Commonwealth Bank's pillar of strength

There isn’t sufficient granularity within the Commonwealth Bank’s first-quarter update but there’s enough guidance to conclude that Ian Narev and his team have produced more of the same.

While the September quarter earnings do have something in common with the recent full-year results of CBA’s peers – further reductions in impairment charges and references to cost discipline – a 14 per cent increase in cash earnings relative to the same quarter last year is a very strong outcome within the industry context of meagre credit growth.

In a sector where lower charges for bad and doubtful debts and continuing cost reductions have been responsible for almost the entirety of earnings growth, CBA has been able to add an extra element in recent times – solid revenue growth.

In today’s update the group said it was a combination of “solid” revenue growth and cost discipline that had produced positive “jaws”  – a stronger rate of growth in income than costs – in the quarter.

CBA has been able to push down the cost-to-income ratio in its core retail banking business significantly in recent years, partly because of the massive investment it has made in rebuilding its core systems. It also prides itself on what it terms its “productivity culture”. Staff and customer satisfaction have been a major focus for the group since Ralph Norris’s term as chief executive.

There is no doubt that the historically low levels of impairment charges were a significant contributor to the result, as they have been for all the majors in the past few years, but they are a declining source of earnings improvement.

CBA’s impairment charges for the quarter were $228 million against the $291 million incurred in the same quarter of last year and the average of about $250 million a quarter experienced over the year to June. Its ratio of impairment charges to gross loans has now fallen from about 85 basis points five years ago at the onset of the financial crisis to only 16 basis points.

In the second half of the 2012-13 financial year that ratio was 17 basis points, an indication of the waning momentum from that source. In historical terms, the bad debt experience is now well below what might be regarded as “normal” in reasonable economic conditions.

In any event, the contribution from lower impairments to the earnings growth of about $250 million was, relative to the previous corresponding quarter, only $63 million which says that the larger part of that growth came from further productivity improvements and top-line growth.

CBA said its net interest margin was marginally lower than in the prior half-year (something else that was evident in its peers’ performances) but that trading income was relatively strong and its mortgage credit growth was slightly ahead of the system’s.

It also said the strong equity markets had helped it grow its funds under administration and assets under management by 4 per cent in the quarter and that insurance premiums had increased 2 per cent, suggesting its wealth management and protection businesses are performing well.

In common with the rest of the sector CBA remains well-capitalised – its common equity tier one capital adequacy ratio is 10.7 per cent on the internationally harmonised basis – has strong liquidity ($137 billion) and is largely (64 per cent) funded by customer deposits.

That and the strength of its earnings base puts it, and the other majors, in a strong position to respond to whatever extra capital and liquidity requirements the regulators might impose and to deal with whatever the external conditions within the domestic economy, which do appear to be improving slightly but remain fragile, might throw up.