Morningstar Magazine - February/March 2018 - 27

in negotiations with private health insurers," says
equity analyst Chris Kallos.
The company benefits from the Australian
healthcare system's "unique blend of
public and private service," and Kallos also points
to government policies supporting private
health insurance membership and "current
inefficiencies of the public hospital system, which
protect private hospitals from major fundingrelated disruptions."
Distinct from Ramsay's larger operation,
Kallos says Healthscope's less diversified business
has earnings "largely driven by the domestic
hospital portfolio and, as a result, more
reliant on timely completion and ramp-up of its
ongoing brownfield projects." Despite recent
disappointments, including slower-than-expected
volume increases at several sites in Victoria,
Kallos is encouraged by progress in other locations,
and views the shares as significantly undervalued
at current levels.
Glenn Freeman is a senior editor with Morningstar Australia.

Silver Lining in Digital
Banking Lies in Cost
ASIA

Japan
For most banks, digital banking means lower
revenue, lower margins, and more competition
against new industry players that will benefit from
building cost advantages and intangible assets
backed by better technology adoption and flexible
business formats. Japan's regulatory initiatives to
promote digital banking and cross-industry
collaboration, as well as competition, will likely
accelerate the race for cost advantages.
Over the past decade, financial technology has
been changing the basis of competition and
laying out a foundation for future disruption. While
technology giants compete on a global scale,
diverging regulatory priorities and unique customer
demand for financial services mean that the rate

of change has been uneven across major banking
systems. In our view, the rise of technology
will force more banks to compete on scale until
they can achieve cost leadership by automating
more of their middle- to back-office operations. In
this case, only customer-facing functions are
likely to remain a focal point of differentiation for
customers, and larger banks can benefit if they
can manage to act as consolidators. In the age of
digital banking, we think it will be critical to
maintain hyperscale and compete on a cost basis.
This is because more revenue opportunities will
be exposed to pricing pressures, as the delivery
cost of financial services will be significantly
lowered through disruptive technology.
After reviewing the likely outcome from Japan's
digital currency initiatives and developments
from recent amendments to banking laws
for major Japanese banks, our top pick under our
coverage remains scale leader Mitsubishi UFJ
Financial Group MTU. We like that MUFG
has been adapting to new technology ahead
of its peers and that it plans to leverage its scale,
which will reinforce its competitive moat
in the coming years. As the business model
transformation is likely to take years to materialize,
we think its long-term investment attractiveness
has been underappreciated.
We also note that the meaning of digital banking
can differ among banks. While MUFG has been
embracing technological change both globally
and locally, SMFG has been focusing on near-term
cost-saving initiatives around robotic process
automation. Mizuho Financial Group MFG has
been promoting new business launches through
frequent alliances with new ventures, and Resona
Holdings has been laterally expanding its digital
banking platform to its regional banking partners.
We think SMTH and Shinsei Bank remain too small
to realize economies of scale, while profitability
at Japan Post Bank will remain subject to political
interests. Among these banks, aside from MUFG,
we prefer SMFG, Japan Post Bank, Resona, SMTH,
Mizuho, and Shinsei in that order, according to the
scale of available cost-saving opportunities.
Our current no-moat ratings and valuations for the
banks under our coverage will be further
influenced by country-specific digital banking

initiatives over the next decade. Japan's slow
regulatory response until recently, together with
the world's most comprehensive physical presence
of bank branches, means that domestic customers
are already well served, leading to a slow
rate of change relative to other major countries.
However, the government is turning its ship
around to promote a "fintech society" as one of
the highest-priority policy agendas under prime
minister Shinzo Abe's Cabinet, which has led to
a series of rapid deregulatory actions over the past
few quarters. We anticipate more comprehensive
legal actions in the near future. Overall industry
trends suggest that the race to competition has
been accelerating, as less-restrictive regulation is
prompting newer nonbank entrants to offer more
products at a lower cost than banks.
That said, we think the overall rate of technologyenabled change is likely to stay only incremental
for Japan. First, the banking system remains
fragmented, especially in rural areas, unlike other
developed markets. With the exception of Japan
Post Bank, major Japanese banks do not maintain
meaningful market shares, or more than 5%,
outside the Greater Tokyo and Osaka metropolitan
area. In Japan, the top four banks maintain
national deposit share of 39%, versus 45% in the
U.S. and 81% in Australia, leaving the potential for
scaling up in Japan. The fragmented market
structure also means that many regional banks
have yet to implement required changes to their
high-cost banking structure.
Second, incumbent banks can choose to move
away from more price-sensitive or "low-touch"
customer segments to avoid further price
competition with digital banking. Most banks
under our coverage are also enhancing their
"high-touch" business efforts, aiming to retain and
expand in the most profitable client segment
through a consultation-based approach to justify
their remaining employee headcount. Third,
the remaining local regulation still acts as a key
barrier to entry for nonbank players. For
nonglobal banks, we also remain concerned that
dismissing required changes based on risk
reduction has been common practice for decades.
Mari Kumagai and Michael Wu are senior equity analysts
with Morningstar Asia.

global.morningstar.com/Morningstarmagazine

27


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Table of Contents for the Digital Edition of Morningstar Magazine - February/March 2018

Contents
Morningstar Magazine - February/March 2018 - Cover1
Morningstar Magazine - February/March 2018 - Cover2
Morningstar Magazine - February/March 2018 - 1
Morningstar Magazine - February/March 2018 - 2
Morningstar Magazine - February/March 2018 - Contents
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