Fundamental Analysis Of Australian Banking Industry: Westpac And Commonwealth Bank Of Australia Essay.

Fundamental Analysis seeks to identify factors that are likely to influence directional changes in the value of a company and hence its share price. These factors may be macro or micro in context.

Requirements. The assignment comprises two related sections:

1. Conduct a Top Down analysis of the overall economic environment and consider how forecast changes in economic fundamentals will impact on the performances of companies in the industry your group has chosen. Consider questions including, but not limited to: What is the current interest rate? What is the current value of the $AUD? What is current GDP etc?
2. Conduct a Bottom Up analysis of companies’ current financial situation. Consider accounting ratios and measures of a firm’s performance, how these need to be compared to the industry and company history,
3. All of the required information for calculation and often the actual ratio/number can be found on various websites on the internet.

Note: When your group is performing the fundamental analysis take a less is more approach. Select a few key performance measures then define each measure; explain what the measure is supposed to show and then what it is showing for the industry/your companies.

Refer to both your textbook and information available on the internet. This assignment involves research to finding the information and then analysing this resulting information.

When writing the report, imagine that your audience are people that know nothing about finance or the financial markets. At each stage you will need to carefully explain what do are analysing and why. Do not think that just because your lecturer will know what this ratio means that you do not have to define it.

You should also give a brief introduction of the industry and the history, mission statement of your chosen companies. Your paper should conclude with a summary of your findings and recommendations for each of your companies.

Australian banking industry background

For the purpose of investment, investors are required to conduct in depth analysis of the industrial sector in which they are seeking investment prior to making any investment. Changes in economic fundamentals and its impact on the performance of companies can be evaluate by conducting fundamental analysis. Value and share price of company is considerably affected by micro and macro-economic factors. For presenting the picture of industry and economy at macro level, investors can perform top down analysis. Macro-economic picture of companies on other hand is depicted by conducting bottom up analysis (Petty et al. 2016). Fundamental analysis of two organizations from banking industry listed on Australian stock exchange are conducted in present report. Two organizations are Westpac and Common Wealth Bank of Australia.

The banking sector of Australia has improved since the introduction of banking Act, 1959. Overall growth in performance of banking has been attributable to the growth in performance of assets. Compilation of industry information has be from various sources such as Reserve Bank of Australia, Australian Brea of statistics and Australian prudential regulatory authority. Since the global financial crisis, there has been decline in the results of four major Australian banks. Performance of credit control has remained stable and upside has been witnessed in impairment theory. On the major agendas of banks, there is a continuous rise in cash management. Since the proposal of government to nationalize the banking industry in late 1940s, the sector has experienced the most intense issue of social political agenda. There has been lower credit growth outlook for major banks. Major Banks in Australia is working hard for shaping new environment that helps in providing connected and more thoughtful experiences by engaging staffs and technology as key enablers.  Banks are diverse and large organizations having long histories and changes in the banking sector is complex. Reframing the norms of organizations along with resonant offerings, messages and contact points are need to be created and that should be deeply embedded (Blondy et al. 2015).

The performance of assets of major Australian banks is responsible for analysis of financial stability. Development and growth of country is analyzed by important decisions and competitive positions of respective banks. There has been consistency in nature of growth of competition in banking sector and evaluation of commercial property is trend of banking sector. Some of developments of banking sector involves securitization quintessence and presence of banks along with change in assets. Moreover, decline in growth has been in terms of falling and declining of finance companies, building societies and credit unions.

Background of Organizations

Common wealth bank is multinational bank of Australia offering business in wide range of areas.  The mission of organization is to provide valuable services to their customers and it was established under Common wealth bank Act, 1911. Bank has a tremendous growth in its people and shareholder base.

Westpac is one of the oldest bank of Australia that was established in year 1817. The quality of portfolio of assets offered by bank was improved by low new problem facilities, stressed asserts and work out of impaired facilities. Commercial and institutional segments of organization continued to perform well due to their protective balance sheets and cautious customers. Adequate provisioning is maintained by organization that involves provision of impaired assets and collectively assessed provisions to weighted assets credit risks. During the financial year 2015, there were provisions relating to growth that is largely offset by impact of standard exposures and run off in watch list. Mission of organization is to provide sufficient returns to shareholders, customer and business professionals (Banerjee 2015).           

Investors for evaluating the performance of organization by looking the several macro factors such as GDP growth rate, inflation, interest rate, unemployment rate, political factors and exchange rate use top down approach. An impressive economic progress has been recorded for more than 25 years that is unmarred by recession. There has been a robust entrepreneur development supported by well-functioning legal system, effective system of government and independent bureaucracy.

Banking and finance industry contributed $ 148.9 billion to $ 1.6 trillion of Australian economy for the year ending 2016. Value added for banking sector is highest on record. For the year ending, growth in insurance and finance industry was recorded at 4.5%. For the past for years, there has been consistent growth in banking sector between 3.8% and 4.5%. The contrition of banking industry to the national economic activity has reached a high of 9.5% (bankers.asn.au 2017).

