Westpac Is Outcompeting And Out-Operating Its Peers

| About: Westpac Banking (WBK)

Summary

WBK looks strong with efficient operations.

WBK looks set for strong earnings growth with its focus on consumer and business banking along with strong asset quality.

WBK’s efficient capital structure and strong balance sheet provide cushion against any downside.

Westpac Banking Corporation (NYSE:WBK)

Business description

Westpac Banking Corporation is Australia's oldest bank, marking 200 years in 2017. Westpac is among a handful of banks around the globe currently retaining very high credit ratings, and ranks third in assets across the four major Australian banks (WBC, CAB, NAB, ANZ). This high-profile multibrand franchise in Australia and New Zealand is slanted towards retail banking, but retains meaningful exposure to wealth, corporate and institutional sectors. The bank benefits from a large national branch network along with significant market share, particularly in home loans and retail deposits.

Fundamentals (Financial year end September)

Capital Adequacy: WBK has taken a proactive approach to higher capital requirements. Its pro forma CET1 (common equity tier 1 ratio) is now the strongest of the major banks on both an APRA (Australian Prudential Regulatory Authority) and international basis (approx. 9.5% and 14.3% respectively). Hence, it is relatively well placed to manage the future capital build which will be around A$5bn. WBK increased capital through a DRP offering at the half year end and has announced an additional equity raising of A$3.5bn through a share-entitlement offer post year end.

Credit quality: WBK looks to have a lower credit risk appetite than peers, with a lower risk business mix and less exposure to pockets of weakness in the Australian economy

Cost management : WBK's track record and consistent approach to cost management signals that it will achieve its target of 2-3% p.a. expense growth and hence its FY18E CTI (cost-to-income) target of <40% is conservative

Competitive advantage

Westpac has solid operating momentum in core retail and business banking supports moderate earnings growth, despite modest credit growth. It benefits from a low cost/income ratio and the lowest loan write-off experience of the major banks. Cost-saving initiatives like CTI ratio of less than 40% are needed to further improve operational efficiency and increase returns. Strong profitability and reliance on capital-light mortgage growth continue to support organic capital growth. Common equity Tier 1 capital exceeds current Basel III minimum requirements and Westpac is well placed to satisfy higher future capital levels. Its strong momentum in housing growth further accelerates while business lending momentum held steady above the industry average. Westpac's total lending growth and retail deposits growth is above the industry average.

Financials

FYE - Sep 30th

FY 11

FY12

FY13

FY14

FY15

Australian $, mn

Net Interest Income

11,996

12,502

12,821

13,542

14,267

Non-Interest Income

4,945

5,481

5,774

6,395

7,375

Net Revenue

16,941

17,983

18,595

19,937

21,642

Net Income

6,983

5,925

6,739

7,551

8,006

Net profit margin (%)

41.7

33.4

36.7

38.2

37.3

EPS (GAAP)

2.2

1.9

2.1

2.4

2.5

Dividends per Share

1.6

1.6

1.7

1.8

1.9

Capital Expenditures

1,144

855

1,042

1,179

1,307

Net Advances

496,609

514,445

534,822

578,917

623,316

Total Assets

670,228

674,965

701,097

770,842

812,156

Total Debt

173,832

157,118

161,328

180,285

193,204

Total Equity

41,826

44,249

46,674

48,456

53,098

ROA

1.1

0.89

0.99

1.04

1.02

ROE

17.4

13.8

14.8

15.9

15.8

# of Employees

37,806

35,675

35,597

36,373

35,241

Click to enlarge

Key Catalysts/Drivers for WBK's stock

  • Overweight in retail banking and wealth management
  • Good margin management
  • Cost management is a core competency
  • Relatively low-risk business mix
  • Attractive dividend yield

Major Risks

  • Rising loan losses due to a weaker domestic economy
  • The potential impact of higher funding costs on net interest margins
  • A further lift in mortgage risk weightings above APRA's "interim measures" as a result of Basel IV

Outlook

Outlook for Australia banking remains positive with low interest rates. In 2016 Australia's real GDP is expected to be recover to 3% by 2017 with uneven growth across industry sectors. The services sector improvement is expected to more than offset continued slowdown in mining investment.

Australia banking - Housing credit growth continuing, although pace is expected to ease. Business credit likely to continue its steady improvement along with continuing growth in wealth and insurance markets. Asset quality is expected to remain sound.

Margin over market share - WBK's leadership on home loan repricing signifies a clear commitment to boost margins. FY15 results were impressive as the bank has strong franchise and delivered on strategic priorities seeking to develop service as a comparative advantage. In FY15 WBK's cash earnings were up 3% and reported profit were up 6%. FY11 to FY15 reported profit of A$35.3bn and cash earnings of A$35.4bn.

Investment Rationale & Conclusion

WBK is managing a challenging operating environment better than peers and is given a clearer commitment to margin over market share, ongoing cost discipline, a stronger capital position and a lower risk profile than the other major banks. The bank continues to perform strongly, with decent revenue growth, tight cost control, low bad debt costs, solid organic capital generation and impressive ROE. Westpac remains on track to outperform in 2016 on the back of the Australian economy's continued expansion at a moderate pace. Low interest rates in Australian banking are expected to support moderate credit growth and there are signs of improving demand for business credit.

Westpac is expected to outperform its Australian banking peers over the medium-term. WBK currently trades at A$31.5 (closing price as on 13th Jan, P/E ttm of 12.45) with its 52 week range of A$28.9 - A$39.8 and looks attractive from medium-term perspective to provide potential upside over the medium-term for reasons outlined below:

  • Commitment to margin over market share, ongoing cost discipline, a stronger capital position and a lower risk profile than the other major banks
  • Targeting expense to income ratio of 40% in next 3 years which is currently at 42%
  • Margins are well maintained with strong capital strength
  • WBK leads the major Australian banks in retail deposits and has a strong balance sheet, peer-leading loan quality while impressive ROE underpin a strong earnings
  • WBK posted non-interest growth of 15.3% (A$980 mn) driven by the partial sell down of its shareholding in the BT investment management

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Additional disclosure: (Sources: Company Financial reports, Annual reports and Half yearly reports, Company Press Releases, Company Investor Presentations, Morningstar, KPMG, theaustralian.com, Reuters, Yahoo Finance)