Alliance & Leicester PLC
20 February 2008
Alliance & Leicester plc
Preliminary results announcement for the year ended 31 December 2007
Contents
1. SUMMARY
2. EXECUTIVE REVIEW
3. BUSINESS REVIEW
4. STRATEGIC OUTLOOK
5. BUSINESS VOLUMES AND MARKET SHARES
6. FINANCIAL REVIEW
7. STATUTORY FINANCIAL INFORMATION
8. CAPITAL
9. EARNINGS PER SHARE
10. BASIS OF PREPARATION
11. CONTACTS
12. SHAREHOLDER INFORMATION
13. FORWARD LOOKING STATEMENTS
1 SUMMARY
1.1 FINANCIAL RESULTS
• Core operating profit was £417m (2006: £585m), in line with the guidance
given on 29 January 2008. Core operating profit continues to exclude hedge
ineffectiveness (previously referred to as fair value accounting volatility)
and redundancy costs.
• Conditions in the financial markets in the second half of 2007 resulted in a
reduction in the fair value and impairment of certain treasury investments.
Core operating profit, excluding changes in the fair value and impairment of
certain treasury investments, was £602m (2006: £585m).
• Statutory profit before tax of £399m (2006: £569m), includes a £10m loss
(2006: £8m gain) from hedge ineffectiveness and £8m (2006: £24m) of
redundancy costs.
Year Year
ended ended
31.12.07 31.12.06
£m £m
Core operating profit excluding changes in the fair value and impairment of certain 602 585
treasury investments
Reduction in the fair value of certain treasury investments (32) -
Impairment of certain treasury investments (153) -
Core operating profit 417 585
Redundancy costs (8) (24)
Hedge ineffectiveness (10) 8
Statutory profit before tax 399 569
• Statutory basic earnings per share 59.4p (2006: 96.4p).
• Proposed final dividend maintained at 36.5p per share.
• Total dividends 55.3p per share (2006: 54.1p).
• Diversified income streams, with less than 27% of revenues from mortgages
and savings.
• Retail Banking core operating profit up £17m to £462m (2006: £445m).
• Commercial Banking:
- Commercial Bank core operating profit up £34m to £150m (2006: £116m);
- Treasury core operating loss of £165m (2006: profit £46m).
• We continue to replace and extend the duration of our wholesale funding. We
have now completed funding transactions which pre-fund our medium term
maturing wholesale funds, certificates of deposit and commercial paper into
the first quarter of 2009.
1.2 PROGRESS AGAINST OUR STRATEGIC OBJECTIVES
• Delivered strong franchise growth:
- 301,000 new personal current accounts opened, market share 4.3%;
- net mortgage lending £4.8bn, market share 4.4%;
- gross unsecured personal lending £2.3bn, market share 6.7%;
- customer deposit balances up £1.2bn to £30.8bn:
• personal customer deposit balances up £0.6bn to £23.3bn;
• commercial customer deposit balances up £0.6bn to £7.5bn;
- commercial lending balances up £1.9bn to £8.4bn;
- 33,700 new business banking accounts opened, up 36%.
• Improved cost efficiency:
- core operating expenses reduced by £8m to £691m, despite increased
business volumes and ongoing investment in the business.
• Asset quality:
- asset quality of our customer loans and advances remains strong. At
the end of December 2007 the proportion of:
• mortgage accounts over 3 months in arrears was 0.49% (2006:
0.51%), significantly lower than the Council of Mortgage
Lenders average of 1.20%;
• unsecured personal loan balances over 30 days in arrears was
5.5% (2006: 5.6%), over 45% better than the average for
Finance and Leasing Association members;
• commercial loan balances over 30 days in arrears was 0.46%
(2006: 0.60%).
• Underlying return on equity tier 1 capital:
- Underlying return on equity tier 1 capital was 14.6%, below our
target of 20%, reflecting the reduction in the fair value and
impairment of certain of our treasury investments. Underlying return
on equity tier 1 capital excludes hedge ineffectiveness and
redundancy costs.
1.3 2008
• We will continue to target growth in both personal and commercial current
accounts, and in customer deposit balances.
• We expect total new customer lending volumes to be lower than in recent
years, reflecting an emphasis on asset quality and revenues.
• Our 2008 financial performance will reflect our prudent response to
conditions in the financial markets since the second half of 2007, which has
resulted in us incurring higher wholesale funding costs than in the first
half of 2007 and holding higher levels of liquidity than historically.
• In 2008, we will implement the first customer facing phases of the new
ALNOVA banking system which will, when complete, replace our legacy systems
for personal and commercial current accounts, savings and unsecured personal
loans, leading to increased cross- sales, stronger customer relationships
and further efficiency improvements.
• We expect total dividends in 2008 to be maintained at the 2007 level.
1.4 COMMENT FROM CHRIS RHODES, GROUP FINANCE DIRECTOR
'Alliance & Leicester's customer facing business remains in good shape,
delivering good growth and excellent cost control. Excluding the impact of
treasury losses, core operating profit was £602m, compared with £585m in 2006.
We have further strengthened our funding position into the first quarter of
2009, following the credit crunch and unprecedented financial market conditions
which reduced our core operating profit in 2007.
'The trading outlook for financial services will be challenging in 2008, and we
will maintain the prudent approach to lending which has led to our customer
lending asset quality being better than industry averages. Our business is
diversified and is not dependent on the performance of a single market, with
just 27% of Group revenues coming from mortgages and savings. We are investing
in new banking technology to help us increase cross-selling, strengthen customer
relationships and improve efficiency still further.'
2 EXECUTIVE REVIEW
2.1 OVERVIEW
Group core operating profit, excluding changes in the fair value and impairment
of certain treasury investments, was £602m, higher than in 2006. The reduction
in the fair value and impairment of certain treasury investments in the second
half of 2007 resulted in core operating profit for 2007 of £417m, lower than the
£585m achieved in 2006. Retail Banking profits were up £17m to £462m and
Commercial Bank profits were up £34m to £150m, whilst Treasury reported a loss
of £165m (2006: profit of £46m) primarily due to the impairment and reduction in
fair value through the Income Statement of certain treasury investments.
The second half of 2007 saw unprecedented conditions in the world's financial
markets, presenting UK banks with a number of challenges. Against this backdrop,
our strategy for growth in a diversified range of markets proceeded well. We
continued to demonstrate the strength of Alliance & Leicester's franchise, with
both our Retail and Commercial customer businesses delivering franchise growth
and excellent cost control, whilst maintaining strong lending asset quality.
This progress, together with the investment we are making in our business,
provides a firm platform for long term growth. Alliance & Leicester is a
diversified business, not dependent on the performance of any single market,
with just 27% of Group revenues in 2007 attributable to the mortgage and savings
businesses.
Franchise growth included opening 301,000 new personal current accounts,
delivering a 4.4% market share of net mortgage lending and increasing customer
deposit balances by £1.2bn. Business banking was particularly strong, with
33,700 new business banking accounts opened, an increase of 36%, and a survey by
the Office of Fair Trading found that more small businesses were considering
moving their business banking accounts to Alliance & Leicester than to any other
competitor.
We took a number of steps during 2007 to increase our ability to deliver long
term growth. We broadened our current account product range, with the launch of
our 'Premier 21' and 'Premier 50' current account products, providing further
opportunities for growth. We completed the planned refurbishment of our branch
network and installed deposit-taking ATMs in all our branches, resulting in
increased sales capacity and improved efficiency. We continued to expand our
business centre network, which has now grown to 19 centres, giving us further
opportunities to expand in this profitable sector. We also grew our online
banking business very successfully, with 41% of our core Retail Banking products
sold online in 2007, and the number of current account transactions serviced
online continuing to increase.
Despite the significant growth in business volumes and continued investment in
the business, the Group's core operating expenses reduced by £8m in 2007,
demonstrating again our ability to control costs.
Our focus on high quality customer lending continues to result in strong lending
asset quality. Our mortgage asset quality remains excellent, with just 0.49% of
accounts over 3 months in arrears, lower than the 0.51% at the end of 2006, and
considerably better than the Council of Mortgage Lenders average of 1.20% at the
end of 2007. Our mortgage impairment loss charge was just £1m in 2007, and our
residential mortgage book had an average indexed loan to value ratio of 46% at
the end of the year. The proportion of unsecured personal loan balances in
arrears at the end of December 2007 was lower than at the end of December 2006,
and our Retail Banking impairment loss charge reduced by £12m, from £97m in 2006
to £85m in 2007. Only 0.46% of commercial lending balances were over 30 days in
arrears at the end of December 2007, down from 0.60% at the end of 2006.
2.2 FUNDING
Funding markets in the second half of 2007 saw the effective closure of the
securitisation and covered bond markets, and significant volatility in the
pricing and availability of funds in the money and capital markets. In
recognition of these conditions, as a prudent measure we have put in place
additional funding facilities, a significant proportion of which are backed by
Alliance & Leicester residential mortgage assets. These new facilities have
enabled us to fund all our customer loans and advances with customer deposits
and wholesale funding with a duration of over six months. This process has
continued since the end of 2007, and we have now pre-funded our maturing medium
term wholesale funding, commercial paper and certificates of deposit into the
first quarter of 2009.
Our total customer deposit balances increased by £1.2bn in 2007, to £30.8bn.
Customer deposit balances fund 56% of customer loans and advances, and we expect
this proportion to increase in 2008 as we seek to fund any customer asset growth
with customer deposits. We are targeting growth in both personal and commercial
customer deposit balances, with our personal and business banking current
account products a key source for acquiring new customer balances.
The additional funding facilities we have put in place in the second half of
2007 and early 2008 have provided the Group with protection from volatility in
the short term funding markets. These facilities, which typically last around
two years, cost more than would have been the case in the first half of 2007.
Whilst these facilities remain in place they will have a negative impact on the
Group's net interest margin, and, accordingly, in 2008 we expect the Group net
interest margin for the full year to be around 1%.
2.3 TREASURY INVESTMENTS
Financial market conditions in the second half of 2007 have led to a reduction
in the market value of our £23.1bn of treasury investments, and the impairment
of a significant proportion of our structured investment vehicle (SIV) mezzanine
and capital notes.
We hold most of our treasury investments at fair value on the balance sheet.
Market conditions in the second half of the year have resulted in the value of
these assets reducing by £242m. There was a £32m charge to non-interest income
in the Income Statement and a £147m post-tax (£210m pre-tax) charge to reserves.
We have held investments in SIVs since 1999. These investments were undertaken
to enable the Group to invest in a broad range of underlying assets, and achieve
an increased level of diversification and return. These vehicles were
particularly affected by the lack of liquidity in the market in the second half
of 2007, forcing many of them to sell assets at less than their purchase price.
As a result, we incurred an impairment loss charge of £142m in respect of our
SIV mezzanine and capital note holdings. In addition, an impairment loss charge
of £11m was incurred relating to collateralised debt obligations (CDOs).
2.4 CAPITAL AND DIVIDENDS
At the end of 2007, the Group's total capital resources were £2.9bn, above both
the Basel I transitional floor for 2007 and our guidance set by the Financial
Services Authority (FSA).
The post-tax charge to reserves of £147m, resulting from the reduction in the
fair value of certain treasury investments, does not impact regulatory capital,
as is shown in the reconciliation between shareholders' funds and equity tier 1
capital in section 8.
In 2008 the Basel I transitional floor is reduced to 90% of Basel I risk
weighted assets, adjusted for collective provisions, compared with the 95% which
applied in 2007.
During 2007 we bought back 19.9m shares at a total cost of £194m. In 2008 we are
not planning any share buybacks.
The proposed final dividend of 36.5p per share is the same as in 2006, giving
total 2007 dividends of 55.3p per share, up 2.2%. In 2008, we expect to maintain
total dividends at this level.
2.5 FUTURE
The UK economy and housing market are widely expected to grow at slower rates in
2008 than in recent years. We anticipate lower GDP growth than in 2007, with
average house prices remaining broadly stable.
Against that background, Alliance & Leicester's franchise strength, diversified
operations, strong asset quality and good cost control provide a firm base to
deliver value.
We will target higher customer deposit balances to reduce the proportion of
customer loans and advances funded from wholesale funding, building particularly
on our strong performances in personal and business current accounts in 2007.
We will focus our lending on maintaining strong asset quality and maximising
revenues. This is expected to result in mortgage balances reducing during 2008.
We will continue to drive down the unit costs of acquiring and servicing
customers, and our transformation programme continues.
