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Goldman Sachs Sees Slowing of Client Activity as Buffett Takes Stake

Updated from 8:03 a.m. ET with analyst commentary, updated share prices and CFO comment

NEW YORK ( TheStreet) -- Goldman Sachs's (GS - Get Report) third-quarter earnings  beat expectations, even as the nation's largest standalone investment bank saw its revenue fall sharply from a drop off in the firm's trading and investment banking activity.

Goldman Sachs reported earnings of $2.88 a share, on $6.72 billion in third-quarter revenue. While revenue fell sharply from second quarter and year-ago levels, the firm's bottom-line proved to be resilient as expenses continue to fall.

The Lloyd Blankfein-run bank was forecast by Wall Street analysts to earn $2.47 in earnings per share on $7.35 billion in revenue, according to data compiled by Bloomberg, a drop in revenue and profit results from this time a year ago. Goldman's net income, however, grew slightly year-over-year, beating expectations.

Generally, the third quarter is a slow time for Wall Street, however, it can be leading indicator of expectations heading into the final quarter of the year.

"The third quarter's results reflected a period of slow client activity," Lloyd C. Blankfein, Goldman's Chairman and CEO said in a statement.

"As longer term U.S. budget issues are resolved, we could see an improvement in corporate and investor sentiment that would help lay the basis for a more sustained recovery," he added.

Heading into earnings, analysts forecast Goldman's fixed income currency and commodities unit would face the sharpest quarter-over-quarter drop off given a sharp rise in interest rates during the quarter and uncertainty over government policy in Washington.

While expectations generally were for Goldman's FICC unit to see its revenue drop below $2 billion, an over 20% slide from the second quarter, the bank posted far weaker-than-expected results. Goldman's FICC division earned revenue of just $1.25 billion, a 44% year-over-year decline that reflected significantly lower activity in mortgages and interest rate products and currencies.

Goldman's debt and equity underwriting businesses were also expected to post a sharp fall in revenue, however bright spots were forecast to be the firm's equity trading business and its investment management unit.

One key component of Goldman's earnings in recent quarters is its investment and lending division. That unit houses Goldman's private equity investments and some of its remaining proprietary fixed income and equity investments. Gains in the investment and lending unit has driven much of Goldman's earnings growth in 2013, however, investors have generally discounted earnings from the division.

Goldman's investment and lending division reported $1.48 billion in revenue beating expectations of $1.21 billion in revenue from the business. Goldman booked gains of nearly$1 billion from its private equity investments, as well as $300 million in gains from debt holdings.

Shares in Goldman Sachs were falling over 2% in pre-market trading to $158.60.

On an earnings call with analysts, Goldman CFO Harvey M. Schwartz said the bank estimates it's supplementary leverage ratio under proposed new guidelines would be approximately 5% for the firm and approximately 6% for the
bank. "[It's] pretty early in the process. We'll see how it evolves," Schwartz said of the regulation, which is set to become effective in 2018.

Goldman Sachs shares were falling over 2.5% to $157.99 in mid-afternoon trading on Thursday.

The firm's earnings come just as Warren Buffett-run Berkshire Hathaway (BRK.B) converted a large stock warrant for shares in Goldman Sachs into a 2.91% stake in the New York-based firm worth just over $2 billion.

The conversion of warrants created roughly 13 million new Goldman shares. Goldman has been one of the most prominent net repurchasers of shares in the banking industry. In the firm's third quarter results Goldman repurchased 10.2 million shares at an average cost per share of $161.59, putting quarterly buyback spending at $1.65 billion. 

Credit Suisse analysts had expected about $1.5 billion in third quarter share buybacks, or an amount that would nearly offset Berkshire's warrant exercise. Goldman's total share count fell to below 500 million shares in the quarter, a post-crisis low for the bank.

The bank also increased its quarterly dividend to 55 cents a share.

Overall, Goldman's results reflected a weakening across the firm's core business, but a continuation of strong performance on expense and capital metrics. The bank's return on equity for the quarter was 8.1% and now stands at 10.4% for the first nine months of 2013. Operating expenses were $4.56 billion, 25% lower than the third quarter of 2012 and 24% lower than the second quarter of 2013.

"Lower revenues were largely matched by lower expenses. The beat to us was really driven by a lower tax rate so we would characterize the quarter as a lower quality beat," Frederick Cannon, a Keefe Bruyette & Woods banking analyst said in a note reacting to earnings.

"We read the dividend increase and higher share repurchase to mean that GS is comfortable
with its capital position ahead of the 2014 CCAR process," Cannon added. He expects Goldman to boost its dividend to 65 cents a quarter by the mid-2014.

-- Written by Antoine Gara in New York.

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