Parliamentary Commission on Banking StandardsGROUP MANAGEMENT BOARD Monday, 7 May 2002 11.00 am, The Mound, Edinburgh
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MINUTES |
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Present |
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James Crosby (Chairman) |
Andy Hornby |
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Peter Burt |
Gordon McQueen |
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Mike Ellis |
George Mitchell |
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Phil Hodkinson |
Colin Matthew |
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In Attendance |
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*** |
*** |
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*** |
*** |
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*** |
*** |
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*** |
*** |
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*** |
*** |
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*** |
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1. Minutes of 15 April 2002
The minutes of 15 April 2002 were approved.
2. Group Programme Office
2.1 It Update
*** Update in relation to IT issues was noted. Retail Division had decided not to proceed with CBS in relation to personal loans. The functionality required could be accommodated within the existing platform. This could damage the economics of the platform. *** would report on the financial implications of this Division at the next meeting of GMB on 27 May.
2.2 Group Euro Planning Preparations for Potential UK Entry
The timetable for UK Euro entry—both “if1 as well as “when”—was still uncertain. But recent signs confirmed that Euro entry was still on the political agenda. The illustrative timetable outlined by the Government indicated a changeover taking 34–40 months from decision to end of transition.
Against this background, the time was not right and it was not appropriate for the Group to reorder corporate priorities in order to accommodate Euro preparations. The Business Plan did not yet envisage material works taking place in preparation for Euro entry. And it would be wrong to commit material resources to this issue (including hiring external support) until the fact of entry was more certain and the timing of entry clear.
The results of the initial analysis of changeover costs were incredible. There was no doubt that a lengthy transition period would be more expensive than a “Big Bang” approach: and costs would thus be analysed into “transition” and “non-transition”. Even so, the current estimate appeared far too high. A more realistic high level estimate was required, and would be prepared, otherwise there was a risk that other initiatives would be cut back unnecessarily to accommodate an unrealistic spend. All businesses needed to work with the Euro planning team to provide a further cost estimate. A further report, providing greater clarity on the amount and nature of likely costs would be submitted to GMB in about two months.
In due course, if Euro entry became a fact, a significant Group-wide Project would need to be established, to ensure proper co-ordination and delivery of the necessary changes, *** would be the most appropriate sponsor for such a project, once the need arose.
The various recommendations were agreed—save that external consultants would not be engaged at this point.
3. Group Property
3.1 Control & Payment of Business Rates for BOS Estates
It was agreed that Group Property would undertake control, payment and administration of all Group and Divisional business rates costs. Budgets would be transferred from Divisions into Group Property. Savings would accrue to Group Property—but a lower recharge would be made, in consequence, to Divisions.
4. Strategic Issues
4.1 Quarter 1 Forecast
A limited number of agreed adjustments had been made to the Business Plan, (including intra Group transfers) that had no affect on total PBT. Other adjustments reduced the Plan in total by £17m in 2002 but increased it by £3 million in 2003.
The main additional variation now proposed reflected moderating the growth of Corporate Banking to 25% per annum, whilst producing better returns—as part of moving the business more quickly to an ROE focus. The level of origination would be maintained: but there would be greater selling down. This change in strategy would be recommended to the Board on 15 May. If approved, the Plan would be adjusted to reflect the affects of this change.
Overall, current forecast performance in both 2002 and 2003 would then be slightly behind consensus market expectation (with some contingency remaining). But all Divisions were committed to identifying opportunities to increase performance further, and reaching consensus.
Actual costs performance to date was acceptable, but forecasts were unrealistic and unacceptable. There was some confusion about recharges, allocation and Group items. Mike Ellis would clarify allocation issues and summarise the position, by Division, in relation to forecast costs, for the next meeting of GMB. In future, it would be sensible to ignore allocations for bonus purposes, to assist managing recharge issues.
