The National Australia Bank Ltd (ASX: NAB) share price will be on watch today after announcing a second $2.5 billion share buyback.
This is in addition to the initial $2.5 billion announced in July last year, bringing total potential capital returns excluding dividends to $5.0 billion.
Other banks which have recently conducted buybacks include Commonwealth Bank of Australia (ASX: CBA), Westpac Banking Corp (ASX: WBC), and Australia and New Zealand Banking Ltd (ASX: ANZ).
NAB announces a second buyback
Despite announcing the second buyback, the NAB share price is down 0.79% to $31.47.
The buyback improves NAB’s return on equity and shareholder returns while maintaining a strong capital structure.
Commenting on the buyback, CEO Ross McEwan said:
“Our capital management strategy reflects the importance of maintaining a strong balance sheet through the cycle while allowing us to continue to support growth and deliver improved shareholder returns”
NAB anticipates it will begin buyback shares after its half-year result on May 5.
The timing of actual share purchases will depend on market conditions, the NAB share price, and other considerations.
NAB also completed its initial buyback. The bank has bought back 86,925,469 shares over the past seven months, equal to 2.6% of its shares on issue.
How will this impact NAB’s capital requirements?
The second buyback will have a 58 basis point hit to NAB’s Common Equity Tier 1 (CET1) ratio.
CET1 measures the amount of excess capital a financial institution holds to weather downturns or unexpected losses.
After accounting for purchases from the first buyback, acquisition of Citibank Australia, and BNZ divestment, NAB’s CET1 will fall from 12.40% to 11.30%.
The ratio remains above the board’s 10.75% to 11.25% target ratio.
Additionally, it is above the regulator’s unquestionably strong benchmark of 10.50%.
Why conduct a buyback instead of a dividend?
NAB did not address this question specifically, but it’s likely because buybacks offer greater flexibility.
Management can purchase shares when the NAB share price is believed to be undervalued.
Conversely, dividends must be paid on a specific date and a pre-announced amount.
Another reason NAB may have opted for a buyback is due to an insufficient franking balance.
On 30 September the bank had just $1 billion in franking credits.
If instead a $2.5 billion dividend was proposed, this would reduce NAB’s franking account to zero.
It should be noted that the NAB would have paid tax over the past six months that would have added to its franking balance.
Nonetheless, buybacks are an effective tool companies can deploy to improve returns within the business.
