The perks of ANZ’s Asian infatuation

A subtle shift from quantity to quality in Asia, and continued cost-cutting at home, has helped Mike Smith trump critics of his strategy with impressive results.

Against the backdrop of increasing scepticism about the merits of ANZ Banking Group’s Asian strategy, chief executive Mike Smith clearly feels the need to convince the market that he can walk and chew gum at the same time. It appears he can.

Today’s commentary around ANZ’s full-year results contained a spirited defence of the strategy, unique within the Australian banking system.

The group’s “super regional strategy” was driving improved customer outcomes, profit growth and stronger shareholder returns and the long-term nature of the strategy meant there was still “more gas in the tank.”

A third of the bank’s institutional clients were using the group in more than one country, with the value of the Asian network more pronounced for large clients, with almost 90 per cent of its top 100 customers using it in more than five countries.

International and institutional banking income in Asia had grown from 24 per cent to 34 per cent of total IIB income in the past three years and was growing three times faster than local income and products linked to trade and investment flows grew at double digit rates.

Global markets income topped $2 billion, with a record percentage flowing from Asia Pacific, Europe and America. Indeed, cash earnings from those geographies topped $1 billion. And so on.

There has been a subtle shift in the strategy during the year, with ANZ looking to organic growth and improved returns from its Asian businesses rather than continuing to invest big lumps of capital in expanding the network.

The crux of the criticism of Smith’s expansion into Asia has been that the capital would have been better deployed, and would have produced better returns, in its home market. That, of course, pre-supposes that there was an opportunity to deploy that capital in a domestic market where credit growth is modest and acquisition opportunities that would be allowed by the regulators scarce.

Smith’s response to that charge is that his Australia division grew profit by 11 per cent despite a virtually flat net interest margin, with 7 per cent income growth and a 2 per cent reduction in expenses.

ANZ has been generating above-system growth in home loans for more than three years and expanded its domestic loans and advances by 5 per cent in the year, and growth in its commercial and corporate lending has been above-system for the past 18 months.

For all the banks, the subdued demand for credit in their core market has resulted in an increasing focus on costs. ANZ lowered its expenses 3 per cent over the year, or the best part of $300 million, and its cost-to-income ratio fell from 47.7 per cent to 44.8 per cent. It also again improved its credit quality, with the charge for bad and doubtful debts down 5 per cent.

Given the context in which banks are operating, the 11 per cent increase in group cash earnings for the year was more than creditable and enabled ANZ to lift its return on equity from 15.1 per cent to 15.3 per cent.

Smith is targeting a cost-to-income ratio of less than 43 per cent and a return on equity of 16 per cent by September 2016.

In the post-crisis environment, with the additional regulatory capital and liquidity requirements that banks face – ANZ, on an internationally harmonised Basel III basis, has a common equity tier one capital adequacy ratio of 10.8 per cent – returns in the mid-teens or better would represent exceptional performance, particularly for a bank that is at its core a commercial and corporate bank rather than a retail bank.

The result tends to provide some support for Smith’s stance that the still immature Asian expansion and a well-performing domestic franchise aren’t mutually exclusive and that, in the longer term, ANZ’s exposure to the faster-growing Asian economies will both differentiate the group and deliver superior growth. That won’t, of course, muzzle the sceptics.

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