Goldman Sachs cleverly used quirks in financial reporting to help power interest in a new $5 bn common stock offering that the blue chip firm announced along with its first quarter earnings release.
How exactly did Goldman turbocharge its first quarter profits with these quirks, and did it do so to ignite investor clamor for its new common stock offering in what may be a suckers' rally, numbers that seemingly show Goldman bounced back in a big way from its fourth quarter losses, its first losses since it went public in 1999?
Goldman reported $3.39 a share in first quarter results, handily beating analysts' consensus expectations of $1.61 a share.
Overall, Goldman reported a $1.8 bn net profit, a 20% jump from a year ago and a sharp bounce back from its fourth quarter 2008 losses of $2.1 bn, amidst the wintry gloom of the worst banking downturn since the Great Depression.
But Goldman avoided about $780 mn in losses, which grows to $1.0 bn when Goldman includes the dividends it owes on its preferred shares.
So its new $5 bn common stock offering seems to be a very slyly timed issuance it is using to pay back its TARP loan. Without those losses, Goldman's seemingly boffo first quarter results will help it handily raise that money. How did Goldman cleverly avoid those losse? See below.
Goldman's latest first quarter earnings must be parsed through to see whether this recent bear market rally equates to the strongest rallies off the lows that signaled the end of the bear markets in 1973 to '74 and 2000 to 2002. The market's recent action suggests it's behaviour is similar to those periods.
The question for investors is, do Goldman's seemingly solid first quarter numbers portend that the market is at that inflection point now? Should they pile back into both Goldman's shares now and the banking sector as a whole?
To say that Goldman's numbers don't portend that the market is at an inflection point signaling a turnaround, or that it's using quirks and clever timing, might sound a bit vinegary at this point, as the natives are getting restless.
But I say use caution here, we've all been slammed and slammed hard by Wall Street firms. I want to wait to read Goldman's full quarterly report to get a better sense of what's going on, a report that will be out a month from now. Yes a century in the stock market, but in this environment, I say be careful.
Remember during this earnings reporting season, that to avoid a run on bank deposits, the government allowed a bank run on the taxpayer, with massive capital injections of your money into the banks. All of the banks are showing better profits from your money, as they are made whole while you are not.
Before we get to Goldman's numbers, let's hear what bank expert Dick Bove of Rochdale Securities has to say.
Goldman's New $5 Billion Offering
Bove figures that the new offering will increase Goldman's share base by 46 million or 9%. That's dilution on a pretty big scale.
The funds raised will be used to pay back Goldman's $10 bn TARP loan. Goldman Sachs is unnerved by the government's TARP restrictions on executive pay, and wants to toss off that yoke on its pay by refunding the TARP money as soon as possible.
Bove says however: "This seems to be totally unnecessary. Goldman clearly needed these funds last year because the firm was cash flow negative and was in danger of failing. Giving them [the TARP funds] up so quickly does not appear to be a wise idea unless the firm is convinced the financial crisis is over. Paying back TARP funds to allow the firm to raise salaries does not seem to be a valid reason for diluting shareholders."
Where Did December Go?
A sweet quirk in reporting let Goldman avoid including in its latest results $1 bn in losses that hit Goldman in December. In effect, the entire month of December has dropped into the Twilight Zone.
Because Goldman declared itself a new bank holding company--thanks to the fact that it owns an industrial loan company in Utah--it switched to a calendar year instead of a fiscal year, which would have ended in the usual month of November.
The move let Goldman avoid $1 bn in net losses it incurred in the month of December alone. Factor those numbers in to the first quarter, and Goldman's results drop to $800 mn.
Bove says that: "Consequently, Goldman reported earnings for two periods in its announcements today. The earnings in the stub period that included only the month of December, 2008 were a loss of $2.15 per share. The earnings for the period ending in March, 2009 were a profit of $3.39 per share. Putting the two periods together, Goldman reported a profit of $1.24 per share."
Bove adds: "By separating the two periods, Goldman was able to blunt the impact of $2.3 bn in asset writedowns over the two time frames."
And according to analysis and reporting by Fox Business reporter Ken Sweet and Fox Business news director Ray Hennessey, the December 2008 month will not be used for either its fourth quarter 2008 earnings or its first quarter 2009 earnings.
Instead, it appears Goldman will use the December 2008 down month in a year-over-year comparison when it closes out its 2009 year.
As assets under management plunged 12% from the year earlier period, Goldman still has $60 bn in truly dicey assets on its balance sheet that it gets to pricetag based on its own internal models (called Level 3 assets), the worst of the worst in radioactive assets.
