As I alluded to when I first covered it, “two steps forward, one step back” has pretty much characterized the situation at NatWest Group (NWG) for a long time now. I mean, between its massive post-financial crisis restructuring (and the charges associated with it), billions of pounds in PPI fines, Brexit, and, most recently, COVID, investors would be forgiven for thinking that there was a never-ending headwind facing the bank.
While calling for the page to be turned has always been a bit risky here, I do think that we are finally seeing NatWest offer the kind of story that investors have wanted it to: that is to say, a no-frills conventional retail & commercial bank able to sustain an above-average dividend.
The past week has seen its shares take a circa 15% hit – I guess connected to the Russian invasion of Ukraine, although unlike certain continental European peers the bank has no direct exposure to the conflict. The recent tumble also means the stock is down slightly on where it was when I last covered it – again making it a fairly attractive opportunity given the implied discount to my fair value estimate.
Solid 2021 Results Driven By The Retail Bank
Profit was up significantly for the full year on the back of lower impairment charges, not surprising given what we already knew from H1 results and the wider industry. The bank booked an impairment release of circa £1.25bn as credit quality held up better than expected throughout the downturn. That was against a £3.1bn loss booked in 2020.
All said, that helped propel operating profit for the go-forward group (i.e. excluding Ulster Bank RoI, which NatWest is withdrawing from) to approximately £4.25bn, up from a small loss in 2020. After-tax profit for the go-forward group was £2.93bn, with the return on tangible equity coming in at a round 10.0%.
Core results look okay too, driven in large part by the Retail Banking segment. There, revenue was up over 6% versus 2020 to £4.45bn, with growth in both net interest income and fee & commission income. Segmental net loans were up just under £10 billion, or ~6%, thanks to mortgage lending and the buoyant U.K. housing market. Unsecured lending also returned to growth in the second half of the year – something I flagged as still a bit weak back in H1 amid the wider recovery. Group net lending (excluding Ulster RoI) was up 2.6%.
Overall, go-forward group revenue was virtually flat at £10.3bn – with a 2% increase in net interest income offset by a fall in fee & commission income. The latter was a result of lower fees in NatWest Markets, its investment banking segment, which was expected after the COVID-induced spike in 2020. Fee & commission income was up outside of NatWest Markets.
Pre-Provision operating profit looks a little bit messier, coming in at a shade over £3bn for the go-forward group and missing consensus estimates by 3pts or so. That appears largely down to elevated litigation & conduct costs, not something worth worrying about on a period-to-period basis. Excluding these, full-year results for the go-forward group were broadly in line with estimates.
Investors Finally Offered Their Dividend Story
As I said in the introduction, it has felt like investors here have been facing one issue after another for over a decade now. The bank does have very solid U.K. retail & commercial businesses, where it is obviously a top deposit gatherer in a concentrated market, but the good parts have been drowned out by the various issues outlined before.
With a lot of those increasingly in the rear-view mirror, it does look like we are about to get the stodgy dividend stock that NatWest ought to be (and would have been sooner if not for COVID). With that, management announced a 7.5p per share final dividend, to be paid in H1 2022, bringing the total 2021 dividend to 10.5p per share. There was also a further £750m in share buybacks announced, with that coming on top of the £1.85bn in on-market and directed buybacks (i.e. of the UK government’s stake) already executed. All said, that amounts to total FY21 capital returns of around £3.8bn.
Furthermore, we are still looking at several billions of pounds of excess capital on the balance sheet here, a lot of which will be going back to shareholders via special dividends and buybacks over the next couple of years. Management affirmed its minimum FY22 and FY23 dividend spend of £1bn per annum, with scope for further on-market buybacks on top of direct buybacks of the UK government’s stake. The latter would consume around 160bps of capital as it works its way toward a 13-14% CET1 target through FY23. The CET1 was 15.9% at year-end.
Shares Still Offer Some Upside To Fair Value
NatWest shares currently change hands for 205p in London trading, putting them at around 0.75x TNAV per share. The dividend yield is a bit tricky to calculate as it really depends on how you account for special payments as well as normalizing earnings in terms of impairment charges. The headline yield, based on the 2021 payout of 10.5p per share, is over 5%, which looks attractive for income seekers. Buyback-fueled growth should ensure the ordinary payout exceeds that level fairly soon in any case.
Looking ahead, there is plenty of scope for core earnings growth here – with that coming from modest top line expansion and declining operating expenses. U.K. interest rates are also tentatively on the move upwards, with management estimating a 100bps increase would benefit annual net interest earnings to the tune of around £950m. On the expenses side, management sees a 3% per annum reduction in both FY22 and FY23, not including litigation & conduct costs.
Taking all of that together, the bank is guiding for ROTE to be “comfortably above 10% for the group in 2023”, but note that this does assume continuing low levels of impairment charges. Normalizing for that gets me to a tentative ROTE of around 9-10%.
With that, I’m sticking with my fair value of somewhere in the 0.9x-1.0x TNAV region, or around 250p per share, and a ‘buy’ rating.