SocGen keeps its head above water

Societe Generale's chief executive, Frederic Oudea, declined yesterday to give guidance for the bank's prospects in 2009 despite announcing a doubling of profits in 2008. He said that SocGen recorded a €2 billion ($2.5 billion) profit last year, up 112% from €947 million in 2007, but that it is too early to have a clear idea of how market conditions will affect profits this year.

The improved performance is relative, of course, because this time last year SocGen had just reported a €4.9 billion loss from the failed bets made by rogue-trader Jerome Kerviel. Even so, most banks in the US and UK would be delighted to be able to tell their shareholders that they made money in 2008. SocGen has even said that it will pay a €1.20 per share dividend this year, despite asking for rescue money from French taxpayers.

While SocGen was undoubtedly profitable in 2008, its headline numbers do not tell the whole story. Changes to international accounting rules allowed the bank to reclassify €28.6 billion of financial instruments at the start of the fourth quarter and, from that point on, stop recording their falling value in its profit-and-loss accounts. Without the reclassification, SocGen would have reported a further €1.5 billion loss on these investments between October and December.

The rule change, published in October 2008, affects banks that report under international financial reporting standards and, put simply, allows banks to ignore the plummeting value of certain instruments until maturity, at which point reality can no longer be ignored. US banks could already sweep their problems under the carpet in this way.

The illusion is not insignificant. Imagine that SocGen reclassified its worst-performing assets at the end of the year rather than on October 1. Instead of a very satisfactory doubling of profits, Oudea would yesterday have announced a halving of profits -- after a fourth-quarter loss of €1.4 billion.

And even that does not do justice to the bank's struggle in 2008. At the time of last year's earnings announcement, a banker at SocGen asked us to consider how strongly it had performed if you ignored the one-off rogue-trading loss. It was a fair point. Without Kerviel's alternative investments, net profit was close to €6 billion, which means that, if you also ignore the reclassifications, Oudea would yesterday have been telling shareholders that SocGen had earned just less than 10% of its 2007 profits.

While that is probably a better reflection of how the business has really fared in 2008, it nevertheless paints the picture of a bank that is keeping its head above water. Just.

The €1.5 billion reclassification has at least given the bank's management some breathing space to deal with other problems that it knows are coming up in 2009. The Russian business is struggling amid a financial crisis and the bank has chosen to take a €300 million impairment on its operations there, as well as suspending its Russian business plan.

SocGen has expanded aggressively across Central and Eastern Europe as well and those investments now look questionable, although the bank says that it is optimistic for the long-term performance of its operations across the region.

Asian accounts are not broken out in SocGen's earnings report and the region barely registers a mention as the commercial and investment banking and investment management activities that it focuses on in Asia are insignificant compared to the group's mainstream banking operations in Europe.

Globally, asset management was clearly badly affected by the market turmoil in 2008, with the business posting a €258 million loss compared to a profit of €169 million in 2007, and with assets under management falling to €336 million from €435 million in 2007. Securities services, brokerage and online savings made a profit, but sharply down on 2007, while private banking was more or less stable.

Corporate and investment banking failed to turn a profit even with the benefit of the €1.5 billion accounting reclassification. The business posted a €235 million loss, compared to a profit of €2.7 billion in 2007 (not counting the rogue-trading loss). As part of its plan to turn things around, the division aims to merge equities, fixed income and currencies and commodities into a single capital markets group.

Comparing the performance of those separate divisions in 2008 is complicated by billions in non-recurring profits and losses related to write-downs, hedging windfalls and so on. Ignoring these items, equities had a tough year, with revenues down 57.1% on the back of big losses in the last quarter of the year. Fixed income, currencies and commodities improved on 2007, with €2.5 billion in revenues, up 36.3% on the back of record sales revenues driven by flow products and commodities. Trading profits were up 46.9% on 2007.