M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com

Page created by Bernard Armstrong
 
CONTINUE READING
M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com
M&A Outlook:
   Australian Financial Services
   Towards 2030

minterellison.com
M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com
Introduction
Welcome to the second edition of the MinterEllison M&A outlook series.

The financial services sector is one of             Additional drivers are bringing                We have asked
Australia’s most dynamic and innovative             transformational change to the financial
industries, and continues to undergo                services sector. These drivers include
                                                                                                   members of our
transformational change. Set against                changes to prudential standards, shifting      cross-disciplinary
the backdrop of uncertain economic                  customer expectations, increased               team to share
conditions and the wide-ranging,                    stakeholder management, technological          their key insights
continuing ramifications of the Financial           advancements and new competitive and           on the future
Services Royal Commission (FSRC),                   commercial threats.
significant changes in the financial services
                                                                                                   direction of the
                                                    However, many of these drivers are moving      industry. We would   Victoria Allen
industry will continue over the short to
medium term as it addresses a myriad of             the sector in different directions and there   welcome the          Partner
                                                    will be important trade-offs to be made by
issues. These include a need to restructure,                                                       opportunity
                                                    market participants over time. This report
address shortcomings in culture and
                                                    explores how M&A may be one of the key
                                                                                                   to discuss its       victoria.allen@minterellison.com
respond to competition from traditional
and non-traditional players.                        responses to some of these underlying          content with you
                                                    drivers in the next few years. We explore      in more detail.
M&A activity will be one mechanism open             how financial services companies might
to institutions in the sector to address the        best position themselves for the longer-
collective impact of these issues on the            term challenges that lie ahead.
organisation, its business and its reputation.

The recommendations of the FSRC
are a catalyst for simplification, long
term change and an opportunity to re-
establish community trust. The Federal
Budget provided more funding to ASIC
and APRA to increase their enforcement
activities, and for an increased role for                                                                               Rahoul Chowdry
regulators across the spectrum of financial
services businesses.
                                                                                                                        Partner, Financial Services
                                                                                                                        Industry Lead

                                                                                                                        rahoul.chowdry@minterellison.com

2   M&A Outlook: Australian Financial Services Towards 2030
M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com
Contents
Industry Climate: Financial Services at the cross roads                                              4                    Part D Technology                                                                           46
Summary of key drivers of M&A                                                                        5                    Technology as a competitor in financial services                                            47
                                                                                                                          Technology as an enabler, with a focus on the customer                                      52
Part A Short term M&A context and outlook                                                            6                    A key enabler in the drive to acquire and retain customers                                  54
Short term M&A context and outlook                                                                   7                    Reducing customer friction                                                                  55
Recent M&A developments in financial services                                                        11                   Personalised offerings using artificial intelligence
Short term predictions                                                                               12                   and machine learning                                                                        56
Divestment of wealth management                                                                      17                   24/7 capabilities and availability through
                                                                                                                          multichannel delivery and digital payments                                                  58
Recent international trends                                                                          18
                                                                                                                          Financial reporting                                                                         63
                                                                                                                          Regulatory reporting aided by regtech                                                       64
Part B Long term drivers                                                                             21
                                                                                                                          International drivers in technology                                                         65
Long term drivers                                                                                    22
                                                                                                                          Coding error and Australia’s largest ever civil penalty                                     66
Economic and commercial issues                                                                       24
                                                                                                                          Are branch networks now legacy systems?                                                     67
Funds management and investment platforms                                                            32

                                                                                                                          Part E Conclusions and Key Contacts                                                         68
Part C Governance & culture, and regulatory issues                                                   33
                                                                                                                          Towards 2030 – M&A will be an important
Governance & culture, and regulatory issues                                                          34
                                                                                                                          mechanism for boards and management                                                         67
The FSRC implementation roadmap                                                                      37
The BEAR case on potential talent gaps                                                               40
                                                                                                                          About Us                                                                                    71
Regulation and compliance costs                                                                      41
Marching towards Basel IV                                                                            42
Further regulatory changes likely in superannuation                                                  43
Australian regulatory structure and its impact on M&A                                                44

DISCLAIMER:
(All financial data and figures including share price information is represented as at 31 July 2019 unless specifically noted).
MinterEllison does not represent or warrant that any information provided to you in this document is accurate or complete, or that reasonable care has been taken in the preparation of this document. All information
has been taken from publicly available sources. You must make and rely upon your own evaluation of the information in this document. Except as, to the extent, required by law, MinterEllison will not be liable for any
direct or indirect loss or damage arising in any way out of the use by you of the information in this document. This document is supplied to you on the condition that it and the contents are confidential and must be
kept confidential and not disclosed to any third party.

                                                                                                                                                                                                    MinterEllison          3
M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com
Industry climate:
Financial services at the crossroads
The final report of the Financial Services Royal Commission will undoubtedly act as a catalyst for the start of a longer term
transformation within the financial services sector. However, it also coincides with the emergence of several other factors that
are likely to also drive significant change within the industry. Some of these relate to issues highlighted by the FSRC, including
changes to governance, culture, remuneration, simplification and the need to establish trust. Other factors include an increased
focus on the customer (assisted by the move to ‘open banking’), technological changes, and increased competitive and
commercial threats.

Competitive factors, regulatory costs and           Significant regulatory change is upon us.     In addition, market dynamics and                 This report considers the factors driving
lack of scale will result in M&A being one of       Change is occurring not only from new         competitive threats are driving changes in       change in the sector, as well as setting
the tools that is increasingly considered for       regulations, but also from the stronger       the sector and providing other reasons for       out our M&A outlook. While it is difficult
addressing competitive pressures faced by           enforcement of existing regulations. The      reassessment by decision makers. Overall,        to predict what the changes in the sector
financial institutions.                             government’s FSRC recommendation              the prospects for profitability and growth,      will be in the coming 10 years, ‘business
                                                    implementation roadmap, the introduction      particularly for the larger financial services   as usual’ will not look the same as it does
While the short term impact from some               of the Banking Executive Accountability       players in Australia, look to be challenging.    today. It will no doubt be a challenging
of the changes discussed in this report             Regime (BEAR), the impact of Open Data        Economic and demographic changes                 environment for management and boards
are more foreseeable than longer term               legislation, Productivity Commission          including lower inflation, interest rates and    to delicately balance responses to the
impacts, the long term impacts are likely to        enquiries, changes to banking capital         economic growth, high levels of household        numerous competing issues facing the
create the greatest need for M&A.                   requirements (both in Australia, and          debt, growing life expectancy and                sector. With many companies slow to
Despite solid fundamentals, we anticipate           perhaps more acutely, in New Zealand),        increasing urban density are all combining       recognise the fall in the long term cost of
market conditions are shifting which                and increasing enforcement by regulators,     at the same time. Institutions are facing        capital, it’s an opportune time for M&A, and
are likely to create additional pressures           are providing Australian financial services   increasing competition from overseas             there are many factors that will influence
on financial services institutions. These           institutions and investors with new           providers and new, nimble and well-funded        short term and long term decision making
challenges may create triggers for                  regulatory and compliance challenges          technology driven upstarts, which are            in the future.
institutions and competitors to undertake           and questions for their business models.      delivering powerful customer experiences
strategic reviews.                                  There will be increased onus on boards and    and seeking to disrupt the status quo.
                                                    management to assist in this transformation
                                                    process in a timely fashion.

