday seemed to generate very little discussion, even though the Japanese investment bank posted its largest ever annual loss. It said its net loss for the 2008 Japanese fiscal year (which runs from April 1, 2008, to March 31, 2009) amounted to ¥709.4 billion ($7.22 billion), or more than 10 times the ¥67.8 billion loss it made in the previous year.

On the English-language analyst call later that day, just one analyst asked questions, while on the Japanese analyst call, there were just three questions.

Standard and Poor's rating agency said in a report that the losses would "not have a direct impact on the company's rating (BBB+)...Standard & Poor's views Nomura's financial results for the fourth quarter of fiscal 2008 as being within our assumptions".

The bank reported a net loss of ¥217.1 billion for the fourth quarter (ending March 2009) -- a slight improvement from the ¥342.9 billion loss in the third quarter -- which it attributed to write-downs on real-estate and other illiquid assets.

The company's share price dropped just ¥3 on Friday, to ¥605. Although the announcement was made after market hours, The Nikkei newspaper had leaked the news already on Thursday. Nomura's stock price seems to be stabilising after a negative period and has added ¥100 since the beginning of April. However, the current share price still compares unfavourably to the high of ¥2,711 in February 2007.

And not everybody is optimistic. In a report issued on Friday following The Nikkei leaks, Nikko Citigroup says "our impression of the news (of the loss) is negative". The report says the current share price seems to expect some ¥200 billion worth of bond trading profits in the next financial year, which it judges to be optimistic. Nikko Citigroup's target share price for Nomura is ¥530.

Of Nomura's five divisions (retail, global markets, investment banking, asset management and merchant banking), only asset management and retail ended fiscal 2008 in the black. In the fourth quarter, only asset management avoided a loss (just).

Nomura's results presentation blames the full-year shortfall on trading losses, asset write-downs and one-off expenses. The bank generated net revenues of ¥312.6 billion, which was sharply down on ¥787.3 billion in fiscal 2007. One-off losses and expenses amounted to ¥532.9 billion. This segment reads like a roll-call of the scandals and pitfalls of the past 12 months, comprising the Madoff fraud, Icelandic bank failures, monoline downgrades, real estate, merchant banking, the impact of the Lehman Brothers failure, and expenses related to Nomura's acquisition of the former US investment bank's operations in Asia and Europe.

Lehman-related losses came to ¥230 billion for the year as a whole, including impairment charges at affiliates and headcount reduction-related costs. In the fourth quarter, expenses relating to the Lehman acquisition amounted to ¥53.1 billion, down somewhat on the previous quarter, and they are expected to halve again in the first quarter of fiscal 2009.

But the biggest negative factor (¥1.092 trillion) came from non-interest expenses, which increased from ¥851.8 billion in the previous financial year. These comprise compensation and benefits, commissions and floor brokerages, information processing communications, occupancy and related depreciation and business development expenses. The biggest segment was compensation and benefits, which contributed non-interest expenses of ¥491 billion.  

In terms of operating segments, global markets was the biggest culprit, losing ¥574.6 billion before taxes in fiscal 2008, compared to a ¥226.2 billion loss in fiscal 2007. Global markets combines the flow business and the bank's proprietary trading business. Other pre-tax loss leaders included the merchant banking and investment banking segments with shortfalls of ¥85.3 billion and ¥57.4 billion respectively. In the fourth quarter, investment banking revenues fell 71% quarter-on-quarter.

Nomura's post-Lehman strategy is to return the bank to the black, slash expenses and generate revenues from the Lehman acquisition.

"Last year, we made significant progress dealing with legacy risk assets and paving the way for future growth amid an extremely challenging market environment," Kenichi Watanabe, Nomura's president and CEO, was quoted as saying in Friday's press release. "Despite the loss we have maintained our solid capital base. We are now focused on returning to profitability by leveraging our newly enhanced global franchise."

During the analyst call on Friday, CFO Masufumi Nakada mentioned a 10% cost-reduction target, amounting to ¥100 billion per year (after exceptional items), to be implemented by the end of the current fiscal year and said the back-office function globally will be a target of cost cutting. The bank has slashed 2,100 jobs since October, but until recently, the brunt of the headcount reduction was carried by front-office staff in Japan. He added that the bank also aims to run its Indian back-office unit at full capacity, compared with 80% at present.

"I am very cautious on the market and business environment, and I don't expect a quick recovery," Nakada said. He pointed to the company's private equity and real estate positions as risks to future earnings, saying that they have already been written down heavily, but could deteriorate even further if the macroeconomic situation continues to worsen.

A finance consultant in Tokyo who prefers to remain nameless, says the losses are a by-product of Nomura being Japan's "most sophisticated and aggressive investment bank". "Those qualities will serve Nomura again once we overcome the 'black swan' events which have brought global markets to (their current) lows," he estimates.

The consultant also points out a few key strengths of Nomura: it can raise capital very easily because its brand is so strong in Japan; it has the highest securities business market share of any bank in Japan, Japanese or foreign; and it is an extremely strong bond house (despite sometimes marketing itself as a specialist equity house). While equity issuance has dried up, bond issuance for highly rated issuers has spiked as companies find that their banks are running out of funds to lend. Nomura is also a significant player in the government bond markets.

Nomura shored up its capital base through a successful ¥277 billion global equity offering in March, of which one-third went to its own customers. As a result, the firm has a total capital ratio of 18.1% and a tier-1 ratio of 11.3%.

Nomura's strategy makes sense, but the company is clearly a hostage to the state of the Japanese and the world economies. The outlook for Japan's GDP this year is bleak, assessed at between minus 4% to minus 6%, while the world economy is also under strain. The key question is whether Nomura can survive the expense of the Lehman acquisition until markets improve.

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