Stocks In Focus: NAB

0:10G'day and welcome to the second episode in our rebooted series Motley Fool's Stocks in focus coming to you on both our YouTube channel and the Motley Fool Money podcast. This is one episode we do where we do both video and audio. So we'll try and manage to keep, I say we, I say me, I'm the one who makes the mistakes. I'll try and keep this one pretty good, but we're doing both video and audio. What are we doing Stocks in Focus for? This is a chance for a few things. Firstly, there's a lot of companies that we cover as recommendations at the Motley Fool. They're largely for members, though once a month we do release a stock of the month on YouTube.

0:45You can find that on our YouTube channel. But also, there's a lot of companies we don't cover as recommendations, but we have views on. And most importantly, you, our viewers and listeners, want to know our views on. And so if we basically were not covering anywhere else, we thought we'd cover it here. It's a chance for us to pick some of the biggest, the best, the best known, the widest held. We take a pretty big net here at The Motley Fool when it comes to stocks in focus. The stuff we figure people want to hear and see about. And that's exactly what this is. We tell you about the company. We tell you what some of the positives of investment might be in the company.

1:15We tell you about some of the need is some of the drawbacks and the potential risks. And then I ask our analysts, I put them on the spot and say, hey, do you reckon they going to beat the market or not? Now, importantly, a couple of things. Firstly, this is not a formal recommendation, any way, shape or form by me, by the Motley Fool or by the person I'm speaking with. Unless you're picking the company and asking the guys to give us a rough view, right? This is not a research recommendation. Secondly, it's a point in time. We're recording this one in early April 2025. Now, the internet is forever.

1:41So if you're watching this in 2085, welcome back. I'm probably long dead, but thanks for tuning in. But also, anything can change for now and whenever you are watching this, right? We have a view at a point in time. The company is a specific in specific circumstance at a point in time. These things can always change. So keep that in mind. Lastly, this is the boilerplate, but I have to tell you, this is general advice only. If you're watching this, it's your job, not ours, to tell you whether it suits your personal circumstances. We give general financial advice. Personal financial advice is done one-to-one by a financial planner.

2:10That's a whole different thing. So we'll say, hey, we think this is about the company we're covering. You got to work out, okay, I hear it. Firstly, do my own research. Secondly, do I think it suits my circumstances, right? For my goals and objectives, my risk tolerance, my income needs, all those things. That's up to you, our viewer and listener, not for us to decide for you. So that's a lot, but let's get that out of the way because that's the boring bit. The most interesting bit is I get to introduce Motley Fool, lead advisor of Motley Fool Extreme Opportunities and longtime fool now, Benny O.

2:36Benny, g'day. G'day, Scott. How are you doing today? Mate, I'm very well. Thank you for joining me. It's your first go back after a long hiatus, but you did cover some companies for us last time around in this format as well as the other formats as well. So firstly, thank you for making the time and welcome back. Mates, this is one of the biggest, most widely held companies on the ASX. And it's one that we're talking about at a really fascinating time in Australia's economic history. The company, of course, is National Australia Bank or NAB as they prefer to be known. The stock code, of course, is NAB on the ASX.

3:08Mate, let's start with NAB. Now, people think they know NAB, and I'm sure they do. But give us the rundown. What is NAB? What does it do? How big is it? Tell us all the things we need to know about the business itself before we get in the investment case. Yeah, of course. So most of us know National Australia Bank, NAB, is one of the big full banks in Australia. They typically provide financial products and services like low earnings growth expected to remain reduced due. you're probably likely to see EPS only grow in the low single digits. And when you kind of adjust for inflation, real earnings growth is probably flat or potentially negative.

3:45And I think the last point I want to make is probably around valuation. Despite recent share price decline, NAVS valuation still doesn't appear under value, particularly from a headline level. But it currently trades on around 14 times earnings and around 1.7 times price to book. So I think while that's at its historical levels, it's above its peers, with the exception of CBA who grows at a faster rate and is more profitable. But I think given NAB's kind of lower growth outlook, its current valuation doesn't screen over the ear traffic. Mate, that's a really great summary. So on one hand, we've got a bank that is strong.

4:25There's possibly going to benefit if there is a switch back to business lending. plenty of capital, plenty of money in the bank. On the other hand, you've got a business that maybe is going to struggle if the economy doesn't grow. Maybe there's an issue with small business customers paying back, although maybe the lower rates help it. So it's a pretty, I'm going to say so far, at least finely balanced scenario. Even when you come to the valuation, you said, look, it's not immediately cheap, but where does that leave you, man? I'm not going to ask you for a formal recommendation. This is not what this series is about.

4:53But I've asked you to bet. Take a five-year view. Do you reckon NABs like to beat the market, lag the market, kind of do roughly along with the market? What's your best guess? You touched on a lot of the good points already. It's got a strong SME business banking franchise, sound balance sheet, reliable income. That's dividends that are sustainable. And I think NAB is probably great for income-focused investors that want exposure to the Australian business economy, but also for the yield that they get and the franking credits. However, NAB is a cyclical mature business. So I think margins and earnings are expected to face some kind of downward pressure, particularly if we see a slowing economy.