4   M&A Outlook: Australian Financial Services Towards 2030
M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com
Summary                                                                     Issues                                        Short term impact   Long term impact
                                                                                                                                                                     Extent to which
                                                                                                                                                                 management can influence

of key drivers                                                              Culture and governance                               n                  u                      u

of M&A

                                                Governance and regulatory
                                                                            BEAR                                                 n                  u                      u
                                                                            Regulation and compliance costs                      u                   n                      n
                                                                            Basel IV                                             n                   l                      l
                                                                            Further regulatory change in superannuation          n                   n                      l
Focuses on culture and                                                      International experience                             u                   n                      l
governance, customers and                                                   Increased scrutiny from regulatory bodies            n                   n                      l
business models are among
                                                                            NZ regulatory capital changes                        l                   n                      l
the key drivers of M&A which
                                                                                                                                 l                  u                       l
management can influence                                                    Bigtech

(as highlighted in Figure 1).                                               Fintech                                              u                  u                       n

                                                Competition
                                                                            Neobanks                                             n                   n                      n
                                                                            White labelling                                      n                  u                       l
                                                                            International Players Growth                         l                   n                      l
                                                                            Open banking                                         l                  u                       n
                                                                            Consolidation                                        n                   n                      n
                                                                            Legacy IT/ageing infrastructure                      u                   n                      n
                                                                                                                                 n                   n                      n
                                                Technology

                                                                            Branch networks optimisation

                                                                            Customer focus                                       l                  u                      u
                                                                            Digital banking                                      l                  u                       n
                                                                            Artificial intelligence/robo advice                  l                  u                       l
    Figure 1 – Key drivers of M&A, impacts                                  High household debt                                  l                   n                      l
        and extent to which management
                                                                            Lower credit growth                                  n                  u                       l
                       can influence them.
                                                Economic

                                                                            Subdued yields                                       n                  u                       l
        l Low       n Medium u High
                                                                            Overseas funding                                     n                   n                      l
                        Source: MinterEllison
                                                                            Weaker asset growth                                  n                  u                       l
                                                                            Focused business models                              l                   n                     u

                                                                                                                                                                           MinterEllison    5
M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com
Part A
                                                                      Short term
6
                                                         M&A context and outlook
    M&A Outlook: Australian Financial Services Towards 2030
M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com
Short term
M&A context and outlook
The market value of banks
stocks has recovered by                       General                                          Life
8% over the year ending                                                                                                                       Banking
                                              Insurance                                        Insurance
October 2019 as investor
concerns regarding the
                              The large Australian general insurers have      Even before the FSRC commenced, the              CBA’s divestment of its 20% stake in
FSRC abated. This has         been seeking to streamline their businesses,    Australian life insurance segment had seen       Vietnam International Commercial Joint
occurred despite weaker       simplify management structures and lift         strong M&A activity driven by offshore           Stock Bank is the only pure banking
credit growth and falling     profitability. Their M&A activity has focused   buyers using their lower cost of capital         transaction over the last few years. This
house prices, which have      on divesting some of their overseas             and opportunities to extract synergies           follows ANZ making several divestments
                              operations, smaller portfolios, investments     through scale. In 2017 and 2018 the              in Asia several years ago. More recently,
lowered top line growth,
                              in brokers and managing agents, and             Commonwealth Bank of Australia (CBA)             the major banks have sought to divest
while increasing the          claims management service providers.            divested its life insurance business to          themselves of mortgage brokers. There has
risks within the existing                                                     pan-Asian group AIA, Suncorp sold its life       been speculation in the press that Suncorp
book of loans. At the                                                         insurance business to TAL (a wholly owned        will look to divest its banking operations.
same time, banks have                                                         subsidiary of Dai-ichi Lite Group, Japan)
                                                                              and AMP agreed to divest AMP Life to
experienced falling margins
                                                                              Resolution Life (UK)(a deal which presented
and profitability due to                                                      regulatory challenges to complete). 2019
record low interest rates,                                                    also saw the sale of ANZ OnePath Life to
increased competition,                                                        Zurich (Switzerland). These follow other
increased operational costs                                                   significant deals such as the acquisitions
                                                                              of National Australia Bank's (NAB's) MLC
and rising funding costs.
                                                                              life insurance business by Nippon Life
                                                                              (Japan), Zurich's (Switzerland) acquisition of
                                                                              Macquarie's life business, and Dai-ichi Life
                                                                              Group's (Japan) acquisition of TAL.

                                                                                                                                                           MinterEllison   7
M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com
Wealth                                             Private
                 Management                                         Equity

Wealth management is an important                   Both history and theory tell us that
area of change for the major banks, with            mixing private equity with banking can
most looking to make divestments in this            be problematic at times. Both sectors are
area over time. However, these changes              highly leveraged, and hence boosting one
are not being mandated by legislation.              with the other creates potential alarms for
Changing market dynamics have led                   regulators. Despite that, there are pockets in
banks to reassess their ownership of                the non-bank financial services sector where
investment platforms and financial planning         private equity is currently present, including
services, with some deciding to divest              shareholdings in ClearView, Pepper, Latrobe
these businesses. AMP’s portfolio review            Financial and Latitude Financial.
included the decision to divest its New
Zealand wealth management operations                Private equity could foreseeably be
as conditions permit. Westpac has decided           attracted to other non-bank institutions,
to continue manufacturing its own                   with press reports suggesting that Mortgage
investment products.                                Choice, Steadfast Group and AUB Group
                                                    are potential targets. Furthermore, the
We anticipate that banks that retained parts        wealth management operations within
of their wealth management businesses               banking groups could be equally attractive.
may find future compliance costs will               These capital light businesses generate
outweigh revenue. This could see those              relatively predictable cash flows and are
businesses come to market as part of a              therefore ideal for private equity. Currently
divestment strategy at a later stage.               we are seeing the potential for such a tie-
                                                    up with global private equity majors being
                                                    linked to the potential purchase of NAB’s
                                                    MLC business.