Towards the end of 2008, our customers will start to see the benefits of the
implementation of the new ALNOVA banking system, which will, when complete,
replace our legacy systems for personal and commercial current accounts, savings
and unsecured personal loans. ALNOVA forms a key part of our plans for
increasing cross-sales, strengthening customer relationships and delivering
further improvements in efficiency and customer service.
We have updated our strategic objectives in the light of current trading
conditions, and these are set out in Section 4. In particular, we aim to
increase our underlying return on equity tier 1 capital back to 20% in the
medium term, but do not anticipate achieving this in 2008 or 2009, principally
as a result of the increased cost of medium term wholesale funding.
2.6 SUMMARY
Unprecedented conditions in the financial markets have had a significant effect
on Alliance & Leicester's financial performance and priorities during the second
half of 2007, and on our ability to deliver our strategic objectives in the
short term. Recognising this, we have focused on ensuring that funding is
maintained, albeit at increased costs. We also suffered impairment losses in
certain treasury investments. Until there are clear signs of stability, funding
will remain a priority for the Group, and there has been encouraging recent
progress on this.
Our customer facing businesses continue to perform well, providing products that
customers want in ways which meet their changing needs. This franchise,
supported by strong lending asset quality and further improvements in
efficiency, will be the key drivers of future performance.
I would like to end this review with two statements of thanks. I would like to
thank the staff of Alliance & Leicester for their dedication, team work and
contribution throughout 2007. I would also like to thank Richard Pym for his
dedication and contribution to Alliance & Leicester during his 15 years with the
Group, including his five years as Group Chief Executive.
Chris Rhodes
Group Finance Director
3 BUSINESS REVIEW
3.1 RETAIL BANKING REVIEW
Retail Banking delivered core operating profit of £462m in 2007, up £17m
compared to 2006. This increase in profit has been primarily driven by strong
growth in current accounts, good cost control and a lower impairment loss
charge.
Core 4
• Current accounts
We opened 301,000 new current accounts during 2007 and increased our active
account base to 1.72m accounts. Our market share of new account openings was
4.3%, significantly higher than our 2.8% share of total personal current
accounts. In 2007, 37% of new current accounts were opened via the internet,
with a further 8% via the telephone. Our 'Premier' current account products
accounted for 77% of new account openings in 2007, and now represent over 50% of
our active account base.
During 2007 we enhanced our current account product portfolio with the launch of
'Premier 21', our new current account for 16-21 year olds, and 'Premier 50', our
new current account for over 50 year olds. Both products offer a number of
special features designed to meet the needs of their respective target
customers. 'Premier 21' is targeted at young people who are in full-time
employment, and offers a market leading rate of interest, as well as a unique
celebrity mentoring scheme. For a monthly fee of £10, 'Premier 50' offers its
customers worldwide travel insurance up to the age of 79, a number of health
benefits provided by AXA PPP healthcare, as well as a competitive rate of credit
interest. Both these new accounts have received positive feedback from industry
commentators, with 'Premier 21' winning the 'Financial Innovations' award from
the Institute of Financial Services. In total, 36,000 'Premier 21' and 'Premier
50' accounts have been opened in 2007 since their launch in April and October
respectively.
In the second half of 2007 we improved our customer proposition by revising our
overdraft charging structure. Amongst a number of changes, since October 2007
our current account customers have not had to pay overdraft interest. Instead,
customers making use of an agreed overdraft pay a simple 'overdraft usage fee'
of 50 pence a day, capped at £5 per month.
On 27 July 2007 it was announced that the Office of Fair Trading had agreed with
eight UK financial institutions to start proceedings in the High Court of
England and Wales in a test case to determine the legal status and
enforceability of certain charges relating to unauthorised overdrafts. Alliance
& Leicester is not part of the proceedings, but will be bound by the outcome. As
a result of the court case, together with the Financial Services Authority
waiver for personal current account claims, the provision we made in the first
half of 2007 against anticipated customer complaints about overdraft fees was
released in the second half of 2007.
• Mortgages
Prime PlusMortgage Buy Other Total
residential (Note 1) to let specialist
(Note 2) lending
(Note 3)
£m £m £m £m £m
A&L mortgage balances outstanding as at 1 38,002 - - - 38,002
January 2007
Gross advances 11,456 625 581 352 13,014
Redemptions and other movements 7,888 - - 352 8,240
Net mortgage lending 3,568 625 581 - 4,774
A&L mortgage balances outstanding as at 31 41,570 625 581 - 42,776
December 2007
(Note 1) Secured element.
(Note 2) Maximum loan to value ratio of 85%, held on Alliance & Leicester's
balance sheet.
(Note 3) Loans distributed under our agreement with Lehman Brothers, not held on
Alliance & Leicester's balance sheet.
We achieved £4.8bn of net mortgage lending in 2007, representing a 4.4% market
share. We successfully broadened our product range with the launch of '
PlusMortgage', took buy to let loans onto our own balance sheet and continued to
outperform the market in retaining existing customers.
Our total gross lending of £13bn represents a market share of 3.6% and includes
£625m of 'PlusMortgage' loans, £581m of buy to let advances and £352m of
mortgages distributed via intermediaries under our agreement with Lehman
Brothers.
'PlusMortgage', our combined secured and unsecured loan product, was launched in
April 2007. Net advances in the year were £625m, with a further £55m of
unsecured loans.
Since March 2007, all successful applications of buy to let mortgages with an
LTV of less than 85% have been taken onto our own balance sheet. The average LTV
of these buy to let loans in 2007 was 68%.
The value of new business completed under our agreement with Lehman Brothers
reduced to £121m in the second half of the year, compared to £231m in the first
half of the year, reflecting the taking of buy to let loans onto our own balance
sheet and a slow down in the specialist, self-certified, near-prime and
sub-prime sectors of the market.
We have no sub-prime, near-prime or self-certified mortgages on our balance
sheet.
We continue to deliver a strong performance in retaining existing mortgage
customers. In 2007, total redemptions and other movements were £8.2bn. Prime
residential mortgage redemptions were £7.9bn, a market share of 3.1%,
significantly lower than our 3.6% share of stock. Although our good retention
performance is lengthening the average lives of our customer relationships, the
average lives of our mortgage products in 2007 reduced as customers switched
more quickly from one product to another in order to minimise any payment shock.
During the second half of the year, we significantly revised our expectations
for the mortgage market in 2008, as the sub-prime crisis in the US impacted
funding markets and the world economy. As a result, we tightened our credit
criteria, limiting most products to a maximum LTV of 90%. Accordingly, we expect
mortgage balances to fall in 2008, reflecting an emphasis on asset quality and
revenues.
• Personal loans
Traditional PlusMortgage Total
personal loans unsecured loans
£m £m £m
Unsecured personal loan balances outstanding as at 1 3,555 - 3,555
January 2007
Gross advances 2,335 55 2,390
Redemptions and other movements 2,197 - 2,197
Net lending 138 55 193
Unsecured personal loan balances outstanding as at 31 3,693 55 3,748
December 2007
Our traditional personal loan gross advances of £2.3bn in 2007 were in line with
2006. In addition, we lent £55m of unsecured loans via our 'PlusMortgage'
product. Total traditional unsecured personal loan balances at 31 December 2007
were £3.7bn, £0.1bn higher than at the end of 2006. Our new traditional lending
in 2007 represented a market share of 6.7%, higher than our 5.2% share of
balances.
During the second half of 2007, the unsecured personal lending market was
slightly less competitive than in recent years, and we took the opportunity to
widen new business margins in the fourth quarter, whilst ensuring we continued
to maintain our strong asset quality. In 2008 we expect the unsecured lending
market to remain relatively stable, with our own lending continuing to focus on
good quality homeowners.
Around 90% of our new personal loans continue to be generated via the internet
or telephone. In 2008 we will seek to increase cross-sales of loans to existing
Group customers, particularly our current account customers.
The payment protection insurance product we offer continues to give customers
valuable protection, especially at a time when the economic outlook is
uncertain. The review of payment protection insurance by the Office of Fair
Trading and associated media coverage has, however, resulted in a 16% fall in
the number of our customers purchasing insurance in 2007 compared to 2006.
Since early 2006 we have sold and serviced our secured personal loan product in
partnership with Cattles plc. Following a review of the partnership we decided
to end the sales agreement at the end of December 2007. We will continue to look
at alternative models for offering a secured loan product in the future.
• Savings
Personal customer deposit balances were £23.3bn at the end of December 2007,
£0.6bn higher than at 31 December 2006. New deposits to Alliance & Leicester
savings accounts in 2007 were 7% higher than in 2006.
Our current account base is a key source of growth for personal customer deposit
balances, and as the account base grows we are seeing good growth in account
balances. We are also achieving good growth in our competitive range of
telephone and internet savings accounts. Our 'e-Saver' account continues to
offer a competitive headline rate of 6.5%, whilst our 'Direct Saver' account,
which we launched in late 2006, has attracted over £3.5bn of balances, the
majority of which is new money to Alliance & Leicester. Our offshore deposit
taking operation, Alliance & Leicester International, saw a 13% increase in
inflows in 2007 and continues to offer a competitive range of products targeted
at the expatriate sector.
In total, 68% of our savings balances are now in telephone or internet serviced
accounts. During 2008 we will be taking a more proactive approach to the
promotion of our savings accounts in order to both strengthen customer
relationships and fund future customer asset growth.
Partner 4
We continue to cross-sell our Partner 4 products - long term investments, life
assurance, general insurance and credit cards - to our Retail Banking customers.
We have seen good growth in the sales of long term investment products during
2007, with the value of new investments sold 19% higher than in 2006. Customers
are increasingly looking for opportunities to maximise the return from their
savings, and in response to this demand we have launched a new Investor
Portfolio Service for our customers. This new service continues to offer
products provided by Legal & General, and also extends the range of funds into
which a customer can invest to include those managed by a number of other
leading investment managers. This enables our customers to benefit from a wider
range of funds, providing the potential to spread their investment risk across a
variety of different companies.
Sales of life assurance products were slightly higher in 2007 than in 2006, as a
result of an increase in the number of non-mortgage related sales, whilst
general insurance sales were in line with 2006.
New credit card sales in 2007 were 98,000 (2006: 109,000). Two thirds of these
cards were sold to 'Premier' current account customers, with 27% of total sales
generated via the internet.
Distribution
Our distribution model provides customers with a straightforward direct banking
service supported by a modern branch network.
Core 4 product sales sourced via the internet were 41% in 2007, higher than the
38% achieved in 2006. In addition, the number of current account customers using
our internet banking service on a monthly basis has increased by 25% during the
year. Benchmarking studies continue to show that we have one of the highest
proportions of current account customer telephone calls serviced fully by an
interactive voice response system.
We continue to invest in our branch network. In 2007 we fully refurbished 48
branches and installed welcome desks and deposit-taking ATMs into a further 148
locations. In total,103 of our 254 branches have been fully refurbished, with
all the remaining locations having had welcome desks and deposit-taking ATMs
installed. Over 40% of counter based card transactions in our branches have now
migrated to the machines, improving productivity. A recent benchmarking report
stated that our branch sales per employee continues to be one of the highest in
the sector.
Towards the end of 2008 a number of customer facing operations will benefit from
the initial implementation of the new ALNOVA banking system which will, when
completed, replace our legacy systems for current accounts, savings and
unsecured personal loans. In preparation, our current account and savings
customers are now able to transact on their accounts using a new single
telephone number and simplified customer identification number.
Asset quality
Our mortgage asset quality remains excellent.
The average LTV of our new prime residential lending was 67% (2006: 70%), with
8% (2006: 10%) of new lending having an LTV of over 90%. The indexed LTV of our
prime mortgage book at the end of 2007 was 46%, with 58% of the book having an
indexed LTV of less than 50%, and just 2% over 90%.
The proportion of mortgage accounts over three months in arrears was 0.49% at
the end of December 2007, lower than the 0.51% reported in December 2006 and
significantly lower than the Council of Mortgage Lenders industry average of
1.20%. The number of accounts in arrears at the end of December 2007 was lower
than in December 2006. The total value of arrears was £9.7m, compared to total
mortgage balances of £42.8bn. We continue to take a prudent approach to the
capitalisation of mortgage arrears, with just £358,000 of arrears capitalised in
2007.
Repossessions across the industry increased over the past 12 months. During 2007
our stock of properties in possession increased from 27 to 80, which represents
only 0.02% of our total mortgage accounts, compared to the industry average of
0.10%. Our repossessions during the year were 171 (2006: 90). To put this into
context our repossessions have, in the preceding seven years, consistently
reduced year on year from 1,239 in 1999 to a record low of 90 in 2006.