5:36And that's also driven by heightened competition. You've got high regulatory scrutiny. You've got persistent cost pressures. And that's all while operating in this kind of weak environment with cost of living pressures, which the CEO keeps emphasizing. So I think given those dynamics, I'm more the view is that it's kind of difficult to see NAB being market beating, particularly over your timeframe of five to 10 years. So that's my kind of final view. There you go. Very nice, Benny. Oh, with the down low on NAB, N-A-B is the code, obviously, both the company's name and its stock code on the ASX.

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6:37That makes sure, frankly, the like helps other people find the video. And if you like it, we hope other people will too. Subscribe means you're going to get it into your feed. If you hit the notification bell, you will get notified every time one of these is released. We don't just do this one. As I've said, Stocks in Focus, Stock of the Month, what I've been reading. I do YouTube Live probably every month or so we're going to plan to do those. We can come and ask questions live on YouTube. There's heaps of great content coming to both places, both the podcast feed. Deposits, transaction accounts, but it's best known as Australia's number one business bank in which it actually holds and marks a leading position in business lending and has a deep footprint in SME, which is small, medium enterprises, but it also has commercial clients as well.

7:16But NAMP also has, similar to the other banks, a retail and personal banking arm. I mentioned LEMS Loaning. There's its home loans, deposits, transaction accounts. But it also has a digital bank, Eubank, which version 86400. In addition, it has corporate institutional banking. This includes debt capital markets, markets and trading, treasury functions. But it also owns the Bank of New Zealand, which is one of New Zealand's top banks. typically NAB earns most of its income through net interest income and that's the difference between lending money at higher rates rather than compared to when it pays on deposits so that's one of the fees that's majority of the fees secondly is OSA makes fees from income like fee income like services like trade finance equipment finance as well as treasury services nice that's a really nice summary mate it is a massive business covers the proverbial waterfront in Australia and New Zealand.

8:17The very first bank I had an account with when I was in uni, by the way, I was offered a National Australia Bank Tertiary Students Package way, way, way back in the day. I think I had decided on paper. That's how old I am. So I'm familiar with the bank. You're familiar with the bank. You used to work there. I should say, by the way, if you're listening on the podcast, NAV has sponsored the podcast in the past. Let me be very, very clear. Benny and Dad probably didn't know that. We have no interest in saying good or bad things about our past or present advertisers. If they want to choose to advertise with, that's up to them.

8:41There is zero, So zero editorial influence whatsoever. If you know me, if you know the Motley Fool, we would rather walk over hot coals and poke ourselves in the eyes with those ticks afterwards than bend even slightly for an advertiser. So I want to be just upfront, so they have advertised with us. We indirectly through listener have got some of that advertising revenue. So the listener podcast model works, but Benny's not got any writing instructions. We'll never do them. I would never ever take writing instructions from anybody about my views on companies. So let me be very clear about that.

9:09It doesn't mean it's a bad bank or a good bank. It could be either. I'm not sure even what Benny's going to say. He doesn't have to pre-clear anything he says next with me. He has to give us and give you his unvarnished opinion. So I just want to kind of throw those things out there so people know what's going on. Mate, in that vein then, because I wanted to get it out earlier, let's get into the investment potential for NAB. I'm going to ask you to give us the pros and the cons to look at the positives and the negatives. I will ask you to give us a bet at the end as to what you reckon is going to happen next over the long term.

9:32But give us the pros. Why would someone consider investing in NAB if they were watching this or listening to this right now? It's probably that NAB's got a dominant business lending franchise. And what I mean by that, it's leading in business lending. So it's got 20 % market share in business lending, and it's got around 30 % in the SME market. I think these business customer relationships, they tend to be secure. They have higher margins than retail banking does, particularly mortgages. And it's going to take years for competitors to replicate this type of model. And with the RBA's kind of easing cycle, I think NAB's earnings are probably less likely to be sensitive to the rate cuts given this great exposure to business lending.

10:16That's particularly when compared to the other banks. And the other banks are more retail-focused, particularly like CBAs and Westpacks. And they've got exposure to highly commoditized and competitive mortgages. And I think they will probably experience more margin pressures when rates fall. Secondly, NAB's got a sound capital position. the common equity tier one ratio, which they call CET1 ratio, that's the amount of capital the bank needs to hold against its assets. And that's sitting around 11.6%, which is comfortably above the APRA's unquestionably strong benchmark around 10.25%. So I think that provides some buffer to absorb potential credit losses, buffer against economic shocks.

11:02But it's worth noting that this ratio has declined recently. and it is slightly above NAB's own internal target of around 11 % to 11.5%. So it does raise some concerns and questions about growing dividends or future buybacks and that has helped improve return on equity for shareholders previously. But overall, I think that being said, NAB's balance sheet remains strong. Its liquidity and funding metrics, they're all in healthy levels that are above the regulatory minims. I think the third point I want to make is that NAB's got a solid dividend history as well as a profile. Currently, trades or offers a just above 5 % fully franked dividend yield.