8   M&A Outlook: Australian Financial Services Towards 2030
M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com
MinterEllison   9
M&A Outlook: Australian Financial Services Towards 2030 - minterellison.com
Short term
M&A context and outlook (cont.)
The deceleration of credit growth and the
subsequent fall in property prices has been
                                                    Banks have also supplemented their deposit
                                                    base by raising wholesale funding (both long
                                                                                                     While the fundamental drivers of credit
                                                                                                     quality remain currently unchanged,
                                                                                                                                                   Despite solid
partially influenced by regulators, with the
Australian Prudential Regulation Authority
                                                    term and short term debt) and securitising
                                                    existing loans, such as residential mortgages,
                                                                                                     high household debt, combined with
                                                                                                     the potential of rising unemployment,
                                                                                                                                                   fundamentals,
(APRA) introducing a 10% benchmark on
investor loan growth and a 30% cap on
                                                    into Residential Mortgage Backed Securities
                                                    (RMBS), to make additional loans and take
                                                                                                     remain as the largest risks going forward.
                                                                                                     Despite solid fundamentals, we anticipate
                                                                                                                                                   we anticipate that
interest only loans. Although both have
now been lifted, it is expected that loan
                                                    advantage of profitable demand. Much of
                                                    the wholesale funding has been raised and
                                                                                                     that shifting market conditions are likely
                                                                                                     to put additional pressures on financial
                                                                                                                                                   shifting market
growth will remain subdued, at least in             securitised loans sold overseas. This leads      services institutions. The credit cycle may   conditions are
the short term, before recovering. Moves            to Australian banks’ funding costs being         have started to turn, with lenders seeing
to strengthen underwriting have had an              partly driven by what is happening to the        an uptick in arrears and losses. While        likely to put
even greater and ongoing effect. Added              cost of funding overseas. This reliance on       doomsday scenarios are unlikely, these
to this, APRA is now focusing more on               overseas funding may bring its own set           challenges may trigger institutions and       additional pressures
minimising debt to income ratios and                of risks, particularly if the cost of overseas   competitors to undertake strategic reviews
keeping low-deposit lending to a minimum.           funding rises while the Australian cost of       that lead to selected portfolio divestment    on financial
The net effect could be a further tightening        funding falls.                                   or runoff.
in housing credit, which will continue to                                                                                                          services institutions."
constrict some housing market activity and          In this climate, it is easier to focus on the
reduce the prospects for price appreciation.        short term challenges rather than the
                                                    long term opportunities arising from the
The brunt of this low credit growth is              current operating environment and the
seemingly being borne by the larger market          new ways of doing business being created
participants (and perhaps already reflected         by technological advancements. Most
in the fall in the market capitalisations of the    importantly, notwithstanding the now
major banks). Smaller players are benefiting        long prevailing benign credit environment,
from this environment, with some non-               banks are being proactive in managing
bank lenders or ‘shadow-banks’ showing              their credit exposures to minimise credit
accelerated loan growth. Major banks now            losses. Notably, the majority of employees
need to be best in class in relation to each        in these financial institutions may not have
product and market segment. A portfolio             seen a recession (which has not occurred
approach will no longer work as some                in Australia in 28 years). Therefore, they
smaller lenders target niches.                      may consequently lack some experience in
                                                    managing a downturn.
10   M&A Outlook: Australian Financial Services Towards 2030
Recent M&A developments
in financial services
A number of high profile       Recent strategic reviews and M&A
                               processes have been predominantly
and complex M&A                driven by institutions seeking to pre-empt
transactions have been         and mitigate any additional compliance
completed in recent years      requirements and fallout from the FSRC. In
in the Australian financial    some respects, the sheer size, complexity
services sector. This trend    and poor quality of legacy systems within
                               our larger financial services institutions
has continued, if not been     contributed significantly to the issues
accelerated by the major       highlighted in the FSRC. Hence, solving
banks with a number of         these inherent problems is not easy and
transactions, some of which    will require significant spending and
are yet to be completed.       management time.
These transactions are         Weaker equity markets and an increase
part of a broader trend to     in credit spreads over 1H19 (triggers that
creating simpler businesses.   increase the cost of capital for acquirers
                               and potentially decrease the transaction
They also establish a strong
                               valuation multiples that buyers are willing
base for buoyant M&A           to pay) led some to believe that the peak of
trends to continue.            M&A in this cycle may have already passed.
                               However, aided by the market rebound
                               in 2H19, and according to Merger Market,
                               M&A volumes have been robust. There has
                               been a 7% increase in deal value in FY19 in
                               Australia compared with FY18. However,
                               there has been a slowdown in 1H20.

                                                           MinterEllison   11
Short term                                                            M&A predictions
predictions                                                           in banking

The sector’s ongoing                                The bancassurance model may be in trouble        The outlook for credit cards is difficult for       Australia may spread to New Zealand under
                                                                                                     smaller providers                                   the current structure. APRA is now also
response to the FSRC                                The bancassurance model appears to be
                                                                                                                                                         looking to change the capital requirements
                                                    facing significant challenges. With growing      Credit card operations are businesses of
Final Report, new                                   capital demands and reduced capital              scale. There are only a limited number of           for holding banks' NZ businesses. This could
regulation and compliance                           synergies, banks may look to further divest      providers with such scale in Australia. Many        lead the NZ subsidiaries to modify their
regimes are likely to bring                         remaining insurance businesses, particularly     store cards, smaller banks, and some regional       lending appetite, depending on the final
                                                                                                                                                         capital requirements. The RBNZ had also
further scrutiny, and                               those dealing in general insurance. For          institutions provide their customers with
                                                                                                                                                         initially rejected AMP’s sale of AMP Life to
                                                    example, CBA will carve out its general          white-labelled credit cards from one of these
behavioural and structural                          insurance business.                              providers. Banks are increasingly focused           Resolution Life.
change to the sector in the                                                                          on the profitability of their loan portfolios.
                                                                                                                                                         Basel IV looks at total loss-absorbing capital
short term. We envisage                             A fifth major bank                               In addition, recent changes to card lending
                                                                                                                                                         (TLAC) for banks and puts floors in internal
that a number of changes                            Long speculated is the idea of a tie-up of       standards aimed at restricting the growth in
                                                                                                                                                         models for the calculation of risk weighted
                                                    regional institutions to form a fifth ‘major     card credit limits and outstanding balances,
will occur across segments.                         bank’. A merger of regional banks, servicing     and greater competition from buy-now pay-
                                                                                                                                                         assets (RWAs). In other countries, regulators
                                                                                                                                                         have looked to Tier 2 and Tier 3 (unsecured
                                                    different geographic areas would provide         later providers, might lead some providers to
                                                                                                                                                         subordinated debt) to boost TLAC. In
                                                    greater scale and geographical scope.            divest their credit card operations in favour of
                                                                                                                                                         Australia, APRA plans to use Tier 2 capital to
                                                    Additional acquisitions of smaller banks,        white labelling. This will allow them to reinvest
                                                                                                                                                         boost TLAC held by Australian banks.
                                                    or mutual or credit unions, could address        the proceeds into more profitable parts of
                                                    any additional servicing gaps. This is similar   their business.                                     The proposed RBNZ requirements, which
                                                    to the process the major Australian banks                                                            propose Tier 1 equity capital rather than Tier
                                                    have undertaken over at least the past 35        It is more expensive to do banking in NZ
                                                                                                                                                         2 or Tier 3 subordinated debt, would be
                                                    years. Clearly the Australian Competition        now given increased capital requirements
                                                                                                                                                         tougher than Basel IV proposals. This scenario
                                                    and Consumer Commission (ACCC) would             The Reserve Bank of New Zealand’s (RBNZ's)          could create depressing returns and strategic
                                                    scrutinise any such proposal.                    proposal to significantly increase the capital      challenges for Australian financial services
                                                                                                     requirement proposals for banks could lead          institutions operating in NZ. Should the RBNZ
                                                    The outlook for auto loan books is               to Australian banks strategically reviewing         embrace a more stringent standard, Australian
                                                    very uncertain                                   their ownership of New Zealand banks                banks with subsidiaries in New Zealand
                                                                                                     and potentially moving down a path of               might consider undertaking strategic reviews
                                                    ASIC’s ban of ‘flex commissions’ in the car
                                                                                                     divestment. According to a RBNZ discussion          and consider all their options for their New
                                                    finance market, coupled with a desire to
                                                                                                     paper on capital standards, released in April       Zealand businesses. These changes have
                                                    focus on core operations, may lead some
                                                                                                     2019, the regulatory authorities in NZ are          already caused Australian banks to review their
                                                    of the major banks to review their auto
                                                                                                     concerned that systematic banking risks in
                                                    loan portfolios.

12   M&A Outlook: Australian Financial Services Towards 2030
overall strategy in New Zealand. However,           ATMs are potentially going the way of
divestment (other than potentially for first        phone boxes
mover advantage) or withdrawal is unlikely.         With falling demand for ATM services
The size, nature and pricing of the loan books      associated with the increase in card payments
and other activities will inevitably be put under   and tools like Apple Pay, the major banks have
the microscope.                                     already removed their ATM fees. We may
                                                    see major banks and ATM owners look to
Fintechs are unlikely to take market share
                                                    rationalise their ATMs into one or more ‘utility’
from the major banks in the short term
                                                    ATM networks (subject to ACCC approval
It is very likely that some existing institutions   or authorisation).
will strategically invest in fintechs. Smaller
                                                    Despite media reports, the Australian
specialist lending portfolios, based around a
                                                    banking market is still attractive to
particular asset class, may see greater volumes
                                                    foreign banks
of M&A. This will be partly driven by shadow
banking fintechs operating in niches such as        While the Australian banking sector continues
lending to small and medium-sized enterprises,      to experience significant problems and
inventory finance, and asset/vehicle finance.       the value of banking businesses de-rate
Banks may also reconsider their portfolios in       materially, foreign banks may look to increase
these areas given the high capital demands          their presence in Australia. One way of
and margin compression driven by increased          doing this is to simply acquire Australian
competition. Alternatively, the fintechs in these   institutions as a way of cheaply acquiring
segments may be acquired by other fintechs          customer relationships and economies of
looking to expand or scale up their offerings,      scale. Japanese and Chinese institutions,
or by opportunistic banks that can get niche        as well as those from other countries that
providers out of difficulty. For example,           have a significant savings surplus and limited
CBA plans to invest more than $5 billion in         domestic or existing long term growth
technology over the next five years to maintain     opportunities, may identify Australia as an
its leadership position in digital banking. In      attractive market.
August it announced a $100 million investment
in Klarna which is a buy now pay later fintech.

