Goldman Sachs earns $3.3b. in 1Q

Investment bank reaffirms its Wall Street leadership as fraud case looms.

April 20, 2010 22:44
4 minute read.
GOLDMAN SACHS headquarters (top center) overlookin

goldman sachs 311. (photo credit: AP)


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NEW YORK – Goldman Sachs reaffirmed its leadership among Wall Street banks on Tuesday as it reported its first-quarter profits doubled. But the news was overshadowed by the investment bank’s growing legal problems.

As Goldman Sachs Group Inc. executives held conference calls with banking industry analysts and reporters Tuesday, the questions focused more on the Securities and Exchange Commission’s civil-fraud charges against the company rather than its $3.3 billion earnings.

And the company came under scrutiny abroad. Britain’s financial regulator said it had begun an investigation into Goldman Sachs International, the bank’s London-based operations. The announcement from the Financial Services Authority follows pressure from Prime Minister , who over the weekend accused Goldman of “moral bankruptcy” for planning to pay big employee bonuses despite the investigation.

The SEC charges grow out of a 2007 transaction involving collateralized debt obligations, or CDOs, exotic mortgage-related securities that many analysts say helped accelerate the financial crisis and recession. The government said Goldman Sachs did not tell two clients that the CDOs they bought were crafted in part by billionaire hedge-fund manager John Paulson, who was betting on them to fail.

There were signs that there were political overtones to the case. The SEC commissioners approved the charges by a narrow 3-2 vote, according to two people with knowledge of the case. The split was along party lines, with both Republican commissioners arguing strenuously to hold back, the sources said.

Party-line split votes are unusual, especially in high-profile cases, former SEC officials said. But they are not unheard of and are more likely in politically fraught cases, they said.

Goldman Sachs and the other big banks have come under sharp criticism in the Obama administration and in Congress, especially since they have paid big bonuses to employees after having accepted bailout money during the financial crisis in 2008.

Goldman Sachs was one of the first banks to repay the money under the Troubled Asset Relief Program. But many critics are mindful that big banks’ trading practices helped cause the 2008 financial crisis.

Trading helped Goldman score another impressive quarter. The bank said its first-quarter earnings almost doubled to $3.3b. as its trading business again surpassed the rest of the financial industry.

Goldman Sachs earned $5.59 a share on revenue of $12.78b. as bond, commodities and currency trading buoyed its profits. That was well above expectations of analysts surveyed by Thomson Reuters. It was Goldman’s second-most profitable quarter since going public in 1999. In the fourth quarter, Goldman Sachs earned a record $4.79b.

Goldman Sachs also reported sharply higher fees from underwriting stock and debt offerings.

Yet investors remained fixated on Goldman’s legal battles.

During a conference call with analysts Tuesday, Goldman co-general counsel Greg Palm gave the company’s most detailed rebuttal to date of the SEC charges. After an opening statement that mirrored the bank’s previous comments, Palm took questions for nearly an hour in an exchange dominated by analysts’ interest in the fraud charges.

Palm was asked why Goldman Sachs did not disclose to shareholders that it had been served with a Wells notice about the SEC’s investigation of a transaction involving CDOs. A Wells notice is a letter describing potential charges against a company and requesting a response.

Palm said the company does not report to shareholders every time it receives a Wells notice. “We just disclose it if we consider it to be material,” he said. Palm said the company has provided the SEC with “an extensive amount of documents and testimony” over the past 18 months relating to the transaction.

The charges against Goldman Sachs took investors by surprise. Goldman’s stock fell almost 13 percent on Friday. It opened higher Tuesday but then slipped 97 cents, or 0.6%, to $162.35 in heavy trading.

Palm repeated the company’s statement that it did not know that charges were going to be filed against it on Friday.

The two clients in the transaction, the German bank IKB Deutsche Industriebank AG and the financial consulting firm ACA Management LLC, “were institutions with significant resources and extensive experience in the CDO market,” Palm said.

“We would never intentionally mislead anyone,” he said.

Goldman hired ACA Management to select the pools of subprime mortgages it used to create the CDO. However, the SEC alleges that Goldman didn’t tell the buyers that Paulson’s hedge fund, Paulson & Co., also had played a role in selecting the mortgage pools and stood to profit from their decline in value.

Palm denied that charge.

“The portfolio here was not selected by John Paulson,” he said. “The portfolio was selected by ACA.”

Palm said the bank has had no discussion with the US Justice Department regarding the transaction, suggesting it so far remains a civil complaint, not criminal.

In its earnings report, Goldman Sachs said it set aside $5.5b. in the first three months of the year to pay employee salaries and bonuses, up 17% from last year. However, the bank said the percentage of revenue set aside for compensation in the quarter fell from 50% to 43% year-over-year.

Goldman’s trading of risky assets once again generated the bulk of its profits. Revenue from trading of bonds, currencies and commodities rose 13% in the quarter to $7.39b.

Investment-banking revenue rose to $1.18%, up 44% from last year. Investment banking includes advising on corporate deals and raising capital for stock and bond issues.

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