NAB boosts FY22 profit and flags cost pressures due to surging inflation

While National Australia Bank’s (ASX: NAB) FY22 cash earnings of $7,104m were up 8.3% and in line with consensus, the net interest margin (NIM) of 1.67% was a clear miss against an expected 1.69% and this may have contributed to the share price trading -1.47% lower this afternoon.

The bank attributes a weaker than expected NIM - a measure of how much it makes on loans versus what it pays on borrowings - to higher holdings of liquid assets and housing market competition.

All businesses contributed to underlying profit growth, and on the back of solid earnings growth, the board declare a fully franked final dividend of 78 cents per share (CPS), up 16.4% over last year’s final dividend of 67 cents and a 2% beat against consensus.

This took NAB’s dividend for the full year to a fully franked 151 CPS, up 18.9% year-on-year, which based on today’s price represents a 4.9% yield.

Mixed blessings

After 11 years of interest rate reductions, CEO Ross McEwan notes FY22 earnings benefitted from the rising interest rate environment. As a case in point, the bank’s loan books rose by 9.3% on the back of a 13.3% lift in deposits.

However, McEwan also reminded investors that home loan growth is expected slow this financial year.

What’s expected to undermine the bank’s mortgage book is an expected peak-to-trough house price fall of about 20%.

McEwan also warned of changing market dynamics in home lending with the “impact of a higher cash rate on repayments now accelerating".

“… volume growth is expected to slow” in 2023 as fixed loans mature amid “intense price competition in a rising rate environment,” McEwan noted.

Overall, the bank made $104bn in new home loans and lent out an additional $122bn to companies.

Management also guided to additional investment spend of around -$100m (total -$1.5bn) in FY23 and is targeting around $400m of productivity savings in FY23.

Highlights at the full year

• Expenses up 5.8% to $8.3bn - due higher banker pay, technology costs and remediation of customers.

• Net interest income (NII) rose by 9.6% in the second half, due to higher average lending volumes, higher earnings on deposits, lower term deposit costs, plus higher earnings on capital.

• Earnings in the consumer bank fell -3.6% to $1.5bn due to the impact of home lending competition on margins.

• Business and private bank performed better, with cash earnings up 21.5% to $3bn.

• Corporate and institutional banking saw earnings expand 35%.

• The number of loans more than 90 days overdue is just 0.66 per cent of its book, down -0.28 percentage points over the previous year.

• Underlying profit of $10,022m, up 11.50% on FY21.

• Net operating income was $18,296m, up 8.9% on FY21.

What brokers think

NAB currently trades on 12 times 2023 earnings, compared with Westpac (ASX: WBC) at 10.2 times and ANZ Bank (ASX: ANZ) at 10.1 times.

The bank’s share price is up around 10% over one-year and has been trending higher since falling to a year-to-date low of $25.43 mid-June.

Consensus on the bank is Moderate Buy.

Based on Morningstar’s fair value of $37.76 the stock appears to be undervalued.

UBS retains its Neutral rating and $33 target and notes a potential negative within the second half result relating to costs.

“The cash ROE of 12.1% was strong and now close to CBA’s of 12.9%... the only potential negative for us is possibly around costs, a slightly softer Q4 exit NIM 1.72%, and NAB’s guidance around funding mix/cost.”

However, Citi believes material cost revisions by the market are unlikely, with consensus already factoring in around -5% cost worsening in FY23.

The broker expects the probability of a sharp slowdown to be uppermost in investor's minds, but the Buy rating and $32.75 target are unchanged.

Credit Suisse retains its Neutral rating and $32.40 target and notes competitive pressures in housing lending margins, higher funding costs, and timing differences between interest rate and pricing changes were a partial offset for NII.

National Australia Bank's share price over 12 months.