                                                                                                        MinterEllison   13
M&A predictions in
                                                                               mortgage broking

                                                               Seeming casualties of the FSRC,               The recommendation that consumers pay
                                                               mortgage brokers continue to                  mortgage brokers, replacing the current
                                                               lobby against a recommendation on             commission structure, was aggressively
                                                               commission structure                          fought by the mortgage broking industry
                                                                                                             on the basis that it diminishes competition.
                                                               Historically, mortgage brokers have been      These Liberal/National and Labor political
                                                               used by banks as a cost efficient way         parties have expressed caution or
                                                               of sourcing new business, with banks          abandoned this recommendation. We
                                                               paying trail commissions in the form of a     expect that significant political debate on
                                                               deferred spotter’s fee. Criticisms of bank    any major reforms in this area will continue,
                                                               ownership of mortgage brokers had been        given that there are over 7,000 mortgage
                                                               long building. A Productivity Commission      broking businesses in Australia employing
                                                               report concluded that many brokers had        more than 18,000 people (IBISWorld), with
                                                               started acting in the best interests of the   many being small businesses.
                                                               banks that own them, as opposed to
                                                               providing competition to the major banks
                                                               as they did in the 1990s. Two of the major
                                                               banks noticeably hold mortgage broking
                                                               businesses, with CBA already announcing
                                                               plans to divest its Aussie Home Loans
                                                               business (although now delayed).

14   M&A Outlook: Australian Financial Services Towards 2030
M&A predictions
                in insurance

The insurance sector may see further            Some business units of large insurers          There is an unwinding of vertical                 Now that the FSRC is over, there is
heightened M&A activity in the short term       now have increased pressure following          integration to claims fulfilment                  potential for some deals to reappear
                                                the FSRC’s recommendations to prevent
The insurance sector was severely               insurance sales alongside the sale of other    The general insurance industry has moved          The FSRC has resulted in a few M&A
disrupted by the FSRC recommendation to         products.                                      towards the vertical integration of claims        transactions being delayed or falling
remove grandfathering on both financial                                                        fulfilment, through vehicle and property          through, such as the terminated divestment
advice and life insurance commissions, plus     Insurance brokers and managing agents          repairs. This appears to be moving in             of St Andrew’s insurance from Bank of
the recommendation to review general            are likely to consolidate, but it may not be   phases, with insurers acting as the catalyst      Queensland to (the now defunct) Freedom
insurance commissions. This, combined           a structural change                            for an increase in scale. This is partly driven   Insurance Group. A number of other recent
with growing capital demands and reduced                                                       by changes in technology and to drive             M&A deals are at risk of being, or have
capital synergies, may see banks further        The insurance sector tends to go through       efficiencies. As the market responds to           been, blocked. Suncorp’s bid to buy Tower
divest their remaining insurance businesses.    periods of acquiring brokers and managing      match this increase in scale, some general        Insurance in New Zealand was blocked by
                                                agents. This is in order to grow its           insurers are now looking to divest and            the New Zealand Commerce Commission.
The third party insurance sales model is        intermediated business and is followed by      reduce vertical integration. For example,         In a more certain post-FSRC environment,
certainly threatened. Restricting the ability   periods of selling these businesses as they    Capital SMART Repairs was sold by Suncorp         we could see other interested buyers bid
to instigate life insurance sales over the      become less critical for business growth.      to AMA Group at the end of October 2019.          for these assets.
phone will prevent some insurers from           This process is likely to continue.
using third party call centres to sell direct
to customer life insurance products.

                                                                                               The FSRC resulted in a few M&A transactions
                                                                                               being delayed or falling through. In a more
                                                                                               certain post-FSRC environment, we could see
                                                                                               other interested buyers bid for those assets.”

                                                                                                                                                                           MinterEllison   15
M&A predictions in
                 wealth management

Structural separation from the banks is             their customers with the options they           commissions). Press reports suggest             Productivity Commission reports, APRA
likely to occur over time                           need. However, Westpac has exited from          these businesses are pricing at between         may become far more aggressive in
                                                    financial planning.                             3–3.5 times recurring revenues, or              seeking the closure of underperforming
CBA has already sold Colonial First State                                                           6–7 times normalised EBITDA.                    superannuation funds or their merger into
Global Asset Management to Japanese                 ANZ sought to sell its OnePath wealth                                                           other, more successful funds.
giant Mitsubishi UFJ Trust and Banking,             management operations to IOOF,                  Potential liabilities associated with some
and its financial planners to CountPlus.            completing the sale of its financial planning   financial groups may limit M&A activity,        Similarly, funds management is an area
It is separating its remaining wealth               business. However, APRA’s concerns with         but there are solutions                         where scale will remain ever more
management (less the already divested               IOOF have delayed regulatory approvals.                                                         important as investors continue to demand
funds management and financial planning             APRA’s sanctions against IOOF may see the       Given the potential professional indemnity      lower management fees. In areas such
operations) and mortgage broking                    transaction further delayed.                    liabilities associated with inappropriate       as exchange traded funds (ETFs) or active
business into a separate business dubbed                                                            financial advice and fees for no service,       management, we expect that funds
‘NewCo’. CBA has confirmed that its                 There are opportunities for M&A in              it is possible that some smaller financial      failing to reach acceptable scale may be
Financial Wisdom licensee will be closed            financial planning given the turmoil            planning organisations might look to divest     increasingly shut down or merged into
and no longer offer licensing services by           caused by the major banks                       the back book of their operations. These        other funds.
June 2020.                                                                                          ‘run-off liability companies’ could then be
                                                    At the smaller end of the market, financial     rolled up in a series of M&A transactions,      An example of the recent changing activity
NAB has stated that multiple options for            planning businesses looking to grow             similar to the process used by the insurance    in this space is the signing of a non-
its wealth management business remain               will have many opportunities to acquire         industry to transfer run-off liabilities from   binding memorandum of understanding by
under consideration, including an initial           businesses that are being divested by the       closed insurance books.                         VicSuper and First State Super to explore
public offering, sale or demerger.                  majors. There appears to be particularly                                                        the benefits of a merger. This would make
                                                    strong buyer interest in advisor groups         Increased consolidation is likely in super      the resulting fund the nation’s second
Westpac has made the decision to                    where the clients are well engaged and          and funds management                            largest behind AustralianSuper.
continue manufacturing its own investment           pay good ongoing fees (as opposed to
products, believing that this path gives            those businesses that rely on conflicted        As a result of the FSRC recommendations,
the group greater control in providing              remuneration models and trailing                the APRA Capability Review and

