The Commonwealth Bank of Australia (ASX: CBA) share price rose 1% to $73.70 this morning after the company released its annual results to the market.
Overall, investors felt the pinch of regulatory fees and profits declined for the first time in several years. Here's what you need to know:
- Revenue rose 3% to $26,132 million
- Net profit after tax (NPAT) fell 6% to $9,329 million
- Underlying ("Cash") NPAT grew 3.7% to $9,365 million after excluding one-off impacts
- Return on equity fell 1.6% to 14.4%
- Cash earnings per share fell 6% to $5.29 per share
- Common Equity Tier One (CET1) capital flat at 10.1%
- Net interest margins (NIMs) widened from 2.1% to 2.15%
So what?
It was a mixed year for Commbank, with strong operational performance overshadowed by fines and rising bad debts. Notably, 2018 was the first year in quite a while that Commbank hasn't grown its cash earnings per share.
The bank has been forced to majorly step up its spending on compliance, with the recent AUSTRAC ('ATM money laundering') ruling, the Royal Commission, and otherwise generally being dragged through the mud. Half of the $1.3 billion investment spending in 2018 was on compliance and risk management, and this figure is expected to increase in 2019.
Now what?
Probably the biggest story of this year's report was the change in bad loans year on year.
Despite relatively mild conditions over the past year or so, loans in arrears have ticked up from 0.6% to 0.7%. This is still very low in cyclical terms, however it is quite likely that this number continues to increase as interest only (I/O) borrowers have to convert to principal & interest (P&I) repayments to comply with new rules from APRA.
This will effectively result in substantially higher repayments to a small subset of borrowers and it is probable that bank lending conditions worsen.
Other aspects of the bank's loans such as its "dynamic LVR" which suggests most borrowers have modest loan to valuation ratios, overlook the potential for falling house prices – we are already seeing lower prices in Sydney. Commbank also acknowledged that its cost of funds were rising and that its net interest margins widened primarily due to the repricing of interest only loans that I mentioned above.
While higher interest rates (banks lifting rates independent of the Reserve Bank) may be good for bank profitability in the near term, they do increase the repayment burden on borrowers and make it harder for new borrowers to enter the market. The recent APRA decision to sharply slow credit growth for investment loans is also likely to lead to a reduction of house buyers and, possibly, house prices.
Overall it is hard to see how Commbank will return to profit growth in the near term, given that it is likely to be making less housing loans, which are a large part of its business.
There are some interesting elements in there such as a spin-off of the wealth management arm Colonial First State, but overall I struggle to see a case for Commonwealth Bank being good value at the moment.
The other big banks Westpac Banking Corp (ASX: WBC), Australia and New Zealand Banking Group (ASX: ANZ) and National Australia Bank Ltd. (ASX: NAB) will report in the coming months and we will have full coverage for you as they arrive.
