Marketing Analysis of Commonwealth Bank and Westpac Group in the Banks Sector - Case Study Example

Introduction Commonwealth Bank and Westpac Group in the banks sector were selected for the purpose of the fundamental analysis report. Commonwealth Bank Australia (CBA) Overview History The Commonwealth Bank was established under the Commonwealth Bank Act in the early 1910s. In the early 1930s, it enlarged by merging with the State Bank of Western Australia and State Bank of New South Wales coupled with earlier merging with Tasmania and Queensland. Its initial home loan provision was in the mid-1940s. There was controversy in the late 1950s over the dual functions of Commonwealth Bank led to legislative amendments in its functions. The Reserve Bank of Australia was established in early 1960s after the Reserve Bank Act 1959 and assumed the entire central banking activities. The Common Bank act 1959 led to the creation of the Commonwealth Banking Corporation that assumed all savings or trading activities. In the early 1970s, it commenced home insurance provision. It formed its own finance company in the mid-1970s referred to as Finance Corporation Limited. In the late 1980s it started offering services in investment management and life coverage through full subsidiaries of Commonwealth Life Ltd and Commonwealth Management Services Ltd. It also acquired a 75% ownership of ASB Bank in New Zealand which it later made 100% in early 2000. It became a public company in the early 1990s through the Restructuring Act of 1990. Business Banking Centres as well as Customer Service Centres were opened countrywide in the mid-1990s. In the early 2010s, the Core Banking Modernisation program was initiated. Vision, strategy and financial objective Commonwealth Bank has a vision of excelling at enhancing and safeguarding the financial welfare of businesses, persons and communities. Its strategic strengths are based on it being a renowned brand, having a huge customer base in Australia and offering a diversified mix of financial products. The bank is among the biggest listed companies on the Australian Securities Exchange and its shares are part of the Morgan Stanley Capital Markets Global Index. Its financial goal is to have a total shareholder return in the top quartile among its Australian listed peers in each five-year rolling period. Total shareholder return is the growth in the worth of the investment in the shares of the Group on the assumption that all dividends issued are reinvested back in shares of the Group. Customer serving divisions The Commonwealth bank has five customer-oriented divisions which include: Retail Banking Services; Business and Private Banking; Institutional Banking and Markets; Wealth Management and International Financial Services. In addition, it offers community support through its Commonwealth Bank Foundation that supports developments in education for young Australians. The division of Retail Banking Services offers customer-tailored service that meets the financial requirements of private and small business clients via easy, affordable and convenient banking. The Institution Banking and Markets division is tasked with managing the Group’s association with key corporate clients, government clients and institutional investors through the provision of a complete variety of transactional, capital expanding, and risk management services and products with the objective of offering unique insights and exceptional financial market capabilities to their clients. The Wealth Management division is a combination of the Group’s fund distribution, creation ability, insurance, financial advice and domestic superannuation functions. International Financial Services integrates: retail and small to medium business banking and investment operations in Indonesia, India, China and Vietnam; joint ventures with life insurance corporate in China and the operations in life insurance firms in China Support The Group has support divisions which include Financial Services, Risk Management and Enterprise Services. The Financial Services support collaborates with every area of the Group in offering expert advice pertinent to financial management in audit, securities, property, procurement and treasury. Risk management entails identification and evaluation of proposed amendments in regulations, industry codes and country laws and reporting of risk and returns that are in tandem with the risk appetite and return expectations of the Group. Enterprise Services support offers innovative product avenues to clients and necessary tools for conducting business to the Group. It has facilitated better customer service through processing that is timely and efficient such as Core Banking Modernisation. Current Capital Structure Capital structure of a firm is the relative