16   M&A Outlook: Australian Financial Services Towards 2030
Divestment of
wealth management
There is no greater example of the             (c) Conflicts of interest between               Figure 2 – Market share of wealth management/financial planning in Australia (2018)
changes happening in the market than               customers' best interests and staff
the efforts by Australia’s major banks             incentives;                                 20%
to divest their wealth management              (d) the airing and scrutiny of high-profile
activities. The days where the big four            case studies of internal misconduct by      15%
banks and AMP controlled 80% of the                financial planners and the management
Australian wealth management industry              impost to fix such misconduct;
have gone. Figure 2 and Figure 3 highlight                                                     10%
the current market share positions in          (e) increased competition from the not-
wealth management but this market                  for-profit industry super funds;
concentration will change rapidly.             (f) increased regulatory pressures                5%
                                                   such as the MySuper legislation,
The FSRC did not directly address the              which forced institutions to offer           0%
future of the vertically integrated business       simple, low-fee accounts for new                         AMP            ANZ         CBA          NAB        WBC            IOOF
model. However, this model is now under            superannuation customers; and the
severe pressure and most of the larger                                                         source: Money Management Magazine.
                                                   Freedom of Financial Advice (FOFA)
players in the sector have, through actual         legislation, which banned commissions
or planned divestments of their wealth                                                         Figure 3 – Market share of retail funds under management in Australia (2018)
                                                   on financial products (apart from
management and/or insurance businesses,            insurance);                                 20%
signalled their intentions to simplify their
business models. Contributing factors          (g) anticipated enhanced regulation and
have included:                                     associated cost to professionalise
                                                                                               15%
                                                   services and conduct, and improve the
(a) the banks, in particular, becoming             products available to end consumers;
    progressively more circumspect with                                                        10%
    the wealth management business and         (h) greater management time and
    seeing more effective use of capital;          responsibilities (under BEAR) for a small
                                                   proportion of its overall business; and      5%
(b) lack of customer demand to using their
    local bank branch as a ‘one-stop-shop’     (i)   the need to overcome negative
    for their investment, superannuation             reputational and share price impacts.      0%
                                                                                                           AMP          WBC/BT    CBA/       NAB/      ANZ     Macquarie       IOOF
    and insurance products;
                                                                                                                                 Colonial    MLC      Wealth

                                                                                               source: Plan for Life.

                                                                                                                                                                     MinterEllison   17
Recent international
trends
International M&A activity                          International trends by sector
in the financial services
sector has shown some
interesting contrasts                                               Banks                                                                   Asset managers
over the last 12 months.
Deal making between
banks continues to be                               Deal making in the banking sector has been subdued for the              A record was set in 2018 for deal making in the asset management
sluggish, while transactions                        last decade. This is due in large part to the stricter regulatory       segment. Acquirers have been attracted to the discounted
                                                    regimes that have been put in place since the Global Financial          valuations through the segment, which dropped to their lowest
involving asset managers
                                                    Crisis. In addition, regulators and governments have in many            level in seven years through 2018. The median valuation for
and insurers have                                   instances effectively barred mega bank deals amongst the largest        publicly traded asset management companies – measured as
increased.                                          international and national banks.                                       the enterprise value multiple to earnings before interest, tax,
                                                                                                                            depreciation and amortisation (EV/EBITDA) – was about 6.2
                                                    However, since US President Trump has come into office, US              times last year, well below the peak of 11 times registered in 2011.
                                                    bank rules have loosened considerably, leading some to predict a        Interestingly, valuations of privately owned asset managers have
                                                    pickup in deals, particularly as smaller banks look to consolidate.     maintained valuations of about 10 times over the last five years.
                                                    In February 2019, US regional lender BB&T Corp acquired another         With the trend towards low cost industry funds appearing to
                                                    US regional lender SunTrust Bank for $US28.2 billion, creating          be a secular shift, traditional active managers have used cost
                                                    the sixth largest US retail bank and making it the largest US bank      cutting measures to try to stay profitable. This combination of low
                                                    merger since JPMorgan’s acquisition of Bank One in 2004.                valuations and cost out opportunities has also seen significant
                                                    Technology has been mentioned by the bank’s executives as the           private equity interest, which in turn may be an attractive option for
                                                    main impetus for the deal. The pooling of resources will allow the      asset managers as it provides them with an escape from the glare
                                                    companies to develop better digital offerings.                          of seasonal earning cycles.
                                                    In Europe, Deutsche Bank was unable to reach a deal with
                                                    prospective partner Commerzbank and has since embarked on an
                                                    aggressive restructure of its operations, shedding its Asian equities
                                                    businesses and downsizing its investment bank.

18   M&A Outlook: Australian Financial Services Towards 2030
Insurance

The pace of global insurance M&A was
robust through 2018, up 9% from 2017,
with 382 completed deals. This included
18 $US1 billion+ mega deals, such as AIG’s
$US5.5 billion acquisition of Validus, and
Axa’s €12.4 billion acquisition of XL Group.
Despite these numbers, mega deals are still
difficult to complete, as evidenced by the
collapse of SoftBank’s proposed acquisition
of a stake in Swiss Re.

                                               MinterEllison   19
Recent international
trends (cont.)
International regulation driving change

                 Easing up on                                       Europe’s banks                                                                                Canada strengthens
                 midsized US Banks                                  face new rules                                                                                standards

In November 2018, the US Federal Reserve            Ten years after the financial crisis, the     The new rules also required large foreign       In 2018, the Canadian Office of the
said that it wanted to ease regulations for         regulatory revolution continues for           banks to set up intermediate parent             Superintendent of Financial Institutions
US lenders with less than $US700 billion            European banks. The past year has seen        undertakings that would bring their             (OSFI), implemented changes to mortgage
in assets, as a way to lessen the burden            reforms passed which will open up             EU operations under a single holding            underwriting standards, creating a stress
on big commercial lenders that do not               European banking to more competition,         company. The move effectively mirrors US        test for borrowers making a down payment
have volatile Wall Street businesses. Under         tighten rules on trading, dent reported       rules and is seen as crucial to protecting      exceeding 20%. This will require banks to
the proposal, midsized lenders would                profits and boost capital requirements.       the bloc’s financial stability against risks    increase their loan-to-value ratios, which
face lower liquidity and compliance                 Taken together, these changes should also     posed by major banks.                           will be strictly enforced by OSFI.
requirements, while smaller banks would             make Europe’s financial system healthier.
get even easier treatment.                                                                        Concerns are still held that the ‘Too           Canada’s banking regulator also increased
                                                    European Union (EU) finance ministers         Big to Fail’ problem persists in Europe.        the amount of capital that its biggest
The proposal stems from a law the                   were able to reach agreement on               Since 2008, the five largest banks in the       lenders must carry, to protect them against
US Congress passed in May that                      reforming bank capital rules, a major step    Eurozone have increased their share of the      risks at home. Regulators pointed out that
ordered the Federal Reserve to reduce               towards boosting the bloc’s financial         total assets of the entire banking industry     despite positive credit performance and
regulatory burdens on community and                 stability and a stepping stone towards a      from 44% to 48%. Critics argue that implicit    generally stable economic conditions,
regional lenders.                                   deal on a backstop for its bank rescue        subsidies for ‘Too Big to Fail’ banks remain    now is a prudent time for banks to build
                                                    fund. The accord came after 18 months         in place as well. Since creditors continue to   resilience against future risks to the
                                                    of heated debate among the 28 EU              believe that those banks would get bailed       Canadian financial system.
                                                    governments on how to apply new global        out in a crisis, they can borrow at lower
                                                    bank capital rules.                           interest rates than smaller banks.

                                                    Under the accord, European banks will
                                                    have to abide by a new set of requirements
                                                    aimed at keeping their lending in check and
                                                    ensuring they have stable funding sources.

