Shares in focus: Don’t bank on Barclays

published 17 February 2012

The business

Barclays is a global financial services company. Its core businesses include retail banking (bank accounts, loans and savings) in Britain, Europe and Africa; the Barclaycard credit card business; Barclays Capital Investment Bank; and a wealth management business for high net-worth individuals.

The history

The company can trace its roots back to 1690 when John Freame and Thomas Gould began trading as goldsmith bankers in London. Freame's son-in-law, James Barclay, became a partner in 1736. In 1896 a merger of 20 private banks created Barclay & Company, becoming Barclays Bank Limited in 1917. Barclays is famous for bringing us things we now take for granted. In 1966, it launched the Barclaycard, Britain's first credit card. The following year saw it introduce the first automatic cash machine.

Barclays' recent history is more colourful. In 2007, it had a lucky escape when it lost out to RBS in its bid to merge with ABN AMRO. But it picked up Lehman Brothers' North American investment banking business the following year. Like other banks, it needed extra cash to see it through the financial crisis.

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However, shareholders refused to back a £4.5bn rights issue and it had to rely on Asian sovereign wealth funds to raise the funds. Like its peers, Barclays made hay during the boom years by taking on lots of debt. It is finding life a lot harder in these more austere times.

The chief executive

Bob Diamond has been CEO since 2011. Once described by Peter Mandelson as "the unacceptable face of banking", Diamond has turned Barclays Capital into a major player in investment banking. He started out as an academic, but became a bond trader in the late 1970s. In 1996, he joined Barclays and set about growing its investment bank. He has earned millions as Barclays Capital has become a significant proportion of Barclays' total profits. He took home £6.7m in 2010.

Why you shouldn't own the shares

Put simply, Barclays isn't a very good business most banks aren't, as they earn poor returns for shareholders with large amounts of risk. Barclays' return on equity (ROE) in 2011 was a paltry 6.1%. If that wasn't bad enough, it needed huge amounts of borrowed money to achieve this.

For every £1 in equity, Barclays has £24 in assets similar to buying a house with a 95% mortgage. Banks like Barclays can only make an acceptable ROE by having lots of debt. This makes them risky investments in a weak economy. Barclays' return on assets in 2011 was a mere 0.26%.

The problem for Barclays and other banks is that the world is cutting debt, not taking on more. This means fewer loans, less credit-card debt, lower trading volumes and less corporate activity. The end result is lower income. Add in the fact that banks will have to hold more capital to make them less risky, and Barclays' 2011 ROE could become the norm.

Barclays Capital pays its staff too much (nearly half its income) while shareholders receive little for the risks they take. At 237p, Barclays may trade at just over half its book value of 456p, but its low returns mean the shares are not cheap. Avoid.

The numbers

Stockmarket code: BARC

Share price 237p

Market cap £28.9bn

Net assets (Dec 2011) £65.2bn

Assets/equity (Dec 2011) 24 times

P/e (current year estimate) 7.8 times

Yield (prospective) 3.0%

What the analysts say

Buy 17

Hold 14

Sell 2

Average price target 246p

Director Shareholding

Director and shares held

R Diamond: 13,197,895

C Lucas: 297,467

M Agius: 232,244

Phil spent 13 years as an investment analyst for both stockbroking and fund management companies.

After graduating with a MSc in International Banking, Economics & Finance from Liverpool Business School in 1996, Phil went to work for BWD Rensburg, a Liverpool based investment manager. In 2001, he joined ABN AMRO as a transport analyst. After a brief spell as a food retail analyst, he spent five years with ABN's very successful UK Smaller Companies team where he covered engineering, transport and support services stocks.

In 2007, Phil joined Halbis Capital Management as a European equities analyst. He began writing for MoneyWeek in 2010.