Westpac Banking Corp: Dividend outlook improving

About the author:

Azib Khan
Author name:
By Azib Khan
Job title:
Senior Analyst
Date posted:
03 November 2020, 3:00 PM
Sectors Covered:

  • Westpac Banking Corp (ASX:WBC) has reported FY20 cash earnings of $2,608m, which is 6.6% less than we expected. The miss on our numbers is largely due to revenue being 0.7% lower than we expected and expenses being 1.2% more than we expected. A final dividend of 31cps fully franked has been declared, which is lower than our expectation of 38cps largely due to a large fair value loss on economic hedges (an inherently volatile below-the-line item).
  • Improvement in the asset quality outlook is supportive of the dividend outlook in our view. Whilst revenue growth is hard to come by in the sector, we expect share price upside for WBC from cost of equity compression as the market becomes more confident about dividends normalising.

Credit quality metrics encouraging

Westpac Banking Corp's (ASX:WBC) FY20 credit impairment charge of $3,178m is better than our expectation of $3,334m despite us appearing to have the most optimistic credit impairment charge forecast on the street leading into the result.

The 4Q20 impairment charge was only $115m compared with FactSet consensus of $829m. Loan deferral balances are now down to $17.6bn from the $64.8bn of deferrals granted across home and business lending.

Deferrals are now ~4% of the mortgage book and ~2% of the business lending book.

Australian mortgage delinquencies and Australian unsecured consumer delinquencies also improved over the Sep-20 quarter.

Some weak elements in result but these should be temporary

As mentioned, FY20 operating expenses are higher than we expected. Operating expenses (excluding notable items) increased 7% from 1H20 to 2H20, with much of this attributable to:

  1. Increased support being offered to customers as a result of COVID-19.
  2. Strengthening financial crime processes and controls as well as other areas of risk; and issues related to offshore mortgage processing.

Average FTEs increased 8% (or 2,684) from 1H20 to 2H20.

We expect FTEs to roll off as borrowers come off COVID support packages and we do not expect a further increase in the risk and compliance investment spend run-rate from the FY20 level.

Mortgage processing issues in WBC's offshore processing centres have not only contributed to Australian mortgage book contraction in our view but also appear to have added to costs.

WBC's mortgage processing centres in India and the Philippines have been impacted by COVID lockdowns and this has resulted in some duplication of the workforce in order to increase onshore processing capacity.

Balance sheet outlook has improved which is good for dividends

In our view, the asset quality outlook has improved over the last 3 months.

This factor, combined with WBC having a strong pro-forma CET1 capital ratio of 11.2% as at Sep-2020 as well as reduced funding risk due to strong growth in customer deposits, supports the dividend outlook in our view.

The DRP associated with the final dividend of 31cps will be fully underwritten, which will result in further capital strength.

Investment view and changes to forecasts

We have reduced our cash EPS forecasts by 9.2%/10.6% for FY21F/FY22F respectively.

We retain an Add recommendation (Morgans clients can login to view detailed reports and price targets).

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Disclaimer: The information contained in this report is provided to you by Morgans Financial Limited as general advice only, and is made without consideration of an individual's relevant personal circumstances. Morgans Financial Limited ABN 49 010 669 726, its related bodies corporate, directors and officers, employees, authorised representatives and agents (“Morgans”) do not accept any liability for any loss or damage arising from or in connection with any action taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their Morgans investment adviser before doing so.

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