Deutsche Bank’s decade-long turnaround effort still hasn’t paid off

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Deutsche Bank’s role was to befit its status as the top bank in Europe’s top economy. It was supposed to be the Mercedes-Benz of German lenders – well-built, dependable, respected, competitive, internationally famous, the flag-bearer for mighty Corporate Germany. It was to be the prime financier of the country’s export-oriented economy, while holding its own among the Wall Street giants.

Instead, it failed on almost all these counts. Since the financial crisis of 2008, DB has been a mess, a perennial restructuring story that seems to be making only scant progress as it mills through CEOs and their strategic turnaround plans. On Friday, the bank’s results showed that it still needs a lot more work. Its future remains highly uncertain, especially as the German and other European economies quickly lose momentum and risk falling into recession; Italy is already officially there.

DB thinks bank consolidation in Europe is coming and seems to be encouraging it. But who would want to join forces with Germany’s broken banking giant, particularly since it keeps having rude encounters with the law?

For all of 2018, DB produced a profit of €341-million ($511-million) – its first full-year profit since 2014. That was pretty much the extent of the good news. Profit was about 20 per cent below analysts’ forecasts, revenues were down for eight quarters running and the fourth quarter was hit by a substantial slide in corporate and investment-banking revenues, producing a loss of €303-million.

The post-tax return on tangible equity (profit divided by shareholders’ equity) was a mere 0.4 per cent for 2018 – half of what analysts had expected – and light years away from the medium-term target of 10 per cent. Even 10 per cent is fairly unambitious. A bank that is generating strong profits from the equity that shareholders shunt into business would be making returns in the low double-digits.

DB shares dropped 3 per cent on Friday; over the last 12 months, they have fallen almost 50 per cent. DB’s market value is only €16-billion, about one-sixth of the Royal Bank of Canada’s. Just before the financial crisis, it was worth five times more than today’s value. To no one’s surprise, the new-ish CEO, Christian Sewing, is cranking up his cost-cutting efforts, vowing to slash another €1-billion in expenses. That may not be enough.

How did DB go from star to dud? Corporate Germany was supposed to be a marvel of efficiency and integrity, but DB let the team down.

Before 2008, DB was one of the world’s biggest and most profitable banks. In 2007, it earned a record €6.5-billion. It achieved star status after deciding that its traditional role of providing loans to finance Germany’s postwar economic miracle, known as the Wirtschaftswunder, was dated and dull. Instead, DB would become a global investment bank that would compete with Goldman Sachs and JP Morgan Chase. Two big acquisitions – Bankers Trust in the United States and British investment bank Morgan Grenfell – thrust it into global big leagues.

The investment bankers took over the show and took huge risks. They built a derivatives book whose notional value was 20 times larger than Germany’s gross domestic product, making the bank a systemic risk, not just within Germany, but globally.

In DB’s ambitious, high-growth years, the bank made three mistakes that would come back to haunt it. The first was focusing on the fixed-income market during an era of rock-bottom interest rates, which required a lot of capital, hurting returns on equity. The second was going after Wall Street’s big boys in the M&A, IPO and financing games. DB scored big a few times, but not enough to make its investment bank sustainably profitable. The third was outrageous bonuses. The German broadcaster Deutsche Welle says DB paid as much as €50-billion in bonuses in the 15 years after the Bankers Trust purchase, which was made in 1999.

The 2008 financial crisis sent DB reeling. And by the middle part of this decade, it was under attack from some 7,000 lawsuits for a broad range of alleged sins, including the Libor interest-rate rigging scandal and violating U.S. sanctions against Iran. forcing it to pay billions of dollars in settlements just as it was trying to shore up its depleted capital. And DB’s legal problems persist. In November, 170 police officers raided its offices in Frankfurt in a money-laundering investigation that emerged from the Panama Papers scandal.

Today, DB is trading at one-quarter of its book value after years of restructuring plans that failed to do the trick. Friday’s underwhelming results and falling share price indicate that the bank’s turnaround plan under Mr. Sewing is coming up short just as the German economy is slowing and vulnerable to recession. There is ample talk that the German government, frustrated by DB’s decade-long stint in the doghouse, is willing to force DB into merging with its smaller rival, Commerzbank. But Commerzbank is also struggling to become profitable and has been an even worse stock-market performer in the past year than DB. Merging two weaklings does not seem sensible.

The alternative to a domestic merger would be an international merger, with France’s BNP Paribas and Société Générale mentioned as potential partners. But cross-border mergers are hideously complicated, and there is little sense that the stronger French banks would benefit from teaming up with DB. And where would the head office be? The German government and industry would not like to see the country’s biggest bank run elsewhere.

Mr. Sewing is running out of options and may be forced into muddling on in the hopes that cutting costs further, shrinking the investment bank and perhaps making one or two small retail-banking acquisitions or joint ventures will restore profitability. In the meantime, DB, it appears, will remain a blot on Corporate Germany’s otherwise fine image.