Banking industry value added:

(Source: bankers.asn.au 2017)

Over the four years as the effect of global financial crisis, there was a decline in the contribution of banking industry toward the economy. However, there has been gradual increase in contribution.

Banking sector contribution to economy:

(Source: bankers.asn.au 2017)

The growth of banking sector has outperformed the growth of overall economy of Australia. Growth of this sector was double that the growth of economy.

For the financial year 2016, it has been highlighted by the results of major banks in Australia that there is a slow growth in recorded earning growth that reflects the subdued domestic economy and increased requirement of regulatory capital. Banking sector is experiencing the challenge of competitive environment and lower interest rate resulting for increased funding of customer deposits and asset repricing. In light of challenging economic outlook, the major banks will continue to focus on productivity, capital efficiency, refinement of business model and productivity (Van Horne 2014).

Top down analysis

Overview of Australian Economy

(Source: bankers.asn.au 2017)

In order to offer and serving at best to Australian economy, banking sector has been struggling in the past few years. One of the major contributor to the growth of gross domestic product of country is GDP. The contribution of banking sector toward the growth of Australian economy over the past five years is $ 25.9 billion and the percentage value stood at 13.4%. Therefore, banking sector has contributed more than 10% of the economic growth of Australia. There has been considerable contribution in the Australian economic sector towards the economy that stood at 1.8% (Ogiela et al. 2015).

Other factor that needs to be crucially considered is the inflation factor that needs to be considered while making repayment of debt value. Lower interest rate cannot be withstood that has impact on gross domestic value of Australia. One of the biggest contributor to Australian economy is banking sector as opined by many economists. An estimated 45000 people is employed by this particular sector and the estimated amount of contribution of banking sector stood at $ 140 million. Some of the major banks listed in Australian stock exchange includes Westpac and Common wealth bank of Australia.  9.5% of economic activity received contribution from banking sector and this was the highest contributor. Victorian and NSW economies received great contribution from the banking sector.

It is expected that banking sector can significantly contribute to the growth of economy, as the financial system of organization is robust.

(Source: bankers.asn.au 2017)

The contribution of banks toward economy is evaluated by analyzing performance of banks. Growth of economy has been assisted by the sustainable growth in banks performances. Overall growth of sector has been received assistance from strategic mission established by banks for helping shareholders.

Furthermore, for conducting top down analysis, it is requires to ascertain the performance of selected organization. The financial performance of Common wealth bank and Westpac bank can be significantly affected by growth in GDP rate in coming years. Market capitalization of both organizations can be enhanced if there is declining Unemployment and GDP growth rate. Since, last few years performances of organization is expected to grow resulting from economy growing pattern.

Domestic credit growth:

(Source: pwc.com.au 2017)

Domestic credit growth -There has been stability in the funding mix of major banks of Australia including Westpac and Common wealth bank and the deposits of bank growth on overall basis continued to increase.

Overview of Australian Economy

The bottom up approach takes into account approach of economy, industry and company. This particular approach deals with the analysis of individual stocks and focuses on the performance of specific organizations rather than the whole industry. Investors are required to conduct a thorough analysis of the finance performance of organization prior to investing and bottom up approach is a tool used for this purpose. This particular approach is consider suitable when investors are seeking investment for long-term.

Analysis of financial performance of organization can be done by using the tool of ratio analysis. Analyzing some particular ratios of organization would help in identifying the trend of financial performance over long-term. Apart from identifying an organizations financial trend, toll of ratio analysis also facilitates making comparison between different companies operating in same sector. 

Ratios that helps in ascertaining the financial position includes calculation of profitability ratio, liquidity ratio, efficiency ratio, solvency ratio and growth ratio. Figures suggested by calculation of these ratio helps in depicting overall financial position of particular organization.

The profitability position of organization is analyzed by calculating net profit margin. Gross profit margin and dividend pay-out ratio. Operating profit is calculated as operating income percentage with revenue generated from sales. Dividend pay-out ratio depicts total amount of dividend that is payable to shareholders of organization in proportion of net income generated by company (McKinney 2015).

Profitability ratio of CWB:

Operating Margin of Common Wealth Bank of Australia:

Net profit Margin of CWB:

Dividend payout ratio of CWB:

Operating profit margin of Common wealth bank has witnessed fluctuation since year 2011. However, fluctuation was not much significant. Profit margin has increased initially and decreased subsequently (Sweeting 2017). Operating profit margin for year 2015 stood 45.87% as against 46.56% in year 2014 respectively. Net profit margin on other hand, has initially increased to 33.50% in year 2014 as compared to 31.91% in year 2013 and value further fell to 32.96% in year 2015 respectively. Dividend payout ratio in initial period of analysis stood at 0.04% in year 2012 that fell to 0.025 in year 2013 and again value rose to 0.05% and further decreased to 0.04% in year 2015. Therefore, it can be said that there have not been considerable fluctuations in the profitability position of Common wealth bank.

