Analysts warn on Westpac’s outlook

Westpac faces headwinds in coming years, analysts agree, but most rate the stock a buy on upside potential.

Westpac announced a 62 per cent plunge in cash profits in fiscal 2020, hammered by the coronavirus economic downturn and a record fine for breaches of money-laundering laws. (Picture: AFP

Banking analysts are warning of the headwinds facing Westpac in the coming years, after it posted a 62 per cent plunge in cash earnings for 2020, but most rate the stock a buy on the upside potential.

The big four bank on Monday posted cash earnings of $2.61bn for the 12 months ended September 30, down 62 per cent on the prior year.

The “disappointing” result was driven by a weak operating environment and expected COVID-19 loan losses, as well as writedowns and a $1.3bn penalty to the financial crimes regulator.

After poring over the numbers, Macquarie analysts told clients the 2020 financial year had been particularly difficult for Westpac and cautioned on the outlook for the lender.

“While we expect earnings headwinds across the sector to persist into fiscal, it appears that Westpac’s underlying growth is likely to lag peers again.

“In our view, Westpac needs to improve its underlying performance (ie arrest market share losses in key segments) and deliver productivity benefits to drive better cost performance to close the valuation gap to peers,” the analysts said.

For Bell Potter’s banking analyst TS Lim, the 2020 result suggested Westpac “possibly came close to having a near-death experience in fiscal 2020”.

Based on the numbers and outlook, Mr Lim revised his earnings forecasts for the lender. He now expects earnings to dip a further 9 per cent in 2021, followed by a 6 per cent drop in 2022 and another 1 per cent fall in fiscal 2023.

“The revisions are mainly due to lower non-interest income (ongoing pressure as per the fiscal 2021 outlook) and elevated operating expenses, net of a better net interest margin in the medium term,” he said.

Mr Lim also reduced Westpac’s price target by 2 per cent to $19.60. On Tuesday the lender closed down 0.6 per cent at $17.70.

UBS banking analyst Jonathan Mott labelled 2020 Westpac‘s “annus horribilis”, with underlying earnings trends remaining weak and a number of headwinds that would likely continue in the near term.

“While it is not surprising that revenue trends across the industry will continue to remain weak given ultra-low interest rates, Westpac pointed to specific issues that are likely to lower market expectations and sell-side consensus,” Mr Mott warned.

These headwinds include volumes remaining weak, low rates and competition putting further pressure on net interest margins, and expenses climbing in the near term due in part to the bank’s turnaround plan

Over at Goldman Sachs, analysts cautioned that the quality of the result “was poor”, with the second half pre-provision operating profit 10 per cent lower than their forecasts on the back of lower non-interest income and higher expenses.

On a more positive note, Westpac’s balance sheet looked solid, the analysts told clients.

“Despite being faced with a variety of revenue headwinds in fiscal 2021, supportive valuations see us maintain our ‘buy’ rating on the stock.

“Furthermore, we think details of the three-year cost plan, due to be announced at the time of the 2021 first-half result, will provide a potential catalyst for a further re-rating,” they said.

It wasn’t surprising that the bank was embarking on a turnaround plan, they said.

Analysts at Credit Suisse found credit quality and capital not to be an issue, but cautioned on revenue and costs.

“Following the fiscal 2020 result we have downgraded earnings by 3-8 per cent across the forecast horizon, incorporating lower revenue on the back of lower loan balances, fee pressure and higher expenses partially offset by lower bad debts.

“The outlook around revenue and expenses was worse than expected resulting in underlying profit downgrades and, given our view that credit quality is not an issue for the sector and that the market will focus on underlying profit, this is a relative negative versus other banks in the sector.

“In effect the downgrades to underlying profit push out earnings outcomes a year,” Credit Suisse said.

UBS, Credit Suisse, Macquarie and Goldman Sachs have either a “buy” or “outperform” rating on Westpac, while Bell Potter maintains a “hold”. Westpac currently trades at a 14 per cent discount to NAB and a 28 per cent discount to CBA.