20   M&A Outlook: Australian Financial Services Towards 2030
Part B
Long term
   drivers
       MinterEllison   21
Long term
drivers
The financial services
sector has and will                                                 Regulatory &
continue to be a key                                                                                               Competition                                     Technology
                                                                    stakeholder
pillar of the Australian
economy, and an enabler
                                                    Ongoing changes to international and local     We're likely to see new competition from        We're seeing greater customer expectation
of productivity, jobs                               regulatory and compliance conditions are       nimble, agile and sophisticated companies,      for customised, agile and on-demand
and economic growth.                                inevitable, including to banking capital       especially those with smart technology          systems, coupled with ongoing
However, we anticipate                              requirements, banking executive                offerings. This would result in shifts in       advancements in technology solutions,
that a number of longer                             accountability, open banking, tightening of    market share and power, and the formation       especially in quantum computing. This will
                                                    social responsibility, culture, reputational   of more strategic alliances among               result in further outlays to upgrade ageing
term changes will see the
                                                    and shareholder priorities. The impact may     traditional players wanting to stay relevant.   infrastructure and systems just to 'remain in
sector look fundamentally                           be further regulatory and remediation cost                                                     the game'. Part D provides further insights
different by 2030. It is here                       cutting into profit margins and potentially                                                    about this driver.
that we see the greatest                            market value. Non-core business units
opportunities and need                              might be divested and we might see
                                                    fundamental institutional shifts towards
for M&A.
                                                    simplified operations, and possible
                                                    consolidation and market concentration
                                                    by astute buyers.
                                                                                                                                  We’re seeing a number of other
                                                                                                                                  interrelated and coordinated
                                                                                                                                  forces that will drive longer
                                                                                                                                  term change in the sector.”

22   M&A Outlook: Australian Financial Services Towards 2030
Economic

Shifting economic conditions, especially
from the current and expected prolonged
low interest rate environment, and also
leverage risks, will result in different credit
and operating conditions.

                                                  MinterEllison   23
Economic and
commercial issues
Taking a long term view,                            Fall in financial services market value
despite a solid base, market
conditions are shifting.                            In 2018 and early 2019 there was a                                                                                                                                (a) the FSRC;                                                                                                                         (e) market uncertainty and volatility due to
                                                    significant reduction in the collective                                                                                                                                                                                                                                                                     international market and concerns;
When combined, they are                             market value of Australian financial
                                                                                                                                                                                                                      (b) actions by regulators to slow
likely to create additional                         services institutions, which has since partly
                                                                                                                                                                                                                          investment and interest-only                                                                                                      (f) moves by APRA to slightly ease new
                                                                                                                                                                                                                          lending growth;                                                                                                                       mortgage stress test requirements;
pressures on financial                              recovered. This is highlighted in Figure 4.
                                                                                                                                                                                                                      (c) weaker credit growth and falling                                                                                                  (g) APRA’s timetable for revisions to the
services institutions. While
                                                    A confluence of factors have led to this                                                                                                                              house prices;                                                                                                                         capital framework for authorised
doomsday scenarios are                              reduction and then recovery in market                                                                                                                                                                                                                                                                       deposit-taking institutions (ADIs); and
                                                                                                                                                                                                                      (d) falling margins and profitability
unlikely to eventuate, these                        value. These include:                                                                                                                                                 ratios due to competition, increased                                                                                              (h) interest rate cuts by the RBA.
challenges may create                                                                                                                                                                                                     operational costs, and rising
triggers for institutions and                                                                                                                                                                                             funding costs;
competitors to undertake
strategic reviews.

                                                    Figure 4 – The reduction in market value of ASX200 financial service sector (January 2018–November 2019).

                                                    Banks (Big 4 plus BEN, BOQ, CYG & GMA)                                                                                                                                                                                           Insurance (SUN, AM, IAG, QBE, MPL, NHF, SDF)

                                                                440                                                                                                                                                                                                                              75
                                                                                                                                                                         FSRC Final Report                                                                                                                                                                                                                FSRC Final Report
                                                                      428

                                                                420

                                                                                                                                                                                                                                                                   425
                                                                               423

                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  71
                                                                                                                                                                                                                                                                                                 70
                                                                                        421

                                                                                                                                                                                                                                                  419

                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           70
                                                                                                                                                                                                                                        413
                                                                                                                                     411

                                                                                                                                                                                                                                                                            408

                                                                                                                                                                                                                                                                                                                                                                                                                                                                         68

                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    68
                                                                400

                                                                                                                                                                                                                                                                                     $Billions
                                                                                                                                                                                                                                                          405
                                                    $Billions

                                                                                                                                              402

                                                                                                                                                                                                                                                                                                                                                                               67
                                                                                                                            400

                                                                                                                                                                                                                               399

                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             408
                                                                                                                                                                                                                                                                                                                                                                      66

                                                                                                                                                                                                                                                                                                                                                                                                                                                       66
                                                                                                                                                                                                                                                                                                 65
                                                                                                          395
                                                                                                 394

                                                                                                                                                        393

                                                                                                                                                                                                                                                                                                                                                             65
                                                                                                                                                                                                                                                                                                                         65

                                                                                                                                                                                                                                                                                                                                                                                                                                                               65
                                                                                                                                                                                                                                                                                                                                                                                                                                              65
                                                                                                                                                                                                                       387

                                                                                                                                                                                                                                                                                                                                                                                        64

                                                                                                                                                                                                                                                                                                                                                                                                                                     64
                                                                380
                                                                                                                                                                                                    385

                                                                                                                                                                                                                                                                                                       64

                                                                                                                                                                                                                                                                                                                64
                                                                                                                   383

                                                                                                                                                                                                                                                                                                                                           63

                                                                                                                                                                                                                                                                                                                                                                                                 63
                                                                                                                                                                                                                                                                                                                                                   62
                                                                                                                                                                 373

                                                                                                                                                                         372

                                                                                                                                                                                                             371

                                                                                                                                                                                                                                                                                                                                  61
                                                                                                                                                                                                                                                                                                 60
                                                                360

                                                                                                                                                                                                                                                                                                                                                                                                         60
                                                                                                                                                                                  364

                                                                                                                                                                                                                                                                                                                                                                                                                            59
                                                                                                                                                                                           359

                                                                                                                                                                                                                                                                                                                                                                                                                   58
                                                                340                                                                                                                                                                                                                              55
                                                                                                                                                                                                                                                 Aug-19
                                                                      Jan-18
                                                                               Feb-18
                                                                                        Mar-18
                                                                                                 Apr-18
                                                                                                          May-18

                                                                                                                   Jun-18
                                                                                                                            Jul-18
                                                                                                                                     Aug-18
                                                                                                                                              Sep-18
                                                                                                                                                       Oct-18
                                                                                                                                                                Nov-18

                                                                                                                                                                         Dec-18
                                                                                                                                                                                  Jan-19
                                                                                                                                                                                           Feb-19
                                                                                                                                                                                                    Mar-19
                                                                                                                                                                                                             Apr-19
                                                                                                                                                                                                                      May-19

                                                                                                                                                                                                                               Jun-19
                                                                                                                                                                                                                                        Jul-19

                                                                                                                                                                                                                                                          Sep-19
                                                                                                                                                                                                                                                                   Oct-19
                                                                                                                                                                                                                                                                            Nov-19

                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 Aug-19
                                                                                                                                                                                                                                                                                                      Jan-18
                                                                                                                                                                                                                                                                                                               Feb-18
                                                                                                                                                                                                                                                                                                                        Mar-18
                                                                                                                                                                                                                                                                                                                                 Apr-18
                                                                                                                                                                                                                                                                                                                                          May-18

                                                                                                                                                                                                                                                                                                                                                   Jun-18
                                                                                                                                                                                                                                                                                                                                                            Jul-18
                                                                                                                                                                                                                                                                                                                                                                     Aug-18
                                                                                                                                                                                                                                                                                                                                                                              Sep-18
                                                                                                                                                                                                                                                                                                                                                                                       Oct-18
                                                                                                                                                                                                                                                                                                                                                                                                Nov-18

                                                                                                                                                                                                                                                                                                                                                                                                         Dec-18
                                                                                                                                                                                                                                                                                                                                                                                                                  Jan-19
                                                                                                                                                                                                                                                                                                                                                                                                                           Feb-19
                                                                                                                                                                                                                                                                                                                                                                                                                                    Mar-19
                                                                                                                                                                                                                                                                                                                                                                                                                                             Apr-19
                                                                                                                                                                                                                                                                                                                                                                                                                                                      May-19

                                                                                                                                                                                                                                                                                                                                                                                                                                                               Jun-19
                                                                                                                                                                                                                                                                                                                                                                                                                                                                        Jul-19

                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          Sep-19
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   Oct-19
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            Nov-19
                                                    source: Start of month market capitalisations, ASX200List.com, accessed 20 November 2019.

