The price of hubris: CBA's result is great, if you ignore the bad bits

The cost of arrogance is rarely quantified. But the Commonwealth Bank’s 2018 profit lays out line by line the price the bank has paid for the management and board’s poor governance and compliance – the cost of not ensuring that it played by the rules.

The Commonwealth Bank should have reported an 3.7 percent improvement in profit. Instead, it posted its first earnings decline since the global financial crisis – and this time without a global financial crisis to blame.


But this is the result CBA had to have. It was always going to be the profit purging result, and it was always going to be a messy one.

Matt Comyn, the new chief executive, had to get this one out of the way before he could rebase the performance under his management.

That is not to say it will be plain sailing from here. It won’t be. There will be a long tail to the fallout from previous mistakes.

Own goals

But 2018 should contain the lion’s share of unpleasant washup from CBA’s own goals.

In June, the lender had to pay $700 million to settle the suit brought by the country’s financial-intelligence agency Austrac. CBA admitted to failings including the late filing of mandatory reports and not sufficiently assessing risk.

The month before it admitted traders attempted to engage in “unconscionable conduct” in the setting of a benchmark interest rate. That cost CBA $25 million in fines.

And the month before that, it was hit with a scathing report on its corporate culture and ordered by the prudential regulator, APRA, to strengthen its capital buffers by an additional $1 billion.

These were all costly but avoidable developments.

On top of this, there is the $389 million in additional provisions recognised in the 2018 financial year – new risk and compliance provisions of $234 million and one-off regulatory costs of $155 million.

These provisions relate to financial crimes compliance, an Australian Securities and Investments Commission investigation,  shareholder class actions (where investors are trying to claw back losses on their shares following the Austrac revelations), the actual costs of the Austrac proceedings, the Royal Commission and the APRA Prudential Inquiry.

Second wave

And there will be a second wave of affected results as plans to sell or spin off various scandal-ridden businesses will be completed over 2019,  leaving CBA with a simpler organisation but fewer earnings streams.

The divestment of its insurance arm is already well underway, and the wealth management demerger is in train. Together, these account for a bit more than 7 per cent of CBA’s profits.

These profits will need to be replaced by better performances from the remaining core assets, or dividends will come under pressure.

Investment at the bank will be remain elevated this year and cutting the cost base is more likely a medium term objective.

No grand promises

Indeed, Comyn is making no grand promises for the near future. While playing up the fact that the CBA franchise is strong with good bones he concedes the housing market is slowing and that CBA is growing its housing loans below system – a deliberate decision in a particularly competitive market.

Analysts will understandably overlook the one-off costs resulting from management's poor judgement, poor risk processes and hubris, and instead concentrate on the underlying result.

But they won’t overlook the deteriorating second half of CBA’s financial year, and they won’t overlook the less than favourable credit squeeze that is emerging in the industry.

Sure, there are some positive features in the result – year-on-year, the important net interest margin was up, however the bad news is that it was weaker in the second half relative to the first half.

Congratulations on a great result if you ignore everything that was really bad.

Net income was also down in the second half against the first half. In other words, the trend is deteriorating.

Despite some current macro-economic challenges, there are no serious signs of an increase in impaired or non-performing loans.

There are a few pockets of stress among mortgage holders but these are not wildy elevated.

Mixed bag

Broadly this result was a mixed bag that left almost everyone confused. For some experts it was better than expected, for others it was in line, while some were disappointed.

"Congratulations on a great result if you ignore everything that was really bad," is how one of the country’s leading analysts, CLSA’s Brian Johnson, opened his question to Comyn in CBA's earnings call.

The fact that the share price improved by almost 2 per cent in the hours after the results were released reflects nothing more than the board’s decision to increase the dividend by 2 per cent over the year – a move that was a bit confusing considering the result.

Comyn described this as a challenging period – a master understatement. The challenge is not yet over.

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