Profitability ratio of Westpac bank:

Operating margin ratio of Westpac

Net profit margin ratio of Westpac

Dividend payout ratio of Westpac

Operating margin of Westpac has initially declined and subsequently increased in year 2014. Value stood at 36.57% in year 2014 as against 37.02% in year 2015 respectively. In the initial period of analysis, operating margin has witnessed significant reduction from 50.34% in year 2011 to 49.28% in year and this value increased significantly to 57.13% in year 2014. Dividend pay-out ratio has remained more or less same. Value stood for 2013 at 0.03% and this reduced to 0.02% in year 2015.

When comparing performances of both organization, it can be deduced from above graph that operating profit of common wealth bank is lower than that of Westpac. The profitability position o Westpac is much better than common wealth bank. Reason is attributable to the fact that former is experiencing low direct and indirect expense along with higher amount of sales revenue generation.

Utilization capacity of common wealth bank is less compared to Westpac as reflected in the sales revenue figures. However, there has been decline in value of net profit of Westpac. This is so because the sales revenue of Westpac is lower than Common wealth bank. Therefore, despite higher net profit generated by Common wealth bank, they have failed in managing and reducing their operating expenses.

Dividend pay-out ratio of CWB is better and efficient in comparison to Westpac and it can be induced from this fact, that dividend payment of CWB is more efficient and frequent corresponding to their profit margin. Receiving dividend at the end of any financial year is the main concern of investors.

Efficiency position of organization is reflected by calculation of efficiency ratio that depicts the organization’s internal behavior and how well assets and liabilities are efficiently utilized. Investors are able to get idea about asset turnover, total amount of receivable and payables and utility of assets.

Asset turnover ratio depicts the value of sales that is generated by organization in relation or proportion of value of assets. It is depicted from the graph that there has been wide fluctuation in asset turnover ratio and value increased from 0.29 in year 2014 to 0.31 in year 2015 respectively. This value depicts the efficiency of organization in utilizing their current and fixed assets.

It can be depicted from above graph that asset turnover ratio of Westpac has increased in year 2015 to 0.026 as against 0.025 in year 2014. An increase in ratio is indicative of the fact that efficiency of organization in utilizing their assets for generating revenue has increased in recent year. This is regarded as favorable situation in investor’s eyes as they perceive that organization is efficiently utilizing assets for generating revenue (Karadag 2015).

From the above analysis and by observing graphs, it can be said that a higher percentage of sales to total assets has been utilized by CWB as compared to Westpac. Therefore, in this regard, CWB is considered as more efficient compared to Westpac.

The liquidity position of organization is analyzed by calculating liquidity ratio such as current ratio. Ability of organization to utilize its current assets and make its use for making payment to short-term creditors and pay off short term obligations is depicted by using current ratio. It depicts how efficient an organization is to make or clear its short-term obligations using their current assets.

From the above graph, it can be said that current ratio of CWB has witnessed significant decline in current ratio. Ratio has fallen from 2.26 in year 2014 to 0.89 in year 2015. It is suggested by figure that efficiency of organization utilize their current assets for making short-term payments has decreased. It depicts that there is adequate cash flow that helps in making payment to short-term creditors. 

The liquidity position of Westpac has reduced as depicted by fall in current ratio. Current ratio stood at 1.798 for financial year 2014 that reduced considerably to 1.26 in year 2015 respectively. This fall in ratio is indicative of the fact that ability of organization to utilize their current assets for meeting their obligations has decline. However, the liquidity position of Westpac is much higher as compared to CWB. This shows that CWB is less efficient in utilizing their current assets for meeting their obligations. There has been variation in current ratio for both the organizations over the years and Westpac can make their short-term obligations payment with ease as against CWB. Significant fall in current ratio of CWB has been due to selling off current assets due to obsolescence.

Banking sector plays a vital role in the economic development of Australia and it is ascertained from the analysis that they would have prosperous growth in recent years. From the above analysis and evaluation of banking sector of Australia, it can be said that although performance of few banks have declined due to their slow earning. Conducting top down and bottom up analysis helps in providing actual scenario of organization and the industry in which it operates. Top down analysis depicted the contribution of banking sector to economy in terms of Inflation, gross domestic product, employment and overall functioning of economy. Banking sector contributes a significant proportion to the Gross domestic product of economy.

Using the bottom down approach has exhibited the performance of two large banks operating in this sector that is Westpac and Common wealth bank of Australia. In terms of liquidity and profitability position, Westpac has performed more efficiently as compared to Common wealth bank. CWB has outperformed the market standard in terms of sales generated and profit figure. Share prices of banks is significantly influenced by the performance of market and the dividend policy that they adopt.

During last few financial year, it has been ascertained that CWB has not been able to maintain their liquidity position and have not been able to restrain their ongoing operating expenses. Over the last few years, Westpac has maintained a stable profitability and liquidity position and have generated favorable return to investors.

When looking at economic scenario of Australia, some of economic factor was not favorable such as interest rate, current account deficit and unemployment rate. Therefore, investors seeking investment for long-term should make investment in both companies. When investor seek investment for short-term, it should make investment in Westpac that would generate favorable return for short-term.

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