Analysts at Merrill Lynch have given the Commonwealth bank an effective two fingered salute in the wake of the acrimonious parting of the ways over yesterday’s capital raising debacle.

Amid a battle of leaks, press releases and name calling Merrill Lynch walked away from the CBA’s $1.65 billion fresh capital raising because it wasn’t told about a worsening of the bad debt position at the bank and the deal was completed by UBS.

But the CBA, no matter how much it huffs and puffs, has yet to explain why it revealed the worsening of the bad debt situation in a press release Tuesday night announcing that the raising had been completed and not before to the market as a whole.

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Specifically this paragraph:

Volume and revenue growth in both lending and deposits has remained strong over the two months since the September quarterly update. However, the Group expects credit conditions to continue to deteriorate and the full year loan impairment expense to gross loans and acceptances is now expected to be around sixty basis points, with the majority in the first half.

The board and management need to explain why this could not be communicated to the market with a statement about the capital being raised. To me and others, it sounds like an earnings downgrade. Certainly banking analysts have taken it as thus and cut their first half and full year earnings estimates for the bank accordingly.

It is not the responsibility of the underwriters or advising brokers to update the market on an earnings downgrade or on any bit of news involving the client that is market sensitive.

Chairman John Schubert needs to be hauled out into the public eye somewhere and answer questions about the whole sorry affair.

The CBA’s petulance can be seen from the two statements issued yesterday afternoon: the first announcing the parting of the ways from Merrill and the second that good ole UBS had stepped in to save the day (for a fat fee of course).

This morning in a note to clients, Merrill Lynch banking analysts said:

CBA has completed a $2bn capital raising comprising a $1.65bn institutional placement at $26 per share, combined with the previously announced $0.35bn VWAP placement to bring Tier 1 capital to 8.5%.

CBA has also announced the full year loan impairment expense to gross loans and acceptances is now expected to be around sixty basis points, with the majority in the first half. Our previous estimates assumed 51bps against previous guidance of 40-50bps. We assume a combination of deteriorating single names, higher collective provision levels and a worsening economic backdrop contributed.

This level of charge (B&DD of 145bps to NHL) places CBA much closer to being unable to sustain the current dividend however we believe it will hold it for now. For the sector, while there is a degree of catch-up in this update, CBA’s experience clearly reflects worsening loss given default conditions.

We have downgraded earnings to reflect both the worse bad debt outlook and the capital raising by 9% in FY09 and 5% in FY10. POBR changes $33.80.

CBA has consistently had a high proportion of our watch-list credits and we have long held CBA’s Institutional credit risk was understated. While CBA has a number of levers it can pull, with bad debt issues lingering, the stock should struggle to hold its current premium. CBA is our bottom pick; WBC is Number 1.

That echoes the comments from Goldman Sachs JBWere the day before (Crikey, yesterday) which downgraded its earnings estimates for the CBA because of the higher bad debt provisions.

UBS didn’t look at the CBA overnight but Citibank analysts had another go. The Tuesday night briefing was done before the bank’s admission in the press release of the high bad debt position, so Cit took another crack at the Commonwealth with these comments.

Earnings downgrade changes things — subsequent to the cut-off on our note last night (Tuesday), CBA released a statement indicating materially higher impairment charges than earlier guidance. As a result we have today cut our EPS estimates by 9% in FY09 and 10% in FY10.

Impairment guidance lifted to 60 bps in FY09 — In mid November the bank was flagging a range of 40 — 50 bps. While some of this increase may be a preemptive top-up, the bank’s language around continued deterioration of credit conditions would indicate otherwise. We have now lifted our peak impairment at 0.84% of total loans .Our previous peak was (0.60%).

With investors concerned that the earnings downgrade was disclosed after the raising took place last night, yesterday’s $2bn placement was cancelled.

Bad debt cycle looking increasingly nasty — we think there is still much more potential for a continued rise in credit costs this cycle given unemployment is still 12-18 mths from peaking and the economic environment will undoubtedly deteriorate for some time yet.

Capital likely to remain under the spotlight — while each bank now sits comfortably enough above 8% on it’s tier 1 after a concerted build in 2008, the steep decline in credit quality now evident will maintain the market’s focus on capital and increasingly dividend levels.

The Commonwealth bank’s shares face a major pounding when they are re-listed after the stuff up involving a $2 billion fund raising that was done by Tuesday night, undone yesterday morning, and then finally put away last night.

The unprecedented debacle has left the bank and its management looking foolish and incompetent as the issue finally had to be done by a second manager, at a lower price.

And it looks like lawyers at close range between the CBA and Merrill over the debacle.

UBS arranged the $1.65 billion of new shares to institutions at $26 apiece, a 10.8% discount to the last traded price of $29.15.

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Peter Fray
Peter Fray
Editor-in-chief
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