4.2 Savings
Deposit based savings were still a key component of the Retail business—with 16m customers and balances of £92 billion—providing low cost funds, net interest income of £921 million and profit (in 2002) of £581 million. The business had been transformed in recent years away from “notice” accounts, to accounts that reflected and rewarded customer behaviours, across all channels. This was a key element in driving down transaction costs. The “Savings Review” (now a “Savings and Investing Review”) was a key retention tool—that had helped generate the first positive inflow (in 2002—£1,6 billion) for some time—even after migrating customers to higher rate products and moving £1.25 billion in balances to LTS products.
Margins were reducing—in part fuelled by proactive migration of customers to better products—but profit levels should be maintained by volume growth. Savings customers were an under-exploited cross selling opportunity, and the Savings business was working increasingly closely with IID.
The two goals for the business were dear:
to consolidate the market leading position in liquid savings; and
to leverage that position to become the UK’s no 1 bancassurer within the next 12 months.
The original intention had been to adopt a single brand (“Halifax”) strategy in relation to liquid savings—and to migrate the current BOS savings book to Halifax pic through a FSMA transfer process. Moving to a single platform was important. But “forcible migration” could result in attrition of funds, and adverse publicity—particularly in Scotland. The issue would be explored further. Dual and/or subsidiary branding, and any other options that might reduce these potential adverse consequences, would be considered. At the Board meeting it would be made clear that this issue was still under consideration and that no final decisions had been taken.
4.3 Birmingham Midshires
Birmingham Midshires was in the process of transformation from a regional building society into a leading specialist lender—with the clear aim of becoming the UK’s no 1 specialist lender. Significant inroads had already been made into the Buy-to-Let, self certification and expatriate markets. The next target “niche” was adverse credit or “sub-prime” lending.
These niche areas required specialist credit risk/credit management capabilities—and differential pricing models that could adequately reflect the risks being incurred. Adverse credit/sub-prime was an attractive market, which could be mined through taking “rejects” from other parts of the Group, as well as through intermediaries and direct. Good returns were available, if managed well. The market was growing. The competition was still fragmented and did not include major “household names”. Extending the Group’s reach into this market was consistent with the mainstream Customer Champion approach, and social Inclusion.
The remaining branch network was profitable, with a strong savings franchise. Extending the scale of integration was an issue for this business. The aim would be to integrate back end processing further, in due course and to pursue other opportunities for productivity gains, efficiency improvements, and strategic cost reductions. The aim was to reduce the cost/income ratio below 40% and to fund additional business growth.
4.4 Personal Lines Insurance Strategic Review
The paper presented by *** was still being developed, and did not yet give an adequate impression of the strength and quality of this business.
The business had grown significantly in recent years: it was the largest provider of home insurance in the UK, and the second largest provider of credit insurance. Premiums (excluding ***) would be in the region of £1.2 billion in 2002, and profits in the region of £430 million. Other risks were under consideration—including pet, personal accident and health insurance. Products were also now being provided to ***.
The deal with RSA agreed in 2001 would expire in 2006. Volatility had been a disincentive to taking the risk direct in the past. But internalising risk taking/underwriting in the household market would be considered in depth later in the year.
The paper presented by *** was still being developed, and did not yet give an adequate impression of the strength and quality of this business.
The business had grown significantly in recent years: it was the largest provider of home insurance in the UK, and the second largest provider of credit insurance. Premiums (excluding ***) would be in the region of £1.2 billion in 2002, and profits in the region of £430 million. Other risks were under consideration—including pet, personal accident and health insurance. Products were also now being provided to ***.
The deal with RSA agreed in 2001 would expire in 2006. Volatility had been a disincentive to taking the risk direct in the past. But internalising risk taking/underwriting in the household market would be considered in depth later in the year.
Key strengths of the business included:
an excellent customer service infrastructure;
modern and modular products; and
sophisticated pricing and risk anaiysis capabilities.