24   M&A Outlook: Australian Financial Services Towards 2030
– The market value of bank stocks has fallen 16% in the
               last year or ~$70 billion
             – The market value of insurance stocks has fallen 17% in
               the last year or ~$14 billion
             – The market value of diversified financials has fallen 7% in
               the last year or ~$5 billion
             – The total decline in market value for larger Australian
               listed financial services stocks is approximately $90
               billion or ~15%.

Diversified financials
(ASX, CCP, CBG, ECX, IFL, JHG, MFG, MOG, PDL, PPT & PTM)

            100
                                                                                                                                                                                                                         99

                                                                                                                      FSRC Final Report
                                                                                                                                                                                                                97

            95
                                                                                                                                                                                              96
                                                                                                                                                                   96
                            95
                   94

                                     94

                                                                                           94
                                                                         93

                                                                                  93

                                                                                                    92

                                                                                                                                                                                     92

            90
                                                               91

                                                                                                                                                                                                       91
                                              90

                                                                                                                                                          90
$Billions

                                                                                                                                                 89

                                                                                                                                                                           89
                                                       87

            85
                                                                                                             83

                                                                                                                     82

            80
                                                                                                                                        80
                                                                                                                               78

             75

            70
                                                                                                                                                                                             Aug-19
                  Jan-18
                           Feb-18
                                    Mar-18
                                             Apr-18
                                                      May-18

                                                               Jun-18
                                                                        Jul-18
                                                                                 Aug-18
                                                                                          Sep-18
                                                                                                   Oct-18
                                                                                                            Nov-18

                                                                                                                     Dec-18
                                                                                                                              Jan-19
                                                                                                                                       Feb-19
                                                                                                                                                Mar-19
                                                                                                                                                         Apr-19
                                                                                                                                                                  May-19

                                                                                                                                                                           Jun-19
                                                                                                                                                                                    Jul-19

                                                                                                                                                                                                      Sep-19
                                                                                                                                                                                                               Oct-19
                                                                                                                                                                                                                        Nov-19

source: Start of month market capitalisations, ASX200List.com, accessed 20 November 2019.

                                                                                                                                                                                                                                 MinterEllison   25
Economic and
commercial issues (cont.)
Challenges to credit growth
Currently in Australia, banks are facing            The deceleration of credit growth has          Although the 10% benchmark was lifted        The net effect could be further tightening
an undeniably challenging credit growth             also been influenced by regulators. In late    from 1 July 2018, and the 30% cap was        in housing credit, which will continue
outlook, which is largely being driven by           2014, APRA introduced a 10% benchmark          lifted from 1 January 2019, the likelihood   to constrict housing market activity and
the slowdown in the home loan market                on investor loan growth. Investment            of a quick rebound in housing credit         reduce prospects for price rises.
(represented in Figure 5 by housing finance         lending volumes as a proportion of total       remains low. The 30% cap on interest-only
commitments and investments), especially            lending volumes for household finance          lending had a much more broad-based
in the last 12 months. This weakening in            peaked at 44.4% in May 2015, just after        dampening effect on investor activity.
housing credit is a product of economic             APRA’s imposition of investment lending        Moves to strengthen underwriting have
and market fundamentals, namely slower              'speed limits'. In March 2017, APRA also       had an even greater and ongoing effect.
economic growth, low inflation and                  implemented a cap on interest-only lending     Added to this, APRA is focusing more on
overextended property prices.                       at 30% of all new mortgages, which has         minimising debt to income ratios higher
                                                    led to a substantial drop in demand for this   than six times and maintaining a focus on
                                                    product (largely used by investors).           keeping low-deposit lending to a minimum.

                                                                           This weakening in housing credit is a product of
                                                                           economic and market fundamentals, namely slower
                                                                           economic growth, low inflation and overextended
                                                                           property prices."

26   M&A Outlook: Australian Financial Services Towards 2030
Figure 5 – Housing finance commitments (1985 to now)

             45
                                         Housing finance commitments
                                                                                                                                           45%                     Banks are facing a
             40                                                                                                                            40%                     challenging credit
                                                                                                                                                                   growth outlook,
             35                                                                                                                            35%
                                                                                                                                                                   which is largely
             30                                                                                                                            30%                     being driven by the
                                                                                                                                                                   slowdown in the
$ billions

             25                                                                                                                            25%
                                                                                                                                                                   home loan market."
             20                                                                                                                            20%

             15                                                                                                                            15%

             10                                                                                                                            10%

              5                                                                                                                            5%

             0                                                                                                                             0%

                     Owner occ upie d (LHS)           Investment housing (LHS)           Investment % dwell lings (RHS)

source: ABS 5671.0 Table 8, Seasonally adjusted data, aggregated into owner occupied and investment categories, http://bit.ly/2OkMu9r, accessed 22 January 2019.

                                                                                                                                                                                    MinterEllison   27
Economic and
commercial issues (cont.)
As Figure 6 highlights, system-wide housing                    Figure 6 – Shifts in non-bank lending
credit growth in Australia has slowed                          Housing credit growth in Australia (year on year)                            Non-bank market share of financial commitments
over the last year due to the restrictions
imposed on APRA regulated banks. In this                       20%                                                                          30%
environment, the non-bank lenders or
                                                               15%
‘shadow banks’ have stepped in and are                                                                                                      25%
now showing accelerated loan growth.                           10%

Furthermore, as overall credit growth has                       5%                                                                          20%
slowed, some banks have been more                               0%
affected than others, most notably ANZ.                                                                                                     15%
Recently released APRA stats for June 2019                      -5%
show that ANZ’s owner-occupied home
                                                               -10%                                                                         10%
loan market has declined dramatically,
by 0.75%, in the past year to 15.65%. This                     -15%
                                                                                                                                             5%
is the largest one‑year fall recorded by
                                                               -20%
APRA in relation to the big four banks. In
February 2019, ANZ Chief Executive Officer,                    -25%                                                                          0%
                                                                      2010   2011   2012   2013   2014   2015   2016   2017   2018   2019         2000   2002   2004   2006   2008   2010   2012   2014   2016   2018
Shayne Elliott, conceded that the bank had
become too conservative in its home loan                                                                          Non-bank           Bank
approval process.                                              sources: APRA, RBA.                                                          source: ABS.

28   M&A Outlook: Australian Financial Services Towards 2030
Figure 7 highlights that growth rates in          Figure 7 – Credit growth in Australia (year on year)                     Figure 8 – Median house price changes 2018
other forms of credit, such as business and
personal credit, have also been slowing
alongside housing.                                 25%                                                                      10%                                                          8.8%

Figure 8 also highlights that tighter credit       20%
assessment and availability has led to                                                                                       5%
declining housing prices, particularly in          15%                                                                                                                            1.7%
Australia’s largest cities. There has been less                                                                                                                            0.0%
of an impact in other smaller capital city         10%                                                                       0%
                                                                                                                                                                   -0.1%
markets (where the Household Expenditure
Measure may not be as distorted as it is in         5%                                                                                                     -3.3%
                                                                                                                            -5%
the Sydney and Melbourne markets).
                                                    0%                                                                                                                                          -6.5%

                                                                                                                            -10%           -8.7%   -8.4%
                                                   -5%                                                                             -9.9%

                                                   -10%                                                                     -15%
                                                       2005      2008       2011             2014        2017     2020

                                                                                   Housing          Personal    Business

                                                  source: RBA.                                                             source: Domain Group.