proportions of debt, equity and securities that a firm has outstanding. The current capital structure comprises of current assets which are that part of investment that circulates from one form to another in the usual conduct of business such as cash. Current liabilities include all debts that must be paid in 1 year or less such as account payable. The difference between current assets and current liabilities gives the net working capital. The capital structure of Commonwealth Bank of Australia is shown in table 1. Table 1 of CBA Balance Sheets Source: Yahoo Finance Risk Risk in short-term financing is seen as a probability of a firm being unable to pay its debt when it is due. A firm that is unable to pay its debt when due is insolvent. Current asset changes The ratio of current assets to total assets shows the tradeoff between gains and risk when there are changes in the level of current assets of a firm. An increase in the ratio shows a decrease in risk but a decrease in the ratio signifies an increase in risk. The ratios of current assets to total assets for Commonwealth Bank of Australia for the past four financial years that are calculated using figures in table 1 are given as; A financial year is equivalent to twelve months. Current assets to total assets ratio = current assets/total assets Financial Year 2014 = 94,865,000/791,451, 000 = 0.12 Financial year 2013 = 103,467,000/753,857,000 = 0.14 Financial year 2012 = 97,251,000/718,859,000 = 0.14 Financial year 2011 = 85,187,000/667,899,000 = 0.13 The ratio increased to 0.14 in 2012 and remained steady throughout 2013 which shows that the risk and profitability had decreased by a small margin in 2012 and 2013. However, in 2014 the ratio decreased to 0.12 showing that profitability and risk for CBA increased. Current liabilities change Changes in current liabilities and the impact on risk are manifested through the ratio of current liabilities to total assets. The ratio shows the percentage of total assets that have been financed with current liabilities. An increase in the ratio shows an increase an increase in risk and a decrease in the ratio signify a decrease in risk. The ratios of current liabilities to total assets for Commonwealth Bank of Australia using figures in table 1 are calculated as; Current liabilities to total assets = current liabilities/ total assets Financial Year 2014 = 601,590,000/791,451, 000 = 0.76 Financial year 2013 = 575,532,000/753,857,000 = 0.763 Financial year 2012 = 552,683,000/718,859,000 = 0.77 Financial year 2011 = 457,731,000/667,899,000 = 0.69 The ratio increased from 0.69 in 2011 to 0.77 in 2012 implying that there was significant increase in the profitability and risk in CBA. However, the ratio decreased to 0.76 in 2014 by a small margin showing that the profitability is still high and risk has been reduced bit. Current ratio Current ratio is the worth of the current assets of a company that will be transformed to cash in a period of twelve months compared to the worth of liabilities that are to mature in the same time. It shows the capability of a company in terms of having adequate resources to pay back short-term debt from its current assets. The current ratios for CBA from 2011 to 2014 using figures in table 1 are calculated as; Current ratio = current assets/ current liabilities Financial Year 2014 = 94,865,000/601,590,000 = 0.16 Financial year 2013 =103,467,000/575,532,000 = 0.18 Financial year 2012 = 97,251,000/552,683,000 = 0.18 Financial year 2011 = 85,187,000/457,731,000 = 0.19 The current ratio of CBA has declined from 0.19 in 2011 to 0.16 in 2014 but was steady in 2012 and 2013. However, the rate is within the industry requirement and is therefore healthy. Debt to Equity (DE) ratio The debt to equity ratio demonstrates how the equity and debt mix of a company relies on borrowings or shareholder capital to fund assets and operations. A higher ratio usually denotes greater risk. Greater debt results in unstable revenues because extra interest expense increases susceptibility to company downturns. The DE ratio makes more sense when estimated over a period of time. The debt to equity ratios for CBA from 2011 to 2014 as calculated using figures in table 1 are; Equity Ratio = total liabilities / total stockholder’s equity Where; total stockholder equity was obtained by subtracting total liabilities from total assets figures in table 1. Financial Year 2014; stockholder equity = 791,451, 000 – 742,103,000 = 49,348,000 = 19,128,000/49,348,000 = 0.39 Financial year 2013 stockholder equity = 753,857,000 – 708,320,000 = 45,537,000 Debt to equity ratio = 12,618,000/45,537,000 = 0.28 Financial year 2012 stockholder equity = 718,859,000– 677,287,000 = 41,572,000 Debt to equity ratio = 12,603,000/41,572,000 = 0.30 Financial year 2011 stockholder