As filed with the Securities and Exchange Commission on 10 March 201725 February 2020
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 20-F
¨o REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR 12(g) OF THE SECURITIES EXCHANGE ACT OF 1934
OR
x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended 31 December 20162019
OR
¨o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
OR
¨o SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 001-15246
LLOYDS BANKING GROUP plc
(previously Lloyds TSB Group plc)
(Exact name of Registrant as Specified in Its Charter)
Scotland
(Jurisdiction of Incorporation or Organization)
25 Gresham Street
London EC2V 7HN
United Kingdom
(Address of Principal Executive Offices)
Malcolm Wood,Kate Cheetham, Company Secretary
Tel +44 (0) 20 7356 1274,2104, Fax +44 (0) 20 7356 1808
25 Gresham Street
London EC2V 7HN
United Kingdom
(Name, telephone, e-mail and/or facsimile number and address of Company contact person)
Securities registered or to be registered pursuant to Section 12(b) of the Act:
Title of each class | Trading symbol | Name of each exchange on which registered |
Ordinary shares of nominal value 10 pence each, represented by American Depositary Shares | The New York Stock Exchange | |
$1,500,000,000 4.344% Subordinated Securities due in 2048 | LYG48A | The New York Stock Exchange |
$824,033,000 5.3% Subordinated Securities due 2045 | LYG45 | The New York Stock Exchange |
$1,750,000,000 3.574% Senior Notes due in 2028 (callable in 2027) | LYG28A | The New York Stock Exchange |
$1,500,000,000 4.375% Senior Notes due 2028 | LYG28B | The New York Stock Exchange |
$1,250,000,000 4.55% Senior Notes due 2028 | LYG28C | The New York Stock Exchange |
$1,250,000,000 3.75% Senior Notes due 2027 | LYG27 | The New York Stock Exchange |
$1,500,000,000 4.65% Subordinated Securities due 2026 | LYG26 | The New York Stock Exchange |
$1,500,000,000 4.45% Senior Notes due 2025 | LYG25A | The New York Stock Exchange |
$1,327,685,000 4.582% Subordinated Securities due 2025 | LYG25 | The New York Stock Exchange |
$1,250,000,000 3.5% Senior Notes due 2025 | LYG25 | The New York Stock Exchange |
$1,000,000,000 3.90% Senior Notes due 2024 | LYG24A | The New York Stock Exchange |
$1,000,000,000 4.5% Subordinated Securities due 2024 | LYG24 | The New York Stock Exchange |
$1,500,000,000 2.858% Senior Notes due 2023 | LYG23B | The New York Stock Exchange |
$1,750,000,000 4.05% Senior Notes due 2023 | LYG23A | The New York Stock Exchange |
$2,250,000,000 2.907% Senior Notes due 2023 (callable in 2022) | LYG23 | The New York Stock Exchange |
$1,500,000,000 3.0% Senior Notes due 2022 | LYG22 | The New York Stock Exchange |
$1,500,000,000 2.25% Senior Notes due 2022 | LYG22 | The New York Stock Exchange |
$1,250,000,000 3.3% Senior Notes due 2021 | LYG21A | The New York Stock Exchange |
$1,000,000,000 Floating Rate Senior Notes due 2021 | LYG21B | The New York Stock Exchange |
$500,000,000 Floating Rate Senior Notes due 2021 | LYG21A | The New York Stock Exchange |
$1,000,000,000 3.1% Senior Notes due 2021 | LYG21 | The New York Stock Exchange |
$2,500,000,000 6.375% Senior Notes due 2021 | LYG21 | The New York Stock Exchange |
$1,000,000,000 2.7% Senior Notes due 2020 | LYG20A | The New York Stock Exchange |
$1,000,000,000 2.4% Senior Notes due 2020 | ||
The New York Stock Exchange |
Securities registered or to be registered pursuant to Section 12(g) of the Act:
None
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act:
7.50% Fixed Rate Reset Additional Tier 1 Perpetual Subordinated Contingent Convertible Securities
6.75% Callable Fixed Rate Reset AT1 Perpetual Subordinated Contingent Convertible Securities
5.125% Callable Fixed Rate Reset AT1 Perpetual Subordinated Contingent Convertible Securities
The number of outstanding shares of each of Lloyds Banking Group plc’s classes of capital or common stock as of 31 December 20162019 was:
Ordinary shares, nominal value 10 pence each | |||
70,052,557,838 | |||
Preference shares, nominal value 25 pence each | 412,201,226 | ||
Preference shares, nominal value 25 cents each | 809,160 | ||
Preference shares, nominal value 25 euro cents each | Nil |
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yesx No¨o
If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
Yes¨o Nox
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.
Yesx No¨o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted
and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months(or (or for such shorter period that the registrant was required to submit and post such files).
Yes¨x No¨o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. filer, or an emerging growth company.
See definitionthe definitions of “large accelerated filer,” “accelerated filer,” and large accelerated filer”“emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filerx Accelerated filer¨o Non-Accelerated filer¨o Emerging Growth Company o
If an emerging growth company that prepares its financial statements in accordance with U.S. GAAP, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards†provided pursuant to Section 13(a) of the Exchange Act.
Yes o No o
Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements including in this filing:
U.S. GAAP¨o International Financial Reporting Standards as issued by the International Accounting Standards Boardx Other¨o
If ‘Other’ has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow:
Item 17¨o Item o18¨
If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes¨o Nox
†The term “new or revised financial accounting standard” refers to any update issued by the Financial Accounting Standards Board to its Accounting Standards Codification after April 5, 2012.
TABLE OF CONTENTS
In this annual report, references to the ‘Company’ are to Lloyds Banking Group plc; references to ‘Lloyds Banking Group’, ‘Lloyds’ or the ‘Group’ are to Lloyds Banking Group plc and its subsidiary and associated undertakings; references to ‘Lloyds Bank’ are to Lloyds Bank plc (previously Lloyds TSB Bank plc);plc; and references to the ‘consolidated financial statements’ or ‘financial statements’ are to Lloyds Banking Group’s consolidated financial statements included in this annual report. References to the ‘Financial Conduct Authority’ or ‘FCA’ and to the ‘Prudential Regulation Authority’ or ‘PRA’ are to the United Kingdom (the UK) Financial Conduct Authority and the UK Prudential Regulation Authority. References to the ‘Financial Services Authority’ or ‘FSA’ are to their predecessor organisation, the UK Financial Services Authority.
The consolidated financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB). Certain disclosures required by IFRS have been included in sections highlighted as ‘Audited’ within the Operating and financial review and prospects section of this Annual Report on Form 20-F on pages 15 to 112. Disclosures marked as audited indicate that they are within the scope of the audit of the financial statements taken as a whole; these disclosures are not subject to a separate opinion.
In this annual report, amounts described as ‘statutory’ refer to amounts included within the Group’s consolidated financial statements.
Lloyds Banking Group publishes its consolidated financial statements expressed in British pounds (‘pounds sterling’, ‘sterling’ or ‘£’), the lawful currency of the UK. In this annual report, references to ‘pence’ and ‘p’ are to one-hundredth of one pound sterling; references to ‘US dollars’, ‘US$’ or ‘$’ are to the lawful currency of the United States (the US); references to ‘cent’ or ‘c’ are to one-hundredth of one US dollar; references to ‘euro’ or ‘€’ are to the lawful currency of the member states of the European Union (EU) that have adopted a single currency in accordance with the Treaty establishing the European Communities, as amended by the Treaty of European Union; references to ‘euro cent’ are to one-hundredth of one euro; and references to ‘Japanese yen’, ‘Japanese ¥’ or ‘¥’ are to the lawful currency of Japan. Solely for the convenience of the reader, this annual report contains translations of certain pounds sterling amounts into US dollars at specified rates. These translations should not be construed as representations by Lloyds Banking Group that the pounds sterling amounts actually represent such US dollar amounts or could be converted into US dollars at the rate indicated or at any other rate. Unless otherwise stated, the translations of pounds sterling into US dollars have been made at the noon buying rate in New York City for cable transfers in pounds sterling as certified for customs purposes by the Federal Reserve Bank of New York (the Noon Buying Rate) in effect on 31 December 2016, which was $1.2337 = £1.00.2019. The Noon Buying Rate on 31 December 20162019 differs from certain of the actual rates used in the preparation of the consolidated financial statements, which are expressed in pounds sterling, and therefore US dollar amounts appearing in this annual report may differ significantly from actual US dollar amounts which were translated into pounds sterling in the preparation of the consolidated financial statements in accordance with IFRS.
1 |
Lloyds Banking Group is a leading provider of financial services to individual and business customers in the UK. At 31 December 2016, total2019, Lloyds Banking GroupGroup’s total assets were £817,793£833,893 million and Lloyds Banking Group had 70,43363,069 employees (on a full-time equivalent basis). Lloyds Banking Group plc’s market capitalisation at that date was £44,616£43,783 million. The Group reported a profit before tax for the 12 months to 31 December 20162019 of £3,888£4,393 million, and its capital ratios at that date were 21.221.3 per cent for total capital, 16.816.7 per cent for tier 1 capital and 13.413.6 per cent for common equity tier 1 capital.
Set out below is the Group’s summarised income statement for each of the last threetwo years:
2016 | 2015 | 2014 | ||||||||||||||||||
£m | £m | £m | 2019 £m | 2018 £m | ||||||||||||||||
Net interest income | 9,274 | 11,318 | 10,660 | 10,180 | 13,396 | |||||||||||||||
Other income | 30,337 | 11,832 | 19,232 | 32,176 | 8,695 | |||||||||||||||
Total income | 39,611 | 23,150 | 29,892 | 42,356 | 22,091 | |||||||||||||||
Insurance claims | (22,344 | ) | (5,729 | ) | (13,493 | ) | (23,997 | ) | (3,465 | ) | ||||||||||
Total income, net of insurance claims | 17,267 | 17,421 | 16,399 | 18,359 | 18,626 | |||||||||||||||
Operating expenses | (12,627 | ) | (15,387 | ) | (13,885 | ) | (12,670 | ) | (11,729 | ) | ||||||||||
Trading surplus | 4,640 | 2,034 | 2,514 | 5,689 | 6,897 | |||||||||||||||
Impairment | (752 | ) | (390 | ) | (752 | ) | (1,296 | ) | (937 | ) | ||||||||||
Profit before tax | 3,888 | 1,644 | 1,762 | 4,393 | 5,960 |
Lloyds Banking Group’s main business activities are retail and commercial banking and long-term savings, protection and investment.investment and it operates primarily in the UK. Services are offered through a number of well recognised brands including Lloyds Bank, Halifax, Bank of Scotland and Scottish Widows, and through a range of distribution channels including the largest branch network and digital bank in the UK.
At 31 December 2016,2019, the Group’s fourthree primary operating divisions, which are also financial reporting segments, were: Retail; Commercial Banking; Consumer Finance and Insurance.Insurance and Wealth. Retail provides banking, mortgages, personal loans, motor finance, credit cards and other financial services to personal and small business customers in the UK.customers. Commercial Banking provides banking and related services to business clients, from SMEssmall and medium-sized entities (SMEs) to large corporates. Consumer Finance provides a range of products including personal loans, motor finance, credit cards,Insurance and European mortgages and deposit taking. InsuranceWealth provides long-term savings, protection and investment products as well as general insurance products in the UK.products.
Profit before tax is analysed on pages 1317 to 1622 on a statutory basis and, in order to provide a more comparable representation of business performance offor the Group’s segments, on pages 24 to 3430 on an underlying basis. The key principles adopted in the preparation of this basis of reporting are described on page 24. The Group Executive Committee, which is the chief operating decision maker for the Group, reviews the Group’s internal reporting based around these segments (which reflect the Group’s organisational and management structures) in order to assess performance and allocate resources; this reporting is on an underlying basis. IFRS 8,Operating Segmentsrequires that the Group presents its segmental profit before tax on the basis reviewed by the chief operating decision maker that is most consistent with the measurement principles used in measuring the Group’s statutory profit before tax. Accordingly, the Group presents its segmental underlying basis profit before tax in note 4 to the financial statements in compliance with IFRS 8. The table below shows the results of Lloyds Banking Group’s segments in the last threetwo fiscal years, and their aggregation. Further information on non-GAAP measures and the reconciliations required by the Securities and Exchange Commission’s Regulation G are set out on pages F-19F-25 to F-22.F-29.
2016 | 2015 | 1 | 2014 | 1 | ||||||||||||||||
£m | £m | £m | 2019 £m | 2018 £m | 1 | |||||||||||||||
Retail | 3,003 | 3,091 | 2,739 | 3,839 | 4,211 | |||||||||||||||
Commercial Banking | 2,468 | 2,478 | 2,256 | 1,777 | 2,183 | |||||||||||||||
Consumer Finance | 1,283 | 1,381 | 1,449 | |||||||||||||||||
Insurance | 837 | 962 | 922 | |||||||||||||||||
Insurance and Wealth | 1,101 | 927 | ||||||||||||||||||
Other | 276 | 200 | 390 | 814 | 745 | |||||||||||||||
Profit before tax – underlying basis | 7,867 | 8,112 | 7,756 | 7,531 | 8,066 |
1 | Segmental analysis restated, as explained on page |
Lloyds Banking Group plc was incorporated as a public limited company and registered in Scotland under the UK Companies Act 1985 on 21 October 1985 with the registered number 95000. Lloyds Banking Group plc’s registered office is The Mound, Edinburgh EH1 1YZ, Scotland, and its principal executive offices in the UK are located at 25 Gresham Street, London EC2V 7HN, United Kingdom, telephone number + 44 (0) 20 7626 1500.
2 |
SELECTED CONSOLIDATED FINANCIAL DATA
The financial information set out in the tables below has been derived from the annual reports and accounts of Lloyds Banking Group plc for each of the past five years adjusted, where restatement was required, for subsequent changes in accounting policy and presentation. The financial statements for each of the years shown have been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm.
2016 | 2015 | 2014 | 2013 | 2012 | 1 | 2019 | 20181,2 | 20171,2,3 | 20161,2,3 | 20151,2,3 | ||||||||||||||||||||||||||||||
Income statement data for the year ended 31 December (£m) | ||||||||||||||||||||||||||||||||||||||||
Total income, net of insurance claims | 17,267 | 17,421 | 16,399 | 18,478 | 20,517 | 18,359 | 18,626 | 18,659 | 17,267 | 17,421 | ||||||||||||||||||||||||||||||
Operating expenses | (12,627 | ) | (15,387 | ) | (13,885 | ) | (15,322 | ) | (15,974 | ) | (12,670 | ) | (11,729 | ) | (12,346 | ) | (12,627 | ) | (15,387 | ) | ||||||||||||||||||||
Trading surplus | 4,640 | 2,034 | 2,514 | 3,156 | 4,543 | 5,689 | 6,897 | 6,313 | 4,640 | 2,034 | ||||||||||||||||||||||||||||||
Impairment losses | (752 | ) | (390 | ) | (752 | ) | (2,741 | ) | (5,149 | ) | (1,296 | ) | (937 | ) | (688 | ) | (752 | ) | (390 | ) | ||||||||||||||||||||
Profit (loss) before tax | 3,888 | 1,644 | 1,762 | 415 | (606 | ) | ||||||||||||||||||||||||||||||||||
Profit (loss) for the year | 2,164 | 956 | 1,499 | (802 | ) | (1,387 | ) | |||||||||||||||||||||||||||||||||
Profit (loss) for the year attributable to ordinary shareholders | 1,651 | 466 | 1,125 | (838 | ) | (1,471 | ) | |||||||||||||||||||||||||||||||||
Dividends for the year2,3 | 2,175 | 1,962 | 535 | – | – | |||||||||||||||||||||||||||||||||||
Profit before tax | 4,393 | 5,960 | 5,625 | 3,888 | 1,644 | |||||||||||||||||||||||||||||||||||
Profit for the year | 3,006 | 4,506 | 3,999 | 2,255 | 1,036 | |||||||||||||||||||||||||||||||||||
Profit for the year attributable to ordinary shareholders | 2,459 | 3,975 | 3,494 | 1,742 | 546 | |||||||||||||||||||||||||||||||||||
Dividends for the year4,5 | 2,375 | 2,288 | 2,195 | 2,175 | 1,962 | |||||||||||||||||||||||||||||||||||
Balance sheet data at 31 December (£m) | ||||||||||||||||||||||||||||||||||||||||
Share capital | 7,146 | 7,146 | 7,146 | 7,145 | 7,042 | 7,005 | 7,116 | 7,197 | 7,146 | 7,146 | ||||||||||||||||||||||||||||||
Shareholders’ equity | 42,670 | 41,234 | 43,335 | 38,989 | 41,896 | 41,697 | 43,434 | 43,551 | 42,670 | 41,234 | ||||||||||||||||||||||||||||||
Other equity instruments | 5,355 | 5,355 | 5,355 | – | – | 5,906 | 6,491 | 5,355 | 5,355 | 5,355 | ||||||||||||||||||||||||||||||
Customer deposits | 415,460 | 418,326 | 447,067 | 439,467 | 426,216 | 421,320 | 418,066 | 418,124 | 415,460 | 418,326 | ||||||||||||||||||||||||||||||
Subordinated liabilities | 19,831 | 23,312 | 26,042 | 32,312 | 34,092 | 17,130 | 17,656 | 17,922 | 19,831 | 23,312 | ||||||||||||||||||||||||||||||
Loans and advances to customers | 457,958 | 455,175 | 482,704 | 492,952 | 516,764 | 494,988 | 484,858 | 472,498 | 457,958 | 455,175 | ||||||||||||||||||||||||||||||
Total assets1 | 817,793 | 806,688 | 854,896 | 842,380 | 933,064 | |||||||||||||||||||||||||||||||||||
Total assets | 833,893 | 797,598 | 812,109 | 817,793 | 806,688 | |||||||||||||||||||||||||||||||||||
Share information | ||||||||||||||||||||||||||||||||||||||||
Basic earnings (loss) per ordinary share | 2.4p | 0.8p | 1.7p | (1.2 | )p | (2.1 | )p | |||||||||||||||||||||||||||||||||
Diluted earnings (loss) per ordinary share | 2.4p | 0.8p | 1.6p | (1.2 | )p | (2.1 | )p | |||||||||||||||||||||||||||||||||
Basic earnings per ordinary share | 3.5p | 5.5p | 4.9p | 2.4p | 0.8p | |||||||||||||||||||||||||||||||||||
Diluted earnings per ordinary share | 3.4p | 5.5p | 4.8p | 2.4p | 0.8p | |||||||||||||||||||||||||||||||||||
Net asset value per ordinary share | 59.8p | 57.9p | 60.7p | 54.6p | 59.5p | 59.5p | 61.0p | 60.5p | 59.8p | 57.9p | ||||||||||||||||||||||||||||||
Dividends per ordinary share2,4 | 3.05p | 2.75p | 0.75p | – | – | |||||||||||||||||||||||||||||||||||
Equivalent cents per share2,4,5 | 3.84c | 4.03c | 1.16c | – | – | |||||||||||||||||||||||||||||||||||
Dividends per ordinary share4,6 | 3.37p | 3.21p | 3.05p | 3.05p | 2.75p | |||||||||||||||||||||||||||||||||||
Equivalent cents per share6,7 | 4.33c | 4.14c | 4.06c | 3.95c | 4.03c | |||||||||||||||||||||||||||||||||||
Market price per ordinary share (year end) | 62.5p | 73.1p | 75.8p | 78.9p | 47.9 | p | 62.5p | 51.9p | 68.1p | 62.5p | 73.1p | |||||||||||||||||||||||||||||
Number of shareholders (thousands) | 2,510 | 2,563 | 2,626 | 2,681 | 2,733 | 2,361 | 2,404 | 2,450 | 2,510 | 2,563 | ||||||||||||||||||||||||||||||
Number of ordinary shares in issue (millions)6 | 71,374 | 71,374 | 71,374 | 71,368 | 70,343 | |||||||||||||||||||||||||||||||||||
Financial ratios (%)7 | ||||||||||||||||||||||||||||||||||||||||
Dividend payout ratio8 | 124.9 | 359.3 | 45.1 | – | – | |||||||||||||||||||||||||||||||||||
Number of ordinary shares in issue (millions)8 | 70,053 | 71,164 | 71,973 | 71,374 | 71,374 | |||||||||||||||||||||||||||||||||||
Financial ratios (%)9 | ||||||||||||||||||||||||||||||||||||||||
Dividend payout ratio10 | 96.6 | 57.6 | 62.8 | 124.9 | 359.3 | |||||||||||||||||||||||||||||||||||
Post-tax return on average shareholders’ equity | 4.1 | 1.3 | 2.9 | (2.0 | ) | (3.3 | ) | 5.7 | 9.3 | 8.0 | 4.1 | 1.3 | ||||||||||||||||||||||||||||
Post-tax return on average assets | 0.26 | 0.11 | 0.17 | (0.09 | ) | (0.14 | ) | 0.36 | 0.55 | 0.49 | 0.27 | 0.12 | ||||||||||||||||||||||||||||
Average shareholders’ equity to average assets | 5.2 | 5.1 | 4.7 | 4.7 | 4.6 | 5.2 | 5.3 | 5.3 | 5.2 | 5.1 | ||||||||||||||||||||||||||||||
Cost:income ratio9 | 73.1 | 88.3 | 84.7 | 82.9 | 77.9 | |||||||||||||||||||||||||||||||||||
Capital ratios (%)10,11,12 | ||||||||||||||||||||||||||||||||||||||||
Cost:income ratio11 | 69.0 | 63.0 | 66.2 | 73.1 | 88.3 | |||||||||||||||||||||||||||||||||||
Capital ratios (%) | ||||||||||||||||||||||||||||||||||||||||
Total capital | 21.2 | 21.5 | 22.0 | 20.8 | 17.3 | 21.3 | 22.9 | 21.2 | 21.2 | 21.5 | ||||||||||||||||||||||||||||||
Tier 1 capital | 16.8 | 16.4 | 16.5 | 14.5 | 13.8 | 16.7 | 18.2 | 17.2 | 16.8 | 16.4 | ||||||||||||||||||||||||||||||
Common equity tier 1 capital/Core tier 1 capital | 13.4 | 12.8 | 12.8 | 14.0 | 12.0 | 13.6 | 14.6 | 14.1 | 13.4 | 12.8 |
1 | |
2 | The Group has implemented the amendments to IAS |
3 | The Group adopted IFRS 9 and IFRS |
Annual dividends comprise both interim and estimated final dividend payments. The total dividend for the year represents the interim dividend paid during the year and the final dividend, which is paid and accounted for in the following year. | |
Dividends for the year in 2016 | |
Dividends per ordinary share in 2016 | |
Translated into US dollars at the Noon Buying Rate on the date each payment was made, with the exception of the final | |
8 | |
Averages are calculated on a monthly basis from the consolidated financial data of Lloyds Banking Group. | |
Total dividend for the year divided by earnings attributable to ordinary shareholders adjusted for tax relief on distributions to other equity holders. | |
The cost:income ratio is calculated as total operating expenses as a percentage of total income (net of insurance claims). | |
3 |
In this annual report, unless otherwise indicated, all amounts are expressed in pounds sterling. For the months shown the US dollar high and low Noon Buying Rates per pound sterling were:
2017 | 2016 | 2016 | 2016 | 2016 | 2016 | |||||||||||||||||||
January | December | November | October | September | August | |||||||||||||||||||
US dollars per pound sterling: | ||||||||||||||||||||||||
High | 1.26 | 1.27 | 1.25 | 1.28 | 1.34 | 1.33 | ||||||||||||||||||
Low | 1.21 | 1.22 | 1.22 | 1.22 | 1.30 | 1.29 |
For each of the years shown, the average of the US dollar Noon Buying Rates per pound sterling based on the last day of each month was:
2016 | 2015 | 2014 | 2013 | 2012 | ||||||||||||||||||||
US dollars per pound sterling: | ||||||||||||||||||||||||
Average | 1.34 | 1.53 | 1.65 | 1.57 | 1.59 |
On 24 February 2017, the latest practicable date, the US dollar Noon Buying Rate was $1.2499 = £1.00. Lloyds Banking Group makes no representation that amounts in pounds sterling have been, could have been or could be converted into US dollars at that rate or at any of the above rates.
HISTORY AND DEVELOPMENT OF LLOYDS BANKING GROUP
The history of the Group can be traced back to the 18th century when the banking partnership of Taylors and Lloyds was established in Birmingham, England. Lloyds Bank Plc was incorporated in 1865 and during the late 19th and early 20th centuries entered into a number of acquisitions and mergers, significantly increasing the number of banking offices in the UK. In 1995, it continued to expand with the acquisition of the Cheltenham and Gloucester Building Society (C&G).Society.
TSB Group plc became operational in 1986 when, following UK Government legislation, the operations of four Trustee Savings Banks and other related companies were transferred to TSB Group plc and its new banking subsidiaries. By 1995, the TSB Group had, either through organic growth or acquisition, developed life and general insurance operations, investment management activities, and a motor vehicle hire purchase and leasing operation to supplement its retail banking activities.
In 1995, TSB Group plc merged with Lloyds Bank Plc. Under the terms of the merger, the TSB and Lloyds Bank groups were combined under TSB Group plc, which was re-named Lloyds TSB Group plc, with Lloyds Bank Plc, which was subsequently re-named Lloyds TSB Bank plc, the principal subsidiary. In 1999, the businesses, assets and liabilities of TSB Bank plc, the principal banking subsidiary of the TSB Group prior to the merger, and its subsidiary Hill Samuel Bank Limited were vested in Lloyds TSB Bank plc, and in 2000, Lloyds TSB Group acquired Scottish Widows. In addition to already being one of the leading providers of banking services in the UK, the acquisition of Scottish Widows also positioned Lloyds TSB Group as one of the leading suppliers of long-term savings and protection products in the UK.
The HBOS Group had been formed in September 2001 by the merger of Halifax plc and Bank of Scotland. The Halifax business began with the establishment of the Halifax Permanent Benefit Building Society in 1852; the society grew through a number of mergers and acquisitions including the merger with Leeds Permanent Building Society in 1995 and the acquisition of Clerical Medical in 1996. In 1997 the Halifax converted to plc status and floated on the London stock market. Bank of Scotland was founded in July 1695, making it Scotland’s first and oldest bank.
On 18 September 2008, with the support of the UK Government, the boards of Lloyds TSB Group plc and HBOS plc announced that they had reached agreement on the terms of a recommended acquisition by Lloyds TSB Group plc of HBOS plc. The shareholders of Lloyds TSB Group plc approved the acquisition at the Company’s general meeting on 19 November 2008. On 16 January 2009, the acquisition was completed and Lloyds TSB Group plc changed its name to Lloyds Banking Group plc.
Pursuant to two placing and open offers which were completed by the Company in January and June 2009 and the Rights Issue completed in December 2009, the UK Government acquired 43.4 per cent of the Company’s issued ordinary share capital; throughcapital. Following sales of shares in September 2013 and March 2014 and the impactcompletion of a trading planplans with Morgan Stanley & Co. International plc (Morgan Stanley), this had reduced to 9.9 per cent by 31 December 2015.
UKFI announced on 7 October 2016 that it intended to continue to sell Her Majesty’s Treasury’s (HMT) shareholding in Lloyds Banking Group plc over the next 12 months through a pre-arranged trading plan managed by Morgan Stanley. UnderUK Government completed the trading plan, Morgan Stanley has full discretion to effect a measured and orderly sell downsale of its shares in Lloyds BankingMay 2017, returning the Group plc on behalf of HMT. The trading plan commenced on 7 October and will terminate no later than 6 October 2017. HMT has instructed Morgan Stanley that (a) up to but no more than, 15 per cent of the aggregate total trading volume in Lloyds Banking Group plc may be sold over the duration of the trading plan, and (b) shares may not be sold under the trading plan below a certain price per share that UKFI and HMT have determined represents fair value currently and continues to deliver value for money for the UK taxpayer. As at 22 February 2017, HMT owned approximately 2.8 billion ordinary shares in Lloyds Banking Group plc, which represents less than 4 per cent of the issued ordinary share capital.full private ownership.
Pursuant to its decision approving state aid to the Group, the European Commission required the Group to dispose of a retail banking business meeting minimum requirements for the number of branches, share of the UK personal current accounts market and proportion of the Group’s mortgage assets. Following disposals in 2014, the Group retained an interest of approximately 50 per cent in TSB as at 31 December 2014. The Group sold its remaining interest in TSB to Banco de Sabadell (Sabadell) in 2015, with the acquisition becoming unconditional inand all respects onEC state aid requirements were met by 30 June 20152017.
On 1 June 2017, following the receipt of all relevantcompetition and regulatory clearances.approval, the Group acquired 100 per cent of the ordinary share capital of MBNA Limited, which together with its subsidiaries operates a UK consumer credit card business, from FIA Jersey Holdings Limited, a wholly-owned subsidiary of Bank of America.
The Group successfully launched its new non ring-fenced bank, Lloyds Bank Corporate Markets plc in 2018, transferring in the non ring-fenced business from the rest of the Group, thereby meeting its legal requirements under ring-fencing legislation.
On 23 October 2018, the Group announced a partnership with Schroders to create a market-leading wealth management proposition. The three key components of the partnership are: (i) the establishment of a new financial planning joint venture; (ii) the Group taking a 19.9 per cent stake in Schroders high net worth UK wealth management business; and (iii) the appointment of Schroders as the active investment manager of approximately £80 billion of the Group’s insurance and wealth related assets. The joint venture, Schroders Personal Wealth, was launched to the market in the third quarter of 2019. The Group’s interest in the joint venture is 50.1 per cent.
4 |
BUSINESS
STRATEGY OF LLOYDS BANKING GROUP
The Group is a leading provider of financial services to individual and business customers in the UK. The Group’s main business activities are retail and commercial banking, and long-term savings, protection and investment. Services are provided through a number of well recognised brands including Lloyds Bank, Halifax, Bank of Scotland and Scottish Widows and through a range of distribution channels, including the largest branch network and digital bank in the UK.
As the Group looks to the future, it sees the external environment evolving rapidly. Changing customer behaviours, the pace of technological evolution and changes in regulation all present opportunities. Given the Group’s strong capabilities and the significant progress made in recent years, the Group believes that it is in a unique position to compete and win in this environment by developing additional competitive advantages. The Group operates a simple, low-risk, customer focused retailwill continue to transform itself to succeed in this digital world and commercial banking business primarily in the UK. The Group’s corporate strategy is built around being the best bank for individual and business customers across the UK and creating value by investing in areas that make a real difference to these customers.
Following the successful delivery of the Group’s 2011 strategy that underpinned the Group’s low cost, low risk, customer focused, UK retail and commercial banking business model, the Group outlined the next phase of its strategy will ensure that the Group has the capabilities to deliver future success.
STRATEGIC PRIORITIES
In 2018 the Group launched the third phase of its strategic plan. The Group identified four strategic priorities focused on the financial needs and behaviours of the customer of the future: further enhancing the Group’s leading customer experience; further digitising the Group; maximising Group capabilities; and transforming ways of working. The Group will invest more than £3 billion in October 2014. these strategic initiatives through the plan period that will drive the Group’s transformation into a digitised, simple, low risk, customer-focused UK financial services provider.
Delivering a leading customer experience
The Group will drive stronger customer relationships through best in class propositions while continuing to provide the Group’s strategy is focused upon delivering valuecustomers with brilliant servicing and high quality experiencesa seamless experience across all channels. This will include:
– | remaining the number 1 digital bank in the UK with open banking functionality; |
– | unrivalled reach with UK’s largest branch network serving complex needs; and |
– | data-driven and personalised customer propositions. |
Digitising the Group
The Group will deploy new technology to drive additional operational efficiencies that will make banking simple and easier for customers alongside superiorwhilst reducing operating costs, pursuing the following initiatives:
– | deeper end-to-end transformation targeting over 70 per cent of cost base; |
– | simplification and progressive modernisation of our data and IT infrastructure; and |
– | technology enabled productivity improvements across the business. |
Maximising the Group’s capabilities
The Group will deepen customer relationships, grow in targeted segments and sustainablebetter address our customers’ banking and insurance needs as an integrated financial performance within a prudent risk and conduct framework.services provider. This will be achieved through three strategic priorities which will be consistently applied across all divisions:include:
CREATING THE BEST CUSTOMER EXPERIENCE
– | increasing Financial Planning and Retirement (FP&R) open book assets by more than £50 billion by 2020 with more than 1 million new pension customers; |
– | implementing an integrated FP&R proposition with single customer view; and |
– | start-up, SME and Mid Market net lending growth (more than £6 billion in the plan period). |
The Group’s ambition is to create the best customer experience through its multi brand, multi channel approach, combining comprehensive online and mobile capabilities with face to face services. This involves transforming the Group’s digital presence while sustaining extensive customer reach through a branch network focused on delivering high quality service and the right outcomes for customers.
BECOMING SIMPLER AND MORE EFFICIENT
Transforming ways of working
The Group is focused on creating operational capability which is simplermaking its biggest ever investment in people, increasing colleague training and more efficientdevelopment by 50 per cent to 4.4 million hours per annum and will become more responsiveembracing new technology to changingdrive better customer expectations while maintaining its cost leadership amongst UK high street banks. This includes a second phaseoutcomes. The hard work, commitment and expertise of the Simplification programmeGroup’s colleagues has enabled it to achieve run-rate savings of £1.4 billion per annum by the end of 2017. In orderdeliver to achieve these savings,date and the Group will further invest around £2.2 billion over three years on initiativesin capabilities and agile working practices. The Group has already restructured the business and reorganised the leadership team to simplify processes and increase automation.ensure effective implementation of the new strategy.
DELIVERING SUSTAINABLE GROWTH
The Group will seek Group-wide growth opportunities whilst maintaining its prudent risk appetite. This will be achieved by maintaining market leadership in its retail business lines while also focusing on areas where the Group is currently under represented.
SUMMARY
The Group’s purpose is to help Britain prosper. The Group is creating a simpler, more agile, efficient and responsive customer focused organisation which operates sustainably and responsibly. The achievement of our strategy could not happen without the support of our colleagues. We are therefore committed to ‘building the best team’ to create a high performance organisation. The Group believes that the successful execution of its strategy will enable delivery of superior and sustainable returns for shareholders.
BUSINESS AND ACTIVITIES OF LLOYDS BANKING GROUP
At 31 December 2016 theThe Group’s activities wereare organised into fourthree financial reporting segments: Retail; Commercial Banking; Consumer Finance and Insurance.Insurance and Wealth. In 2019 the Group transferred Cardnet, its card payment acceptance service, from Retail into Commerical Banking and also transferred certain equity business from Commercial Banking into Central items. Comparatives have been restated accordingly.
Further information on the Group’s financial reporting segments is set out on pages 2827 to 3429 and in note 4 to the financial statements.
MATERIAL CONTRACTS
The Company and its subsidiaries are party to various contracts in the ordinary course of business.
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BUSINESS
ENVIRONMENTAL MATTERS
MANAGING AND REDUCING Helping the transition to a sustainable low carbon economy
The UK is committed to the vision of a sustainable, low carbon future. The Group’s unique position within the UK economy means that the successful transition to a more sustainable, low carbon economy is of strategic importance.
The Group supports the aims of the 2015 Paris Agreement and the UK Government’s Clean Growth Strategy, which will require a radical reinvention of ways of working, living and doing business including new Government policies and sustainable finance solutions. In 2018 the Group set out its Sustainability Strategy and when reporting on its progress, the Group supports the Taskforce on Climate-Related Financial Disclosure (TCFD) framework, and currently plans to achieve full disclosure by 2022 in line with the TCFD recommendations and the UK Government’s Green Finance Strategy.
OUR ENVIRONMENTAL IMPACTSSTRATEGY
The Group’s abilitygoal and approach
As a signal of the Group’s commitment the Group has set an ambitious goal, working with customers, Government and the market to help Britain prosperreduce the emissions it finances by more than 50 per cent by 2030, supporting the UK’s ambition to be net zero by 2050 and the 2015 Paris Agreement. During the course of 2020, the Group intends to conduct a review of its portfolio to establish its current financed emissions and set appropriate metrics and targets for material sectors.
In order to meet its goal, the Group will:
Identify new opportunities to support customers and clients and finance the UK transition to a low carbon economy | |
Identify and manage material sustainability and climate related risks across the Group, disclosing these, their impacts on the Group and its financial planning processes, in line with the TCFD framework | |
Use the Group’s scale and reach to help drive progress towards a sustainable and resilient UK economy through engagement with customers, communities, industry, Government, shareholders and suppliers | |
Embed sustainability into the way the Group does business and manages its own operations in a more sustainable way |
The Group’s ambition
The Group has set itself seven leadership ambitions to support the UK’s transition to a sustainable future:
Business: become a leading UK commercial bank for sustainable growth, supporting clients to transition to sustainable business models and operations, and to pursue new clean growth opportunities
Homes: be a leading UK provider of customer support on energy efficient, sustainable homes
Vehicles: be a leading UK provider of low emission/green vehicle fleets
Pensions and investments: be a leading UK pension provider that offers customers and colleagues sustainable investment choices, and challenge the companies the Group invests in to behave more sustainably and responsibly
Insurance: be a leading UK insurer in improving the resilience of customers’ lives against extreme weather caused by climate change
Green bonds: be a leading UK bank in the green/sustainable bonds market
The Group’s own footprint: be a leading UK bank in reducing the Group’s own carbon footprint and challenging suppliers to ensure the Group’s own consumption of resources, goods and services is inextricably linkedsustainable
Metrics and targets
In 2018, the Group committed to wider environmental issues. Man-madedevelop a reporting framework to track performance against our sustainability strategy. This includes measures for: the Group’s own energy use, emissions, water and waste; Group and portfolio metrics that drive emission reductions related to financing activity; the amount of green finance provided; and metrics that track climate change risk (including exposure to high carbon sectors and sectors at high risk from climate change).
The complexity of accessing robust data has prevented the Group from setting a full suite of targets in 2019. The Group intends, however, to set appropriate targets during 2020 for material sectors. The Group’s new goal to help reduce the emissions it finances by more than 50 per cent by 2030 will frame the level of ambition across the Group’s targets and metrics.
Extending the Group’s own carbon footprint measurement
The Group met its 2030 carbon reduction target in 2019, having reduced emissions by 63 per cent since 2009. The Group also expanded its Scope 3 emissions measurement to include additional categories of emissions from business travel and colleague commuting. The Group continues to pursue our targets to reduce emissions by 80 per cent by 2050, operational waste by 80 per cent by 2025 (compared to 2014/15) and water consumption by 40 per cent by 2030 (compared to 2009). The Group will be developing new carbon, energy and travel targets in 2020.
Green finance
The Group has provided more than £4.9 billion in green finance since 2016 through its Clean Growth Finance Initiative, Commercial Real Estate Green Loans Initiative, Renewable Energy Financing, and green bonds facilitation. While green loan standards are evolving, the Group has teamed up with leading sustainability consultants when developing green finance products to determine a list of qualifying green criteria. These green finance products support a range of eligible activity including; reducing emissions, improving energy efficiency, reducing waste, improving water efficiency, and funding low carbon transport and renewable energy.
6 |
BUSINESS
Climate risk sectors
In line with TCFD recommendations, the Group has identified its loans and advances to customers in high carbon sectors and a selection of other sectors that will be exposed to transition risk (see table). This is the Group’s initial view and will be reviewed as its transition risk insight develops. The Group continues to work with customers to support transition, taking into account both risks and opportunities.
The Group’s exposure to high carbon sectors is low (less than 0.5 per cent of total loans and advances to customers). In addition, data for these loans and advances is presented at an overall sector level and not all customers in these sectors will have high emissions or be exposed to significant transition risks. For example:
Utilities includes financing to entities that have both renewable energy and non-renewable energy generation. The Group has provided finance for more than 40 renewable energy projects, including supporting projects such as the Neart na Gaoithe offshore wind farm; | |
Real estate and mortgages will include loans and advances supported by assets which have a full range of Energy Performance Certificate (EPC) ratings including energy efficient properties; | |
UK motor finance includes loans and advances for low emission vehicles. | |
Loans and advances to customers in high carbon sectors and selected other sectors subject to transition risks. |
Loans and advances to customers (£m)2 | % of total loans and advances to customers3 | |||||||||||||||||||
Sector/area1 | Dec-2019 | Dec-2018 | Dec-2019 | Dec-2018 | ||||||||||||||||
Energy | Coal Mining | 21 | 28 | <0.01 | % | <0.01 | % | |||||||||||||
Oil and Gas | 1,368 | 975 | 0.27 | % | 0.20 | % | ||||||||||||||
Utilities | (Electric and Gas) | 964 | 1,251 | 0.19 | % | 0.26 | % | |||||||||||||
Total | 2,353 | 2,254 | 0.47 | % | 0.46 | % | ||||||||||||||
Agriculture, Forestry and Fishing | 7,558 | 7,314 | 1.52 | % | 1.50 | % | ||||||||||||||
Construction and Real Estate | 28,228 | 29,470 | 5.67 | % | 6.04 | % | ||||||||||||||
Transportation (Automotive, Aviation, Shipping and Rail) | 4,353 | 5,429 | 0.87 | % | 1.11 | % | ||||||||||||||
Cement, Chemicals and Steel Manufacture | 143 | 250 | 0.03 | % | 0.05 | % | ||||||||||||||
Mortgages | 299,141 | 297,497 | 60.05 | % | 60.96 | % | ||||||||||||||
UK Motor Finance | 15,976 | 14,933 | 3.21 | % | 3.06 | % |
1 | Exposures are based on 2007 Standard Industrial Classification codes except for Agriculture, Forestry and Fishing (based on NACE code A00-0) and Mortgages and UK Motor Finance, where the full portfolios have been used. These exposures will include green and other sustainable finance loans, which support the transition to the low carbon economy. As such, these figures and/or trends should not be read as the only measure to gauge transition risk or financed emissions. |
2 | Disclosures are based on loans and advances to customers on a statutory basis, before allowance for impairment losses. Analysis covers at least 95% of loans and advances and does not include data from the Insurance and Wealth division. |
3 | Total loan and advances to customers were £488,088m at 31 December 2018 and £498,247m at 31 December 2019. |
Risk management
Climate risk is a key emerging risk for the Group. The Group’s approach to identifying and managing climate risk is founded on embedding it into its existing risk management framework, and integrating it through policies, authorities and risk control mechanisms. During 2019, the Group updated its TCFD implementation plan to incorporate Prudential Regulatory Authority (PRA) supervisory expectations and refined deliverables, with further resource invested in the programme.
In 2019, the Group included commentary on climate change risk within its Internal Capital Capacity Adequacy Assessment Process (ICAAP) submission, and in 2020 the Group is building on this through its analysis of initial scenarios to assess the impact on capital requirements. The Group is also engaged in the industry response to the Bank of England Discussion Paper to identify the best approach to explore the financial risks posed by climate change within its 2021 Biennial Exploratory Scenario (BES).
The Group has updated its external sector statements to include positions on six new sectors including manufacturing, automotive, agriculture, animal welfare, fisheries and UNESCO World Heritage Sites. This is in addition to the existing statements on power, coal, mining, oil and gas, forestry and defence. www.lloydsbankinggroup.com/Our-Group/responsible-business/reporting-centre/. The Group’s statement on coal has been updated and made more ambitious. The Group continues with its policy of not financing new coal fired power stations. The Group has now tightened its requirements for providing general banking or funding, and now requires new clients to have less than 30 per cent of their revenue from the operation of coal fired power stations and/or coal mines (previously less than 50 per cent).
In addition, existing customers whose overall operations include coal mining and coal power generation or who supply equipment or services to the sector will be expected to explain how they plan to reduce their reliance on revenue from coal fired power stations and/or coal mines. This includes reducing such revenue to less than 30 per cent by 2025 and, where relevant, to eliminate UK coal power generation in line with UK Government commitments.
Sustainability is now a mandatory part of credit applications in Commercial Banking for facilities greater than £500,000, and we continue to develop sector specific guidance to help relationship managers identify climate risks. The Group will review climate risk as part of the 2020 annual refresh of the Group’s Risk Appetite.
In line with TCFD, the Group is also developing forward-looking scenario analysis, incorporating physical and transition risks, to help identify risks and opportunities over the short, medium and long-term. For example, Commercial Banking are conducting analysis on the real estate sector for business as usual and low carbon transition scenarios and the Insurance business has conducted an initial climate stress test. The Group is working with external consultants to enhance scenario analysis across divisions and will use the outputs to support scenario analysis assessments and inform credit risk appetite decisions and future disclosures.