In unsecured personal lending our asset quality remains strong, with 5.5% of
traditional unsecured lending balances over 30 days in arrears, lower than the
5.6% reported in December 2006 and in line with the 5.5% reported in June 2007.
The value of loans in arrears at the end of December 2007 was in line with
December 2006 and lower than in June 2007. The proportion of loans in arrears
was over 45% better than the average for the Finance and Leasing Association
members.
Our new traditional unsecured personal lending in 2006 and 2007 continues to
perform better than the lending undertaken in 2005, and we do not expect any
significant change in the unsecured personal loan impairment loss charge in
2008. We continue to take a prudent approach to lending, with around two thirds
of applications unsuccessful in 2007. The average value of a new loan in 2007
increased slightly to around £9,000.
3.2 COMMERCIAL BANKING REVIEW
Commercial Banking is the combination of the Group's Commercial Bank and
Treasury operations.
3.2.1 COMMERCIAL BANK
Commercial Bank delivered core operating profit of £150m, £34m higher than in
2006. This was a result of growth in business banking accounts and commercial
lending balances, as well as the benefit from a new Post Office cash contract
agreed in the first half of 2007.
• Lending
In 2007, we agreed over £3.8bn of new lending facilities, and commercial lending
balances, including business banking, increased from £6.5bn to £8.4bn at the end
of December. Our lending book continues to be well diversified across a range of
business sectors and customers, with asset quality continuing to be very good.
Our lending business continues to focus on transportation, property, film and
public sector segments of the market. A full breakdown of lending balances by
sector can be found in section 6.1.2.1. We continue to strengthen our specialist
teams in these areas, and to work closely with our customers to structure deals
to meet their individual needs.
We continue to grow our shipping portfolio, having participated in a number of
syndicates in 2007. Shipping represents one of our largest individual lending
segments and our portfolio is well diversified, with the majority of
transactions in the form of leases, a significant proportion of which are bank
guaranteed. The portfolio includes a good mix of roll-on/roll-off ships,
container vessels, drybulk carriers, tankers and liquefied natural gas carriers.
We continue to grow our lending in the aviation and other transportation
sectors, ensuring that we maintain a diversified lending book, with loans for
regional jets and larger aircraft for major international airlines. We developed
our own bus rental fleet to complement our strengths in the bus and coach
market, and launched a contract hire service for our commercial vehicle
customers.
During 2007 we further strengthened our property lending team and saw continued
growth in lending to this sector. During the year we took a majority
shareholding in Mitre Capital Partners Ltd, which primarily focuses on
development finance. At the end of December 2007 Mitre's lending balances were
£187m. Our property lending is well diversified in terms of the size of loan,
geographic location and type of property. Our property lending is primarily
focused on investment property lending, with exposures to residential property
representing less than 17% of the portfolio. The average original LTV of the
book was around 65%, with around 30% being based in London and the south-east of
England. Around two thirds of our property lending transactions are for less
than £1m, and we have around 40 loans with an individual exposure of over £10m,
with none over £45m. Transactions over £10m include properties tenanted by FTSE
100 supermarket and telecommunication companies, as well as Government
departments and student accommodation at UK universities.
• Business banking
We opened a record 33,700 new business current accounts in 2007, 36% higher than
in 2006. At the end of 2007 we had 92,400 active business banking current
accounts.
We have made significant progress in expanding our business centre network
during 2007, opening ten new centres. We now have a network of 19 centres across
England, Northern Ireland, Scotland and Wales. Although we are not planning any
further significant expansion of the network in 2008, we will continue to
increase the number of business banking relationship managers within each of the
business centres, enabling us to give our high quality customer service to a
growing customer base. Since December 2007, the business centre network has been
targeting and servicing businesses with a turnover of up to £25m, up from the
original £10m limit.
Since April 2007, our Retail branch network has been able to open and service
business banking accounts for customers with a turnover of less than £1m. This
initiative has proved successful, with over 28% of new accounts opened in
branches in 2007. All of these accounts are opened using our web-based
technology, removing the need for any paper application forms.
Over 41,000 business banking customers are now registered to use our online
banking service, 'mybusinessbank.co.uk', an increase of 17,000. In 2007, over
27% of new business banking current accounts were opened by customers using the
internet. During the second half of 2007 the 'mybusinessbank' internet banking
service had its functionality improved, including the introduction of multi
factor authentication security, giving customers increased confidence in
undertaking transactions online.
Our business centres have also seen good growth in commercial lending to new and
existing customers. New lending in 2007 was £362m, increasing business banking
lending balances to £631m at 31 December 2007.
Our reputation for providing businesses with market leading products and good
customer service continues to gain industry recognition. We were named the 'Best
Business Banking Current Account Provider' by Business Moneyfacts for a fifth
successive year, and in January 2008 we were nominated for the award for a
record sixth year. An independent survey, undertaken for the Office of Fair
Trading as part of their review of the small and medium sized enterprise market
(SME), found that 26% of SMEs who had considered switching their accounts had
considered Alliance & Leicester, the highest proportion for any UK financial
institution and 13 times higher than the proportion reported in 2000.
• Money transmission
Our money transmission business comprises a number of products, including cash
sales, cash handling, bill payments, pre-paid debit cards, ATMs, benefit
payments and cheque processing.
Cash sales to financial institutions in 2007 were £68.5bn (2006: £68.6bn) and
cash handling deposits were £63.3bn (2006: £64.5bn).
In 2007 we more than doubled our bill payment network with the addition of
17,000 payzone outlets to the existing Post Office network and also agreed a new
bill payment contract with the Post Office. In the first half of 2007 we agreed
a new cash contract with the Post Office which delivered both one-off and
ongoing benefits.
We continue to make progress in developing our pre-paid card business and have a
number of pilots underway in a variety of different business sectors. In
December 2007 we established The Prepaid Card Company Limited, which will give
us greater flexibility and control in the development and operation of this
business in the future.
Commercial customer deposit balances increased by £0.6bn during the year to
£7.5bn at the end of December 2007, reflecting growth in business banking
deposits and public sector balances.
Asset quality
Asset quality remains good in the Commercial Bank, with 0.46% of commercial
lending balances over 30 days in arrears at the end of December 2007 (December
2006: 0.60%).
3.2.2 TREASURY
Treasury profits of £24m in the first half of 2007 were more than offset in the
second half of the year by a reduction in the fair value of treasury investments
of £32m, an impairment loss charge of £153m and the £23m costs of holding higher
levels of liquidity and higher wholesale funding costs as a result of the
conditions in the funding and liquidity markets. In total, Treasury made a core
operating loss of £165m in 2007 (2006: profit £46m).
Treasury will continue to focus on the management of the Group's liquidity and
funding requirements. Revenues will be lower as a result of a smaller investment
portfolio.
• Treasury investments
Trading and investment securities:
Value as Reduction Reduction Impairment
at in in losses in
31.12.07 fair-value fair-value 2007
£m during 2007 during 2007 recognised
recognised recognised in the
in the through Income
Income reserves Statement
Statement (post-tax) £m
£m £m
Floating rate notes (FRN) 10,185 2 72 -
Asset backed securities (ABS) 4,149 20 54 -
Collateralised debt obligations (CDO) 117 5 14 11
Collateralised loan obligations (CLO) 181 - 5 -
Structured investment vehicles (SIV) 213 n/a n/a 142
Principal protected notes (PPN) 35 2 2 -
Other 646 3 - -
Total 15,526 32 147 153
The assets within our Treasury investment portfolio are well diversified and of
high quality, with 94% (2006: 95%) of total investments rated A or above. The
portfolio of FRNs, ABS, CDOs and CLOs was established to enable Treasury to
maximise returns whilst managing the Group's funding and liquidity requirements.
Investments in SIVs were undertaken to enable the Group to invest in a broad
range of underlying assets, and achieve an increased level of diversification
and return.
Our FRNs are issued by Banks and other Financial institutions, of which 93% are
rated A or above. The portfolio is well diversified, with the largest exposure
being to Spanish institutions, representing 23% of the total. UK and Italian
institutions account for 11% each, with 9% from US institutions.
We have a high quality portfolio of ABS, with 97% rated AAA and just £7m (0.2%)
rated less than A. The UK accounts for 45% of our ABS exposures, the majority
being conforming residential mortgage backed securities (RMBS). A further 24% is
represented by European ABS, and 23% of securities are US related. The majority
of the US exposures are federal guaranteed student loans, a minimal proportion
of ALT-A assets and a negligible amount of US sub-prime assets.
We have CDOs of £117m held on our balance sheet, £15m of which are synthetic
CDOs and which are fair valued through the Income Statement. Around £54m of our
CDOs have some US sub-prime exposure. Our CDO portfolio has 95% of its assets
rated AA or above, with less than 1% rated BBB. We have reviewed our CDOs
assuming a 25% fall in average US house prices and an average repossession cost
of 15%, and this has resulted in an £11m impairment charge in respect of four
CDOs.
Our CLO portfolio is also of high quality, with 75% of CLOs rated AAA, 12% AA,
12% A and just 1% BBB.
Over the past nine years we have invested in a number of SIVs, and at the
beginning of 2007 we held mezzanine and capital notes of £365m in 16 different
vehicles. The lack of liquidity in the market place in the second half of 2007
has had a significant impact on SIVs, with a number having to sell assets at a
loss in order to secure funding, others relying on their sponsoring bank for
funding in the medium term, and a number being restructured.
By the end of 2007 we had reduced the number of SIVs in which we held mezzanine
and capital notes to 13, having participated in three restructurings and one
partial restructure. As a result of participating in restructures we have taken
onto our balance sheet £588m of assets, £530m of which are rated AA or above,
with the remaining £58m rated A. Floating rate notes, mortgage asset backed
securities, and asset backed securities represent 86% of the assets purchased.
In addition, one of the restructurings has resulted in us having a £13m
investment in a new structured vehicle, which is held within loans and
receivables on the balance sheet at cost. The Treasury impairment loss charge of
£153m includes a provision of £111m for SIV losses, as well as £31m for losses
incurred at the time of the restructurings.
At 31 December 2007, the value of SIV capital and mezzanine notes held on our
balance sheet within the 'held-to-maturity' classification had reduced to £213m,
with the net asset value (NAV) of these notes being £181m. Our three largest SIV
mezzanine and capital note investments, two of which are bank sponsored,
accounted for £119m of the £213m. The NAV of these three vehicles was £112m. In
total, 11 of the 13 SIVs in which we hold mezzanine and capital notes are bank
sponsored. A number of sponsoring banks have now committed medium term funding
or other forms of support to the SIVs.
Our PPN investments reduced by £44m during 2007, reflecting the restructuring of
an investment. As a result of the restructuring we have taken on balance sheet
£478m of assets, £453m of which are ABS, with the remaining £25m CDOs.
Our other investments are predominately certificates of deposit, all of which
are rated at least A.
Our trading and investments securities, excluding those designated as '
held-to-maturity', are held at fair value on our balance sheet, using prices
obtained from dealers. As a result of the volatile market in the second half of
the year, the fair value of our treasury investments reduced by £242m at 31
December 2007. There was a £32m charge to non-interest income in the Income
Statement and a £147m (£210m pre-tax) charge to reserves.
The fair value of treasury investments have continued to fluctuate since the end
of 2007 and this impact will be reported in our 2008 financial results. The
post-tax reduction in reserves due to changes in the fair value from 1 January
to 19 February 2008 was £59m. The reduction in fair value and impairment of
treasury investments recognised in the Income Statement in the period 1 January
to 19 February 2008 was not significant.
Whilst we reflect the fair value of the majority of our treasury financial
assets in our accounts, most of our treasury financial liabilities are held at
cost. If we had fair valued all of these liabilities at the end of December
2007, this would have resulted in a reduction of £480m in the value of these
liabilities on our balance sheet.
Around £225m of our treasury investments include financial guarantees supported
by monoline insurance companies, with 70% of these assets independently rated
AAA by all three credit rating agencies. A further £45m of Private Finance
Initiative transactions completed by the Commercial Bank lending team include
financial guarantees from monoline insurers.
The principal value of our off-balance sheet conduit facility at 31 December was
£698m, £194m lower than at the end of 2006. 93% of the assets in the conduit are
rated AAA. The conduit continues to fund itself, except for £24m of liquidity
provided by the Group due to a downgrade of some assets to below AA-. As a
contingency the Group's liquidity management plans assume that all the assets
may need funding by Alliance & Leicester.