                                                  Tighter credit assessment and availability has led to declining
                                                  housing prices, particularly in Australia’s largest cities.”

                                                                                                                                                                                   MinterEllison   29
Economic and
commercial issues (cont.)
Asset and liability mix/
funding mix                                                    Figure 9 – Funding composition of Australian banks through time
                                                               70%
One driver of rising funding costs is the
funding composition for Australian banks,                      60%
which is a function of the deposit to loans
ratios (DLRs). These were improved to                          50%
just above 60% with the implementation
of the Basel III standards. Banks have                         40%
supplemented their deposit base by raising
wholesale funding (both long term and                          30%
short term debt) and securitising existing
loans such as residential mortgages into                       20%
residential mortgage backed securities
(RMBS) to make additional loans                                10%
given profitable demand. This funding
composition is highlighted in Figure 9.                         0%
                                                                     2000        2002    2004        2006         2008    2010     2012   2014       2016      2018          2020
The majority of wholesale funding has
been raised and securitised loans sold
                                                                     Domestic Deposits          Short-Term Debt          Long-Term Debt     Equity          Securitisation
overseas, which leads to Australian banks’
funding costs being partly driven by what is
happening to the cost of funding overseas.
                                                               sources: APRA, RBA, S&P
Australian banks are likely to have rising
funding costs, despite interest rate stability
in Australia, as the US looks to increase
rates and other markets linked or pegged to
the US dollar implicitly follow suit.

30   M&A Outlook: Australian Financial Services Towards 2030
Banking in a low interest rate world                                                          Figure 10 – Low interest rates in leading developed markets

                                                                                                                                      Central Bank policy rates
Over the last decade, low interest rates      Low interest rates for long periods bring        8%

have become a permanent feature               other challenges. For example, low rate          7%

throughout the economies of the               environments reduce bank profitability, as       6%

developed world (as highlighted by            net interest margins are compressed. At          5%

Figures 10 and 11).                           the same time, investors (both retail and        4%

                                              institutional) can be pressured to increase      3%
This unprecedented period of loose            their risk exposure to start chasing returns.    2%
monetary policy has been driven by            The dangers of increasing risk exposure          1%
the need to nurse economies back to a         are often not apparent in a benign               0%
path of growth after the Global Financial     environment.                                                                   GFC
                                                                                              -1%
Crisis. Although we have seen economies                                                          2005                 2008                 2011              2014             2017                  2020

stabilise, and in some cases stage robust     Banks are being proactive in managing their                       Australia             US             Japan            Euro area                UK
recoveries, the policy experiment of ultra-   credit exposures to minimise credit losses,
low rates and quantitative easing has not     in part prompted by APRA. During a benign       source: RBA.
been without consequences. Side-effects       credit environment, it can be difficult to
are now apparent in asset prices, which       determine where credit exposures could          Figure 11 – Low long term interest rates in Australia
in many instances, have been increasingly     deteriorate, and, given the economic
stretched from underlying fundamentals.       uncertainties, it would be brave to predict     18%
                                                                                                                                      Australian 10 year yields
This was most visible in the US stock         too far out. However, the fundamental           16%
market, but also extends to other corners,    drivers of credit quality remain unchanged,     14%
such as private equity. In Australia, the     with high household debt combined               12%
impacts of the global debt binge seem         with rising unemployment (resulting in
                                                                                              10%
most apparent in residential property.        households being unable to service their
                                                                                              8%
                                              debt) producing the largest risks.
                                                                                              6%

                                                                                              4%

                                                                                               2%

                                                                                              0%
                                                                                               1969      1974         1979     1984        1989   1994       1999   2004      2009      2014        2019

                                                                                              source: RBA.

                                                                                                                                                                                  MinterEllison      31
Funds management
and investment platforms
As Figure 12 highlights, Australia’s              Over the past couple of years, we have         Figure 12 – Australia’s projected superannuation assets ($ trillion)
superannuation asset pool is expected             seen a huge exodus of funds away from
to grow from $2 trillion to $9.5 trillion         the traditional giants of the Australian       10
by 2035. This significant change in the           wealth management sector, and into the
landscape will have a long term impact on         lower cost industry super funds. A key
M&A in the sector.                                question that looms for 2020 and beyond         8
                                                  is whether this switching has been a
In Australia, next generation specialist          reaction to the negative headlines from
platform providers, such as Hub24,                the FSRC, or whether other forces are at        6
Netwealth and Praemium offer their                play. We believe the broader global theme
services to independent financial planners.       of lower cost (often passive) investment
These specialists have already captured                                                           4
                                                  managers winning funds off higher cost
significant market share of net funds flows       legacy providers, is set to continue playing
into investment platforms, and are quickly        out with no end in sight.
growing assets under management.                                                                  2
They are challenging existing platform
operators by offering greater functionality,
                                                                                                  0
flexibility and accessibility. Their growth
                                                                                                      2020                      2025                        2030        2035
has been further aided by the brand
damage large wealth management
businesses experienced due to the
misconduct revealed by the FSRC.                                                                 source: Austrade.

32   M&A Outlook: Australian Financial Services Towards 2030
Part C
Governance & culture,
 and regulatory issues
                  MinterEllison   33
Governance & culture,
and regulatory issues
Since the Global Financial
Crisis in particular, the
Australian financial
services sector has seen an
increase in global and local
                                                    M&A due diligence processes will become        Increased governance considerations will       Remuneration changes are unlikely
regulatory scrutiny. While                          more onerous                                   most likely slow M&A                           to drive M&A activity, but may be an
some significant regulatory                                                                                                                       important qualitative consideration in
and compliance changes                              Acquirers will undoubtedly increase            With the Treasurer required to approve         how a deal is structured
                                                    their due diligence as a direct result of      M&A deals in the financial sector, there is
will occur in the aftermath                         the FSRC, and may also seek increased          good reason to anticipate that governance      If remuneration changes limit incentive
of the Financial Services                           levels of warranties and indemnities from      considerations will be relevant to approval.   pay or change its structure, it could impact
Royal Commission (FSRC),                            vendors. In addition to financial due          Given the recommendations of the FSRC, if      how M&A is structured for both boards
financial institutions face                         diligence, companies may wish to consider      regulators voiced concerns to the Treasurer    and management. Increased emphasis on
a number of regulatory                              undertaking more thorough regulatory and       around an organisation's governance, they      long term incentives under APRA’s BEAR
                                                    cultural due diligence to prevent inheriting   might be sufficient to affect the course       regime, consistent with those discussed
pressures as a result of                            or acquiring any regulatory, legal or          of the proposed transaction. Governance        in the final round of FSRC hearings with
measures designed to make                           compliance liabilities.                        concerns appear to be delaying the             Macquarie Bank, might actually lincrease
them more resilient, and                                                                           completion of the acquisition of OnePath's     M&A if any changes encourage boards and
accountable to customers,                                                                          Pension and Investments business by IOOF.      management take more calculated risks.
which may drive
transformative structural
change in the sector.

                                                                                                                                                  Part C written by:

                                                                                                                                                  Mark Standen
                                                                                                                                                  Partner

                                                                                                                                                  mark.standen@minterellison.com

34   M&A Outlook: Australian Financial Services Towards 2030
You can also read