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BUSINESS
Governance
Given the strategic importance of the Group’s sustainability ambitions, the Group’s governance structure provides clear oversight and ownership of the sustainability strategy. This includes:
Lloyds Banking Group Board Responsible Business Committee Group Executive Committee Group Executive Sustainability Committee Other internal governance Audit Committee Board Risk Committee GEC Risk Committee Divisional Risk Committees Group sustainability team Divisional forums/ working groups Group sustainability forum TCFD working group
– | The Responsible Business Committee (RBC), a sub-committee of the Board, chaired by Sara Weller, Group Non-Executive Director and which includes the Chairman, Lord Blackwell as a member |
– | The Group Executive Sustainability Committee (GESC) which provides oversight and recommends decisions to the Group Executive Committee (GEC) |
– | The TCFD working group, co-chaired by senior executives in risk and sustainability, coordinates the implementation of the TCFD recommendations and supports adherence to key regulatory requirements on climate risk |
– | The Group Chief Risk Officer (CRO) has assumed responsibility for identifying and managing the risks arising from climate change, alongside the CROs for key legal entities |
Our Group sustainability team is supported by divisional sustainability governance forums led by Divisional Managing Directors, ensuring a coordinated approach to oversight, delivery and reporting of the Group’s sustainability strategy.
How we are delivering against our ambitions
In 2019, the Group has focused on developing new products, services and processes to achieve its ambitions, and progress has been recognised.
Lloyds Banking Group achieved the Leadership level in the 2019 Carbon Disclosure Project (CDP) Climate Change survey, scoring an A minus; the highest placed financial services firm on the Fortune Sustainability All Stars list; and won the Real Estate Capital Sustainable Finance Provider of the Year | |
One in 14 electric cars in the UK was supplied by Group subsidiary Lex Autolease in 2019, supported by a £1 million cashback offer on pure electric vehicle (EV) orders, reducing future carbon dioxide emissions by an estimated 28 kilotonnes | |
The Group continues to partner with the Cambridge Institute for Sustainability Leadership to provide high quality training to executives and colleagues in risk management, product development and client facing roles. In 2019, over 800 colleagues were trained, ensuring they are able to support clients on this journey | |
Since 2018 the Group has supported renewable energy projects that power the equivalent of 5.1 million homes, achieving the Group’s Helping Britain Prosper Plan 2020 target a year early |
Evolving our disclosure
In 2020, the Group will continue to review and enhance its methodologies and framework for reporting Environmental, Social and Governance risks. This review will take into account a range of industry guidelines including TCFD, Principles for Responsible Banking, Sustainability Accounting Standards Board (SASB), the evolving World Economic Forum (WEF) ESG standards, and regulatory reporting requirements with a view to further enhancing our disclosures and responding to the evolving needs of both our shareholders and other stakeholders.
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BUSINESS
Initiatives and collaboration
Climate change is a global challenge that requires collaboration across companies and industries to ensure the risks and opportunities can be adequately identified and managed. To support this, the Group participates in several industry initiatives and has signed up to key principles that drive action on climate change and global trends, suchsustainability, including:
United Nations Environment Programme
Finance Initiative (UNEP FI)
The Group became a member of UNEP FI in 2019 and joined its Phase 2 Banking TCFD Pilot.
The Group also became a signatory to the Principles for Responsible Banking and Principles for Sustainable Insurance.
Coalition for Climate Resilient Investment
In September 2019, the Group joined the newly formed coalition that aims to transform infrastructure investment by integrating climate risks into decision making.
University of Cambridge Banking Environment Initiative (BEI) – Bank 2030
The Group has been working with 12 leading banks to develop a roadmap for how the industry can direct capital towards environmentally and socially sustainable economic development.
The Climate Group
In 2019, the Group was one of only a handful of businesses globally to sign up to all three of The Climate Group’s campaigns:
RE100 – a commitment to source 100 per cent of the Group’s electricity from renewable sources by 2030 (achieved in 2019) | |
EP100 – a commitment to set ambitious energy productivity targets by 2030 | |
EV100 – a commitment to accelerate the transition to Electric Vehicles by 2030 |
Climate Financial Risk Forum
In 2019, the Group joined the PRA and FCA’s joint Climate Financial Risk Forum, participating in the Risk Management Working Group that aims to deliver a UK best practice handbook on implementation of the TCFD recommendations.
Greenhouse gas emissions
The Group has voluntarily reported greenhouse gas emissions and environmental performance since 2009, and since 2013 this has been reported in line with the requirements of the Companies Act 2006. Our total emissions, in tonnes of CO2equivalent, are reported in the table below. Deloitte LLP has provided limited level ISAE 3000 (Revised) and ISAE 3410 assurance over selected non-financial indicators as resource scarcity, extreme weathernoted by. Their full, independent assurance statement is available online at www.lloydsbankinggroup.com/our-group/responsible-business
Methodology
The Group follows the principles of the Greenhouse Gas (GHG) Protocol Corporate Accounting and risingReporting Standard to calculate our Scope 1, 2 and 3 emissions from our worldwide operations. The reporting period is 1 October 2018 to 30 September 2019, which is different to that of the Directors’ report (January 2019 – December 2019). This is in line with Regulations in that the majority of the emissions reporting year falls within the period of the Directors’ Report. Emissions are reported based on an operational boundary. The scope of reporting is in line with the GHG Protocol and covers Scope 1, Scope 2 and Scope 3 emissions. Reported Scope 1 emissions cover emissions generated from gas and oil used in buildings, emissions from UK company-owned vehicles used for business travel and emissions from the use of air conditioning and chiller/refrigerant plant. Reported Scope 2 emissions cover emissions generated from the use and purchase of electricity for own use, calculated using both the location and market based methodologies. Reported Scope 3 emissions relate to business travel and commuting undertaken by colleagues and emissions associated with waste and the extraction and distribution of each of our energy sources; electricity, gas and commodity prices, have an impact onoil. In 2019 the Group has expanded Scope 3 emissions as part of our sustainability strategy to increase transparency of reporting of the Group’s its own operationscarbon footprint, and stakeholders. The Group is committed to managing its direct environmental impact and reducing its greenhouse gas emissions. The Group manages its impacts through its Environmental Action Plan, which focuses on reducing risk and creating value through improved efficiency.drive reductions in additional categories of emissions; these include Waste Emissions, Upstream Business Travel (the well to tank emissions of rail, air, road vehicles, hired vehicles); Hotels; Commuting; Tube; Taxis. A detailed definition of these emissions can be found in the Group’s 2019 Reporting Criteria online at www.lloydsbankinggroup.com/our-group/responsible-business
EmissionsIntensity ratio
Legacy | ||||||||||||
Oct 2018 – Sept 2019 | Oct 2017 – Sept 2018 | Oct 2016 – Sept 2017 | ||||||||||
GHG emissions (CO2e) per £m of underlying income (Location Based)1 | 11.5 | 13.0 | 15.5 | |||||||||
GHG emissions (CO2e) per £m of underlying income (Market Based)1 | 5.6 | 6.2 | 16.4 | |||||||||
Expanded | ||||||||||||
Oct 2018 – Sept 2019 | Oct 2017 – Sept 2018 | Oct 2016 – Sept 2017 | ||||||||||
GHG emissions (CO2e) per £m of underlying income (Location Based) – expanded scope2 | 15.8 | 17.3 | – | |||||||||
GHG emissions (CO2e) per £m of underlying income (Market Based) – expanded scope2 | 9.9 | 10.5 | – |
1 | Intensities have been restated for 2016-2017 and 2017-2018 to reflect changes to emissions data only, replacing estimated data with actuals; underlying income figures for those years have not changed. |
2 | Scope 3 emissions have been expanded to include additional elements within the Group’s own operations including emissions from waste, colleague commuting and additional elements of business travel (including taxis, tube, well to tank emissions of business travel and hotels). We have disclosed these figures parallel to legacy scope numbers to allow fairer comparison to numbers previously disclosed and to demonstrate performance versus our previous targets. |
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BUSINESS
This year, the Group’s overall location based carbon emissions measured in COwere 207,768 tCO2equivalent tonnes (CO2e), have decreased by 12.95e; a 14.6 per cent year-on-yeardecrease since 2018 and by 38.8363.1 per cent against the Group’s 2009 baseline (legacy scope). Reductions achieved are attributable to an extensive energy optimisation programme and reductions in business travel, alongside decarbonisation of the UK electricity grid. In addition, there has been a reduction in property foot print and headcount.
The Group’s market based emissions figure is equal to 101,042 tCO2e – a comparative decrease of 12.9 per cent year on year and 82.0 per cent against 2009 baseline. This is mainlyFurther reductions in market emissions are attributable to the reduction in consumptionpurchase of gas and electricity (which make up the largest proportionrenewable energy certificates for each of the Group’s emissions)operations outside of the UK equivalent to their consumption since January 2019. The Group continues to source solar, wind, hydro and the Group’s energy optimisation programme.biomass Renewable Energy Guarantees of Origin (REGOs) equivalent to our total UK electricity consumption.
CO2e emissions
Oct 2015 – | Oct 2014 – | Oct 2013 – Sept | ||||||||||
Sept 2016 | Sept 20151 | 20141 | ||||||||||
Total CO2e tonnes | 344,316 | 395,554 | 437,721 | |||||||||
Total scope 1 | 52,438 | 57,255 | 59,856 | |||||||||
Total scope 2 | 205,127 | 239,721 | 261,623 | |||||||||
Total scope 3 | 86,752 | 98,579 | 116,242 |
CO2E emissions (tonnes) – Expanded scope | ||||||||||||
CO2E Emissions Tonnes: | Oct18 – Sep19 | Oct17 – Sep181 | Oct16 – Sep171 | |||||||||
Total CO2e (market based) | 179,324 | 197,484 | n/a | |||||||||
Total CO2e (location based) | 286,051 | 324,816 | n/a | |||||||||
Total Scope 1 | 47,524 | 49,299 | 51,953 | |||||||||
Total Scope 2 (market based) | 387 | 1,951 | 178,711 | |||||||||
Total Scope 2 (location based) | 107,113 | 129,284 | 162,598 | |||||||||
Total Scope 32 | 131,414 | 146,233 | n/a | |||||||||
CO2E emissions (tonnes) – Legacy scope | ||||||||||||
CO2E Emissions Tonnes: | Oct18 – Sep19 | Oct17 – Sep181 | Oct16 – Sep171 | |||||||||
Total CO2e (market based) | 101,042 | 115,961 | 303,065 | |||||||||
Total CO2e (location based) | 207,768 | 243,293 | 286,892 | |||||||||
Total Scope 3 | 53,131 | 64,710 | 72,876 |
1 | Restated |
Emissions in tonnes CO2e in line with the GHG Protocol Corporate Standard (2004) including revised Scope 2 guidance (2015) which discloses a Market Based figure in addition to the Location Based figure. | |
The measure and reporting criteria for Scope 1, 2, 3 emissions is provided in the Lloyds Banking Group Reporting Criteria statement available online at www.lloydsbankinggroup.com/our-group/responsible-business | |
Scope 1 emissions include mobile and stationary combustion of fuel and operation of facilities. | |
Scope 2 emissions have been calculated in accordance with GHG Protocol guidelines, in both Location and Market Based methodologies. | |
2 | Scope 3 emissions have been expanded to include additional elements within the Group’s own operations including emissions from waste, colleague commuting and additional elements of business travel (including taxis, tube, well to tank emissions of business travel and hotels). We have also disclosed legacy scope numbers to allow fairer comparison to numbers previously disclosed and to demonstrate performance versus our previous targets. |
Indicator is subject to Limited ISAE3000 (revised) and 3410 (ISAE3410) assurance by Deloitte LLP for the 2019 Annual Responsible Business Reporting. Deloitte’s 2019 assurance statement and the 2019 Reporting Criteria are available online at www.lloydsbankinggroup.com/our-group/responsible-business |
Omissions
Emissions associated with joint ventures and investments are not included in tonnes CO2e in line withthis disclosure as they fall outside the GHG Protocol Corporate Standard (2004).scope of our operational boundary. The Group is in the process of transitioning to the revised Scope 2 guidance.
Criteria used to measure and report Scope 1, 2, 3does not have any emissions is provided in the Lloyds Banking Group Reporting Criteria statement available online at www.lloydsbankinggroup.com/ResponsibleBusiness.
Scope 1 emissions include mobile and stationary combustion of fuel and operation of facilities.
Scope 2 emissions have been calculated using a location based methodology, as set out by the GHG Protocol.
Indicator is subject to limited ISAE3000 (revised) assurance by Deloitte LLP for the 2016 Annual Responsible Business Reporting. Deloitte’s 2016 assurance statement and the 2016 Reporting Criteria are available online at www.lloydsbankinggroup.com/RBdownloads.
Supporting the low carbon economy
The Group continues to develop products and services to support customers’ transition to a lower carbon, more resource efficient economy. Since 2014 the Group has launched two Environmental, Social and Governance (ESG) bonds totalling £500 million. Lloyds Bank became the first UK bank to develop an ESG deposit scheme in response to client demand to invest in products that create positive ESG impacts.
In March 2016 Lloyds Bank launched its innovative £1 billion Green Loan Initiative for commercial real estate lending. The initiative – the first of its kind in the UK – provides clients with loans at discounted margins to help incentivise energy efficiency and finance investment in green buildings. The Group completed the first tranche of deals in the second half of 2016, totalling £72 million, and has helped borrowers like HPH, a Bath-based property company with a diverse property portfolio, to fund energy efficiency projects. The Group has now set a target in its Helping Britain Prosper Plan to fund 10 million square feet of commercial real estate to become more energy efficient by 2020, the equivalent of seven London Shards.
In 2016 the Group’s UK-based team was responsible for financing renewable projects with a combined capacity of more than 1.78GW. Globally, the Group’s investments in renewable energy are in excess of 7.4GW in capacity and cover solar, offshore and onshore wind, waste to energy and biomass.
In 2016 Lloyds Bank played a key part in financing a major offshore wind farm off the Norfolk coast, with operations in Grimsby. Race Bank will provide enough energy to power 400,000 homes with a potential capacity of 573MW. It is anticipated the project, when in operation, will create more than 100 jobs associated with buildingimported heat, steam or imported cooling and maintaining turbines for the Humber region.is not aware of any other material sources of omissions from our reporting.
PROPERTIES
At 31 December 2016,2019, Lloyds Banking Group occupied 2,2211,768 properties in the UK. Of these, 543371 were held as freeholds and 1,6781,397 as leasehold. The majority of these properties are retail branches, widely distributed throughout England, Scotland, Wales and Northern Ireland. Other buildings include the Lloyds Banking Group’s head office in the City of London with other customer service and support centres located to suit business needs but clustered largely in eight core geographic conurbations – London, Edinburgh, Glasgow, Midlands (Birmingham), Northwest (Chester and Manchester), West Yorkshire (Halifax and Leeds), South (Brighton and Andover) and Southwest (Bristol and Cardiff).
In addition, there are 155132 properties which are either sub-let or vacant. There are also a number of ATMAutomated Teller Machine (ATM) units situated throughout the UK, the majority of which are held as leasehold. The Group also has business operations elsewhere in the world, primarily holding property on a leasehold basis.
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BUSINESS
LEGAL ACTIONS AND REGULATORY MATTERS
During the ordinary course of business the Group is subject to threatened or actual legal proceedings and regulatory reviews and investigations both in the UK and overseas. Set out below is a summary of the more significant matters.
PROVISIONS FOR FINANCIAL COMMITMENTS AND GUARANTEES
Provisions are recognised for expected credit losses on undrawn loan commitments and financial guarantees.
PAYMENT PROTECTION INSURANCE (EXCLUDING MBNA)
The Group increased the provision for PPI costs by a further £1,350£2,450 million in 2016,the year ended 31 December 2019, bringing the total amount provided to £17,375£21,875 million.
The charge in 2019 was largely due to the provisionsignificant increase in 2016 was largely driven by a higher total volume of complaints expected as a result of the Financial Conduct Authority’s (FCA) industry deadline being extendedPPI information requests (PIRs) leading up to the enddeadline for submission of claims on 29 August 2019, and also reflects costs relating to complaints received from the Official Receiver as well as changesadministration costs. An initial review of around 60 per cent of the five million PIRs received in the run-up to the rulesPPI deadline has been undertaken, with the conversion rate remaining low, and guidance that should apply when firms handle PPI complaints in lightconsistent with the provision assumption of around 10 per cent. The Group has reached final agreement with the UK Supreme Court’s decision in Plevin v Paragon Personal Finance Limited [2014] UKSC 61 (Plevin). Final rules and guidance were published by the FCA on 2 March 2017 (PS 17/3).
BUSINESSOfficial Receiver.
As atAt 31 December 2016,2019, a provision of £2,608£1,578 million remained unutilised relating to complaints and associated administration costs.costs excluding amounts relating to MBNA. Total cash payments were £2,200£2,201 million during the year toended 31 December 2016. Spend continues to reduce following the completion of the re-review of previously handled cases (remediation).
The provision is consistent with total expected reactive complaint volumes of 5.2 million (including complaints falling under the Plevin rules and guidance) in light of the FCA Policy Statement PS 17/3. Weekly complaint levels in the second half of 2016 have been approximately 8,300 versus approximately 8,600 in the first half, and are expected to vary significantly through to the industry deadline, now confirmed to be August 2019.
SENSITIVITIES
The Group estimates that it has sold approximately 16 million PPI policies since 2000. These include policies that were not mis-sold and those that have been successfully claimed upon. Since the commencement of the PPI redress programme in 2011 the Group estimates that it has contacted, settled or provided for approximately 50 per cent of the policies sold since 2000.
Sensitivities
The total amount provided for PPI represents the Group’s best estimate of the likely future cost. However aA number of risks and uncertainties remain in particular with respect to future volumes.including processing the remaining PIRs and outstanding complaints. The cost could differ from the Group’s estimates and the assumptions underpinning them, and could result in a further provision being required. There is significant uncertainty aroundThese may also be impacted by any further regulatory changes and potential additional remediation arising from the impactcontinuous improvement of the regulatory changes, FCA media campaign and Claims Management Companies and customer activity.Group’s operational practices.
Key metrics and sensitivities are highlightedFor every one per cent increase in PIR conversion rate on the table below:
Actuals | Anticipated | |||||
Sensitivities (exclude claims where no PPI policy was held) | to date | future3 | Sensitivity3 | |||
Customer initiated complaints since origination (m)1 | 3.9 | 1.3 | 0.1 = £190m | |||
Average uphold rate per policy2 | 74% | 89% | 1% = £35m | |||
Average redress per upheld policy2 | £1,700 | £1,250 | £100 = £150m | |||
Administrative expenses (£m) | 3,190 | 490 | 1 case = £375 |
PACKAGED BANK ACCOUNTSstock as at the industry deadline, the Group would expect an additional charge of approximately £100 million.
InPAYMENT PROTECTION INSURANCE (MBNA)
MBNA increased its PPI provision by £367 million in the year ended 31 December 20162019 but the Group’s exposure continues to remain capped at £240 million under the terms of the sale and purchase agreement.
OTHER PROVISIONS FOR LEGAL ACTIONS AND REGULATORY MATTERS
In the course of its business, the Group is engaged in discussions with the PRA, FCA and other UK and overseas regulators and other governmental authorities on a range of matters. The Group also receives complaints in connection with its past conduct and claims brought by or on behalf of current and former employees, customers, investors and other third parties and is subject to legal proceedings and other legal actions. Where significant, provisions are held against the costs expected to be incurred in relation to these matters and matters arising from related internal reviews. During the year ended 31 December 2019 the Group charged a further £445 million in respect of legal actions and other regulatory matters, and the unutilised balance at 31 December 2019 was £528 million (31 December 2018: £861 million). The most significant items are as follows.
Arrears handling related activities
The Group has provided an additional £280£188 million in the year ended 31 December 2019 for the costs of identifying and rectifying certain arrears management fees and activities, taking the total provided to date to £981 million. The Group has put in place a number of actions to improve its handling of customers in these areas and has made good progress in reimbursing arrears fees to impacted customers.
Packaged bank accounts
The Group had provided a total of £795 million up to 31 December 2018 in respect of complaints relating to alleged mis-selling of packaged bank accounts, raisingwith no further amounts provided during the total amount provided to £505 million. As atyear ended 31 December 2016, £215 million of the provision remained unutilised. The total amount provided represents the Group’s best estimate of the likely future cost, however a2019. A number of risks and uncertainties remain, in particularparticularly with respect to future volumes.
ARREARS HANDLING RELATED ACTIVITIES
Following a review of the Group’s secured and unsecured arrears handling activities, the Group has putCustomer claims in place a number of actionsrelation to further improve its handling of customersinsurance branch business in these areas. As a result, the Group has provided an additional £261 million in the year ended 31 December 2016 (bringing the total provision to £397 million), for the costs of identifying and rectifying certain arrears management fees and activities. As at 31 December 2016, the unutilised provision was £383 million (31 December 2015: £136 million).
CUSTOMER CLAIMS IN RELATION TO INSURANCE BRANCH BUSINESS IN GERMANY
Germany
The Group continues to receive claims in Germany from customers relating to policies issued by Clerical Medical Investment Group Limited (subsequently renamed Scottish Widows Limited)., with smaller numbers received from customers in Austria and Italy. The German industry-wide issue regarding notification of contractual ‘cooling off’ periods has continued to lead to an increasing number of claims in 2016. Accordingly a provision increase of £94 million was recognised in the year ended2016 and 2017. Whilst complaint volumes have declined, new litigation claim volumes per month have remained fairly constant throughout 2019. Up to 31 December 2016 giving2019 the Group had provided a total provision of £639 million; the remaining unutilised provision as at 31 December 2016 is £168 million (31 December 2015: £124 million).£656 million. The validity of the claims facing the Group depends upon the facts and circumstances in respect of each claim. As a result, the ultimate financial effect, which could be significantly different from the current provision, will be known only once all relevant claims have been resolved.
PROVISIONS FOR OTHER LEGAL ACTIONS AND REGULATORY MATTERSHBOS Reading – review
The Group has now completed its compensation assessment for all 71 business customers within the customer review, with more than 98 per cent of these offers to individuals accepted. In total, more than £100 million in compensation has been offered to victims of the HBOS Reading fraud prior to the publication of Sir Ross Cranston’s independent quality assurance review of the customer review, of which £94 million has so far been accepted, in addition to £9 million for ex-gratia payments and £6 million for the re-imbursements of legal fees. Sir Ross’s review was concluded on 10 December 2019 and made a number of recommendations, including a re-assessment of direct and consequential losses by an independent panel. The Group has committed to implementing Sir Ross’s recommendations in full. In addition, further ex gratia payments of £35,000 have been made to 200 individuals in recognition of the additional delay which will be caused whilst the Group takes further steps to implement Sir Ross’s recommendations. It is not possible to estimate at this stage what the financial impact will be.
InHBOS Reading – FCA investigation
The FCA’s investigation into the courseevents surrounding the discovery of its business,misconduct within the Reading-based Impaired Assets team of HBOS has concluded. The Group is engaged in discussionshas settled the matter with the PRA, FCA and other UK and overseas regulators and other governmental authorities onpaid a rangefine of matters. The Group also receives complaints and claims from customers in connection with its past conduct and, where significant, provisions are held against£45.5 million, as per the costs expected to be incurred as a result of the conclusions reached. In the year ended 31 December 2016, the Group charged an additional £450 million in respect of matters across all divisions. At 31 December 2016, the Group held unutilised provisions totalling £573 million for these other legal actions and regulatory matters.FCA’s final notice dated 21 June 2019.
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INTERCHANGE FEES
With respect to multi-lateral interchange fees (MIFs), the Group is not directly involved in the ongoing investigations and litigation (as described below) which involveinvolves card schemes such as Visa and MasterCard.Mastercard. However, the Group is a membermember/licensee of Visa and MasterCardMastercard and other card schemes. The litigation in question is as follows:
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BUSINESS
Any impact on the Group of the litigation against Visa and Mastercard remains uncertain at this time. Insofar as Visa is required to pay damages to retailers for interchange fees set prior to June 2016, contractual arrangements to allocate liability have been agreed between various UK banks (including the Group) and Visa Inc, completed itsas part of Visa Inc’s acquisition of Visa Europe on 21 Junein 2016. The Group’s share ofThese arrangements cap the sale proceeds comprised cash consideration of approximately £330 million (of which approximately £300 million was received on completion of the sale and £30 million is deferred for three years) and preferred stock, which the Group measures at fair value. The preferred stock is convertible into Class A Common Stock of Visa Inc or its equivalent upon the occurrence of certain events. As part of this transaction, the Group and certain other UK banks also entered into a Loss Sharing Agreement (LSA) with Visa Inc, which clarifies the allocation of liabilities between the parties should the litigation referred to above result in Visa Inc being liable for damages payable by Visa Europe. The maximum amount of liability to which the Group may be subject, under the LSAand this cap is cappedset at the cash consideration which was received by the Group at completion.for the sale of its stake in Visa Europe to Visa Inc may also have recourse to a general indemnity, currently in place under Visa Europe’s Operating Regulations, for damages claims concerning inter or intra-regional MIF setting activities.2016.
LIBOR AND OTHER TRADING RATES
In July 2014, the Group announced that it had reached settlements totalling £217 million (at 30 June 2014 exchange rates) to resolve with UK and US federal authorities legacy issues regarding the manipulation several years ago of Group companies’ submissions to the British Bankers’ Association (BBA) London Interbank Offered Rate (LIBOR) and Sterling Repo Rate. The Swiss Competition Commission concluded its investigation against Lloyds Bank plc in June 2019. The Group continues to cooperate with various other government and regulatory authorities, including the Serious Fraud Office, the Swiss Competition Commission, and a number of US State Attorneys General, in conjunction with their investigations into submissions made by panel members to the bodies that set LIBOR and various other interbank offered rates.
Certain Group companies, together with other panel banks, have also been named as defendants in private lawsuits, including purported class action suits, in the US in connection with their roles as panel banks contributing to the setting of US Dollar, Japanese Yen and Sterling LIBOR and the Australian BBSW Reference Rate. The lawsuits, which contain broadly similar allegations, allege violations of the Sherman Antitrust Act, the Racketeer Influenced and Corrupt Organizations Act and the Commodity Exchange Act, as well as various state statutes and common law doctrines. Certain of the plaintiffs’ claims including those asserted under US anti-trust laws, werehave been dismissed by the US Federal Court for Southern District of New York (the District Court). In November 2015 OTC and exchange-based plaintiffs’ claims against the Group were dismissed for lack of personal jurisdiction. On 20 December 2016, the Federal Court for Southern District of New York dismissed all antitrust class action claims against LBG and its affiliates in the Multi District Litigation arising from the alleged manipulation of USD LIBOR. Further appeals in relation(subject to the anti-trust claims remain possible.appeals).
Certain Group companies are also named as defendants in (i) UK based claimsclaims; and (ii) two Dutch class actions, raising LIBOR manipulation allegationsallegations. A number of the claims against the Group in connection withrelation to the alleged mis-sale of interest rate hedging products.products also include allegations of LIBOR manipulation.
It is currently not possible to predict the scope and ultimate outcome on the Group of the various outstanding regulatory investigations not encompassed by the settlements, any private lawsuits or any related challenges to the interpretation or validity of any of the Group’s contractual arrangements, including their timing and scale.
UK SHAREHOLDER LITIGATION
In August 2014, the Group and a number of former directors were named as defendants in a claim filed in the English High Court by a number of claimants who held shares in Lloyds TSB Group plc (LTSB) prior to the acquisition of HBOS plc, alleging breaches of duties in relation to information provided to shareholders in connection with the acquisition and the recapitalisation of LTSB. Judgment was delivered on 15 November 2019. The Group and former directors successfully defended the claims. The claimants have sought permission to appeal. It is currently not possible to determine the ultimate impact on the Group (if any), but the Group intends to defend the claim vigorously.
FINANCIAL SERVICES COMPENSATION SCHEME
The Financial Services Compensation Scheme (FSCS) is the UK’s independent statutory compensation fund of last resort for customers of authorised financial services firms and pays compensation if a firm is unable or likely to be unable to pay claims against it. The FSCS is funded by levies on the authorised financial services industry. Each deposit-taking institution contributes towards the FSCS levies in proportion to their share of total protected deposits on 31 December of the year preceding the scheme year, which runs from 1 April to 31 March.
Following the default of a number of deposit takers in 2008, the FSCS borrowed funds from HM Treasury to meet the compensation costs for customers of those firms. At 31 March 2016, the end of the latest FSCS scheme year for which it has published accounts, the principal balance outstanding on these loans was £15,655 million (31 March 2015: £15,797 million). Although it is anticipated that the substantial majority of this loan will be repaid from funds the FSCS receives from asset sales, surplus cash flow or other recoveries in relation to the assets of the firms that defaulted, any shortfall will be funded by deposit-taking participants of the FSCS. The amount of future levies payable by the Group depends on a number of factors including the amounts recovered by the FSCS from asset sales, the Group’s participation in the deposit-taking market at 31 December, the level of protected deposits and the population of deposit-taking participants.
TAX AUTHORITIES
The Group provides for potential tax liabilities that may arise on the basis of the amounts expected to be paid to tax authorities including open matters where Her Majesty’s Revenue and Customs (HMRC) adopt a different interpretation and application of tax law. The Group has an open matter in relation to a claim for group relief of losses incurred in its former Irish banking subsidiary, which ceased trading on 31 December 2010. In 2013 HMRC informed the Group that their interpretation of the UK rules permittingwhich allow the offset of such losses denies the claim; ifclaim for group relief of losses. If HMRC’s position is found to be correct, management estimate that this would result in an increase in current tax liabilities of approximately £600£800 million (including interest) and a reduction in the Group’s deferred tax asset of approximately £400£250 million. The Group does not agree with HMRC’s position and, having taken appropriate advice, does not consider that this is a case where additional tax will ultimately fall due. There are a number of other open matters on which the Group is in discussion with HMRC (including the tax treatment of certain costs arising from the divestment of TSB Banking Group plc);, none of thesewhich is expected to have a material impact on the financial position of the Group.
RESIDENTIAL MORTGAGE REPOSSESSIONS
In August 2014, the Northern Ireland High Court handed down judgment in favour of the borrowers in relation to three residential mortgage test cases concerning certain aspects of the Group’s practice with respect to the recalculation of contractual monthly instalments of customers in arrears. The FCA is actively engaged with the industry in relation to these considerations. The Group will respond as appropriate to this and any investigations, proceedings, or regulatory action that may in due course be instigated as a result of these issues. The FCA has issued a consultation on new guidance on the treatment of customers with mortgage payment shortfalls. The guidance covers remediation for mortgage customers who may have been affected by the way firms calculate these customers’ monthly mortgage instalments. The output from this consultation is expected in the first quarter of 2017.
BUSINESS
UPDATE TO THE FINANCIAL CONDUCT AUTHORITY’S ANNOUNCEMENT IN NOVEMBER 2015 ON A DEADLINE FOR PPI COMPLAINTS AND PLEVIN V PARAGON PERSONAL FINANCE LIMITED
On 2 August 2016, the Financial Conduct Authority (FCA) published a further consultation paper (CP16/20: Rules and guidance on payment protection insurance complaints: feedback on CP15/39 and further consultation), following on from the original consultation published in November 2015. The consultation papers proposed the introduction of a two year industry deadline by which consumers would need to make their PPI complaints and rules and guidance that should apply when firms handle PPI complaints in light of the UK Supreme Court’s decision in Plevin v Paragon Personal Finance Limited [2014] UKSC 61. On 2 March 2017 the FCA confirmed that the deadline would be 29 August 2019, and new rules for Plevin would come into force in August 2017.
MORTGAGE ARREARS HANDLING ACTIVITIES – FCA INVESTIGATION
On 26 May 2016, the Group was informed that an enforcement team at the FCA had commenced an investigation in connection with the Group’s mortgage arrears handling activities. This investigationIt is ongoing and it isnot currently not possible to make a reliable assessment of theany liability if any, that may resultresulting from the investigation.
HBOS READING – CUSTOMER REVIEW
The Group is commencing a review into a number of customer cases from the former HBOS Impaired Assets Office based in Reading. This review follows the conclusion of a criminal trial in which a number of individuals,investigation including two former HBOS employees, were convicted of conspiracy to corrupt, fraudulent trading and associated money laundering offences which occurred prior to the acquisition of HBOS by the Group in 2009. The review is at an early stage and it is currently not possible to determine the ultimateany financial impact on the Group.penalty.
CONTINGENT LIABILITIES IN RESPECT OFRELATING TO OTHER LEGAL ACTIONS AND REGULATORY MATTERS
In addition, during the ordinary course of business the Group is subject to other complaints and threatened or actual legal proceedings (including class or group action claims) brought by or on behalf of current or former employees, customers, investors or other third parties, as well as legal and regulatory reviews, challenges, investigations and enforcement actions, both in the UK and overseas. All such material matters are periodically reassessed, with the assistance of external professional advisers where appropriate, to determine the likelihood of the Group incurring a liability. In those instances where it is concluded that it is more likely than not that a payment will be made, a provision is established to management’s best estimate of the amount required at the relevant balance sheet date. In some cases it will not be possible to form a view, for example because the facts are unclear or because further time is needed properly to assess the merits of the case, and no provisions are held in relation to such matters. In these circumstances, specific disclosure in relation to a contingent liability will be made where material. However the Group does not currently expect the final outcome of any such case to have a material adverse effect on its financial position, operations or cash flows.
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BUSINESS
COMPETITIVE ENVIRONMENT
The Group provides financial services to individual and business customers, predominantly in the UK but also overseas. The main business activities of the Group are retail and commercial banking and corporatelong-term savings, protection and investment.
MARKET DYNAMICS
The Group continues to operate in an increasingly competitive environment, driven by regulatory changes, shifting customer behaviours and increasing levels of innovation across the sector.
Across the Group’s traditional business lines, ring-fencing regulation has seen a number of competitors deploy excess liquidity to support asset growth within the UK, specifically within mortgages where customer rates have in the last few years hit record lows. While this is beneficial for customers, this has depressed margins across the UK banking general insurance,sector and life, pensionsmore recently has resulted in some smaller participants stepping back from the market.
Beyond this, digital-only providers have grown their share of the UK market within the past year. This growth has predominantly been driven by neo-banks that provide a more traditional customer offering alongside leading digital functionality and investment provision.are able to target selected customer segments. This is supported by the emergence of marketplace models which enable these providers to collaborate with more specialist fintechs to provide a broader suite of products and financial services, both for personal and business banking customers.
In response, a number of traditional competitors have attempted to replicate the retail bankingsuccess of neo-banks by developing their own digital-only offerings, often under separate and newly created brand names. A number of international peers have also entered the UK market through digital only challengers, taking advantage of the supportive regulatory environment and increasing similarity in customer behaviours across multiple geographies.
Elsewhere, The Group has also started to see the first signs of large technology companies participating in financial services, often partnering with local incumbent banks across different geographies. While the scale of their future ambitions is uncertain at this stage, the power of their brand and large customer bases pose future disruption threats.
THE GROUP’S RESPONSE
The Group continues to respond effectively to the increasingly competitive environment, supported by its significant reach and proven track record of providing products and services that its customers value with this underpinned by significant investment capacity.
Across its core markets such as mortgages, the Group looked to prioritise value while maintaining share and supporting its purpose of Helping Britain Prosper. As marginal players have withdrawn from the market, the Group competeshas more recently strengthened its position, including through the acquisition of Tesco Bank’s mortgage portfolio in September. Alongside this, the Group has also continued to invest in areas where it is under-represented, such as Insurance and Commercial Banking, in line with banksthe commitments outlined at the start of this strategic plan.
In response to changes to the competitive environment from the ongoing shift in digital usage and building societies, major retailersnew entrants, the Group’s multi-channel and internet-only providers. Inmulti-brand offering enables it to continue to effectively meet the mortgage market, competitors includevarying needs of its diverse customer base. The Group’s digital channel is now its most prominent, with 75 per cent of products now originated digitally and we operates the traditional banks and building societies and specialist mortgage providers. The Group competes with both UK and foreign financial institutions along with emerging forms of lending in the commercial banking markets and with bancassurance, life assurance and general insurance companieslargest digital bank in the UK insurance market.with 16.4 million customers and 10.7 million mobile app customers, while its customer satisfaction scores remain strong.
The markets for UK financial services, and the other markets within whichIn addition, the Group operates, areremains committed to retaining the largest branch network in the UK. This allows its customers to interact with the Group in whichever way they prefer, while also providing a human touch point for more complex financial needs. The Group’s network is also key to building and deepening its business banking relationships. The Group sees these as unique competitive advantages, and management expects such competitioncombined with its ongoing commitment to continue or intensify in responseinnovation, provide the Group with a strong platform to competitor behaviour, including non-traditional competitors, consumer demand, technological changes such as the growth of digital banking,maintain relevance and the impact of regulatory actions and other factors.deepen relationships with its customer base.
Link to principal risks
Regulatory and legal | |
Conduct | |
Operational | |
People |
Link to strategic priorities
Delivering a leading customer experience | |
Maximising Group capabilities |
For more information see “See Risk Factors – Business and Economic Riskseconomic risks – The Group’s businesses are conducted in competitive environments, with increased competition scrutiny, and the Group’s financial performance depends upon management’s ability to respond effectively to competitive pressures.
See Regulation – Competition Regulation.
RECENT DEVELOPMENTS
CONSOLIDATED FINANCIAL STATEMENTS SET OUT IN THE GROUP’S ANNUAL REPORT AND ACCOUNTS
The audited consolidated financial statements set forth in the Group’s Annual Reportpressures and Accounts published on 22 February 2017 were approved on 21 February 2017. As discussed in notes 38 and 55 of the audited consolidated financial statements included in this Annual Report on Form 20-F (which were approved on 10 March 2017 and which therefore include the impact of adjusting post balance sheet events up to this date), on 2 March 2017 the FCA confirmed that the deadline by which consumers will need to make their PPI complaints will be 29 August 2019 and that the final rules and guidance that should apply when firms handle PPI complaints in light of Plevin will come into force in August 2017. The Group has reassessed its provisioning in light of this guidance, leading to an additional charge of £350 million, bringing the total charge for the year ended 31 December 2016 to £1,350 million.
scrutiny.”
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OPERATING AND FINANCIAL REVIEW AND PROSPECTSoperating and financial reView and prospects
The results discussed below are not necessarily indicative of Lloyds Banking Group’s results in future periods. The following information contains certain forward looking statements. For a discussion of certain cautionary statements relating to forward looking statements, seeForward looking statements.
The following discussion is based on and should be read in conjunction with the consolidated financial statements and the related notes thereto included elsewhere in this annual report. For a discussion of the accounting policies used in the preparation of the consolidated financial statements, seeAccounting policiesin note 2 to the financial statements.
TABLE OF CONTENTS
OPERATING AND FINANCIAL REVIEW AND PROSPECTSoperating and financial reView and prospects
OVERVIEW AND TREND INFORMATION
MARKET OVERVIEWECONOMY
GIVEN THE GROUP’S UK FOCUS, ITS FINANCIAL PERFORMANCE IS INEXTRICABLY LINKED TO THE PERFORMANCE OF THE UK ECONOMY AND ITS REGULATORY AND COMPETITIVE ENVIRONMENTHighlights
Given our focus on UK customers, the Group’s prospects are closely linked to the fortunes of the UK economy. | |
On the assumption that the global economy remains broadly stable, we would expect the UK economy to grow in 2020 to 2022 at a pace slightly above that achieved in the past two years. | |
Our low risk business model and focus on efficiency positions us well irrespective of macro conditions. Nevertheless, if the economy was to be impacted significantly by crystallisation of either domestic or international risks, Group financial performance would be impacted. |
Overview
ECONOMIC ENVIRONMENTAs a leading UK bank, our prospects are closely aligned to the outlook for the UK economy. Through 2019, the economy continued to show resilience to twin challenges from a slowing global economy and increasing domestic political uncertainty. Although growth of the UK economy has slowed to its weakest since the financial crisis a decade ago, and interest rates remain very low, unemployment has fallen further to a 44 year low and house prices have continued to grow. Barring any sudden shocks to business or consumer confidence, growth is expected to rise mildly in 2020, but international trade-protectionism, the current coronavirus outbreak in China, geo-political instability and the nature of the UK’s exit from the EU, all present risks to that outlook.
RESILIENT UK ECONOMY POST REFERENDUMMarket dynamics
During 20162019, there have been divergent trends between UK businesses and households. For businesses, uncertainty for the domestic political and economic outlook translated into a second consecutive year of reduced investment spending and commercial real estate prices fell slightly. Low productivity growth remains a key challenge for the UK economy, performed broadlyhowever, the flip-side has been buoyant employment. Households continued to increase spending in line2019 as low unemployment boosted pay growth whilst softening global growth reduced inflation.
The UK housing market remained subdued through much of 2019, although falling mortgage rates and the election of a government with a strong Parliamentary majority appeared to be beginning to stimulate the market expectations attowards the startend of the year despiteyear. The level of housing transactions was broadly flat at around 20 per cent lower than the decisionnorm prior to leave2008, with muted price growth.
The economic outlook appears to be improving. Nevertheless, in a long-term context growth is expected to remain subdued and interest rates low - core to that is the European Unionlow rate of productivity growth, with the recent weakness of businesses’ investment spending suggesting a significant improvement is unlikely near-term. Uncertainty for some UK companies may persist in 2020 and significant changesdrag on investment as the UK attempts to negotiate a comprehensive trade deal with the EU to a tight timescale. However, improved pay growth is likely to support households’ spending, and the likely fiscal stimulus is expected to provide some boost to the economy.
The fundamental drivers behind the subdued trends in the political landscape, bothhousing market are expected to remain in place - the UKhigh level of prices relative to incomes that constrains first-time-buyer demand, and abroad.expectations that interest rates could rise from their current low level.
Although post referendum most forecasters were predictingThere are, of course, significant risks to this outlook. The growth-cycle in both of the world’s largest economies - US and China - is in its mature stage, and the coronavirus outbreak and ongoing trade war could complicate the task of policymakers in guiding growth towards a reductionstable and sustainable level. Conversely, high asset prices and corporate debt levels in some countries could be vulnerabilities if an improvement in global economic growth and a resulting rise in practice growth has been resilient andinterest rates causes unexpected shifts in currencies or herd behaviour in financial markets as shareholders change their appetite between different types of investments. Domestically, the future trading relationship with the EU remains uncertain, as does businesses’ response to that uncertainty.
Barring sudden shocks stemming from these challenges, the UK economy is estimatedexpected to have grown by 2grow through 2020 to 2022 at around 1.5 per cent, in 2016, just shy of 2.2slightly above the 1.4 per cent in 2015. Business and consumer confidence did fall immediately post referendum, but most of this has now been recovered and consumers’ retail spending growth actually accelerated inaverage across the months after the referendum.
Manufacturers are expecting exports to benefit from the weaker pound, but confidence in the service sector has weakened. Towards the end of 2016 inflation startedpast two years. The unemployment rate is expected to rise only a little from its current 44 year low. The outlook for the bank rate is uncertain, but capacity constraints and is likely to become a bigger headwind to consumers’ spending growth through the coming year.
UK house prices increased by around 7 per cent during the year, largely driven by strong growth in the first quarter. Prices have continued to increase, albeit at slower rates, during the rest of the year in almost all geographic areas, although the most expensive parts of London have seen some reductions over the last six months.
GROWTH IN THE GROUP’S MARKETS
Household and business deleveraging since 2009 has created capacity for an increased pace of borrowing and the markets in which the Group operates continued to grow in 2016. Specifically:
INTEREST RATES LOW FOR LONGER
Interest rates remain at historical lows with the base rate having been cut to 0.25 per cent in August, and are expected to remain low in the foreseeable future. Market rates currently imply an increase to the base rate to 0.5 per cent during 2018, and to 0.75 per centfiscal boost may support a year later. This flattening of the yield curve along with continued competition has meant bank margins remain under pressure. Significant competition has meant lending rates across the market remain low, particularly in mortgages, although deposit rates have fallen further during the year, offsetting the impact of lower lending rates.
IMPAIRMENT EXPECTED TO REMAIN BENIGN
Improving indebtedness, along with the continued low interest rate environment, is continuing to keep impairment levels low and they remain below through-the-cycle levels.
The expected mild rise in unemployment is likely to lead to anmoderate increase in impairment from the very low level of 2016, but it should remain low over the longer term.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
OUTLOOK FOR 2017
How the economy evolves in 2017 is highly dependent on the type of EU-exit deal that companies expect to be achieved in 2019, how deeply that impacts investment and employment plans, and how much squeezed consumer spending power is offset by improved competitiveness of exports following the fall in sterling. Each of these carries a high degree of uncertainty.
The UK economic environment will also continue to be impacted by global uncertainties including the slowdown in China, European elections and the global trade environment, particularly in light of the recent US presidential election.
The consensus expectation is that UK GDP growth will slow from 2 per cent in 2016 to 1.6 per cent in 2017, and unemployment will remain low, but will rise from 4.9 per cent at the end of 2016 to 5.2 per cent at the end of 2017.interest rates. House prices are expected to continue to rise, by around 3 per cent, supported by the ongoing shortage of property for sale, low levels of housebuilding and exceptionally low interest rates, while commercial real estate prices are expected to fall by 4 per cent.grow mildly.
