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Commerzbank faces same old problems after merger talks end

Bank's growth strategy relies on heavy marketing to attract clients, but that's expensive

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Commerzbank kept adding clients and boosting lending in Q1, with interest income rising 12 per cent. But turning that business into real money remains a challenge.

Frankfurt

AFTER its brief flirt with Deutsche Bank AG, Commerzbank AG is back facing the same old problems that have plagued its turnaround effort for the past two years.

The Frankfurt-based bank kept adding clients and boosting lending in the first quarter, with interest income rising 12 per cent. But turning that business into real money remains a challenge for chief executive officer Martin Zielke, who saw profit slump by more than half.

Halfway through his four-year turnaround plan, negative interest rates and competition keep eroding profitability, even as Mr Zielke can point to the jump in customer numbers and lending volumes as signs of progress.

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Five weeks of talks with Deutsche Bank to build a larger, more competitive bank through a merger collapsed last month, fuelling speculation that another bidder for Commerzbank may come forward.

"We were on a standalone basis before the merger talks, we are on a standalone basis right now and I wouldn't necessarily see why just the failure of a merger attempt is questioning the standalone strategy," chief financial officer Stephan Engels said in an interview with Bloomberg TV. "Having said that, we all know that there is the discussion about consolidation in Europe."

Commerzbank fell 0.94 per cent at 2.45pm in Frankfurt trading, after gaining as much as 1.3 per cent earlier.

The stock has risen 32 per cent this year, the best performing of the large European banks, as the breakdown of merger talks fuelled speculation that other lenders may seek to bid.

The bank's extensive retail network and exposure to Germany's mid-sized companies have made it a potential acquisition target for rivals including UniCredit SpA and ING Groep NV, people familiar with the matter have said.

Mr Zielke, who has refocused the bank on lending to corporate and retail clients and away from investment banking, has told employees that the bank needs to gain market share for costly investments to pay off, whether that's through a deal or on its own. Mr Engels said on Wednesday that domestic mergers would be easier to pull off than cross-border deals.

Commerzbank added 123,000 new retail customers and 800 business clients during the quarter. Revenue still declined 2.8 per cent, in line with estimates, as it revalued certain assets on its books.

"We see these as solid results," Citigroup Inc analysts Nicholas Herman and Andrew Coombs wrote in a note. They "should be taken in the context of already strong share price performance" this year.

The bank's growth strategy relies on heavy marketing to attract clients, but that's expensive and new clients take time to translate into business. After conceding it was too optimistic in setting growth targets, the bank has set a goal to grow revenue by 3 per cent a year, a target Mr Engels confirmed.

The talks with Deutsche Bank attracted a lot of attention from clients, Mr Engels said on a conference call, adding he didn't see a reason to worry about the impact on the second quarter.

Deutsche Bank concerns about client attrition were among the reasons for calling off a deal, people familiar with the matter have said. Commerzbank has said it plans to update investors on strategy after the summer. 

It was the third straight quarter that Commerzbank saw revenue shrink. Mr Engels said he doesn't expect any relief from higher interest rates for the next two years, meaning the environment for banks in Europe will continue to be difficult for banks.

While much of the 54 per cent drop in net income was due to a higher tax burden, operating profit fell as well, declining 5.6 per cent. The bank's return on tangible equity, a key measure of profitability, stood at 1.9 per cent in the first quarter.

European banks on average have a ratio of around 10 per cent, according to Bloomberg Intelligence. "We will continue to work on our profitability," Mr Zielke said in a statement. BLOOMBERG