ANZ’s cycle sours amid $3bn dash for capital

ANZ chief Mike Smith has officially dumped his return-on-­equity target after the bank bit the bullet and raised up to $3bn.

ANZ chief Mike Smith has officially dumped his return-on-­equity target after the bank bit the bullet and raised up to $3 billion, sparking a sharp sell-off in the sector amid fears rival lenders would unveil discounted equity raisings.

Adding to the gloom, the ­nation’s third-largest bank also pre-released a weaker than expected $1.73bn third-quarter cash profit, weighed down by a spike in bad debts that confirmed that a ­period record low losses from soured loans had ended.

The soft trading update caught institutional investors off-guard as ANZ asked them to take part in a fully underwritten placement to raise $2.5bn, expected to price near the bookbuild floor price of $30.95.

A further $500 million is being sought from retail shareholders via a share purchase plan, which is not underwritten.

“The market conditions at the moment were fairly good and this brings certainty to the issue, which was not there. I think perhaps the market needed that, so it’s a pragmatic decision,” Mr Smith told The Australian.

As ANZ’s shares were halted at $32.58, several investors said they were shunning the placement because of the “skinny” discount, analyst earnings downgrades and the decision to undertake a placement rather than a rights issue.

Commonwealth Bank shares were sold off more than 3 per cent to $84.55 as investors braced for a similar capital raising at its full-year result next week, while Westpac slid 3 per cent and National Australia Bank 2.2 per cent.

“Given the result was below consensus expectations due to a surprise increase in impairment expenses, a 5 per cent discount does not seem enough,” said Paul Skamvougeras, head of equities at Perpetual, which is underweight the banks.

“We expect further capital raisings in the sector, which will provide a better buying opportunity.”

ANZ’s move comes after the banking regulator last month confirmed that the big four would have to inject billions of dollars into their mortgage books and boost overall capital levels to ­“unquestionably strong” levels.

ANZ said the capital raising would increase its common-equity tier-one capital ratio from 8.6 per cent to 9.3 per cent, putting it in the “top quartile of international banks”, as recommended by the Murray inquiry and supported by The Australian Prudential Regulation Authority.

While analysts said the capital raising marked a change of tune for Mr Smith, he dismissed this and said the bank had been assured by APRA that mortgage risk weights would rise to 25 per cent, from 16 per cent, by July next year.

Mr Smith said APRA’s tighter-than-expected timetable to achieve higher risk weights, which will require ANZ to raise $2.3bn, required a speedier response.

He also wanted to avoid rushing the sale of assets such as its equity stakes in several Asian banks, that had proven difficult to sell.

Mr Smith also revealed that the bank would revise its target to increase return on equity to 16 per cent by next year, given the capital raising and regulatory headwinds.

“That 16 per cent was done before all of these different capital raisings, (so) it’s going to make it impossible to meet,” he conceded.

“But had you taken those out we would probably have got there already … “I think that is now so hard to work out, I think we’ve probably got to come out with a new target when we do results.”

After NAB and Westpac raised capital in May — the first bank equity raisings since the global financial crisis — ANZ has been under pressure to raise capital to boost its sector-lagging CET1 ratio.

Several analysts questioned why ANZ did not raise more than $3bn, given it would inevitably need to increase capital to meet the incoming Basel IV reforms and had secured “first mover” advantage over CBA ahead its results next week.

“ANZ will still need significant amounts of additional CET1 to meet upcoming changes from Basel IV as well as to reach a CET1 ratio of more than 10 per cent, below which we consider banks’ capital strength to be questionable,” said UBS analyst Jonathan Mott.

“We do not believe this can be achieved by asset sales or organic generation in a time frame demanded by the market.”

But Mr Smith said the size of the equity raising was “about right” until there was greater certainty and the bank was intent on releasing almost $5bn of capital locked up in its Asian equity partnerships.

“The worry I’ve got now is with the asset sales we may be left with too much capital, but that’s going to be sometime out and I can guarantee our friends at Basel will find other ways to increase capital even more, so I’m not too concerned,” he said.

Also raising alarms for investors was the rise in ANZ’s bad debt charge to $367m, or 25 basis points of gross loans, attributed to balance sheet growth and problems in the mining and agriculture sectors.

Third-quarter earnings fell to $1.73bn, from $1.89bn in the previous three months.

Morgan Stanley analyst Richard Wiles said while the capital raising was a “sensible decision”, the trading update highlighted the risk to earnings.

Macquarie analyst Mike Wiblin added: “We don’t think this capital raising is a particularly compelling proposition. Add to this the fact that ‘new CEO’ rebasing is still to come — when Mike Smith leaves — to address long-term capital intensity and business model issues.”

ANZ chief financial officer Shayne Elliott said the bank could maintain its dividend payout ratio. “The provision cycle is somewhere near the bottom and that puts more onus on us to continue to focus on productivity and capital efficiency,” he said.