EY’s analysis of the 2017 full year results of Australia’s major banks

Solid performance by the banks, but who will win the execution race?

Monday, 6 November 2017

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  • $31.5 billion in combined cash earnings, up $1.9 billion from the 2016 full year results, an increase of 6.3%.
  • Return on equity increased by an average of 15 basis points from the prior comparative period, to 13.93%.
  • Bad debt expenses decreased by 22.5% from the 2016 full year results, to $3.97 billion.
  • Average net interest margins down by an average of 4.5 basis points from the 2016 full year results, to 2.01%.

Australia’s major banks have delivered another solid set of financial results for the 2017 full year, reporting combined headline cash earnings of $31.5 billion after tax – an increase of 6.3% from the same period last year.

EY’s analysis of the big four banks’ 2017 full year results shows net interest margins (NIM) declined, with asset repricing helping reduce the impact of the major bank levy. Return on equity (ROE) also declined across most of the banks, despite a higher average result, demonstrating the difficulty of generating sustainable returns in a lower growth, high competition environment. Uncertainty about the future growth prospects and the possibility of higher housing risk weights are also adding to the subdued outlook for returns.

EY Oceania Banking and Capital Markets Leader, Tim Dring says: “The banks have shown they can maintain profits against a challenging backdrop. However, they must now show they can successfully execute on the digital, customer and regulatory compliance agendas to deliver long-term performance.

“As they continue to reshape their businesses, the banks will need to focus on implementing strategies for sustainable and profitable growth, with a priority on embedding the right customer experience fundamentals,” Mr Dring says.

“At the same time, banks need to optimise their balance sheets by using technology to improve services and reduce cost, manage risk and regulatory compliance, and rebuild trust. This will require a delicate balance between the competing demands of growing the business while keeping the bank, and customers, safe. But the banks that are able to execute well in each of these areas, will be best placed to weather continuing headwinds and seize new opportunities as they arise.”

Sustained earnings momentum, but challenges ahead
The earnings of the major banks have proved resilient, primarily as a result of continued growth in housing credit, housing loan repricing and a benign credit environment.

“To date, housing credit growth has remained steady, with the banks balancing the need for continued loan book expansion against the investor and interest-only lending restrictions imposed by APRA. However, maintaining this growth is likely to be challenging, with housing affordability issues in Sydney and Melbourne, intense political scrutiny on upwards repricing and customers potentially switching to lower margin products,” Mr Dring says.

“Despite strong conditions and higher levels of confidence than last year, business lending growth has been constrained. This is in part due to the banks’ portfolio rebalancing efforts and repricing to strengthen margins. Anecdotally, SMEs have been cautious about investing, suggesting ongoing risk aversion.”

Profitability pressures
“The banks are continuing to optimise their portfolios to reduce margin compression, but profitability pressures remain,” Mr Dring says.

“In this environment, there is a relentless focus on expense management. Tightening of cost bases remains a high priority as the banks focus on core business areas and removing complexity and duplication. Cost to income ratios improved for most of the banks as they work hard to balance the need to invest in innovation and growth programs with managing the cost of change and deployment.”

“Looking forward, changes to the bancassurance model are likely to significantly reshape the Australian banking and wealth sectors, with banks questioning the sustainability of owning fully integrated life insurance operations from a product manufacturing perspective. Increased regulator focus in response to conduct issues and the need to optimise capital have rendered these businesses significantly less attractive, with the emphasis shifting to distribution agreements.”

Can trust be restored?
“The spotlight on trust just keeps getting bigger, with the Government, regulators and banks all stepping up efforts to enhance accountability and improve risk culture across the sector,” Mr Dring says.

“The banks are facing more intense scrutiny than ever before following a string of conduct-related issues, and EY research shows that consumers’ have diminishing trust in their banking providers.”

“To address this and start to rebuild trust levels, the banks will need to focus on developing a customer-centric culture that promotes greater transparency. Further investment will also be required to help meet the competing demands of all stakeholders equally – customers, shareholders, regulators and government.”

Digital innovation and open banking
“New technologies such as AI, robotics process automation and blockchain will enable banks to drive increased efficiencies and better customer experience. Embracing digital innovation is essential in order to maintain growth and relevance in a rapidly changing competitive environment.”

"We are already seeing the banks working with technology companies and FinTechs to deliver new customer-facing technologies, such as mobile payments, voice biometrics and chatbots.”

“The Government’s plans to introduce an open banking regime by 2018, also looks set to further alter the relationship between banks and consumers. While there is no doubt open banking will be disruptive, for forward-thinking and well-prepared banks, it will also offer a new channel to attract customers, offer new services and generate new revenue streams,” Mr Dring concludes.

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