Business context and reporting period
The Goldman Sachs Group, Inc. filed its Form 10-K for the fiscal year ended December 31, 2017, with quarterly information for the fourth quarter of 2017. Goldman Sachs is a global investment banking, securities and investment management firm operating through Investment Banking, Institutional Client Services, Investing & Lending, and Investment Management. It had 36,600 staff, offices in more than 30 countries, and generated 39% of net revenues outside the Americas.
Financial performance and key metrics
| Metric | 2017 | 2016 | Change |
|---|
| Net revenues | $32.07 billion | $30.61 billion | Up 5% |
| Pre-tax earnings | $11.13 billion | $10.30 billion | Up 8% |
| Net earnings | $4.29 billion | $7.40 billion | Down 42% |
| Net earnings applicable to common shareholders | $3.69 billion | $7.09 billion | Down 48% |
| Diluted EPS | $9.01 | $16.29 | Down 45% |
| Return on average common equity | 4.9% | 9.4% | Down 450 bps |
| Operating expenses | $20.94 billion | $20.30 billion | Up 3% |
- Reported pre-tax margin was approximately 34.7%; reported net margin was approximately 13.4%.
- Fourth-quarter 2017 results included a $4.40 billion estimated income-tax expense from the Tax Cuts and Jobs Act. Excluding this item, 2017 diluted EPS was $19.76, return on average common equity was 10.8%, and the effective tax rate was 22.0% versus 61.5% as reported.
- Net interest income rose 13% to $2.93 billion, reflecting higher rates, higher loan yields and increased average loans and financial instruments.
- Cash and cash equivalents decreased to $110.05 billion from $121.71 billion. Operating cash flow was negative $17.74 billion, investing cash flow was negative $29.12 billion, and financing cash flow was positive $35.20 billion.
- Total assets increased to $916.78 billion from $860.17 billion. Total shareholders’ equity declined to $82.24 billion from $86.89 billion.
- Unsecured long-term borrowings were $217.69 billion, up from $189.09 billion; deposits were $138.60 billion, up from $124.10 billion. The reported leverage ratio was 11.1x and debt-to-equity ratio was 2.6x.
- Average daily liquidity coverage ratio was 132%, above the 100% minimum. Average global core liquid assets were $218.55 billion.
- Reported Basel III Advanced CET1, Tier 1 and total capital ratios were 10.9%, 12.7% and 14.9%, respectively; the supplementary leverage ratio was 5.8% on a fully phased-in basis.
Segment results
| Segment | 2017 net revenues | 2017 pre-tax earnings | Change in pre-tax earnings |
|---|
| Investment Banking | $7.37 billion | $3.85 billion | Up 36% |
| Institutional Client Services | $11.90 billion | $2.21 billion | Down 54% |
| Investing & Lending | $6.58 billion | $3.79 billion | Up 124% |
| Investment Management | $6.22 billion | $1.42 billion | Up 25% |
- Investment Banking benefited from higher advisory and underwriting revenue, particularly debt underwriting and equity offerings.
- Institutional Client Services was hurt by very low market volatility. FICC Client Execution revenue fell 30% to $5.30 billion; total segment revenue fell 18%.
- Investing & Lending revenue increased 61%, driven primarily by private-equity and public-equity gains and higher net interest income.
- Investment Management assets under supervision increased to $1.49 trillion from $1.38 trillion, supported by $86 billion of market appreciation and $29 billion of net inflows.
Material changes versus prior comparable period
- Revenue growth did not translate into earnings growth because of the $4.40 billion Tax Legislation charge and higher expenses.
- Market-making revenue declined 23% to $7.66 billion, while other principal transactions increased 64% to $5.26 billion.
- Compensation and benefits expense increased 2% to $11.85 billion, but the compensation-to-revenue ratio improved to 37.0% from 38.1%.
- Non-compensation expense increased 5% to $9.09 billion, reflecting investments in technology, growth initiatives, consolidated investments and Marcus.
- Loans receivable increased to $65.93 billion from $49.67 billion, and the allowance for loan losses increased to $803 million from $509 million.
- The firm returned $7.90 billion to common shareholders, comprising $6.72 billion of repurchases and $1.18 billion of common dividends. It repurchased 29.0 million shares during 2017.
- Fourth-quarter 2017 net revenue was $7.83 billion, but the tax charge produced a net loss of $1.93 billion and a loss applicable to common shareholders of $2.14 billion.
Guidance, outlook, commentary, risks and unusual items
- Management estimated that strategic growth initiatives could generate $5 billion of incremental net revenues and $2.5 billion of incremental pre-tax earnings in 2020. These are forward-looking estimates, not commitments.
- Management identified continued low volatility, lower market-making activity, declining asset values, weaker investment-banking volumes, asset outflows and tighter pricing as potential revenue pressures.
- The firm expects substantial continuing regulatory effects from Dodd-Frank, Basel III, the Volcker Rule, liquidity and leverage requirements, TLAC, derivatives regulation, MiFID II and Brexit-related restructuring uncertainty.
- Liquidity is dependent on secured and unsecured funding markets, deposits, collateral availability, credit ratings and the ability to transfer resources among regulated subsidiaries. A two-notch downgrade could have triggered approximately $1.86 billion of additional collateral or termination payments at year-end.
- Material risks include market, credit, liquidity, operational, model, cybersecurity, legal, regulatory, conduct, reputational and concentration risks. The firm also faces risks from retail lending and deposits, commodities activities and complex derivatives.
- Management estimated the upper end of reasonably possible aggregate legal losses at approximately $1.5 billion above recorded reserves for matters where a range could be estimated. Additional matters, including mortgage-related claims and regulatory investigations, could not generally be estimated.
- The filing states that the 2017 resolution plan satisfactorily addressed prior shortcomings, although regulators identified one shortcoming to be addressed in the next submission.
- PricewaterhouseCoopers issued an unqualified opinion on the financial statements and internal control over financial reporting; management concluded that internal controls were effective.
Most important facts for investors to verify
- Reconcile reported 2017 earnings and capital ratios with the $4.40 billion Tax Legislation charge and the $719 million tax benefit from share-based compensation accounting.
- Assess the sustainability and valuation sensitivity of the $4.58 billion of Investing & Lending equity revenue, including $3.82 billion from private equities and gains from company-specific events.
- Monitor whether market volatility and client activity recover sufficiently to improve Institutional Client Services revenue.
- Review the growth, credit performance and allowance adequacy of corporate, real-estate and Marcus loans, including $124.50 billion of lending commitments.
- Evaluate funding and liquidity resilience using $217.69 billion of unsecured long-term borrowings, $138.60 billion of deposits, the 132% LCR and downgrade-related collateral requirements.
- Review legal proceedings, mortgage-related repurchase exposure, 1MDB-related investigations and antitrust matters; the filing does not provide a complete estimate of potential losses for many of these matters.
- Track implementation of regulatory reforms, the fully phased-in capital requirements, TLAC and Brexit-related effects on European operations.
