Top-down Analysis
This report has been developed for undertaking a fundamental analysis of two ASX listed companies that are operating within the same industry. Fundamental analysis can be described as a method used by the investors for analyzing the macro and micro economic factors impacting the performance of a company. It consists of the use of top-down and bottom-up analysis to gain an analysis of the economic and company specific factors that can impact its performance in the future context. Top down analysis begins with examining the macro-economic factors that can have an impact on the future performance of a company in context. This is followed by bottom-up analysis that is carried out to gain an insight into the current financial condition of a company to compare it with industry performance. In this context, the company selected for analysis purpose is Westpac Banking Corporation and Australia (ANZ) operating within the banking industry of Australia.
The analysis is carried out for examining the macro-economic factors such as interest rate, current value of currency, GDP growth rate, inflation rate and the type of business cycle in which the economy is operating. This has been carried out as follows for determining the impact of economic environment within Australia on the performances of the selected banking corporations.
The Reserve Bank of Australia (RBA) has kept the interest rate within the country steady up to 1.5 per cent since the past two years. The move of the RBA is supported by the intention of reducing the unemployment and keeping the inflation low within the country. This has been done by the RBA with the intention of continuing the economy growth by reducing the cost of borrowing and weakening the Australian dollar to keep the exchange rate to be low. This is because the lower interest rates would lead to a decline in the cash inflows from foreign investment causing a decrease in the rate of exchange. The reduction in the cost of borrowing would help the borrowers to repay the debt more quickly. The interest rates are expected to remain low to the current level as RBA intends to attain financial stability and stimulating the economic growth of the country (Verrender, 2017). The expected forecast of the interest rate within Australia can be depicted as follows:
(Source: https://www.marketindex.com.au/rba-cash-rate)
The value of $AUD is on decline and is currently recorded as low as about 72 US cents and it is expected to further decrease in the value over the coming period. This is due to decline in spending power of consumers that is causing a negative impact on industrial growth. In addition to this, the rising unemployment within the country is expected to cause slower growth of economy. In addition to this the falling interest rates is leading to reduction in the exchange rate due to low capital inflows from the overseas. These all factors are causing the weakening of the Australian dollar and RBA is emphasizing to keep the dollar value low to maintain a stable economic growth within the country (Cottle, 2017). The trend in the value of AUD over the past few years can be depicted as follows:
Current Interest Rate
(Source:https://www.news.com.au/finance/economy/australian-economy/the-suddenly-dreadful-aussie-dollar/news-story/43aed7c63ea2b7ac91f55ad17c5af210)
The GDP growth within Australia is on increase and has recorded an average growth of about 0.86 per cent from the year 1959-2018. The annual growth rate of Australia is recorded to be about 3.46 per cent on an average from the year 1960 to 2018. Thus, it can be said that the economy of the country is expansion phase since the value of GDP is on increase from a larger period. It is estimated that service sector constitutes about 60% of the GDP of the country followed by agriculture and mining sector. The GDP growth rate within the country is expected to increase in the future context with an expected growth in the mining sector. The increase in the net exports from the country due to growth in mining sector is expected to cause a large increase in the GDP growth rate of the country. The economy of Australia is growing at a rapid rate and thus the economy is regarded in a positive phase of development for supporting industrial growth (Trading Economics, 2018).
The inflation rate within Australia is also maintained at a lower rate to about 2 per cent by the end of this quarter of the year 2018. The main reason for the decline in the house prices is mainly due to the slower growth realized in the housing and transport sector. However, it has recently realized a slower growth in the second quarter of the year 2018 as compared to that of previous year of 1.9 per cent. The increase in the consumer prices for cost of transport, alcohol, tobacco, education and financial service sector has caused an increase in the inflation rate within the country (Central Banks, 2018).
Australia is presently in a state of developing phase of economic growth and development. This is because large growth realized in its service and mining sector that are contributing to larger revenue realization for supporting the economic growth. It is also having an open trade and investment policy that is responsible for promoting the export of mining commodities to overseas resulting in large amount of cash inflows. The country is also having a strong fiscal policy that is responsible for maintaining a fixed level of tax rate charged to the corporate. The financial stability within the country is further supporting the growth and development within the industrial sector is causing capital inflows within the country.