• Liquidity
In addition to funding our customer loans and advances we also hold liquidity,
in the form of cash and short term deposits, to manage the day to day
requirements of the business. As a prudent measure, and in recognition of the
market conditions, we increased our liquidity holdings during the second half of
2007. Cash and balances with central banks, and the value of funds due from
other banks, increased to £6.3bn at the end of December 2007. This was £3.1bn
higher than at 30 June 2007 and £1.2bn higher than at the end of 2006, which was
then higher than average as a result of receiving the proceeds of a
securitisation issue completed in November 2006. The majority of these balances
were funded using short term money market funds, which in the second half of the
year cost significantly more than the rate earned on short term deposits with
other financial institutions.
• Funding
Our assets are funded using a well diversified mix of retail and wholesale
funds. At 31 December 2007 we had £23.3bn of retail customer deposits and £7.5bn
of commercial customer deposits. Our wholesale funds have been raised from a
diverse source of markets, including our Medium Term Note programme, US domestic
commercial paper programme, commercial banks and a number of securitisation
vehicles.
Our funding structure at 31 December 2007:
Assets Liabilities
£bn £bn
Other assets 0.6 2.3 Shareholders' funds
0.7 Other liabilities
Treasury investments and cash 23.1 18.6 Wholesale funds - all with a duration of less
than 6 months
26.6 Wholesale funds - all with a duration of over 6
months
Customer loans and advances 55.3 30.8 Customer deposits
79.0 79.0
At 31 December 2007, our £55.3bn of customer loans and advances, including
finance leases and hire purchase contracts and operating leases, were funded by
customer deposits and wholesale funds with a duration of over six months.
Customer deposits funded 56% of customer loans and advances.
We plan to continue to fund our loans and advances using customer deposits and
wholesale funds with a maturity duration of at least six months. We will
continue to use the short term money markets to manage our liquidity and fund
our treasury investments. We plan for any growth in customer loans and advances
in 2008 to be primarily funded by growth in customer deposit balances.
In August 2007 we completed a second issue under our Fosse Master Trust, with a
£2.5bn mortgage securitisation.
Since September 2007, we have completed a number of funding transactions, most
of which are backed by Alliance & Leicester residential mortgage assets. These
transactions have increased our liquidity and lengthened the average duration of
our wholesale funding. Since the end of 2007 we have put in place further medium
term funding facilities and have now pre-funded our maturing medium term
wholesale funding, commercial paper and certificates of deposit into the first
quarter of 2009.
The Alliance & Leicester residential mortgage assets used in the above
transactions are held in two new special purpose vehicles - Bracken and Langton.
Bracken was established in November 2007 as a traditional securitisation
vehicle. Langton was established in January 2008 as a new master trust and,
together with our existing master trust, Fosse, will give us greater funding
flexibility in the future. At 19 February 2008, Langton and Bracken held around
£17bn of assets.
In the second half of 2007 we continued to utilise our treasury investments to
raise funds via repurchase (repo) transactions. Undertaking repo transactions is
a normal part of ensuring orderly funding and trading.
3.3 CAPITAL MANAGEMENT AND BASEL II
The Group continues to have a high quality capital base, with total capital
resources of £2.9bn, exceeding both our Basel II capital requirement and Basel I
transitional floor.
Since 1 January 2007 we have been operating under the Basel II regime. The high
quality of our assets and our risk management processes have resulted in a 35%
reduction in risk weighted assets (RWA) under the new regime. The transition to
Basel II is being phased over the period 2007 to 2009. During this time we are
required to hold capital at or above a transitional floor. In 2008, the floor is
calculated as 8% of Basel I RWA, less collective provisions, multiplied by a
factor of 90%.
Capital requirements under the Basel II regime are more volatile than under
Basel I as a result of the risk weightings for the different asset classes
having to take into account the credit rating of assets and economic factors
such as the outlook for house prices.
Our total assets increased by 15% during 2007, whilst our Basel II RWA increased
by 19%. A full breakdown of this increase is provided in section 8.1.2.
Under the Basel II capital regime we are required to hold a specific amount of
capital, and do not have a specific capital ratio target as under Basel I.
In April 2008 we will publish our Basel II - Pillar 3 report. This report will
give a more detailed breakdown of our assets and their credit quality.
We continue to hold capital over and above our regulatory requirements and are
not planning a share buyback programme in 2008. Given the increased volatility
in capital requirements under Basel II, we aim to increase the difference
between our capital resources and our regulatory capital requirement during
2008, as a prudent measure and to give greater flexibility in the current
market.
4 STRATEGIC OUTLOOK
4.1 PROGRESS AGAINST STRATEGIC OBJECTIVES
We made good progress against most of our strategic objectives, despite the
difficult wholesale funding market conditions in the second half of 2007.
Looking at each in turn:
• We delivered strong franchise growth;
• We improved our cost efficiency, with our core operating expenses
decreasing by £8m to £691m, despite increased business volumes and ongoing
investment in the business;
• The asset quality of our customer loans and advances remains strong; and
• Underlying return on equity tier 1 capital was 14.6%, below our target of
20%, reflecting the reduction in the fair value and impairment of certain
of our treasury investments.
4.2 FINANCIAL OUTLOOK
In 2008 we plan to maintain our strong asset quality, higher levels of balance
sheet liquidity, and to continue to replace and extend the duration of our
wholesale funding. As a result of increased funding and liquidity holding costs
in 2008, core operating profit excluding changes in the fair value and
impairment of certain treasury investments will be lower than in 2007. We expect
total dividends in 2008 to be maintained at the 2007 level.
We expect the Group net interest margin in 2008 to be around 1%, compared to
0.93% in the fourth quarter of 2007. This reflects the higher cost of the medium
term wholesale funding transactions completed in the second half of 2007, and
either already completed in 2008 or expected to be completed shortly, as well as
the cost of holding higher levels of liquidity. The funding facilities typically
have a duration of around two years, and together with the cost of holding
additional liquidity, we estimate will cost around £150m per annum (2007: £23m)
more than would have been the case if market conditions were similar to those in
which we were operating in the first half of 2007. The 2008 margin will also
reflect higher asset spreads on new customer lending.
In 2008 we expect lower mortgage balances to be partially offset by continued
growth in high quality commercial loans.
Our continued targeting of growth in personal and commercial customer current
accounts should enable us to grow non-interest income in 2008.
Group core operating costs, including operating lease depreciation, are expected
to be higher in 2008 than in 2007, reflecting ongoing investment in the
business, the non-recurrence of the one-off benefits resulting from the
renegotiation of a Post Office cash contract in 2007, and inflation. This
investment includes the ALNOVA banking system, which will start to be rolled out
in Retail Banking towards the end of 2008. This stage of the project will result
in additional incremental costs of around £20m in 2008 (2007: £3m). In addition,
we will also incur the full year cost impact of the expansion of the business
centre network in the second half of 2007. These investments are expected to
deliver future benefits, as ALNOVA comes fully on line and the business centre
network matures. The Group's depreciation charge is also expected to increase in
2008, as investment costs which have been capitalised over the past few years
begin to be amortised. The projects relating to these costs are delivering
significant benefits to the Group.
We are continuing to implement our transformation programme and we anticipate
voluntary redundancy costs of around £10m in 2008. These costs will continue to
be excluded from core operating profit.
Our Retail Banking and Commercial Bank asset quality remain very strong, and we
do not expect this to change in 2008.
4.3 FUTURE STRATEGIC OBJECTIVES
Our strategic objectives are as follows:
• Franchise growth, with a current focus on personal and commercial customer
current accounts and deposit balances;
• Above average asset quality for our customer loans and advances;
• Improved cost-efficiency, maintaining the existing target of a Group
cost:income ratio of below 50% by 2010; and
• Underlying return on equity tier 1 capital to grow back to 20%.
The Group's cost base will reflect a strong emphasis on delivering further cost
efficiencies. In addition, from 2010 this process will be aided by benefits
delivered from completing the implementation of the ALNOVA banking system. Once
implemented, ALNOVA will lead to improvements in service quality, efficiency,
customer management, lead generation, cross-sales and customer loyalty.
In the light of unprecedented conditions in the financial markets since August
2007, our previously announced target of growing underlying basic earnings per
share by at least RPI+9% from 2006 to 2009 is no longer appropriate.
5 BUSINESS VOLUMES AND MARKET SHARES
Year Year
ended ended
31.12.07 31.12.06
RETAIL BANKING BUSINESS VOLUMES
Current Accounts
New accounts opened '000 301 300
Total number of active accounts m 1.72 1.64
Residential Mortgages
Gross lending £bn 13.0 12.6
Net lending £bn 4.8 4.9
Mortgage balances £bn 42.8 38.0
Personal Unsecured Loans
Gross advances £bn 2.3 2.3
Balances £bn 3.7 3.6
Savings
Personal customer deposit balances £bn 23.3 22.7
RETAIL BANKING MARKET SHARES
Current Accounts (Note 1)
Share of new accounts opened % 4.3 4.6
Share of total number of accounts % 2.8 2.9
Residential Mortgages (Note 2)
Share of gross lending % 3.6 3.6
Share of net lending % 4.4 4.4
Share of mortgage balances % 3.6 3.5
Personal Unsecured Loans (Note 3)
Share of gross advances % 6.7 6.4
Share of balances % 5.2 5.1
Savings (Notes 1 & 4)
Share of new business % 3.4 3.0
Share of household liquid assets % 2.2 2.3
COMMERCIAL BANKING BUSINESS VOLUMES
Lending
Balances £bn 8.4 6.5
Business Banking
New accounts opened '000 33.7 24.7
Total number of active accounts '000 92.4 76.3
Money Transmission
Sales of cash to financial institutions £bn 68.5 68.6
Cash handled £bn 63.3 64.5
Commercial Customer Deposit Balances £bn 7.5 6.9
Notes: Market shares calculated using the following sources:
(Note 1) Estimate based on CACI data.
(Note 2) Based on Bank of England data.
(Note 3) Based on Major British Banking Group personal loans data.
(Note 4) UK Household Liquid Assets - ONS Financial statistics series NNMQ-X.
6 FINANCIAL REVIEW
6.1 RESULTS BY CATEGORY AND BUSINESS SECTOR
The commentary and ratios below are based on a comparison of the 2007 results
against 2006 results. Statutory results, which include hedge ineffectiveness
gains or losses as income, are shown in section 7.
Core operating profit for 2007 was £417m (2006: £585m). This excludes the £10m
loss (2006: £8m gain) from hedge ineffectiveness and £8m (2006: £24m) of
redundancy costs.
Core operating profit, excluding the impact of the reduction in the fair value
and impairment of certain treasury investments, was £602m, up £17m.
Year Year
ended ended
31.12.07 31.12.06
£m £m
Core operating profit excluding changes in the fair value and impairment of certain 602 585
treasury investments
Reduction in the fair value of certain treasury investments (32) -
Impairment of certain treasury investments (153) -
Core operating profit 417 585
Results by category are set out below:
Year Year
ended ended
31.12.07 31.12.06
£m £m
Net interest income 801 781
Non-interest income (excluding hedge ineffectiveness) 634 687
Total income 1,435 1,468
Core operating expenses (691) (699)
Depreciation on operating lease assets (74) (79)
Total costs (excluding redundancy costs) (765) (778)
Impairment losses:
Retail Banking (85) (97)
Commercial Bank (15) (8)
Treasury (153) -
(253) (105)
Core operating profit 417 585
Redundancy costs (8) (24)
Hedge ineffectiveness (10) 8
Profit before tax 399 569
Tax (Note 1) (103) (119)
Profit after tax 296 450
Profit attributable to:
Innovative tier 1 holders 17 18
Preference shareholders 19 -
Minority interests 3 -
Ordinary shareholders of Alliance & Leicester plc 257 432
Earnings per share:
Basic earnings per ordinary share 59.4p 96.4p
Dividends per ordinary share 55.3p 54.1p
(Note 1) 2006 includes the release of a tax provision of £30m.
The business comprises three segments:
• Retail Banking - this comprises the Core 4 products of current accounts,
mortgages, personal loans and savings, plus the Partner 4 products of long
term investments, life assurance, general insurance and credit cards.
• Commercial Banking - this comprises Commercial Bank - consisting of the
core business lines of lending, business banking and money transmission;
and Treasury.
• Group Items - this represents corporate overheads and income not allocated
to business units.