If the economy evolves in line with this consensus view, the Group would expect growth across its markets to remainThis picture of subdued but broadly stable in aggregate, withgrowth is likely to be reflected across our markets. Consumer credit growth has slowed significantly over the past couple of years after a mild weakening inprior period of strong growth, but we expect that the growth of unsecured consumer credit and commercial real estate lending offset by a marginal rise in mortgages and other lending to businesses.slowdown has now run its course.
Our response
Given our UK focus, the Group’s prospects are closely linked to the performance of the UK economy. Our low risk, stable business model and focus on efficiency positions us well to continue to support customers irrespective of macro conditions.
The preparation of financial statements requires management to make estimates and assumptions that affect amounts reported therein. Due to the inherent uncertainty involved in making estimates, actual results reported in future periods may be based upon amounts which differ from those estimates.
The accounting policies that are deemed critical to the Group’s results and financial position, based upon materiality and significant judgements and estimates, are set out in note 3 to the financial statements.
FUTURE ACCOUNTING DEVELOPMENTS
Future developments in relation to the Group’s IFRS reporting are discussed in note 56 to the financial statements.
OPERATING AND FINANCIAL REVIEW AND PROSPECTSoperating and financial reView and prospects
RESULTS OF OPERATIONS – 2016, 20152019 AND 20142018
SUMMARY
2016 | 2015 | 2014 | ||||||||||||||||||
£m | £m | £m | 2019 £m | 20181 £m | ||||||||||||||||
Net interest income | 9,274 | 11,318 | 10,660 | 10,180 | 13,396 | |||||||||||||||
Other income | 30,337 | 11,832 | 19,232 | 32,176 | 8,695 | |||||||||||||||
Total income | 39,611 | 23,150 | 29,892 | 42,356 | 22,091 | |||||||||||||||
Insurance claims | (22,344 | ) | (5,729 | ) | (13,493 | ) | (23,997 | ) | (3,465 | ) | ||||||||||
Total income, net of insurance claims | 17,267 | 17,421 | 16,399 | 18,359 | 18,626 | |||||||||||||||
Operating expenses | (12,627 | ) | (15,387 | ) | (13,885 | ) | (12,670 | ) | (11,729 | ) | ||||||||||
Trading surplus | 4,640 | 2,034 | 2,514 | 5,689 | 6,897 | |||||||||||||||
Impairment | (752 | ) | (390 | ) | (752 | ) | (1,296 | ) | (937 | ) | ||||||||||
Profit before tax | 3,888 | 1,644 | 1,762 | 4,393 | 5,960 | |||||||||||||||
Taxation | (1,724 | ) | (688 | ) | (263 | ) | ||||||||||||||
Tax expense | (1,387 | ) | (1,454 | ) | ||||||||||||||||
Profit for the year | 2,164 | 956 | 1,499 | 3,006 | 4,506 | |||||||||||||||
Profit attributable to ordinary shareholders | 1,651 | 466 | 1,125 | 2,459 | 3,975 | |||||||||||||||
Profit attributable to other equity holders1 | 412 | 394 | 287 | 466 | 433 | |||||||||||||||
Profit attributable to equity holders | 2,063 | 860 | 1,412 | 2,925 | 4,408 | |||||||||||||||
Profit attributable to non-controlling interests | 101 | 96 | 87 | 81 | 98 | |||||||||||||||
Profit for the year | 2,164 | 956 | 1,499 | 3,006 | 4,506 |
1 | Restated to reflect amendments to IAS 12, see note 1 on page F-13. The impact on the year ended 31 December 2018 was an increase in profit |
2016 COMPARED WITH 2015
During the year ended 31 December 2016,2019, the Group recorded a profit before tax of £3,888£4,393 million, a decrease of £1,567 million, or 26 per cent, compared with a profit before tax in 20152018 of £1,644 million. The result in 2016 included provisions in respect of redress to customers (together with the related administrative costs) associated with both past sales of Payment Protection Insurance and other matters of £2,435 million (of which £2,374 million is charged within operating expenses and £61 million against income) compared to a charge of £4,837 million in the year ended 31 December 2015. Excluding these charges from both years, profit before tax was £158 million, or 2 per cent, lower at £6,323 million in the year ended 31 December 2016 compared to £6,481 million in the previous year. The comparison of results for 2016 to 2015 is also impacted by the sale of TSB Banking Group plc (TSB), which ceased to be consolidated in March 2015, with the sale of the Group’s remaining holding becoming unconditional on 30 June 2015. The Group recognised a net loss of £660 million in 2015, relating to both the disposal of its shareholding and commitments under agreements entered into with TSB. After taking this item into account there has been a reduction in profit before tax of £818£5,960 million.
Total income, increasednet of insurance claims, decreased by £16,461£267 million, or 711 per cent, to £39,611£18,359 million in 20162019 compared with £23,150£18,626 million in 2015,2018, comprising an £18,505a £2,949 million increase in other income, partlynet of insurance claims, more than offset by a decrease of £2,044£3,216 million in net interest income.
Net interest income was £9,274£10,180 million in 2016;2019; a decrease of £2,044£3,216 million, or 1824 per cent compared to £11,318£13,396 million in 2015.2018. There was a negative impact of £1,813 million in 2016 from ansignificant increase in the amounts payable to unit holders in those Open-Ended Investment Companies (OEICs) included in the consolidated results of the Group reflecting different levelsto £1,822 million in 2019 from a credit of investment£844 million in 2018. This increase reflects positive market movements in the year, with both equity and debt investments generating significant gains over 2019 compared to negative returns on the assets held by the OEICs; theduring 2018. The change in population of consolidated OEICs in 20162019 compared to 20152018 did not have a significant impact. After adjusting for this, net interest income was £231£550 million, or 24 per cent lower, of which £592 million related to TSB which was sold in 2015.lower. Average interest-earning assets fellincreased by £14,782 million, or 3 per cent, to £595,003 million in 2019 compared to £580,221 million in 2018 as a result of decreasesincreased holdings of reverse repurchase agreement balances; excluding these balances average interest-earning assets reduced as growth in average UK mortgagetargeted segments has been more than offset by lower balances and in the portfolio of assets which are outside ofclosed mortgage book and the Group’s risk appetite, as well as a reduction of some £5 billion as resultimpact of the sale of TSB,the Irish mortgage portfolio in the first half of 2018. The net interest margin decreased, with the benefit of lower deposit costs, higher Retail current account balances and a benefit from aligning credit card terms, more than offsetting growthoffset by continued pressure on asset margins, particularly in small business and unsecured personal lending. Net interest margin improved, excluding the impact of amounts payable to OEIC unitholders.mortgage market.
Other income, net of insurance claims, was £18,505£2,949 million, or 56 per cent, higher at £30,337£8,179 million in 20162019 compared to £11,832£5,230 million in 2015. Fee and commission income was £207 million, or 6 per cent, lower at £3,045 million compared to £3,252 million in 2015. Fee and commission expense decreased by £86 million, or 6 per cent, to £1,356 million compared with £1,442 million in 2015. The decrease in net fee and commission income largely reflects lower levels of current account and credit and debit card fees as well as reduced income from commercial banking activities. Net2018. There were increased gains within trading income increased by £14,831 million to £18,545 million in 2016 compared to £3,714 million in 2015; this increase reflected an improvement of £14,797 million in gains on policyholder investments held withinassets in the insurance business, as a result of market conditionsperformance over 2016 relative to thosethe year, particularly in 2015. Insurance premium incomeequities, but this was £3,276 million, or 68 per cent, higher at £8,068 million in 2016 compared with £4,792 million in 2015; there was an increase of £3,289 million in life insurance premiums and a £13 million decrease in general insurance premiums. Premium income in 2015 had been reducedoffset by a chargehigher level of £1,959 million relating to the recapture by a third party insurer of a portfolio of policies previously reassured with the Group; excluding this item life insurance premium income was £1,330 million, or 23 per cent, higher at £7,210 million in 2016 compared to £5,880 million in 2015, principally reflecting growth in bulk annuity business. Other operating income was £519 million higher at £2,035 million in 2016 compared to £1,516 million in 2015 as a gain of £484 million on sale of the Group’s investment in VISA Europe and an improvement in income from the value of in-force insurance business more than offset a loss on redemption of the Group’s Enhanced Capital Notes.
claims. Insurance claims expense was £16,615£20,532 million higher at £22,344£23,997 million in 20162019 compared to £5,729£3,465 million in 2015.2018. The insurance claims expense in respect of life and pensions business was £16,619£20,580 million higher at £21,978£23,710 million in 20162019 compared to £5,359£3,130 million in 2015; this increase was matched by a similar improvement in net trading income, reflecting the relative performance of policyholder investments.2018. Insurance claims in respect of general insurance business were £4£48 million or 114 per cent, lower at £366£287 million in 20162019 compared to £370£335 million in 2015.2018, reflecting the run off of closed books.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Fee and commission income was £92 million, or 3 per cent, lower at £2,756 million compared to £2,848 million in 2018 as a result of decreases in commercial and private banking and asset management fees, in part due to the transfer of business into the Group’s new wealth management joint venture. Fee and commission expense decreased by £36 million, or 3 per cent, to £1,350 million compared with £1,386 million in 2018. Insurance premium income was £385 million, or 4 per cent, higher at £9,574 million in 2019 compared with £9,189 million in 2018; there was an increase of £413 million in life insurance premiums only partly offset by a £28 million decrease in general insurance premiums. The increase in life insurance premiums reflects higher levels of bulk annuity deals and the impact of completion of the acquisition of the Zurich workplace pensions business. Other operating income was £988 million, or 51 per cent, higher at £2,908 million in 2019 compared to £1,920 million in 2018, due mainly to an improvement in the income from movement in value of in-force insurance business and the gain on establishment of the wealth management joint venture.
Operating expenses decreasedincreased by £2,760£941 million, or 188 per cent to £12,627£12,670 million in 20162019 compared with £15,387£11,729 million in 2015; the main reason for the decrease being the £2,4632018 reflecting an increase of £1,545 million reduction in charges for redress payments to customers in respect of PPI and other conduct related matters from £4,837£1,350 million in 20152018 to £2,374£2,895 million in 2016 and a charge of £665 million in 2015 in relation to the disposal of TSB.2019. Excluding these itemscharges from both years, operating expenses were £368 million, or 4 per cent, higher at £10,253 million in 2016 compared to £9,885 million in 2015. Staff costs were £140 million, or 3 per cent, higher at £4,817 million in 2016 compared with £4,677 million in 2015; although annual pay rises have been more than offset by the impact of headcount reductions resulting from the sale of TSB and the Group’s rationalisation programmes, there has been an increase in severance costs in relation to restructuring initiatives. Premises and equipment costs were £43£604 million, or 6 per cent, lower at £672£9,775 million in 20162019 compared to £10,379 million in 2018 as a decrease in restructuring costs was coupled with operating cost savings driven by increased efficiency from digitalisation and process improvements. Staff costs were £511 million, or 11 per cent, lower at £4,251 million in 2019 compared with £715£4,762 million in 2015.2018; as a result of decreased pension charges and redundancy costs. Premises and equipment costs were £238 million lower at £491 million in 2019 compared with £729 million in 2018 following the implementation of IFRS 16. Other expenses excluding the charge relating to the TSB disposal, were £3£110 million, higheror 4 per cent, lower at £2,384£2,373 million in 20162019 compared with £2,381£2,483 million in 2015.2018. Depreciation and amortisation costs were £268£255 million, or 1311 per cent, higher at £2,380£2,660 million in 20162019 compared to £2,112£2,405 million in 2015, in line with increased2018 due to the charge for depreciation of the right-of-use asset balances, particularly following implementation of IFRS 16.
17 |
operating lease assets and capitalised software.financial reView and prospects
Impairment losses increased by £362£359 million, or 9338 per cent, to £752£1,296 million in 20162019 compared with £390£937 million in 2015.2018. Impairment losses in respect of loans and advances to customers were £149£285 million, or 3428 per cent, higher at £592£1,307 million in 20162019 compared with £443£1,022 million in 2015;2018; this reflects a lower level of releases and recoveries rather than a deteriorationincrease is primarily driven by two material corporate cases in quality of the underlying portfolio. There was a credit of £13 millionCommercial Banking, along with some weakening in respect of undrawn commitments in 2016, compared to a credit of £55 million in 2015. In addition there was an impairment charge of £173 million in respect of certain equity investments in the Group’s available-for-sale portfolio.used car prices.
In 2016,2019, the Group recorded a tax chargeexpense of £1,724£1,387 million compared to a tax chargeexpense of £688£1,454 million in 2015, an2018. The effective tax rate of 44was 31.6 per cent, compared to the standard UK corporation tax rate of 2019.0 per cent,cent. The higher rate was principally as a result of the banking surcharge, restrictions onincrease in non-deductible conduct provision charges in relation to PPI, partially offset by the deductibilityrelease of conduct provisions and the negative impact on the neta deferred tax asset of both the change in corporation tax rate and the expected utilisation by the life business.liability.
Total assets were £11,105£36,295 million, or 5 per cent, higher at £833,893 million at 31 December 2019 compared to £797,598 million at 31 December 2018. Loans and advances to customers increased in the year by £10,130 million to £494,988 million, compared to £484,858 million at 31 December 2018, as a result of a £14,117 million increase in holdings of reverse repurchase agreement balances, as part of a rebalancing of the Group’s liquid asset portfolio. Adjusting for this, loans and advances to customers were £3,987 million, or 1 per cent, lower at £440,388 million compared to £444,375 million at 31 December 2018; an increase of £3,694 million from the acquisition of the Tesco Bank mortgage portfolio and continued growth in targeted segments such as SME and motor finance was more than offset by reductions in the closed mortgage book and in Commercial Banking following a balance sheet optimisation initiative. Financial assets held at fair value through profit or loss increased by £1,660 million overall, holdings within the insurance business increased by £19,952 million as a result of positive market movements on policyholder assets and an increase of £7,350 million on completion of the acquisition of the Zurich workplace pensions and savings business. However, holdings in the banking business were £18,292 million lower as a result of the reduction in trading activities. Property, plant and equipment was £804 million, or 7 per cent, higher at £13,104 million compared to £12,300 million at 31 December 2018; an increase of £1,716 million as a result of the right-of-use asset recognised on transition to IFRS 16, and net additions in the year, have been partly offset by depreciation. Assets arising from reinsurance contracts held increased by £15,707 million, to £23,567 million, compared to £7,860 million at 31 December 2018, largely as a result of an increase of £13,616 million on completion of the acquisition of the Zurich UK workplace pensions and savings business.
Total liabilities were £38,688 million, or 5 per cent, higher at £786,087 million compared to £747,399 million at 31 December 2018. Customer deposits were £3,254 million, or 1 per cent, higher at £817,793£421,320 million at 31 December 20162019 compared to £806,688£418,066 million at 31 December 2015. Cash2018 as a £7,712 million increase in repurchase agreement balances and growth in retail current account balances has been partly offset by lower levels of retail savings products and commercial deposits. Debt securities in issue were £6,521 million higher at central banks were £10,965 million, or 19 per cent, lower at £47,452 million compared to £58,417£97,689 million at 31 December 2015, reflecting fewer opportunities for2019 compared to £91,168 million at 31 December 2018 following new issuances to maintain funding levels. Insurance and investment contract liabilities have increased by £36,181 million, or 32 per cent, from £112,727 million at 31 December 2018 to £148,908 million at 31 December 2019 as a result of £20,981 million arising on acquisition of the favourable placementZurich workplace pensions and savings business together with the impact of fundsnew business inflows and trading and other assetspolicyholder investment gains. Financial liabilities at fair value through profit or loss were £10,638£9,061 million, or 830 per cent, higherlower at £151,174 million compared to £140,536£21,486 million at 31 December 2015, principally due2019 compared to increases in the long-term insurance and investment funds. Loans and advances to customers were £2,783 million, or 1 per cent, higher at £457,958£30,547 million at 31 December 2016 compared to £455,1752018 following reductions in trading book repurchase agreements, in line with the lower levels of trading activity.
Total equity has decreased by £2,393 million, or 5 per cent, from £50,199 million at 31 December 2015; the continued reduction in the portfolio of assets which are outside of the Group’s risk appetite and lower UK mortgage balances, as the Group concentrates on protecting margin in the current market, were more than offset by an £8,304 million increase in reverse repurchase agreement balances together with growth in SME lending and the UK consumer finance business. Available-for-sale financial assets were £23,492 million, or 71 per cent, higher at £56,524 million compared2018 to £33,032£47,806 million at 31 December 2015; during 2016, the Group reviewed its holding of government securities classified as held-to-maturity (£19,808 million at 31 December 2015) in light of the prevailing low interest rate environment and they have been reclassified as available-for-sale. Total liabilities were £9,620 million, or 1 per cent, higher at £769,328 million at 31 December 2016 compared to £759,708 million at 31 December 2015. Debt securities in issue were £5,742 million, or 7 per cent, lower at £76,314 million compared to £82,056 million at 31 December 2015, reflecting reduced funding requirements; however Insurance and investment contract liabilities were, together, £11,431 million, or 11 per cent, higher at £114,502 million, compared to £103,071 million at 31 December 2015, in line with the increase in investment assets. Subordinated liabilities were £3,481 million or 15 per cent, lower at £19,831 million compared to £23,312 million at 31 December 20152019 as a result of redemptions during the year, includingeffect of the defined benefit pension scheme revaluation and a reduction of £1,095 million as a result of the Group’s Enhanced Capital Notes. Totalshare buyback programme; retained profits were offset by dividends paid and distributions on other equity was £1,485 million, or 3 per cent, higher at £48,465 million at 31 December 2016 compared to £46,980 million at 31 December 2015; this reflected positive revaluation movements in the available-for-sale and cash flow hedging reserves.instruments.
The Group has strengthened its capital position, with aGroup’s common equity tier 1 (CET1) capital ratio of 13.4has reduced to 13.6 per cent (31 December 2015: 12.82018: 14.6 per cent), largelyprimarily driven by the Group’s share buyback programme, the interim dividend paid during the year and the accrual for the 2019 full year ordinary dividend and the defined benefit pension scheme remeasurements.
During 2019 the Prudential Regulation Authority (PRA) reduced the Group’s Pillar 2A CET1 requirement from 2.7 per cent to 2.6 per cent. Separately, the Financial Policy Committee of the Bank of England announced an increase in profits andthe Countercyclical Capital Buffer (CCYB) rate for the UK from 1.0 per cent to 2.0 per cent, effective from December 2020. During 2020 the PRA will consult on a proposed reduction in risk-weighted assets. Pillar 2A total capital requirements by 50 per cent of this increase in the CCYB, equivalent to reducing the Pillar 2A CET1 requirement by 28 per cent of the increase. Taking into account the current and potential future changes to capital requirements, the Board’s view of the ongoing level of CET1 capital required by the Group to grow the business, meet regulatory requirements and cover uncertainties continues to be c.12.5 per cent plus a management buffer of c.1 per cent.
The total capital ratio reduced to 21.221.3 per cent (31compared to 22.9 per cent at 31 December 2015: 21.5 per cent)2018, primarily reflecting managed reductions in Tier 2 loan stock, largely through calls and redemptions, offset by the increasereduction in common equity tier 1 capital and the net reduction in Additional Tier 1 securities, offset in part by the reduction in risk-weighted assets.
Risk-weighted assets reduced by £7,399£2,935 million, or 31 per cent, to £215,446£203,431 million, primarily reflecting the optimisation of the Commercial Banking portfolio, offset in part by mortgage model updates, the implementation of IFRS 16 and the acquisition of the Tesco UK prime residential mortgage portfolio.
The UK leverage ratio reduced to 5.1 per cent compared to 5.5 per cent at 31 December 2016 compared to £222,845 million at 31 December 2015, largely relating to active portfolio management, disposals, an improvement in credit quality and capital efficient securitisation activity, partially offset by model updates related to UK mortgage portfolios and foreign exchange movements2018, primarily reflecting the depreciationreduction in Sterling.
The Group’s liquiditythe fully loaded tier 1 capital position, remains good, with liquidity coverage ratio (LCR) eligible assets of £121 billion. LCR eligible assets represent over 8 timesoffset in part by a reduction in the Group’s money-market funding with a maturity of less than one year and were in excess of total wholesale funding at 31 December 2016. The Group’s LCR ratio continues to exceed regulatory requirements.exposure measure.
The Group has recommended a final ordinary dividend of 1.702.25 pence per share together with a capital distribution in the form of a special dividend of 0.5(2018: 2.14 pence per share.share). This is in addition to the interim ordinary dividend of 0.851.12 pence per share (2018: 1.07 pence per share) that was paid in September 2016.
2019. The total ordinary dividend per share for 20162019 of 2.553.37 pence per share has increased by 135 per cent, from 2.253.21 pence in 2015 and is in line with the Group’s progressive and sustainable ordinary dividend policy. The Group continues to expect ordinary dividends to increase over the medium term with a dividend payout ratio of at least 50 per cent of sustainable earnings.
2015 COMPARED WITH 2014
During the year ended 31 December 2015, the Group recorded a profit before tax of £1,644 million compared with a profit before tax in 2014 of £1,762 million. The result in 2015 included provisions in respect of redress to customers relating to both past sales of Payment Protection Insurance, associated administrative costs and other matters of £4,837 million compared to a charge of £3,125 million in the year ended 31 December 2014; 2014 also included a past service pension credit of £822 million and a loss of £1,362 million in relation to the exchange and repurchase of Enhanced Capital Notes, neither of which were repeated in 2015. Excluding these items from both years, profit before tax was £1,054 million, or 19 per cent, higher at £6,481 million in the year ended 31 December 2015 compared to £5,427 million in the previous year, reflecting a significant reduction in expenditure in relation to the Group’s Simplification programme and lower impairment charges.
The comparison of results for 2015 to 2014 is also impacted by the sale of TSB Banking Group plc (TSB), which ceased to be consolidated in March 2015, with the sale of the Group’s remaining holding becoming unconditional on 30 June 2015. The Group recognised a net loss of £660 million in 2015, relating to both the disposal of its shareholding and commitments under agreements entered into with TSB.2018.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Total income decreased by £6,742 million, or 23 per cent, to £23,150 million in 2015 compared with £29,892 million in 2014, comprising a £7,400 million decrease in other income partly offset by an increase in net interest income.
Net interest income was £11,318 million in 2015; an increase of £658 million, or 6 per cent compared to £10,660 million in 2014. There was a positive impact of £358 million in 2015 from a decrease in the amounts payable to unit holders in those Open-Ended Investment Companies (OEICs) included in the consolidated results of the Group, particularly in relation to fixed income securities; the change in population of consolidated OEICs in 2015 compared to 2014 caused an increase of £27 million in this interest expense. After adjusting for this, net interest income was £300 million, or 3 per cent, higher at £11,562 million in 2015 compared to £11,262 million in 2014 reflecting an improvement in margin in the Group’s banking operations, driven by a combination of lower depositoperating and wholesale funding costs, partly offset by continued pressure on asset prices. Average interest-earning assets fell as a result of the sale of TSBfinancial reView and the continued run down of the portfolio of assets which are outside of the Group’s risk appetite.
Other income was £7,400 million, or 38 per cent, lower at £11,832 million in 2015 compared to £19,232 million in 2014. Fee and commission income was £407 million, or 11 per cent, lower at £3,252 million compared to £3,659 million in 2014. Fee and commission expense increased by £40 million, or 3 per cent, to £1,442 million compared with £1,402 million in 2014. The decrease in net fee and commission income largely reflects the disposals of TSB and Scottish Widows Investment Partnership. Net trading income decreased by £6,445 million, or 63 per cent, to £3,714 million in 2015 compared to £10,159 million in 2014; this decrease reflected a reduction of £6,146 million in gains on policyholder investments held within the insurance business as a result of market conditions over 2015 relative to those in 2014. The reduction in trading income within the insurance business was coupled with a small decrease of £266 million in the Group’s other operations. Insurance premium income was £2,333 million, or 33 per cent, lower at £4,792 million in 2015 compared with £7,125 million in 2014; there was a decrease of £2,334 million in life insurance premiums and a £1 million increase in general insurance premiums. Premium income in 2015 has been reduced by a charge of £1,959 million relating to the recapture by a third party insurer of a portfolio of policies previously reassured with the Group; excluding this item life insurance premium income was £375 million, or 6 per cent, lower at £5,880 million in 2015 compared to £6,255 million in 2014. Other operating income was £1,825 million higher at £1,516 million in 2015 compared to a deficit of £309 million in 2014. Other operating income includes the results of liability management from which the Group incurred a loss of £28 million in 2015 compared to a loss of £1,386 million in 2014, which was principally in relation to exchange and repurchase transactions in respect of the Group’s Enhanced Capital Notes. Excluding the impact of liability management activities, other operating income was £467 million, or 43 per cent, higher at £1,544 million in 2015 compared to £1,077 million in 2014; in part reflecting a reduction in the losses arising from the movement in the value of in-force insurance business.
Insurance claims expense was £7,764 million, or 58 per cent, lower at £5,729 million in 2015 compared to £13,493 million in 2014. The insurance claims expense in respect of life and pensions business was £7,804 million, or 59 per cent, lower at £5,359 million in 2015 compared to £13,163 million in 2014; this decrease was matched by a similar decline in net trading income, reflecting the relative performance of policyholder investments. Insurance claims in respect of general insurance business were £40 million or 12 per cent, higher at £370 million in 2015 compared to £330 million in 2014.
Operating expenses increased by £1,502 million, or 11 per cent to £15,387 million in 2015 compared with £13,885 million in 2014; the main reasons for the increase being the £1,712 million increase in charges for redress payments to customers in respect of PPI and other conduct related matters from £3,125 million in 2014 to £4,837 million in 2015, a charge of £665 million in 2015 in relation to the disposal of TSB and a net past service pension credit of £822 million in 2014 which was not repeated in 2015. Excluding these items from both years, operating expenses were £1,697 million, or 15 per cent, lower at £9,885 million in 2015 compared to £11,582 million in 2014. On this basis staff costs were £890 million, or 16 per cent, lower at £4,677 million in 2015 compared with £5,567 million in 2014; annual pay rises being more than offset by the impact of headcount reductions resulting from business disposals and the Group’s rationalisation programmes and a reduction in severance costs as this phase of the Simplification programme draws to a close. Premises and equipment costs were £176 million or 20 per cent, lower at £715 million in 2015 compared with £891 million in 2014. Other expenses, excluding the charges in respect of customer redress provisions and the charge relating to the TSB disposal, were £808 million, or 25 per cent, lower at £2,381 million in 2015 compared with £3,189 million in 2014 as a result of lower levels of technology spend, advertising and professional fees, in particular relating to Simplification and the costs of TSB separation in 2014. Depreciation and amortisation costs were £177 million, or 9 per cent, higher at £2,112 million in 2015 compared to £1,935 million in 2014.
Impairment losses decreased by £362 million, or 48 per cent, to £390 million in 2015 compared with £752 million in 2014. Impairment losses in respect of loans and advances to customers were £292 million, or 40 per cent, lower at £443 million in 2015 compared with £735 million in 2014. The overall performance of the portfolio reflects a significant reduction in lending which is outside of the Group’s risk appetite and improvements in all divisions. The net charge has also benefited from significant provision releases but at lower levels than seen in 2014. There was a credit of £55 million in respect of undrawn commitments in 2015, compared to a charge of £10 million in 2014, a result of improvements in credit quality in a number of corporate relationships.
In 2015, the Group recorded a tax charge of £688 million compared to a tax charge of £263 million in 2014, an effective tax rate of 42 per cent, which was higher than the standard UK corporation tax rate of 20.25 per cent; principally as a result of the disallowance of a substantial proportion of the Group’s charge in respect of PPI and other conduct risk issues. The tax charge of £263 million in 2014 arose on a profit before tax of £1,762 million; this tax charge reflected tax exempt gains on the sale of businesses.
On the balance sheet, total assets were £48,208 million, or 6 per cent, lower at £806,688 million at 31 December 2015 compared to £854,896 million at 31 December 2014, largely due to the disposal of TSB. Loans and advances to customers were £27,529 million, or 6 per cent, lower at £455,175 million at 31 December 2015 compared to £482,704 million at 31 December 2014, with £21,643 million of the reduction being due to the sale of TSB, the continued reduction in the portfolio of assets which are outside of the Group’s risk appetite and a £5,148 million reduction in reverse repurchase agreement balances have more than offset growth in the UK consumer finance business. An increase of £7,925 million in cash and balances at central banks has been more than offset by an £11,395 million reduction in trading and other financial assets at fair value through profit or loss and a £6,661 million reduction in derivative assets. Total liabilities were £45,285 million, or 6 per cent, lower at £759,708 million at 31 December 2015 compared to £804,993 million at 31 December 2014, again largely due to the sale of TSB. Customer deposits were £28,741 million, or 6 per cent, lower at £418,326 million at 31 December 2015 compared to £447,067 million at 31 December 2014 with £24,625 million of the reduction being due to the sale of TSB. Decreases of £10,239 million in trading and other financial liabilities at fair value through profit or loss and £11,095 million in insurance and investment contract liabilities have been partly offset by increases of £6,038 million in deposits by banks and £5,823 million in debt securities in issue as the Group took advantage of favourable funding opportunities. Total equity was £2,923 million, or 6 per cent, lower at £46,980 million at 31 December 2015 compared to £49,903 million at 31 December 2014; this reflected the fact that retained profit for the year has been more than offset by negative reserve movements in respect of available-for-sale revaluation and cash flow hedging reserves, dividends paid and the adjustment to non-controlling interests on the deconsolidation of TSB.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The Group has maintained its capital position, with a common equity tier 1 (CET1) ratio of 12.8 per cent, (31 December 2014: 12.8 per cent) as the impact of the lower capital base (as a result of reduced levels of equity) has been offset by a reduction in risk-weighted assets.
Risk-weighted assets reduced by £16,986 million, or 7 per cent, to £222,747 million, at 31 December 2015 compared to £239,734 million at 31 December 2014, primarily driven by the sale of TSB, reductions in the portfolio of assets which are outside of the Group’s risk appetite and continued improvements in credit quality offset by targeted lending growth.
The Group’s liquidity position remains good, with liquidity coverage ratio (LCR) eligible assets of £123 billion. LCR eligible assets represent almost 5.7 times the Group’s money-market funding with a maturity of less than one year and were in excess of total wholesale funding at 31 December 2015 thus providing a buffer in the event of market dislocation. The Group’s LCR ratio already exceeds regulatory requirements and is greater than 100 per cent.
OPERATING AND FINANCIAL REVIEW AND PROSPECTSprospects
NET INTEREST INCOME
2016 | 2015 | 2014 | ||||||||||
Net interest income £m | 9,274 | 11,318 | 10,660 | |||||||||
Average interest-earning assets £m | 600,435 | 614,917 | 634,910 | |||||||||
Average rates: | ||||||||||||
Gross yield on interest-earning assets %1 | 2.77 | 2.86 | 3.03 | |||||||||
Interest spread %2 | 1.33 | 1.67 | 1.52 | |||||||||
Net interest margin %3 | 1.54 | 1.84 | 1.68 |
2019 | 2018 | |||||||
Net interest income £m | 10,180 | 13,396 | ||||||
Average interest-earning assets £m | 595,003 | 580,221 | ||||||
Average rates: | ||||||||
Gross yield on interest-earning assets %1 | 2.83 | 2.82 | ||||||
Interest spread %2 | 1.52 | 2.22 | ||||||
Net interest margin %3 | 1.71 | 2.31 |
1 | Gross yield is the rate of interest earned on average interest-earning assets. |
2 | Interest spread is the difference between the rate of interest earned on average interest-earning assets and the rate of interest paid on average interest-bearing liabilities. |
3 | The net interest margin represents the interest spread together with the contribution of interest-free liabilities. It is calculated by expressing net interest income as a percentage of average interest-earning assets. |
2016 COMPARED WITH 2015
Net interest income was £9,274£10,180 million in 2016,2019, a decrease of £2,044£3,216 million, or 1824 per cent, compared to £11,318£13,396 million in 2015.2018. Net interest income in 20162019 includes a charge of £2,057£1,822 million in respect of amounts payableattributable to unitholdersthird party investors in respect of its consolidated Open-Ended Investment Companies (OEICs), compared to a chargecredit in 20152018 of £244 million. The increase reflects more£844 million, as a result of favourable market conditions;movements during 2019; the change in population of consolidated OEICs in 20162019 compared to 20152018 did not have a significant impact. After adjusting for the amounts payable to unitholders, net interest income was £231£550 million, or 24 per cent, lower at £11,331£12,002 million in 20162019 compared to £11,562£12,552 million in 2015.2018.
Average interest-earning assets were £14,482£14,782 million, or 23 per cent, lowerhigher at £600,435£595,003 million in 20162019 compared to £614,917£580,221 million in 2015. The reduction reflected2018, due to increased holdings of reverse repurchase agreement balances; excluding these and similar balances average interest-earning assets were stable, with the impact of the acquisition of the Tesco Bank mortgage portfolio and growth in targeted segments, in particular SME and UK Motor Finance, more than offset by lower balances in the closed mortgage book and the impact of the sale of TSB part-way through 2015, the continuing run-offIrish mortgage portfolio in the first half of 2018. Average interest-earning assets which are outsidein Retail were £690 million, lower at £341,638 million in 2019 compared to £342,328 million in 2018 and average relationship lending and similar interest-earning assets in Commercial Banking were £985 million, or 1 per cent, higher at £92,215 million in 2019 compared to £91,230 million in 2018, as the balance sheet reductions took place towards the end of the Group’s risk appetite and a reductionyear. Average interest-earning assets across the rest of the Group were £14,487 million, or 10 per cent, higher at £161,150 million in UK mortgage balances,2019 compared to £146,663 million in 2018, reflecting the focus on protecting margins, partly offset by increased SME lending and unsecured personal lending.an increase in average reverse repurchase agreement balances.
The net interest margin was 3060 basis points lower at 1.541.71 per cent in 20162019 compared to 1.842.31 per cent in 2015, however adjusting2018. Adjusting net interest income for the amounts allocated to unitholders in Open-Ended Investment Companies, the net interest margin was 114 basis point higherpoints lower at 1.892.02 per cent in 20162019 compared to 1.882.16 per cent in 2015. Margins in Retail fell only slightly despite the challenges of the continuing low interest rate environment; margins in Consumer Finance fell, largely due to the focus on high quality, lower margin motor finance business,2018, with the margin also impactedbenefit of lower deposit costs, higher Retail current account balances and a benefit from aligning credit card terms, more than offset by lower Euriborcontinued pressure on asset margins, particularly in the mortgage market.
19 |
operating and planned reductions in deposits. Margins on relationship lendingfinancial reView and similar interest-earning assets in Commercial Banking grew, supported by high quality deposit growth, disciplined deposit pricing and reduced funding costs.prospects
2015 COMPARED WITH 2014OTHER INCOME
2019 £m | 2018 £m | |||||||
Fee and commission income: | ||||||||
Current account fees | 659 | 650 | ||||||
Credit and debit card fees | 982 | 993 | ||||||
Commercial banking fees | 248 | 305 | ||||||
Unit trust and insurance broking | 206 | 221 | ||||||
Private banking and asset management | 69 | 97 | ||||||
Factoring | 103 | 83 | ||||||
Other fees and commissions | 489 | 499 | ||||||
2,756 | 2,848 | |||||||
Fee and commission expense | (1,350 | ) | (1,386 | ) | ||||
Net fee and commission income | 1,406 | 1,462 | ||||||
Net trading income | 18,288 | (3,876 | ) | |||||
Insurance premium income | 9,574 | 9,189 | ||||||
Gains on sale of financial assets at fair value through other comprehensive income | 196 | 275 | ||||||
Gain related to establishment of joint venture | 244 | – | ||||||
Other | 2,468 | 1,645 | ||||||
Other operating income | 2,908 | 1,920 | ||||||
Total other income | 32,176 | 8,695 |
Other income was £23,481 million higher at £32,176 million in 2019 compared to £8,695 million in 2018.
Net interestFee and commission income was £11,318 million in 2015 an increase of £658 million, or 6 per cent, compared to £10,660 million in 2014. Net interest income in 2015 includes a charge of £244 million in respect of amounts payable to unitholders in consolidated Open-Ended Investment Companies compared to a charge in 2014 of £602 million; the change in population of consolidated OEICs in 2015 compared to 2014 caused an increase of £27 million in this interest expense. After adjusting for this, net interest income was £300 million, or 3 per cent, higher at £11,562 million in 2015 compared to £11,262 million in 2014.
Average interest-earning assets were £19,993£92 million, or 3 per cent, lower at £614,917£2,756 million in 20152019 compared to £634,910with £2,848 million in 2014. The reduction reflected the sale of TSB (leading to a year-on-year reduction of £17,309 million) and the continuing run-off of assets which are outside of the Group’s risk appetite.
Average interest-earning assets in Retail2018. Current account fees were £1,581£9 million, or 1 per cent, lowerhigher at £307,001£659 million in 20152019 compared to £308,582£650 million in 2014 and average interest-earning assets in Commercial Banking were £3,8602018, but there was a decrease of £11 million, or 4 per cent, lower at £90,019 million in 2015 compared to £93,879 million in 2014. Average interest-earning assets across the rest of the Group were £14,552 million, or 6 per cent, lower at £217,897 million in 2015 compared to £232,449 million in 2014. The main driver for this reduction being the decrease of £17,309 million resulting from the sale of TSB and in the portfolio of assets which are outside of the Group’s risk appetite, partly offset by growth in Consumer Finance and in non-relationship balances.
The net interest margin was 16 basis points higher at 1.84 per cent in 2015 compared to 1.68 per cent in 2014, however adjusting net interest income for the amounts allocated to unitholders in Open-Ended Investment Companies, the net interest margin was 11 basis points higher at 1.88 per cent in 2015 compared to 1.77 per cent in 2014. Margins in Retail increased, driven by improved deposit margin and mix, more than offsetting reduced lending rates; however margins in Consumer Finance were down due to the acquisition of lower risk but lower margin new business and the impact of the planned reduction in deposits in line with Group’s funding strategy. Margins on relationship lending and similar interest-earning assets in Commercial Banking increased due to disciplined pricing on new lending and deposits, with a reduction in wholesale funding costs led by continued progress in attracting high quality deposits.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
OTHER INCOME
2016 | 2015 | 2014 | ||||||||||
£m | £m | £m | ||||||||||
Fee and commission income: | ||||||||||||
Current account fees | 752 | 804 | 918 | |||||||||
Credit and debit card fees | 875 | 918 | 1,050 | |||||||||
Other | 1,418 | 1,530 | 1,691 | |||||||||
3,045 | 3,252 | 3,659 | ||||||||||
Fee and commission expense | (1,356 | ) | (1,442 | ) | (1,402 | ) | ||||||
Net fee and commission income | 1,689 | 1,810 | 2,257 | |||||||||
Net trading income | 18,545 | 3,714 | 10,159 | |||||||||
Insurance premium income | 8,068 | 4,792 | 7,125 | |||||||||
Gains on sale of available-for-sale financial assets | 575 | 51 | 131 | |||||||||
Liability management | (598 | ) | (28 | ) | (1,386 | ) | ||||||
Other | 2,058 | 1,493 | 946 | |||||||||
Other operating income | 2,035 | 1,516 | (309 | ) | ||||||||
Total other income | 30,337 | 11,832 | 19,232 |
2016 COMPARED WITH 2015
Other income was £18,505 million higher at £30,337 million in 2016 compared to £11,832 million in 2015.
Fee and commission income was £207 million, or 6 per cent, lower at £3,045 million in 2016 compared with £3,252 million in 2015. Current account fees were £52 million, or 6 per cent, lower at £752 million in 2016 compared to £804 million in 2015, due to the disposal of TSB part-way through 2015 and lower levels of added-value account fees as a result of changing customer preferences. A decrease of £43 million, or 51 per cent, in credit and debit card fees from £918£993 million in 20152018 to £875£982 million in 2016 resulted from reduced interchange income due2019 following a restructuring of late charge fees. Commercial banking fees were £57 million, or 19 per cent, lower at £248 million in 2019 compared to £305 million in 2018 as a market-wide cap on fees. Otherresult of reductions in lending as part of a balance sheet optimisation initiative. Private banking and asset management fees were £28 million, or 29 per cent, lower at £69 million in 2019 compared to £97 million in 2018 following the transfer of business into the Group’s new wealth management joint venture; and other fees and commissions receivable were £112£10 million, or 72 per cent, lower at £1,418£489 million in 20162019 compared with £1,530to £499 million in 2015 again reflecting the disposal of TSB and reduced income in the Insurance and Commercial divisions and as the portfolio of assets which are outside of the Group’s risk appetite continues to run down.2018.
Fee and commission expense was £86£36 million, or 63 per cent, lower at £1,356£1,350 million in 20162019 compared to £1,442£1,386 million in 20152018; lower interchange fees followed reduced customer usage of ATMs and there were reductions in part due to the disposal of TSB during 2015 but also reflecting reduced activity in the mortgage marketvalue-added account package costs and lowerother fees payable following the changes in interchange regulation.payable.
Net trading income was £14,831£22,164 million, higher at £18,545£18,288 million in 20162019 compared with £3,714a loss of £3,876 million in 2015.2018. Net trading income within the insurance businesses was £14,798£22,303 million, higher at £17,571of £17,273 million in 20162019 compared to £2,774a loss of £5,030 million in 2015,2018, which reflects higher levels of returnsreflected strong investment performance in 2019 compared to market losses in 2018 on policyholder investments as a result of more favourable market conditions over 2016. However this increase, along with the increase in long-term insurance premium income, was largely offset by the increase in insurance claims expenseboth debt security and the £1,813 million increase in the amounts payable to unit holders in those Open-Ended Investment Companies consolidated into the Group’s results within net interest income.equity investments. Net trading income within the Group’s banking activities was £34£139 million, or 412 per cent, higherlower at £974£1,015 million in 20162019 compared to £940£1,154 million in 2015.2018; the Group’s trading activities have reduced.
Insurance premium income was £8,068£9,574 million in 20162019 compared with £4,792£9,189 million in 2015;2018; an increase of £3,276£385 million, or 684 per cent. Premium income in 2015 had been reduced by a charge of £1,959 million relating to the recapture by a third party insurer of a portfolio of policies previously reassured with the Group. Excluding this item earnedEarned premiums in respect of the Group’s long-term life and pensions business were £1,330£413 million, or 235 per cent, higher at £7,210£8,932 million in 20162019 compared to £5,880£8,519 million in 20152018 reflecting significant newan increased level of bulk annuities business, more than offsetting reductionsannuity deals in protection2019 and corporatethe impact of the completion of the acquisition of Zurich Insurance Group’s UK workplace pensions and savings business. General insurance earned premiums were little changed, £13£28 million, or 14 per cent, lower at £858£642 million in 20162019 compared with £871£670 million in 20152018 as a result of reduced new business and the continuingcontinued run-off of closed business.books.
Other operating income was £519 million higher at £2,035 million in 2016 compared to £1,516 million in 2015 despite a net loss of £721 million arising on the Group’s tender offers and redemptions in respect of its Enhanced Capital Notes which completed in March 2016. Excluding this item, other operating income was £1,240£988 million, or 8251 per cent, higher at £2,756£2,908 million in 20162019 compared to £1,516£1,920 million in 2015; this reflected a £6342018. There was an improvement of £880 million improvement in the movement in value of in-force insurance business reflecting business growth and positive economic variance, andas a £524result of improved market conditions as well as the favourable impact of assumption changes. In 2019 the Group also realised a gain of £244 million increase in gains on disposal of available-for-sale financial assets, from £51 million in 2015 to £575 million in 2016, of which £484 million relatedtransactions relating to the saleestablishment of the Group’s investment in Visa Europe.Schroders Personal Wealth joint venture.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
2015 COMPARED WITH 2014
Other income was £7,400 million, or 38 per cent, lower at £11,832 million in 2015 compared to £19,232 million in 2014.
Feeoperating and commission income was £407 million, or 11 per cent, lower at £3,252 million in 2015 compared with £3,659 million in 2014. Current account fees were £114 million, or 12 per cent, lower at £804 million in 2015 compared to £918 million in 2014, with £75 million of the reduction being a result of the sale of TSB. A decrease of £132 million, or 13 per cent, in creditfinancial reView and debit card fees from £1,050 million in 2014 to £918 million in 2015 resulted from the sale of TSB (£51 million of the decrease) and reduced interchange income due to changes in regulation. Other fees and commissions receivable were £161 million, or 10 per cent lower at £1,530 million in 2015 compared with £1,691 million in 2014; again partly reflecting the sale of TSB and also Scottish Widows Investment Partnership in 2014.
Fee and commission expense was £40 million, or 3 per cent, higher at £1,442 million in 2015 compared to £1,402 million in 2014; despite a £63 million decrease as a result of the sale of TSB and Scottish Widows Investment Partnership; the underlying increase reflects increased levels of fees payable in respect of transactions in Commercial Banking and for asset management services in Insurance.