4.5 Bank West
The relationship between Bank West and the remainder of the Group had changed significantly in the past several months, but needed to change further. Governance arrangements would be strengthened by:
increased operational links with the Group;
clarification of reporting lines and alignment with HBOS Group policies;
consideration of a proposed Relationship Agreement, that would provide for a disciplined flow of information;
appointment of senior HBOS personnel (***) by Bank West;
further strengthening of the Bank West board; and
For the present *** would remain as Chairman of the Bank West Audit Committee, as well as Chairman of the Board. But this issue would be kept under review.
A paper would be submitted to the HBOS Board on 17 May recommending that further consideration be given to acquisition of the outstanding minority interest in Bank West. This was a condition precedent to tidying up the Group’s Australian businesses, and securing full value for the investment in Bank West, whether the ultimate strategy was to retain or dispose of an interest in Bank West, Initial analysis suggested that acquisition of the minority would enhance Group EPS from year one, and utilise minimal capital. Convincing the market of the wisdom and strategic rationale for this acquisition would still be a challenge.
5. Group Risk
5.1 Governance: Group Functions, Group Programes & Group Finance and Risk—Group
At present, there was no Risk Control Committee covering ‘‘Group”. Group issues were reported directly to the Audit Committee, Whilst this had been the practice previously followed by Halifax, initial evidence suggested that the process was not working well within HBOS, The focus on “risk” within Group was less structured than in business areas.
Various possibilities had been considered, including an all executive Risk Committee that would focus on risk across all Group functions and separating the agenda of the Audit Committee into general and Group issues. But these were not recommended.
Accordingly, although this would exacerbate the commitments required of non-executive directors, the preferred solution was to create a new Group Risk Control Committee that would include NED representation.
5.2 Risk Governance for Non-London Treasury Functions
A review had been undertaken of those Treasury operations within the Group that were outside the direct control of the London Treasury Services operation. It was clear that Governance and Operational Control procedures needed to be strengthened. Although this was at variance with the Group’s Operating Philosophy, the best and agreed approach would be to create a consolidated Group Treasury operation, controlled from London, to provide a seamless Group-wide Treasury function providing services to the HBOS Group. At present this would exclude the Bank West Treasury Operation, however.
HBOSTS would produce a business plan supporting establishment of a Group wide operation, leading towards target implementation of the consolidation by January 2003. As an interim measure, governance arrangements relating to the existing non-London Treasury operations would be clarified and documented.
The continuing need for non UK Treasury operations would be kept under review. Some non UK capabilities were required to increase global funding and liquidity management. The review would look at what made sense globally, and the necessary infrastructure to support it. Non UK operations should have funding and other limits appropriate to their local funding role, with other issues being dealt with from London.
5.3 Group Financial Risk Management
An update in relation to the role of Group Financial Risk Management, since merger, was noted. Significant progress had been made since the merger—for example in relation to asset and liability management, insurance and investment risk, and credit risk—although more remained to be done. Communication and understanding of the role of GFR also needed to improve. An informal grouping of financial risk management professionals from across the Group would be established to increase understanding of their respective roies and enhance future bilateral working relationships.
A financial risk review programme would also be devised to enable GFR to fulfil its role of oversight and functional leadership, and to be in a position to give an independent view of the effectiveness of FRM throughout the Group.
The Board had requested further clarification in relation to the Group’s “risk appetite11. Work was underway to define the appetite in a pragmatic and reasonable way. GFR and their divisional equivalents would pursue this matter through the relevant executive Risk Control Committees and submit a proposal to GMB during July.
The current credit approval process needed to change. It was not fully effective and there was a need to promote working relationships. The proposal that GFR would comment on all proposals post approval was the preferred alternative.
6. Insurance & 1nvestment
6.1 Development of a Shared Service Capability for Insurance and Investment Division
*** updated GMB with progress made since January in relation to development of a shared service capability for IID brand businesses within the HBOS life and pensions sub group. The clear objective was for this servicing capability to be a high quality, low cost, provider to all HBOS Life and Pensions brands—to support these businesses in maintaining a leading and differentiating position in their core markets.