The contribution to core operating profit by each business segment is set out
below:
Year Year
ended ended
31.12.07 31.12.06
£m £m
Retail Banking 462 445
Commercial Banking:
Commercial Bank 150 116
Treasury (165) 46
(15) 162
Group Items (30) (22)
Core operating profit 417 585
6.1.1 RETAIL BANKING
Year Year
ended ended
31.12.07 31.12.06
£m £m
Net interest income 612 621
Non-interest income 307 291
Total income 919 912
Operating expenses (372) (370)
Impairment losses:
Mortgages (1) 3
Personal loans (68) (90)
Current accounts (16) (10)
(85) (97)
Core operating profit 462 445
Cost:income ratio (Note 1) 40.5% 40.6%
(Note 1) The cost:income ratio is calculated by dividing operating expenses by
total income.
Retail Banking core operating profit was £462m (2006: £445m). Total income was
£7m higher, with lower net interest income more than offset by growth in
non-interest income. Operating expenses increased by £2m, and the charge for
impairment losses was £12m lower.
Total Retail Banking income of £919m comprised Core 4 income of £801m (2006:
£801m) and Partner 4 income of £118m (2006: £111m).
Retail Banking revenues represented 64% of total Group revenues. This can be
broken down into 29% from current accounts and personal loans, 27% from
mortgages and savings and 8% from Partner 4 products.
• Net interest income
Six months Six months Year Year
ended ended ended ended
30.06.07 31.12.07 31.12.07 31.12.06
£m £m £m £m
Net interest income 311 301 612 621
Average balances:
Interest-earning assets (IEA) 43,076 45,903 44,501 39,326
Financed by:
Interest-bearing liabilities 39,297 41,878 40,598 35,397
Interest-free liabilities 3,779 4,025 3,903 3,929
Average rates: % % % %
Bank base rate 5.31 5.71 5.51 4.64
Gross yield on average IEA 6.00 6.44 6.23 5.38
Cost of interest-bearing liabilities 4.98 5.63 5.32 4.22
Interest spread 1.02 0.81 0.91 1.16
Contribution of interest-free liabilities 0.44 0.49 0.47 0.42
Net interest margin on average IEA 1.46 1.30 1.38 1.58
Retail Banking net interest income of £612m was £9m lower than 2006, with a fall
in the net interest margin being partially offset by a 13% increase in average
interest-earning assets.
The Retail Banking net interest margin reduced from 1.58% in 2006 to 1.38% in
2007. This reduction was due to a lower personal unsecured loan margin in the
second half of the year, as higher margin older loans were repaid and replaced
with lower margin new business, and a lower mortgage and savings margin.
The reduction in the mortgage and savings margin was a result of revisions to
some of our mortgage product profiles in both the first and second halves of the
year, reflecting changing customer behaviour, which have slightly reduced the
estimated average lives of these mortgage products. The mortgage and savings
margin has also reduced as a result of the very competitive mortgage market in
the first three quarters of 2007.
The costs of the medium term wholesale funding put in place by the Group towards
the end of 2007 and early 2008 are being accounted for within Treasury. The
planned reduction in mortgage balances and wider asset spreads on new mortgage
lending are likely to lead to an increase in Retail Banking's margin in 2008.
• Non-interest income
Non-interest income was £307m, £16m higher than 2006. Higher revenues from
current accounts and Partner 4 products were partially offset by lower personal
loan and mortgage revenues. Non-interest income from personal loans was £75m
(2006: £78m), primarily reflecting lower payment protection insurance sales.
Mortgage non-interest income was slightly lower than in 2006, due to lower
redemption fee income.
Partner 4 product revenues were £117m, £9m higher than 2006, primarily due to
increased income from investment products.
• Operating expenses
Operating expenses of £372m were £2m higher than 2006, reflecting the increased
costs of servicing higher business volumes and the implementation of a number of
new developments, almost offset by lower customer acquisition costs, increased
usage of the lower cost direct channels and ongoing productivity improvements.
The cost:income ratio was 40.5% (2006: 40.6%).
• Impairment losses
The impairment loss charge in 2007 was £85m, £12m lower than in 2006.
Our mortgage asset quality remains excellent, with 0.49% of accounts over three
months in arrears at the end of 2007, lower than in December 2006. The mortgage
impairment loss charge was £1m (2006: £3m credit).
The unsecured personal loan impairment loss charge reduced from £90m in 2006 to
£68m, reflecting the improving credit quality of the book, as well as the
refinement of our Basel II provisioning methodology. At 31 December 2007, the
proportion of unsecured personal loan balances over 30 days in arrears was 5.5%,
lower than the 5.6% at the end of December 2006.
The current account impairment loss charge increased by £6m in 2007 to £16m,
reflecting the growth in our active current account base. The current account
charge reflects both fraud and overdraft write-offs.
• Mortgage arrears
Mortgage arrears - at 31 December 2007 No. of No. of Book value Book value Value of CML
cases in cases in of of arrears average
arrears arrears as mortgages mortgages £'000 % of
Number of months in arrears % of total in arrears in arrears mortgages
mortgages £m as % of in arrears
total book
3 - 6 Months 1,392 0.28 91.7 0.21 2,833 0.62
6 - 12 Months 669 0.14 47.4 0.11 2,769 0.35
12+ Months 227 0.05 17.9 0.04 3,079 0.13
Repossession stock 80 0.02 12.4 0.03 1,006 0.10
Total 2,368 0.49 169.4 0.39 9,687 1.20
Mortgage arrears - at 31 December 2006 No. of No. of Book value Book value Value of CML
cases in cases in of of arrears average
arrears arrears as mortgages mortgages £'000 % of
% of total in arrears in arrears mortgages
Number of months in arrears mortgages £m as % of in arrears
total book
3 - 6 Months 1,458 0.31 85.8 0.22 2,757 0.57
6 - 12 Months 669 0.14 41.2 0.11 2,515 0.31
12+ Months 231 0.05 12.9 0.03 2,300 0.14
Repossession stock 27 0.01 2.6 0.01 199 0.08
Total 2,385 0.51 142.5 0.37 7,771 1.10
• LTV of new prime residential lending
Year Year
ended ended
31.12.07 31.12.06
% %
Less than 50% 25 20
50% - 75% 31 32
75% - 90% 36 38
90% - 95% 8 10
95% - 100% 0 0
Total 100 100
• LTV of new buy to let lending
Year Year
ended ended
31.12.07 31.12.06
% %
Less than 50% 11 n/a
50% - 75% 55 n/a
75% - 85% 34 n/a
Over 85% 0 n/a
Total 100 n/a
• Indexed LTV of prime residential lending book
Year Year
ended ended
31.12.07 31.12.06
% %
Less than 50% 58 58
50% - 75% 27 26
75% - 90% 13 13
90% - 95% 1 2
95% - 100% 1 1
Total 100 100
• Prime residential lending by type of borrower (by value)
Borrower Type (Note 1) Year Year
ended ended
31.12.07 31.12.06
% %
First time buyer 25 27
Next time buyer 45 44
Remortgage 24 23
Further advances 6 6
Total 100 100
(Note 1) Figures exclude buy to let ,PlusMortgage and specialist lending.
6.1.2 COMMERCIAL BANKING
Commercial Banking is the combination of our Commercial Bank and Treasury
operations.
Year Year
ended ended
31.12.07 31.12.06
£m £m
Net interest income 190 160
Non-interest income 324 393
Total income 514 553
Operating expenses (287) (304)
Depreciation on operating lease assets (74) (79)
Impairment losses (168) (8)
Core operating (loss)/profit (15) 162
Net interest margin 0.77% 0.77%
Average interest-earning assets £24,773m £20,864m
Cost:income ratio (Note 1) 70.2% 69.1%
(Note 1) The cost:income ratio is calculated by dividing the sum of operating
expenses and depreciation on operating lease assets by total income.
6.1.2.1 COMMERCIAL BANK
Year Year
ended ended
31.12.07 31.12.06
£m £m
Net interest income 153 104
Non-interest income 360 390
Total income 513 494
Operating expenses (274) (291)
Depreciation on operating lease assets (74) (79)
Impairment losses (15) (8)
Core operating profit 150 116
Net interest margin 2.08% 1.73%
Average interest-earning assets £7,357m £5,986m
Cost:income ratio (Note 1) 67.9% 74.8%
(Note 1) The cost:income ratio is calculated by dividing the sum of operating
expenses and depreciation on operating lease assets by total income.
Commercial Bank core operating profit increased by £34m to £150m.
• Net interest income
Net interest income of £153m was £49m higher than in 2006. This reflects
continued growth in commercial lending and business banking account balances,
and a higher margin as a result of a reduction in the proportion of loans
supported by bank guarantees.
• Non-interest income
Non-interest income of £360m was £30m lower than in 2006. The reduction
primarily reflects lower revenues from the active management of our commercial
lending book, and lower money transmission revenues. The fall in money
transmission revenues was a result of one-off fees in 2006 not being repeated.
• Operating expenses
Operating expenses of £274m were £17m lower than in 2006. The increased costs
associated with the expansion of our business centre network, the recruitment of
more relationship managers and the growth in our commercial lending operation
were more than offset by the one-off and ongoing cost savings from a new Post
Office cash contract.
• Depreciation on operating lease assets
Operating lease depreciation in 2007 was £74m, compared with £79m in 2006,
reflecting a net reduction in balances.
• Impairment losses
The impairment loss charge in 2007 was £15m (2006: £8m), reflecting the growth
in balances and individual impairment provisions of £13m. The loss charge in
2006 included a number of recoveries and the release of an individual impairment
provision. As at 31 December 2007, 0.46% of commercial lending balances were
over 30 days in arrears (December 2006: 0.60%).
• Commercial lending balances
The total commercial lending book, including lending to business banking
customers, net of provisions and intercompany lending, as at 31 December 2007
was £8.4bn, and is included in the following balance sheet headings:
As at As at
31.12.07 31.12.06
£m £m
Loans and advances to customers 6,221 4,256
Net investment in finance leases and hire purchase contracts 1,909 1,927
Operating lease assets 284 300
Total commercial lending balances 8,414 6,483
The commercial lending book continues to be well diversified across a range of
business sectors as set out below:
As at As at As at As at
31.12.07 31.12.07 31.12.06 31.12.06
£m % £m %
Shipping 1,495 18 1,298 20
Property (Note 1) 1,272 15 698 11
Film 1,063 13 923 14
Other transport, storage & communication 894 10 821 13
Aviation 758 9 549 9
Wholesale & Retail trade 502 6 391 6
Manufacturing 388 4 230 4
Renting and other business activities 310 4 410 6
Recreational 243 3 133 2
Hotels & Restaurants 225 3 102 2
Health & Social work 175 2 85 1
Construction 163 2 172 3
Other 926 11 671 9
Total 8,414 100 6,483 100
(Note 1) Property includes balances of £187m (2006: £nil) held within Mitre
Capital Partners Limited.
The above analysis is based on the industrial sectors and processes which will
be used to produce our Basel II - Pillar 3 report.
A number of our commercial loans are supported by bank guarantees. These
guarantees amounted to £1,945m at 31 December 2007 as set out below:
As at As at
31.12.07 31.12.06
Lending bank guaranteed £m £m
Shipping 961 931
Film 916 874
Aviation 14 1
Other 54 129
Total 1,945 1,935
6.1.2.2 TREASURY
Year Year
ended ended
31.12.07 31.12.06
£m £m
Net interest income 37 56
Non-interest income (36) 3
Total income 1 59
Operating expenses (13) (13)
Impairment losses (153) -
Core operating (loss)/profit (165) 46
Net interest margin 0.21% 0.38%
Average interest-earning assets £17,416m £14,878m
• Net interest income
Net interest income fell by £19m in the full year. This primarily reflects the
£23m higher cost of wholesale funds and the cost of holding increased liquidity
in the second half of 2007.
• Non-interest income
Non-interest income was a loss of £36m, primarily reflecting the £32m reduction
in the fair value of certain treasury investments.
• Operating expenses
Operating costs were maintained at £13m, the same as in 2006.
• Impairment losses
An impairment charge of £153m was made in 2007 (2006: £nil) against the Group's
treasury trading and investment securities, comprising £142m for SIVs and £11m
for CDOs.
Our SIV capital and mezzanine note investments are classified as
'held-to-maturity'. The impairment charge on SIVs is made up of £31m realised
losses on restructured SIVs, and a provision of £111m against the Group's gross
exposure to SIVs at 31 December 2007 of £324m.
