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Westpac: another dividend bites the dust

Emma Rapaport  |  05 May 2020Text size  Decrease  Increase  |  
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Westpac is likely to pause its dividend till year end and while it's copping pain from coronavirus-related impairments, Australia's oldest lender is strong enough to get through, says Morningstar.

Almost half of the ASX200 have announced downgraded or withdrawn future earnings guidance in a bid to shore up their balance sheets since the coronavirus sell-off and some analysts warn that income investors may face up to a three-year wait before the dividend tap is turned back on.

Morningstar equity analysts Nathan Zaia said  Westpac's update on Monday was a "result to forget". Even though he expects elevated loan losses, interest-margins to contract, and additional capital to be raised, Zaia believes the bank is cheap if investors can look past the trough in earnings.

Zaia is forecasting a materially reduced dividend for the full year, factoring in the need for $3.6 billion in new capital over fiscal 2020 and 2021.

"With Westpac having made the unpopular decision of deferring the dividend, we believe shareholders should now brace for no dividend until December," he says.

"A recession will bring pain to banks' earnings, but just as in the past, the banks are strong enough to get through.

"While we appreciate the franking credit benefits and the relatively high yields, investors should be mindful volatility in earnings will be reflected in dividends.

"Banks are cyclical businesses exposed to the health of the economy."

Westpac (ASX: WBC) became the latest major financial institution to suspend its dividend on Monday after posting a first-half profit slide because of hefty impairment charges related mainly to the COVID-19 pandemic.

Management said it had accepted recent guidance from prudential regulator APRA on dividends and said it was being prudent at this point in time. In a rare intervention last month, APRA called on the banks to "seriously consider" suspending its dividends until there was more certainty about the impact of the coronavirus pandemic. This followed similar calls in New Zealand and the United Kingdom.

Blow to income investors

Australian investors are now facing a dividend void as blue chips slash their dividends. Westpac followed the lead of smaller rival ANZ (ASX: ANZ), which deferred paying shareholders an interim dividend after posting a 62 per cent slide in its first-half cash profit due to the COVID-19 hit. Rival lender NAB (ASX: NAB) has also made a $807 million provision for coronavirus losses and slashed its dividend by 64 per cent.

Outside of the big four, building products manufacturer James Hardie (ASX: JHX) has today suspended dividend payments to shareholders to shore up its finances.

Elsewhere, IAG (ASX: IAG), the insurance company behind insurance brands including NRMA, said it had "limited scope" to pay a dividend for the September half, and Bank of Queensland (ASX: BOQ) announced a dividend deferral last month.

Scott Kelly, portfolio manager at equities investment firm DNR Capital, estimates that over half of ASX200 companies have now downgraded or withdrawn future earnings guidance due to the lack of visibility in assessing the duration and severity of the COVID-19 pandemic.

Dividend drought to hurt self-funded retirees

The Australian market has a reputation for high levels of dividends. Since 2000, the ASX 200 has returned an average of 5.12 per cent annually. The proportion of total return that comes from dividends is around 60 per cent.

Retirement income investment specialist Plato Investment Management estimates that the big four banks paid 30 per cent of gross dividends (cash dividends plus franking) of the entire S&P/ASX 200 index in 2019.

5 years of big four bank dividends

bank dividends

Source: Morningstar

The cuts could hurt the nation's self-funded retirees, many of whom rely heavily on dividends and franking credits from income-paying stocks to fund their retirement, rather than drawing down capital. This reliance has become acute in the past few years amid record low interest rates.

Figures from the March 2019 Class SMSF Benchmark Report show direct investment by SMSFs in domestic listed securities is highly concentrated in the largest 20 domestic shares—especially the banks, which make up 42 per cent of the top 20 investment holdings.

Kelly cites three key reasons for the pressure on company dividends: liquidity/balance sheet stress, earnings downgrades, and reduced payout ratios and conservation.

"Companies with high levels of operational gearing or high levels of debt could see a material impact on profitability and/or solvency as a result of business disruption," he says.

"The ability to cancel or delay dividends may prove an important source of funding to preserve balance sheets and may also help avoid a dilutive equity raising.

"The current environment also gives boards an opportunity to rebase dividend expectations to a level that creates less pressure in the future.

Kelly says this is what happened in the 2008 global financial crisis where payout ratios for Industrials fell from about 80 per cent to about 70 per cent.

Longer-term, Kelly expects company dividends to recover, but thinks it could take up to three years.

MORE ON THIS TOPIC

 Analyst note: Westpac result as bad as expected; businesses put under review should see more distractions go

 Analyst note: ANZ remains undecided on dividends; FVE unchanged with higher loan-loss provisions as expected

 Analyst note: Corporate action: take-up NAB's entitlement offer, FVE unchanged despite earnings slump

 Special report: Australian banks undervalued amid economic turmoil

is an editor for Morningstar.com.au

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