Bank acquisition raises Aussie influence issue

By Andrew Dinsdale

Friday 28th May 2004

The acquisition by ANZ of National Bank, apart from being the biggest financial transaction in New Zealand corporate history, has raised the thorny issue of Australian influence in New Zealand's banking industry.

In some quarters there are questions being asked about whether we have "too many eggs in the one basket."

Superficially, they may have a point. But while there is every reason for the Reserve Bank to be cautious, on the evidence available, there is little cause for concern.

Concerns centre on governance of the New Zealand operations and the ability to separately identify the assets and liabilities related to the New Zealand operations. At the heart of it is the fear of a significant financial shock in either Australia or New Zealand.

Perhaps the first place to look for reassurance is the Reserve Bank of Australia. It has joined a growing number of central banks that are addressing their stability mandates through publishing formal reports. Earlier this year the bank released its inaugural Financial Stability Review.

KPMG reported in the 2004 KPMG Financial Institutions Performance Survey that the RBA review reports the Australian financial system to be "in good shape." Banks, the RBA review says, are in a strong financial position, on the basis of few bad debts and capital adequacy well in excess of regulatory requirements.

"This outcome is largely the legacy of the longrunning expansion of the domestic economy, now in its 13th consecutive year of growth, but it also reflects the improvements in banks' systems for managing credit risks following problems in the 1990s," the review says in its overview.

The Australian Reserve Bank noted there were risks associated with the increasing size of mortgage portfolios held by the banks but it came to the conclusion that it was difficult to envisage a scenario in which developments in the housing market alone could cause major difficulties for the Australian financial system.

"Recent work indicates that even if house prices fell 30% percent and mortgage default rates increased dramatically, more than 90% of authorised deposit-taking institutions would continue to meet minimum regulatory capital requirements," the
review says.

The Reserve Bank of New Zealand is aiming to release its own financial stability report later this year. On the basis of the results recorded in the KPMG survey, it will find similar evidence pointing to the strength of the banking sector. Banking highlights for the 2003 year included:

total assets of registered banks increased a healthy 5.8%. Of the five major banks, ASB Bank recorded the highest growth, with an increase in total assets of 13%t ($3.3 billion);

net profit for registered banks was down 10.5% but the more important measure of underlying performance improved by more than 12%, not as good as the 16.7% of 2002 but nevertheless creditable;

operating expenses for the registered banks increased 8%, mostly reflecting the one-off costs incurred by National Bank in adopting ANZ's accounting policies;

after years of steady decline, interest margins rose in 2003 by an average nine basis points. The interest margin for the sector now sits at 2.65% compared with 2.56% last year.

Lending for mortgages over residential property still dominates KPMG's analysis of lending. At 51% of total lending, it was up from 49% in 2002 and consistent with the continuing boom in the real estate market.

But of course, it's more than a buoyant housing market that worries regulators in this country. The acquisition by ANZ of National set off alarm bells for regulators as soon as it was mooted. In the event, the Reserve Bank approved the acquisition, subject to various regulatory requirements.

The "branch" status of Westpac in this country has also been a source of Reserve Bank concern for some years.

It's easy to see why there should be concern when almost 86% of the total assets held by registered banks in this country are controlled by the five major banks, all Australian owned.

There was both comfort and a warning in a report by the International Monetary Fund released earlier this month on New Zealand's financial system. The report found the financial system was "profitable and well capitalised."

It said stress tests showed the sector was resilient and capable of absorbing significant exchange rate swings and house price declines.

But it raised concerns about banking supervision. "Banking supervision is based on disclosure and market discipline," it said. "The supervisory regime employs limited prudential requirements, with no active onsite role for supervisors."

It suggests the New Zealand Reserve Bank could offer independent bank directors the possibility of discussing areas of concern without absolving them of their statutory responsibilities.

The Reserve Bank, for its part, has signaled a willingness to address these issues. The governor in a recent speech identified six principles considered important for board corporate governance in the banking sector:

the board having ultimate responsibility for identifying and controlling business risks;

the need for separation between the roles and occupancy of the positions of chairman and CEO;

the need for an adequate level of non-executive and independent directors on the board;

the need to manage conflicts of interest so the interests of the business are not compromised;

the importance of the board ensuring external auditors are independent and not conflicted; and

the importance of providing timely, accurate and appropriate disclosure of operations and financial information.

The Reserve Bank is examining bank corporate governance issues and plans to release a consultation paper on the subject this year.

Paying attention to corporate governance issues is admirable but it's important to keep the discipline in perspective. Corporate governance is not "rocket science"; it is based on commonsense principles that boards can easily adopt.

No amount of legislation can create an effective corporate governance environment. Successful corporate governance is driven by the "tone at the top." It's there to remind directors of their obligation to shareholders and other stakeholders and their ultimate responsibility for the operations and performance of the entity.

Andrew Dinsdale is chairman of KPMG Banking and Finance Group

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