CBA FY19 underlying net profit for the year to end June falls by 5% to A$8.49bn ($5.75bn). The bank’s overall results do not quite match analyst forecasts.  But there is a strong argument that in all the circumstances the results represent a resilient full fiscal.

Release of the CBA FY19 earnings also serve to highlight the bank’s success in upping its digital strategy.

Australia’s growing digital neobank segment is deservedly attracting much international attention. The incumbents in general, and Commonwealth Bank of Australia in particular, are up for the challenge.

CBA’s goal is simple to summarise but tricky to execute: it aims to transition into a simpler bank. The back to basics policy means the divestment of non-core business units and it is making good progress there. Meanwhile, it continues to face the fallout from mis-selling scandals, painfully highlighted by the Royal Commission and APRA Prudential Inquiry.

Thirdly, CBA is ramping up its investment in digital with encouraging signs that the bank’s digital strategy is sure footed.

And finally, CBA together with traditional rivals ANZ, NAB and Westpac faces the growing challenge of the digital challengers.

CBA FY 2019 less positive metrics

CBA’s full year results, quite predictably, highlight a challenging year for the bank.

Operating income is 2% lower on margin pressure. Specifically, the net interest margin is down by five basis points for the year group wide. The position is even worse within the bank’s retail banking unit with a 17 basis point drop in the NIM.

Net interest income is down by 1.2% on lower retail mortgages margins and higher funding costs.

Reduced commission results in other banking income showing a 3.9% decline for the year. Credit card income is down as is overdraft fee income, in part due to introducing pre-emptive fee alerts.

Consequently, the CBA retail banking unit posts a 12% fall in net profit to A$4.3bn. Other negative metrics include a 6% increase in loan impairment expenses.

Trading income is down by 5% with lower market sales reflecting reduced client demand in the lower rate environment. The bad news continues with funds and insurance down by 10.2%. This is primarily due to higher claims experience in general insurance as a result of increased weather events.

Operating expenses are up 2.5% due in part to customer remediation costs.

Other metrics moving in the wrong direction include a two percentage point rise in the cost income ratio to 46.2%.

CBA is targeting a cost income ratio below 40% “over time” but gives no guidance as to timeline.

CBA FY 2019 highlights

Even CBA’s harshest critics must acknowledge progress in simplifying the bank.  The sale of Sovereign, TymeDigital, Count Financial and Colonial First State Global Asset Management represents solid progress. CBA is also exiting aligned advice. Meantime, CBA is ramping up its efforts to take action on remediation. CBA refunded A$166m to customers in fiscal 2019 and says that it will return another A$100m by the year end.

Investment spend is up by 9% to A$1.4bn driven by elevated spending on risk and compliance projects.

Products highlights include strong transaction deposits growth with balances up 9% and 1.2 million new personal transaction accounts opened. Overall, group deposit growth is up by 2% in fiscal 2019.

Business lending increases by 4% while retail mortgage growth is also strong delivering 4% volume growth for the year.

CBA FY19: the digital challenger threat

CBA is tackling the growing number of Australia-based digital start-ups head on.

New regulation from the Australian government is encouraging new entrants to enter the market. Start-ups with A$3m in capital can quality for a restricted banking licence. This is designed to increase competition and put some pressure on the big four.

As a result, a number of start-ups are challenging the incumbents. Take Volt for example, the first new bank in Australia for 40 years and only the second in a century.

Rather than offering one core product, it intends to deliver a full suite of products. Meantime, 86 400 has funding, a strong leadership team and plans to launch later this year. The name 86 400 represents the number of seconds in a day. The marketing goal is to drive home the message that 86 400 will support customers every second of every day.

86 400 set to launch

In July, 86 400 gained a full Authorised Deposit-taking Institution licence by the Australian Prudential Regulation Authority. Consequently, 86 400 can launch with transaction and savings accounts. In addition it will be able to take unlimited deposits and offer customers the same level of protection as incumbents.

Start-up rival Judo Bank secured the second largest pre-revenue fundraising round in Australian start-up history (A$98m) last year. Judo launched in March 2018 and aims to support SMEs that they feel are being left behind by incumbent banks.

And then there is Xinja. It has issued over 10,000 cards and overall more than 25,000 people have signed up for Xinja products. In March 2019, Xinja raised A$2.6m in funding eclipsing the previous Australian record of A$2.44m which Xinja also holds.