equity = 667,899,000 - 630,612,000 = 37,287,000 Debt to equity ratio = 13,241,000/37,287,000 = 0.36 CBA has had a relatively low debt to equity ratio of less than 0.4 as shown from the calculations for the period starting from 2011 to 2014 implying that the company is financially stable and less risky. The company has been able to use more equity as evidenced by the declining debt to equity ratio from 0.36 in 2011 to 0.28 in 2014. Short Term Financial Policies of the Commonwealth Bank The short-term financing policy of a firm depends on the magnitude of the firm’s investment in current assets. The financing of current assets can use either a restrictive or a flexible policy. A restrictive policy is characterized by high liquidity as manifested through: large amounts of cash and marketable securities; large amounts of inventory; large accounts receivable and relatively low levels of short-term liabilities. In addition, it entails a low ratio of current assets to sales. On the other hand, a flexible policy is characterized by low liquidity manifested through: low cash and marketable security balances; low inventory levels; little or no credit sales and relatively high levels of short-term liabilities. It also has a high ratio of current assets to sales. The Commonwealth Bank has a mix of flexible and aggressive short-term financing policies because it has no inventories but has credit sales as evidenced by the net receivables among current assets. Current Dividend Policy Dividend policy can be seen as guiding principle selected by a firm to pay dividend to its stockholders. A dividend is the earnings given to shareholders from the profits of a company based on its dividend policy. CBA uses the constant dividend policy but offers a provision for reinvestment of all issued dividends. Therefore, it can be said to also use residual dividend policy. Constant dividend Policy Constant dividend policy is the provision of an exact amount of income for earnings from shares to shareholders by a company and depicts two scenarios; constant dividend policy and stable growth dividend. Stable growth dividend supports constant growth rate of dividend ultimately. Constant dividend policy has a fairly stable dollar dividend. A rise in the dollar dividend habitually does not take place until administration is persuaded that a superior dividend level is capable of being retained in future. Administration does not decrease the dollar dividend unless evidence obviously indicates that an extension of the current dividend cannot be maintained. Consequently, firms commonly set the dividend at a level that can be maintained and merely increase it when a new level is capable of being maintained. Residual dividend policy Investors concerned primarily in capital dividends should not centre on the company but concentrate on the quantity of earnings retained in the company for investment. The quantity of earnings retained is dependent on the amount and extent of adequate capital budgeting and the earning on hand to finance the equity part of the funds required to pay for a project. Any earning that remains after the project has been funded is given out in dividends. Consequently, the dividends come up from residual or leftover earnings, this is referred to as Residual Dividend Policy. The stable dividend policy is widely appreciated by shareholders and companies because the stockholders see a stable dividend as an indication of firm steadiness in earnings. In addition, lengthy quarterly discussion regarding dividend levels by board of directors is significantly reduced with an exception of when conditions merit a likely change, the usual dividend can be stated. The policy is not time wasting on the side of the board and permits its members to focus on more vital matters of the firm. The ex date is a day set by the securities exchange that companies have to adhere to in determining the list of beneficiaries of cash dividends for the subsequent period. Those who buy shares on ex date or after do not get dividends for that period. Franking means that a dividend earned by an investor in a company does not need to be taxed twice but only the difference between an investor’s tax rate and the company tax rate is to be paid by the investor. Unlike companies that have a tax rate of 30% investors have different tax rates. Table 2; CBA share dividends from 2011 to 2014 Source: Australian Share Dividend Information Resource The CBA dividends have been increasing year after year with the increase in earnings as shown in table 2 and the dividend payout ratio is above the industry average. Payout ratio is the amount of share earnings actually given to stockholders as cash or shares. Westpac Group Overview History Westpac was established in the late 1810s as the bank of New South Wales. It