The provision is based on an estimate of losses that the SIVs have incurred as a
result of having to sell assets at a loss to meet funding obligations. Where
restructurings were known about at the balance sheet date the provision has been
based on an estimate of the expected discounted cash flows the Group will
receive.
At 31 December 2007 the Group had £117m of CDOs, of which £102m were held as
available-for-sale (AFS) and £15m were held at fair value through profit or loss
(FVTPL). A £5m reduction in the fair value of these FVTPL assets was reflected
in the Income Statement. Changes in fair value in AFS assets were recognised
directly in the AFS reserve, except for £11m of losses on impaired assets which
were recognised in the Income Statement.
CDOs were assessed for impairment by considering the quality and vintage of the
underlying assets and the level of credit support. Certain assumptions were made
with regard to US house prices, arrears levels and losses on defaults.
Impairment has been calculated using an assumption of a 25% peak to trough fall
in US house prices and an average repossession cost of 15%. If a more
pessimistic scenario were to be assumed, including a 40% fall in US house prices
and an average repossession cost of 25%, then the impairment charge would
increase from £11m to £32m.
• Treasury balance sheet
Treasury assets were £23.1bn at the end of December 2007, compared to £19.8bn at
the end of December 2006, and £19.0bn at the end of June 2007. The £4bn increase
in the second half of 2007 primarily reflects increased liquidity, with a £3bn
increase in cash and deposits with banks, and a £0.8bn increase in trading and
investment securities, primarily as a result of participating in a number of SIV
restructuring transactions.
By category:
As at As at As at
31.12.07 30.06.07 31.12.06
£m £m £m
Cash and balances with central banks 3,471 1,589 2,224
Due from other banks 2,885 1,680 2,949
Trading securities 1,439 1,627 1,153
Investment securities
available-for-sale 12,773 11,521 10,483
held-to-maturity 213 400 365
loans and receivables 210 150 150
at fair value through profit or loss 891 1,057 1,373
Trading and investment securities 15,526 14,755 13,524
Loans and advances to customers 233 162 430
Derivative financial instruments 970 837 692
Total 23,085 19,023 19,819
We continue to have a high quality trading and investment securities portfolio
with 94% (2006: 95%) of securities rated at 'A' or above:
As at As at
31.12.07 31.12.06
% %
AAA 28 23
AA 27 33
A 39 39
Other 6 5
Total 100 100
By instrument type:
As at As at As at
31.12.07 30.06.07 31.12.06
£m £m £m
Cash and balances with central banks 3,471 1,589 2,224
Due from other banks 2,885 1,680 2,949
FRNs issued by banks and building societies, and other bank 10,185 9,725 9,351
exposures
ABS 4,149 3,752 2,960
CDOs 117 110 80
CLOs 181 127 110
SIVs 213 400 365
Principal protected notes 35 74 79
Other 646 567 580
Loans and advances to customers 233 162 429
Derivative financial instruments 970 837 692
Total 23,085 19,023 19,819
Our off-balance sheet conduit continues to fund itself from its normal sources,
with the exception of £24m of liquidity which has been provided by Alliance &
Leicester on assets that have fallen below AA-. 93% of the assets in the conduit
are rated AAA.
The tables below analyse Group assets and liabilities into maturity groupings,
based on the remaining period to contractual maturity at the balance sheet date.
A customer placing a deposit may contractually be able to withdraw funds in less
than one month, but this is not an accurate representation of how long the
deposit is expected to remain with the Group.
During 2007 we significantly increased the maturity of our liabilities, with
total maturities of over one year increasing by more than £7bn compared to the
end of 2006.
At 31 December 2007 Less than 1 1 to 3 3 to 12 1 to 5 Over 5
month months months years years Total
£m £m £m £m £m £m
Assets
Cash and balances with central banks 3,471.0 - - - - 3,471.0
Due from banks 2,694.1 10.4 1.9 179.0 - 2,885.4
Trading securities - 66.2 33.2 114.6 1,224.9 1,438.9
Derivative financial instruments 32.7 103.2 264.1 305.1 265.2 970.3
Loans and advances to customers 821.9 577.0 2,133.1 4,989.1 44,625.5 53,146.6
Net investment in finance leases and hire 26.4 51.5 207.7 578.8 1,044.8 1,909.2
purchase contracts
Investment securities :
- available-for-sale 259.5 479.6 824.5 7,520.8 3,688.3 12,772.7
- held-to-maturity - 16.9 - 117.1 78.9 212.9
- loans and receivables 196.9 - - - 13.5 210.4
- at fair value through profit and loss - 859.8 - 15.2 16.2 891.2
Other assets 306.0 9.1 117.5 292.0 321.6 1,046.2
Total assets 7,808.5 2,173.7 3,582.0 14,111.7 51,278.9 78,954.8
Liabilities
Due to other banks 4,382.8 4,412.7 4,435.4 6,063.0 93.0 19,386.9
Derivative financial instruments 62.2 97.3 243.9 267.6 120.2 791.2
Due to customers 26,921.4 1,577.7 1,774.3 259.5 225.4 30,758.3
Debt securities in issue 1,776.7 3,782.4 4,822.9 8,389.6 5,476.8 24,248.4
Other borrowed funds - - 80.8 - 630.4 711.2
Other liabilities 340.8 109.6 53.2 93.5 138.0 735.1
Total liabilities 33,483.9 9,979.7 11,410.5 15,073.2 6,683.8 76,631.1
At 31 December 2006 Less than 1 1 to 3 3 to 12 1 to 5 Over
month months months years 5 years Total
£m £m £m £m £m £m
Assets
Cash and balances with central banks 2,224.0 - - - - 2,224.0
Due from banks 2,482.3 466.1 0.3 - - 2,948.7
Trading securities - 13.7 49.4 194.8 895.0 1,152.9
Derivative financial instruments 62.8 90.3 145.4 286.6 106.7 691.8
Loans and advances to customers 522.6 600.5 1,205.4 4,790.7 39,231.5 46,350.7
Net investment in finance leases and hire 34.2 52.6 195.1 517.4 1,127.6 1,926.9
purchase contracts
Investment securities :
- available-for-sale 196.5 290.4 1,012.3 6,738.6 2,245.0 10,482.8
- held-to-maturity - 0.1 - 143.5 221.1 364.7
- loans and receivables - 150.3 - - - 150.3
- at fair value through profit and loss 69.5 942.7 272.3 - 88.8 1,373.3
Other assets 256.8 41.2 124.3 261.1 207.5 890.9
Total assets 5,848.7 2,647.9 3,004.5 12,932.7 44,123.2 68,557.0
Liabilities
Due to other banks 3,740.5 3,310.3 1,573.9 4.9 - 8,629.6
Derivative financial instruments 16.0 72.4 141.2 345.0 100.8 675.4
Due to customers 25,034.7 2,148.4 1,963.9 265.8 146.6 29,559.4
Debt securities in issue 2,126.7 6,157.8 4,643.4 8,237.9 4,249.6 25,415.4
Other borrowed funds - 11.3 19.0 73.8 592.6 696.7
Other liabilities 296.7 124.1 47.0 384.9 155.0 1,007.7
Total liabilities 31,214.6 11,824.3 8,388.4 9,312.3 5,244.6 65,984.2
6.1.3 GROUP ITEMS
Year Year
ended ended
31.12.07 31.12.06
£m £m
Net interest income (1) -
Non-interest income 3 3
Total income 2 3
Operating expenses (32) (25)
Core operating loss (30) (22)
Group Items represent corporate overheads and income not allocated to business
units. Operating expenses in 2007 included a £9m asset write-down incurred as
part of the redevelopment of our Bootle administration centre.
6.2 GROUP RESULTS BY INCOME STATEMENT CATEGORY
6.2.1 NET INTEREST INCOME
Six months Six months Year Year
ended ended ended ended
30.06.07 31.12.07 31.12.07 31.12.06
£m £m £m £m
Net interest income 412 389 801 781
Average balances:
Interest-earning assets (IEA) 66,057 72,438 69,274 60,190
Financed by:
Interest-bearing liabilities 60,903 66,594 63,772 54,674
Interest-free liabilities 5,154 5,844 5,502 5,516
Average rates: % % % %
Bank base rate 5.31 5.71 5.51 4.64
Gross yield on average IEA 5.87 6.29 6.09 5.18
Cost of interest-bearing liabilities 4.99 5.68 5.36 4.28
Interest spread 0.88 0.61 0.73 0.90
Contribution of interest-free liabilities 0.38 0.45 0.43 0.40
Net interest margin on average IEA 1.26 1.06 1.16 1.30
Group net interest income of £801m was £20m higher than 2006. A 15% increase in
average interest-earning assets more than offset a 14 basis point fall in the
net interest margin.
An increase in the Commercial Bank margin was more than offset by a lower margin
in both Treasury and Retail Banking.
We expect the full year Group net interest margin in 2008 to be around 1%.
Higher margins on new business are expected to be more than offset by the cost
of the medium term wholesale funding put in place in the second half of 2007 and
early 2008, and the cost of holding higher levels of liquidity.
6.2.2 NON-INTEREST INCOME
Year Year
ended ended
31.12.07 31.12.06
£m £m
Fee and commission income 517 524
Fee and commission expense (33) (27)
Other operating income 56 90
Operating lease income 94 100
Core non-interest income 634 687
Hedge ineffectiveness (10) 8
Total 624 695
Core non-interest income of £634m was £53m lower than 2006, primarily due to the
£32m reduction in the fair value of certain treasury investments, reduced
revenues from the active management of the commercial lending book and lower
money transmission revenues.
Other operating income also included a £20m excess from the sale of credit card
accounts to MBNA (2006: £27m). A final amount of £16m will be recognised in
2008.
The £10m loss (2006: £8m gain) from hedge ineffectiveness is explained in
section 6.5.
6.2.3 ADMINISTRATIVE EXPENSES AND DEPRECIATION
Year Year
ended ended
31.12.07 31.12.06
£m £m
Staff related expenditure 299 290
Post Office/cash business 94 134
Marketing costs 43 53
Premises, equipment and other 182 163
Outsourcing costs 15 17
Administrative expenses 633 657
Depreciation and amortisation on fixed assets other than 58 42
operating lease assets
Core operating expenses 691 699
Depreciation on operating lease assets 74 79
Total costs excluding redundancy costs 765 778
Redundancy costs 8 24
Total costs 773 802
Cost:income ratio (Note 1) 53.3% 53.0%
(Note 1) The cost:income ratio is calculated by dividing total costs excluding
redundancy costs by total income excluding gains or losses from hedge
ineffectiveness.
The Group cost:income ratio was 53.3%, compared to 53.0% in 2006. Excluding the
impact on income from fair value reductions in certain treasury investments, the
higher cost of medium term wholesale funding and higher liquidity holding costs,
the cost:income ratio would have been lower than 2006.
The Group's core operating expenses were £691m in 2007, £8m lower than 2006.
Post Office/cash business costs have reduced as a result of one-off and ongoing
benefits from the renegotiation of the cash contract in April 2007. Marketing
costs have reduced, reflecting the increasing proportion of business generated
via the internet. The depreciation and amortisation charge increased by £16m to
£58m in the year, reflecting the £9m asset write-down relating to the
redevelopment of our Bootle administration centre and a higher software
amortisation charge.
6.2.4 IMPAIRMENT
The charge for impairment losses can be analysed as follows:
Year Year
ended ended
31.12.07 31.12.06
£m £m
Retail Banking
Mortgages 1 (3)
Personal loans 68 90
Current accounts 16 10
85 97
Commercial Banking
Commercial Bank 15 8
Treasury 153 -
168 8
Total 253 105
Excluding the £153m of impairment losses in Treasury, the charge for impairment
losses in 2007 was £5m lower than in 2006. The Retail Banking charge reduced by
£12m and the Commercial Bank charge rose by £7m. The Treasury impairment loss
charge in 2007 was £153m (2006: £nil).
The closing balances on impairment provisions were as follows:
As at As at
31.12.07 31.12.06
£m £m
Retail Banking
Mortgages 13 13
Personal loans 107 127
Current accounts 16 10
136 150
Commercial Banking
Commercial Bank 27 18
Treasury 122 -
149 18
Total provisions 285 168
Mortgage provisions have remained constant, reflecting continued excellent asset
quality.
The reduction in the provision for personal loans reflects the improved credit
quality of the book and the introduction of a refined provisioning methodology.
The increase in the provision for current accounts reflects the growth in our
active current account base.