Net trading income was £6,445 million, or 63 per cent, lower at £3,714 million in 2015 compared with £10,159 million in 2014. Net trading income within the insurance businesses was £6,146 million, or 69 per cent, lower at £2,774 million in 2015 compared to £8,920 million in 2014, which reflects lower levels of returns on policyholder investments as a result of market conditions over 2015 relative in those in 2014. However this decrease, along with the decrease in long-term insurance premium income, was largely offset by the decrease in insurance claims expense and the £358 million decrease in the amounts payable to unit holders in those Open-Ended Investment Companies consolidated into the Group’s results within net interest income. Net trading income within the Group’s banking activities was £299 million, or 24 per cent, lower at £940 million in 2015 compared to £1,239 million in 2014; in particular this decrease reflected a charge of £101 million for the movement in fair value of the equity conversion feature of the Group’s Enhanced Capital Notes, compared to a gain of £401 million in the year ended 31 December 2014.
Insurance premium income was £4,792 million in 2015 compared with £7,125 million in 2014; a decrease of £2,333 million, or 33 per cent. Premium income in 2015 has been reduced by a charge of £1,959 million relating to the recapture by a third party insurer of a portfolio of policies previously reassured with the Group. Excluding this item earned premiums in respect of the Group’s long-term life and pensions business were £375 million, or 6 per cent, lower at £5,880 million in 2015 compared to £6,255 million in 2014 with the impact of regulatory and market change more than offsetting income from the new bulk annuities business. General insurance earned premiums were little changed, just £1 million higher at £871 million in 2015 compared with £870 million in 2014 reflecting competitive market conditions and the run-off of products closed to new customers.
Other operating income was £1,825 million higher at £1,516 million in 2015 compared to a deficit of £309 million in 2014. In April 2014, the Group had completed exchange offers with holders of certain series of its Enhanced Capital Notes (ECNs) to exchange the ECNs for new Additional Tier 1 (AT1) securities and a tender offer to eligible retail holders outside the United States to sell their Sterling-denominated ECNs for cash; a loss of £1,362 million was recognised in relation to these exchange and tender transactions in the year ended 31 December 2014. Excluding this item, other operating income was £463 million, or 44 per cent, higher at £1,516 million in 2015 compared to £1,053 million in 2014; this reflected a £266 million improvement in the movement in value of in-force insurance business and a £39 million increase in operating lease rental income.
OPERATING AND FINANCIAL REVIEW AND PROSPECTSprospects
OPERATING EXPENSES
2016 | 2015 | 2014 | ||||||||||||||||||
£m | £m | £m | 2019 £m | 2018 £m | ||||||||||||||||
Administrative expenses: | ||||||||||||||||||||
Staff: | ||||||||||||||||||||
Salaries | 2,750 | 2,808 | 3,178 | 2,539 | 2,482 | |||||||||||||||
Performance-based compensation | 475 | 409 | 390 | 380 | 509 | |||||||||||||||
Social security costs | 363 | 349 | 398 | 325 | 343 | |||||||||||||||
Pensions and other post-retirement benefit schemes: | ||||||||||||||||||||
Past service credits and curtailment gains | – | – | (822 | ) | ||||||||||||||||
Other | 555 | 548 | 596 | |||||||||||||||||
555 | 548 | (226 | ) | |||||||||||||||||
Pensions and other post-retirement benefit schemes | 532 | 705 | ||||||||||||||||||
Restructuring costs | 241 | 104 | 264 | 92 | 249 | |||||||||||||||
Other staff costs | 433 | 459 | 741 | 383 | 474 | |||||||||||||||
4,817 | 4,677 | 4,745 | 4,251 | 4,762 | ||||||||||||||||
Premises and equipment: | ||||||||||||||||||||
Rent and rates | 365 | 368 | 424 | 93 | 370 | |||||||||||||||
Repairs and maintenance | 187 | 173 | 221 | 187 | 190 | |||||||||||||||
Other | 120 | 174 | 246 | 211 | 169 | |||||||||||||||
672 | 715 | 891 | 491 | 729 | ||||||||||||||||
Other expenses: | ||||||||||||||||||||
Communications and data processing | 848 | 893 | 1,118 | 1,038 | 1,121 | |||||||||||||||
Advertising and promotion | 198 | 253 | 336 | 170 | 197 | |||||||||||||||
Professional fees | 265 | 262 | 481 | 226 | 287 | |||||||||||||||
UK bank levy | 200 | 270 | 237 | 224 | 225 | |||||||||||||||
TSB disposal | – | 665 | – | |||||||||||||||||
Other | 873 | 703 | 1,017 | 715 | 653 | |||||||||||||||
2,384 | 3,046 | 3,189 | 2,373 | 2,483 | ||||||||||||||||
Depreciation and amortisation: | ||||||||||||||||||||
Depreciation of tangible fixed assets | 1,761 | 1,534 | 1,391 | 2,064 | 1,852 | |||||||||||||||
Amortisation of acquired value of in-force non-participating investment contracts | 37 | 41 | 43 | 30 | 40 | |||||||||||||||
Amortisation of other intangible assets | 582 | 537 | 501 | 566 | 513 | |||||||||||||||
2,380 | 2,112 | 1,935 | 2,660 | 2,405 | ||||||||||||||||
Total operating expenses, excluding regulatory provisions | 10,253 | 10,550 | 10,760 | 9,775 | 10,379 | |||||||||||||||
Regulatory provisions: | ||||||||||||||||||||
Payment protection insurance provision | 1,350 | 4,000 | 2,200 | 2,450 | 750 | |||||||||||||||
Other regulatory provisions1 | 1,024 | 837 | 925 | |||||||||||||||||
Other regulatory provisions | 445 | 600 | ||||||||||||||||||
2,374 | 4,837 | 3,125 | 2,895 | 1,350 | ||||||||||||||||
Total operating expenses | 12,627 | 15,387 | 13,885 | 12,670 | 11,729 | |||||||||||||||
Cost:income ratio (%)2 | 73.1 | 88.3 | 84.7 | |||||||||||||||||
Cost:income ratio (%)1 | 69.0 | 63.0 |
1 | |
Total operating expenses divided by total income, net of insurance claims. |
2016 COMPARED WITH 2015
Operating expenses decreasedincreased by £2,760£941 million, or 188 per cent, to £12,627£12,670 million in 20162019 compared with £15,387£11,729 million in 2015. This decrease principally reflects the fact that 2016 includes a regulatory provisions charge of £2,374 million, which was £2,463 million, or 51 per cent, lower than2018 due to an increase in the charge of £4,837 million in 2015.for conduct related matters.
Staff costs were £140£511 million, or 311 per cent, lower in 2019 at £4,251 million compared to £4,762 million in 2018. On a full-time equivalent basis, the Group had 63,069 employees at the end of 2019, a reduction of 1,859 from 64,928 employees at 31 December 2018. Salaries were £57 million, or 2 per cent, higher at £2,539 million in 20162019 compared with £2,482 million in 2018 as the benefit of the reduction in staff numbers has been more than offset by the effect of annual pay rises and the acquisition of the Zurich work place pensions business. Pension costs were £173 million, or 25 per cent, lower at £4,817£532 million in 2019 compared to £4,677£705 million in 2015,2018, in part due to the inclusion in 2018 of a past service charge of £108 million following legal clarification of requirements regarding Guaranteed Minimum Pension benefits, compared to a charge of £33 million in 2019. Social security costs were £18 million, or 5 per cent, lower at £325 million in 2019 compared with £343 million in 2018. Restructuring costs were £157 million lower at £92 million in 2019 compared to £249 million in 2018, reflecting a significant reduction in particular, increased expenditurecharges in relation to the Group’s restructuring programmes. Salariesstrategic investment plans, and other staff costs were £58£91 million, or 19 per cent, lower at £383 million in 2019 compared with £474 million in 2018.
Premises and equipment costs were £238 million, or 33 per cent, lower at £491 million in 2019 compared to £729 million in 2018 following the implementation of IFRS 16, as a result of which rent and rates were £277 million lower at £93 million in 2019 compared to £370 million in 2018; repairs and maintenance costs were £3 million, or 2 per cent, lower at £2,750 million in 2016 compared with £2,808 million in 2015, as the impact of headcount reductions, including the sale of TSB, has more than offset annual pay rises; pension costs were £7 million, or 1 per cent, higher at £555 million in 2016 compared to £548 million in 2015; social security costs were £14 million, or 4 per cent, higher at £363 million in 2016 compared with £349 million in 2015; and other staff costs were £26 million, or 6 per cent, lower at £433 million in 2016 compared with £459 million in 2015, in part due to lower levels of agency staff costs.
Premises and equipment costs were £43 million, or 6 per cent, lower at £672 million in 2016 compared to £715 million in 2015. Rent and rates was £3 million, or 1 per cent, lower at £365 million in 2016 compared to £368 million in 2015, in part due to charges in respect of onerous lease contracts as the Group rationalises its property portfolio; repairs and maintenance costs were £14 million, or 8 per cent, higher at £187 million in 20162019 compared to £173£190 million in 20152018 and other premises and equipment costs decreasedincreased by £54£42 million, or 3125 per cent, from £174£169 million in 20152018 to £120£211 million in 2016, partly2019 reflecting a lower level of gains on disposal of property, plantpremises and equipment.
other fixed assets.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Other expenses, excluding the regulatory provisions charges, were £662£110 million, or 224 per cent, lower at £2,384£2,373 million in 20162019 compared with £3,046£2,483 million in 2015. The Group had incurred a charge of £665 million in 2015 relating to the disposal of TSB, which was not repeated in 2016; excluding this charge, other expenses of £2,384 million in 2016 were £3 million higher than £2,381 million in 2015.2018. Communications and data processing costs were £45£83 million, or 57 per cent, lower at £848£1,038 million in 20162019 compared with £893£1,121 million in 20152018 as a result of the salerenegotiation of TSBcontracts and efficiency initiatives; professionalcosts in 2018 relating to ring-fencing and the integration of MBNA. Professional fees were £3£61 million, or 121 per cent, higherlower at £265£226 million in 20162019 compared to £262£287 million in 20152018, as reduced costs followinga result of the sale of TSB have been offset by costsexpenditure incurred in relation to regulatory developments such as ring-fencing;2018 on ring-fencing and other projects, and advertising and promotion costs were £55£27 million, or 2214 per cent, lower at £198£170 million in 20162019 compared with £253£197 million in 2015 as a result of the sale of TSB and reduced spend on certain marketing initiatives. The cost of the Bank levy was £70 million, or 26 per cent, lower at £200 million2018, again due to ring-fencing related expenditure in 2016 compared to £270 million in 2015, as a result of reduced levels of chargeable liabilities.2018. Other costs were £170£62 million, or 249 per cent, higher at £873£715 million in 20162019 compared with £703£653 million in 2015.2018.
Depreciation and amortisation costs were £268£255 million, or 1311 per cent, higher at £2,380£2,660 million in 20162019 compared with £2,112£2,405 million in 2015. Charges2018, as a result of the implementation of IFRS 16; charges for the depreciation of tangible fixed assets were £227£212 million, or 1511 per cent, higher at £1,761£2,064 million in 20162019 compared to £1,534£1,852 million in 2015, in line with increased asset balances, in particular operating lease assets.2018, due to a charge of £216 million on the right-of-use asset. The charge for the amortisation of other intangible assets was £45£53 million, or 810 per cent, higher at £582£566 million in 20162019 compared to £537£513 million in 2015,2018, reflecting the impact of increased capitalisedlevels of software balances.capitalisation.
The Group incurred a regulatory provisions charge in operating expenses of £2,374£2,895 million in 20162019 compared to £4,837£1,350 million in 2015 (in addition to £61 million, 2015: £nil, charged against income)2018 of which £1,350£2,450 million (2015: £4,000 million) related to payment protection insurance. For further details see note 38insurance; this charge was largely due to the financial statements.
2015 COMPARED WITH 2014
Operating expenses increased by £1,502 million, or 11significant increase in PPI information requests (PIRs) leading up to the deadline for submission of claims on 29 August 2019, and also reflects costs relating to complaints received from the Official Receiver as well as administration costs. An initial review of around 60 per cent of the five million PIRs received in the run-up to £15,387 million in 2015 comparedthe PPI deadline has been undertaken, with £13,885 million in 2014. This increase principally reflected the fact that 2014 included a past service pension creditconversion rate remaining low, and consistent with the provision assumption of £822 million and 2015 includes a regulatory provisionsaround 10 per cent. The Group has also reached final agreement with the Official Receiver. The unutilised provision at 31 December 2019 was £1,578 million. The charge of £4,837 million, which was £1,712 million, or 54 per cent, higher than the charge of £3,125 million in 2014.
The past service pension credit of £822 million in 2014 followed the Group’s decision, announced on 11 March 2014 to reduce the cap on increases in pensionable pay used in calculating the pension benefit to nil with effect from 2 April 2014.
Despite the past service pension credit in 2014, staff costs were £68 million, or 1 per cent, lower in 2015 at £4,677 million compared to £4,745 million in 2014. Excluding the pension credit, staff costs were £890 million, or 16 per cent, lower at £4,677 million in 2015 compared to £5,567 million in 2014 reflecting, in particular, the impact of business disposals and a significant reduction in expenditure in relation to the Group’s Simplification programme. As a result, salaries were £370 million, or 12 per cent, lower at £2,808other conduct issues was £445 million in 20152019, compared with £3,178to £600 million in 2014; pension costs, excluding the past service pension credit from 2014, were £482018; this charge included £188 million or 8 per cent, lower at £548 million in 2015 compared to £596 million in 2014; social security costs were £49 million, or 12 per cent, lower at £349 million in 2015 compared with £398 million in 2014; staff restructuring costs were £160 million, or 61 per cent, lower at £104 million in 2015 compared with £264 million in 2014; and other staff costs were £282 million, or 38 per cent, lower at £459 million in 2015 compared with £741 million in 2014, in particular due to lower levels of agency staff costs in relation to the Simplification programme.
Premises and equipment costs were £176 million, or 20 per cent, lower at £715 million in 2015 compared to £891 million in 2014, again reflecting business disposals and reduced Simplification expenditure. Rent and rates was £56 million, or 13 per cent, lower at £368 million in 2015 compared to £424 million in 2014; repairs and maintenance costs were £48 million, or 22 per cent, lower at £173 million in 2015 compared to £221 million in 2014, in part due to a lower level of dilapidation provisions on vacation of properties in 2015 than in 2014; and other premises and equipment costs decreased by £72 million, or 29 per cent, from £246 million in 2014 to £174 million in 2015, reflecting lower levels of losses on sale of equipment and a reduced level of activity in the property portfolio.
Other expenses, excluding the regulatory provisions charges, were £143 million, or 4 per cent, lower at £3,046 million in 2015 compared with £3,189 million in 2014. Communications and data processing costs were £225 million, or 20 per cent, lower at £893 million in 2015 compared with £1,118 million in 2014 as a result of a significant reduction in Simplification spend on systems and technology; professional fees were £219 million, or 46 per cent, lower at £262 million in 2015 compared to £481 million in 2014, reflecting both the reduced Simplification spend and a lower level of professional fees(2018: £151 million) in respect of TSB; and advertising and promotion costs were £83 million, or 25 per cent, lower at £253 million in 2015 compared with £336 million in 2014 due to spend in relation to TSB in 2014. The cost of the Bank levy was £33 million, or 14 per cent, higher at £270 million in 2015 compared to £237 million in 2014, as a result of the increase in rate with effect from 1 April 2015. In 2015 the Group incurred a charge of £665 million relating to the disposal of TSB, reflecting the net costs of the Transitional Service Agreement between Lloyds and TSB and the contribution to be provided by Lloyds to TSB in moving to alternative IT provision. Other costs were £314 million, or 31 per cent, lower at £703 million in 2015 compared with £1,017 million in 2014.
Depreciation and amortisation costs were £177 million, or 9 per cent, higher at £2,112 million in 2015 compared with £1,935 million in 2014. Charges for the depreciation of tangible fixed assets were £143 million, or 10 per cent, higher at £1,534 million in 2015 compared to £1,391 million in 2014, in line with increased asset balances. The charge for the amortisation of acquired value of in-force non-participating investment contracts was £2 million, or 5 per cent, lower at £41 million in 2015 compared to £43 million in 2014. The charge for the amortisation of other intangible assets was £36 million, or 7 per cent, higher at £537 million in 2015 compared to £501 million in 2014, reflecting increased capitalised software balances.
The Group incurred a regulatory provisions charge in operating expenses of £4,837 million in 2015 compared to £3,125 million in 2014 of which £4,000 million (2014: £2,200 million) related to payment protection insurance.
OPERATING AND FINANCIAL REVIEW AND PROSPECTSarrears handling activities.
IMPAIRMENT
2016 | 2015 | 2014 | ||||||||||
£m | £m | £m | ||||||||||
Impairment losses on loans and receivables: | ||||||||||||
Loans and advances to customers | 592 | 443 | 735 | |||||||||
Debt securities classified as loans and receivables | – | (2 | ) | 2 | ||||||||
Total impairment losses on loans and receivables | 592 | 441 | 737 | |||||||||
Impairment of available-for-sale financial assets | 173 | 4 | 5 | |||||||||
Other credit risk provisions | (13 | ) | (55 | ) | 10 | |||||||
Total impairment charged to the income statement | 752 | 390 | 752 |
2016 COMPARED WITH 2015
2019 £m | 2018 £m | |||||||
Impairment losses on financial assets carried at amortised cost | ||||||||
Loans and advances to banks | – | 1 | ||||||
Loans and advances to customers | 1,307 | 1,022 | ||||||
Debt securities | – | – | ||||||
Other assets | 5 | 1 | ||||||
Total impairment losses on financial assets carried at amortised cost | 1,312 | 1,024 | ||||||
Impairment of financial assets carried at fair value through other comprehensive income | (1 | ) | (14 | ) | ||||
Loan commitments and financial guarantees | (15 | ) | (73 | ) | ||||
Total impairment charged to the income statement | 1,296 | 937 |
Impairment losses increased by £362£359 million, or 9338 per cent, to £752£1,296 million in 20162019 compared to £390£937 million in 2015, largely due to lower levels of releases and write-backs and a2018. Credit quality remains strong; the increased impairment charge was primarily driven by two material corporate cases in respect of available-for-sale financial assets.Commercial Banking, along with some weakening in used car prices.
The impairment charge in respect of loans and advances to customers was £149£285 million, or 3428 per cent, higher at £592£1,307 million in 20162019 compared to £443£1,022 million in 2015.2018. In Retail, increasedimpairment charges reflected a lower level of benefit from improvements in house prices in the secured book. The increased charges in Commercial Banking were driven by lower levels of releases and recoveries; and in Consumer Finance were as a result of overall growthsome weakening in used car prices, methodology refinements and the non-recurrence of a favourable one-off release in 2015. The impairment charge relating to assets which are outside of the Group’s risk appetite reduced, reflecting the continued run down of the portfolio.
The impairment charge in respect of available-for-sale financial assets was £173 million in 2016, compared to £4 million in 2015, as a result of a charge in respect of certain equity investments; and there was a credit of £13 million (2015: credit of £55 million) in respect of other credit risk provisions, in both years reflecting improved credit quality in a number of corporate relationships
2015 COMPARED WITH 2014
Impairment losses decreased by £362 million, or 48 per cent, to £390 million in 2015 compared to £752 million in 2014, largely due to reduced charges in relation to the portfolio of assets which are outside of the Group’s risk appetite.
The impairment charge in respect of loans and advances to customers was £292 million, or 40 per cent, lower at £443 million in 2015 compared to £735 million in 2014.cash recoveries following prior year debt sales. In Retail, a reduced impairment charge reflected continued low risk underwriting discipline, strong portfolio management and a favourable credit environment with low unemployment, increasing house prices and continued low interest rates. The improvement in Commercial Banking, the increased charge was driven by lower levels of new impairment as a result of effective risk management, improving UK economic conditions and the continued low interest rate environment; as well as provision releases, but at lower levels than seen during 2014. The Consumer Finance impairment charge reduced, driven by a continued underlying improvement in portfolio quality, supported by an increased level of write-backs from the sale of recoveries assets in the credit card portfolio compared to 2014 due to favourable market conditions. The impairment charge relating to assets which are outside of the Group’s risk appetite reduced significantly, reflecting the Group’s ongoing exit from these positions.
The impairment charge in respect of debt securities classified as loans and receivables was a credit of £2 million in 2015 compared to a charge of £2 million in 2014. The impairment charge in respect of available-for-sale financial assets was £1 million, or 20 per cent, lower at £4 million in 2015 compared to £5 million in 2014; and there was a credit of £55 million (2014: charge of £10 million) in respect of other credit risk provisions as a result of improved credit quality in a number oftwo material corporate relationships.
impairments.
22 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
TAXATION
2016 | 2015 | 2014 | ||||||||||||||||||
£m | £m | £m | 2019 £m | 20181 £m | ||||||||||||||||
UK corporation tax: | ||||||||||||||||||||
Current tax on profits for the year | (1,010 | ) | (485 | ) | (162 | ) | (1,389 | ) | (1,280 | ) | ||||||||||
Adjustments in respect of prior years | 156 | (90 | ) | 213 | 96 | 11 | ||||||||||||||
(854 | ) | (575 | ) | 51 | (1,293 | ) | (1,269 | ) | ||||||||||||
Foreign tax: | ||||||||||||||||||||
Current tax on profits for the year | (20 | ) | (24 | ) | (39 | ) | (70 | ) | (34 | ) | ||||||||||
Adjustments in respect of prior years | 2 | 27 | 3 | 2 | 5 | |||||||||||||||
(18 | ) | 3 | (36 | ) | (68 | ) | (29 | ) | ||||||||||||
Current tax (charge) credit | (872 | ) | (572 | ) | 15 | |||||||||||||||
Current tax charge | (1,361 | ) | (1,298 | ) | ||||||||||||||||
Deferred tax | (852 | ) | (116 | ) | (278 | ) | (26 | ) | (156 | ) | ||||||||||
Taxation charge | (1,724 | ) | (688 | ) | (263 | ) | ||||||||||||||
Tax expense | (1,387 | ) | (1,454 | ) |
2016 COMPARED WITH 2015
1 | Restated to reflect amendments to IAS 12, see note 1 on page F-13. |
In 2016,2019, a tax chargeexpense of £1,724£1,387 million arose on the profit before tax of £3,888£4,393 million and in 20152018 a tax chargeexpense of £688£1,454 million arose on the profit before tax of £1,644£5,960 million. The statutory corporation tax rates were 20 per cent for 2016 and 20.25 per cent for 2015.
The tax chargeexpense for 20162019 represents an effective tax rate of 4431.6 per cent; the highcent compared to 24.4 per cent in 2018 and compared to a statutory corporation tax rate of 19.0 per cent in both 2018 and 2019. The increase in effective tax rate in 2016compared to 2018 was largely due to the banking surcharge, restrictions onincrease in non-deductible conduct provision charges in relation to PPI, partially offset by the deductibilitybenefit of conduct provisions and the negative impact on the neta prior year deferred tax asset of both the change in corporation tax rate and the expected utilisation by the life assurance business.
2015 COMPARED WITH 2014
In 2015, a tax charge of £688 million arose on the profit before tax of £1,644 million and in 2014 a tax charge of £263 million arose on the profit before tax of £1,762 million. The statutory corporation tax rates were 20.25 per cent for 2015 and 21.5 per cent for 2014.
The tax charge for the 2015 represented an effective tax rate of 42 per cent. The effective tax rate was higher than the UK corporation tax rate largely due to the introduction in 2015 of restrictions on the deductibility of conduct related provisions which resulted in an additional tax charge of £459 million. Adjusting for this charge, the effective tax rate would have been 14 per cent reflecting non-taxable and relieved gains and a number of positive one-off items.
The low tax charge in 2014 was driven by tax exempt gains on sales of businesses and a lower deferred tax liability in respect of the value of in-force assets in the life business.
adjustment.
23 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
LINE OF BUSINESSDIVISIONAL INFORMATION
The requirements for IFRS segmental reporting are set out in IFRS 8,Operating Segmentswhich mandates that an entity’s segmental reporting should reflect the way in which its operations are viewed and judged by its chief operating decision maker. As a consequence, the Group’s statutory segmental reporting follows the underlying basis as explained below (see also note 4 to the financial statements).
The Group Executive Committee, which is the chief operating decision maker for the Group, reviews the Group’s internal reporting based around these segments (which reflect the Group’s organisational and management structures) in order to assess performance and allocate resources.
The segments are differentiated by the type of products provided and by whether the customers are individuals or corporate entities and by the geographical location of the customer and the performance assessment includes a consideration of each segment’s net interest revenue; consequently the total interest income and expense for all reportable segments is presented on a net basis. The internal reporting is on an underlying profit before tax basis. The Group Executive Committee believes that this basis better represents the underlying performance of the Group. IFRS 8 requires that the Group presents its segmental profit before tax on the basis reviewed by the chief operating decision maker that is most consistent with the measurement principles used in measuring the Group’s statutory profit before tax. Accordingly, the Group presents its segmental underlying basis profit before tax in note 4 to the financial statements.
The aggregate total of the underlying basis segmental results constitutes a non-GAAP measure as defined in the United States Securities and Exchange Commission’s Regulation G. Management uses aggregate underlying profit before tax, a non-GAAP measure, as a measure of performance and believes that it provides important information for investors because it is a comparable representation of the Group’s performance. Profit before tax is the comparable GAAP measure to aggregate underlying profit before tax. The table below sets out the reconciliation of this non-GAAP measure to its comparable GAAP measure.
The Group’s activities are organised into fourthree financial reporting segments: Retail; Commercial Banking; Consumer Finance and Insurance. The Group’s unsecured personal lending portfolio, previously part of Retail, is now managed by Consumer FinanceInsurance and elements ofWealth.
During 2019, the Group’s business in the Channel Islands and Isle of Man wereGroup transferred Cardnet, its card payment acceptance service, from Retail tointo Commercial Banking; comparativesBanking and also transferred certain equity business from Commercial Banking into Central items. Comparatives have been restated accordingly.
Comparisons of results on a historical consolidated statutory basis are impacted by a number of items. In order to provide more meaningful and relevant comparatives, the results of the Group and divisions are presented on an ‘underlying’ basis. The following items are excluded in arriving at underlying profit:
– | ||
– | market volatility and other items, which includes the effects of certain asset sales, the | |
– | payment protection insurance | |
The results of the businesses are set out below on the underlying basis:
2019 £m | 20181 £m | |||||||
Retail | 3,839 | 4,211 | ||||||
Commercial Banking | 1,777 | 2,183 | ||||||
Insurance and Wealth | 1,101 | 927 | ||||||
Other | 814 | 745 | ||||||
Underlying profit before tax | 7,531 | 8,066 |
2016 | 20151 | 20141 | ||||||||||
£m | £m | £m | ||||||||||
Retail | 3,003 | 3,091 | 2,739 | |||||||||
Commercial Banking | 2,468 | 2,478 | 2,256 | |||||||||
Consumer Finance | 1,283 | 1,381 | 1,449 | |||||||||
Insurance | 837 | 962 | 922 | |||||||||
Other | 276 | 200 | 390 | |||||||||
Underlying profit before tax | 7,867 | 8,112 | 7,756 |
1 | Segmental analysis restated, as explained above. |
24 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Reconciliation of underlyingstatutory profit to statutoryunderlying profit before tax for the year
2016 | 2015 | 2014 | ||||||||||||||
Note | £m | £m | £m | |||||||||||||
Underlying profit before tax | 7,867 | 8,112 | 7,756 | |||||||||||||
Asset sales | 1 | 217 | 54 | 138 | ||||||||||||
Enhanced Capital Notes | 2 | (790 | ) | (101 | ) | (961 | ) | |||||||||
Liability management | 3 | 123 | (28 | ) | (24 | ) | ||||||||||
Own debt volatility | 4 | (11 | ) | 127 | (3 | ) | ||||||||||
Other volatile items | 5 | 201 | (129 | ) | (112 | ) | ||||||||||
Volatility arising in insurance businesses | 6 | (91 | ) | (105 | ) | (228 | ) | |||||||||
Restructuring and TSB build and dual running costs | 8 | (622 | ) | (255 | ) | (1,524 | ) | |||||||||
Charge relating to TSB disposal | 9 | – | (660 | ) | – | |||||||||||
Payment protection insurance provision | 10 | (1,350 | ) | (4,000 | ) | (2,200 | ) | |||||||||
Other conduct provisions | 11 | (1,085 | ) | (837 | ) | (925 | ) | |||||||||
Past service pension credit | 12 | – | – | 710 | ||||||||||||
Amortisation of purchased intangibles | 13 | (340 | ) | (342 | ) | (336 | ) | |||||||||
Fair value unwind and other items | 14 | (231 | ) | (192 | ) | (529 | ) | |||||||||
Statutory profit before tax | 3,888 | 1,644 | 1,762 |
Note | 2019 £m | 2018 £m | ||||||||||
Statutory profit before tax | 4,393 | 5,960 | ||||||||||
Market volatility and asset sales | 1 | (126 | ) | 50 | ||||||||
Amortisation of purchased intangibles | 2 | 68 | 108 | |||||||||
Restructuring costs | 3 | 471 | 879 | |||||||||
Fair value unwind and other items | 4 | 275 | 319 | |||||||||
Payment protection insurance provision | 5 | 2,450 | 750 | |||||||||
Underlying profit before tax | 7,531 | 8,066 |
1. |
AssetMarket volatility and asset sales comprise the gainsof £126 million included adverse movements in banking volatility and lossesa gain on asset disposals (2016: gains of £217 million; 2015: gains of £54 million; 2014: gains of £138 million), including assets which were outsideestablishment of the Group’s risk appetite;Schroders Personal Wealth joint venture as well as the gain inone-off charge for exiting the year ended 31 December 2016 includes the gain of £484 million on the sale of the Group’sStandard Life Aberdeen investment in Visa Europe.
The Group completed tender offers and redemptions in respect of its Enhanced Capital Notes (ECNs) in March 2016, resulting in a net loss to the Group of £721 million in the year ended 31 December 2016, principally comprising the write-off of the embedded equity conversion feature and premiums paid under the terms of the transaction. In addition there was a charge of £69 million reflecting the change in fair value of the embedded equity conversion feature in the period prior to the transaction.
In the year ended 31 December 2015, a charge of £101 million arose from the change in fair value of the embedded equity conversion feature.
In April 2014, the Group completed exchange offers with holders of certain series of its Enhanced Capital Notes (ECNs) to exchange the ECNs for new Additional Tier 1 (AT1) securities and completed a tender offer to eligible retail holders outside the United States to sell their Sterling-denominated ECNs for cash. A loss of £1,362 million was recognised in relation to these exchange and tender transactions in the year ended 31 December 2014; partly offset by a gain of £401 million arising from the change in fair value of the remaining embedded equity conversion feature.
Gains of £123 million (2015: losses of £28 million; 2014: losses of £24 million) arose on other transactions undertaken as part of the Group’s management of wholesale funding and capital. The liability management gains and losses were included in other income.
Own debt volatility includes a £31 million loss (2015: gain of £114 million; 2014: gain of £33 million) relating to the change in fair value of the small proportion of the Group’s wholesale funding which was designated at fair value at inception.
Other volatile items include the change in fair value of interest rate derivatives and foreign exchange hedges in the banking book not mitigated through hedge accounting. A gain of £259 million was included in 2016 (2015: charge of £99 million; 2014: charge of £138 million).agreement. Also included in 2016 was a negative net derivative valuation adjustment of £58 million (2015: charge of £30 million; 2014: credit of £26 million), reflecting movements in the market implied credit risk associated with customer derivative balances.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The Group’s statutory result before tax is affected by insurance volatility, caused by movements in financial markets, and policyholder interests volatility.
In 2016, the Group’s statutory result before tax included negativepositive insurance and policyholder interests volatility, which is a deduction from statutory profit before tax in the reconciliation above, totalling £91£76 million compared to negative volatility of £105£103 million in 2015 and negative volatility of £228 million in 2014.2018.
VolatilityThis insurance and policyholder interests volatility comprises the following:
2016 | 2015 | 2014 | ||||||||||||||||||
£m | £m | £m | 2019 £m | 2018 £m | ||||||||||||||||
Insurance volatility | (152 | ) | (303 | ) | (219 | ) | 230 | (506 | ) | |||||||||||
Policyholder interests volatility | 241 | 87 | 17 | 193 | 46 | |||||||||||||||
Insurance hedging arrangements | (180 | ) | 111 | (26 | ) | (347 | ) | 357 | ||||||||||||
Total | (91 | ) | (105 | ) | (228 | ) | 76 | (103 | ) |
Management believes that excluding volatility from underlying profit before tax provides useful information for investors on the performance of the business as it excludes amounts included within profit before tax which do not accrue to the Group’s equity holders and excludes the impact of changes in market variables which are beyond the control of management.
The most significant limitations associated with excluding volatility from the underlying basis results are:
(i) | Insurance volatility requires an assumption to be made for the normalised return on equities and other investments; and |
(ii) | Insurance volatility impacts on the Group’s regulatory capital position, even though it is not included within underlying profit before tax. |
Management compensates for the limitations above by:
(i) | Monitoring closely the assumptions used to calculate the normalised return used within the calculation of insurance volatility; these assumptions are disclosed below; and |
(ii) | Producing separate reports on the Group’s current and forecast capital ratios. |
Insurance volatility
The Group’s insurance business has policyholder liabilities that are supported by substantial holdings of investments. IFRS requires that the changes in both the value of the liabilities and investments are reflected within the income statement. The value of the liabilities does not move exactly in line with changes in the value of the investments. As the investments are substantial, movements in their value can have a significant impact on the profitability of the Group. Management believes that it is appropriate to disclose the division’s results on the basis of an expected return in addition to results based on the actual return. The impact of the actual return on these investments differing from the expected return is included within insurance volatility.
The expected gross investment returns used to determine the underlying profit of the business are based on prevailing market rates and published research into historical investment return differentials for the range of assets held. The basis for calculating these expected returns reflects an average of the 15 year swap rate over the preceding 12 months updated throughout the year to reflect changing market conditions. The negativevolatility movements in the period were largely driven by insurance volatility during 2016arising from equity market movements and credit spreads. The capital impact of £152 million primarily reflects reductions in yields, widening credit spreadsequity market movements is hedged within Insurance and low returns on cash investments partially offset by positive returns on equities.this also reduces the IFRS earnings exposure.
Policyholder interests volatility
The application of accounting standards results in the introduction of other sources of significant volatility into the pre-tax profits of the life, pensions and investments business. In order to provide a clearer representation of the performance of the business, and consistent with the way in which it is managed, adjustments are made to remove this volatility from underlying profits. The effect of these adjustments is separately disclosed as policyholder interests volatility.
Accounting standards require that tax on policyholder investment returns relating to life products should be included in the Group’s tax charge rather than being offset against the related income. The result is, therefore, to either increase or decrease profit before tax with a related change in the tax charge. Timing and measurement differences exist between provisions for tax and charges made to policyholders. Consistent with the expected approach taken in respect of insurance volatility, differences in the expected levels of the policyholder tax provision and policyholder charges are adjusted through policyholder interests volatility. In 2016,2019, the statutory results before tax included a credit to other income which relates to policyholder interests volatility totalling £241£193 million reflecting movements in equity, bond and gilt returns relating to life products.
Insurance hedging arrangements
The Group purchased put option contracts in 2016 to protect against deterioration in equity market conditions and the consequent negative impact on the value of in-force business on the Group balance sheet. These were financed by selling some upside potential from equity market movements. A loss of £180million was recognised in relation to these contracts in 2016 which was less than the gain from the underlying exposure.
The Group’s insurance businesses’ income statements include income and expenditure which are attributable to the policyholders of the Group’s long-term assurance funds. These items have no impact in total upon the profit attributable to equity shareholders and, in order to provide a clearer representation of the underlying trends within the business, these items are shown net on a separate line. These policyholder amounts relate principally to returns on policyholder investments (within net interest income and net trading income) and insurance premiums receivable, together with a matching amount within the insurance claims expense representing the allocation of these items to policyholders.
Restructuring costs were £622 million in 2016 and comprised costs relating to the Simplification programme, the announced rationalisation of the non-branch property portfolio and the work on implementing the ring-fencing requirements. Restructuring costs of £170 million in 2015 related to the next phase of Simplification announced in October 2014. The costs of £966 million in 2014 related to phase 1 of the Simplification programme which was completed in 2014.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
During 2015, the Group completed the European Commission (EC) mandated business disposal of TSB. TSB costs in the year ended 31 December 2015 totalled £85 million (2014: £558 million) relating to dual-running costs. The dual-running costs include the costs of TSB’s standalone treasury, finance, human resources and other head office functions.
The Group completed the sale of a 9.99 per cent interest in TSB Banking Group plc (TSB) to Banco de Sabadell S.A. (Sabadell) on 24 March 2015, reducing the Group’s holding in TSB to 40.01 per cent; this sale led to a loss of control and the deconsolidation of TSB. The Group’s residual investment in 40.01 per cent of TSB was then recorded at fair value, as an asset held for sale. The Group recognised a loss of £660 million reflecting the net costs of the Transitional Service Agreement between Lloyds and TSB, the contribution to be provided by Lloyds to TSB in moving to alternative IT provision and the net result on sale of the 9.99 per cent interest and fair valuation of the residual investment.Insurance hedging arrangements
The Group announcedactively manages its exposures to interest rate, foreign currency exchange rate, inflation and market movements within the banking book through a comprehensive hedging strategy. This helps to mitigate earnings volatility and reduces the impact of market movements on 30 June 2015 that all relevant regulatory clearances for the sale of its remaining 40.01 per cent holding in TSB to Sabadell had been received and that the sale was therefore unconditional in all respects; the proceeds were received on 10 July 2015.capital position.
A provision of £1,350 million to cover further operating costs and redress relating to PPI was recognised in the 2016 (2015: £4,000 million; 2014: £2,200 million). The charge of £1,350 million in 2016 was largely driven by a higher total volume of complaints expected as a result of the Financial Conduct Authority’s (FCA) industry deadline being extended to the end of August 2019 as well as changes to the rules and guidance that should apply when firms handle PPI complaints in light of the UK Supreme Court’s decision in Plevin v Paragon Personal Finance Limited [2014] UKSC 61 (Plevin). Final rules and guidance were published by the FCA on 2 March 2017 (PS 17/3).
There was a charge of £1,085 million in 2016 to cover a range of other conduct issues (2015: £837 million; 2014: £925 million). The charge for the year included £280 million in respect of complaints relating to packaged bank accounts, £261 million in respect of arrears-related activities on secured and unsecured retail products and £94 million related to insurance products sold in Germany, together with a number of other conduct risk provisions totalling £450 million across all divisions.
On 11 March 2014 the Group announced a change to its defined benefit pension arrangements, revising the existing cap on the increases in pensionable pay used in calculating the pension benefit, from 2 per cent to nil with effect from 2 April 2014. The effect of this change was to reduce the Group’s retirement benefit obligations recognised on the balance sheet by £843 million with a corresponding curtailment gain recognised in the income statement. This was partly offset by a charge of £133 million relating to the cost of other changes to the pay, benefits and reward offered to employees to give a net credit of £710 million recognised in 2014.
Amortisation of purchased intangibles |
The Group incurred a charge for the amortisation of intangible assets, principally those recognised on the acquisition of HBOS, in 2009, of £340£68 million (2015: £342 million; 2014: £336(2018: £108 million).
Restructuring costs |
Restructuring costs were £471 million (2018: £879 million) and included severance costs relating to the Group’s strategic investment plans as well as the costs of the integration of MBNA and Zurich’s UK workplace pensions and savings business and the establishment of the Schroders Personal Wealth Joint venture.
4. | Fair value unwind and other items |
The statutory (IFRS) results include the impact of the acquisition-related fair value adjustments, arising from the acquisition of HBOS in 2009; these adjustments affect a number of line items.
Theand MBNA. In 2019 the principal financial effectseffect of the fair value unwind areis to reflect the effective interest rates applicable at the date of acquisition, on assets and liabilities that were acquired at values that differed from their original book value,value.
5. | Payment protection insurance (PPI) provision |
The PPI charge of £2,450 million was largely due to the significant increase in PPI information requests (PIRs) leading up to the deadline for submission of claims on 29 August 2019, and also reflects costs relating to recognisecomplaints received from the reversalOfficial Receiver as well as administration costs. An initial review of creditaround 60 per cent of the five million PIRs received in the run-up to the PPI deadline has been undertaken, with the conversion rate remaining low, and liquidity risk adjustments as underlying instruments mature or become impaired. Generally, this leads to higher interest expense asconsistent with the valueprovision assumption of HBOS’s own debt accretes to par and a lower impairment charge reflectingaround 10 per cent. The Group has also reached final agreement with the impact of acquisition balance sheet valuation adjustments.
Official Receiver. The unutilised provision at 31 December 2019 was £1,578 million.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
RETAIL
Retail offers a broad range of financial service products to personal and business banking customers, including current accounts, savings, and mortgages, to UK personal customers, including Wealth and small business customers. It is also a distributor of insurance, protection and credit cards, unsecured loans, motor finance and a range of long-term savings and investment products.leasing solutions. Its aim is to be the best bank for customers in the UK, by building deep and enduring relationships that deliver real value, to customers, and by providing them with greater choice and flexibility. It will maintain itsflexibility, with propositions increasingly personalised to their needs. Retail operates a multi-brand and multi-channel strategy, and continuestrategy. It continues to simplify theits business and provide more transparent products, helping to improve service levels and reduce conduct risks.risks, whilst working within a prudent risk appetite.
2016 | 2015 | 1 | 2014 | 1 | ||||||||||||||||
£m | £m | £m | 2019 £m | 20181 £m | ||||||||||||||||
Net interest income | 6,497 | 6,664 | 6,270 | 8,807 | 9,060 | |||||||||||||||
Other income | 1,053 | 1,115 | 1,202 | 2,014 | 2,097 | |||||||||||||||
Total income | 7,550 | 7,779 | 7,472 | 10,821 | 11,157 | |||||||||||||||
Operating expenses | (4,174 | ) | (4,339 | ) | (4,239 | ) | ||||||||||||||
Operating lease depreciation | (946 | ) | (921 | ) | ||||||||||||||||
Net income | 9,875 | 10,236 | ||||||||||||||||||
Operating costs | (4,760 | ) | (4,897 | ) | ||||||||||||||||
Remediation | (238 | ) | (267 | ) | ||||||||||||||||
Total costs | (4,998 | ) | (5,164 | ) | ||||||||||||||||
Impairment | (373 | ) | (349 | ) | (494 | ) | (1,038 | ) | (861 | ) | ||||||||||
Underlying profit | 3,003 | 3,091 | 2,739 | 3,839 | 4,211 |
1 | Restated, as explained on page |
2016 COMPARED WITH 2015
Underlying profit decreasedreduced by £88£372 million, or 9 per cent, to £3,839 million in 2019 compared to £4,211 million in 2018.
Net interest income reduced by £253 million, or 3 per cent, to £3,003£8,807 million in 20162019 compared to £3,091£9,060 million in 2015,2018, reflecting the challenging interest rate environment and continued pressure on other operating income.mortgage margins, partly offset by lower funding costs and a benefit from aligning credit card terms.
Net interestOther income decreased by £167£83 million, or 4 per cent, to £2,014 million in 2019 compared to £2,097 million in 2018, reflecting a lower Lex Fleet size.
Operating lease depreciation increased £25 million, or 3 per cent, to £6,497£946 million in 20162019 compared to £6,664£921 million in 2015, largely due to a reduction2018, reflecting some weakening in mortgage balances as Retail focus on protecting margins. Banking margin fellused car prices through the first three quarters of 2019, partly offset by just 2 basis points despite the continuing low interest rate environment.
Other income decreased £62 million, or 6 per cent, to £1,053 million in 2016 compared to £1,115 million in 2015, driven by changing customer behaviour and improvements to the customer proposition.lower Lex fleet size.
Operating expenses decreasedreduced by £165£137 million, or 43 per cent, to £4,174£4,760 million in 20162019 compared to £4,339£4,897 million in 20152018 as efficiency savingsincreased investment in the business was more than covered an increase in investment. Staff numbers have reducedoffset by efficiency savings.
Remediation costs decreased by £29 million, or 11 per cent to £238 million in the year.2019 compared to £267 million in 2018.
Impairment increased by £24£177 million, or 721 per cent, to £373£1,038 million in 20162019 compared to £349£861 million in 2015. Underlying credit quality remains stable.
2015 COMPARED WITH 2014
Underlying profit increased by £352 million, or 13 per cent to £3,091 million2018, as a result of some weakening in 2015 compared to £2,739 millionused car prices, methodology refinements and lower cash recoveries following prior year debt sales, while underlying drivers remain strong, particularly in 2014, driven by improved margins and reduced impairments.
Net interest income increased £394 million, or 6 per cent, to £6,664 million in 2015 compared to £6,270 million in 2014. Margin performance was strong, increasing 12 basis points to 2.22 per cent in 2015 compared to 2.10 per cent in 2014, driven by improved deposit mix and margin, more than offsetting reduced lending rates.
