For a bank the past three months have certainly seen some market action in Adelaide Bank (ADB).
The shares peaked at an all time high of $14.12 in November and then tumbled after earnings were downgraded.
They reached a 52 week low on January 10 when the shares hit $12.11: then bounced and by the close of trading yesterday, had risen $1.05 or so, including a sharp gain yesterday, as the bank produced a four per cent gain in interim earnings. They closed at $13.16.
After the earnings downgrade of last November investors had obviously had ADB on a ‘suspicion’ list and the 53c jump yesterday after the profit news looks to have been a relief rally more than anything else.
Now ADB can catch up to its peers in the rally in bank shares over the past fortnight which has seen the likes of the Commonwealth top the $50 a share mark and hit a new record high or two.
Adelaide Bank said says earnings are on track for the full year at the lowered level of guidance from last November after reporting a four per cent rise in interim profit to $43.22 million.
Adelaide Bank is the first of the handful of June/December balancing banks to report: the Commonwealth is the major and it’s expected to produce a strong first half result in just under a fortnight’s time, hence its strong price in recent days.
ADB said annual earnings are expected to be toward the upper end of its current guidance range of six to nine per cent growth in earnings per share (EPS) before significant items.
New CEO, Jamie McPhee said the bank remains confident of returning to EPS growth of 10 per cent from fiscal 2008, which was the target before last November’s downgrade.
Last November, Adelaide Bank issued the downgrade after competition in the mortgage lending sector forced it to remove premium pricing on its low documentation home loans products.
That forced the bank to cut its full year EPS growth forecast to between six to nine per cent, from 10 per cent.
“The bank is confident that its unique partnering business model combined with innovation, synergy between businesses, continuous improvement and ongoing accessing of niche markets will underpin strong medium to long term growth in returns for current and future shareholders,” Mr McPhee said yesterday.
It repeated that guidance yesterday, but added that earnings are expected to be toward the upper end to the range.
“We are confident of returning to our previous stated objective of achieving 10 per cent earnings per share growth from financial year 2008,” Mr McPhee said.
He said the repricing of the bank’s low documentation loan portfolio was 90 per cent complete.
“Any further repricing will have minimal impact on the future profitability of the Residential Lending business. Combining these factors with our focus on improving the operating efficiencies will ensure that Adelaide Bank continues as a profitable supplier of residential mortgages.”
A worry for investors though should be the compression in interest margins and signs of some cost pressures emerging.
The net interest margin fell 10 basis points to 1.03 per cent in the December 2006 half year and Mr McPhee told a corporate file briefing on the ASX:
“We’re forecasting a group margin decline of around 3 basis points in the second half of this financial year. Our mortgage margin decline is slowing, despite the market remaining highly competitive, particularly for Lo-Doc home loans, firstly, because the re-pricing of our higher margin Lo-Doc loans is in excess of 90 percent complete. Also, Lo-Doc settlements have decreased to 26 percent from 32 percent of new business.
“The strength of demand for our higher margin, solution based products, for example, Portfolio Funding and Margin Loans, which are less interest rate sensitive, is moderating margin decline”.
The interim report shows that ADB’s average volume of residential loans under management rose 11 per cent higher in the latest half, net interest margins fell 8 basis points, and the business’s pre-tax earnings fell by 30 percent to $22.6 million.
Mr McPhee told corporate file that ADB was “absolutely committed to the Residential Lending market and third party distribution. We estimate that around 37 percent of all loans in the Australian market are currently originated through third parties.
“Our focus is on profitable growth. Volume growth and market share targets are not a priority.”
ADB saw cost problems in some parts of the business grow with the slowing level of revenue growth. The cost to income ratio in residential housing jumped to more than 56c from 46c in the dollar, even though the banks’ overall ratio eased to 51c in the dollar.
And bad debts were up with the provision Bad and Doubtful Debts rising from $5.2 million to $8.1 million.
Mr McPhee said “The credit quality of the bank remains strong and the balance sheet well secured. Impaired loans remain stable at $24.4 million, which represent 0.18 percent of our gross loans, with net impaired assets of 0.09 percent of gross loans. There are no signs of repayment capacity problems across our portfolio. Importantly, our consumer lending exposure is modest at about $230 to $240 million.
“Growth in the provision reflects the flow through of the increase in residential loan arrears from previous periods. Residential bad debt write-offs of $1.7 million rose to a more normal level of 0.04 percent of non-securitised loans. The trend has now stabilised.”
