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CBA set to shine amid sector pain

Prashant Mehra  |  12 Aug 2020Text size  Decrease  Increase  |  
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The short-term outlook for Commonwealth Bank may not be pretty, but the bank’s scale will help it endure higher loan losses while remaining competitive on price and service, says Morningstar senior analyst Nathan Zaia.

Australia’s largest bank posted a drop in full-year profit and sharply cut its dividend as the coronavirus pandemic limited economic activity and forced it to make provisions for more loan defaults.

The bank said cash profit for the 12 months to 30 June fell to $7.3 billion, down 11.3 per cent from a year ago. It also slashed its final dividend to 98 cents a share, the lowest payout since 2006.

Despite the weaker earnings and payout, Zaia says CBA’s scale advantages would become increasingly important as the entire sector feels the economic pain of the pandemic and set it up to generate strong returns on equity once economic conditions improve.

The wide-moat stock is still slightly overvalued according to Zaia’s fair value estimate, which remains at $71 a share.

'Lucky to be in very strong position'

“It has been a challenging six months for many Australians, from bushfires at the start of the year, right the way through the pandemic,” chief executive Matt Comyn said on Wednesday.

“We’re lucky that we came into this period in a very strong position, so the bank’s been able to operate very effectively during that time, but of course we have been impacted.”

CBA’s total operating income rose 0.8 per cent to $23.76 billion for the year, helped by growth in home loans and deposits.

But net interest margin dipped to 2.07 per cent in a lower interest rate environment.

Low cash rates will continue to pose a revenue headwind, Zaia said.

He said this was apparent from CBA’s net interest margin slipping in the past six months, although this has been somewhat offset by lower wholesale borrowing costs and growth in low-cost transaction deposits. 

“But banks will find it increasingly difficult to reduce the cost of funds at the same rate as lending rates,” he said.

The lender said business lending was up 5.1 per cent and home lending rose by $18.4 billion, while household deposits increased by 9.8 per cent.

However, loan impairment expense also increased over the year to $2.5 billion. This included the $1.5 billion provision CBA announced in May for potential defaults on account of covid-19-related shutdowns.

The bank's total provisions have risen to $6.4 billion.

It said around 135,000 home loans, or 8 per cent of the accounts, were still on hold as of 31 July, although this was down from a peak of 154,000.

Another 59,000 business loans, or 15 per cent of accounts, were on hold at July-end, down from a peak of 86,000 earlier in the year.


Source: Morningstar Premium

Morningstar’s Zaia said scale and efficient loan approval processes were clearly helping CBA grow the loan book in the middle of a recession. 

“Consistent lending decision times helped the bank capitalise on borrowers looking to refinance and buyers looking to act quickly while sale listing numbers were down,” he said.

Zaia expects these trends to continue even as competition and home loan refinancing from existing customers will also drag margins lower. He is forecasting net interest margins of 2 per cent in fiscal 2021 and 1.95 per cent in fiscal 2022.

The bank expects the economy to contract by 4.2 per cent in 2020, with unemployment to peak at 9 per cent and then take a long period to reduce from these levels.

Comyn said the economic outlook remains highly uncertain, with the pace of recovery likely to be longer than previously expected.

“The next few months will be critical, and some sectors will take longer to recover than others, however, we remain positive about Australia’s long-term prospects,” he said.

Zaia agreed, saying the actual impact on the bank’s earnings and capital position will only be clear once the shield (loan deferrals) is lifted and stress on the loan book can be quantified.

Dividend falls by 31pc

Given this challenging environment, the bank said its payout represented a cautious approach in capital management.

CBA's final dividend payout ratio was 49.95 per cent of its second-half statutory earnings. This was in line with the Australian Prudential Regulation Authority’s (APRA) recent guidance for banks to retain at least 50 per cent of earnings amid the crisis.

Its full-year dividend of $2.98, fully franked, was 31 per cent lower than the previous year. 

The final dividend of 98 cents was broadly in line with Morningstar’s estimate of $1 a share.

“Our fair value estimate for Commonwealth Bank of  $71 a share assumes modest loan growth, softer net interest margins, flat growth in fee and trading income, and tight cost control from fiscal 2020,” Zaia said.


This article is part of Morningstar's Reporting Season 2020 coverage. The calendar will be updated daily to connect you with our equity analysts' take on the financial results.

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