The banking industry of Australia because of the recent economic changes has depicted major changes. The presence of open trade and investment policies is causing the inflow of foreign investment and there has been increase in the shareholders of the banks. The deregulation of the financial service sector is also facilitating large help and growth for promoting their development by collaboration with the other business entities across the world. The lower interest rate maintained by RBA has promoted deposits acceptance by the banks due to low cost of borrowing on the loans. The weakening Australian dollar is also leading to capital inflows into the banks by causing a reduction in the amount of collateral required to post on cross-currency swaps for hedging offshore bond issues. The lower interest rates are promoting credit growth and causing the consumers to seek high-yielding alternatives to deposits. The low inflation rate is supporting the spending power of consumers and therefore leading to the support and growth of the banking sector. The positive cycle of economy supported by increasing GDP growth rate is also promoting the growth of the banking sector. Thus, it can be said that with the macro-economic environment of Australia is presenting major opportunities to the banking companies such as Westpac and ANZ to develop various strategies for promoting the value of their business. Also, with a forecasted positive state of economic growth and financial stability to be maintained within the country it is estimated that banking companies will depict a higher growth in the future context (Central Banks, 2018).
Value of Australian Dollar
This section has undertaken a bottom-up analysis for the two banking companies selected. The bottom-up analysis has been used for evaluation of the micro-economic factors impacting the share prices movements of both the companies. This has been carried out by gaining an analysis into the current financial performance of the banking corporations through the use of technique of ratio analysis. The ratio analysis presents a comparative analysis of the performance of the banking companies by examining their profitability, liquidity, solvency and market potential (Chan-Lau, 2017).
(Westpac Group: Annual Report, 2018) and (ANZ Group: Annual Report, 2018)
The analysis provides a depiction of the ability of a company to generate revenue through its business operations. The profitability position of both the banking companies can be analyzed through the use of following ratios:
Return on Equity (ROE): The ratio determines the net profit realized by an entity on the equity invested by the shareholders. The ratio is highly important from the view of shareholders as it helps in determining the return that the bank will provide for the shareholders on the amount invested by them. The formula used for calculation as follows:
ROE=Net income after tax/Average shareholder’s equity (Davies and Crawford, 2011)
It can be stated from the comparison of the ratio for both the banks that Westpac is able to successfully utilize its equity resources for creating return for the shareholders in comparison to that of ANZ. However, both the banks have reported a decreasing trend on their ROE which states that their ability to create returns for the shareholders is decreasing over the past there years. This can be due to decline in the value of AUD and slower growth in the housing market impacting the net profit generated by the banks.
Net Profit Margin: The ratio determines the net profitability position of an entity on the percentage of total sales realized. The formula for its calculation is depicted as followed:
Net Profit Margin=Profit after tax/Revenue Realized
The calculation of the ratio for both the banks over the past three years has clearly depicted that net profit margin of Westpac is higher than ANZ. However, the overall trend of the ratio is decreasing for both the banks. This indicates that the ability of both the banks to realize profit from the sales after meeting all the operating expenses have decreased in the recent years. This cannot be regarded as good for the future growth of the banking corporations. The reason for the declining profitability of both the banks due to changing economic policies of the RBA that have lowered the interest rate and value of Australian dollar. This is causing less capital inflow into the market and therefore fewer deposits accepted by the banks (Brigham and Michael, 2013).
(Westpac Group: Annual Report, 2018) and (ANZ Group: Annual Report, 2018)
The analysis helps in examining the ability of a company to meet the short as well as long-term obligations. The ratio that can be used for analyzing the solvency position of both the banks can be depicted as follows:
GDP Growth Rate
Debt to Equity Ratio: The ratio determines the portion of debt and equity used by an entity. It can be calculated with the use of following formula:
Debt to Equity Ratio=Debt/Equity
It can be said from analyzing the debt-equity ratio’s trend of both the banks over the past three financial years that Westpac is adopting more use of debt in its capital structure as compared to that of ANZ. However, the debt-equity ratios of both the banks are decreasing which means that banks are adopting less use of debt in their capital structure. This indicates that banks are emphasizing on lowering the financial leverage on them and thus reducing the financial risk of insolvency.