Development of this capability was essential, and fully supported. The key risks related to implementation. There would be significant challenges in keeping business momentum and direction on track whilst delivering such large and complex change initiatives across a number of separate sites. Basing the solution around a known system platform, known processes, and existing teams, would undoubtedly assist. But the quality of project management would remain key. The current proposal was that *** would spend up to 50% of his time on this project, but that might not be sufficient.
The biggest sensitivity related to the possibility that it might not be possible to migrate ail legacy products. Partial (70%) migration of *** legacy products would damage the internal rate of return, and this issue needed to be managed proactively. The other identified sensitivities had significantly lesser impacts on IRR.
7. Treasury
7.1 Grampian Conduit
A proposal to establish a second asset backed commercial paper conduit, similar to the existing Pennine vehicle, was considered and agreed. Establishment of a new conduit was necessary as Pennine had reached its natural maximum size. The new vehicle, Grampian, would operate in a similar manner to Pennine. Its formation was a key element of the Treasury Business Plan. The aim would be to create a total programme amount of up to US $6 billion in Grampian (Pennine had a total programme of about US $12 billion). There would be some extension in the range of permitted assets: Grampian would be allowed to buy assets rated as low as A2. In practice, Pennine only held assets rated Aaa.
8. Business Update
8.1 Insurance & Investment Division
Sales within General Insurance continued to be fine, as did bancassurance sales. Sales through IFA’s remained slow. SJPC was now significantly behind 2001 sales levels. Profits would be okay, but further efforts were
required to improve business levels through the IFA channel, and in SJPC. Continuing stock market weakness increased the challenges faced by the division. This issue would need to be looked at more closely later in the year, if stock market levels did not recover.
8.2 Treasury
The Treasury business had had a very strong first quarter, and this had continued into April, Business was now ahead of the Business Plan, and well ahead of 2001. Court approval had now been received to enable the FSMA transfer of the Halifax Treasury business to Treasury Services. The launch date was scheduled for 1st June. The process of securing consents from the holders of the Halifax Group Tier 1 preferred securities was continuing.
8.3 Corporate Banking
The business remained on track. Deal flow continued to be strong. There were no significant credit issues as yet. There were some anecdotal evidence that the downturn had “bottomed out”.
8.4 Retail
Sales had continued to be strong during April particularly in relation to mortgages, bancassurance and credit cards. The card business was performing particularly strongly. The level of outstandings was improving, and credit issues were under control. Action might need to be taken later in the year in relation to the savings business if there were no Bank of England rate rises. The mortgage market remained very strong, but the position at Intelligent Finance needed careful consideration.
8.5 Business Banking
The Division would be slightly ahead of plan in April. Volumes, work in progress and credit quality all remained satisfactory. Progress was being made in relation to the recruitment of “hunters”. Although the number recruited was still behind schedule, the amount of business actually written looked fine. Lead generation had begun to slow but levels of conversion and business written were strong. Deposit balances were below the levels expected, however. Discussions with *** had stalled. JRC had met *** to discuss progress. There was a fundamental difference of view between the two groups as to the future outlook and strategy for these businesses. The likely result would be that nothing would be done for some time. The position would be kept under review and sensible working arrangements would need to be put in place to cover the interim situation.
9. Other Business
9.1 Draft Board Agenda: 15 May 2002
The Board Agenda was agreed subject to minor amendments.
10. Appendix
The following papers, submitted to GMB for information/comment only would be submitted to the Board at its meeting on 17 May:
Halifax pic QUEST;
Annual General Meetings 2002:
Bank of Scotland Halifax Group pic Halifax pic
Terms & Conditions/Pensions Update
11. Next Meeting
The next meeting of the Group Management Board would be held on 27 May 2002 at 11.00 am at The Mound, Edinburgh.