Value-Starved Citigroup Risks Some Bottom Line

Citigroup'sC plan to spin off its Travelers Property Casualty unit could put a fairly big dent in the company's earnings over the next couple of years. Still, analysts were excited about the proposal and the long-term opportunities it may provide.

Wednesday, Citigroup confirmed that it plans to sell 20% of Travelers Property Casualty in an IPO early next year, then spin the remainder off to shareholders by the end of 2002. Citi will continue to sell Travelers insurance after the divestiture, but will also form distribution alliances with third parties to offer consumers a wider choice of insurance products.

In a press release, Chairman Sandy Weill said he hopes to focus resources "more fully on higher-growth areas." Still, Citigroup's earnings may be reduced over the near term.

"We expected that [the unit] would have comprised about 8% of Citigroup's total EPS next year. Twenty percent of that 8%, or 1.6% of total EPS, should go away when the IPO occurs," said Goldman Sachs analyst Richard Strauss.

After the remaining 80% is distributed to shareholders, the full 8% should also "disappear," resulting in an earnings reduction of about 10 cents to 11 cents a share next year, Strauss noted. Goldman is currently looking for earnings of $3.28 in 2002, while the consensus is for $3.36.

Putnam Lovell Securities estimates that the cost to earnings from the initial 20% offering will be $125 million, or 2 cents a share in 2002. That loss should widen to 29 cents a share in 2003 once the remaining 80% has been distributed, the firm said.

More or Less

Still, Merrill Lynch analyst Judah Kraushaar believes dilution to earnings will be "immaterial" because the firm's plan for a $1 billion special dividend and IPO proceeds of about $4 billion to $5 billion should allow the company to reinvest in higher-growth businesses, which should "counter the initial foregone earnings."

It isn't clear yet just how the proceeds from the IPO will be used, although it is possible they will be redeployed to the emerging markets or consumer areas.

Analysts also note that the proposal is positive long term, as the property and casualty business is the most cyclical and lowest-returning of Citigroup's array of businesses.

In the third quarter, Travelers Property Casualty personal-lines income fell 57%, reflecting $42 million in after-tax catastrophe losses associated with the terrorist attacks. The unit's commercial lines posted a loss of $136 million, which included $448 million in after-tax catastrophe losses as well as lower net investment income.

"Casualty and property have always been a slow-growth, no-growth area, and this creates a lot of opportunity to drive capital and returns," said Andrew Collins, an analyst at U.S. Bancorp Piper Jaffray.

Unlocked

Excluding the property and casualty business, earnings growth and return on equity would have increased by an additional 100 basis points over the past three years, according to Prudential Securities analyst Mike Mayo.

The firm's improved growth prospects also warrant continued multiple expansion, something that has eluded the company this year, analysts said.

While Citigroup trades at 18 times trailing earnings, American Express AXP sports a multiple of 27, Wells Fargo WFC trades at 21 times earnings and American International Group AIG has a multiple of 31.

UBS Warburg analyst Diane Glossman said her forward price-to-earnings ratio for Citigroup now stands at 16, which is already up from 14 before the deal was announced. The stock rose almost 4% on Wednesday, but was down fractionally Thursday to $49.83.

Analysts also like the proposal because it shows that Citigroup's expansion story isn't only about acquisitions. In fact, they say, the company is focusing on shareholder value and moving at a time when there is solid interest in the property and casualty business. The 20% offering is expected to yield more than the company paid to buy the stock in April 2000. Citi bought the initial 80% in 1993.

"The important thing is that Citigroup is exiting a business that we estimated would grow by just 7% to 8% over time," said Merrill's Kraushaar. "The spinoff allows Citigroup to reinvest in areas offering double-digit potential and/or superior margins than offered by Travelers."

Citigroup's stock is almost unchanged since the start of the year, while American Express has tumbled 36% to $34.25, Wells Fargo is down 20% to $43.56 and American International Group is down 21% to $80.63.

Still, Bank of America BAC has surged 43% to $63.50, while Bank One ONE is up 8% and FleetBostonFBF is up 4%.