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Comm Bank shares fall: is it time to buy, hold or sell?

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Apparently, the recent allegations of infringements of money-laundering regulations by Commonwealth Bank (CBA) first came to the board’s attention in “the second half of 2015”.

Since then the bank has taken a number of steps to fix the issues, including correcting a software error, upgrading account-monitoring technology, changing senior leadership roles in compliance monitoring and recruiting more than 50 financial crime compliance professionals. Short-term bonuses for senior management have been axed, while fees for non-executive directors have been cut by 20%.

All up, it appears that management is dealing with the issues effectively and that there are no systemic problems.

CBA’s 2017 net profit after tax of $9.9 billion represented a 4.6% increase on 2016, while cash earnings per share rose  3.5%, to $5.74, due to the increase in shares on issue as a result of the dividend reinvestment plan.

The good news began with loan growth of 5.6%, balanced pretty evenly between home loans and business loans.

The loan growth was moderated by a slight fall in the net interest margin  – from 2.13% to 2.09% (excluding treasury and markets) – as a 0.5% benefit from raising interest rates was offset by an increase in funding costs.

The net effect was an underlying increase of 3.8% in operating income.

With underlying operating costs rising by around 3.4%, that meant the underlying pre-impairment profit rose by 4.9% to $14.9 billion. Impairments fell by 12.8% to $1.1 billion, representing just 0.15% of average loans outstanding, down from 0.19% in 2016.

The balance sheet saw an improvement in the proportion of deposit funding, which rose another percentage point to 67%, thanks to strong growth in transaction accounts.

The common equity tier 1 capital ratio, a measure of the bank’s strength, came to 10.1% in June, up from 9.9% in December. Selling the  life insurance business, a 1.5% discount on the dividend reinvestment plan and organic capital generation should see it get up to the 10.5% required by the regulator APRA.

Management also expects the federal government’s new banking levy to cost around 2.6% of annual cash profit.

With more shares to be issued and the new banking levy, we’re unlikely to see much earnings per share growth in 2018. That puts the stock on a price-earnings ratio of 13.1, although this increases to 15.1 if we adjust for estimated through-the-cycle impairments of 0.4%. The $4.29 annual dividend (up 2%) is also unlikely to see much growth in the short term but it gives the stock a decent fully franked yield of 5.7%. Based on the value investing methodology, the shares aren’t cheap enough to buy. HOLD.

Written by James Carlisle

James Carlisle

James Carlisle is the research director at Intelligent Investor, owned by InvestSMART Group. This article contains general investment advice only (under AFSL 282288). To unlock Intelligent Investor stock research and buy recommendations, take out a 15-day free membership.

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