In addition, Revolut has launched its services in Australia, a year after it revealed its plans to expand in the country.

The UK-based fintech company has launched a public beta version of its app in Australia. Currently, the service will be available for 20,000 people on its waitlist with potential expansion over the coming weeks.

CBA is tackling the growing number of Australia-based digital start-ups head on. The bank’s annual results highlight CBA success to date and future ambitions to transform its digital offerings.

CBA  FY19 digital hits

In particular, CBA is investing in a combination of AI, machine learning and data analytics to offer greater personalisation.

The bank is rolling out a new app for its existing 5.6 million mobile banking customers. It is also launching the CommSec Pocket app. This enables simple investing with investments from as little as A$50.00. Brokerage fees start at A$2.00 for investments up to A$1,000.

The bank also launched a feature to notify customers when their tax refund is received into their account. Next up is the launch of the CommBank Rewards programme. This will enable customers to receive cash back offers from participating merchants inside the mobile app.

CBA CEO Matt Comyn told analysts: “Our investment in our digital mobile app is really starting to deliver very strong benefits both in terms of satisfaction and engagement. We are running at more than 5.6 million logins per day.

“We have recently rolled out a new look and feel to the overall mobile app. But really what is sitting underneath that is a much more relevant and personalised experience for all of our customers.”

CBA digital benefits to customers worth A$150m a year

“We have enabled and seen some of the most positive features in particular by us being able to link benefits and entitlements as an example that customers did not know that they were able to receive. We have found about 270 different initiatives where we believe we can deliver A$150m of benefits to our customers each and every year going forward.”

“Our Customer Engagement Engine effectively in real time analyses more than 150 billion data points. We are using more than 200 machine learning models. We analysed 600 million customer interactions during the course of the year, to in financial year 2019 deliver 3.6 billion personalised interactions, a lot of those within the app. So by making our banking simpler, smarter and more secure, we are able to extend that leadership position.”

‘Klarna will be successful in Australia’: Halverson

Release of the annual results coincides with news that CBA is investing in Klarna. This is intriguing and potentially significant. Adds Comyn: “we are excited about some of the innovation that we will be able to bring to market.”

CBA is investing $100m into Klarna as part of its $460m capital raise. CBA will become Klarna’s exclusive partner in Australia and New Zealand. Moreover, it intends to further invest at the parent and local level to support the partnership.

Klarna is a leading global payments provider with over 60 million customers and 130,000 merchants. It generated $627 of revenue in 2018. Initial analyst comment is positive.

Noted Australian-based payments expert Grant Halverson, CEO of McLean Roche Consulting, tells RBI: “CBA investing in Klarna will have a profound impact on the Australian buy now pay later market. Klarna will be successful in Australia. It will provide Afterpay and Zip Money and existing players Latitude, Flexi with more than a few headaches.

“Klarna brings global scale which hasn’t existed in Australia since GE checked out in 2008. CBA clearly can target younger consumers and look to lock them in and upsell other products over time.”

CBA and Klarna: margin pressure will hit rivals

Klarna charges retailers significant less than all the current players. This will lead to a large erosion of margins and retailers changing BNPL providers.

“Typical rates for Klarna are: Germany 1.99%, Netherlands 1.19%, UK 2.49%, UK 2.49%, USA 2.99% and global rate 2.79%. This compares with Afterpay 4% for instore and 6% online; Zip 2%-4% and Flexi 2.5%- 6%.”

Halverson adds that Afterpay has a one price strategy currently. With very high sales volumes but very low margins any change in revenue will have a significant impact. In its half year results, Afterpay had sales of A$2.27bn with revenues of A$112.3m a 4.9% margin.

“Just as significant is the 84% of revenue coming from retail merchants with 16% from late fees. A 1% reduction in merchant fees would be a reduction of A$23.7m which would double the current losses.

“Zip and the other players have more room to move as they combine interest rates, late fees with merchant fees and are less dependent on retailers’ fees. However the arrival of Klarna with all of the CBAs market power will have a significant impact.

“CBA is the largest merchant acquirer in Australia and also the largest credit/debit card issuer. It can therefore enhance its offering to both groups with Klarna. The CBA SME base will also be a significant benefit to Klarna’s market entry as will links to major retailers.”

Release of CBA’s full year earnings resulted in a 1.5% drop in the share price to A$78.70. For the year to date, CB’s share price is up by 10%.