Regional banks' new pacesetter

PORTFOLIO POINT: A resilient – and growing – branch structure and strong figures give Bendigo & Adelaide the edge over Bank of Queensland.

Earlier this week Bendigo & Adelaide Bank predicted that conditions would remain difficult for at least another six months after reporting near-flat cash earnings of $162.6 million, which excludes a previously announced $95 million writedown of goodwill on its margin lending book.

Net interest margins fell 6 basis points in the first half when compared with the previous six months, underlining the fierce competition for deposits and mortgages.

Thanks to a $150 million placement to institutional shareholders in December, Bendigo looks well enough positioned to navigate the significant challenges faced by the banking sector.

The placement increased the weighting of Bendigo’s share register towards institutional shareholders who are going to demand greater focus on financial performance than has been demonstrated previously.

Bendigo MD Mike Hirst says the bank has good growth opportunities and notes his bank has been growing its mortgage book faster than the industry average. Unlike NAB, Hirst says Bendigo & Adelaide is growing its book through the strength of its differentiated customer services proposition.

These days the bank has more than 280 community bank branches across Australia, which is approaching the size of footprint of the smallest of the major banks, ANZ. More branch openings are planned. These community branches appear to operate under a structure that is more resilient to lower credit growth than Bank of Queensland’s franchise-styled owner managed branches in a post GFC environment.

Under the community bank model, Bendigo & Adelaide gets 50% of the margin and the community gets the other 50%, while fees get split on a reward-for-effort basis. The community branch pays 100% of expenses, such as leasing and staff costs.

While the majors look to slash jobs, Hirst remains reluctant to follow suit. During the GFC, instead of cutbacks, the bank offered staff up to 10 days of unpaid leave. The scheme was enthusiastically embraced with more than half the staff participating and is likely to be repeated if conditions deteriorate further. It’s a great way of cutting costs while retaining the bank’s “memory” for when conditions improve.

By contrast, the major banks seem intent on trashing their brands, destroying any chance of winning further support out of Canberra if conditions deteriorate further.

Bendigo & Adelaide does have a differentiated product offering and that is demonstrated by the high level of customer satisfaction it enjoys.

-Customer satisfaction
	% of satisfied customers (14 ) December 2011
ANZ	77.9
CommBank	77.5
NAB	78.0
Westpac	76.4
Total four major banks	77.4
Adelaide	77.1
Bank of Queensland	81.7
Bankmecu	87.5
BankWest	82.2
Bendigo Bank	89.5
ME Bank	87.8
Macquarie Bank	82.6
St George	82.8
Suncorp	84.8
Citibank	61.3
HSBC	78.0
ING Direct	88.4
Total foreign banks	83.5
Total banks	79.3
Total building societies	90.0
Total credit unions	88.7

Source: Roy Morgan Research

With 90 branches in rural areas where no other bank has a physical presence, Bendigo & Adelaide is the most likely bank to receive some free kicks from Canberra.

Last October, Bank of Queensland reported higher-than-expected bad debt charges and a lower than expected second half dividend. It also revealed a blow out in 90-day arrears, particularly in other retail and business loans, which bode ill for the future.

It was a baptism by fire for new managing director Stuart Grimshaw and underlines the challenging conditions facing all the smaller authorised deposit taking institutions (ADIs).

Grimshaw is a talented career banker but his appointment underlined a decision by the bank’s board that a change of direction was necessary, otherwise directors would have chosen an internal candidate.

Then in December, Standard & Poor's cut Bank of Queensland’s rating from BBB to BBB.

About the same time, S&P upgraded Bendigo & Adelaide Bank’s long-term rating from BBB to A–. This preceded a $150 million placement and the acquisition of the local loan book of Bank of Cyprus for about $130 million, a deal that looks to have won support from the market with a number of big institutions participating in the float.

The prospect of a merger of the regional banks, perhaps including the banking operation of Brisbane-based Suncorp, appears remote. Bendigo said this week that conditions were not conducive to sizeable bank mergers at present.

Prior to the GFC it was easy being a deposit-taking institution, whether big or small. Now, in an environment where mortgage growth is running at a single-digit levels, the cost of funding is at record highs even for the biggest and best rated banks. For regional banks that don’t have an AA credit rating it is particularly challenging.

Stewart Oldfield is a research analyst at InvestorFirst Securities.