Bank Of Queensland Disappoints

This story features BANK OF QUEENSLAND LIMITED, and other companies. For more info SHARE ANALYSIS: BOQ

Following disappointing pre-released interim results, brokers await more detail this coming Thursday.

-Bank of Queensland’s interim first half profit and dividend disappoint
-Competition rising for deposits and home loans
-Brokers await more detail from results on April 20
-Morgan Stanley expects a 22cps final dividend after the 20cps interim payment 

By Mark Woodruff 

As three of the four major banks will be reporting first half profits in just a few weeks, local issues driving current profitability are back in focus.

The current level of new mortgage pricing and high levels of competition are key areas of concern, according to Citi, especially as bank executives have noted the pricing of new mortgages is ‘below the cost-of-capital’.

Last week Macquarie envisaged medium-term risks from margin headwinds and potential for credit quality concerns. In particular, the broker expected first half results for Bank of Queensland ((BOQ)) would reveal a peak for deposit margin benefits and mortgage competition would continue to weigh on those margins.

On Friday, the following day, the bank pre-announced first half operating profit of $256m, which was around -3% below the consensus expectation, and proposed a fully franked first half dividend of 20cps, when the market was expecting 24cps.

Brokers await the actual release of first half results on Thursday 20 April to fully understand the drivers behind the earnings miss.

Accumulate-rated Ord Minnett feels the softer-than-expected profit figure was due to a slower rebound for net interest margins (NIM), due to intense competition for customer deposits and home loans. It's noted the bank is far more reliant than its peers on term deposits and wholesale funding, and the margin benefit from holding low-cost deposits is less material.

Despite valuation support, Goldman Sachs (Neutral) believes the bank’s NIM leverage will ultimately underperform peers and its expenses will remain under pressure given the current inflationary environment and headwinds from running legacy systems.

The costs incurred by Bank of Queensland in building its new digital bank could somewhat offset ME Bank synergies and restructuring benefits, suggests this broker.

The bank also announced a -$200m goodwill write-down and a -$60m pre-tax charge for an Integrated Risk Program to “strengthen its commitment to risk management”.

There was no full year dividend guidance, but the bank’s policy is to target a payout ratio of 60-75% and CEO Patrick Allaway stated that it would be appropriate to have a 60% payout ratio after deducting the provision charge.

Based on Morgan Stanley’s FY23 earnings forecast, this payout ratio would imply a final dividend of 22cps.

This broker is not surprised by additional costs for risk and compliance following last year’s management changes, while the goodwill write-down reduces the broker’s target to $6.70 from $7.00.

According to UBS, the market and key stakeholders are likely to welcome the banks investment to strengthen risk management capabilities. It’s also considered logical to reset the balance sheet, while also strengthening the bank’s common equity tier 1 (CET1) position.

The goodwill write-off is of little consequence according to Ord Minnett, while spending on risk controls is likely a one-off and should be regarded as a “catch-up” investment to appease regulators after management had noted areas of weakness were identified both by both internal and external reviews.

Given how costly breaches of anti-money laundering law have been for Commbank ((CBA)) and Westpac ((WBC)), the broker considers the investments are well spent.

On the other hand, Citi was a tad perplexed, when first to review the result on Friday last week, why an operational risk provision was raised, when the expenses look like typical bank operating costs. The broker looks forward to additional disclosure on how the provision affects ongoing bank operating costs.

Also, ahead of the full results this Thursday, Citi surmised the pre-released result miss was due to higher costs and decided to leave its negative catalyst watch open.

In the meantime, this broker left its target price unchanged, and Macquarie is yet to update its research for the pre-released results. Now, with the remaining four brokers in the FNArena database refreshing their research, the average target price falls to $6.88 from $6.96, which suggests just over 7% upside to the latest share price.

Of these six brokers monitored daily by FNArena, five have Hold (or equivalent ratings) and UBS is Sell-rated.

Outside of the daily coverage, Goldman Sachs and Jarden have a Neutral and Overweight rating, respectively, with an average target of $7.22.

Morgans rating and target price change

Morgans appears to have reacted most savagely to the Bank of Queensland update by lowering its target to Hold from Add and reducing its target to $6.75 from $11.00.

However, these changes may have been largely due to a change of analyst as the new target price now approximates the average in the FNArena database and the Hold rating is largely the consensus recommendation.

While there is valuation support at higher share prices, the broker lists several reasons for caution including investor risk aversion to smaller banks during the current economic backdrop and after recent banking turmoil overseas. Moreover, execution risk and lack of clarity on the financial benefit of the digital bank transition weigh on the broker’s view.

Outlook

The investment case for Bank Of Queensland revolves around delivering digital capabilities, according to UBS, as well as reducing per-unit costs and lifting return on total equity (ROTE) closer to the bank’s cost of equity. Overall, this broker prefers the major banks to the regionals.

While retaining its Negative recommendation and $5.50 valuation, Evans and Partners observes the bank, with no long-term ceo in place, has a lot on its plate.

Apart from business as usual, management has to manage the integration of ME Bank, the digital transformation program and now the Integrated Risk Program.

This broker, which falls outside the FNArena Broker Call and Broker Call Extra coverage, also sees a risk that costs associated with the new risk program will linger beyond the three-year timeframe.

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