The total level of Commercial Banking provisions as at 31 December 2007 was
£149m (2006: £18m), reflecting Commercial Bank provisions of £27m (2006: £18m)
and Treasury provisions of £122m (2006: £nil).
Commercial Bank provisions of £27m (2006: £18m) represented 0.3% (December 2006:
0.3%) of commercial lending balances. In addition to the provisions shown above,
there was a £3m (2006: £4m) residual value provision against operating lease
assets. Of the leasing book of £2.2bn, 45% was bank guaranteed (December 2006:
45%).
The Treasury provision includes £11m relating to CDOs, with the remainder
relating to SIVs.
Total provisions of £285m at the end of 2007 consisted of £148m (December 2006:
£158m) collective impairment provisions, and individual impairment provisions of
£137m (December 2006: £10m).
6.2.5 TAXATION
The tax charge for 2007 was £103m (2006: £119m).
The underlying effective tax rate in 2007 was 27.2% (2006: 27.0%).
Statutory profit before tax for 2007 was £399m. In calculating the underlying
effective tax rate, adjustments have been made for a tax credit of £3m in
respect of the £10m hedge ineffectiveness loss and a tax credit of £2m in
respect of £8m of redundancy costs. Underlying profits have also been adjusted
for the appropriation of profit of £17m in respect of our innovative tier 1
capital securities.
Statutory profit before tax for 2006 was £569m. In calculating the underlying
effective tax rate, adjustments were made for the release of a £30m tax
provision, a tax charge of £2m in respect of the £8m hedge ineffectiveness gain,
and a tax credit of £7m in respect of £24m of redundancy costs. Underlying
profits were also adjusted for the appropriation of profit of £18m in respect of
our innovative tier 1 capital securities.
The change in the rate of statutory corporation tax enacted in 2007, and
effective from April 2008, has not had a significant impact on the Group's pre
or post-tax results for 2007.
We expect to maintain an underlying effective rate of tax which is below the
statutory rate of corporation tax, which is 28.5% in 2008.
6.3 PENSIONS
The net retirement benefits asset at 31 December 2007 was £25m (2006: £48m
liability). Assets within the funded scheme are included at their market value
at 31 December 2007. Liabilities within the funded and unfunded schemes are
based on the most recent actuarial valuation at 31 March 2006, and updated by an
independent qualified actuary to assess the liabilities as at 31 December 2007.
The post retirement medical benefits liability was updated by the actuary to
assess the liabilities as at 31 December 2007.
As at As at
31.12.07 31.12.06
£m £m
Assets
Funded defined benefit pension scheme 53 -
Liabilities
Funded defined benefit pension scheme - (17)
Unfunded defined benefit pension scheme (11) (9)
Post-retirement medical benefits liability (17) (22)
(28) (48)
Total net retirement benefits asset/(liability) 25 (48)
6.4 DIVIDENDS
Our proposed final dividend is 36.5p (2006: 36.5p) per share, giving total
dividends of 55.3p (2006: 54.1p) per share for the year, up 2.2% on 2006.
6.5 HEDGE INEFFECTIVENESS
The hedge ineffectiveness loss of £10m (2006: £8m gain) represents the net fair
value loss on derivative instruments that are matching risk exposure on an
economic basis. Some accounting volatility arises on these items due to
accounting ineffectiveness on designated hedges, or because hedge accounting has
not been adopted or is not achievable on certain items. The loss is primarily
due to timing differences in income recognition between the derivative
instruments and the hedged assets and liabilities. The impact can be volatile,
but will trend to zero over time and has been excluded in reporting the Group's
underlying performance.
7 STATUTORY FINANCIAL INFORMATION
7.1 STATUTORY CONSOLIDATED INCOME STATEMENT
Year Year
ended ended
31.12.07 31.12.06
Audited Audited
£m £m
Interest receivable and similar income 4,167.2 3,115.2
Interest expense and similar charges (Note 1) (3,366.1) (2,334.6)
Net interest income 801.1 780.6
Fee and commission income 516.9 523.6
Fee and commission expense (32.7) (26.8)
Hedge ineffectiveness (9.5) 7.6
Other operating income 150.0 190.2
Total non-interest income 624.7 694.6
Operating income 1,425.8 1,475.2
Administrative expenses:
Core administrative expenses (634.6) (656.8)
Redundancy costs (8.4) (24.2)
Total administrative expenses (643.0) (681.0)
Depreciation and amortisation:
On fixed assets excluding operating lease assets (47.7) (42.0)
On operating lease assets (73.5) (78.5)
Impairment of tangible fixed assets (9.3) -
(130.5) (120.5)
Total costs (773.5) (801.5)
Impairment losses on loans and leases (100.2) (104.8)
Impairment losses on treasury investments (152.9) -
Profit before tax 399.2 568.9
Tax (103.3) (118.8)
Profit after tax 295.9 450.1
Profit attributable to:
Innovative tier 1 holders 17.5 17.5
Preference shareholders 18.7 -
Minority interests 3.0 0.4
Ordinary shareholders of Alliance & Leicester plc 256.7 432.2
Earnings per share:
Basic earnings per ordinary share 59.4p 96.4p
Diluted earnings per ordinary share 59.0p 95.9p
(Note 1) Includes £10.1m (2006: £8.1m) in respect of forward exchange losses on
foreign exchange derivatives.
7.2 STATUTORY CONSOLIDATED BALANCE SHEET
7.2.1 BALANCE SHEET
As at As at As at
31.12.07 30.06.07 31.12.06
Audited Unaudited Audited
£m £m £m
Assets
Cash and balances with central banks 3,471.0 1,589.1 2,224.0
Due from other banks 2,885.4 1,680.4 2,948.7
Trading securities 1,438.9 1,627.2 1,152.9
Derivative financial instruments 970.3 837.3 691.8
Loans and advances to customers (section 7.2.2) 53,146.6 49,487.5 46,350.7
Net investment in finance leases and hire purchase contracts 1,909.2 1,885.3 1,926.9
Investment securities:
- available-for-sale 12,772.7 11,521.3 10,482.8
- held-to-maturity 212.9 400.2 364.7
- loans and receivables 210.4 150.3 150.3
- at fair value through profit or loss 891.2 1,057.2 1,373.3
Intangible fixed assets 116.1 85.7 54.7
Property, plant and equipment 251.4 241.1 255.0
Operating lease assets 284.1 281.0 300.5
Deferred tax assets 4.9 6.0 -
Fair value macro hedge 38.0 - -
Other assets 214.9 238.1 220.5
Prepayments and accrued income 84.0 76.0 60.2
Retirement benefits 52.8 - -
Total assets 78,954.8 71,163.7 68,557.0
Liabilities
Due to other banks 19,386.9 7,978.3 8,629.6
Derivative financial instruments 791.2 813.8 675.4
Due to customers (section 7.2.3) 30,758.3 30,715.0 29,559.4
Debt securities in issue 24,248.4 27,425.4 25,415.4
Other liabilities 498.4 407.7 417.1
Current tax liabilities 4.8 38.8 21.3
Fair value macro hedge - 386.2 181.7
Accruals and deferred income 203.6 236.6 197.9
Deferred tax liabilities - - 141.9
Other borrowed funds 711.2 666.5 696.7
Retirement benefit obligations 28.3 38.6 47.8
Total liabilities 76,631.1 68,706.9 65,984.2
Equity
Innovative tier 1 310.6 301.8 310.6
Preference shares 294.0 294.0 294.0
Minority interests 3.5 2.1 0.4
608.1 597.9 605.0
Called up share capital 210.3 215.1 219.0
Share premium account 125.1 119.3 105.6
Capital redemption reserve 89.9 84.7 79.9
Reserve for share-based payments 26.2 23.3 21.0
Available-for-sale reserve (142.7) 4.5 4.2
Cash flow hedging reserve (13.7) (59.5) (19.3)
Retained earnings 1,420.5 1,471.5 1,557.4
Total ordinary shareholders' equity 1,715.6 1,858.9 1,967.8
Total equity and liabilities 78,954.8 71,163.7 68,557.0
7.2.2 LOANS AND ADVANCES TO CUSTOMERS
As at As at As at
31.12.07 30.06.07 31.12.06
Audited Unaudited Audited
£m £m £m
Retail Banking
Secured loans:
Residential mortgages 42,776.2 40,213.2 38,001.4
Other secured loans 73.7 59.0 32.2
Unsecured personal loans and overdrafts 3,843.0 3,905.9 3,631.8
46,692.9 44,178.1 41,665.4
Commercial Banking
Commercial Bank 6,221.1 5,147.0 4,255.4
Treasury 232.6 162.4 429.9
6,453.7 5,309.4 4,685.3
Loans and advances to customers 53,146.6 49,487.5 46,350.7
Net investment in finance leases and hire purchase contracts 1,909.2 1,885.3 1,926.9
Operating lease assets 284.1 281.0 300.5
Total loans and advances to customers 55,339.9 51,653.8 48,578.1
7.2.3 DUE TO CUSTOMERS
As at As at As at
31.12.07 30.06.07 31.12.06
Audited Unaudited Audited
£m £m £m
Retail Banking customer deposits 23,311.7 23,284.6 22,725.3
Commercial Banking customer deposits 7,446.6 7,430.4 6,834.1
Total due to customers 30,758.3 30,715.0 29,559.4
7.3 STATUTORY CONSOLIDATED STATEMENT OF RECOGNISED INCOME AND EXPENSE
Year Year
ended ended
31.12.07 31.12.06
Audited Audited
£m £m
Available-for-sale investments:
Valuation losses taken to equity (219.8) (1.7)
Impairment loss transferred to income statement 10.6 -
Net gains transferred to profit on disposal (0.6) (0.5)
Cash flow hedges:
Gains/(losses) taken to equity 14.8 (57.6)
Transferred to net profit (7.4) (2.1)
Actuarial gains on retirement benefit obligations 56.4 49.7
Tax on items taken directly in equity 45.7 3.6
Net expense recognised directly in equity (100.3) (8.6)
Profit after tax 295.9 450.1
Total recognised income and expense for the year 195.6 441.5
Total recognised income and expense for the year attributable
to:
Innovative tier 1 holders 17.5 17.5
Preference shareholders 18.7 -
Minority interests 3.0 0.4
Ordinary shareholders of Alliance & Leicester plc 156.4 423.6
7.4 STATUTORY CONSOLIDATED CASH FLOW STATEMENT
Year Year
ended ended
31.12.07 31.12.06
Audited Audited
£m £m
Cash flows from operating activities
Profit before tax 399.2 568.9
Increase in accrued income and prepayments (26.5) (9.9)
Decrease in accruals and deferred income (1.6) (145.1)
Impairment losses 253.1 104.8
Amounts written off net of recoveries (138.9) (102.6)
Depreciation and amortisation 118.2 120.1
Interest on subordinated loan added back 38.0 52.3
Provisions for liabilities and charges (15.9) (9.4)
Unamortised costs on subordinated debt 0.2 0.4
Other non-cash movements (8.0) (32.4)
Cash generated from operations 617.8 547.1
Interest paid on loan capital (38.0) (52.3)
Tax paid (54.5) (80.6)
Cash flows from operating profits before changes in operating assets and 525.3 414.2
liabilities
Changes in operating assets and liabilities:
Net decrease in treasury and other eligible bills - 17.1
Net increase in amounts due from other banks and loans and advances to (6,706.5) (6,798.4)
customers
Net increase in debt and equity securities (600.8) (967.6)
Net (increase)/decrease in fair value macro hedges (219.7) 241.5
Net increase in other assets (4.3) (1.9)
Net increase in amounts due to other banks and customers 11,956.2 5,184.6
Net (increase)/decrease in derivative financial instruments (155.2) 205.3
Net (decrease)/increase in debt securities in issue (1,167.0) 4,010.1
Net increase in other liabilities 2.2 87.8
Net increase/(decrease) in other borrowed funds 14.3 (42.8)
Other non-cash movements (202.1) 2.6
Net cash from operating activities 3,442.4 2,352.5
Cash flows from investing activities
Purchase of non-dealing securities (4,222.1) (5,850.7)
Proceeds from sale and redemption of non-dealing securities 2,699.1 4,120.6
Acquisition of subsidiaries, net of cash acquired (173.0) -
Disposal of subsidiaries, net of cash disposed 94.2 327.7
Purchase of intangible assets, property, plant and equipment and operating (186.6) (155.3)
lease assets
Proceeds from sale of property, plant and equipment and operating lease 31.3 71.7
assets
Net cash used in investing activities (1,757.1) (1,486.0)
Cash flows from financing activities
Repayments of borrowed funds - (200.0)
Issue of ordinary shares 18.4 22.0
Issue of preference shares - 294.0
Repurchase of ordinary shares (193.8) (151.0)
Dividends paid (240.8) (235.1)
Preference dividends paid (18.7) -
Interest paid on loan capital (17.5) (17.5)
Net cash used in financing activities (452.4) (287.6)
Net increase in cash and cash equivalents 1,232.9 578.9
Cash and cash equivalents at beginning of year 2,622.6 2,043.7
Cash and cash equivalents at end of year 3,855.5 2,622.6
8 CAPITAL
From 1 January 2007 Alliance & Leicester has been operating under the Basel II
capital regime. Capital disclosures under Basel II are still evolving across the
industry. Our capital disclosures reflect the new regime.