Other income decreased £87 million, or 7 per cent, to £1,115 million in 2015 compared to £1,202 million in 2014, driven by current account transaction related income and regulatory changes, in particular, impacting the Wealth business.
Operating expenses increased £100 million, 2 per cent, to £4,339 million in 2015 compared to £4,239 million in 2014. The increase reflects continued business investment and simplification to improve customer experiences.
Impairment reduced by £145 million, or 29 per cent, to £349 million in 2015 compared to £494 million in 2014, driven by continued low risk underwriting discipline, strong portfolio management and a favourable credit environment.
mortgage book.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
COMMERCIAL BANKING
Commercial Banking has a client-led, low risk, capital efficient strategy, helpingcommitted to supporting UK-based clients and international clients with a link to the UK. Through its foursegmented client facing divisions – SME, Mid Markets, Global Corporates and Financial Institutions –coverage model it provides clients with a range of products and services such as lending, transactional banking, working capital management, risk management and debt capital markets services, as well as access to private equity through Lloyds Development Capital.services. Continued investment in capabilities and digital propositions enables the delivery of a leading customer experience, supported by increasingly productive relationship managers, with more time spent on value-adding activities.
2016 | 2015 | 1 | 2014 | 1 | ||||||||||||||||
£m | £m | £m | 2019 £m | 20181 £m | ||||||||||||||||
Net interest income | 2,735 | 2,576 | 2,542 | 2,918 | 3,013 | |||||||||||||||
Other income | 1,987 | 2,072 | 1,962 | 1,422 | 1,670 | |||||||||||||||
Total income | 4,722 | 4,648 | 4,504 | 4,340 | 4,683 | |||||||||||||||
Operating lease depreciation | (105 | ) | (30 | ) | (24 | ) | (21 | ) | (35 | ) | ||||||||||
Net income | 4,617 | 4,618 | 4,480 | 4,319 | 4,648 | |||||||||||||||
Operating expenses | (2,133 | ) | (2,162 | ) | (2,139 | ) | ||||||||||||||
Operating costs | (2,081 | ) | (2,191 | ) | ||||||||||||||||
Remediation | (155 | ) | (203 | ) | ||||||||||||||||
Total costs | (2,236 | ) | (2,394 | ) | ||||||||||||||||
Impairment | (16 | ) | 22 | (85 | ) | (306 | ) | (71 | ) | |||||||||||
Underlying profit | 2,468 | 2,478 | 2,256 | 1,777 | 2,183 |
1 | Restated, as explained on page |
2016 COMPARED WITH 2015
Commercial Banking underlying profit decreased by £10£406 million, or 19 percent to £2,468£1,777 million in 20162019 compared to £2,478£2,183 million in 2015 due to additional charges relating to certain leasing assets2018 reflecting lower income and higher impairments partially offset by total income growth.lower expenses.
Net interest income increaseddecreased by £159£95 million, or 63 per cent, to £2,735£2,918 million in 20162019 compared to £2,576£3,013 million in 2015 with an improvement in net interest2018 reflecting asset margin supported by high quality deposit growth, disciplined deposit pricing and reduced funding costs.pressure.
Other income decreased by £85£248 million or 4 per cent, to £1,987£1,422 million in 20162019 compared to £2,072£1,670 million in 2015 driven by non-recurring income recognised2018 reflecting challenging market conditions leading to lower levels of client activity, particularly in 2015, relating to refinancing support of Global Corporates clients.markets.
Operating lease depreciation increasedcosts decreased by £75£110 million to £105£2,081 million in 20162019 compared to £30£2,191 million in 2015 due to additional charges relating to certain leasing assets.2018 reflecting efficiency savings and despite increased investment.
Operating expensesRemediation costs decreased by £29£48 million to £2,133£155 million in 20162019 compared to £2,162£203 million in 2015.2018.
Impairments increased by £38£235 million, to £16£306 million charge in 20162019 compared to £22 million release in 2015.
2015 COMPARED WITH 2014
Commercial Banking underlying profit increased by £222 million, or 10 per cent, to £2,478£71 million in 2015 compared to £2,256 million in 2014 due to lower impairments and increased total underlying income partially offset by higher operating costs.
Net interest income increased by £34 million, or 1 per cent, to £2,576 million in 2015 compared to £2,542 million in 20142018 with the increase driven by reduced funding costs and higher net interest margin due to disciplined new lending and an increase in deposits.
Other income increased by £110 million, or 6 per cent, to £2,072 million in 2015 compared to £1,962 million in 2014 driven by refinancing support provided to Global Corporate clients and increases in Mid Markets.
Operating lease depreciation increased by £6 million to £30 million in 2015 compared to £24 million in 2014. Operating expenses increased by £23 million, to £2,162 million in 2015 compared to £2,139 million in 2014.
Impairments improved by £107 million to a £22 million release in 2015 compared to an £85 million charge in 2014 reflecting lower gross charges and an increase in write-backs.
two individual corporate cases.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
CONSUMER FINANCE
Consumer Finance comprises motor finance, credit cards, unsecured personal loans and its European business, which includes mortgages and deposit taking. Unsecured personal loans joined the division in 2016 in order to reposition this business for growth. This brings together all consumer lending products to enable better and more coordinated focus on these markets. Consumer Finance’s aim is to deliver sustainable growth within risk appetite through building digital capability and continuing to create innovative propositions, underpinned by improvements to customer experience.
2016 | 2015 | 1 | 2014 | 1 | ||||||||
£m | £m | £m | ||||||||||
Net interest income | 1,941 | 1,954 | 2,037 | |||||||||
Other income | 1,338 | 1,359 | 1,368 | |||||||||
Total income | 3,279 | 3,313 | 3,405 | |||||||||
Operating lease depreciation | (775 | ) | (720 | ) | (667 | ) | ||||||
Net income | 2,504 | 2,593 | 2,738 | |||||||||
Operating expenses | (939 | ) | (977 | ) | (971 | ) | ||||||
Impairment | (282 | ) | (235 | ) | (318 | ) | ||||||
Underlying profit | 1,283 | 1,381 | 1,449 |
2016 COMPARED WITH 2015
Underlying profit was £1,283 million in 2016 compared to £1,381 million in 2015, a decrease of £98 million, or 7 per cent, driven by slightly lower income and increased impairment.
Total income decreased by £34 million to £3,279 million in 2016 compared to £3,313 million in 2015.
Net interest margin decreased by 73 basis points to 5.88 per cent, contributing to a reduction in net interest income to £1,941 million in 2016 compared to £1,954 million in 2015. Net interest margin was down due to the focus on high quality, lower margin motor finance business, with the margin also impacted by lower Euribor and planned reductions in deposits, in line with the Lloyds Banking Group’s funding strategy.
Other income reduced by £21 million to £1,338 million in 2016 compared to £1,359 million in 2015, due to the market-wide reduction in credit card interchange fees, partly offset by continued fleet growth in Lex Autolease.
Operating expenses reduced by £38 million, or 4 per cent, to £939 million in 2016 compared to £977 million in 2015 with continued investment in the business more than offset by underlying efficiency savings.
The impairment charge increased by £47 million, or 20 per cent, to £282 million in 2016 compared to £235 million in 2015, primarily due to overall growth and the non-recurrence of a favourable one-off release in 2015.
2015 COMPARED WITH 2014
Underlying profit was £1,381 million in 2015 compared to £1,449 million in 2014 with growth in better quality but lower margin lending resulting in lower income but lower impairments, offset by increased cost of investment in growth initiatives.
Total income decreased by £92 million to £3,313 million in 2015 compared to £3,405 million in 2014.
Net interest margin decreased by 68 basis points to 6.61 per cent, contributing to a reduction in net interest income to £1,954 million in 2015 compared to £2,037 million in 2014. Net interest margin was down due to the acquisition of lower risk but lower margin new business, an increased proportion of Black Horse lending including the partnership with Jaguar Land Rover, lower unsecured personal lending balances and the impact of the planned reduction in deposits in line with the Group’s balance sheet funding strategy.
Other income reduced by £9 million to £1,359 million in 2015 compared to £1,368 million in 2014, as higher income from growing the Lex Autolease fleet was offset by the impact of lower interchange income in Cards following the recent EU ruling.
Operating expenses increased by £6 million to £977 million in 2015 compared to £971 million in 2014 as operating cost savings were offset by continued investment in growth initiatives.
The impairment charge reduced by £83 million, or 26 per cent, to £235 million in 2015 compared to £318 million in 2014. This has been driven by continued underlying improvement in portfolio quality and supported by the sale of recoveries assets in the credit card and unsecured personal lending portfolios together with a one-off release in the motor business. The asset quality ratio improved by 28 basis points.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
INSURANCE AND WEALTH
Insurance providesand Wealth offers insurance, investment and wealth management products and services. It supports over 10 million customers with assets under administration of £170 billion and annualised annuity payments in retirement of over £1 billion. The Group continues to invest significantly in the development of the business, with the aims of capturing considerable opportunities in pensions and financial planning, offering customers a broad range of long term savings, retirementsingle home for their banking and protection products to retailinsurance needs and corporate customers, either direct ordriving growth across intermediary and relationship channels through intermediary networks or through the Group’s banking branches .a strong distribution model.
Life, Pensions and Investments
The Life, Pensions and Investments business provides long-term savings, retirement solutions and protection products primarily distributed through intermediaries and direct channels of Scottish Widows.
General Insurance
The General Insurance business is a leading provider of home insurance in the UK, with products sold through the branch network, direct channels and strategic corporate partners. The business also has brokerage operations for personal and commercial insurances. It operates primarily under the Lloyds Bank, Halifax and Bank of Scotland brands.
2016 | 2015 | 2014 | ||||||||||
£m | £m | £m | ||||||||||
Net interest expense | (146 | ) | (163 | ) | (131 | ) | ||||||
Other income | 1,755 | 1,827 | 1,725 | |||||||||
Total income, net of insurance claims | 1,609 | 1,664 | 1,594 | |||||||||
Operating expenses | (772 | ) | (702 | ) | (672 | ) | ||||||
Underlying profit | 837 | 962 | 922 |
2016 COMPARED WITH 2015
2019 £m | 2018 £m | |||||||
Net interest income | 112 | 123 | ||||||
Other income | 2,021 | 1,865 | ||||||
Total income | 2,133 | 1,988 | ||||||
Operating costs | (982 | ) | (1,021 | ) | ||||
Remediation | (50 | ) | (39 | ) | ||||
Total costs | (1,032 | ) | (1,060 | ) | ||||
Impairment | – | (1 | ) | |||||
Underlying profit | 1,101 | 927 |
Underlying profit from Insurance and Wealth was £125£174 million, or 1319 per cent lowerhigher at £837£1,101 million compared to £962£927 million in 2015. A 17 per cent2018 as a result of an increase of £145 million in total income and a £39 million decrease in operating costs, partly offset by an increase in new business income was more than offset by adverse economics impacting existing business income together with increased investmentremediation costs.
Net interest expenseincome decreased by £17£11 million, or 109 per cent, to £146£112 million from £163£123 million in 2015 due to lower interest rates.
Other income decreased by £72 million, or 4 per cent, to £1,755 million from £1,827 million in 2015. The decrease was driven by adverse economics impacting existing business income partly offset by growth in the planning and retirement and protection propositions and increased general insurance income.
2015 COMPARED WITH 2014
Underlying profit from insurance was £40 million, or 4 per cent higher at £962 million compared to £922 million in 2014. The increase was driven by bulk annuity deals and the net benefit from a number of assumption updates, partly offset by increased costs reflecting significant investment spend, adverse economics, and reduced general insurance income.
Net interest expense increased by £32 million, or 24 per cent, to £163 million from £131 million in 2014 due to holding increased debt whilst a tranche of subordinated debt was re-financed.2018.
Other income increased by £102£156 million, or 68 per cent to £1,827£2,021 million from £1,725£1,865 million in 2014. The increase2018. Life and pensions new business income was driven by bulk annuity dealsup 19 per cent to £628 million. Higher experience and the netother items includes a one-off benefit from a numberthe change in investment management provider. General insurance income net of assumption updates, partly offset by adverse economics and reduced general insurance income.
OPERATING AND FINANCIAL REVIEW AND PROSPECTSclaims increased, benefitting from benign weather in 2019.
UNDERLYING PROFITOperating costs were £39 million lower with cost savings offsetting higher investment in the business.
Remediation increased by £11 million, or 27 per cent, to £50 million from £39 million.
INCOME BY PRODUCT GROUP
2016 | 2015 | 2014 | ||||||||||||||||||||||||||||||||||
New | Existing | New | Existing | New | Existing | |||||||||||||||||||||||||||||||
business | business | Total | business | business | Total | business | business | Total | ||||||||||||||||||||||||||||
income | income | income | income | income | income | income | income | income | ||||||||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | £m | £m | £m | ||||||||||||||||||||||||||||
Corporate pensions | 123 | 135 | 258 | 140 | 175 | 315 | 143 | 164 | 307 | |||||||||||||||||||||||||||
Bulk annuities | 121 | 16 | 137 | 125 | – | 125 | – | – | – | |||||||||||||||||||||||||||
Planning and retirement | 109 | 95 | 204 | 40 | 94 | 134 | 63 | 123 | 186 | |||||||||||||||||||||||||||
Protection | 19 | 33 | 52 | 12 | 37 | 49 | 46 | 31 | 77 | |||||||||||||||||||||||||||
Longstanding life, pensions and investments | 9 | 393 | 402 | 9 | 467 | 476 | 16 | 483 | 499 | |||||||||||||||||||||||||||
381 | 672 | 1,053 | 326 | 773 | 1,099 | 268 | 801 | 1,069 | ||||||||||||||||||||||||||||
Life and pensions experience and other items | 223 | 235 | 26 | |||||||||||||||||||||||||||||||||
General Insurance | 354 | 323 | 418 | |||||||||||||||||||||||||||||||||
Net interest income and free asset return | (21 | ) | 7 | 81 | ||||||||||||||||||||||||||||||||
Total costs | (772 | ) | (702 | ) | (672 | ) | ||||||||||||||||||||||||||||||
Underlying profit | 837 | 962 | 922 |
2016 COMPARED WITH 2015
2019 | 2018 | |||||||||||||||||||||||
New business income £m | Existing business income £m | Total income £m | New business income £m | Existing business income £m | Total income £m | |||||||||||||||||||
Workplace, planning and retirement | 387 | 120 | 507 | 333 | 153 | 486 | ||||||||||||||||||
Individual and bulk annuities | 209 | 68 | 277 | 160 | 84 | 244 | ||||||||||||||||||
Protection | 21 | 24 | 45 | 20 | 22 | 42 | ||||||||||||||||||
Longstanding life, pensions and investments | 11 | 384 | 395 | 13 | 414 | 427 | ||||||||||||||||||
628 | 596 | 1,224 | 526 | 673 | 1,199 | |||||||||||||||||||
Life and pensions experience and other items | 255 | 143 | ||||||||||||||||||||||
General Insurance | 326 | 272 | ||||||||||||||||||||||
1,805 | 1,614 | |||||||||||||||||||||||
Wealth | 328 | 374 | ||||||||||||||||||||||
Total income | 2,133 | 1,988 |
New business income has increased by £55£102 million to £381£628 million, driven by growthincreases in planningnew members in existing workplace schemes, increased auto enrolment workplace contributions and retirement and protection propositions. This has more than offset lower income from corporate pensions.bulk annuities.
Existing business income has decreased by £101£77 million primarily driven by adverse economics.from £673 million, due to the equity hedging strategy to reduce capital and earnings volatility.
There wasExperience and other items contributed a net benefit of £223 million as a result of experience and other items.£255 million. This included one off benefits following an update to the methodology for calculating the illiquidity premium and the addition of a new death benefit to legacy pension contracts, to align terms with other pensions products. These were partly offset by the effect of recent reforms on activity within the pensions market.
General insurance income net of claims has increased by £31 million primarily driven by lower weather related claims.
Net interest income and free asset return has decreased by £28 million with benefits from lower interest rates on net interest income being more than offset by a lower expected rate of return on free assets.
Total costs were £70was £112 million higher reflecting increased investmentthan 2018 and £28 million annual levy associated with the Flood Re scheme.
2015 COMPARED WITH 2014
New business income increased by £58 million to £326 million with the primary driver being the new bulk annuity business. This was offset byincludes a reduction in Protection income, following the removal of face-to-face advice in branch standalone protection sales and reduced annuity income following the introduction of Pensions Freedoms in 2015. Corporate pension income remained robust despite lower sales following the auto enrolment driven increases in 2014.
Existing business income decreased by £28 million reflecting the reduction in the expected rate of return used to calculate life and pensions income. The rate of return is largely set by reference to an average 15 year swap rate (2.57 per cent in 2015 and 3.48 per cent in 2014).
Life and pensions experience and other items increased by £209 million. 2015 assumption changes and experience variances include an adverse impact of £208 million in Pensions and Investments as a result of the strengthening of lapse assumptions on the pensions book to allow for the impact of the recent pension reforms. This was more than offset by the £240 million ofone-off benefit recognised within Planning and Retirement, primarily as a result of changes to assumptions on longevity. These longevity changes reflect both experience in the annuity portfolio and the adoption of a new industry model reflecting an updated view of future life expectancy. Benefits from the long termchange in investment strategy increased by £15 million, reflecting the successful acquisition of a further £1.4 billion of higher yielding assets to match the long duration annuity liabilities.
General Insurance income net of claims has fallen by £95 million. This reflects the run-off of products closed to new customers, the impact of becoming a sole underwriter of the home insurance business (which has resulted in a short-term reduction from the loss of commission recognised upfront) and the impact of adverse weather conditions.
Net interest income and free asset return has decreased by £74 million due to holding increased debt whilst a tranche of subordinated debt was re-financed and a lower rate of return on free assets.
Total costs were £30 million higher, reflecting significant investment spend as part of an ongoing programme of growth and simplification initiatives. In 2015 this included the launch of Protection to IFAs and the bulk annuities business alongside the Part VII transfer as well as a significant regulatory change agenda in particular to support pensions freedoms and transition to Solvency II. Excluding investment related expenditure, underlying costs fell by 3 per cent during 2015 reflecting ongoing operational efficiencies.management provider.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
OTHER
Other comprises Run-off,Central items which include income and expenditure not attributed to divisions, including the resultscosts of TSB up until loss of control in March 2015certain central and Central items.head office functions and the Group’s private equity business, Lloyds Development Capital.
Run-off
Run-off includes assets classified as outside the Group’s risk appetite and the results and gains on sale relating to businesses disposed in 2014.
2019 £m | 20181 £m | |||||||
Total income | 815 | 896 | ||||||
Operating costs | (52 | ) | (56 | ) | ||||
Remediation | (2 | ) | (91 | ) | ||||
Total costs | (54 | ) | (147 | ) | ||||
Impairment release (charge) | 53 | (4 | ) | |||||
Underlying profit | 814 | 745 |
2016 | 2015 | 2014 | ||||||||||
£m | £m | £m | ||||||||||
Net interest expense | (110 | ) | (88 | ) | (116 | ) | ||||||
Other income | 120 | 145 | 451 | |||||||||
Total income | 10 | 57 | 335 | |||||||||
Operating lease depreciation | (15 | ) | (14 | ) | (29 | ) | ||||||
Net income | (5 | ) | 43 | 306 | ||||||||
Operating expenses | (77 | ) | (150 | ) | (279 | ) | ||||||
Impairment | 26 | (8 | ) | (203 | ) | |||||||
Underlying loss | (56 | ) | (115 | ) | (176 | ) |
1 | Restated, as explained on page F-25. |
2016 COMPARED WITH 2015
The underlying loss of £56Profit before tax was £69 million, was an improvement of £59or 9 per cent, higher at £814 million in 2019 compared to the loss of £115£745 million in 2015.2018.
Total income, decreased by £47 million to £10 million in 2016 compared to £57 million in 2015, in particular reflecting reduced feewhich includes the central recovery of the Group’s distributions on other equity instruments and gains on the sale of gilts and other income as the portfolio continues to run off.
Operating expenses were £73liquid assets, reduced by £81 million, or 499 per cent lower at £77to £815 million compared to £150£896 million in 2015 reflecting the reducing costs of managing the portfolio as it runs down.2018.
ImpairmentTotal costs were £93 million lower at £54 million in 2019 compared to £147 million in 2018 reflecting a £89 million reduction in the remediation charge from £91 million in 2018 to £2 million in 2019.
There was a creditan impairment release of £26£53 million compared to a small charge of £8£4 million in 2015, in particular reflecting a2018; the credit in 2016 compared2019 included releases relating to a charge in 2015 in relation to Irish lendingthe reassessment of credit risk associated with debt instruments held within the Group’s equity investments business.
2015 COMPARED WITH 2014RESULTS OF OPERATIONS – 2017
The underlying lossGroup’s results for the year ended 31 December 2017, and a discussion of £115 million was £61 million lower than the loss of £176 million in 2014 as a result of both lower operating expenses and lower impairment charges asresults for the run-off portfolios were managed down.
The reduction in total income from £335 million in 2014year ended 31 December 2018 compared to £57 million in 2015 was duethose for the year ended 31 December 2017 (prior to the sale of Scottish Widows Investment Partnership during 2014 and the continued reduction in run-off assets.
Operating costs were £164 million, down £144 million as a result of business disposals in 2014.
The reductionrestatement described in the impairment charge from £203 millionfootnote to the table on page 17), were included in 2014 to £8 million in 2015 reflects the continued progress in managing down the run-off portfolios.
TSB
TSB served retail and small business customers; providing a full range of retail banking products. The Group sold its controlling interest in TSB in March 2015 and ceased to consolidate TSB’s results at that point.
2016 | 2015 | 2014 | ||||||||||
£m | £m | £m | ||||||||||
Net interest income | – | 192 | 786 | |||||||||
Other income | – | 31 | 140 | |||||||||
Total income | – | 223 | 926 | |||||||||
Operating expenses | – | (86 | ) | (370 | ) | |||||||
Impairment | – | (19 | ) | (98 | ) | |||||||
Underlying profit | – | 118 | 458 |
TSB results are shown2018 Form 20-F, filed on a Lloyds Banking Group reporting basis. The costs of TSB’s head office functions are excluded from underlying profit.25 February 2019.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
OTHERAVERAGE BALANCE SHEET AND NET INTEREST INCOME (continued)
2016 COMPARED WITH 2015
Because TSB was sold during 2015, no results have been consolidated in 2016, this compares to a profit of £118 million in 2015, for the period up to sale in March 2015.
2015 COMPARED WITH 2014
Underlying profit was £340 million, or 74 per cent, lower at £118 million in 2015 compared to £458 million in 2014; this principally reflects the fact that TSB was only consolidated for three months in 2015, compared to a full year in 2014.
Total income was £703 million, or 76 per cent, lower at £223 million in 2015 compared to £926 million in 2014; operating expenses were £284 million, or 77 per cent, lower at £86 million in 2015 compared to £370 million in 2014; and the impairment charge was £79 million, or 81 per cent, lower at £19 million in 2015 compared to £98 million in 2014.
Central items
Central Items includes income and expenses not recharged to the divisions. These largely comprise residual income from the Group’s processes to allocate funding and liquidity costs to the divisions and the charge for payments to the Group’s charitable foundations.
2016 | 2015 | 2014 | ||||||||||
£m | £m | £m | ||||||||||
Total income | 330 | 176 | 132 | |||||||||
Operating expenses credit (expense) | 2 | 19 | (22 | ) | ||||||||
Impairment release (charge) | – | 2 | (2 | ) | ||||||||
Underlying profit | 332 | 197 | 108 |
2016 COMPARED WITH 2015
The underlying profit of £332 million was £135 million, or 69 per cent, higher than £197 million in 2015.
Total income increased by £154 million to £330 million in 2016 compared to £176 million in 2015 largely as a result of sales of liquid assets including gilts, and the timing of dividends from the Group’s strategic investments.
Operating expenses were a credit of £2 million compared to a credit of £19 million in 2015.
2015 COMPARED WITH 2014
Underlying profit was £197 million in 2015, £89 million higher than the £108 million profit in 2014.
Total income was £176 million, £44 million higher than 2014 as it included a full year benefit in net interest income from the exchange of the Enhanced Capital Notes in 2014.
Operating costs were a credit of £19 million compared with a charge of £22 million in 2014 and represent the residual amount after allocations to the divisions.
There was a net release of impairment of £2 million compared with a charge of £2 million in 2014.
2019 | 2018 | 2017 | ||||||||||||||||||||||||||||||||||
Average balance £m | Interest income £m | Yield % | Average balance £m | Interest income £m | Yield % | Average balance £m | Interest income £m | Yield % | ||||||||||||||||||||||||||||
Assets | ||||||||||||||||||||||||||||||||||||
Financial assets at amortised cost: | ||||||||||||||||||||||||||||||||||||
Loans and advances to banks | 65,504 | 514 | 0.78 | 67,609 | 565 | 0.84 | 67,049 | 271 | 0.40 | |||||||||||||||||||||||||||
Loans and advances to customers | 497,574 | 15,790 | 3.17 | 476,149 | 15,078 | 3.17 | 464,944 | 14,712 | 3.16 | |||||||||||||||||||||||||||
Debt securities | 5,464 | 122 | 2.23 | 4,129 | 66 | 1.60 | 3,332 | 43 | 1.29 | |||||||||||||||||||||||||||
Held-to-maturity investments | – | – | – | |||||||||||||||||||||||||||||||||
Financial assets at fair value through other comprehensive income | 26,461 | 435 | 1.64 | 32,334 | 640 | 1.98 | ||||||||||||||||||||||||||||||
Available-for-sale financial assets | 50,049 | 980 | 1.96 | |||||||||||||||||||||||||||||||||
Total interest-earning assets of banking book | 595,003 | 16,861 | 2.83 | 580,221 | 16,349 | 2.82 | 585,374 | 16,006 | 2.73 | |||||||||||||||||||||||||||
Total interest-earning financial assets at fair value through profit or loss | 72,457 | 1,637 | 2.26 | 83,887 | 1,758 | 2.10 | 79,754 | 1,772 | 2.22 | |||||||||||||||||||||||||||
Total interest-earning assets | 667,460 | 18,498 | 2.77 | 664,108 | 18,107 | 2.73 | 665,128 | 17,778 | 2.67 | |||||||||||||||||||||||||||
Allowance for impairment losses on financial assets held at amortised cost | (3,468 | ) | – | (3,074 | ) | (2,161 | ) | |||||||||||||||||||||||||||||
Non-interest earning assets | 167,480 | – | 157,026 | 155,853 | ||||||||||||||||||||||||||||||||
Total average assets and interest income | 831,472 | 18,498 | 2.22 | 818,060 | 18,107 | 2.21 | 818,820 | 17,778 | 2.17 | |||||||||||||||||||||||||||
2019 | 2018 | 2017 | ||||||||||||||||||||||||||||||||||
Average interest earning assets £m | Net interest income £m | Net interest margin % | Average interest earning assets £m | Net interest income £m | Net interest margin % | Average interest earning assets £m | Net interest income £m | Net interest margin % | ||||||||||||||||||||||||||||
Average interest-earning assets and net interest income: | ||||||||||||||||||||||||||||||||||||
Banking business | 595,003 | 10,180 | 1.71 | 580,221 | 13,396 | 2.31 | 585,374 | 10,912 | 1.86 | |||||||||||||||||||||||||||
Trading securities and other financial assets at fair value through profit or loss | 72,457 | 1,356 | 1.87 | 83,887 | 1,191 | 1.42 | 79,754 | 1,294 | 1.62 | |||||||||||||||||||||||||||
667,460 | 11,536 | 1.73 | 664,108 | 14,587 | 2.20 | 665,128 | 12,206 | 1.84 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
2019 | 2018 | 2017 | ||||||||||||||||||||||||||||||||||
Average balance £m | Interest expense £m | Cost % | Average balance £m | Interest expense £m | Cost % | Average balance £m | Interest expense £m | Cost % | ||||||||||||||||||||||||||||
Liabilities and shareholders’ funds | ||||||||||||||||||||||||||||||||||||
Deposits by banks | 11,164 | 96 | 0.86 | 8,405 | 117 | 1.39 | 6,758 | 80 | 1.18 | |||||||||||||||||||||||||||
Customer deposits | 341,254 | 2,015 | 0.59 | 342,929 | 1,812 | 0.53 | 348,662 | 1,721 | 0.49 | |||||||||||||||||||||||||||
Liabilities to banks and customers under sale and repurchase agreements | 26,905 | 301 | 1.12 | 25,634 | 245 | 0.96 | 18,943 | 110 | 0.58 | |||||||||||||||||||||||||||
Debt securities in issue1 | 97,456 | 1,204 | 1.24 | 86,099 | 234 | 0.27 | 72,762 | 266 | 0.37 | |||||||||||||||||||||||||||
Lease liabilities | 1,684 | 42 | 2.49 | 41 | 1 | 2.46 | 21 | 1 | 2.38 | |||||||||||||||||||||||||||
Amounts payable to unitholders in consolidated open-ended investment vehicles | 13,352 | 1,822 | 13.65 | 13,915 | (844 | ) | (6.07 | ) | 15,675 | 1,435 | 9.15 | |||||||||||||||||||||||||
Subordinated liabilities | 17,682 | 1,201 | 6.79 | 18,193 | 1,388 | 7.63 | 18,674 | 1,481 | 7.93 | |||||||||||||||||||||||||||
Total interest-bearing liabilities of banking book | 509,497 | 6,681 | 1.31 | 495,216 | �� | 2,953 | 0.60 | 481,495 | 5,094 | 1.06 | ||||||||||||||||||||||||||
Total interest-bearing liabilities of trading book | 26,101 | 281 | 1.08 | 44,101 | 567 | 1.29 | 55,288 | 478 | 0.86 | |||||||||||||||||||||||||||
Total interest-bearing liabilities | 535,598 | 6,962 | 1.30 | 539,317 | 3,520 | 0.65 | 536,783 | 5,572 | 1.04 | |||||||||||||||||||||||||||
Interest-free liabilities | ||||||||||||||||||||||||||||||||||||
Non-interest bearing customer accounts | 74,906 | 72,913 | 66,276 | |||||||||||||||||||||||||||||||||
Other interest-free liabilities | 171,611 | 157,072 | 166,403 | |||||||||||||||||||||||||||||||||
Non-controlling interests and shareholders’ funds | 49,357 | 48,758 | 49,358 | |||||||||||||||||||||||||||||||||
Total average liabilities and interest expense | 831,472 | 6,962 | 0.84 | 818,060 | 3,520 | 0.43 | 818,820 | 5,572 | 0.68 |
AVERAGE BALANCE SHEET AND NET INTEREST INCOME
2016 | 2015 | 2014 | ||||||||||||||||||||||||||||||||||
Average | Interest | Average | Interest | Average | Interest | |||||||||||||||||||||||||||||||
balance | income | Yield | balance | income | Yield | balance | income | Yield | ||||||||||||||||||||||||||||
£m | £m | % | £m | £m | % | £m | £m | % | ||||||||||||||||||||||||||||
Assets | ||||||||||||||||||||||||||||||||||||
Loans and receivables: | ||||||||||||||||||||||||||||||||||||
Loans and advances to banks | 82,409 | 381 | 0.46 | 94,543 | 397 | 0.42 | 78,762 | 406 | 0.52 | |||||||||||||||||||||||||||
Loans and advances to customers | 457,622 | 15,190 | 3.32 | 464,012 | 16,256 | 3.50 | 504,246 | 17,806 | 3.53 | |||||||||||||||||||||||||||
Debt securities | 3,797 | 56 | 1.47 | 2,139 | 40 | 1.87 | 1,633 | 42 | 2.57 | |||||||||||||||||||||||||||
Available-for-sale financial assets | 40,604 | 762 | 1.88 | 40,967 | 725 | 1.77 | 50,269 | 957 | 1.90 | |||||||||||||||||||||||||||
Held-to-maturity investments | 16,003 | 231 | 1.44 | 13,256 | 197 | 1.49 | – | – | – | |||||||||||||||||||||||||||
Total interest-earning assets of banking book | 600,435 | 16,620 | 2.77 | 614,917 | 17,615 | 2.86 | 634,910 | 19,211 | 3.03 | |||||||||||||||||||||||||||
Total interest-earning trading securities and other financial assets at fair value through profit or loss | 81,961 | 1,594 | 1.94 | 87,583 | 1,955 | 2.23 | 82,018 | 1,993 | 2.43 | |||||||||||||||||||||||||||
Total interest-earning assets | 682,396 | 18,214 | 2.67 | 702,500 | 19,570 | 2.79 | 716,928 | 21,204 | 2.96 | |||||||||||||||||||||||||||
Allowance for impairment losses on loans and receivables | (2,536 | ) | (4,729 | ) | (10,051 | ) | ||||||||||||||||||||||||||||||
Non-interest earning assets | 148,965 | 145,224 | 158,584 | |||||||||||||||||||||||||||||||||
Total average assets and interest income | 828,825 | 18,214 | 2.20 | 842,995 | 19,570 | 2.32 | 865,461 | 21,204 | 2.45 | |||||||||||||||||||||||||||
2016 | 2015 | 2014 | ||||||||||||||||||||||||||||||||||
Average | Average | Average | ||||||||||||||||||||||||||||||||||
interest | Net | Net | interest | Net | Net | interest | Net | Net | ||||||||||||||||||||||||||||
earning | interest | interest | earning | interest | interest | earning | interest | interest | ||||||||||||||||||||||||||||
assets | income | margin | assets | income | margin | assets | income | margin | ||||||||||||||||||||||||||||
£m | £m | % | £m | £m | % | £m | £m | % | ||||||||||||||||||||||||||||
Average interest-earning assets and net interest income: | ||||||||||||||||||||||||||||||||||||
Banking business | 600,435 | 9,274 | 1.54 | 614,917 | 11,318 | 1.84 | 634,910 | 10,660 | 1.68 | |||||||||||||||||||||||||||
Trading securities and other financial assets at fair value through profit or loss | 81,961 | 1,060 | 1.29 | 87,583 | 1,205 | 1.38 | 82,018 | 1,464 | 1.78 | |||||||||||||||||||||||||||
682,396 | 10,334 | 1.51 | 702,500 | 12,523 | 1.78 | 716,928 | 12,124 | 1.69 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
2016 | 2015 | 2014 | ||||||||||||||||||||||||||||||||||
Average | Interest | Average | Interest | Average | Interest | |||||||||||||||||||||||||||||||
balance | expense | Cost | balance | expense | Cost | balance | expense | Cost | ||||||||||||||||||||||||||||
£m | £m | % | £m | £m | % | £m | £m | % | ||||||||||||||||||||||||||||
Liabilities and shareholders’ funds | ||||||||||||||||||||||||||||||||||||
Deposits by banks | 10,540 | 68 | 0.65 | 10,442 | 43 | 0.41 | 11,604 | 86 | 0.74 | |||||||||||||||||||||||||||
Customer deposits | 366,178 | 2,520 | 0.69 | 380,137 | 3,299 | 0.87 | 416,651 | 4,781 | 1.15 | |||||||||||||||||||||||||||
Liabilities to banks and customers under sale and repurchase agreements | 8,342 | 38 | 0.46 | 5,960 | 34 | 0.57 | 2,104 | 55 | 2.61 | |||||||||||||||||||||||||||
Debt securities in issue1 | 85,030 | 799 | 0.94 | 85,462 | 586 | 0.69 | 88,289 | 552 | 0.63 | |||||||||||||||||||||||||||
Amounts payable to unitholders in consolidated open-ended investment vehicles | 18,961 | 2,057 | 10.85 | 21,059 | 244 | 1.16 | 18,620 | 602 | 3.23 | |||||||||||||||||||||||||||
Subordinated liabilities | 22,330 | 1,864 | 8.35 | 24,975 | 2,091 | 8.37 | 29,332 | 2,475 | 8.44 | |||||||||||||||||||||||||||
Total interest-bearing liabilities of banking book | 511,381 | 7,346 | 1.44 | 528,035 | 6,297 | 1.19 | 566,600 | 8,551 | 1.51 | |||||||||||||||||||||||||||
Total interest-bearing liabilities of trading book | 50,700 | 534 | 1.05 | 61,560 | 750 | 1.22 | 54,980 | 529 | 0.96 | |||||||||||||||||||||||||||
Total interest-bearing liabilities | 562,081 | 7,880 | 1.40 | 589,595 | 7,047 | 1.20 | 621,580 | 9,080 | 1.46 | |||||||||||||||||||||||||||
Interest-free liabilities | ||||||||||||||||||||||||||||||||||||
Non-interest bearing customer accounts | 54,379 | 45,294 | 42,049 | |||||||||||||||||||||||||||||||||
Other interest-free liabilities | 163,688 | 158,852 | 157,824 | |||||||||||||||||||||||||||||||||
Non-controlling interests and shareholders’ funds | 48,677 | 49,254 | 44,008 | |||||||||||||||||||||||||||||||||
Total average liabilities and interest expense | 828,825 | 7,880 | 0.95 | 842,995 | 7,047 | 0.84 | 865,461 | 9,080 | 1.05 | |||||||||||||||||||||||||||
1 | The impact of the Group’s hedging arrangements is included on this line; excluding this impact the weighted average effective interest rate in respect of debt securities in issue would be |
Loans and advances to banks and customers include impaired lending; interest on this lending has been recognised using the effective interest rate method, as required by IAS 39.39 in 2017 and by IFRS 9 in 2018 and 2019.
Following the reduction in the Group’s non-UK activities, an analysis between domestic and foreign operations is not provided.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
CHANGES IN NET INTEREST INCOME – VOLUME AND RATE ANALYSIS
The following table allocates changes in net interest income between volume and rate for 20162019 compared with 20152018 and for 20152018 compared with 2014.
2017. Where variances have arisen from both changes in volume and rate these are allocated to volume.
2016 compared with 2015 Increase/(decrease) | 2015 compared with 2014 Increase/(decrease) | |||||||||||||||||||||||||||||||||||||||||||||||
2019 compared with 2018 Increase/(decrease) | 2018 compared with 2017 Increase/(decrease) | |||||||||||||||||||||||||||||||||||||||||||||||
Total change | Volume | Rate | Total change | Volume | Rate | |||||||||||||||||||||||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | Total change £m | Volume £m | Rate £m | Total change £m | Volume £m | Rate £m | |||||||||||||||||||||||||||||||||||||
Interest receivable and similar income | ||||||||||||||||||||||||||||||||||||||||||||||||
Loans and receivables: | ||||||||||||||||||||||||||||||||||||||||||||||||
At amortised cost: | ||||||||||||||||||||||||||||||||||||||||||||||||
Loans and advances to banks | (16 | ) | (56 | ) | 40 | (9 | ) | 66 | (75 | ) | (51 | ) | (16 | ) | (35 | ) | 294 | 5 | 289 | |||||||||||||||||||||||||||||
Loans and advances to customers | (1,066 | ) | (212 | ) | (854 | ) | (1,550 | ) | (1,408 | ) | (142 | ) | 712 | 679 | 33 | 366 | 355 | 11 | ||||||||||||||||||||||||||||||
Debt securities | 16 | 24 | (8 | ) | (2 | ) | 9 | (11 | ) | 56 | 30 | 26 | 23 | 13 | 10 | |||||||||||||||||||||||||||||||||
Available-for-sale financial assets | 37 | (7 | ) | 44 | (232 | ) | (165 | ) | (67 | ) | ||||||||||||||||||||||||||||||||||||||
Held-to-maturity investments | 34 | – | 34 | 197 | – | 197 | ||||||||||||||||||||||||||||||||||||||||||
Financial assets at fair value through other comprehensive income (2017: available-for-sale financial assets) | (205 | ) | (96 | ) | (109 | ) | (340 | ) | (351 | ) | 11 | |||||||||||||||||||||||||||||||||||||
Total banking book interest receivable and similar income | (995 | ) | (251 | ) | (744 | ) | (1,596 | ) | (1,498 | ) | (98 | ) | 512 | 597 | (85 | ) | 343 | 22 | 321 | |||||||||||||||||||||||||||||
Total interest receivable and similar income on trading securities and other financial assets at fair value through profit or loss | (361 | ) | (109 | ) | (252 | ) | (38 | ) | 124 | (162 | ) | |||||||||||||||||||||||||||||||||||||
Total interest receivable and similar income on financial assets at fair value through profit or loss | (121 | ) | (258 | ) | 137 | (14 | ) | 87 | (101 | ) | ||||||||||||||||||||||||||||||||||||||
Total interest receivable and similar income | (1,356 | ) | (360 | ) | (996 | ) | (1,634 | ) | (1,374 | ) | (260 | ) | 391 | 339 | 52 | 329 | 109 | 220 | ||||||||||||||||||||||||||||||
Interest payable | ||||||||||||||||||||||||||||||||||||||||||||||||
Deposits by banks | 25 | 1 | 24 | (43 | ) | (5 | ) | (38 | ) | (21 | ) | 24 | (45 | ) | 37 | 23 | 14 | |||||||||||||||||||||||||||||||
Customer deposits | (779 | ) | (96 | ) | (683 | ) | (1,481 | ) | (318 | ) | (1,163 | ) | 203 | (10 | ) | 213 | 91 | (30 | ) | 121 | ||||||||||||||||||||||||||||
Liabilities to banks and customers under sale and repurchase agreements | 4 | 10 | (6 | ) | (21 | ) | 22 | (43 | ) | 56 | 14 | 42 | 135 | 64 | 71 | |||||||||||||||||||||||||||||||||
Debt securities in issue | 213 | (4 | ) | 217 | 34 | (20 | ) | 54 | 970 | 141 | 829 | (32 | ) | 36 | (68 | ) | ||||||||||||||||||||||||||||||||
Lease liabilities | 41 | 41 | – | – | – | – | ||||||||||||||||||||||||||||||||||||||||||
Amounts payable to unitholders in consolidated open-ended investment vehicles | 1,813 | (228 | ) | 2,041 | (358 | ) | 28 | (386 | ) | 2,666 | (77 | ) | 2,743 | (2,279 | ) | 107 | (2,386 | ) | ||||||||||||||||||||||||||||||
Subordinated liabilities | (227 | ) | (221 | ) | (6 | ) | (384 | ) | (365 | ) | (19 | ) | (187 | ) | (35 | ) | (152 | ) | (93 | ) | (37 | ) | (56 | ) | ||||||||||||||||||||||||
Total banking book interest payable | 1,049 | (538 | ) | 1,587 | (2,253 | ) | (653 | ) | (1,600 | ) | 3,728 | 98 | 3,630 | (2,141 | ) | 163 | (2,304 | ) | ||||||||||||||||||||||||||||||
Total interest payable on trading and other liabilities at fair value through profit or loss | (216 | ) | (114 | ) | (102 | ) | 221 | 80 | 141 | (286 | ) | (194 | ) | (92 | ) | 89 | (144 | ) | 233 | |||||||||||||||||||||||||||||
Total interest payable | 833 | (652 | ) | 1,485 | (2,032 | ) | (573 | ) | (1,459 | ) | 3,442 | (96 | ) | 3,538 | (2,052 | ) | 19 | (2,071 | ) |
33 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
EFFECTIVE RISK MANAGEMENT AND CONTROL
THE GROUP’S APPROACH TO RISK Risk management is at the heart of the Group’s strategy to become the best bank for customers. The Group’s mission is to protect its customers, colleagues and the Group, whilst enabling sustainable growth in targeted segments. This is achieved through informed risk decision-making and robust risk management, supported by a consistent risk-focused culture. This risk overview provides a summary of risk management within the Group, with a prudent approach and rigorous controls to support sustainable business growth and minimise losses. Through a strong and independent risk function, a robust control framework is maintained to identify and escalate current and emerging risks, support sustainable growth within Group risk appetite, and to drive and inform good risk reward decisions. The risk management section from pages 41 to 108 provides a more in-depth picture of how risk is managed within the Group, detailing the Group’s emerging risks from pages 44 to 45, approach to stress testing, risk governance, committee structure, appetite for risk and a full analysis of the principal risk categories, the framework by which risks are identified, managed, mitigated and monitored. | RISK AS A STRATEGIC DIFFERENTIATOR Risks are identified, managed, mitigated and monitored using the Group’s comprehensive enterprise risk management framework, and its well-articulated risk appetite provides a clear framework for decision-making. The principal risks the Group face, which could significantly impact the delivery of the Group’s strategy, are discussed on pages 49 to 108. The Group believe effective risk management can be a strategic differentiator, in particular: Prudent approach to risk Being low risk is fundamental to the Group’s business model and drives its participation choices. Strategy and risk appetite are developed in tandem and together outline the parameters within which the Group operates. | Strong control framework The Group’s enterprise risk management framework is the foundation for the delivery of effective risk control and ensures that the Group risk appetite is continually developed and controlled. The Board is responsible for approving the Group’s risk appetite statement annually. Board-level metrics are cascaded into more detailed business appetite metrics and limits. Business focus and accountability Risk management is an integral feature of how the Group measure and manage performance – for individuals, businesses and the Group. In the first line of defence, business units are accountable for managing risk with oversight from a strong and independent second line of defence Risk division. Effective risk analysis, management and reporting Regular close monitoring and comprehensive reporting to all levels of management and the Board ensures appetite limits are maintained and subject to stress analysis at a risk type and portfolio level, as appropriate. |
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RISK CULTURE AND THE CUSTOMER The effectiveness of the Group’s risk management approach relies upon a culture of transparency and openness that is encouraged by both the Board and senior management. Based on the Group’s conservative business model, prudent approach to risk management, and guided by the Board, the senior management articulates the core risk values to which the Group aspires, and sets the tone from the top, with a strong focus on building and sustaining long-term relationships with customers through the economic cycle. The Group’s Code of Responsibility reinforces colleague accountability for the risks they take and their responsibility to prioritise their customers’ needs. | Tone from the top Senior leaders set a clear tone from the top and lead by example, reflecting the Group values; putting customers first, keeping it simple, and making a difference together, encouraging a culture of intellectual curiosity and proactive risk management amongst all colleagues. Accountability Risk management is a team effort with all colleagues playing their part and taking full individual responsibility for their actions. Effective communication and challenge The Group is open, honest and transparent with risk colleagues working in collaboration with business areas to: Support effective risk management; Understand root causes when things go wrong; Share lessons learned; and Provide constructive challenge. Incentives Remuneration, performance management and succession planning that support the Group’s core values and put the customer at the heart of everything the Group do. |
2019 THEMES The Group’s priorities for risk management have continued to evolve, alongside progression of the Group’s strategy and development of external factors. The Group’s principal risks are outlined over the next few pages but some themes have been particularly prevalent in 2019. Climate risk Climate change is a key global risk, impacting customers, investors and the Group in making the required transition towards a low carbon economy. The Group is committed to delivering the Task Force for Climate-Related Financial Disclosures by 2022 and are taking steps to fully integrate climate risk into the Group’s existing Enterprise Risk Management Framework, including the Group’s policies, risk appetite, controls and disclosures. The Group continues to invest in supporting this activity as part of the wider sustainability strategy, and are also active participants in a number of external initiatives to help drive consistency across the industry. | EU exit Given the vast majority of the Group’s business is in the UK, the direct impact on the Group from leaving the EU is relatively small and have taken the necessary steps to ensure continuity of the Group’s limited EU business activities, where permitted. The Group’s UK focus means its performance is inextricably linked to the health of the UK economy. Economic performance has remained resilient in recent years and whilst the near term outlook for the UK economy remains unclear given UK/EU trade agreement negotiations, the Group continues to monitor closely. The Group is also taking a prudent approach to balance sheet, accelerating issuance where appropriate. The Group’s customer focused strategy remains the right one. Guided by the overriding principle of Helping Britain Prosper, the Group continue to focus on customer needs and support the Group’s personal and business customers. The Group have delivered on its commitment to lend £18 billion to UK businesses in 2019, reaffirming support for the UK economy. | Change / Execution risk Delivering change is a key part of how the Group continues to serve its customers, fulfil its strategic objectives, and deliver its aim of Helping Britain Prosper. During 2019, key change initiatives included digitising of the Group and transforming ways of working. There has also been significant delivery of regulatory change in order to adapt to the changing regulatory landscape. The Group continues its drive to deliver a leading customer experience whilst managing a complex and varied change portfolio. Focus on improvements to the control environment and managing within risk appetite has enabled the safe delivery of change. The need to protect existing processes and minimise adverse impact on colleagues and clients will support the delivery of a leading customer experience. |
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THE GROUP’S PRINCIPAL RISKS
Principal risks and uncertainties are reported regularly to the Board Risk Committee. Change/execution, data and operational resilience have been elevated from existing risks to principal risks during 2019, and strategic added as a new principal risk
The risk that, in delivering the change agenda, the Group fails to ensure compliance with laws and regulation, maintain effective customer service and availability, and/or operate within our approved risk appetite.
