Credit Agricole SA, simpler and possibly better

CASA has long been lagging its peers due to a wobbly business model. It was once offering every sort of banking and financial service (asset management, insurance or specialised financial services) while holding a stake in the Caisses Regionales. This amounted to circular ownership as these Caisses Regionales had the control of CASA via a holding named SAS rue la Boetie.

On top of this, CASA’s corporate centre had a dominating weight in operating profit which made its numbers hard to read ones (banks’ corporate centres remain indeed a particular dump for analysts).

A new CASA emerged from 2016 when CASA sold its stakes in Caisses Régionales and, overnight, became a less convoluted investment proposition. The market liked the idea as evidenced in the graph below. CASA’s share price has been outperforming its peers and the banking sector since 2015.

Despite this outperformance, CASA’s share price remains comparatively undervalued. Both its P/E and P/B stand indeed below that of the sector. An investor must indeed pay 0.56x CASA’s 2019 book value for the stock vs 0.7x for the sector. This is actually consistent with CASA’s ROE of 7.05% in 2019. While that number is low in absolute terms, especially in the light of a 10% cost of equity, CASA has managed to regularly increase it since the 2008 financial crisis and the Eurozone crisis in 2012 (mainly from hazardous bets in Greece).

CASA’s new impetus has coincided with the arrival of the new CEO Philippe Brassac. His very first action was back in 2016 to sell CASA’s shareholding in the Caisses Regionales to these same…Caisses Regionales. Unwinding that circular loop enabled the French bank to unwind another complex mechanism, namely Switch, which has also alleviated the corporate centre’s preponderance.

CASA has since been through a 2016–19 ambitious plan, which was fully implemented as soon as the end of 2018 despite the impact of low/negative rates and decreasing revenues in its CIB. The cost/income ratio is the most symbolic number as it has decreased from 69.3% in 2016 to an expected 62.5% in 2019.

The 2019–22 MTP was yet unimpressive as most targets were already factored in consensus’ expectations. Management expects net profit above €5bn in 2022 (translating into a ROE above 10%), only 4% above consensus forecasts (we did not make 2022 forecasts at that time but our expectations for 2021 are roughly in line with that of the consensus).

The end of the asset gathering martingale?

It has taken CASA a long time to reshape towards a model à la Natixis. The sales of its stakes in the Caisses Regionales was a first step. It then listed its AM arm, Amundi. This has enabled the French bank to expand into these capital-light activities via the acquisition of Pioneer. And, as of today, we do not see an absolute need for CASA to keep its French retail banking activities, i.e. LCL. These directly face the Caisses Regionales, which have had an aggressive tariff policy on mortgages. As mutual banks do not need to serve shareholders, they are indeed not that demanding regarding their profitability. Facing such competition, LCL’s revenues have been slipping since 2013. It is therefore surprising that CASA’s last three-year plan has not pushed towards more balance sheet contraction, i.e. selling LCL. Management might be feeling something is changing for asset-gathering activities.

The emphasis has been indeed on such activities lately, which have been the prime driver to the bank’s net banking income and its profitability in recent history. Despite the implementation of Mifid 2, CASA, via Amundi, has managed to increase its AM-based revenues. Regulation has its loophole and universal banks have managed to navigate the headwinds. Amundi has indeed long been leveraging its captive network, which is huge, thanks to the Caisses Regionale’s retail network.

At the end of the day, the only change is in the split of the management fees paid by investors as the total amount collected by Credit Agricole is not changing.

Risks /costs of risks in non-banking

Unfortunately (for CASA), innovation has enabled more competition on the fees side. As passive management will gain market share in Europe too, asset managers’ margins will compress as well. That is ever more true for big asset managers that favour their captive network vs. those looking to generate real alpha…

On top of that, the recent drama regarding Woodford’s funds, or H2O to a lesser extent, has been a reminder for regulators that capital and liquidity requirements should be increased at fund managers which will lower returns.

The other big engine for CASA has been insurance. As is the case for Amundi, CASA leverages the Caisses Regionales’ retail network to sell insurance products, both life and non-life products (there are also synergies with Amundi for savings products). That has been driving inflows and revenues over recent years. Banks continue to benefit from a very favourable treatment regarding capital requirements for insurers. CASA’s capital consumption is roughly 60% lower than what it should be thanks to the Danish compromise. Recent recapitalisation of small French insurers (Suravenir and AG2R La Mondiale) are, however, a fresh reminder of insurers’ fragility in a context of ever lower (negative) rates.

According to our insurance analysts, 166% (CA Assurances’ solvency ratio) is a fragile capital position. Having a Solvency II ratio lower than 150% is alarming. However, in some countries like Norway or Finland, there are “transitional rules” that can be used by companies. This is the case of Sampo and Storebrand. In H1 19, all companies recorded a reduction in their Solvency II ratio due to low interest rates. Big operators post ratios above 180%, which is comfortable, but need to be monitored. Insurers will most likely be obliged to put more capital aside.

Revenue generation from these two engines are still expected to have a good year but their capital needs might have been underestimated. That will therefore mechanically depress the bank’s profitability.

Valuation-wise, we currently have an Add recommendation with a 9% upside. Our NAV/SOTP valuation yields a 10% upside, meaning the company is fairly valued. On a Basel IV basis, we do not think CASA has any excess capital. We are rather conservative as we expect a 15% inflation in CASA’s RWA translating into a 150bp decrease of its CET1 ratio, whereas management is expecting a 60bp impact. Our intrinsic value yields a 28% upside, mainly due to a lower cost of equity than in the one used in our NAV SOTP (where we are using a conservative number of 11.5%).