CBA share buyback will be a boon for retirees
Self-funded retirees now have a lot to smile about. Reduced dividends and near zero interest rates on term deposits meant that many saw their incomes drop. But for those who are CBA shareholders, they will welcome the bank’s announcement yesterday of an off-market share buyback for $ 6 billion.
The $ 6 billion buyback was bigger than the market expected and will see the Commonwealth Bank repurchase and then cancel about 3.5% of its common stock. Terms were also more favorable, with a lower capital component of $ 21.66 implying a larger fully paid dividend.
Off-market share buybacks are great for low rate, zero rate taxpayers, like a self-funded retiree drawing a pension from an SMSF, and effectively a waste of time for higher rate taxpayers. If your marginal tax rate is above 30%, unless you have an extraordinarily high cost base and can offset the capital loss on CBA shares against other capital gains, don’t even not both to open the offer document, throw it in the trash! Even if you will not benefit directly from it, CBA will buy back the shares at a 14% discount from the market price, so that you and each shareholder “wins” from the transaction.
The CBA buyout will open on August 30 and close on October 1. The market price will be based on the average CBA price over the 5 days prior to October 1. While participants will be invited to propose the discount of the offer (in a range of 8% to 14%), this will certainly go to the maximum of 14%. If CBA’s market price is $ 105, the redemption price after applying the 14% discount will be $ 90.30.
The redemption price has two components – a capital component of $ 21.66 and the balance of $ 68.64 which is classified as a fully paid dividend. Because postage credits are refundable in cash to 0% of taxpayers like an SMSF paying pension, SMSF receives the $ 90.30 plus postage credits of $ 29.42, for a total of $ 119.72.
Indeed, SMSF sold CBA shares at $ 119.72, $ 14.72 above market price. If they wanted to stay fully invested in CBA, they could go back to ASX and buy back those same shares for $ 105.
SMSF and other super funds in capitalization mode will have a moderate advantage in participating, especially if they have a high cost base and can apply the capital loss, while most other taxpayers will find redemption unattractive.
But while the decision whether or not to participate in the buyback is relatively straightforward, the decision whether or not to replace the shares sold is not. CBA trades at a “super-premium” price and while it is unmistakably the “premium” bank, there is still a question as to how high the premium should be.
Broker analysts certainly think the premium is too high. Going into yesterday’s earnings result, analysts had a consensus target price of $ 89.54, about 17.2% lower than yesterday’s ASX closing price of $ 108.17. According to FNArena, Morgans was the most bearish at $ 76.00, Citi the most bullish at $ 96.75.
CBA’s $ 8.65 billion cash profit for the full year was broadly in line with market expectations. Up 19.8% from the full year 2020 result due to improved economic conditions, a significant drop in bad spending and stronger operating performance, highlights include an improvement in NIM (net interest margin) in the second half of 2.01% to 2.04% and strong volume growth. During the year, CBA, which is the largest real estate lender, increased its portfolio by 1.2 times the system growth for an increase in market share. In business loans, it increased its market share from 14.7% to 15.6% by increasing the system growth to more than 3.0 times.
On the negative side, overall spending rose 3.3% for the year, with the second half being 3.2% higher than the first half. While this is in part due to additional customer remediation costs, in an environment of very low-digit revenue growth, expense growth remains CBA’s Achilles heel.
The bank also announced a final dividend of $ 2.00 per share. Fully prepaid, that brings the total payout for the year to $ 3.50, down from $ 2.98 last year.
But we are unlikely to see any significant movement in brokers’ target prices. Even though it was a good result, we expected it to be a good result. Brokers will continue to rate the CBA as “near perfect”.
While brokers as a group have a pretty ordinary track record when it comes to ranking CBAs against other big banks, I have a feeling they might finally be right. The “super premium” is too much. One option for shareholders agreeing to the buyout is to substitute for one of the bank’s competitors such as NAB.