Example
Ineffective change/execution risk management could lead to increased periods of time where the Group cannot serve its customers, and could lead to impacts associated with other risk types such as regulatory censure.
Risk Appetite
The Group have limited appetite for negative impacts on customers, colleagues, or the Group as a result of change activity.
Mitigation
Continued focus on strengthening the control environment, maturation of the change policy and associated policies and procedures, which set out the principles and key controls that apply across the business and are aligned to the Group risk appetite. Senior Management continue to drive improvements to Change and Execution Risk metrics, in particular those affecting customers and colleagues. | |
Businesses assess the potential impacts of undertaking any change activity on their ability to execute effectively, and the potential consequences for the existing risk profiles. |
Further detail on principal risks, including mitigation on page 50
Alignment to strategic priorities and future focus
Delivering a leading customer experience |
The Group recognise the importance of delivering the strategic priorities and will continue to invest in the transformation of the Group to deliver a leading customer experience. |
New principal risk | |
Change and Execution risk was elevated from a secondary risk to a principal risk in recognition of the significant volumes of complex change the Group is currently undertaking to deliver its strategy. This includes key change initiatives, digitising the Group and transforming ways of working which will help to future-proof against the heightened risks associated with the use of new technologies and manage regulatory requirements and expectations. The decision aligns with the Group’s progress in developing and embedding its change and execution risk management capabilities. | |
The risk that the Group fail to effectively govern, manage, and control its data (including data processed by third party suppliers) leading to unethical decisions, poor customer outcomes, loss of value and mistrust.
Example
The loss of trust from customers, colleagues, business partners or regulators arising from a failure to manage and control the Group’s data.
Risk Appetite
The Group have limited appetite for material events or losses that occur due to the inappropriate use of data.
Mitigation
Significant investment has been made to enhance the maturity of data risk management in recent years. | |
In addition, the General Data Protection programme which delivered the necessary infrastructure to achieve compliance with the new regulations in May 2018, a number of other large investments have been made. |
Further detail on principal risks, including mitigation on page 50
Alignment to strategic priorities and future focus
Delivering a leading customer experience |
The quality of the data that the Group holds and the choices the Group make in how it is used is a key strategic enabler to future business growth, delivering a leading customer experience and Helping Britain Prosper. | |
The Group recognises that lawful, fair and transparent collection and appropriate use of data, is critical to delivering a leading customer experience and maintaining trust across the wider industry. | |
Internal programmes ensure that data is used correctly, and the control environment is regularly assessed through both internal and third-party testing. |
New principal risk | |
Data was elevated from a secondary risk to a principal risk as one of the Group’s most valuable assets. It is critical to the business and is the subject of significant regulatory oversight and media focus. The Group is trusted with large volumes of data, and the Group must ensure that the information it holds is accurate, secure and managed appropriately. | |
The risk that the Group fail to design resilience into business operations, underlying infrastructure and controls (people, process, technology) so that it is able to withstand external or internal events which could impact the continuation of operations, and fails to respond in a way which meets customer and stakeholder expectations and needs when the continuity of operations is compromised.
Example
Ineffective risk management could lead to vital services not being available to customers and stakeholders.
Risk Appetite
The Group have a limited appetite for disruption to services to customers and stakeholders from significant unexpected events.
Mitigation
The Group has increased its focus on operational resilience and has updated its strategy to reflect changing priorities of both customers and regulators. |
Further detail on principal risks, including mitigation on page 51
Alignment to strategic priorities and future focus
Delivering a leading customer experience |
End-to-end resilience of the Group’s critical processes is a key strategic priority and the Group operational resilience programmes continue to invest in improving the control environment and resilience. The Group continues to exercise, test and improve its resilience through scenario testing as well as learning from real events (those impacting the Group but also those impacting others) through understanding the root cause. | |
The Group recognises the importance of its operational resilience to customers, markets and the wider financial sector. |
New principal risk | |
Operational resilience was elevated from a secondary risk to a principal risk as the ability to continue operations when subject to internal or external incidents, safeguarding the Group’s most critical processes and assets, protecting colleagues, continuing to service customers and minimising any impact on the banking systems is crucial. | |
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The risks which result from strategic plans which do not adequately reflect trends in external factors, ineffective business strategy execution, or failure to respond in a timely manner to external environments or changes in stakeholder behaviours and expectations.
Example
The financial services sector operates in an evolving regulatory and competitive environments with an increased pace, scale and complexity of change which creates a risk to the Group’s strategic plans. | |
Shareholder expectations continue to evolve potentially impacting the Group’s role in society. | |
Greater competition for specialist skill sets (such as data science and engineering), alongside demographic challenges in the working population, may result in a skills shortage impacting delivery of key strategic initiatives. |
Risk Appetite
The Group has business plans that are responsive to internal and external factors including changes to the regulatory, macroeconomic and competitive environments.
Mitigation
Continued digitisation of customer journeys, thereby enabling the delivery of market leading customer experiences that are seamless, accessible and personal. | |
Robust operating and contingency planning to ensure potential impacts of strategic initiatives and external drivers are mitigated. |
Further detail on principal risks, including mitigation on page 52
Alignment to strategic priorities and future focus
Delivering a leading customer experience |
The Group’s forward looking approach to managing strategic risk will help the Group identify new risks and opportunities, and allow the Group to be better prepared to respond to changes in the regulatory and competitive environments. |
New principal risk | |
Strategic risk is a new principal risk in acknowledgment of the increasing rate of change in customer expectations, regulatory and competitive environments along with the demands for specialist skills to meet these evolving needs. This aligns with the strategic priorities to deliver a leading customer experience by digitising the Group, maximising Group capabilities and transforming ways of working. |
The risk that parties with whom the Group have contracted fail to meet their financial obligations (both on or off balance sheet).
Example
Observed or anticipated changes in the economic environment could impact profitability due to an increase in delinquency, defaults, write-downs and/or expected credit losses.
Risk Appetite
The Group has a conservative and well balanced credit portfolio through the economic cycle, generating an appropriate return on equity, in line with the Group’s target return on equity in aggregate.
Mitigation
Prudent, through the cycle credit principles, risk policies and appetite statements. | |
Robust models and controls. |
Further detail on principal risks, including mitigation on page 52
Alignment to strategic priorities and future focus
Maximising Group capabilities |
The Group seek to support sustainable growth in targeted segments. The Group has a conservative and well-balanced credit portfolio, managed through the economic cycle and supported by strong credit portfolio management. | |
The Group is committed to better addressing customers’ banking needs through consistent, fair and responsible credit risk decisions, aligned to customers’ circumstances, whilst staying within prudent risk appetite. | |
Portfolios have benefitted from relatively favourable economic conditions and a prolonged period of low interest rates. Impairments remain below long-term levels, but are expected to increase as impairments normalise. |
Key risk indicators
£1,296m
Impairment charge
2018: £937m
The risk of financial penalties, regulatory censure, criminal or civil enforcement action or customer detriment as a result of failure to identify, assess, correctly interpret, comply with, or manage regulatory and/or legal requirements.
Example
Failure to deliver key regulatory changes or to comply with ongoing requirements.
Risk Appetite
The Group interprets and complies with all relevant regulation and all applicable laws (including codes of conduct which could have legal implications) and/or legal obligations.
Mitigation
Group policies and procedures set out the principles and key controls that should apply across the business which are aligned to the Group risk appetite. | |
Business units identify, assess and implement policy and regulatory requirements and establish local controls, processes, procedures and resources to ensure appropriate governance and compliance. |
Further detail on principal risks, including mitigation on page 81
Alignment to strategic priorities and future focus
Delivering a leading customer experience |
The Group is committed to operating sustainably and responsibly, and commit significant resource and expense to ensure it meets its legal and regulatory obligations. | |
The Group responds as appropriate to impending legislation, regulation and associated consultations and participate in industry bodies. The Group continues to be proactive in responding to significant ongoing and new legislation, regulation and court proceedings. |
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Risk overview continued
The risk of customer detriment across the customer lifecycle including: failures in product management, distribution and servicing activities; from other risks materialising, or other activities which could undermine the integrity of the market or distort competition, leading to unfair customer outcomes, regulatory censure, reputational damage or financial loss.
Example
The most significant conduct cost in recent years has been PPI mis-selling.
Risk Appetite
The Group delivers fair outcomes for its customers.
Mitigation
Simplified and enhanced conduct policies and procedures in place to ensure appropriate controls and processes that deliver fair customer outcomes, and support market integrity and competition requirements. | |
Active engagement with regulatory bodies and other stakeholders to develop understanding of concerns related to customer treatment, effective competition and market integrity, to ensure that the Group’s strategic conduct focus continues to meet evolving stakeholder expectations. |
Further detail on principal risks, including mitigation on page 82
Alignment to strategic priorities and future focus
Delivering a leading customer experience |
As the Group transforms the business, minimising conduct risk is critical to achieving its strategic goals and meeting regulatory standards. | |
The Group has senior committees that ensure its focus on embedding a customer-centric culture and delivering fair outcomes across the Group. The conduct risk framework continues to support this through robust and effective management. This supports the Group’s vision of being the best bank for customers, enabling the delivery of a leading customer experience through effective root cause analysis and learning from customer feedback. |
The risk of loss from inadequate or failed internal processes, people and systems, or from external events.
Example
Ineffective risk management could lead to adverse customer impact, reputational damage and financial loss, across all of the Group’s principal risks.
Risk Appetite
The Group has robust controls in place to manage operational losses, reputational events and regulatory breaches. The Group identifies and assesses emerging risks and acts to mitigate these.
Mitigation
The Group continues to review and invest in its control environment to ensure it addresses the inherent risks faced. | |
The Group employs a range of risk management strategies, including: avoidance, mitigation, transfer (including insurance) and acceptance. |
Further detail on principal risks, including mitigation on page 82
Alignment to strategic priorities and future focus
Delivering a leading customer experience |
The Group continues to manage operational risk within the appetite articulated by the Board and in compliance with legal and regulatory requirements to ensure a robust control environment and a positive customer experience. |
The risk that the Group fail to provide an appropriate colleague and customer-centric culture, supported by robust reward and wellbeing policies and processes; effective leadership to manage colleague resources; effective talent and succession management; and robust control to ensure all colleague-related requirements are met.
Example
Inability to attract or retain colleagues with key skills could impact the achievement of business objectives.
Risk Appetite
The Group leads responsibly and proficiently, manages people resource effectively, supports and develops colleague talent, and meets legal and regulatory obligations related to its people.
Mitigation
Focusing on leadership and colleague engagement, through delivery of strategies to attract, retain and develop high calibre people together with implementation of rigorous succession planning. | |
Continued focus on the Group’s culture by developing and delivering initiatives that reinforce the appropriate behaviours which generate the best possible long-term outcomes for customers and colleagues. |
Further detail on principal risks, including mitigation on page 84
Alignment to strategic priorities and future focus
Transforming ways of working |
Regulatory requirements relating to personal accountability and remuneration rules could affect the ability to attract and retain the calibre of colleagues required to meet changing customer needs. The Group recognises the challenges in delivering the Group’s strategic priorities and it will continue to invest in the development of colleague capabilities and agile working practices. This investment will deliver a leading customer experience and allow the Group to respond quickly to customers’ rapidly changing decision-making in a digital era. |
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The risk of adverse developments in the timing, frequency and severity of claims for insured/underwritten events and in customer behaviour, leading to reductions in earnings and/or value. Example Uncertain property insurance claims impact Insurance earnings and capital, e.g. extreme weather conditions, such as flooding, can result in high property damage claims. Risk Appetite The Group has robust controls in place to manage the insurance underwriting risk inherent in the products its Insurance business offers to meet customer needs. Mitigation General Insurance exposure to accumulations of risk and possible catastrophes is mitigated by reinsurance arrangements broadly spread over different reinsurers. Insurance processes on underwriting, claims management, pricing and product design. Further detail on principal risks, including mitigation on page 84 Alignment to strategic priorities and future focus Delivering a leading customer experience The Group is committed to meeting the changing needs of customers by working to provide a range of insurance products via multiple channels. The focus is on delivering a leading customer experience by helping customers protect themselves today whilst preparing for a secure financial future. Strategic growth initiatives within Insurance are developed and managed in line with a defined risk appetite, aligned to the Group risk appetite and strategy. | The risk that the Group has a sub-optimal quantity or quality of capital or that capital is inefficiently deployed across the Group. Example A worsening macroeconomic environment could lead to adverse financial performance, which could deplete capital resources and/ or increase capital requirements due to a deterioration in customers’ creditworthiness. Alternatively a shortage of capital could arise from an increase in the amount of capital that needs to be held. Risk Appetite The Group maintains capital levels commensurate with a prudent level of solvency and aim to deliver consistent and high quality returns to shareholders. Mitigation The Group has a capital management framework that includes the setting of capital risk appetite. The Group maintains a recovery plan which sets out a range of potential mitigating actions that could be taken in response to a stress. Further detail on principal risks, including mitigation on page 85 Alignment to strategic priorities and future focus. Maximising Group capabilities Ensuring the Group holds an appropriate level of capital to maintain financial resilience and market confidence underpins its strategic objectives of supporting the UK economy, and growth in targeted segments through the cycle. | Funding risk is the risk that the Group does not have sufficiently stable and diverse sources of funding or the funding structure is inefficient. Liquidity risk is the risk that the Group does not have sufficient financial resources to meet its commitments when they fall due, or can only secure them at excessive cost. Example A deterioration in either the Group’s or the UK’s credit rating, or a sudden and significant withdrawal of customer deposits, would adversely impact the Group’s funding and liquidity position. Risk Appetite The Group maintains a prudent liquidity profile and a balance sheet structure that limits the reliance on potentially volatile sources of funding. Mitigation The Group manages and monitors liquidity risks and ensures that liquidity risk management systems and arrangements are adequate with regard to the internal risk appetite, Group strategy and regulatory requirements The Group’s funding and liquidity position is underpinned by its significant customer deposit base, and is supported by strong relationships across customer segments Further detail on principal risks, including mitigation on page 94 Alignment to strategic priorities and future focus Maximising Group capabilities The Group maintain a strong funding position in line with its low risk strategy, and the loan to deposit ratio remains within the target range. The Group’s funding position allows us to grow targeted business segments, and better address our customers’ needs. | ||||
Key risk indicators £17,515m Life and pensions present value 2018: £14,384m £671m General insurance underwritten 2018: £690m | Key risk indicators 13.8%1 CET1 ratio 2018: 13.9%1,2 5.2%1 UK leveraged ratio 2018: 5.6%1 1 Adjusted basis 2 Incorporates the effects of the share buyback announced in February 2019. | Key risk indicators £118bn LCR eligible assets 2018: £129bn 107% Loan to deposit ratio 2018: 107% | ||||
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The risk that the Group’s organisational infrastructure fails to provide robust oversight of decision making and the control mechanisms to ensure strategies and management instructions are implemented effectively. Examples Inadequate or complex governance arrangements to address ring-fencing requirements and the potential impact of EU exit could result in a weaker control environment, delays in decision making and lack of clear accountability. Non-compliance with, or breaches of SMCR requirements could result in lack of clear accountability, and legal and regulatory consequences. Risk Appetite The Group has governance arrangements that support the effective long-term operation of the business, maximise shareholder value and meet regulatory and societal expectations. Mitigation Defining individual and collective accountabilities for risk management, risk oversight and risk assurance through a three lines of defence model which supports the discharge of responsibilities to customers, shareholders and regulators; Outlining governance arrangements which articulate the enterprise-wide approach to risk management Further detail on principal risks, including mitigation on page 101 Alignment to strategic priorities and future focus Delivering a leading customer experience Ring-fencing ensures that the Group is safer and continues to deliver a leading customer experience by providing further protection to core retail and SME deposits, increasing transparency of the Group’s operations and facilitating the options available in resolution. The Group’s governance framework and strong culture of ownership and accountability enabled effective, on time, compliance with the SMCR requirements and enable the Group to demonstrate clear accountability for decisions. | The risk that the Group’s capital or earnings profile is affected by adverse market rates, in particular interest rates and credit spreads in the banking business, equity, credit spreads and interest rates in the Insurance business, and credit spreads in the Group’s defined benefit pension schemes. Examples Earnings are impacted by the Group’s ability to forecast and model customer behaviour accurately and establish appropriate hedging strategies. The Insurance business is exposed indirectly to equity risk through the value of future management charges on policyholder funds. Credit spread and interest rate risk within the Insurance business primarily arises from bonds and loans used to back annuities. Narrowing credit spreads will increase the cost of pension scheme benefits. Risk Appetite The Group has robust controls in place to manage its inherent market risk and does not engage in any proprietary trading, reflecting the customer focused nature of the Group’s activities Mitigation Structural hedge programmes implemented to manage liability margins and margin compression. Equity and credit spread risks are closely monitored and, where appropriate, asset and liability matching is undertaken. The Group’s defined benefit pension schemes continue to monitor their credit allocation as well as the hedges in place against nominal rate and inflation movements. Further detail on principal risks, including mitigation on page 102 Alignment to strategic priorities and future focus Maximising Group capabilities The Group actively manages its exposure to movements in market rates, to drive lower volatility earnings and offer a comprehensive customer proposition with hedging strategies to support strategic aims. Mitigating actions are implemented to reduce the impact of market movements, resulting in a more stable capital position. Effective interest rate and inflation hedging has kept volatility in the Group’s defined benefit pension schemes low. This combined with improved market conditions has helped keep the schemes in IAS 19 surplus in 2019. This allows the Group to more efficiently utilise available capital resources. Key risk indicators £550m IAS 19 pension surplus 2018: £1,146m | The risk of financial loss, regulatory censure, reputational damage or customer detriment, as a result of deficiencies in the development, application and ongoing operation of Models and Rating Systems. Example The consequences of inadequate models could include: inappropriate levels of capital or impairments; inappropriate credit or pricing decisions; and adverse impacts on funding or liquidity, or the Group’s earnings and profits. Risk Appetite Material models are performing in line with expectations. Mitigation The model risk management framework, established by and with continued oversight from an independent team in the Risk division, provides the foundation for managing and mitigating model risk within the Group. Further detail on principal risks, including mitigation on page 108 Alignment to strategic priorities and future focus Digitising the Group The Group’s models play a vital role in supporting the strategy to ensure profitable growth in targeted segments and the drive toward automation and digital solutions to enhance customer outcomes. Model risk management helps ensure these models are implemented in a controlled and safe manner for both the Group and customers. | ||||
The Group’s emerging risks are shown on pages 44 to 45 and a full analysis of the Group’s risk categories is on pages 49 to 108. | ||||||
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EFFECTIVE RISK MANAGEMENT, GOVERNANCE AND CONTROL
Managing risk effectively is fundamental to the Group’s strategy and to operating successfully. The Group is a simple, low risk, UK focused, retail and commercial bank with a culture founded on a prudent through-the-economic-cycle appetite for risk.
A strong riskRisk management culture is crucial for sustainable growth and within Lloyds it is at the heart of everything the Group does.Group’s strategy to become the best bank for customers.
The Group’s mission is to protect customers, shareholders, colleagues and the Group, whilst enabling sustainable growth in targeted segments. This is achieved through informed risk decisions and robust risk management, supported by a consistent risk-focused culture.
The risk overview (pages 34 to 40) provides a summary of risk management within the Group. It highlights the important role of risk as a strategic differentiator, key areas of focus for risk during 2019, and the role of risk management in enhancing the customer experience, along with an overview of the Group’s enterprise risk management framework, and the principal risks faced by the Group.
This full risk management section provides a more in-depth picture of how risk is managed within the Group, detailing the Group’s emerging risks, approach to stress testing, risk governance, committee structure, appetite for risk and a full analysis of the principal risk categories (pages 49 to 108), and the framework by which risks are identified, managed, mitigated and monitored.
Each principal risk category is described and managed using the following standard headings: definition, exposures, measurement, mitigation and monitoring.
THE GROUP’S APPROACH TO RISK
The Group operates a prudent approach to risk with rigorous management controls to support sustainable business growth and minimise losses. Through a strong and independent risk function (Risk division), a robust control framework is founded onmaintained to identify and escalate current and emerging risks, support sustainable growth within the Group’s risk appetite, and to drive and inform good risk reward decision-making.
To meet ring-fencing requirements from 1 January 2019, core UK retail financial services and ancillary retail activities have been ring-fenced from other activities of the Group. The Group enterprise risk management framework and Group risk appetite apply across the Group and are supplemented by risk management frameworks and risk appetites for the sub-groups to meet sub-group specific needs. In each case these operate within the Group parameters. The Group’s corporate governance framework applies across Lloyds Banking Group plc, Lloyds Bank plc, Bank of Scotland plc and HBOS plc. It is tailored where needed to meet the entity specific needs of Lloyds Bank plc and Bank of Scotland plc, and supplementary corporate governance frameworks are in place to address sub-group specific requirements of the other sub-groups (Lloyds Bank Corporate Markets, Insurance and Lloyds Banking Group Equity Investments).
The Group’s enterprise risk management framework (ERMF) (see risk overview, page 34) is structured to align with the industry-accepted internal control framework standards.
The ERMF applies to every area of the business and covers all types of risk. It is reviewed, updated and approved by the Board at least annually to reflect any changes in the nature of the Group’s business and external regulations, law, corporate governance and industry best practice. The ERMF provides the Group with an effective control frameworkmechanism for developing and embedding risk policies and risk management strategies which guides howare aligned with the risks faced by its colleagues approach their work,businesses. It also seeks to facilitate effective communication on these matters across the way they behaveGroup.
ROLE OF THE BOARD AND SENIOR MANAGEMENT
Key responsibilities of the Board and the decisions they make. senior management include:
approval of the ERMF and Board risk appetite. | |
approval of Group-wide risk principles and policies. | |
the cascade of delegated authority (for example to Board sub-committees and the Group Chief Executive). | |
effective oversight of risk management consistent with risk appetite. |
RISK APPETITE
Risk appetite –is defined within the Group as the‘the amount and type of risk that the Group is prepared to seek, accept or tolerate – is approved bytolerate’ in delivering the BoardGroup strategy.
Group strategy and risk appetite are developed in tandem. Business planning aims to optimise value within risk appetite parameters and deliver on the Group’s promise to Help Britain Prosper.
The Group’s risk appetite statement details the risk parameters within which the Group operates. The statement forms part of the Group’s control framework and is embedded withininto policies, authorities and limits, to guide decision-making and risk management. The Board is responsible for approving the Group’s risk appetite statement at least annually. Group Board-level metrics are cascaded into more detailed business appetite metrics and limits.
Group risk appetite headlines are outlined within The Group’s Principal Risks section on pages 36 to 40.
GOVERNANCE FRAMEWORKS
The Group’s approach to risk is founded on a robust control framework and a strong risk management culture which are the foundation for the delivery of effective risk management and guide the way all employees approach their work, behave and make decisions.
Governance is maintained through delegation of authority from the Board to individuals through the management hierarchy. Senior executives are supported by a committee based structure which is designed to ensure open challenge and support effective decision-making.
The Group’s risk appetite, principles, policies, procedures, controls and reporting are regularly reviewed and updated where needed to ensure they remain fully in-line with regulation, law, corporate governance and industry good practice.
The interaction of the executive and non-executive governance structures relies upon a culture of transparency and openness that is encouraged by both the Board and senior management.
Board-level engagement, coupled with the direct involvement of senior management in Group-wide risk issues at Group Executive Committee level, ensures that escalated issues are promptly addressed and remediation plans are initiated where required.
Line managers are directly accountable for identifying and managing risks in their individual businesses, ensuring that business decisions strike an appropriate balance between risk and reward and are consistent with the Group’s risk appetite.
Clear responsibilities and accountabilities for risk are defined across the Group through a three lines of defence model which ensures effective independent oversight and assurance in respect of key decisions.
The risk committee governance framework is outlined on page 46.
THREE LINES OF DEFENCE MODEL
The ERMF is implemented through a ‘three lines of defence’ model which defines clear responsibilities and accountabilities and ensures effective independent oversight and assurance activities take place covering key decisions.
Business lines (first line) have primary responsibility for risk decisions, identifying, measuring, monitoring and controlling risks within their areas of accountability. They are required to establish effective governance and control frameworks for their business to be compliant with Group policy requirements, to maintain appropriate risk management skills, mechanisms and toolkits, and to act within Group risk appetite parameters set and approved by the Board.
Risk division (second line) is a centralised function, headed by the Chief Risk Officer, providing oversight and independent constructive challenge to the effectiveness of risk decisions taken by business management, providing proactive advice and guidance, reviewing, challenging and reporting on the risk profile of the Group and ensuring that mitigating actions are appropriate.
It also has a key role in promoting the implementation of a strategic approach to risk management reflecting the risk appetite and ERMF agreed by the Board that encompasses:
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overseeing embedding of effective risk management processes. | |
transparent, focused risk monitoring and reporting. | |
provision of expert and high quality advice and guidance to the Board, executives and management on strategic issues and horizon scanning, including pending regulatory changes. | |
a constructive dialogue with the first line through provision of advice, development of common methodologies, understanding, education, training, and development of new risk management tools. |
The primary role of Group Internal Audit (third line) is to help the Board and senior executive management protect the assets, reputation and sustainability of the Group. Group Internal Audit is led by the Group Chief Internal Auditor. Group Internal Audit provides independent assurance to the Audit Committee and the Board through performing reviews and engaging with committees and senior executive management, providing opinion and challenge on risk and the state of the control environment. Group Internal Audit is a single independent internal audit function, reporting to the Board Audit Committee of the Group and the Board Audit Committee of the key subsidiaries.
RISK AND CONTROL CYCLE FROM IDENTIFICATION TO REPORTING
To allow senior management to make informed risk decisions, the business follows a continuous risk management approach which includes producing appropriate, accurate and focused risk reporting. The risk and control cycle sets out how this should be approached, with the appropriate controls and processes in place. This cycle, from identification to reporting, ensures consistency and is intended to manage and mitigate the risks impacting the Group.
ACHIEVEMENTS IN 2016The process for risk identification, measurement and control is integrated into the overall framework for risk governance. Risk identification processes are forward-looking to ensure emerging risks are identified. Risks are captured and measured using robust and consistent quantification methodologies. The measurement of risks includes the application of stress testing and scenario analysis, and considers whether relevant controls are in place before risks are incurred.
Identified risks are reported on a monthly basis or as frequently as necessary to the appropriate committee. The extent of the risk is compared to the overall risk appetite as well as specific limits or triggers. When thresholds are breached, committee minutes are clear on the actions and timeframes required to resolve the breach and bring risk within tolerances. There is a clear process for escalation of risks and risk events.
All business areas complete a Control Effectiveness Review (CER) annually, reviewing the effectiveness of their internal controls and putting in place a programme of enhancements where appropriate. The CER reports are approved at divisional risk committees or directly by the relevant member of the Group Executive Committee to confirm the accuracy of the assessment. This key process is overseen and independently challenged by Risk division, reviewed by Group Internal Audit against the findings of its assurance activities, and reported to the Board. No significant failings or weaknesses were identified during the 2019 review.
RISK CULTURE
Based on the Group’s conservative business model, prudent approach to risk management, and guided by the Board, the senior management articulates the core risk values to which the Group aspires, and sets the tone at the top, with a strong focus on building and sustaining long-term relationships with customers, through the economic cycle. The Group’s Code of Responsibility reinforces colleagues’ accountability for the risks they take and their responsibility to prioritise their customers’ needs.
RISK RESOURCES AND CAPABILITIES
Appropriate mechanisms are in place to avoid over-reliance on key personnel or system/technical expertise within the Group. Adequate resources are in place to serve customers both under normal working conditions and in times of stress, and monitoring procedures are in place to ensure that the level of available resource can be increased if required. Colleagues undertake appropriate training to ensure they have the skills and knowledge necessary to enable them to deliver fair outcomes for customers.
There is ongoing investment in risk systems and models alongside the Group’s investment in customer and product systems and processes. This drives improvements in risk data quality, aggregation and reporting leading to effective and efficient risk decisions.
FINANCIAL REPORTING RISK MANAGEMENT SYSTEMS AND INTERNAL CONTROLS
The Group maintains risk management systems and internal controls relating to the financial reporting process which are designed to:
ensure that accounting policies are appropriately and consistently applied, transactions are recorded accurately, and undertaken in accordance with delegated authorities, that assets are safeguarded and liabilities are properly stated. | |
enable the calculation, preparation and reporting of financial, prudential regulatory and tax outcomes in accordance with applicable International Financial Reporting Standards, statutory and regulatory requirements. | |
enable certifications by the Senior Accounting Officer relating to maintenance of appropriate tax accounting and in accordance with the 2009 Finance Act. | |
ensure that disclosures are made on a timely basis in accordance with statutory and regulatory requirements (for example UK Finance Code for Financial Reporting Disclosure and the US Sarbanes Oxley Act). | |
ensure ongoing monitoring to assess the impact of emerging regulation and legislation on financial, prudential regulatory and tax reporting. | |
ensure an accurate view of the Group’s performance to allow the Board and senior management to appropriately manage the affairs and strategy of the business as a whole and each of its sub-groups. |
The Group has continueda Disclosure Committee which assists the Group Chief Executive and Chief Financial Officer in fulfilling their disclosure responsibilities under relevant listing and other regulatory and legal requirements. In addition, the Audit Committee reviews the quality and acceptability of the Group’s financial disclosures. For further information on the Audit Committee’s responsibilities relating to deliverfinancial reporting see pages 160 to 163.
RISK DECISION-MAKING AND REPORTING
Risk analysis and reporting enables better understanding of risks and returns, supporting the identification of opportunities as well as better management of risks.
An aggregate view of the Group’s overall risk profile, key risks and management actions, and performance against itsrisk appetite is reported to and discussed monthly at the Group Risk Committee with regular reporting to the Board Risk Committee and the Board.
Rigorous stress testing exercises are carried out to assess the impact of a range of adverse scenarios with different probabilities and severities to inform strategic priorities in 2016, simplifyingplanning.
The Chief Risk Officer regularly informs the Board Risk Committee of the aggregate risk profile and strengtheninghas direct access to the Chairman and members of Board Risk Committee.
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Table A:Exposure to risk arising from the business whilst growing in targeted areas. Risk has createdactivities of the Group
The table below provides a strong foundationhigh level guide to enable this progress, ensuringhow the Group reacts appropriately to the ever changing macro-economic and regulatory environment. The Group’s prudent risk culture and appetite, along with close collaboration withbusiness activities are reflected through its risk-weighted assets. Details of the business has enabled effective decision making and the achievement of a number of risk related deliverablesactivities for each division are provided in the year. These included:Divisional results on pages 27 to 30.
Commercial | Insurance and | Central | ||||||||
Retail | Banking | Wealth1 | items2 | Group | ||||||
£bn | £bn | £bn | £bn | £bn | ||||||
Risk-weighted assets (RWAs) | ||||||||||
– Credit risk | 78.7 | 66.3 | 0.7 | 14.3 | 160.0 | |||||
– Counterparty credit risk3 | – | 4.7 | – | 1.2 | 5.9 | |||||
– Market risk | – | 1.8 | – | – | 1.8 | |||||
– Operational risk | 19.7 | 4.6 | 0.6 | 0.6 | 25.5 | |||||
Total (excluding threshold) | 98.4 | 77.4 | 1.3 | 16.1 | 193.2 | |||||
– Threshold4 | – | – | – | 10.2 | 10.2 | |||||
Total | 98.4 | 77.4 | 1.3 | 26.3 | 203.4 |
Conduct
1 | As a separate regulated business, Insurance (excluding Wealth) maintains its own solvency requirements, including appropriate management buffers, and reports directly to the Insurance Board. Insurance does not hold any RWAs as its assets are removed from the Group’s regulatory capital calculations. However, in accordance with capital rules part of the Group’s equity investment in Insurance is included in the calculation of threshold RWAs, while the remainder is taken as a deduction from common equity tier 1 (CET1) capital. |
2 | Central items include assets held outside the main operating divisions, including the assets of Group Corporate Treasury which holds the Group’s liquidity portfolio, and other supporting functions. |
3 | Exposures relating to the default fund of a central counterparty and credit valuation adjustment risk are included in counterparty credit risk. |
4 | Threshold RWAs reflect the proportion of significant investments and deferred tax assets that are permitted to be risk-weighted instead of deducted from CET1 capital. Significant investments primarily arise from the investment in the Group’s Insurance business. |
PRINCIPAL RISKS
The Group’s conduct strategy programme was fully implementedprincipal risks are shown in 2016, embedding conduct into the everyday managementrisk overview (pages 36 to 40). The Group’s emerging risks are shown overleaf. Full analysis of its business, ensuring that the Group retains a consistent and relentless focusGroup’s risk categories is on delivering improved customer outcomes through an open transparent culture.pages 49 to 108.
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Capital strength
The Group continues to maintain a strong capital position, with an adjusted CET1 ratio (taking account of the dividend paid by the insurance business in February 2017) of 13.7 per cent, through a combination of strong statutory profit driven by good underlying profit and lower PPI, along with lower risk-weighted assets. Risk-weighted assets reduced by 3 per cent to £215 billion, reflecting the continued de-risking of the portfolio, and were primarily driven by active portfolio management including asset sales, an improvement in asset quality and capital efficient securitisation activity.EMERGING RISKS
The Group was also subjectconsiders the following to be risks that have the UK stress testing run bypotential to increase in significance and affect the Bankperformance of England; passing on all levels, with no capital inadequacies identified.the Group. These risks are considered alongside the Group’s operating plan.
Asset quality
Effective risk management ensured asset quality remained strong with no deterioration in the underlying portfolio. The impairment charge increased to £645 million (2015: £568 million) with the asset quality ratio increasing slightly to 15 basis points, but this was largely due to lower provision releases and write-backs. The gross asset quality ratio remained unchanged at 28 basis points. The Group’s prudent risk appetite and robust risk management framework were also reflected in impaired loans, which reduced by over £1 billion to £8.5 billion, and the impaired loans ratio, which continued to fall and is now below 2 per cent.
Risk | Key mitigating actions |
Regulatory and legal: The financial sector continues to experience increasing regulation from various bodies, including government and regulators.
Regulatory rules and laws from both the UK and overseas may affect the Group’s operation, placing pressure on expert resource and investment priorities. | – The Group work closely with regulatory authorities and industry bodies to ensure that the Group can identify and respond to the evolving regulatory and legal landscape. – The Group actively implement programmes to deliver legal, regulatory and mandatory change requirements. |
Climate: The key risks are financial, derived from both physical risks (climate and weather-related events) and transition risks resulting from the process of adjustment towards a low carbon economy. Climate change extends across multiple risk types e.g. credit, market, conduct and operational. For example, physical and transition risks could result in the impairment of asset values, may impact the creditworthiness of the Group’s clients, and the products and services the Group’s customers require. The focus on these risks by key stakeholders including businesses, clients, shareholders, governments and regulators is increasing, aligned to the evolving societal, regulatory and political landscape. There also remains a risk that campaign groups or other bodies could seek to take legal or other action against the Group and/or the financial services industry for investing in or lending to organisations that they deem to be responsible for, or contributing to, climate change. | – The Group’s risk management approach to climate change reflects its commitment to adopting the framework set out by the Financial Stability Board’s Task Force on Climate-related Financial Disclosures (TCFD). – The Group Chief Risk Officer (CRO) has assumed responsibility for identifying and managing the risks arising from climate change, alongside the CROs for key legal entities. – The Group are integrating risk management of financial risks posed by climate change in the existing enterprise risk management framework, including in policies, risk appetite and controls. – The Group continue to support customers and clients in managing the financial risks from the UK’s transition to a low carbon economy. |
Cyber: Increases in the volume and sophistication of cyber-attacks alongside the growth in connected devices continues to heighten the potential for cyber-enabled crime. Increases in geopolitical tensions increase the indirect threat of a sophisticated attack on the Group. The capability of organised crime groups is growing rapidly, which along with the commoditisation of cyber-crime increases the likelihood that the Group or one of its suppliers will be the direct target of a sophisticated attack. This increases the risk of the Group’s exposure through its supply chain. | – Continued investment in and focus on the Group’s Cyber programme to ensure confidentiality and integrity of data and availability of systems. Key areas of focus relate to access controls, network security, disruptive technology, and denial of service capability. – Embedding of Group Cyber control framework aligned to industry recognised cyber security framework (National Institute of Standards and Technology, NIST). – Three year cyber strategy to deliver an industry-leading approach across the Group and to embed innovation in the Group’s approach to cyber. – Increased business and colleague engagement through education and awareness, phishing testing and cultural MI. Cyber risk is governed through all key risk committees and there are quarterly reviews of all cyber risks. |
Political uncertainties including EU trade deal: Following the UK’s exit from the EU, significant negotiation is now required on the terms of the future trade agreement. As a result, the possibility of a limited or no deal at the end of the transition period remains and could manifest in prolonged business uncertainty across the UK, including in the financial services sector. This continued lack of clarity over the UK’s relationship with the EU and other foreign countries, and ongoing challenges in the Eurozone, including weak growth, raise additional uncertainty for the UK’s economic outlook. There also remains the possibility of a further referendum on Scottish independence. | – Engagement with politicians, regulators, officials, media, trade and other bodies to monitor external developments and reassure the Group’s commitment to Helping Britain Prosper. – Entities established in the EU ensure continuity of certain business activities; contingency planning in relation to wider areas of impact. – Group Corporate Treasury tracking market conditions closely and actively managing the Group’s balance sheet. – Credit applications and sector reviews include assessment of EU related risks. Initiatives in place to help clients effectively identify and mitigate or manage such risks. |
Competition: Adoption of technological trends is accelerating with customer preferences increasingly shaped by tech giants and other challengers who are able to exploit their own infrastructure and are impacted by different market dynamics. Regulation is focusing on lowering barriers for new entrants, which could have an adverse impact on the Group’s market position. Operational complexity has the potential to restrict the Group’s speed of response to market trends. Inability to leverage data and innovate could lead to loss of market share as challengers capitalise on Open Banking. Timely delivery of GSR3 objectives remains key to addressing the competitive challenges facing the Group. | – The Group is transforming the business to improve customer experience by digitising customer journeys and leveraging branches for complex needs, in response to customers’ evolving needs and expectations. – The Group will deepen insight into customer segments, their perception of brands and what they value. – Agility will be increased by consolidating platforms and building new architecture aligned with customer journeys. – The Group is responsive to changing customer behaviour/business models and adjusts its risk management approach as appropriate – GSR3 is designed to support the Group to strengthen its competitive position. |
Data: Advancements in new technologies and new services, an increasing external threat landscape, and changing regulatory requirements increase the need for the Group to effectively govern, manage, and protect its data (or the data shared with third-party suppliers). Failure to manage data risk effectively can result in unethical decisions, poor customer outcomes, loss of value to the Group and mistrust. | – The Group’s strategy is to introduce advanced data management practices, based on Group-wide standards, data-first culture and modern enterprise data platforms, supported by a simplified modern IT architecture. – The Group has implemented Open Banking and actively monitors implications for customers, including protection from fraud. – The Group is making a significant investment to improve data privacy, including the security of data and oversight of third-parties. |
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Risk | Key mitigating actions |
Macroeconomic headwinds: The UK economic outlook remains uncertain, since it is unclear how businesses will respond to the uncertainty relating to ongoing negotiations of international trade agreements, especially with the EU. Markets have priced continued low UK interest rates, but rapid growth in labour costs resulting from low unemployment and weak productivity growth could boost inflation more than anticipated, pushing interest rate expectations upward. These factors, combined with current levels of consumer indebtedness, could lead to downward pressure on credit quality. Internationally, growing protectionism remains a significant risk to stability of the global economy. Notwithstanding the recent first agreement on trade between the US and China, the fundamental nature of the disagreement suggests that roll-back of tariffs applied so far will prove difficult and further escalation is eminently possible. US tariffs on Europe may also increase. More widely, concerns remain that elevated government indebtedness in advanced economies and limited headroom for conventional monetary policy could render the next global downturn more prolonged and lead to a sustained period of stagflation. These circumstances may spur the wider adoption of less conventional monetary policies such as negative interest rates. | – High levels of liquidity provided by central banks has boosted asset values and reduced spreads across a wide range of assets, but creates vulnerability to a sharp correction if the global economy turns down. – Wide array of risks considered in setting strategic plans. – Capital and liquidity are reviewed regularly through committees, ensuring compliance with risk appetite and regulatory requirements. – The Group has a robust through the cycle credit risk appetite, including appropriate product, sector and single name concentration parameters, robust sector appetite statements and policies, as well as affordability and indebtedness controls at origination. In addition to ongoing focused monitoring, portfolio deep dives are conducted and regular larger exposure reviews. Enhancements have been made to the Group’s use of early warning indicators, including sector-specific indicators. |
Geopolitical: Current geopolitical uncertainties or political upheavals could further impede the global economic recovery, heighten instability and impact markets. Terrorist activity including cyber-attacks also has the potential to trigger changes in the economic outlook, market risk pricing and funding conditions. Additionally, the more recent coronavirus outbreak and related global health issues could potentially impact economies and markets. | – Risk appetite criteria limit single counterparty exposures complemented by a UK-focused strategy. – The Chief Security Office develops and maintains a framework for external incidents, including financial stability, to ensure the incident response team convenes and acts as a rapid reaction group, should an external crisis occur. – The Chief Security Office also maintains the operational resilience framework to embed resilience activities across the Group and limit the impact of internal or external events. – Hedging of market risk considers, inter alia, potential shocks as a result of geopolitical events. |
Financial services transformation impact on customers:The risk that transformation of the financial services industry and the Group does not adequately consider vulnerable customers. As technology and innovation move at increasing pace, the more vulnerable customers could be at a disadvantage. The increase in execution only propositions due to digitisation may lead to increased conduct risk where customers (including vulnerable customers) choose unsuitable products. The Group’s approach to customer segmentation will need to ensure conduct and reputational risks are well managed. Further, there is a risk of systematic, unintended consequences within decision-making undertaken by machine learning which could occur on a large scale in a short period of time, creating new operational risks that affect financial and non-financial outcomes, for example credit portfolio anomalies or conduct impacts. This is relevant for the Group at present as the delivery of GSR3 utilises new technologies. | – Group vulnerability strategy and associated actions being developed through the value stream operating model. – Digital principles are being agreed across the Group, primarily aimed at preventing material conduct residual risk and giving customers an optimal, informative and fair buying journey to mitigate the increased risks. – Emerging customer risks, including those pertaining to vulnerable customers, are managed through customer segmentation strategy governance throughout the change lifecycle. – Technology risks, including those related to machine learning, are escalated and discussed through governance to ensure ongoing monitoring of any emerging unintended consequences. |
Transition from IBORs to Alternative Risk Free Reference Rates: Widely used benchmark rates, such as the London Interbank Offered Rate (‘LIBOR’), have been subject to increasing regulatory scrutiny, with regulators signalling the need to use alternative benchmark rates. As a result, existing benchmark rates may be discontinued or the basis on which they are calculated may change. Uncertainty as to the nature of such potential changes may adversely affect the value of a broad array of financial products, including any LIBOR-based securities, loans and derivatives. This may impact the availability and cost of hedging instruments and borrowings. Any changes could have important implications for customers, for example: necessitating amendments to existing documents and contracts; and differential in performance of benchmark rates and financial products which reference them. | – The Group is working closely with the Bank of England initiated Working Group on Sterling Risk-Free Reference Rates on the transition away from LIBOR in the UK. – Maintaining close engagement with the FCA on potential impacts. – Working closely with industry bodies to understand and manage the impact of benchmark transition in other geographies. – Transition programme established and the appointment of an IBOR Transition Director as accountable executive. – Developed a communication strategy for customers to ensure they understand the risks or outcomes they might face from transition. – Developing an implementation plan for new products and a transition plan for legacy products, taking into account market developments and lead times for product, process and system changes – Implementing an internal communication strategy to ensure that all staff are aware and have the tools and training required. |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
RISK GOVERNANCE
The Board approvesrisk governance structure below is integral to effective risk management across the Group’s overall RMF and sets risk appetite, both of which are designedGroup. Risk division is appropriately represented on key committees to ensure that the Group manages its risks in the right way to achieve its agreed strategic objectives. It has a dedicated Risk Committee of Non-Executive Directors who keep the design and performance of the Group’s RMF under close and regular scrutiny and interact closely with the executive risk management committee operating atis discussed in these meetings. This structure outlines the flow and escalation of risk information and reporting from business areas and Risk division to Group Executive Committee and Board. Conversely, strategic direction and guidance is cascaded down from the Board and Group Executive Committee.
