When investment banking becomes a burden

Is BZW now little more than a millstone for the Barclays group, a business it would far better be shot of, or will the strategy adopted of staying with investment banking, investing in it and encouraging it, eventually be vindicated? We are unlikely to know the answer one way or another for a while yet but certainly the commitment shown towards BZW is beginning to look a lot more high risk than it was. Sir Brian Pitman, chairman of Lloyds TSB, has always taken the view that the culture, pay and underlying business of investment banking is so alien to that of a good old-fashioned clearing bank that the two can never live happily together. Looking at Barclays' results yesterday, you begin to understand what he means.

There could hardly be a starker contrast than that between the poor profits, bumper pay packets and brutal management restructuring at BZW, and the buoyant profits, restrained costs and feeling of purpose that characterises the main UK clearing bank. Even Martin Taylor, Barclays' chief executive, admits that if he cannot get it right at BZW within two to three years, then the strategy will have to be reconsidered. As it is, he believes he now has the management team necessary to take BZW forward. But at what cost? There's a way to go yet before BZW emerges from the woods. If that highly paid new team fails to bring costs under control with dispatch, it possibly won't.

The problems of BZW have spoilt an otherwise glowing performance from Barclays and prompted some unfavourable comparisons with Lloyds TSB. How is it, many analysts were saying yesterday, that Lloyds can both grow its business by more than Barclays and also show Barclays the way in terms of cost-cutting. The Lloyds TSB cost base went down last year. At Barclays it went up. Part of the answer lies with BZW.

Strip that out and the comparison looks rather more flattering. The comparison is also unfair on a number of other levels. Barclays has chosen to write off the cost of mortgage incentives, Lloyds to take them into profits. Lloyds also wrote back some Third World debt while cost cutting and restructuring is largely being paid for out of reserves. Taken together, these factors might have been worth anything up to pounds 500m to Lloyds TSB profits.

Nor can anyone argue too much with the 23 per cent return on equity now being achieved at Barclays. Even adjusting for the credit cycle, Barclays reckons its return is now 19 per cent and rising. If this is sustainable, then the shares ought to be on a significantly higher rating. Indeed the problem for most ordinary folk with these profits is not that they are too low, but that they seem excessive. Outside the City they will be viewed as the misgotten spoils of the banking oligopoly.

There's no doubt who has the more realistic take on this. As always it is the general public, for the greatest threat to banking profits comes not from the sort of fancy acquisitions and ill-judged lending that used to lay them low, but from new competition, attracted by the very high returns now showing through. Barclays, then, faces a double challenge. Getting BZW back on course is going to be hard enough. Tougher still will be defending the franchise from the army of newcomers being assembled against it.

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