WBC Shares (ASX:WBC)- Attractive Franking Credits, but Is It Cheap?

In the ever-evolving landscape of the Australian Stock Exchange (ASX), Westpac Banking Corp (ASX: WBC) has garnered attention with its current trading value around $23. This article aims to delve into two standard valuation tools employed by analysts to assess the intrinsic value of an ASX bank share such as WBC.


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The Significance of Bank Shares


Bank shares, including Westpac, Bank of Queensland Limited (ASX: BOQ), and National Australia Bank Ltd (ASX: NAB), hold a special place in the hearts of Australian investors. Renowned for their stable dividend history and the allure of franking credits, these shares are often considered pillars of a well-rounded portfolio.


Using Multiples: A Peek into the Price-Earnings Ratio (P/E)


The Price-Earnings Ratio (P/E), a fundamental metric, compares a company's share price to its most recent full-year earnings per share (EPS). While some argue that a lower P/E ratio indicates a more favorable investment, it's crucial to acknowledge that perfection in pricing may be justified for certain shares.


To delve beyond the surface, analysts often compare a bank share's P/E ratio with its peer group or competitors, discerning whether the share is overvalued or undervalued relative to the sector average. This approach, coupled with mean reversion principles, allows for a comprehensive valuation.


Taking Westpac's current share price of $22.85 and EPS of $1.95 from the 2023 financial year, the calculated P/E ratio stands at 11.7x. In contrast, the banking sector average P/E is 13x. Applying mean reversion principles, the sector-adjusted P/E valuation for Westpac amounts to $25.51.


The Dividend Discount Model (DDM): A Forward-Looking Perspective


Diverging from ratio valuation, the Dividend Discount Model (DDM) takes a forward-looking stance, incorporating forecasts into the future. Given the banking sector's stability in share dividends, the DDM proves valuable, although its applicability may vary across sectors.


In this model, the primary input is dividends per share, with assumptions made about yearly dividend growth and the risk level of dividend payment. Assuming a growth rate of 2% and a risk rate between 6% and 11%, the DDM valuation for WBC shares ranges from $25.10 to $27.07. Further adjusting for a gross dividend payment, factoring in franking credits, pushes the valuation to $35.85.


Enhancing Valuation Insight


While these valuation models provide a foundation, prudent investors delve deeper into key indicators. Studying the growth in total loans on the balance sheet and scrutinizing financial statements for risks, including provisions for bad loans and sources of capital, are pivotal steps. By evaluating these aspects, investors can refine their understanding and make informed decisions.


In conclusion, the valuation of Westpac Banking Corp shares involves a blend of quantitative analysis and an in-depth examination of the bank's operational dynamics. While valuation models offer insights, a holistic approach that considers various factors is essential for sound investment decisions. As the financial landscape evolves, continuous monitoring and due diligence remain paramount for investors seeking long-term success.
Location: Australia

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