Australian banks' cash earnings drop 42.6% YoY to $5.4b

Sector braces for more uncertainty as banks cancel or defer dividend payouts.

Major Australian banks’ overall combined headline cash earnings decreased 42.6% YoY to $5.35b (A$8.3b) for the half-year ending 31 March, largely driven by steep rise in impairment charges through credit provision, a report by Ernst&Young revealed. This reflects a sector bracing for even more uncertainty ahead as the COVID-19 pandemic hits of the economy, noted EY.

Three banks—ANZ, NAB, and Westpac—saw the the pandemic’s economic impact taking a major swipe on their results despite COVID-19 hitting only the tail end of the reporting period. Expected credit losses saw total impairment charges across the banks rise significantly to $5.69b (A$5.73b) before tax, up $2.96b (A$3.98b) from the 2019 half-year.

“Impairment charges have increased dramatically, driven by collective provisions, as the banks review potential future loan losses in the face of anticipated deteriorating conditions and a highly uncertain – and potentially bleak – economic outlook,” noted Tim Dring, EY Oceania banking and capital markets leader.

“We are still in an interim period where the banks are not yet aware what the full extent of these losses will be. Many customers have taken advantage of repayment holidays, which makes determining the true scale of potential delinquencies hard to predict,” he added.

But with the cash rate set to remain at historical lows for a prolonged period and the economy in a sharp and possibly protracted decline, there is no doubt that the major banks face substantial earnings headwinds in an environment of unprecedented uncertainty, according to Dring.

Net interest margins decreased by an average of 2 basis points from the 2019 half-year results, to 1.93%. However, an improvement in margin is anticipated as banks reprice credit risk and start to see a potential easing of competition in both deposits and loans.

Despite this, banks are likely to face ongoing revenue compression, with the ultra-low interest rates as well as uncertainty over the credit growth outlook.

“We’ve also seen lower earnings in recent periods putting pressure on capital generation and the banks’ ability to sustain elevated payout ratios. The banks are engaged in a delicate balancing act between the needs of shareholders – particularly retirees who may rely on dividend income – and maintaining capital,” noted Dring.

Further, the half-year cycle saw banks’ reducing or deferring dividends and issuance of capital as they batten down the hatches for the changing climate ahead.

Australia is also unlikely to escape an economic downturn like the past global recession. Locally, the economy is expected to contract by 4-6% in 2020. However, growth is expected to bounce back next year, with a ‘U-shaped’ recovery the most likely path.

“Unemployment is set to rise significantly, and we are likely to see a significant downturn in property prices in both the commercial and residential sectors through the remainder of 2020 and into 2021,” said Dring.

Despite this, Australia benefits from having strong balance sheets in the banking sector and the government, with the major banks remaining strong.

Further, Australia's financial system is noted to be resilient, with the banking system remaining well-capitalized and in a strong liquidity position, noted EY.

However, the outlook is more uncertain than ever and there is little doubt that the economic downturn, ultra-low interest rate environment and the likelihood of a rapid deterioration in asset quality will put further pressure on future revenues, profits and returns for the banks.

“The major banks have responded well to the immediate challenges thrown up by the pandemic, acting quickly to support customers facing financial hardship and managing workforce capability and capacity in response to rapidly changing demands on their business,” said Dring.

“In pivoting to remote work, banks have already discovered change can be implemented more quickly than imagined. As we look ahead, beyond the current pandemic, there are opportunities for banks to apply these learnings more broadly to help them transform for the next wave of banking, with a focus on greater operational resilience and agility, sustained productivity, and accelerated automation and digitization,” he concluded.