Commonwealth Bank’s (ASX: CBA) fiscal 2025 profit increased 4% to a record $10.3 billion. Loan growth of 4% and improved net interest margins, or NIMs, more than offset 6% expense growth. Lower loan impairment expenses also contributed.

Why it matters: The result is largely as expected, and we maintain our medium-term forecasts. NIM of 2.08% was flat half on half, holding up amid lending and deposit competition, and supported by the bank writing more loans directly as opposed to using less profitable third-party brokers.

  • We are positive on the outlook, summed up by forecast return on equity of 16% in fiscal 2030 compared with 13.5% this year. We forecast average annual earnings growth of 5.5% over the next five years, driven by loan growth slightly faster than the market, margin expansion, and cost savings.
  • Full-year dividends of $4.85 missed our $5.00 forecast, as we anticipated a payout ratio slightly above the bank’s 70%-80% target range. However, we expect dividend growth to track earnings, supported by healthy provision levels and surplus capital. Credit quality remains sound.

The bottom line: We increase our fair value estimate by 2% to $100 for wide-moat Commonwealth Bank on the time value of money.

  • Despite easing on the result, and down 11% from June highs, shares are still materially overvalued, on a forward price/earnings of around 26, dividend yield of 3%, and price/book of almost 4 times. In our opinion, shares are not priced for perfection but detached from the underlying fundamentals.
  • A premium to peers is warranted given the strength of its moat—lower cost of funding and better operating efficiency, which drive higher ROE—but the gap is extreme. Granted, ANZ has some operational and governance challenges, but it trades on a much lower forward P/E of 13 times.

Key stats: The capital position is strong. Common equity Tier 1 is 12.3%—materially above regulatory requirements—supporting our forecast fiscal 2026 $5.25 fully franked dividend.

A resilient business model

Commonwealth Bank of Australia is the largest of Australia’s four highly profitable, wide-moat-rated major banks. It offers a full suite of banking services in Australia and New Zealand. In the long run, the bank has consistently increased shareholder wealth in favorable economic times. The loan book’s large weighting to home loans and the high proportion of customer deposits reduces risk on bad debts and sudden changes to funding costs.

While Australian housing is expensive and debt/household income ratios are high, we remain comfortable for several reasons. Tight underwriting standards, lender’s mortgage insurance, low average loan/valuation ratios, a high incidence of loan prepayment, full recourse lending, and a high proportion of variable rate home loans combine to mitigate potential losses from mortgage lending.

With cash rate increases to combat high inflation being swift and large, the risk of higher credit losses has increased materially. It also reduced demand for credit. Credit demand remained sound overall, and with cash rates now falling, the risk that the bank is underprovisioned is diminishing. We expect modest credit growth and margins improvement. Operating expenses will continue to rise due to inflationary pressure and the bank investing to capture growth opportunities, this despite productivity improvements being realized.

Bad and doubtful debts expense peaked in first-half fiscal 2009. Elevated loan losses in fiscal 2020 were entirely due to loan loss provisions. With large provision balances, and economic conditions improving, loan losses are expected to be moderate in the short term.

A string of divestments plus strong organic capital generation see the bank retain a strong capital position even after completing share buybacks.

CBA bulls say

  • Commonwealth Bank of Australia’s well-managed net interest margins, sound asset quality, and strong balance sheet continue to consistently deliver solid financial results.
  • Costs have been increasing due to inflation and investments in technology, but in the longer term, we expect tighter control to support earnings.
  • Strong organic capital generation leave the bank well placed to make market share gains while still paying attractive dividends to shareholders.

CBA bears say

  • Increased regulatory, political and public scrutiny could erode the bank’s pricing power and over time, its wide economic moat.
  • Commonwealth Bank is a major beneficiary of transaction account funding, and competitors paying much higher rates could encourage more customer switching and increase the average cost of funds.
  • Slow GDP growth and highly indebted households could see credit growth slow further.

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Terms used in this article

Fair Value: Morningstar’s Fair Value estimate results from a detailed projection of a company’s future cash flows, resulting from our analysts’ independent primary research. Price To Fair Value measures the current market price against estimated Fair Value. If a company’s stock trades at $100 and our analysts believe it is worth $200, the price to fair value ratio would be 0.5. A Price to Fair Value over 1 suggests the share is overvalued.

Moat Rating: An economic moat is a structural feature that allows a firm to sustain excess profits over a long period. Companies with a narrow moat are those we believe are more likely than not to sustain excess returns for at least a decade. For wide-moat companies, we have high confidence that excess returns will persist for 10 years and are likely to persist at least 20 years. To learn about finding different sources of moat, read this article by Mark LaMonica.