Company Secretariat supports senior and Board-level committees, and supports the Chairs in agenda planning. This gives a further line of escalation outside the three lines of defence.
Table B: Risk governance structure
RISK AS A STRATEGIC DIFFERENTIATOR
Group strategy and risk appetite are developed together to ensure one informs the other to deliver on the Group’s purpose to help Britain prosper whilst becoming the best bank for customers.
Risks are identified, managed and mitigated using the Group’s comprehensive Risk Management Framework (RMF), (see page 39) and its clearly defined risk appetite, embedded in policies, authorities and limits provides a clear framework for effective business decision making. The principal risks the Group faces, which could significantly impact the delivery of its strategy, are discussed on pages 40 to 43.
The Group believes effective risk management can be a strategic differentiator, in particular:
Prudent approach to risk
Implementing a prudent approach to risk appetite across the Group, aligned to the embedding of a strong risk culture, driven both from the top and across the wider business, ensures the Group operates within risk appetite.
Strong control framework
The Group’s RMF acts as the foundation for the delivery of effective risk control and ensures that the Group risk appetite is continually developed and adhered to.
Business focus and accountability
Effective risk management is a key focus and is included in key performance measures against which individual business units are assessed. The business areas in the first line of defence are accountable for risk but with oversight from a strong and importantly independent, second line of defence Risk Division.
Effective risk analysis, management and reporting
Continuing to deliver close monitoring and stringent reporting to all levels of management and the Board on a regular basis ensures appetite limits are maintained and subject to stressed analysis at a risk type and portfolio level.
Sustainable growth
Embedding a risk culture that ensures proactive support and constructive challenge takes place across the business is important for delivering sustainable growth.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Committee level. The Board and senior management encourage a culture of transparency and openness to ensure that issues are escalated promptly to them where required.
The Board approved RMF and risk appetite are put into effect using an enterprise-wide framework which applies to every area of the business and covers all types of risk. The framework is designed to ensure the Group follows a consistent approach to risk management and reporting throughout, so that all risks are fully understood and managed in relation to its agreed risk appetite. It includes the Group’s policies, procedures, controls and reporting.
A high level structure is shown in the diagram below.
The framework is reviewed, updated and approved by the Board at least annually to reflect any changes in the nature of the Group’s business and external regulations, law, corporate governance and industry best practice. This helps to ensure the Group continues to meet responsibilities to its customers, shareholders and regulators.
The Group’s risk appetite and the policy framework define clear parameters within which its business units must operate in order to deliver the best outcome for customers and stakeholders. An updated risk appetite statement was approved by the Board in 2016.
The Board delegates authorities for risk management through the Group Chief Executive and the management hierarchy to individuals, an approach which is consistent with the focus of the Senior Managers and Certification Regime (SM&CR) on the principle of individual accountability. At a senior level, executives are supported in their decision making by a committee-based governance structure. The concept of individual accountability for risk management is embedded in the RMF and culture at every level, and guides the way all employees approach their work, behave and make decisions.
An important element of the framework is the maintenance of strong internal controls which are owned and operated by individual business areas. The Group’s risk governance arrangements supported the effective implementation of the requirements of the SM&CR which came into force in 2016.
THE MOST SIGNIFICANT RISKS WHICH COULD IMPACT THE DELIVERY OF THE GROUP’S LONG-TERM STRATEGIC OBJECTIVES AND RESPONSES, ARE DETAILED BELOW
The Group has considered many of the potential implications following the UK’s vote to leave the European Union and the impact to its customers, colleagues and products – as well as legal, regulatory, tax, finance and capital implications.
Continued uncertainty surrounding the political and macroeconomic environment remains but the potential impacts of external factors have been considered in all principal risks and uncertainties to ensure any material uncertainties continue to be monitored and are appropriately mitigated.
Principal risks and uncertainties are reviewed and reported regularly and no new risks have been identified in the year.GROUP CHIEF EXECUTIVE COMMITTEES
Group Executive Committee (GEC) | |
CREDIT RISK
The risk that customers and/or other counterparties whom the Group has either lent money to or entered into a financial contract with, or other counterparties with whom the Group has contracted, fail to meet their financial obligations, resulting in loss to the Group.
Adverse changes in the economic and market environment the Group operates in or the credit quality and/or behaviour of its customers and counterparties could reduce the value of the Group’s assets and potentially increase its write downs and allowances for impairment losses, adversely impacting profitability.
Example:
Group and Ring-Fenced Banks Customer First Committees | |
Group and Ring-Fenced Banks Cost Management Committees | |
Group and Ring-Fenced Banks Conduct Review Committees | |
Group and Ring-Fenced Banks People Committees | |
Group and Ring-Fenced Banks Sustainability Committees | |
Senior Independent Performance Adjustment and Conduct Committees | |
Group and Ring-Fenced Banks Strategic Review 3 Committees |
REGULATORY AND LEGALBUSINESS AREA PRINCIPAL ENTERPRISE RISK
The risks of changing legislation, regulation, policies, voluntary codes of practice and their interpretation in the markets in which the Group operates can have a significant impact on the Group’s operations, business prospects, structure, costs and/or capital requirements and ability to enforce contractual obligations.
Examples:
CONDUCT RISK
Conduct risk can arise from a number of areas including selling products to customers which do not meet their needs; failing to deal with customers’ complaints effectively; not meeting customers’ expectations; and exhibiting behaviours which do not meet market or regulatory standards.
Example:
OPERATIONAL RISK
The Group faces significant operational risks which may result in financial loss, disruption of services to customers, and damage to the Group’s reputation. These include the availability, resilience and security of core IT systems and the potential for failings in customer processes.
Examples:
PEOPLE RISK
Key people risks include the risk that the Group fails to maintain organisational skills, capability, resilience and capacity levels in response to increasing volumes of organisational, political and external market change.
Example:
OPERATING AND FINANCIAL REVIEW AND PROSPECTS COMMITTEES
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OPERATINGRISK DIVISION COMMITTEES AND FINANCIAL REVIEW AND PROSPECTSGOVERNANCE
INSURANCE RISK
Key insurance risks within the Insurance business are longevity, persistency and property insurance. Longevity risk is expected to increase as the Group’s presence in the bulk annuity market increases. Longevity is also the key insurance risk in the Group’s Defined Benefit Pension Schemes.
Examples:
Group Market Risk Committee | |
Group Capital Risk Committee | |
Group Model Governance Committee | |
Ring-Fenced Bank Perimeter Oversight Committee |
CAPITAL RISK
The risk that the Group has a sub-optimal quantity or quality of capital or that capital is inefficiently deployed across the Group.
Example:
FUNDING AND LIQUIDITY RISK
The risk that the Group has insufficient financial resources to meet commitments as they fall due, or can only secure them at excessive cost.
Example:
GOVERNANCE RISK
Against a background of increased regulatory focus on governance and risk management, the most significant challenges arise from the requirement to improve the resolvability of the Group and to ring-fence core UK financial services and activities from January 2019 and further requirements under the SM&CR which come into force from March 2017.
Example:
MARKET RISK
The risk that the Group’s capital or earnings profile is affected by adverse market rates, in particular interest rates and credit spreads in the Banking business, equity and credit spreads in the Insurance business, and credit spreads in the Group’s Defined Benefit Pension Schemes.
Examples:
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
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RISK MANAGEMENT IS AT THE HEART OF THE GROUP’S STRATEGY TO BECOME THE BEST BANK FOR CUSTOMERS
THE GROUP’S MISSION IS TO SUPPORT THE BUSINESS IN DELIVERING SUSTAINABLE GROWTH. THIS IS ACHIEVED THROUGH INFORMED RISK DECISION MAKING AND SUPERIOR RISK AND CAPITAL MANAGEMENT, SUPPORTED BY A CONSISTENT RISK-FOCUSED CULTURE
The risk overview (pages 38 to 43) provides a summary of risk management within the Group. It highlights the important role of risk as a strategic differentiator, risk achievements in 2016 along with a brief overview of the Group’s risk governance structure and the principal risks faced by the Group and key mitigating actions.
This full risk management section provides a more in-depth picture of how risk is managed within the Group, detailing the Group’s emerging risks, approach to stress testing, risk governance, committee structure, appetite for risk (pages 44 to 51) and a full analysis of the primary risk drivers (pages 52 to 112) – the framework by which risks are identified, managed, mitigated and monitored.
Each risk driver is described and managed using the following standard headings: definition, exposures, measurement, mitigation and monitoring.
THE GROUP’S APPROACH TO RISK
The Group operates a prudent approach to risk with rigorous management controls to support sustainable business growth and minimise losses. Through a strong and independent risk function (Risk Division) a robust control framework is maintained to identify and escalate current and emerging risks to support sustainable business growth within Board Risk Appetite and through good risk reward decision making.
Risk culture
The Board ensures that senior management implements risk policies and risk appetites that either limit or, where appropriate, prohibit activities, relationships and situations that could be detrimental to the Group’s risk profile.
As part of a conservative business model that embodies a risk culture founded on a prudent approach to managing risk, the Group reviewed its Codes of Business and Personal Responsibility in 2016 reinforcing its approach where colleagues are accountable for the risks they take and where the needs of customers are paramount.
The focus remains on building and sustaining long-term relationships with customers cognisant of the economic climate.
Risk appetite
Risk appetite is defined as ‘the amount and type of risk that the Group is prepared to seek, accept or tolerate.’
Risk appetite is documented in a Board Risk Appetite Statement which is reviewed by the Board Risk Committee and approved annually by the Board.
The Board metrics are supported by more detailed sub-Board functional and divisional risk appetite metrics.
The Board Risk Appetite is aligned to the Risk Appetite Framework, and in turn the Risk Management Framework and Group Risk Principles.
Risk appetite is embedded within principles, policies, authorities and limits across the Group and continues to evolve to reflect external market developments and composition of the Group.
The Group’s strategy operates in tandem with the Board Risk Appetite and business planning is undertaken with a view to meeting the requirements of the Board Risk Appetite.
Performance is optimised by allowing business units to operate within approved risk appetite and limits.
The Board Risk Committee is responsible for overseeing the development, implementation and maintenance of the Group’s overall risk management framework and its risk appetite, to ensure they are in line with emerging regulatory, corporate governance and industry best practice.
Board Risk Appetite includes the following areas:
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
GOVERNANCE AND CONTROL
RISK DECISION MAKING AND REPORTING
Table 1.1:Exposure to risk arising from the business activities of the Group
The table below provides a high level guide to how the Group’s business activities are reflected in its risk measures and balance sheet. Details of the business activities for each division are provided in the Divisional Results on pages 28 to 34.
Retail £bn | Commercial Banking £bn | Consumer Finance £bn | Run-off £bn | Central Items1 £bn | Insurance2 £bn | Group £bn | |
Risk-weighted assets (RWAs) | |||||||
– Credit risk | 39.7 | 78.2 | 28.6 | 8.3 | 11.9 | – | 166.7 |
– Counterparty credit risk3 | – | 8.6 | – | – | 1.0 | – | 9.6 |
– Market risk | – | 3.1 | – | – | – | – | 3.1 |
– Operational risk | 15.5 | 6.1 | 3.5 | 0.2 | – | – | 25.3 |
Total (excluding threshold) | 55.2 | 96.0 | 32.1 | 8.5 | 12.9 | – | 204.7 |
– Threshold4 | – | – | – | – | 10.7 | – | 10.7 |
Total | 55.2 | 96.0 | 32.1 | 8.5 | 23.6 | – | 215.4 |
PRINCIPAL RISKS
The Group’s principal risks are shown in the risk overview (pages 40 to 43). The Group’s emerging risks are shown overleaf. Full analysis of the Group’s risk drivers is on pages 52 to 112.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
EMERGING RISKS
The Group considers the following to be risks that have the potential to increase in significance and affect the performance of the Group.
These risks are considered alongside the Group’s operating plan.
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BOARD, EXECUTIVE AND RISK COMMITTEES
The Group’s risk governance structure (see table B) strengthens risk evaluation and management, while also positioning the Group to manage the changing regulatory environment in an efficient and effective manner.
Assisted by the Board Risk and Audit Committees, the Board approves the Group’s overall governance, risk and control frameworks and risk appetite. Refer to the Corporate Governance section on pages 143 to 169, for further information on Board committees.
The divisional and functional risk committees review and recommend divisional and functional risk appetite and monitor local risk profile and adherence to appetite.
Table C:Executive and Risk Committees
The Group Chief Executive is supported by the following:
Committees | Risk focus | |
Group Executive Committee (GEC) | Assists the Group Chief Executive in exercising their authority in relation to material matters having strategic, cross-business area or Group-wide implications. | |
Group and Ring-Fenced Banks Risk Committees (GRC) | Responsible for the development, implementation and effectiveness of the Group’s enterprise risk management framework, the clear articulation of the Group’s risk appetite and monitoring and reviewing of the Group’s aggregate risk exposures and concentrations of risk. | |
Group and Ring-Fenced Banks Asset and Liability Committees (GALCO) | Responsible for the strategic direction of the Group’s assets and liabilities and the profit and loss implications of balance sheet management actions. The committee reviews and determines the appropriate allocation of capital, funding and liquidity, and market risk resources and makes appropriate trade-offs between risk and reward. | |
Group and Ring-Fenced Banks Customer First Committees | Provides a Group-wide perspective of customer experience and the governing body of customer plans and targets including governing targets and plans, oversight of customer outcomes and experience, and learning through best practice externally and leveraging Group memberships and partnerships. | |
Group and Ring-Fenced Banks Cost Management Committees | Leads and shapes the Group’s approach to cost management, ensuring appropriate governance and process over Group-wide cost management activities and effective control of the Group’s cost base. | |
Group and Ring-Fenced Banks Conduct Review Committees | Provides senior management oversight, challenge and accountability in connection with the Group’s engagement with conduct review matters as agreed with the Group Chief Executive. | |
Group and Ring-Fenced Banks People Committees | Oversees the Group’s people and colleague policies, the remuneration policy and Group-wide remuneration matters, oversees compliance with Senior Manager and Certification Regime (SM&CR) and other regulatory requirements, monitors colleague engagement surveys, progress of the Group towards its culture targets and oversees the implementation of action plans. | |
Group and Ring-Fenced Banks Sustainability Committees | Recommends and implements the strategy and plans for delivering the Group’s aspiration to be viewed as a trusted responsible business as part of the purpose of Helping Britain Prosper. | |
Senior Independent Performance Adjustment and Conduct Committees | Responsible for providing recommendations regarding performance adjustment, including the individual risk-adjustment process and risk-adjusted performance assessment, and making final decisions on behalf of the Group on the appropriate course of action relating to conduct breaches, under the formal scope of the SM&CR. | |
Group and Ring-Fenced Banks Strategic Review 3 Committees | Responsible for monitoring the progress of transformation across the Group, acting as a clearing house to resolve issues and facilitate resolution of issues where necessary and to drive the execution of the Group’s transformation agenda as agreed by the Group Chief Executive. | |
The Group Risk Committee is supported through escalation and ongoing reporting by business area risk committees, cross-divisional committees addressing specific matters of Group-wide significance and the following second line of defence Risk committees which ensure effective oversight of risk management: | ||
Credit Risk Committees | Review material credit risk, both current and emerging, and adherence to agreed risk appetite; provide insight into the performance of material credit portfolios against expectation, forecast, metrics, portfolio controls to ensure they remain within agreed credit risk appetite; provide assurance that new business is being written within agreed credit risk appetite; ensure credit risk exposures causing concerns and any risks or issues are identified as early as possible so that remedial action may be taken; review information on credit impairment levels and allowance for expected credit losses; review information on the performance of credit risk models; and the reporting of monitoring activities relating to residual value risk. | |
Group Market Risk Committee | Reviews and recommends market risk appetites. Monitors and oversees market risk exposures across the Group and adherence to Board risk appetite. Approves the framework and designation of books between the Trading Book and the Banking Book for regulatory purposes. Responsible for reviewing and proposing changes to the market risk management framework, and for reviewing adequacy of data quality for managing market risks. |
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Committees | Risk focus | |
Group Conduct, Compliance and Operational Risk Committee | Acts as a Risk community forum to independently challenge and oversee the Group-wide risk and control environment, using read-across and lessons learned from the three lines of defence to ensure that the Group-wide risk profile adapts to emerging risks, trends and themes, and the control environment is sustainable to deliver the Bank of the Future. | |
Group Fraud and Financial Crime Prevention Committee | The Fraud and Financial Crime Prevention Committee brings together accountable stakeholders and subject matter experts to ensure that the development and application of fraud and financial crime risk management complies with the Group’s Strategic Aims, Group Corporate Responsibility, Group risk appetite and Group Fraud and Financial Crime (Anti-Money Laundering, Anti-bribery and Sanctions) policies. It provides direction and appropriate focus on priorities to enhance the Group’s fraud and financial crime risk management capabilities in line with business and customer objectives whilst aligning to the Group’s target operating model. | |
Group Financial Risk Committee | Responsible for overseeing, reviewing, challenging and recommending to senior executives and Board committees on internal and regulatory stress tests, Internal Capital Adequacy Assessment Process, Individual Liquidity Adequacy Assessment Process, Pillar 3 disclosures, Recovery and Resolution Plans, and other analysis as required. | |
Group Capital Risk Committee | Responsible for providing oversight of all relevant capital matters within the Group, Ring Fenced bank and material subsidiaries, including the Group’s latest capital position and plans, risk appetite proposals, Pillar 2 development updates relating to ICAAP, Recovery and Resolution and the impact from regulatory reforms and accounting developments specific to capital. | |
Group Model Governance Committee | Responsible for approving the model governance framework, the associated policy and related principles and procedures; reviewing and approving models, model changes, model extensions and capital post model adjustments; recommending those models which require GRC approval to GRC; approving summary of model performance, approving any appropriate corrective actions; and supporting approval of risk appetite performance and escalating as required. | |
Ring Fenced Bank Perimeter Oversight Committee | The Committee escalates perimeter control breaches to the Ring-Fenced Banks’ Board and the Ring-Fenced Banks’ Board Risk Committee. |
CAPITAL STRESS TESTING
OVERVIEW
Stress testing is recognised as a key risk management tool within the Group by the Board,Boards, senior management, the businesses and the Risk and Finance functions.functions of all parts of the Group and its legal entities. It is fully embedded in the planning process of the Group and its legal entities as a key activity in medium termmedium-term planning, and senior management is actively involved in stress testing activities via a strict governance process.
The Group uses scenarioScenario stress testing is used for:
Risk identification:Identification:
Risk appetite:
Risk Appetite: | |
Assess the results of the stress test against the | |
Inform the setting of risk appetite by assessing the underlying risks under stress conditions. |
Strategic and capital planning:
Strategic and Capital Planning: | |
Allow senior management and the | |
Support the Internal Capital Adequacy Assessment Process (ICAAP) by demonstrating capital adequacy, and meet the requirements of regulatory stress tests that are used to inform the setting of the |
Risk mitigation:
Risk Mitigation: | |
Drive the development of potential actions and contingency plans to mitigate the impact of adverse scenarios. Stress testing also links directly to the |
REGULATORY STRESS TESTS
During 2016,In 2019, the Group was subject toparticipated in both the European Banking Authority’s Europe-wideAnnual Cyclical Scenario (ACS) UK stress test withand the Group’s results significantly above minimum capital requirements. The concurrent UK stress testBiennial Exploratory Scenario (BES) run by the Bank of England was also undertaken in 2016. As announced in November,(BoE). Despite the severity of the ACS stress, the Group comfortably exceeded the capital thresholds set byand leverage hurdles on a transitional basis, after the Prudential Regulation Authorityapplication of management actions and as a consequence was not required to take any action as a resultcapital actions. The BoE continues to review the outputs of this test.the BES exercise.
INTERNAL STRESS TESTS
AtOn at least on an annual basis, the Group conducts macroeconomic stress tests of the operating plan, which isare supplemented with higher-level refreshes if necessary. The exercise aims to highlight the key vulnerabilities of the Group’s and its legal entities’ business planplans to adverse changes in the economic environment, and to ensure that there are adequate financial resources in the event of a downturn.
REVERSE STRESS TESTING
Reverse stress testing is used to explore the vulnerabilities of the Group’s and its key legal entities’ strategies and plans to extreme adverse events that would cause the businessbusinesses to fail, in order to facilitate contingency planning. The scenarios used are those that would cause the Group to be unable to carry on its business activities.fail. Where reverse stress testing revealsthis identifies plausible scenarios with an unacceptably high risk, when considered against the Group’s risk appetite, the Group or its entities will adopt measures to prevent or mitigate that risk, which are then reflectedand reflect these in strategic plans.
OTHER STRESS TESTING ACTIVITY
The Group’s stress testing programme also involves undertaking assessmentassessments of liquidity scenarios, market risk sensitivities and scenarios, and business specific scenarios (see the principal risksrisk categories on pages 52138 to 112187 for further information on risk specificrisk-specific stress testing). If required, ad hoc stress testing exercises are also undertaken to assess emerging risks, as well as in response to regulatory requests. This wide ranging programme provides a comprehensive view of the potential impacts arising from the risks to which the Group is exposed and reflects the nature, scale and complexity of the Group. From 2020 onwards, climate change risk stress testing will be considered as part of the implementation of the recommendations of the Taskforce on Climate-related Financial Disclosures (TCFD).
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METHODOLOGY
The stress tests at all levels must comply with all regulatory requirements, achieved through the comprehensive construction of macroeconomic scenarios and a rigorous divisional, functional, risk and executive review and challenge process, supported by analysis and insight into impacts on customers and business drivers.
The engagement of all required business, Risk and Finance areasteams is built into the preparation process, so that the appropriate analysis of each risk driver’scategory’s impact upon the business plans is understood and documented. The methodologies and modelling approach used for stress testing ensure that a clear link is shown between the macroeconomic scenarios, the business drivers for each area and the resultant stress testing outputs. All material assumptions used in modelling are documented and justified, with a clearly communicated review and sign-off process. Modelling is supported by expert judgement and is subject to the Group Model Governance Policy.
GOVERNANCE
Clear accountabilities and responsibilities for stress testing are assigned to senior management and the Risk and Finance functions throughout the Group.Group and its key legal entities. This is formalised through the Group Business Planning and Stress Testing Policy and Procedure, which are reviewed at least annually.
The Group Financial Risk Committee (GFRC), chaired by the Chief Risk Officer and attended by the Chief Financial Officer and other senior Risk and Finance colleagues, is the Committeecommittee that has primary responsibility for overseeing the development and execution of the Group’s and Ring-Fenced Bank’s stress tests. Lloyds Bank Corporate Markets (LBCM) Risk Committee performs a similar function within the scope of LBCM.
The review and challenge of the Group’s and Ring-Fenced Bank’s detailed stress forecasts, the key assumptions behind these, and the methodology used to translate the economic assumptions into stressed outputs conclude with the divisional Finance Director’s,Directors’, appropriate Risk Director’sDirectors’ and Managing Director’sDirectors’ sign-off. The outputs are then presented to GFRC Group Asset and Liability Committee/Group Risk Committee/Group Executive Committee and Board Risk Committee for Group-level executive review and challenge, before being approved by the Board.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
HOW RISK IS MANAGED IN LLOYDS BANKING GROUP
The Group’s Risk Management Framework (RMF) (see risk overview, page 38) is structured around the following nine components which meet and align with the industry-accepted internal control framework issued by the Committee of Sponsoring Organisations of the Treadway Commission.
The RMF provides the Group with an effective mechanism for developing and embedding risk policies and risk management strategies which are aligned with the risks faced by its businesses. It also seeks to facilitate effective communication on these matters across the Group.
Role of the Board and senior management
Key responsibilities of the Board and senior management include:
Risk appetite
GOVERNANCE FRAMEWORKS
Three Lines of Defence model – the RMF is implemented through a ‘Three Lines of Defence’ model which defines clear responsibilities and accountabilities and ensures effective independent oversight and assurance activities take place covering key decisions.
Mandate of the Risk Division– the objective of Risk Division is to provide both proactive advice and constructive challenge to the business. It also has a key role in promoting the implementation of a strategic approach to risk management reflecting the risk appetite and RMF agreed by the Board that encompasses:
Risk Division, headed by the Chief Risk Officer, consists of eight Risk Directors and their specialist teams. These teams provide oversight and independent challenge to business management and support senior management and the Board with independent reporting on risks and opportunities. Risk Directors, responsible for each risk type, meet on a regular basis under the chairmanship of the Chief Risk Officer to review and challenge the risk profile of the Group and to ensure that mitigating actions are appropriate.
The Chief Risk Officer is accountable for developing and leading an industry-wide recognised Risk function that adds value to the Group by:
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The Risk Directors:
Risk identification, measurement and control– the process for risk identification, measurement and control is integrated into the overall framework for risk governance. Risk identification processes are forward looking to ensure emerging risks are identified. Risks are captured in comprehensive risk logs/ registers, and measured using robust and consistent quantification methodologies. The measurement of risks includes the application of stress testing and scenario analysis, and considers whether relevant controls are in place before risks are incurred.
Risk monitoring, aggregation and reporting– identified risks are logged and reported on a monthly basis or as frequently as necessary to the appropriate committee. The extent of the risk is compared to the overall risk appetite as well as specific limits or triggers. When thresholds are breached, committee minutes are clear on the actions and timeframes required to resolve the breach and bring risk within given tolerances. There is a clearsimilar process within LBCM for escalation of risks and risk events.
All business areas complete a Control Effectiveness Review (CER) annually, reviewing the effectiveness of their internal controls and putting in place a programme of enhancements where appropriate. The CER reports are approved at Divisional Risk Committees or directly by the relevant membergovernance of the Group Executive Committee to confirm the accuracy of the assessment. This key process is overseen and independently challenged by Risk Division, reviewed by Group Audit against the findings of its assurance activities, and reported to the Board.LBCM-specific results.
Risk culture– supporting the formal frameworks of the RMF is the underlying culture, or shared behaviours and values, which sets out in clear terms what constitutes good behaviour and good practice. In order to effectively manage risk across the organisation, the functions encompassed within the Three Lines of Defence have a clear understanding of risk appetite, business strategy and an understanding of (and commitment to) the role they play in delivering it. A number of levers are used to reinforce the risk culture, including tone from the top, clear accountabilities, effective communication and challenge and an appropriately aligned performance incentive and structure.
Risk resources and capabilities– appropriate mechanisms are in place to avoid over-reliance on key personnel or system/technical expertise within the Group. Adequate resources are in place to serve customers both under normal working conditions and in times of stress, and monitoring procedures are in place to ensure that the level of available resource can be increased if required. Colleagues undertake appropriate training to ensure they have the skills and knowledge necessary to enable them to deliver fair outcomes for customers, being mindful of the Group’s strategic conduct agenda, Customer Treatment Policy/Standards and Financial Conduct Authority requirements.
There is ongoing investment in risk systems and models alongside the Group’s investment in customer and product systems and processes. This drives improvements in risk data quality, aggregation and reporting leading to effective and efficient risk decisions.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The risk governance structure below is integral to effective risk management across the Group. Risk Division is appropriately represented on key committees to ensure that risk management is discussed in these meetings. This structure outlines the flow and escalation of risk information and reporting from business areas and Risk Division to GEC and Board. Conversely, strategic direction and guidance is cascaded down from the Board and GEC.
Company Secretariat support senior and Board level committees, and support the Chairs in agenda planning. This gives a further line of escalation outside the Three Lines of Defence.
Table 1.2:Risk governance structure
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BOARD, EXECUTIVE AND RISK COMMITTEES
The Group’s risk governance structure (see table 1.2) strengthens risk evaluation and management, while also positioning the Group to manage the changing regulatory environment in an efficient and effective manner.
Assisted by the Board Risk and Audit Committees, the Board approves the Group’s overall governance, risk and control frameworks and risk appetite. Refer to the Corporate Governance section on pages 152 to 176, for further information on Board committees.
The divisional/functional risk committees review and recommend divisional/functional risk appetite and monitor local risk profile and adherence to appetite.
Insurance, which is subject to separate regulation, has its own Board and governance structure. The Insurance Board, assisted by a Risk Oversight Committee and Audit Committee, approves the governance, risk and control frameworks for the Insurance business and the Insurance business risk appetite, ensuring it aligns with the Group’s framework and risk appetite.
Table 1.3:Executive and Risk Committees
The Group Chief Executive is supported by the following:
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
FULL ANALYSIS OF RISK DRIVERSCATEGORIES
The Group’s risk framework covers all types of risk which affect the Group and could impact on the achievement of its strategic objectives. A detailed description of each category is provided below.on pages 50 to 108.
PRIMARY RISK DRIVERSRisk categories recognised by the Group are periodically reviewed to ensure that they reflect the Group risk profile in light of internal and external factors, such as the Group strategy and the regulatory environment in which it operates. There have been no changes to the risk categories during 2019.
Secondary risk categories | ||||||||||
Change/Execution risk | ||||||||||
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Data risk | – Data | |||||||||
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Strategic risk | – Strategic | |||||||||
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Credit risk | – Retail credit | – Commercial credit | ||||||||
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Regulatory and legal risk | – Regulatory compliance | – Legal | ||||||||
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Conduct risk | – Conduct | |||||||||
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Operational risk | – Business process | – Financial reporting | – Physical security/health and safety | |||||||
Page 82 | – Cyber and information security | – Fraud | – Sourcing | |||||||
– External service provision | – Internal service provision | |||||||||
– Financial crime | – IT systems | |||||||||
People risk | – People | |||||||||
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Insurance underwriting risk | – Insurance underwriting | |||||||||
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Capital risk | – Capital | |||||||||
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Funding and liquidity risk | – Funding and liquidity | |||||||||
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Governance risk | – Governance | |||||||||
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Market risk | – Trading book | – Pensions | ||||||||
Page 102 | – Banking book | – Insurance | ||||||||
Model risk | – Model | |||||||||
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The Group considers both reputational and financial impact in the course of managing all its risks and therefore does not classify reputational impact as a separate risk driver.category.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
DEFINITION
Change and execution is defined as the risk that, in delivering its change agenda, the Group fails to ensure compliance with laws and regulation, maintain effective customer service and availability, and/or operation within the Group’s risk appetite.
EXPOSURES
Change and execution risks arise when the Group undertakes activities which require products, processes, people, systems or controls to change. These changes can be as a result of external drivers (for example, a new piece of regulation that requires the Group to put in place a new process or reporting) and internal drivers (such as the strategic transformation that is outlined in GSR3).
MEASUREMENT
The Group currently measures change and execution risk against a defined risk appetite metric which is a combination of lead, quality and delivery indicators across the investment portfolio. These indicators are reported through defined internal governance structures in the form of a monthly execution risk dashboard. An associated measure, based on the aggregate performance of the dashboard is included in the Group Balanced Scorecard.
MITIGATION
The Group takes a range of mitigating actions with respect to change and execution risk. These include the following:
The Board establishes a Group-wide risk appetite and metric for change and execution risk. | |
Ensuring compliance with the Change policy and associated policies and procedures, which set out the principles and key controls that apply across the business and are aligned to the Group risk appetite. | |
Businesses assess the potential impacts of undertaking any change activity on their ability to execute effectively, and the potential consequences for the existing risk profiles. | |
The implementation of effective governance and control frameworks to ensure adequate controls are in place to manage the change activity and act to mitigate the change and execution risks identified. These controls are monitored in line with the Change policy and any additional monitoring that is deemed necessary. | |
Events related to change activities are escalated and managed appropriately in line with risk framework guidance. |
MONITORING
Change and execution risks from across the Group are monitored and reported through to Board and Group Governance Committees in accordance with the Group’s enterprise risk management framework and aligned to our GSR3 activities. Risk exposures are discussed monthly through established governance through to Group Transformation Risk Committee with upwards reporting to Board Risk and Executive Committees. In addition, oversight, challenge and reporting are completed at Risk division level to provide oversight of management of risks and the effectiveness of controls, recommending follow up remedial action if required. All material change and execution risk events are escalated in accordance with the formal Group Operational Risk policy and Change policy.
DEFINITION
Data risk is defined as the risk of the Group failing to effectively govern, manage and control its data (including data processed by third party suppliers), leading to unethical decisions, poor customer outcomes, loss of value to the Group and mistrust.
EXPOSURES
Data risk is present in all aspects of the business where data is processed, both within the Group and by third parties including colleague and contractor, prospective and existing customer, client lifecycle and insight processes. Data risk manifests:
When personal data is not gathered legally, for a legitimate purpose, or is not managed/protected from misuse and/or processed in a way that complies with General Data Protection Regulations (GDPR) and other data privacy regulatory obligations. | |
When data quality (accuracy, completeness, consistency, uniqueness, validity and timeliness) is not managed, resulting in data used in systems, processes and products not being fit for the intended purpose. | |
When data records are not created, retained, protected and destroyed appropriately and when data records cannot be retrieved in a timely manner. | |
When data governance fails to provide robust oversight of data decision-making and the control mechanisms to ensure strategies and management instructions are implemented effectively. | |
When data standards are not maintained across core data, data management risks are not managed and data related issues are not remediated as a result of poor data management resulting in inaccurate, incomplete data that is not available at the right time, to the right people, to enable business decisions to be made, and regulatory reporting requirements to be fulfilled. | |
When critical data mapping and data information standards are not followed impacting compliance, traceability and understanding of data. |
MEASUREMENT
Data risk is measured through a series of quantitative and qualitative indicators, aligned to key sources of data risk for the Group covering data governance, data management and data privacy and ethics. In addition to risk appetite measures and limits, data risks and controls are monitored and governed on a monthly basis through divisional risk committees. Significant issues are escalated to Group Risk Committee.
MITIGATION
Data risk is a key component of the Group’s enterprise risk management framework, where the focus is on the end to end management of data risk. This ensures that risks are identified, measured, managed, monitored and reported using the risk and control self-assessment process. Significant investment has been made to enhance the maturity of data risk management in recent years. In addition to the General Data Protection programme which delivered the necessary infrastructure to achieve compliance with the new regulations in May 2018, a number of other large investments and remediation projects include:
Enhancing capability by investing in professional training for data privacy managers. | |
Enhancing assurance over of suppliers. | |
Delivered enhanced controls and processes for data retention and destruction, deleting large volumes of historic over-retained data. | |
Delivering increased level of data maturity against the Data Management Capability Assessment Model. | |
Where required, these projects have also delivered enhancements to colleague and client training, vetting procedures and access controls processes. |
MONITORING
Data risk is governed through divisional risk committees and significant issues are escalated to Group Risk Committee, in accordance with the Group’s enterprise risk management framework. Risk exposures are discussed at divisional risk committees, where oversight, challenge and reporting are completed to assess the effectiveness of controls. Remedial action is recommended, if required. All material data risk events are escalated in accordance with the Group Operational Risk policy and Data risk policies to the respective divisional Managing Directors and Conduct, Compliance and Operational Risk, including, where personal data is concerned, the Group Data Protection Officer. In addition, Group-wide data risk issues and the top data risks that Group faces are discussed at Group Data Committee.
A number of activities support the close monitoring of data risk including:
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Design and monitoring of data risk appetite metrics, including key risk indicators and key performance indicators. | |
Monitoring and reporting of progress against the Data Capability Assessment Model. | |
Monitoring of significant data related issues. | |
Identification and effective mitigation of data risk when planning and implementing transformation or business change. | |
Implementation of effective controls to mitigate data risk, including data privacy, ethics, data management and records management. | |
Effective monitoring and testing of compliance with data privacy and data management regulatory requirements. For example GDPR and Basel Committee on Banking Supervision (BCBS 239) requirements. | |
Horizon scanning for changes in the external environment, including but not limited to changes to laws, rules and regulations. |
DEFINITION
Operational resilience risk is defined as the risk that the Group fails to design resilience into business operations, underlying infrastructure and controls (people, process, technology) so that it is able to withstand external or internal events which could impact the continuation of operations, and/or fails to respond in a way which meets customer and stakeholder expectations and needs when the continuity of operations is compromised.
EXPOSURES
Ineffective operational resilience risk management could lead to vital services not being available to customers, and in extreme circumstances, bank failure could result. The Group has in place a transparent and effective operating model to identify and monitor critical business processes from a customer, Group and financial industry perspective. The failure to adequately build resilience into a critical business process may occur in a variety of ways, including:
The Group being overly reliant on one location to deliver a critical business process. | |
The Group not having an adequate succession plan in place for designated subject matter experts. | |
The Group being overly reliant on a supplier which fails to provide a service. | |
A weakness in the Group’s cyber or security defences leaving it vulnerable to an attack. | |
The Group failing to upgrade its IT systems and leaving them vulnerable to failure. | |
Operational resilience and damage to physical assets including: terrorist acts, other acts of war or hostility, geopolitical, pandemic or other such events. |
Effective operational resilience ensures the Group designs resilience into its systems, is able to withstand and/or recover from a significant unexpected event occurring and can continue to provide services to its customers. A significant outage could result in customers being unable to access accounts or conduct transactions, which as well as presenting significant reputational risk for the Group would negatively impact the Group’s purpose of Helping Britain Prosper. Operational resilience is also an area of continued regulatory and industry focus, similar in importance to financial resilience.
Failure to manage operational resilience effectively could impact the following other risk categories:
Regulatory compliance – non-compliance with new/existing operational resilience regulations, for example, through failure to identify emerging regulation or not embedding regulatory requirements within the Group’s policies, processes and procedures. | |
Operational risk – being unable to safely provide customers with business services. | |
Conduct risk – an operational resilience failure may render the Group liable to fines from the FCA for poor conduct. | |
Market risk – the Group being unable to provide key services could have ramifications for the wider market and could impact share price. |
MEASUREMENT
Operational resilience risk is managed across the Group through the Group’s enterprise risk management framework and Operational risk policies. The Group’s enterprise risk management framework includes a risk and control self-assessment process, risk impact likelihood matrix, key risk and control indicators, risk appetite, a robust incident management and escalation process, scenario analysis and an operational losses process. Board risk appetite metrics are in place and are well understood. These specific measures are subject to ongoing monitoring and reporting, including a mandatory review of thresholds on at least an annual basis. To strengthen the management of operational resilience risk, the Group mobilised an operational resilience enhancement programme which is designed to focus on end to end resilience and the management of key risks to critical processes.
MITIGATION
The Group has increased its focus on operational resilience and has updated its operational resilience strategy to reflect changing priorities of both customers and regulators. The Group is carefully considering the publication of the consultation paper by the FCA, PRA and Bank of England (December 2019). Focus will be given to ensure that the Group’s strategy and approach to operational resilience aligns with industry thinking and expectation. At the core of its approach to operational resilience are the Group’s critical business processes which drive all activity, including further mapping of the processes to identify any additional resilience requirements such as impact tolerances in the event of a service outage. The Group continues to develop playbooks that guide its response to a range of interruptions from internal and external threats and tests these through scenario-based testing and exercising.
The Group’s strategic review considers the changing risk management requirements, adapting the change delivery model to be more agile and develop the people skills and capabilities needed to be a ‘Bank of the Future’. The Group continues to review and invest in its control environment to ensure it addresses the risks it faces. Risks are reported and discussed at local governance forums and escalated to executive management and Board as appropriate. The Group employs a range of risk management strategies, including: avoidance, mitigation, transfer (including insurance) and acceptance. Where there is a reliance on third-party suppliers to provide services, the Group’s sourcing policy ensures that outsourcing initiatives follow a defined process including due diligence, risk evaluation and ongoing assurance.
Mitigating actions to the principal operational resilience risk are:
Cyber: the threat landscape associated with cyber risk continues to evolve and there is significant regulatory attention on this subject. The Board continues to invest heavily to protect the Group from cyber-attacks. Investment continues to focus on improving the Group’s approach to identity and access management, improving capability to detect and respond to cyber-attacks and improved ability to manage vulnerabilities across the estate. | |
IT resilience: the Group continues to optimise its approach to IT and operational resilience by investing in technology improvements and enhancing the resilience of systems that support the Group’s critical business processes, primarily through the technology resilience programme, with independent verification of progress on an annual basis. The Board recognises the role that resilient technology plays in achieving the Group’s strategy of becoming the best bank for customers and in maintaining banking services across the wider industry. As such, the Board dedicates considerable time and focus to this subject at both the Board and the Board Risk Committee, and continues to sponsor key investment programmes that enhance resilience. | |
People: the Group acknowledges the risks associated to the failure to maintain appropriately skilled and available colleagues. The Group continues to optimise its approach to ensure that where applicable, colleagues are capable of supporting a critical business process. Key controls and processes are regularly reported to committee(s) and alignment to the Group Strategic Review is closely monitored. | |
Property: the Group’s property portfolio remains a key focus in ensuring resilience requirements are appropriately maintained. Processes are in place to identify key buildings where a critical business process is performed. Depending on criticality, a number of mitigating controls are in place to manage the risk of severe critical business process disruption. The Group remains committed to investment in the upkeep of the property portfolio, primarily through the Group Property upkeep investment programme. | |
Sourcing: the threat landscape associated with third party suppliers and the critical services they provide continues to receive a significant amount |
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of regulatory attention. The Group acknowledges the importance demonstrating control and responsibility for those critical business services which could cause significant harm to our customers. Risks and controls are regularly reported through committee(s) and is further supported via the mobilisation of the Sourcing enterprise programme. |
MONITORING
Monitoring and reporting of operational resilience risk is undertaken at Board, Group, entity and divisional committees. Each committee monitors key risks, control effectiveness, key risk and control indicators, events, operational losses, risk appetite metrics and the results of independent testing conducted by the Risk division and/or Group Internal Audit.
The Group maintains a formal approach to operational resilience risk event escalation, whereby material events are identified, captured and escalated. Root causes are determined, and action plans put in place to ensure an optimum level of control to keep customers and the business safe, reduce costs, and improve efficiency.