Market Analysis of the both the selected companies and its comparison with the market performance of Banking sector
Following table depicts the market performance of Westpac and ANZ Bank so that it can be compared with the performance of banking industry.
|
Market Performance of Companies and their respective industry |
||||||
|
Companies |
EPS |
P/E Ratio |
P/E Growth |
Dividend Yield |
Mkt. Cap. |
|
|
Westpac |
0.86 |
11.7 |
1.56 |
4.65% |
6.68% |
$96,724M |
|
ANZ |
0.96 |
12.7 |
1.42 |
1.18% |
5.64% |
$81,783 M |
|
Banking Industry |
0.96 |
12.7 |
1.44 |
1.69% |
(Westpac: Invest Smart, 2017 and ANZ: Invest Smart, 2017)
EPS: On the basis of above table depicts that Westpac has lowest EPS as compared to ANZ and Industry. It shows Westpac has failed to provide the expected earnings to their shareholders while ANZ has same EPS as the banking industry that indicates better market position of ANZ as compare to Westpac. Earnings per share provide information on how much income has been earned by the company per share outstanding in the market (Brigham and Michael, 2013).
P/E Ratio: Price earnings ratio depicts the market performance of the company as it helps in valuing the company through providing comparison of current share price and earnings per share. Westpac has lowest P/E Ratio while ANZ has highest P/E ratio as compares to average P/E ratio of industry. So market value of ANZ Bank is greater than the Westpac when it was compared with its earnings per share. But overall growth of P/E ratio was highest in case of Westpac.
P/B Ratio: Price to Book Ratio was highest in case of Westpac when compared to ANZ and Industry. Price to book ratio compares market performance of company through comparing the market performance with book value of share (Davies and Crawford, 2011).
Market Capitalization: Market capitalization of Westpac was higher than the ANZ which indicates market value of was Westpac was better than the ANZ.
Conclusion
It can be stated form the overall analysis held in the report that lower interest and inflation rate, increasing GDP growth rate, weakening value of Australian dollar and positive state of business cycle is supporting the growth and development of the banking companies. Financial performance of Westpac was better than the financial performance of ANZ. Market performance of ANZ is comparatively weaker than the Westpac.
References
ANZ Group: Annual Report. (2018). [Online]. Available at: https://institutional.anz.com/content/dam/Institutional/countries/laos/english/financial-report/2017%20Annual%20Report%20-%20Eng.pdf [Accessed on: 22 September 2018].
ANZ: Invest Smart. 2017. Overview. [Online]. Available at: https://www.investsmart.com.au/shares/asx-anz/australia-and-new-zealand-banking-group-ltd [Accessed on: 22 September 2018].
Brigham, F., and Michael C. 2013. Financial management: Theory & practice. Cengage Learning.
Central Banks. 2018. Australia’s central bank keeps interest rates at record low for 25th month. [Online]. Available at: https://www.cnbc.com/2018/09/04/reserve-bank-of-australias-interest-rates-monetary-policy-decision.html [Accessed on: 22 September 2018].
Chan-Lau, M. (2017). Bottom-Up Default Analysis of Corporate Solvency Risk: An Application to Latin America. International Monetary Fund.
Cottle, D. 2017. Australian Dollar Unlikely To Get Much Lift from Crowded Data Week. [Online]. Available at: https://www.dailyfx.com/forex/fundamental/forecast/weekly/aud/2018/08/31/Australian-Dollar-Unlikely-To-Get-Much-Lift-From-Crowded-Data-Week.html [Accessed on: 22 September 2018].
Davies, T. and Crawford, I., 2011. Business accounting and finance. Pearson.
Somasundaram, N. 2015. Banks gain billions for every cent the Australian dollar drops. [Online]. Available at: https://www.smh.com.au/business/markets/banks-gain-billions-for-every-cent-the-australian-dollar-drops-20150309-13yoha.html [Accessed on: 22 September 2018].
Trading Economics. 2018. Australia GDP Annual Growth Rate. [Online]. Available at: https://tradingeconomics.com/australia/gdp-growth-annual [Accessed on: 22 September 2018].
Verrender, I. 2017. Interest rate hikes: Here’s the four reasons why the RBA can’t raise rates. [Online]. Available at: https://www.abc.net.au/news/2017-07-17/interest-rates-four-reasons-why-rba-cannot-raise-them/8714010 [Accessed on: 22 September 2018].
Westpac Group: Annual Report. 2018. [Online]. Available at: https://www.westpac.com.au/content/dam/public/wbc/documents/pdf/aw/ic/2017_Westpac_Annual_Report_Web_ready_&_Bookmarked.pdf [Accessed on: 22 September 2018].
Westpac: Invest Smart. 2017. Overview. [Online]. Available at:https://www.investsmart.com.au/shares/asx-wbc/westpac-banking-corporation [Accessed on: 22 September 2018].
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