Goldman's Private Equity Spin-off - For Rules? or Profits?

Banks aren't boy scouts. So, I tend to be skeptical about banks proactively doing things deigned simply to adhere to new rules, like spinning off their private equity arms  - especially when it's years before those actions are necessary. Yet, despite my general cynicism, I was surprised that even my hero, Tyler Durden, considered the possible spin-off of Goldman's prop desk a positive sign. Now, Andrew Ross Sorkin considering anything Goldman does in a positive light, I expect - but Tyler?

It made me think maybe I was wrong this time. So I took a look at some numbers.

In the last quarter (Q2/2010), Goldman's net revenues were $8.84 billion. Trading (of the Non-Volcker Rule or NVR - type) comprised $5.6 billion (or 63%) of that total. Principal Investments (PI: the area that Goldman considers to be its private equity leg) were $943 million (or 10%.) Compare that to the second quarter of 2009 (q2/2010), in which net revenues were $13.8 billion, trading (NVR) was $10.78 billion (or 78%) and principal investments were $811 million (5.9%).

First, either way -  in good and less good trading quarters - PI comes in at, or below, 10% of total net revenues, not tiny of course, but nothing particularly huge either. 

Second, this is what Goldman's CFO, David Viniar said about that PI's contribution this past quarter:

"Let me now review our Principal Investments, which produced net revenues of $943 million in the second quarter. Our investment in ICBC generated $905 million, largely driven by the recognition of our liquidity valuation adjustment as the transfer restrictions on our investments expired during the quarter. Our corporate and real estate investment portfolios were not meaningful contributors during the quarter."

He basically said that a key part of the business that he considers to be principal investing or private equity (which mostly represents a stake in China's ICBC) came to the end of its investment period. When Goldman bought its stake in ICBC, partners and other investors had to stay parked for three years. Those years are over and they made a killing. Shifting out of that investment because of a US law, rather than just to take profits, might look a whole lot better to China. The rest, as Viniar says - is 'not meaningful.'

Separately, many of the news reports say Goldman may spin off its prop trading desk (others say its private equity arm): yet, nowhere does Viniar mention the prop desk as a separate earnings category, nor is it delineated separately in the firm's earnings report, so it remains to be seen how that would look in practice, and it's unclear why these news reports don't differentiate - or use the earnings statements to do so.

True, Goldman wouldn't be the only bank spinning off a private equity arm: there's Bank of America, Citigroup, and Morgan Stanley, too. But, for all the 'adhering to rules' spin of the spin, these moves aren't particularly meaningful in altering the Wall Street landscape, as the areas aren't significant contributers to the bottom line in revenue or risk, compared to 'customer-driven' or 'market-making' trading. If they were, they wouldn't be happening before the potential 7 years grace-period written into the financial reform bill. Plus, the 'spun-off' entities wouldn't be comprised of shifted investments from the main bank, and run by former employees of the main bank either into the asset management arm or a newly created entity - that's about as close to an overlap as you can get.