acquired the Commercial Bank of Australia and changed its name to Westpac Banking Corporation in early 1980s. To increase its market presence in Australia, it acquired Challenge Bank that was located in Western Australia in the mid-1990s and Bank of Melbourne in the late 1990s. In addition, it increased its market presence in New Zealand by acquiring Trust Bank New Zealand in the mid-1990s. In the early 2000s, it started to reshape strategically by selling its finance company, Australian Guarantee Corporation and acquiring Rothschild Australia Asset Management and portions of BT Financial Group. In mid-2000s it fully owned, Hastings Funds Management Limited by acquiring the remaining 51% in shareholding. It became a bigger multi-brand Group by merging with St. George Bank Limited in the late 2000s. In the 2010s, St. George was turned into an operating division of Westpac Group effectively making to be deregistered as a company. Vision and strategy Westpac Group has a vision of being among the great companies in the world through aiding their clients, persons and communities to grow and become prosperous. It has strategic priorities that are centred on continuous improvement of their relationship capabilities and contributions with clients. Customer serving divisions and distribution networks Westpac Group has approximately 12 million clients that are served through its 3 divisions, namely: Australian Financial Services, Westpac Institutional Bank (WIP) and Westpac New Zealand. Australian Financial Services is for Westpac Group’s business banking and retail operations for the Australian market and is inclusive of businesses, such as, BT Financial Group, Westpac Retail and Business Banking (Westpac RBB), and St. George Banking Group. In addition, it also entails Risk Management function and Banking Products. Westpac RBB is tasked with offering service and sales to about 6.1 million customer and small to medium enterprise for profit clients with approximated earnings of $ 100 million in the Australian market under its brand. Activities are carried out via Westpac RBB’S countrywide network that comprises: 71centres for business banking; 852 branches; managers in home finance; managers who have specialised in consumer and business relationship; experts in financial markets and wealth; internet channels; 1961 automatic teller machines and centres for customer service. St. George Banking Group is in charge of service and sales to approximately 3.2 million customer and corporate clients under its brands. Customer activities are carried out through a network that comprises: 429 branches; call centres; third party distributors; 988 automatic teller machines and banking services using the internet. Corporate clients with facilities that have a worth of up to $ 150 million are offered a variety of both banking and financial services and commodities inclusive of specialist advice in managing cash flows, handling of finance from property, handling of equipment related finance, treasury services, transaction banking and automotive finance. The activities for sales and service aimed at customers and corporate clients are carried out by relationship managers through 45 centres for business banking, centres for customer service and the internet channel. BT Financial Group is the division tasked with the management of wealth in the Westpac Group. It formulates, makes and distributes financial products that are intended to aid its clients in attaining their financial objectives by offering protection and management to their products. Operations for fund management include: personal banking and financial planning; the creation and distribution of retirement products, superannuation product and investment products and avenues for investment such as master trusts. In addition, there is insurance coverage for creation and distribution for general lenders, deposit bonds, life and mortgage. Westpac Institutional Bank offers a variety of financial services to customer, corporate clients and government customers in Australia and New Zealand via devoted industry relationship and expert product teams that have specialised knowledge in broking, financial and debt capital markets, margin lending, transactional banking and alternative banking solutions. Branches and subsidiaries in New Zealand, United Kingdom, Australia and major centres in Asia offer support to customers. Westpac New Zealand offers a wide range of wealth management products, retail and for profit products insurance products to New Zealand market of more than 1.3 million small to mid-size business clients and consumer. It operates through a broad network comprising of 206 branches inclusive of agency sites and 579 automatic teller machines in the North and South Islands. Risk The current assets to