That $60 bn sum swamps both Goldman's $63.6 bn net worth and its $41.9 bn in net worth on a hard asset basis, called tangible common equity.
A look at Goldman's footnotes shows that its Level 3 assets are deteriorating in value, and that Goldman is working hard to hedge these bad bets. That's a far cry from the first six months of last year, when Goldman recorded $781 mn in paper gains fm these assets, after they were offset by any losses in other assets.
Blankfein and Code Pink
Goldman's first quarter numbers come just a week after its chief executive Lloyd Blankfein was met by a Code Pink protest group that had lofted a banner behind him while he was giving a speech in Washington, D.C., demanding that "we," the taxpayer "want our money back."
Blankfein was applauded for seeming to deftly and coolly handle the protestors by noting that his firm would, quick as it could, pay back its $10 bn in TARP loans that the firm was forced to take by then Treasury Secretary Henry Paulson, in order to help other companies taking TARP money not to appear too weak to investors.
But in answering Code Pink, Blankfein only talked about Goldman's $10 bn in TARP loans and thus deftly avoided the most controversial issue facing Goldman now--Goldman's payouts in the collapse of American International Group.
When AIG was downgraded by the credit rating agencies and near collapse last September, the US government stepped in with an $85 bn rescue for the insurer, which was later hiked to $173 bn.
US Treasury Secretary Henry Paulson, with the acquiescence of then New York Federal Reserve Chairman Timothy Geithner, paid Goldman Sachs and other counterparties all of their money that they put at stake in their AIG trades. Blankfein was reportedly in on the Paulson and Geithner meetings that resulted in the AIG bailout--and handouts of your money.
Goldman got a full $12.9 bn in US taxpayer money from the collapse of AIG, representing collateral calls Goldman had with AIG, and also its sale at 100% of the face value of collateralized debt obligations that the Federal Reserve purchased so AIG could avoid having to pay out on its insurance contracts on those securities.
A full 100% that the US taxpayer paid Goldman, even though those securities were likely worth much less on the dollar. Goldman and other counterparties were paid by the taxpayer through AIG's "conduit" for losses, losses that didn't yet occur, at 100 cents on the dollar.
And it got the taxpayer money here despite the fact that Goldman repeatedly said it was fully hedged and that its exposure to AIG was immaterial.
At his speech in DC last week, Blankfein discussed AIG in Rubik's Cube language that was as transparent as a bucket of molasses.
Why did Geithner, now Treasury Secretary, use taxpayer money to pay 100% of the value of these trades which even Goldman knew were clearly at risk of declining in value, given that Goldman bought from AIG insurance in the form of AIG swaps on these trades?
And why did the US taxpayer have to pay back the collateral on the trades after AIG was downgraded, given that the US government stepped in and backed AIG and that the government itself is a Triple-A rated entity?
Remember, John Snow, as US Treasury Secretary in 2004, with the blessing of then SEC chairman Christopher Cox, agreed to relax capital reserve requirements that let five of the top Wall Street investment banks lever themselves up to as much as $40 in borrowings to one dollar in assets, after Wall Street firms had lobbied hard to avoid stricter capital reserve rules.
Lehman Bros and Bear Stearns have since collapsed, and Merrill Lynch was subsumed into Bank of America in a deal the bank's shareholders consider highly controversial, a purchase Bank of America made with taxpayer money.
Where's Your Money?
Try finding out how Goldman's numbers profited here from AIG. Goldman's latest numbers show it posted $6.56 bn in sales in its fixed income, currency and commodities division. That's a huge sum.
But does that result really show that Goldman successfully grabbed market share from others, or did the $12.9 bn Goldman got in US taxpayer money via AIG's collapse help its numbers here?
Goldman still doesn't clearly break out how the AIG settlements helped buff its results, and for which quarter(s). On its conference call this morning, Goldman executives say the AIG payouts occurred in the month of December, which supposedly has dropped off the map. Would its December loss have been deeper without the AIG payout? Again, not much information on the conference call.
The US Investigates
The inspector general of TARP, Neil Barofsky, has said he is prepared to audit the decision to repay in full counterparties of AIG, the insurance group bailed out with $173bn of government aid.
The Government Accountability Office has already recommended the Treasury should demand "concessions" from AIG's counterparties and executives "including seeking to renegotiate existing contracts."
One Way to Look at Goldman's Results
When viewed from a four month rather than a three month reporting period Goldman's results were not outstanding, Bove says.
"Moreover, the common stock offering is punitive to shareholders," the bank analyst adds. "Despite these facts an assessment of Goldman's businesses indicates that this company has turned itself around. Moreover, it appears that the turnaround is likely to continue."