All of the major banks apart from Commonwealth Bank have now reported their first half earnings results.
Westpac (WBC) produced the best result of the banks and remains our preferred pick within the sector.
WBC reported first half 2018 earnings of $4.25 billion, being a 5 per cent increase on the previous corresponding period.
Importantly, all divisions posted pre-provision profit growth over this period.
The company’s return on equity was 13.96 per cent, being higher than both second half 2017 and first half 2017 and at the top end of the 13-14 per cent range that WBC is seeking to achieve.
No increase to customer remediation provision
At its 2017 full year result in October, WBC raised a provision of $169 million for customer refunds and payments as part of its “get it right, put it right” initiative which covers all of its businesses and aims to proactively identify potential issues for customers and fix them.
While reviews of the larger portfolios appeared to be complete in 2017, WBC continues to work through the remaining portfolios.
Pleasingly, despite the Royal Commission, WBC has not had to top up the $169 million provision for customer remediation.
This supports our sector base case that the Royal Commission will not ultimately result in customer remediation large enough to warrant capital raisings or dividend cuts.
Strong focus on cost management
WBC’s approach on costs is to deliver productivity savings that offset ongoing cost growth such that overall cost growth relates largely to investments that are driving future step changes in productivity.
An increase in ongoing expenses of $125 million from second half 2017 to first half 2018 was more than offset by productivity savings of $131 million in the half.
WBC is targeting similar productivity savings in second half 2018.
WBC’s cost-to-income ratio has improved from both the second half 2017 and the first half 2017.
While the environment for the sector remains one of subdued revenue growth, we expect WBC to continue to deliver positive margin growth as a result of its strong focus on cost management.
Investment view and changes to forecasts
We retain an add recommendation on Westpac. Our 12-month target price, is $35 (previously $36). Key downside risks to our target price include a material increase in funding costs and greater-than-expected asset quality deterioration.
- Justin Still, Investment Adviser (Authorised Representative: 000279726) Morgans Financial Limited | ABN 49 010 669 726 | AFSL 235410
