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Cautious response to banks’ $5.4b combined half-yearly profit result

NEVER far from the watchful gaze of analysts and the media, the ‘big four’ banks are again in the spotlight after recording a 12.5 per cent increase in combined underlying profit for the first half of 2002 compared with the same period last year.

The combined profit of $5.4 billion for the half was due in the main to strong asset growth and strengthening interest income.

Stockbroking firm Solomon Smith Barney responded to the National Australia Bank’s record $2.256 billion interim profit with caution, saying in a market brief that the results were a mixed bag with great asset quality not being demonstrated in underlying profit growth. However, the broker said it still expected the bank to outperform in the medium term.

Warrants trader SG maintained that it believed NAB had some excellent businesses but had been “weakened strategically and from a capital perspective following the events at HomeSide”.

“While the stock appears cheap on a price-to-earnings ratio basis, we think that it will continue to trade at PE discount to its major domestic peers until there is evidence that its Positioning for Growth program is starting to improve its earnings growth profile,” SG said in its daily market commentary.

“With the shares trading close to our valuation, we rate NAB a Hold.”

An analysis of the banks by PricewaterhouseCoopers showed the banks continued to perform extremely well and looked to maintain the growth in the second half of 2002.

PwC banking and capital market leader Rahoul Chowdry said this was despite higher debt expenses and softer business lending growth.

“While there may be some pressure when interest rates rise, the business economy appears to be travelling well. These are signs that the worst of the credit cycle is over. Banks are well provisioned and the Reserve Bank’s decision to raise interest rates this week signals a more positive business outlook,” Mr Chowdry said.

He said now that interest rates were on the rise again, income diversification was likely to play a more significant role in banking performance.

“As housing lending growth softens on the back of higher interest rates and the reduction of the first home owner’s grant, it will be challenging for banks to deliver top-line earnings growth,” Mr Chowdry said.

“Banks have moved to address this by diversifying their income base, which puts them in a stronger position to sustain revenue growth if interest income weakens over the next few months.”

PwC financial services leader Craig Hamer said banks were already adapting to the market by increasing their exposure to wealth management businesses.

“Provided they represent an acceptable cost to the business, we are likely to see more wealth management alliances and acquisitions in the future,” Mr Hamer said.

ANZ and Westpac recently addressed their underweight positions in wealth management through their respective link-ups with ING and Rothschild.

But diversification is only part of the success of banks’ profitability.

Over the past five years the banks have approached what Mr Hamer describes as “world class” cost efficiency. Costs-to-income ratios of the major banks average about 50 per cent. Non-bank financial institutions, forced to differentiate themselves through high levels of service, have struggled to push their cost ratios below 60 per cent.

Increased reliance on technology, more efficient business process, a focus on non-branch channels and outsourcing of non-core activities have all played a prominent role in the banks’ cost cutting drive.

Both the Commonwealth and NAB are implementing ongoing restructuring programs.

“While the banks still have room to move, costs-to-income ratios can only be driven so far before negatively impacting on the ability to grow shareholder value,” Mr Hamer said.

“This is a challenge currently being faced by international banks, particularly in the UK, where costs-to-income ratios have started to creep back up, and will be a challenge ultimately faced by local banks as well.”

Meanwhile, waiting in the wings hoping to pick up the spills from the big four are the non-bank lenders.

Last week, United Credit launched a marketing campaign in a bid to reinvigorate its business expansion program.

United Credit acting CEO John Scott said the new marketing campaign was targeted at areas he felt banks were letting their customers down – personal service and fees.

“We believe customers are increasingly dissatisfied with their experience with the major banks and that’s driving them to look for real alternatives,” Mr Scott said.

“Our energies are focused on independent growth based on delivering superior service with increasing benefits to our strong and loyal membership.

“We’ll be telling Western Australians that United Credit offers better, more personal service, rewards real loyalty with a kinder fee structure, yet offers the broad range of financial products.”

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