Westpac: Sell This Bank As The Australian Economy Slows Down

| About: Westpac Banking (WBK)

Australia's second largest lender, Westpac Banking Corporation (NYSE:WBK), reported lower than expected performance for the year 2012, on November 5, 2012, strengthening our bearish stance on the stock. Cost for soured loans, which surged 22% year over year, was said to be the main reason for the miss. The bank reduced 5% of its workforce during the most recent year. Going forward, we believe the bank will shed further workforce in order to reduce expenses, as higher cost of funds continues to compress the net interest spread that the bank earns.

The bottom line of A$5.97 billion for the year 2012 fell short of the consensus mean estimate of A$6.29 billion, while cash earnings for the year 2012 witnessed a year over year increase of 5%, to $6.6 billion. The expense to income ratio plunged 70 basis points to 40.8% over the same time period. Westpac reported an overall 4% increase in lending activity in Australia's housing market. Higher cost of funds drove net interest margin down, declining 5 basis points to 2.17%.

Segmental Analysis

The following table gives a clear picture of the segmental performance of the bank during the year 2012, as compared to the year 2011.

For the purpose of reporting, the operations of the bank have been divided into the following three segments; Australian Financial Services, Westpac Institutional Bank and Westpac New Zealand. During the fiscal year 2012, over 64% of the revenues came from Australian Financial Services, followed by 24% for Westpac Institutional Bank, while the remaining came from Westpac New Zealand. All three business segments of the company reported an increase in cash earnings.

Australian Financial Services

Much of the improvement in cash earnings from this segment was due to a 14% year over year increase in the cash earnings from Westpac Retail & Business Banking operations. Deposits grew 11%, while mortgages increased 3%. Expense for the sub-segment remained flat compared to the previous year.

Cash earnings from the St. George Banking Group remained flat at A$1.2 billion, as compared to the cash earnings figure for the prior year. Solid improvement in auto and home lending, successful expense control and improved margins were the highlights for the sub-segment, for the second half of 2012.

A similar improvement was seen in the results from BT Financial Group during the second half 2012, which resulted in a 17% increase in cash earnings for that period. However, full-year cash earnings for the sub-segment declined 10% compared to the last year.

Westpac Institutional Bank

Well managed expenses, combined with encouraging customer activity in financial markets and increased contribution from Hastings, led to a 3% increase in the segment's cash earnings. This was partially offset by higher impairment charges due to higher provision write-backs.

Westpac New Zealand

Westpac New Zealand is the smallest contributor to the bank's cash earnings. Cash earnings of the segment for 2012 improved 22% year over year on revitalization of branch network and higher investment in upgrading the skills of the staff.

Capital and Liquidity Position

The capital position for the bank improved from a year ago. This we say after looking at the 79 basis points improvement in the bank's Basel 3 common equity ratio. The bank maintained a ratio of 10.6% against the regulatory requirement of 8 - 8.5%.

In conclusion, we believe the bank will face a challenging outlook, as consumer sentiment and manufacturing within Australia remains weak. If the mining bubble bursts, it will also have an adverse impact on the bank. We expect the central bank of Australia to announce a cut in cash rate to stimulate manufacturing output and consumer confidence. In such a scenario, the bank will face further compression in its net interest spread. Therefore, we reiterate our bearish stance on the stock.

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

Business relationship disclosure: The article has been written by Qineqt's Financials Analyst. Qineqt is not receiving compensation for it (other than from Seeking Alpha). Qineqt has no business relationship with any company whose stock is mentioned in this article.