Westpac Lowers Profitability Target as Capital, Costs Bite

(Bloomberg) -- Westpac Banking Corp. cut a key profitability target, blaming the need to hold more capital and increased regulatory costs, after reporting full-year cash profit was little changed.

Return on equity, a measure of how efficiently a company invests shareholders funds, fell 185 basis points to 14 percent, prompting Chief Executive Officer Brian Hartzer to say the bank’s target of 15 percent “is no longer realistic.” Australia’s second-largest lender will now target ROE of 13 percent to 14 percent, it said in a statement to the stock exchange.

Australia’s four largest lenders added a record A$20 billion ($15.4 billion) in capital last year to meet new regulations that diluted their world-beating returns. They also face a squeeze on margins from higher funding costs and rising bad debts.

“Shedding the return on equity target was inevitable in current conditions,” said Simon Burge, who oversees A$450 million, including Westpac shares, as chief investment officer at Above the Index Asset Management Pty in Sydney. “I can live with the new target, especially with the earnings report not throwing out any surprises. Westpac can continue to have modest growth.”

Cash profit, which excludes one-time items, was A$7.82 billion in the year ended Sept. 30, little changed from a year earlier and broadly in line with analyst estimates.

For a detailed breakdown of Westpac’s earnings, click here

None of Westpac’s main rivals -- Australia & New Zealand Banking Group Ltd., Commonwealth Bank of Australia and National Australia Bank Ltd. -- have declared return on equity targets. ANZ dropped a 16 percent target last year after raising capital. Westpac’s 14 percent return for the fiscal 2016 compares with a similar number at ANZ Bank, 14.3 percent at National Australia and 16.5 percent for Commonwealth Bank, according to their respective filings.

The four lenders posted an average return on equity of 15.2 percent in 2015, behind only Canadian banks in developed markets, according to data compiled by Bloomberg.

The CEOs of the big four banks lamented declining ROE as they fronted lawmakers for more than 12 hours in Canberra last month, as they justified their decision not to pass on in full a quarter-point interest rate cut by the central bank in August.

“The improvements we’ve made further reinforce that Westpac’s balance sheet remains unquestionably strong,” Hartzer said in the statement. “However, the additional shares issued at the start of the year have lowered earnings per share and reduced our return on equity.”

Shares Gain

Westpac shares rose 2.9 percent to A$30.56 at 1:57 p.m. in Sydney, paring losses for the year to 8.9 percent.

Common equity tier 1 capital ratio, a measure of its ability to absorb future losses, stood at 9.48 percent, down 2 basis points from a year earlier, under local regulator’s rules. On an internationally comparable basis the capital ratio was at 14.4 percent, it said.

The Australian Prudential Regulation Authority has flagged minimum capital levels for Australian banks will likely increase, pushing lenders to cap dividends just when expenses for bad loans are rising. Westpac held its final dividend at 94 Australian cents, taking the full-year payout to A$1.88.

Full-year bad-debt charges climbed 49 percent to A$1.12 billion, due to sour loans at a handful of companies in the first six months. While asset quality has remained sound, a small rise in business and consumer delinquencies was evident through the year, the bank said.

“Economic risks facing all financial institutions operating in Australia are rising due to the strong growth in private-sector debt and residential property prices in the past four years,” S&P Global Ratings said last week as it downgraded Macquarie Group Ltd. and more than 20 other smaller lenders. S&P kept the four largest lenders on a negative outlook.

--With assistance from Emily Cadman

To contact the reporter on this story: Narayanan Somasundaram in Sydney at nsomasundara@bloomberg.net.

To contact the editors responsible for this story: Marcus Wright at mwright115@bloomberg.net, Peter Vercoe, Russell Ward