total assets ratio for Westpac Group as calculated using the figures in table 3; Current assets to total assets ratio = current assets/ total assets Financial year 2013 =608,818,000/651,360,000 = 0.93 Financial year 2012 = 646,748,000/701,897,000 = 0.92 Financial year 2011 = 614,760,000/670,228,000 = 0.92 The current asset to total ratio remained steady in 2011 and 2012 but increased by 1% in 2013. A trend that shows that the risk of the firm has been reduced as shown by an increase in the ratio of current returns to total returns in 2013. The debt to equity ratio for Westpac Group ratios are calculated using the figures in table 3 as: Debt to equity ratio = total liabilities/ total shareholder’s equity. Financial year 2013 = 607,769,000/43,590,000 = 13.94 Financial year 2012 = 655,883,000/46,015,000 = 14.25 Financial year 2011 = 628,402,000/30,047,000 = 20.91 The company has high debt to equity ratio implying that it relies more on debt financing to fund its operations making it to expose itself to risk. However, it has been consistently reducing its risk and its reliance on debt for financing its operations because it has moved from a debt ratio of 20.91 in 2011 to 13.94 in 2013 which has reduced its susceptibility to risk. Short Term Financial Policies of the Commonwealth Bank The company uses a mix of flexible and aggressive short-term financing policies as it has no inventories but has high amounts of cash. Table 3 of Westpac Banking Corporation Balance Sheet as at September 2013 Current Dividend Policy is Constant dividend payout policy Constant dividend payout policy offers the proportion of earnings to be paid out in dividends as fixed fraction of earnings. It means that firms would pay a dividend equaling a fixed proportion of their earning. However, earning is rather unstable and fluctuates with market changes and special circumstances of firms. Therefore, the instability of dividends matches the instability of earnings. The dividend policy of the company is to retain some earnings from shares for re-investment while giving some cash dividends to stockholders based on earnings per share. The retained earnings have been increasing consistently from 16.059 million in 2011 to 17.67 million in 2013 reflecting the company’s policy of retaining earnings for re-investment. Indeed, this has been reflected in the capital structure of the company as there has been a decline in the reliance on debt in financing operations in the company and also a decrease in risk via the reduction in debt equity ratio. The cash dividends depend on the financing needs of the company. Table 4: Westpac Banking Corporation share dividends from 2011 to 2014 Source: Australian Share Dividend Information Resource Recommendations Commonwealth Bank of Australia is the better investment because it has lower risk and has higher dividends. Westpac Banking Corporation can be included in a portfolio because it has declining risk though it has unstable dividends. Reference Ghosh, A., Cai, F., & Fosberg, R. H. (2008). Capital structure and firm performance. New Brunswick: Transaction Publishers. Berk, J. B., & DeMarzo, P. M. (2011). Corporate finance. Boston, MA: Prentice Hall Roth, M. (2012). Top Stocks 2013: A Sharebuyer's Guide to Leading Australian Companies. New York: Wiley.. 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Commonwealth Bank Australia, Overview, Commonwealth Bank Australia, viewed on 20 August 2014, < https://www.commbank.com.au/about-us/our-company/overview.html > Westpac Group, About Westpac, Westpac Group, viewed on 19 August 2014, < http://www.westpac.com.au/about-westpac/westpac-group/company-overview/about-us/ > Yahoo News Network, Westpac Banking Corporation Balance Sheets, Yahoo News Network, viewed on 18 August 2014, < au.finance.yahoo.com/q/bs?s=WBC.AX&annual > Yahoo News Network, Commonwealth Bank Australia Balance Sheets, Yahoo News Network, viewed on 19 August 2014, < au.finance.yahoo.com/q/bs?s=CBA.AX&annual >  InvestSMART Financial Services Pty Ltd, Westpac Banking Corporation, Morningstar Australasia Pty Ltd, viewed on 17 August 2014, < http://au.investsmart.com.au/shares/asx/westpac-banking-corporation-wbc.asp >  InvestSMART Financial Services Pty Ltd, Westpac Banking Corporation, Morningstar Australasia Pty Ltd, viewed on 17 August 2014, < http://au.investsmart.com.au/shares/asx/Commonwealth-Bank-of-Australia-CBA.asp> Australian Share Dividend Resource, COMMONWEALTH BANK OF AUSTRALIA, Australian Share Dividend Information Resource, viewed on 19 August 2014, < http://www.sharedividends.com.au/cba+dividend+history > Australian Share Dividend Information Resource, WESTPAC BANKING CORPORATION, Australian Share Dividend Information Resource, viewed on 19 August 2014, < http://www.sharedividends.com.au/wbc+dividend+history > Read More