11:49And when you include franking credits, it equates to around 7 % grossed up yield. And typically, the bank targets around 65 % to 75 % payout ratio. So come to me, suggest that dividends are going to be well supported by earnings. That's assuming profitability holds steady. So if there's any income-focused investors, I think that are kind of seeking that reliable, steady, tax-effective income. NAB could be a potential compelling option, but I think it's worth noting as well that that's under the assumption that dividends are going to remain sustainable. Nice, mate. That's a really nice summary.

12:25I mean, that's the bank's 101, right? You want a strong bank. You want a bank that's paying good income. You want a bank with reasonably defensive or relatively defensive loan profile relative to the others. No surprise, CBA has done really, really well relative to the other banks as home loans have been the shooting star, the number one with the bullet for lending. If and when that turns around, and as you say, if there is pressure from falling rates, the business banking experts are probably the ones who are going to do better than the others. Fascinating to me too, mate, just in passing, that Westpac have started a campaign offering, I think it was free legal advice or free legal access to legal advice anyway for business banking customers trying to find a way to lure some of those customers off.

13:04Now, I presume like you, seeing an opportunity or maybe even a risk for their residential loan business, and maybe they want to try and rebalance their portfolios a little bit. So that's the positive stuff. Let's go to the negatives of trying to paint. And I should say, by the way, at the moment, we don't try to ever be balanced. And that sounds weird. We try to be fair. We try to be honest. We try to be upfront. We try and give you all the details, good and bad. But we don't try to do 50-50 ever. Because sometimes we really like, if we recommend something, we're not trying to be balanced. We're saying, we like this, you should buy it, but here's some risks.

13:31So whenever you see us talk about these things, we're not trying to do 50-50, don't say we do more of this and less of that. Sometimes we'll think the risks are big, sometimes the risks are small. I don't know again what Benny's going to say, but just to point that out, we're not trying to balance, we're trying to do a 50-50, you know, equal time to the flat earthers as well as the round earthers. We're trying to say, here's our view, here's what we think is good, here's what we think is bad. If one's bigger than the other, it might tell you something in terms of how we feel about the company or the investment case.

13:53But otherwise, that's kind of what we're trying to do. So with that preamble, Ben, apologies for taking so long to explain that, but I think it's important. Motley Fool Money. For more, subscribe to the free newsletter at fool.com.au forward slash listener.

14:09What are some of the risks of investing in NAB at the current time for us? The point you mentioned about competition, that's definitely one of them. And that's my point towards my first point, which is NAB's mind is coming under pressure. No, it's great. Great, great. Because what I'm going to talk about is the NIM, which is the net interest margin. And that's the core measure of bank profitability. And that's coming fresh out from all the banks, but in particular from three fronts. Firstly, you mentioned competition. NABs facing increasing competition, particularly it's called business lending space.

14:39And that's coming from one, you mentioned Westpac. Secondly, CBA. And both of them are expanding heavily into this sector. And they're quite vocal about it. And what we've been seeing is that they've taken a lot of market share away from that. So while NAB's business loan grew by 7 % in December, CBA exceeded that with around 11 % increase. And that's outpacing the kind of market growth around 9%. And maybe some context about market share, NAB was around just slightly under 22 % for business banking market share. It's gone down to around 21 % while you got CBA jumping up to 18.8 and you got Westpac jumping to around 16.

15:20So they obviously, sorry, take share away from NAB because they understand the kind of stickier nature of the customer set for business banking sector. I think the second front is that there's been higher funding costs that's putting pressure on margins. And during COVID, all the banks, including NAB, they had cheap RBA funding. That's coming from the term funding facility. But that's now rolled off back in June last year. And so all the banks, including that, has had to replace them with more expensive wholesale and deposit funding. And that's kind of pushed up funding costs and put pressure on margins.

15:55In addition to that, customers are also looking for deposits to switch into that are yielding higher returns or higher rates. And so that's obviously margins because banks would have to offer up better rates to keep or to maintain those customer sets. I think the last front that I want to bring up is that there's been aggressive mortgage repricing. And so the home loan market is highly competitive. But what NAB's been trying to do is they're trying to be selective in competing for volume. Secondly, NAB's got higher credit risk from the SME exposure. NAB lends more to small and medium businesses than any other banks.

16:36And that makes them more exposed to the economy slowing down. So these businesses are definitely filling the pinch from rising costs, wicked demand, and it's particularly impacting sectors like construction, manufacturing, supply chains, and farming. And as a result, I think more customers are falling behind on their repayments, particularly for their loans. So I think this is something to keep an eye on, but you're kind of seeing the narrative from NAB's recent trading update that its credit quality has diminished while the other banks' credit quality has actually improved. The third point is I want to make that NAB has got a lack of earnings growth, particularly over the last decade.

17:18It hasn't really grown earnings per share meaningfully, and most of the return has come from dividends or changes in earnings multiple. My general view is that NAB's... ...and the YouTube channel. Wherever you're watching or listening, thank you for spending some time with us. Benny, thank you for sharing your expertise. You obviously know the business well and have done a great job breaking it down for our listeners and viewers. Until we speak next time, thanks again and Fool on.