CBA, BHP drive strong shareholder returns in Australia, in contrast to big tech in the US: Robert Gottliebsen

Local shareholder returns are being spearheaded by the magnificent operating performances of the Commonwealth Bank and BHP. Picture: Bianca De Marchi/NCA NewsWire

Whereas in the US the big gains for shareholders have come from high technology companies, in Australia shareholder returns are being spearheaded by the magnificent operating performances of the Commonwealth Bank and BHP.

The future operating revenues of BHP are closely linked to demand for its minerals, particularly from China. The future CBA performances will be linked to how it manages the looming significant changes in the face of banking. Although the CBA December half year was a shareholder delight, which boosted the share price in initial trading, some of those changes adversely affected the bank’s performance.

The CBA continues to dominate the housing sector but increasingly home loans are becoming a lower margin commodity that is dominated by banking systems. Regulations are going to require greater capital behind home loans. in addition we are now at the upper limits of the income multiples that can be safely used in loan assessments.

As CBA’s top fixed interest and currency strategist, Martin Whetton pointed out in Tuesday’s comment that Australian household debt as a percentage of income was around 60 per cent in March 1989. In the 30 years that have followed the household debt ratio has trebled to sit above 180 per cent. Its been a huge loan growth period for banks but we are surely reaching the upper limits.

Net interest income from the CBA’s retail banking operation in the December half was $4.86bn – a decrease of $9m on the prior comparative period. The company suffered a 7 per cent decrease in net interest margin, (offset by a 7 per cent increase in average interest earning assets).

Those lower home lending margins were partly caused by the popularity of fixed rate home loans and increased competition. Home lending will continue to be a magnificent business particularly as the Australian economy is so tied to housing that no government (or Reserve Bank) can afford a serious decline.

But the bonanza CBA profit growth days appeared to be over unless Westpac or ANZ seriously stumble.

Accordingly business lending growth is going to become more important to CBA’s profit growth. When the National Australia Bank was suffering management convulsions it seemed possible that the CBA business banking market share would surge which would open up a new growth bonanza. But with the advent of Ross McEwan as NAB’s CEO the haemorrhaging stopped. For the CBA to make big business bank inroads it may need to take market share from the ANZ or Westpac.

Meanwhile in the latest half year it was not all plain sailing in business banking.

On the surface the business banking cash net profit for the December half year at $1.49bn – an increase of $120m or 9 per cent on the prior comparative period – looks good. But total banking income was only up one per cent and operating expenses increased a whopping seven per cent. An 85 per cent decrease in loan impairment expense helped deliver the CBA’s bottom line bacon.

The reasons the bank gives for the seven per cent rise in business banking operating expenditure are fascinating. The number of business banking full-time equivalent staff (FTE) increased by 539 or 10 per cent on the prior comparative period.

In an era where banks have been reducing staff in mass lay-offs, to increase staff by 10 per cent in such a significant part of the operation is clearly a deliberate long term decision to boost income. NAB has come to the same conclusion and is also boosting business banking staff.

CBA says it’s staff boost was “primarily driven by investment in product and customer facing staff, partly offset by the divestment of AUSIEX”.

Increasingly the better business banking operations require staff that can go into a business and get a real feel for what is happening. They also have to be skilled in being able to tailor standard business products to the specific needs of the customer – not an easy task in bureaucracy dominated organisations. If banks like the CBA and NAB don’t master this challenge new banks like Judo will take their lunch.

In business banking perhaps the most scary CBA statement was:

“Investment spend was primarily focused on further enhancing the customer experience through reimagining products and services, system modernisation, digitisation and automation, as well as investment in regulatory, risk and compliance initiatives”.

Try explaining that to a farmer developing new carbon absorption techniques or a factory competing with imports.

An important part of the CBA’s success has been its brilliant investment in banking technology and systems. I am sure CBA CEO Matt Comyn is grateful to the work of his predecessors. Systems are vital in all forms of banking including business banking but the statement above did not talk about need for bank systems to be flexible enough to handle the great variety of business situations. The business market is different to home lending where you can standardise product. And many medium and small sized businesses are apprehensive when dealing with banks because too many of their mates have been sold up.

This is a challenge not just for the CBA but for the NAB, Westpac and ANZ.