(Adds background on market challenges)
By Joseph A. Giannone
NEW YORK, Dec 18 (Reuters) - Goldman Sachs Group Inc (GS.N) said on Tuesday fourth-quarter earnings rose 2 percent, beating expectations and capping a record year, but its shares fell more than 3 percent after it gave a cautious outlook.
The world’s largest securities firm by market value -- which largely sidestepped the credit crisis that afflicted its competitors -- said net income rose to $3.22 billion, or $7.01 a share, in the quarter ended Nov. 30, from $3.15 billion, or $6.59, a year earlier.
Net revenue rose 14 percent to $10.74 billion as higher merger advisory fees and surprisingly strong debt trading bolstered results.
The results exceeded analysts’ expectations of earnings of $6.68 a share. But Goldman’s shares fell 3.4 percent to close at $201.51 because the firm said trading and investment banking markets would make earnings growth challenging.
“We’re cautious about the near-term outlook for our businesses as we see dislocation in some of the world’s capital markets has continued,” said Goldman Chief Financial Officer David Viniar in a conference call with reporters.
Viniar declined to provide details on mortgage-related write-downs, except to say losses and offsetting gains from hedges were both “modest.” Exposures to leveraged loans, mortgage-related securities and so-called Level 3 assets all decreased during the quarter.
Goldman’s muted outlook, combined with Lehman Brothers Holdings Inc LEH.N last week reporting a 12 percent decline in earnings, cast a pall on financial stocks. The shares of Morgan Stanley (MS.N), expected to report a quarterly loss on Wednesday, fell 3 percent as analysts forecast Wall Street’s worst earnings season since the Internet bubble burst in 2001.
The Goldman results capped a record year for the investment bank, which generated a 33 percent return on equity, despite the turmoil in credit markets and a slump in leveraged buyouts.
And while the rest of Wall Street recorded billions in mortgage and credit write-downs, Goldman’s losses were modest.
Goldman Chief Executive Lloyd Blankfein “avoided the land mines that exploded the competition and made a profit in a challenging environment because clients stayed with him,” said Michael Holland of money management firm Holland & Co.
Employees of Goldman certainly profited, as salaries, bonuses and benefits surged 23 percent to $20.2 billion for the year. With head count growing 15 percent to 30,500 people, average compensation was about $660,000.
Once again, it was the firm’s traders and principal investment desks that set the pace, generating nearly two- thirds of the revenue.
Fixed-income, currency and commodities trading revenue rose 6 percent to $3.3 billion. Goldman included $800 million in gains from its sale of Cogentrix Energy power plant interests, which it regards as part of the commodities business. The quarter also included higher revenue from mortgages.
Viniar declined to comment on Goldman’s current mortgage trading position -- he had disclosed a large gain made from betting against subprime mortgages during the third quarter -- but he cautioned that the subprime crisis is not yet over.
“We’re getting closer to the bottom. I don’t know if we’ve reached there yet,” Viniar said.
Goldman was also helped by a $500 million net gain from leveraged loan commitments, an area that prompted $1.7 billion in third-quarter net write-offs.
Viniar told reporters that leveraged loan markets opened up briefly in October, allowing the bank to trim positions and reduce its overall exposure.
Principal investments booked revenue of $1.04 billion from a variety of corporate and real estate investments, as well as a $163 million gain on its stake in Industrial and Commercial Bank of China Ltd (601398.SS).
“We expect some investors will be less impressed with the mix of earnings as trading was clearly difficult, offset by larger principal investment gains,” Sandler O‘Neill analyst Jeff Harte said in a client note.
Fox-Pitt Kelton analyst David Trone observed that roughly 75 cents a share came from unexpected investment gains, not including the Cogentrix deal. Some skeptics will argue those items were the difference in Goldman beating expectations, he said.
“The absence of mortgage woes was fully expected. More importantly, the problems in corporate credit markets are having a bigger negative impact than we expected,” Trone said in a research note.
Goldman officials stressed that client businesses helped carry the day. Equities trading revenue rose 22 percent to $2.59 billion, for example.
Investment banking net revenue rose 47 percent to $1.97 billion, as a surge of completed deals helped to double merger advisory fees. Underwriting fees were flat, as increases in stock offerings were offset by a decline in debt issuance.
Goldman ended the year as the No. 1 adviser in announced mergers and acquisitions worldwide.
An area of concern is the shrinking backlog of pending fees from investment banking because the impasse in debt markets has slowed new deals. The outlook for buyouts and mergers next year depends on the economy, Viniar said.
“I think there will be LBOs in 2008. There will be plenty of them. I don’t think we’ll see the mega public-to-private that we saw in 2007 for a while,” Viniar added.
The asset management business, while boasting sharply higher revenue and client assets, faces significant redemptions by customers in struggling hedge funds, namely Global Alpha. Viniar warned that withdrawals in some computer-driven funds will swell in the new fiscal year. (Additional reporting by Dan Wilchins and Ed Leefeldt; Editing by Gerald E. McCormick/Andre Grenon)