8.1 CAPITAL STRUCTURE
8.1.1 CAPITAL RESOURCES
As at As at
31.12.07 01.01.07
£m £m
Tier 1:
Core tier 1 capital 1,846 2,002
Preference share capital 294 294
Innovative tier 1 311 311
Total tier 1 (before deductions) 2,451 2,607
Tier 1 deductions:
Intangible assets (Note 1) (116) (55)
Expected losses (Note 2) (64) (90)
Total tier 1 deductions (180) (145)
Total tier 1 after deductions 2,271 2,462
Tier 2:
Total tier 2 (before deductions) 655 654
Tier 2 deductions:
Expected losses (Note 2) (64) (90)
Total tier 2 after deductions 591 564
Deductions from tier 1 and tier 2 (5) -
Total capital resources 2,857 3,026
% %
Total tier 1 ratio after deductions - Basel I RWA 6.1 7.7
Total tier 1 ratio after deductions - Basel II RWA 9.4 12.2
(Note 1) Intangible assets include capitalised software and goodwill.
(Note 2) Under Basel II a deduction is made for the excess of expected losses
over customer loans and advances provisions that are on an IRB approach. Half of
this is deducted from tier 1 capital and half from tier 2 capital.
In 2007 the Group bought back 19.9m shares at a total cost of £194m. Our total
capital resources benefitted by £52m as a result of lower deductions for
expected losses, following further refinement of our Basel II models. Total
capital resources were reduced by £61m as a result of an increase in intangible
assets, reflecting the ongoing investment in the ALNOVA system.
8.1.2 RISK WEIGHTED ASSETS
The table below shows the Group's risk weighted assets (RWA) and operational
risk under Basel II Pillar I, and the Basel I RWA.
As at As at
31.12.07 01.01.07
Basel II - Pillar I £m £m
Risk weighted assets:
Mortgages 3,980 4,539
Unsecured personal loans 3,647 3,808
Corporates 7,005 4,909
Banks 2,844 2,356
Investment in securitisations (Note 1) 2,974 1,145
Other (Note 2) 1,352 1,203
Total credit and market RWA 21,802 17,960
Operational risk (Note 3) 2,280 2,260
Total Basel II - Pillar I RWA 24,082 20,220
Total Basel I RWA 37,297 32,180
(Note 1) The definition ' Investments in securitisations' includes ABS, MBS,
SIVs, CDOs and liquidity facilities.
(Note 2) Includes market risk, current accounts, exposures to Central Banks and
other assets.
(Note 3) Notional risk weighted assets calculated at the end of each financial
year.
As a result of Basel II, the Group's RWA at 31 December 2007 were 35% lower than
they would have been under Basel I, reflecting our high quality assets and risk
management processes.
The Group's RWA under Basel II increased by £3.8bn in 2007. Mortgage RWA reduced
by £0.6bn, reflecting the refinement of our Basel II mortgage models, whilst
corporates, which primarily reflects commercial lending, increased by £2.1bn,
predominantly reflecting the growth in balances and a small reduction in the
proportion of bank guaranteed loans.
RWA relating to banks, including FRNs, increased as a result of the higher
levels of liquidity being held. RWA relating to the category 'securitisations',
including ABS, CDOs and CLOs, increased by £1.8bn, reflecting the restructuring
of SIVs and reductions in their credit ratings. Our total RWA also includes £59m
of RWA in respect of our off-balance sheet conduit.
8.1.3 CAPITAL REQUIREMENTS
As at As at
31.12.07 01.01.07
£m £m
Pillar 1 capital requirement 1,927 1,618
Basel 1 transitional floor 2,694 2,296
Total capital resources 2,857 3,026
The Basel II - Pillar I capital requirement of £1,927m is 8% of total Basel II -
Pillar I RWA of £24,082m. Our internal assessment of the Pillar 2 capital
requirement is currently around 30% of the Group's Pillar I requirement, prior
to any additional FSA capital guidance. Together, these make up our total Basel
II capital requirement.
During the transition to Basel II, the Group is required to hold capital at or
above a transitional floor. This floor is calculated as 8% of Basel I RWA, less
collective provisions, multiplied by a factor of 95% in 2007, 90% in 2008 and
80% in 2009. The Group's total capital resources at the end of 2007 were higher
than our Basel II capital requirement and the transitional floor.
Under Basel II - Pillar 3, the Group is required to disclose additional
information on its loans and advances. These disclosures will provide more
detail of our high quality assets, and will be published on the Group's website
in April.
8.2 RECONCILIATION OF ORDINARY SHAREHOLDERS' FUNDS TO EQUITY TIER 1
CAPITAL
As at As at
31.12.07 31.12.06
£m £m
Ordinary shareholders' funds (equity) 1,716 1,968
Adjusted for:
Pension fund (Note1) (29) 19
Cashflow hedges and available-for-sale assets (Note 2) 156 15
Minority interest 3 -
Core tier 1 capital 1,846 2,002
Intangible assets (Note 3) (116) (55)
Equity tier 1 capital 1,730 1,947
(Note 1) Retained earnings and other reserves exclude gains or losses on
cashflow hedges and available-for-sale assets. The regulatory capital rules
allow the pension scheme deficit to be added back to regulatory capital and a
deduction taken for an estimate of the additional contributions to be made in
the next five years, less associated deferred tax. When the Scheme is in
surplus, the pension fund asset is not included within capital. This adjustment
is reflected in the reserves number.
(Note 2) Gains or losses on cashflow hedges and available-for-sale assets are
required to be excluded from equity tier 1 capital.
(Note 3) Intangible assets, including capitalised software and goodwill, are
deducted in the calculation of equity tier 1 capital.
8.3 UNDERLYING RETURN ON EQUITY TIER 1 CAPITAL
Year Year
ended ended
31.12.07 31.12.06
£m £m
Profit attributable to ordinary shareholders 256.7 432.2
Adjusted for:
Redundancy costs 8.4 24.2
Less associated tax credit (2.5) (7.3)
Release of tax provision (Note 1) - (29.7)
Hedge ineffectiveness 9.5 (7.6)
Less associated tax (credit)/charge (2.9) 2.3
Core profit after tax 269.2 414.1
Average equity tier 1 1,839 1,923
Underlying return on equity tier 1 14.6% 21.5%
(Note 1) The tax provision release in 2006 is in respect of the excess received
from the disposal of the credit card accounts to MBNA in August 2002.
9 EARNINGS PER SHARE
Basic statutory earnings per ordinary share of 59.4p (2006: 96.4p) are
calculated by dividing the Group profit attributable to ordinary shareholders of
£256.7m by the weighted average number of ordinary shares in issue during the
year of 432.4m.
Year Year
ended ended
31.12.07 31.12.06
Group profit attributable to ordinary shareholders £256.7m £432.2m
Weighted average number of ordinary shares in issue during the year 432.4m 448.4m
Basic statutory earnings per ordinary share 59.4p 96.4p
The underlying basic earnings per ordinary share of 62.3p (2006: 92.4p) are
provided to disclose the trend in earnings excluding the distorting effect of
non-operating items and the impacts arising from hedge ineffectiveness. This is
based on the same number of shares, the core profit after tax for the year after
excluding the redundancy costs, impacts arising from hedge ineffectiveness and
the release of the tax provision relating to the sale of the credit card
accounts in 2006.
Year Year
ended ended
31.12.07 31.12.06
£m £m
Profit attributable to ordinary shareholders 256.7 432.2
Adjusted for:
Redundancy costs 8.4 24.2
Less associated tax credit (2.5) (7.3)
Release of tax provision - (29.7)
Hedge ineffectiveness 9.5 (7.6)
Less associated tax (credit)/charge (2.9) 2.3
Core profit after tax 269.2 414.1
Underlying basic earnings per ordinary share 62.3p 92.4p
The fall in both the basic statutory and underlying earnings per ordinary share
are primarily due to the lower retained profit in the year.
The diluted earnings per share of 59.0p (2006: 95.9p) are based on the total
dilutive potential shares and the Group profit attributable to ordinary
shareholders. The total dilutive potential shares are the weighted average
number of ordinary shares together with all dilutive financial instruments or
rights that may entitle the holder to ordinary shares.
Year Year
ended ended
31.12.07 31.12.06
m m
Weighted average number of ordinary shares in issue 432.4 448.4
Weighted average diluted options outstanding 2.4 2.3
Total 434.8 450.7
As at As at
31.12.07 31.12.06
m m
Total number of shares in issue 420.6 437.9
10 BASIS OF PREPARATION
The information in this announcement does not constitute statutory accounts
within the meaning of Section 240 of the Companies Act 1985. It includes
abridged details from the statutory accounts for the year ended 31 December
2007, which have been reported on by the auditors and will be filed with the
Registrar of Companies for England and Wales. The report of the auditors was
unqualified and did not contain a statement under sections 237(2) or 237(3) of
the Companies Act 1985. This announcement was approved by the Board of Directors
on 19 February 2008.
While the statutory financial information included in this preliminary
announcement has been computed in accordance with International Financial
Reporting Standards (IFRSs), this announcement does not itself contain
sufficient information to comply with IFRSs. The Group will publish full
financial statements that comply with IFRSs in April 2008.
11 CONTACTS
Should you have any queries please contact: -
Mark Jones Head of Investor Relations Tel: 0116 200 4492
Stuart Dawkins Director of Corporate Communications Tel: 0116 200 3088
Mark Browne Head of Financial Relations and External Reporting Tel: 0116 200 2123
Press Office Tel: 0116 200 3355
This report is also available on the Alliance & Leicester corporate web site
(www.alliance-leicester-group.co.uk) from 7.00 am on 20 February 2008.
A presentation of the results for analysts and investors will be given on the
morning of the results announcement. A live audiocast with synchronised slides
of this event will be available from 9.30 am on the Group's corporate web site
(www.alliance-leicester-group.co.uk). Later in the day, an archive version of
the presentation slides and audio will be available on the Alliance & Leicester
corporate web site.
Alliance & Leicester plc. Registered Office: Carlton Park, Narborough, Leicester
LE19 0AL.
Company No: 3263713. Registered in England.
12 SHAREHOLDER INFORMATION
Financial Calendar
Ex-dividend date for final dividend Wednesday 23 April 2008
Record date for final dividend Friday 25 April 2008
Annual General Meeting Tuesday 13 May 2008
Payment date for final dividend Monday 19 May 2008
Provisional date for interim results 2008 to be announced Friday 1 August 2008
Provisional ex-dividend date for interim dividend Wednesday 3 September 2008
Provisional record date for interim dividend Friday 5 September 2008
Provisional payment date for interim dividend Monday 6 October 2008
Dividends
Interim dividend 2006 17.6p
Final dividend 2006 36.5p
Interim dividend 2007 18.8p
Proposed final dividend 2007 36.5p
13 FORWARD LOOKING STATEMENTS
This report contains certain forward looking statements with respect to the
financial condition, results of operations, and businesses of the Alliance &
Leicester Group. These statements and forecasts involve risk and uncertainty
because they relate to events and depend upon circumstances that will occur in
the future. There are a number of factors which could cause actual results or
developments to differ materially from those expressed or implied by these
forward looking statements and forecasts. The statements have been made with
reference to forecast price changes, economic conditions, the current regulatory
environment and the current interpretations of IFRS applicable to past, current
and future periods. Due to such uncertainties and risks, readers are cautioned
not to place undue reliance on such forward looking statements. Nothing in this
announcement should be construed as a profit forecast.
Paste the following link into your web browser to download the PDF document
related to this announcement
http://www.rns-pdf.londonstockexchange.com/rns/3473o_-2008-2-19.pdf
END
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The company news service from the London Stock Exchange
