Australia | Feb 12 2019
Tough competition in mortgages and a growing cost base have cast a pall over Bendigo & Adelaide Bank and brokers agree revenue remains under pressure.
-The bank expected to struggle for earnings growth in the near term
-Limited scope to use capital until external conditions improve
-Case for industry consolidation is getting stronger
By Eva Brocklehurst
Stresses are increasing for Bendigo & Adelaide Bank ((BEN)) in the face of subdued revenue and brokers suspect, in the wake of the first half result, the market will change its view about how the regional bank is navigating the headwinds.
First half results were weaker than most expected and underlying trends were subdued. Low bad debt charges provided some support to the bottom line, but Deutsche Bank believes this is unsustainably low.
Credit Suisse agrees, noting low bad debt charges, while superficially a positive, also add to the challenge for comparables going forward. The broker downgrades, to Underperform, believing Bendigo & Adelaide will struggle to achieve earnings growth in the near term. The other main positive for brokers is the fact the capital position remained above the APRA threshold (8.5%), with the bank reporting its CET1 ratio at 8.76%.
Ord Minnett points out, while share price fell around -7% following the result, that valuation still does not appear overly cheap, and forecasts a further reduction in return on equity to around 7.5% in the second half. The half-year result would have been worse, in Bell Potter's view, if not for the better credit expense but agrees weaker prospects heading into the second half make it harder for returns to exceed the cost-of-equity.
There may have been slight improvements in the underlying momentum, the broker adds, but the bank is considered a sub-scale operator that will find it still difficult to challenge the majors in this operating environment. Bell Potter, not one of the eight stockbrokers monitored daily on the FNArena database, has a Hold rating and $10.20 target.
Morgan Stanley prefers the bank in its regional exposure but considers the stock expensive. Margins, which disappointed investors in the first half, are expected to drop again in the second half because of growing front book mortgage discounts and persistent pressures from BBSW rates.
Ord Minnett agrees there will be no let-up in competitive intensity and forecasts another -3 basis points reduction in net interest margins in the second half versus the first. The broker believes the bank's model provides for cheap deposits but at the expense of a higher embedded cost base.
Deposit prices may improve versus the first half but, given soft growth, this cannot become a significant positive, in Morgan Stanley's view. The broker does not expect the bank will re-price its standard variable rate mortgages again in FY19. Traction on revenue opportunities, from investing in digital, would be positive if forthcoming, Morgan Stanley asserts, and rising cash rates would underpin the strong deposit franchise, although the chance of this has recently reduced.
Macquarie incorporates an additional 10 basis points in mortgage re-pricing in the second half, to avoid a reduction in revenue , but acknowledges this is not a sustainable long-term strategy. The broker believes, in order to justify a valuation premium in the current environment, banks need to offer expense management opportunities or a capital return. Given capital generation is below its major peers, the bank has limited scope until external conditions improve.
Morgan Stanley cites narrowing margins, rising risks with Homesafe and a growing cost base as overshadowing the investment in digital. Citi notes cost growth is unable to adjust to this environment, having begun to accelerate in the second half of FY18 and continuing at a 4% rate.
The broker observes the bank is investing in systems and technology at a difficult time, as compliance and regulatory costs have an impact. Core profit declined -8% in the first half, given the weak revenue environment in which a small bank like Bendigo & Adelaide finds it hard to adjust.