DEFINITION
The risks which result from strategic plans which do not adequately reflect trends in external factors, ineffective business strategy execution, or failure to respond in a timely manner to external environments or changes in stakeholder behaviours and expectations.
EXPOSURES
The Group faces significant risks due to the changing regulatory and competitive environments in the financial services sector, with an increased pace, scale and complexity of change. Customers, shareholders and employees expectations continue to evolve, with indications that current societal trends may accelerate, impacting the Group’s ability to respond accordingly, and negatively impacting the Group’s relevance in society.
MEASUREMENT
The Group assesses and monitors the impact of the strategic risk implications of new business, product entries and other strategic initiatives, as part of the business planning processes and stress testing scenarios.
MITIGATION
The Group has a number of mitigating actions to manage strategic risk, including:
Continued digitisation of customer journeys, thereby enabling the delivery of market leading customer experiences that are seamless, accessible and personal. | |
Robust operating and contingency planning to ensure potential impacts of strategic initiatives and external drivers are mitigated. | |
Continued focus on increasing the efficiency of the Group’s operations to ensure investment capacity, responsiveness and effectiveness to respond to external trends. | |
Development of a compelling colleague proposition to continue to attract talent to the Group. |
MONITORING
A review of the Group’s emerging and strategic risks, which includes the risks to the current strategic review and the mitigating actions, is undertaken on an annual basis and the findings are reported to the Group and Board Risk Committees.
DEFINITION
Credit Riskrisk is defined as the risk that parties with whom the Group has contracted fail to meet their financial obligations (both on or off balanceand off-balance sheet).
EXPOSURES
The principal sources of credit risk within the Group arise from loans and advances, contingent liabilities, commitments, debt securities and derivatives to customers, financial institutions and sovereigns. The credit risk exposures of the Group are set out in note 5253 on page F-87. Credit risk exposures are categorised as ‘retail’, arising primarily in the Retail, Consumer Finance and Run-off divisions, and some small and medium sized enterprises (SMEs) and ‘corporate’ (including larger SMEs, corporates, banks, financial institutions and sovereigns) arising primarily in the Commercial Banking, Run-off and Insurance Divisions and Group Corporate Treasury (GCT).F-99.
In terms of loans and advances, (for example mortgages, term loans and overdrafts) and contingent liabilities (for example credit instruments
such as guarantees and standby, documentary and commercial letters of credit), credit risk arises both from amounts advanced and commitments to extend credit to a customer or bank. With respect to commitments to extend credit, the Group is also potentially exposed to an additional loss inup to an amount equal to the total unusedunutilised commitments. However, the likely amount of loss ismay be less than the total unusedunutilised commitments, as most retail and certain commercial lending commitments to extend credit may be cancelled andbased on regular assessment of the prevailing creditworthiness of customers is monitored regularly.customers. Most commercial term commitments to extend credit are also contingent upon customers maintaining specific credit standards, which together with the creditworthiness of customers are monitored regularly.standards.
Credit risk also arises from debt securities and derivatives. The total notional principal amount of interest rate, exchange rate, credit derivative and other contracts outstanding at 31 December 20162019 is shown on page 61.67. The notional principal amount does not, however, represent the Group’s credit risk exposure, which is limited to the current cost of replacing contracts with a positive value to the Group. Such amounts are reflected in note 5253 on page F-87.F-99.
Additionally, credit risk arises from leasing arrangements where the Group is the lessor. Note 2(J) on page F-14F-17 provides details on the Group’s approach to the treatment of leases.
Credit risk exposures in the Insurance Division largely result from holdingand Wealth division relate mostly to bond and loan assets which, together with some related swaps, are used to fund annuity commitments within Shareholder funds; plus balances held in the shareholderliquidity funds (including the annuity portfolio)to manage Insurance division’s liquidity requirements, and from exposure to reinsurers.
The investments held in the Group’s defined benefit pension schemes also expose the Group to credit risk. Note 36 on page F-47F-63 provides further information on the defined benefit pension schemes’ assets and liabilities.
Loans and advances, contingent liabilities, commitments, debt securities and derivatives also expose the Group to refinance risk. Refinance risk is the possibility that an outstanding exposure cannot be repaid at its contractual maturity date. If the Group does not wish to refinance the exposure then there is refinance risk if the obligor is unable to repay by securing alternative finance. This may be becauseoccur for a number of reasons which may include: the borrower is in financial difficulty, or because the terms required to refinance are outside acceptable appetite at the time.time or the customer is unable to refinance externally due to a lack of market liquidity. Refinance risk exposures are managed in accordance with the Group’s existing credit risk policies, processes and controls, and are not considered to be material given the Group’s prudent and through the cycle credit risk appetite. Where heightened refinance risk exists (such as in Commercial Banking’s Business Support Unit (BSU) or the run-off book) exposures are minimised through intensive account management and, where appropriate, are classed as impaired and forborne where appropriate.and/or forborne.
MEASUREMENT
In measuring theThe process for credit risk identification, measurement, and control is integrated into the Board-approved framework for credit risk appetite and governance.
Credit risk is measured from different perspectives using a range of loansappropriate modelling and advancesscoring techniques at a number of levels of granularity, including total balance sheet, individual portfolio, pertinent concentrations and individual customer – for both new business and existing lending. Key metrics, such as total exposure, risk-weighted assets, new business quality, concentration risk and portfolio performance, are reported monthly to customersRisk Committees.
Measures such as expected credit loss (ECL), risk-weighted assets, observed credit performance, predicted credit quality (usually from predictive credit scoring models), collateral cover and quality, and other credit drivers (such as cash flow, affordability, leverage and indebtedness) are used to enable effective risk measurement across the Group.
In addition, stress testing and scenario analysis are used to estimate impairment losses and capital demand forecasts for both regulatory and internal purposes and to banks at a counterparty level, the Group reflects three components:
(i) the ‘probability of default’ by the counterparty on its contractual obligations; (ii) current exposures to the counterparty and their likely future development, from which the Group derives the ‘exposure at default’; and (iii) the likely loss ratio on the defaulted obligations (the ‘loss given default’).
For regulatory capital purposes the Group’s rating systems assess probability of default and if appropriate, exposure at default and loss given default, in order to derive Risk Weighted Assets (RWAs) and regulatory Expected Loss (EL). If not appropriate, regulatory prescribed exposure at default and loss given default values are used in order to derive RWAs and EL.
Impairment allowances are recognised for financial reporting purposes only for loss events that have occurred at the balance sheet date, based on objective evidence of impairment. Due to the different methodologies applied, the amount of incurred credit losses provided forassist in the financial statements differs from the amount determined from the regulatory expected loss models. Note 2(H) on page F-13 provides details of the Group’s approach to the impairment of financial assets.
The obligor quality measurement of both retail and commercial counterparties is largely based on the outcomesformulation of credit risk (probability of default PD) models. The Group operates a number of different regulatory rating models, typically developed internally using statistical analysis and management judgement – retail models rely more on the former, commercial models include moreappetite.
As part of the latter, especially‘three lines of defence’ model, Risk division is the second line of defence providing oversight and independent challenge to key risk decisions taken by business management. Risk division also tests the effectiveness of credit risk management and internal credit risk controls. This includes ensuring that the control and monitoring of higher risk and vulnerable portfolios and sectors is appropriate and confirming that appropriate loss allowances for impairment are in the larger corporateplace. Output from these reviews helps to inform credit risk appetite and more specialised lending portfolios. Internal data is supplemented with external data in model development, where appropriate.credit policy.
The models vary, inter alia, inAs the extentthird line of defence, Group Internal Audit undertakes regular risk-based reviews to which they are ‘point in time’ versus ‘throughassess the cycle’. The models are subject to rigorous validationeffectiveness of Credit risk management and oversight/governance including, where appropriate, benchmarking to external information.controls.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
In the principal retail portfolios, exposure at default and loss given default models are in use. For regulatory reporting purposes, counterparties are segmented into a number of rating grades, each representing a defined range of default probabilities and exposures migrate between rating grades if the assessment of the counterparty probability of default changes. The Retail Master scale comprises 13 non-default ratings and one default rating.
In commercial portfolios the PD models also segment counterparties into a number of rating grades, with each grade representing a defined range of default probabilities. Counterparties migrate between rating grades if the assessment of the PD changes. The Corporate (non-retail) Master Scale comprises of 19 non-default ratings and 4 default rating grades, and forms the basis on which internal reporting is completed.
MITIGATION
The Group uses a range of approaches to mitigate creditCredit risk.
Prudent, through the cycle credit principles, risk policies and appetite statements: Thethe independent Risk Divisiondivision sets out the credit principles, credit risk policies and credit risk appetite statements. Principles and policies are reviewed regularly, and any changesThese are subject to aregular review and governance, with any changes subject to an approval process. Policies and risk appetite statements, where appropriate, are supported by procedures, which provide a disciplined and focused benchmark for credit
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
decisions. Risk oversight teams monitor credit performance trends review and challenge exceptions to planned outcomes, andthe outlook. Risk teams also test the adequacy of and adherence to credit risk infrastructurepolicies and governance processes throughout the Group, whichGroup. This includes tracking portfolio performance against an agreed set of keycredit risk appetite tolerances. Oversight and reviews are also undertaken by Credit Risk Oversight and Group Audit.
Strong rating systemsRobust models and controls: The Group has established an independent team in the Risk Division that sets common minimum standards, designed to ensuresee model risk models and associated rating systems are developed consistently and are of sufficient quality to support business decisions and meet regulatory requirements. Internal rating models are developed and owned by the Risk Division. The designated model owner takes responsibility for ensuring the validation of the rating systems, supported and challenged by an independent specialist Group function.on page 108.
Limitations on concentration risk: Credit risk management includesthere are portfolio controls on certain industries, sectors and product linesproducts to reflect risk appetite as well as individual, customer and bank limit guidelines.risk tolerances. Credit policies and appetite statements are aligned to the Group’s risk appetite and restrict exposure to higher risk countries and morepotentially vulnerable sectors and asset classes. Note 18 on page F-33F-99 provides an analysis of loans and advances to customers by industry (for commercial customers) and product (for retail customers). Exposures are monitored to prevent both an excessive concentration of risk and single name concentrations. These concentration risk controls are not necessarily in the form of a maximum limit on exposure, but may instead require new business in concentrated sectors to fulfil additional minimum policy and/or guideline requirements. The Group’s large exposureslargest credit limits are detailed toregularly monitored by the Board Risk Committee and reported in accordance with regulatory reporting requirements.
RobustDefined country risk management:management framework: Thethe Board sets a broad maximum country risk appetite. Within this, country limits are authorised bythe Executive Credit Approval Committee approves the Group Countrycountry risk framework and sovereign limits on an annual basis. Risk Appetite Committee,based appetite for all countries is set within the independent Risk division, taking into account economic, financial, political and social factors. Group policies stipulate that these limits must be consistent with, and support,factors as well as the approved business and strategic plans of the Group.
Specialist expertise: Creditcredit quality is managed and controlled by a number of specialist units within the business and Risk Division providing,division, which provide for example: intensive management and control (see Intensive carecontrol; security perfection; maintenance of customers in financial difficulty); security perfection, maintenancecustomer and retention;facility records; expertise in documentation for lending and associated products; sector specificsector-specific expertise; and legal services applicable to the particular market placesegments and product rangeranges offered by the business.Group.
Stress testing and scenario analysis:testing: Thethe Group’s credit portfolios are also subjectedsubject to regular stress testing, with stress scenario assessments run at various levels of the organisation. Exercises focused on individual Divisions and portfolios are performed intesting. In addition to the Group led, PRA, EBA and other regulatory stress tests.tests, exercises focused on individual divisions and portfolios are also performed. For further information on the stress testing process, methodology and governance refer tosee page 47.48.
Frequent and robust creditCredit risk oversight and assurance: Undertakenoversight and assurance of credit risk is undertaken by independent Credit Risk Oversightcredit risk oversight functions operating within Retail and Consumer Creditthe Risk and Commercial Banking Riskdivision which are part of the Group’s second line of defence. Their primary objective is to provide reasonable and independent oversight that credit risk is being effectively managed withand to ensure that appropriate and effective controls.
Group Audit performs the third line of credit risk assurance. A specialist team within Group Audit, comprising experienced credit professionals, iscontrols are in place and being adhered to. Group Internal Audit also provides assurance to carry out independent risk based internal control audits, providing an assessment of the effectiveness of internal credit controls, across the full credit lifecycle including the raising of impairment provisions. These audits cover the diverse range of the Group’s businesses and activities, and include both ‘standard’ risk based audits and reviews as well as agreed upon procedures to respond to any emerging risks or regulatory requirement. The work of Group Audit therefore continues to provide executive, senior management and Board Audit Committee with assurance on the effectiveness of credit risk management controls as well as appropriateness of impairments.across the Group’s activities.
ADDITIONAL MITIGATION FOR RETAIL AND CONSUMER FINANCE CUSTOMERS
The Group uses a variety of lending criteria when assessing applications for mortgages and unsecured lending. The general approval process uses credit acceptance scorecards and involves a review of an applicant’s previous credit history using information held by Credit Reference Agencies (CRA).
The Group also assesses the affordability and sustainability of lending for each borrower, for secured lending this includes use of an appropriate stressed interest rate scenario. Affordability assessments are compliant with relevant regulatory conduct guidelines. The Group takes reasonable steps to validate information used in the assessment of a customer’s income and expenditure.
In addition, the Group has in place quantitative limits such as product maximum limits, the level of borrowing to income and the ratio of borrowing to collateral. Some of these limits relate to internal approval levels and others are policy limits above which the Group will reject borrowing applications. The Group also applies certain criteria that are applicable to specific products such as for applications for a mortgage on a property that is to be let by the applicant.
For UK Secured, the Group’s policy permits owner occupier applications with a Loan to Value (LTV) maximum of 95 per cent. Applications with an LTV above 90 per cent are subject to enhanced underwriting criteria, including higher scorecard cut-offs. Loans above £500,000 are subject to a range of further controls, including reduced maximum income multiples, and increased case review via manual underwriting.
Buy-to-let mortgages are limited to a maximum loan size of £1,000,000 and 75 per cent LTV. Buy-to-let applications must pass a minimum Rental Cover Ratio of 125 per cent under stressed interest rates, after applicable tax liabilities.
The Group’s policy is to reject any application for a lending product where a customer is registered as bankrupt or insolvent, or has a recent County Court Judgment or financial default registered at a CRA used by the Group above de minimis thresholds. In addition, the Group rejects applicants where total unsecured debt, debt-to-income ratios, or other indicators of financial difficulty exceed policy limits.
Where credit acceptance scorecards are used, new models, model changes and monitoring of model effectiveness are independently reviewed and approved in accordance with the governance framework set by the Group Model Governance Committee.
ADDITIONAL MITIGATION FOR COMMERCIAL CUSTOMERS
Individual credit assessment and independent sanction of customer and bank limits: With the exception of small exposures to SME customers where relationship managers have limited delegated sanctioning authority, credit risk in commercial customer portfolios is subject to sanction by the independent Risk Division, which considers the strengths and weaknesses of individual transactions, the balance of risk and reward, and how credit risk aligns to the Group’s risk appetite. Exposure to individual counterparties, groups of counterparties or customer risk segments is controlled through a tiered hierarchy of delegated sanctioning authorities and limit guidelines. Approval requirements for each decision are based on a number of factors including, but not limited to, the transaction amount, the customer’s aggregate facilities, credit policy/risk appetite, credit risk ratings and the nature and term of the risk. The Group’s credit risk appetite criteria for counterparty and customer underwriting is generally the same as that for assets intended to
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
be held to maturity. All hard underwriting must be sanctioned via credit limits and a pre-approved credit matrix may be used for Best Efforts underwriting.
Counterparty limits: Limits are set against all types of exposure in a counterparty name, in accordance with an agreed methodology for each exposure type. This includes credit risk exposure on individual derivative transactions, which incorporates potential future exposures from market movements against agreed confidence intervals. Aggregate facility levels by counterparty are set and limit breaches are subject to escalation procedures.
Daily settlement limits: Settlement risk arises in any situation where a payment in cash, securities or equities is made in the expectation of a corresponding receipt in cash, securities or equities. Daily settlement limits are established for each relevant counterparty to cover the aggregate of all settlement risk arising from the Group’s market transactions on any single day.
COLLATERALCollateral
The principal types of acceptable collateral types for loans and advances, contingent liabilities and derivatives with commercial and bank counterparties/customers are:include:
residential and commercial properties; | |
charges over business assets such as premises, inventory and accounts | |
financial instruments such as debt securities; | |
vehicles; | |
cash; and | |
guarantees received from |
The Group maintains appetite guidelinesparameters on the acceptability of specific classes of collateral.
For non-mortgage retail lending to small businesses, collateral may include second charges over residential property and the assignment of life cover.
Collateral held as security for financial assets other than loans and advances is determined by the nature of the underlying exposure. Debt securities, including treasury and other bills, are generally unsecured, with the exception of asset-backed securities and similar instruments such as covered bonds, which are secured by portfolios of financial assets. Collateral is generally not held against loans and advances to financial institutions, except where
institutions. However, securities are held as part of reverse repurchase or securities borrowing transactions or where a collateral agreement has been entered into under a master netting agreement. Derivative transactions with wholesalefinancial counterparties are typically collateralised under a Credit Support Annex (CSA) in conjunction with the ISDAInternational Swaps and Derivatives Association (ISDA) Master Agreement. Derivative transactions with non-banknon-financial customers are not usually supported by a CSA.
No collateral is held in respect of retail credit card or unsecured personal lending. For non-mortgage retail lending to small businesses, collateral may include second charges over residential property and the assignment of life cover.
Commercial lending decisions must be based on an obligor’s ability to repay from normal business operations rather than reliance on the disposal of any security provided. The requirement for collateral and the type to be taken at origination will be based upon the nature of the transaction and the credit quality, size and structure of the borrower. For non-retail exposures if required, the Group will often require theseek that any collateral to include a first charge over land and buildings owned and occupied by the business, a debenture over one or more of the assets of a company or limited liability partnership, personal guarantees, limited in amount, from the directors of a company or limited liability partnership and key man insurance. The Group maintains policies setting out which types of collateral valuation are acceptable, collateral bases for valuation maximum LTVloan to value (LTV) ratios and other criteria that are to be considered when reviewing an application. Other than for project finance, object finance and income producingincome-producing real estate where charges over the subject assets are required, the provision of collateral will not determine the outcome of an application. Notwithstanding this, the fundamental business proposition must evidence the ability of the business to generate funds from normal business sources to repay a customer/customer or counterparty’s financial commitment.commitment, rather than reliance on the disposal of any security provided.
The extent to which collateral values are actively managed will depend on the credit quality and other circumstances of the obligor and type of underlying transaction. Although lending decisions are primarily based on expected cash flows, any collateral provided may impact the pricing and other terms of a loan or facility granted. This will have a financial impact on the amount of net interest income recognised and on internal loss given default estimates that contribute to the determination of asset quality and returns.
Collateral values are assessed at the time of loan origination. The Group requires collateral to always be realistically valued by an appropriately qualified source, independent of both the credit decision process and the customer, at the time of borrowing. In certain circumstances, for Retail residential mortgages this may include the use of automated valuation models based on market data, subject to accuracy criteria and loanLTV limits. Where third-parties are used for collateral valuations, they are subject to value limits.regular monitoring and review. Collateral values are reviewed on a regular basissubject to review, which will vary according to the type of lending, collateral involved and account performance. Such reviews are undertaken to confirm that the value recorded in the Bank’s systems remains appropriate and whether revaluation is required, considering for example, account performance, market conditions and any information available that may indicate that the value of the collateral has materially declined. In such instances, the Group may seek additional collateral. For Retail residential mortgages,collateral and/or other amendments to the terms of the facility. The Group adjusts openestimated market property values to take account of the costs of realisation and any discount associated with the realisation of the collateral when estimating credit losses.
The Group considers risk concentrations by collateral providers and collateral type as appropriate, with a view to ensuring that any potential undue concentrations of risk are identified and suitably managed by changes to strategy, policy and/or business plans.
The Group seeks to avoid correlation or wrong waywrong-way risk where possible. Under repothe Group’s repurchase (repo) policy, the issuer of the collateral and the repo counterparty should be neither the same nor connected. The same rule applies for derivatives. The Risk Divisiondivision has the necessary discretion to extend this rule to other cases where there is significant correlation. Countries with a rating equivalent to AA- and aboveor better may be considered to have no adverse correlation between the counterparty domiciled in thethat country and thatthe country of risk (issuer of securities).
Refer to note 5253 on page F-117 for further information on collateral.
MASTER NETTING AGREEMENTSAdditional mitigation for Retail customers
The Group uses a variety of lending criteria when assessing applications for mortgages and unsecured lending. The general approval process uses credit acceptance scorecards and involves a review of an applicant’s previous credit history using internal data and information held by Credit Reference Agencies (CRA).
The Group also assesses the affordability and sustainability of lending for each borrower. For secured lending this includes use of an appropriate stressed interest rate scenario. Affordability assessments for all lending are compliant with relevant regulatory and conduct guidelines. The Group takes reasonable steps to validate information used in the assessment of a customer’s income and expenditure.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
In addition, the Group has in place quantitative limits such as maximum limits for individual customer products, the level of borrowing to income and the ratio of borrowing to collateral. Some of these limits relate to internal approval levels and others are policy limits above which the Group will typically reject borrowing applications. The Group also applies certain criteria that are applicable to specific products for example applications for buy-to-let mortgages.
For UK mortgages, the Group’s policy permits owner occupier applications with a maximum loan to value (LTV) of 95 per cent. This can increase to 100 per cent for specific products where additional security is provided by a supporter of the applicant and held on deposit by the Group. Applications with an LTV above 90 per cent are subject to enhanced underwriting criteria, including higher scorecard cut-offs and loan size restrictions.
Buy-to-let mortgages within Retail are limited to a maximum loan size of £1,000,000 and 75 per cent LTV. Buy-to-let applications must pass a minimum rental cover ratio of 125 per cent under stressed interest rates, after applicable tax liabilities. Portfolio landlords (customers with four or more mortgaged buy-to-let properties) are subject to additional controls including evaluation of overall portfolio resilience.
The Group’s policy is to reject any application for a lending product where a customer is registered as bankrupt or insolvent, or has a recent County Court Judgment or financial default registered at a CRA used by the Group above de minimis thresholds. In addition, the Group typically rejects applicants where total unsecured debt, debt-to-income ratios, or other indicators of financial difficulty exceed policy limits.
Where credit acceptance scorecards are used, new models, model changes and monitoring of model effectiveness are independently reviewed and approved in accordance with the governance framework set by the Group Model Governance Committee.
Additional mitigation for Commercial customers
Individual credit assessment and independent sanction of customer and bank limits: with the exception of small exposures to SME customers where certain relationship managers have limited delegated sanctioning authority, credit risk in commercial customer portfolios is subject to sanction by the independent Risk division, which considers the strengths and weaknesses of individual transactions, the balance of risk and reward, and how credit risk aligns to the Group and Divisional risk appetite. Exposure to individual counterparties, groups of counterparties or customer risk segments is controlled through a tiered hierarchy of delegated sanctioning authorities and risk based recommended maximum limit parameters. Approval requirements for each decision are based on a number of factors including, but not limited to, the transaction amount, the customer’s aggregate facilities, credit policy, risk appetite, credit risk ratings and the nature and term of the risk. The Group’s credit risk appetite criteria for counterparty and customer loan Underwriting is generally the same as that for loans intended to be held to maturity. All hard loan/bond Underwriting must be sanctioned by Risk division. A pre-approved credit matrix may be used for ‘best efforts’ underwriting.
Counterparty credit limits: limits are set against all types of exposure in a counterparty name, in accordance with an agreed methodology for each exposure type. This includes credit risk exposure on individual derivatives and securities financing transactions, which incorporates potential future exposures from market movements against agreed confidence intervals. Aggregate facility levels by counterparty are set and limit breaches are subject to escalation procedures.
Daily settlement limits: settlement risk arises in any situation where a payment in cash, securities or equities is made in the expectation of a corresponding receipt in cash, securities or equities. Daily settlement limits are established for each relevant counterparty to cover the aggregate of all settlement risk arising from the Group’s market transactions on any single day. Where possible, the Group uses Continuous Linked Settlement in order to reduce FX settlement risk.
Master netting agreements
It is credit policy that a Group approved Master Netting Agreementmaster netting agreement must be used for all derivative and traded product transactions and must be in place prior to trading.trading, with separate documentation required for each Group entity providing facilities. This requirement extends to trades with clients and the counterparties used for the Bank’s own hedging activities, which may also include clearing trades with Central Counterparties (CCPs). Any exceptions must be approved by the Credit Sanctioner. Although masterappropriate credit sanctioner. Master netting agreements do not generally result in an offset of balance sheet assets and liabilities for accounting purposes, as transactions are usually settled on a gross basis,basis. However, within relevant jurisdictions and for appropriate counterparty types, theymaster nettings agreements do reduce
the credit risk to the extent that, if an event of default occurs, all trades with the counterparty may be terminated and settled on a net basis. The Group’s overall exposure to credit risk on derivative instruments subject to master netting agreements can change substantially within a short period, since this is the net position of all trades under the master netting agreement.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
OTHER CREDIT RISK TRANSFERSOther credit risk transfers
The Group also undertakes asset sales, credit derivative based transactions, securitisations (including Significant Risk Transfer transactions), purchases of credit default swaps and securitisationspurchase of credit insurance as a means of mitigating or reducing credit risk and/or risk concentration, taking into account the nature of assets and the prevailing market conditions.
MONITORING
In conjunction with Risk Division,division, businesses identify and define portfolios of credit and related risk exposures and the key benchmarks, behaviours and characteristics by which those portfolios are managed and monitored in terms of credit risk exposure.monitored. This entails the production and analysis of regular portfolio monitoring reports for review by senior management. Risk Divisiondivision in turn produces an aggregated reviewview of credit risk throughoutacross the Group, including reports on significantmaterial credit exposures, concentrations, concerns and other management information, which areis presented to the Divisional Risk Committees,divisional risk committees, Group Risk Committee and the Board Risk Committee.
Models
The performance of all rating models used in credit risk is monitored on a regular basis, in order to seek to ensure that models provide appropriate risk differentiation capability, the generated ratings remain as accurate and robust as practical, and the models assign appropriate risk estimates to grades/pools. All models are monitored against a series of agreed key performance indicators. In the event that the monitoring identifies material exceptions or deviations from expected outcomes, these will be escalated in accordanceline with the Group’s model governance framework set by the Group Model Governance Committee.– see model risk on page 108.
INTENSIVE CARE OF CUSTOMERS IN FINANCIAL DIFFICULTYIntensive care of customers in financial difficulty
The Group operates a number of solutions to assist borrowers who are experiencing financial stress. The material elements of these solutions through which the Group has granted a concession, whether temporarily or permanently, are set out below.
RETAIL AND CONSUMER FINANCE CUSTOMERSForbearance
The Group’s aim in offering forbearance and other assistance to customers in financial distress is to benefit both the customer and the Group by discharging the Group’s regulatory and social responsibilities to supportsupporting its customers and actacting in their best long-term interests and by, where possible, bringing customer facilities back into a sustainable position which, for residential mortgages, also means keeping customers in their homes. position.
The Group offers a range of tools and assistance to support customers who are encountering financial difficulties. Cases are managed on an individual basis, with the circumstances of each customer considered separately and the action taken judged as being affordableappropriate and sustainable for both the customer. Operationally,customer and the Group.
Forbearance measures consist of concessions towards a debtor that is experiencing or about to experience difficulties in meeting its financial commitments. This can include modification of the previous terms and conditions of a contract or a total or partial refinancing of a troubled debt contract, either of which would not have been required had the debtor not been experiencing financial difficulties.
The provision and review of such assistance is controlled through the application of an appropriate policy framework controls around the execution of policy, regularand associated controls. Regular review of the different treatmentsassistance offered to customers is undertaken to confirm that they remainit remains appropriate, alongside monitoring of customers’ performance and the level of payments received, and management visibility of the nature and extent of assistance provided and the associated risk.
Assistance is provided through trained colleagues in branches and dedicated telephony units, and via online guidance material. For those customers requiring more intensive help, assistance is provided through dedicated support units where tailored repayment programmes can be agreed. Customers are actively supported and referred to free money advice agencies when they have multiple credit facilities, including those at other lenders that require restructuring. Within the Collections and Recoveries functions, the sharing of best practice and alignment of policies across the Group has helped to drive more effective customer outcomes and achieve operational efficiencies.received.
The specific tools available to assist customers vary by product and the customer’s status. In defining the treatments offered to customers who have experienced financial distress, the Group distinguishes between the following categories:
Forbearance identification, classification and measurement
The Group classifies Retail and Consumer Finance accounts as forborne at the time a customer in financial difficulty is granted a concession. AccountsNon-performing exposures can be reclassified as Performing Forborne after a minimum 12 month cure period, providing there are classifiedno past due amounts or concerns regarding the full repayment of the exposure. A minimum of a further 24 months must pass from the date the forborne exposure was reclassified as Performing Forborne before the account can exit forbearance. If conditions to exit forbearance are not met at the end of this probation period, the exposure shall continue to be identified as forborne only foruntil all the period of time which the exposure is known to be, or may still be, in financial difficulty. Where temporary forbearance is granted, exit criteriaconditions are applied to include accounts until they are known to no longer be in financial difficulty. Where the treatment involves a permanent change to the contractual basis of the customer’s account such as a capitalisation of arrears or term extension, the Group classifies the balance as forborne for a period of 24 months, after which no distinction is made between these accounts and others where no change has been made.
Those forborne loans which fall below individual assessment limits are grouped with other assets of similar characteristics and assessed collectively for impairment in accordance with the Group impairment policy detailed in note 2(H). The Group’s approach is to ensure that provisioning models, supported by management judgement, appropriately reflect the underlying loss risk of exposures. The performance and output of models are monitored and challenged on an ongoing basis, in line with the Group’s model governance policies.
The Group measures the success of a forbearance scheme for Secured customers based upon the proportion of customers performing (less than or equal to three months in arrears) over the 24 months following the exit from a forbearance treatment. For temporary treatments, 80 per cent of customers accepting reduced payment arrangements are performing. For permanent treatments, 83 per cent of customers who have accepted capitalisations of arrears and 84 per cent of customers who have accepted term extensions are performing.
Customers receiving support from UK government sponsored programmes
To assist customers in financial distress, the Group also participates in UK government sponsored programmes for households the most significant of which is the Income Support for Mortgage Interest which provides certain defined categories of customers access to a benefit scheme, paid for by the government, which covers all or part of the interest on the mortgage. There are two primary categories:
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
For both categories, all decisions regarding an individual’s eligibility and any amounts payable under the scheme rest solely with the government. Payments are made directly to the Group by the Department of Work and Pensions. The Group estimates that customers representing approximately £1.8 billion of its mortgage exposures are receiving this benefit, including those who are also receiving other treatments for financial difficulty.
COMMERCIAL CUSTOMERS
Early identification, control and monitoring are key to supporting the customer and protecting the Group. With the exception of small exposures in SME all non-retail exposures in the Commercial Banking and Run-off Divisions are reviewed at least annually (and more frequently where required) by the independent Risk Division. As part of the Group’s established Credit Risk Classification system, every exposure in the good book is categorised as either ‘good’ or ‘watchlist’. The term watchlist refers to cases which require closer monitoring on the good book and are split between Special Mention and Special Review (the latter being the more serious of the two). This complements the Group’s risk rating tools and is designed to identify and highlight portfolio levels of asset quality as well as individual problem credits. All watchlist names are reviewed by the Business and Risk Division regularly, and the classification is updated if required. This process seeks to ensure that relationship managers act promptly to identify, and highlight to senior management those customers who have greater potential to become higher risk in the future.
Those customers deemed higher risk where there is cause for concern over future repayment capability or where there is a risk of the asset becoming impaired will be transferred to the Business Support Unit (BSU) at an early stage. BSU will take over the ‘credit’ responsibility for the customer relationship whilst the ‘servicing’ responsibility remains with the original Relationship Manager. The over-arching aim of the BSU is to provide support and work consensually with each customer to try and resolve the issues, restore the business to a financially viable position and thereby bring about a business turnaround. This may involve a combination of restructuring, work out strategies and other types of forbearance.
With the exception of small exposures in SME, BSU case officers manage stressed and doubtful assets in Commercial Banking and are part of the independent Risk Division. They are highly experienced and operate in a closely controlled and monitored environment, including regular oversight and close scrutiny by senior management. Distressed run-off assets are managed to the same standards by Client Asset Management (CAM).
A detailed assessment is undertaken for cases in BSU to assist in reducing and minimising risk exposure and to also highlight potential strategic options. A range of information is required to fully appraise and understand the customer’s business and cashflow (and therefore debt serviceability) and may involve the Group, in addition to using its own internal sector experts, engaging professional advisers to perform asset valuations, strategic reviews and where applicable, independent business reviews. The assessment may also involve:
The above assessment, monitoring and control processes continue throughout the period the case is managed within the BSU. All the analysis performed around cash flows is used to determine appropriate impairment provisions.
The level of Commercial Banking Division BSU gross lending to customers reduced from £4.2 billion to £3.4 billion between 31 December 2015 and 31 December 2016. The net reduction of £0.8 billion in BSU managed lending in Commercial Banking was driven by returns to mainstream, disposals, write-offs and repayments.met.
The Group’s treatment of loan renegotiations is included in the impairment policy in note 2(H) on page F-13. Income statement information set out in the credit risk tables is on an underlying basis (see page 24).F-16.
Forbearance
A key factor in determining whether the Group treats a commercial customer as forborne is the granting of a concession which is outside the Group’s current risk appetite to a borrower who experiences, or is believed to be about to experience, financial difficulty. Where a concession is granted to a customer that is not in financial difficulty or the risk profile is considered within the Group’s current risk appetite, the concession would not be considered to be an act of forbearance. The Group does not believe forbearance reporting is appropriate for derivatives, available for sale assets and the trading book where assets are marked to market daily.
The Group recognises that forbearance alone is not necessarily an indicator of impaired status, but it is a trigger for the review of the customer’s credit profile. If there is any concern over the future cash flows and/or the Group incurring a loss, then forborne loans will be classified as impaired in accordance with the Group’s impairment policy. All impaired loans, including recoveries portfolios, are currently reported as forborne.
Recovery can sometimes be through improvement in market or economic conditions, or the customer may benefit from access to alternative sources of liquidity, such as an equity injection. These can be especially relevant in real estate or other asset backed transactions where a fire sale of assets in a weak market may be unattractive.
Depending on circumstances and when operated within robust parameters and controls, the Group believes forbearance can help support the customer in the short to medium-term. The Group expects to have unimpaired forborne assets within its portfolios, where default has been avoided, or when no longer considered impaired, although the majority of these cases will be managed in the BSU, where more intensive management and monitoring is available.
Unimpaired forborne assets are included in calculating the overall collective unidentified impairment provision, which uses the historical observed default rate and loss emergence period of the relevant portfolio as a whole as part of its calculation.
Whilst the material portfolios have been reviewed for forbearance, some non-retail loans and advances in Commercial Banking and Run-off Divisions have not been reviewed on the basis that the level of unimpaired forbearance is relatively immaterial, or because the concept of forbearance is not relevant. These include Lloyds Bank Commercial Finance Ltd and The Agricultural Mortgage Corporation Plc.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
TypesCustomers receiving support from UK government sponsored programmes
To assist customers in financial distress, the Group participates in UK government sponsored programmes for households, including the Income Support for Mortgage Interest programme, under which the government pays the Group all or part of forbearance
The Group’s strategy and offerthe interest on the mortgage on behalf of forbearancethe customer. This is largely dependent on each customers individual situation. Early identification, control and monitoring are key to supportingprovided as a government loan which the customer and protecting the Group. Concessions are often provided to help the customer with their day to day liquidity and working capital. A number of options are available to the Group where a customer is facing financial difficulty and each case is treated depending on its own specific circumstances.
For commercial customers, the Group currently looks at forbearance concessions including changes to:
The main types of forbearance concessions to commercial customers in or facing financial difficulty are set out below:
Forbearance identification, classification and measurement
All non-retail loans and advances on the watchlist are further categorised depending on the current and expected credit risk attaching to the customer and the transaction. All watchlist names are reviewed by the business and independent Risk function regularly and the classification is updated if required.
Any event that causes concern over future payments is likely to result in the customer being assessed for impairment and, if required, an impairment allowance recognised. If impairment is identified, the customer is immediately transferred to BSU (if not already managed there) and the lending will be treated as impaired.
All of a customer’s impaired loans are treated as forborne as they are considered as having been (or will be) granted some form of forbearance. Most impaired loans and advances exist only in the BSU within Commercial Banking Division and Run-off Division.
A portfolio approach is taken for SME customers with exposures below £1 million managed in BSU. All customers with exposures below £1 million are reported as forborne whilst they are managed by SME BSU (whether impaired or unimpaired).
All reviews performed in the good book, BSU within Commercial Banking or in the Run-off Division include analysis of latest financial information, a consideration of the market and sector the customer operates in, performance against plan and revised terms and conditions granted as part of any forbearance concession that may have been provided.
Exit from forbearance
A customer where forbearance has been granted will remain treated and recorded as forborne until it evidences acceptable performance over a period of time. This period will depend on a number of factors such as whether the customer is trading in line with its revised plan, it is operating within the new terms and conditions (including observation to revised covenants and contractual payments), its financial performance is stable or improving and there are no undue concerns over its future performance. As a minimum, this cure period is currently expected to be at least 12 months following a forbearance event. Customers curing are managed according to their overriding Credit Risk Classification categorisation; this could be in BSU, Run-off or in mainstream Good Book.
The exception to this 12 month minimum period is where a permanent structural cure is made (for example, an injection of new collateral security or a partial repayment of debt to restore an LTV back to within a covenant). In this case, the customer may exit forbearance once the permanent cure has been made.
However, notwithstanding this, the overriding requirement for exit from forbearance in all cases is that the customer is not impaired and the reason for the forbearance event is no longer present.
Upon exit from forbearance the customer may be returned to the mainstream good classification. It is important to note that such a decision can be made only by the independent Risk Division.must repay.
THE GROUP CREDIT RISK PORTFOLIO IN 20162019
Overview
The Group’s loan portfolios | |
The | |
Stage 2 loans as a proportion of total loans and advances to customers increased by 0.5 percentage points to 5.7 per cent (31 December 2018: 5.2 per cent) | |
allowances in SME due to an enhanced approach to loan amortisation within the IFRS 9 model and a number of other model refinements |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Low risk culture and prudent risk appetite
The Group continues to | |
Although not immune, credit portfolios are well positioned against | |
The Group continues to grow lending to targeted segments in line with strategy, without relaxing credit criteria | |
The Group’s | |
Sector concentrations within the |
Table D: | Group impairment charge |
Loans and advances to banks and other assets £m | Loans and advances to customers £m | Financial assets at fair value through other comprehensive income £m | Undrawn balances £m | 2019 Total £m | 2018¹ £m | |||||||||||||||||||
Retail | – | 1,063 | – | (25 | ) | 1,038 | 861 | |||||||||||||||||
Commercial Banking | – | 297 | (1 | ) | 10 | 306 | 71 | |||||||||||||||||
Insurance and Wealth | 5 | – | – | – | 5 | 1 | ||||||||||||||||||
Central Items | – | (53 | ) | – | – | (53 | ) | 4 | ||||||||||||||||
Total impairment charge | 5 | 1,307 | (1 | ) | (15 | ) | 1,296 | 937 | ||||||||||||||||
Asset quality ratio | 0.29 | % | 0.21 | % | ||||||||||||||||||||
Gross asset quality ratio | 0.37 | % | 0.28 | % |
1 | Prior period segmental comparatives restated. See note 4 on page F-25. |
Group loans and advances to customers
The following pages contain analysis of the Group’s loans and advances to customers by sub-portfolio. Loans and advances to customers are categorised into the following stages:
Stage 1 assets comprise of newly originated assets (unless purchased or originated credit impaired), as well as those which have not experienced a significant increase in credit risk. These assets carry an expected credit loss allowance equivalent to the expected credit losses that result from those default events that are possible within 12 months of the reporting date (12 month expected credit losses).
Stage 2 assets are those which have experienced a significant increase in credit risk since origination. These assets carry an expected credit loss allowance equivalent to the expected credit losses arising over the lifetime of the asset (lifetime expected credit losses).
Stage 3 assets have either defaulted or are otherwise considered to be credit impaired. These assets carry a lifetime expected credit loss.
Purchased or originated credit impaired assets (POCI) are those that have been originated or acquired in a credit impaired state. This includes within the definition of credit impaired the purchase of a financial asset at a deep discount that reflects impaired credit losses.
55 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table E: | Group loans and advances to customers |
Total £m | Stage 1 £m | Stage 2 £m | Stage 3 £m | Purchased or originated credit-impaired £m | Stage 3 as % of total % | |||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||
Retail | 344,218 | 305,502 | 22,518 | 2,484 | 13,714 | 0.7 | ||||||||||||||||||
Commercial Banking | 96,763 | 87,323 | 5,993 | 3,447 | – | 3.6 | ||||||||||||||||||
Insurance and Wealth | 862 | 753 | 32 | 77 | – | 8.9 | ||||||||||||||||||
Central items | 56,404 | 56,397 | – | 7 | – | – | ||||||||||||||||||
Total gross lending | 498,247 | 449,975 | 28,543 | 6,015 | 13,714 | 1.2 | ||||||||||||||||||
Expected credit loss allowance on drawn balances | (3,259 | ) | (675 | ) | (995 | ) | (1,447 | ) | (142 | ) | ||||||||||||||
Net balance sheet carrying value | 494,988 | 449,300 | 27,548 | 4,568 | 13,572 | |||||||||||||||||||
Expected credit loss allowances (drawn and undrawn) as a percentage of gross lending (%)1 | 0.7 | 0.2 | 3.8 | 25.0 | 1.0 | |||||||||||||||||||
At 31 December 20182 | ||||||||||||||||||||||||
Retail | 341,682 | 305,160 | 18,741 | 2,390 | 15,391 | 0.7 | ||||||||||||||||||
Commercial Banking | 101,824 | 92,002 | 6,592 | 3,230 | – | 3.2 | ||||||||||||||||||
Insurance and Wealth | 865 | 804 | 6 | 55 | – | 6.4 | ||||||||||||||||||
Central items | 43,637 | 43,565 | 6 | 66 | – | 0.2 | ||||||||||||||||||
Total gross lending | 488,008 | 441,531 | 25,345 | 5,741 | 15,391 | 1.2 | ||||||||||||||||||
Expected credit loss allowance on drawn balances | (3,150 | ) | (525 | ) | (994 | ) | (1,553 | ) | (78 | ) | ||||||||||||||
Net balance sheet carrying value | 484,858 | 441,006 | 24,351 | 4,188 | 15,313 | |||||||||||||||||||
Expected credit loss allowances (drawn and undrawn) as a percentage of gross lending (%)1 | 0.7 | 0.1 | 4.2 | 28.4 | 0.5 |
1 | Stage 3 ECL allowances as a percentage of drawn balances are calculated excluding loans in recoveries in Retail of £205 million (31 December 2018: £250 million). |
2 | Prior period segmental comparatives restated. See note4on page F-25. |
Table F: | Group’s total expected credit loss allowance |
At 31 Dec 2019 £m | At 31 Dec 2018 £m | |||||||
Customer related balances | ||||||||
Drawn | 3,259 | 3,150 | ||||||
Undrawn | 177 | 193 | ||||||
3,436 | 3,343 | |||||||
Other assets | 19 | 19 | ||||||
Total expected credit loss allowance | 3,455 | 3,362 |
56 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table G: | Group expected credit loss allowances (drawn and undrawn) as a percentage of loans and advances to customers |
Total | Stage 1 | Stage 2 | Stage 3 | Purchased or originated credit-impaired | ||||||||||||||||||||||||||||||||||||
£m | As % of drawn balances % | £m | As % of drawn balances % | £m | As % of drawn balances % | £m | As % of drawn balances1 % | £m | As % of drawn balances % | |||||||||||||||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||||||||||||||||||
Retail | 2,090 | 0.6 | 639 | 0.2 | 819 | 3.6 | 490 | 21.5 | 142 | 1.0 | ||||||||||||||||||||||||||||||
Commercial Banking | 1,313 | 1.4 | 115 | 0.1 | 252 | 4.2 | 946 | 27.4 | – | – | ||||||||||||||||||||||||||||||
Insurance and Wealth | 17 | 2.0 | 6 | 0.8 | 1 | 3.1 | 10 | 13.0 | – | – | ||||||||||||||||||||||||||||||
Central items | 16 | – | 10 | – | – | – | 6 | 85.7 | – | – | ||||||||||||||||||||||||||||||
Total | 3,436 | 0.7 | 770 | 0.2 | 1,072 | 3.8 | 1,452 | 25.0 | 142 | 1.0 | ||||||||||||||||||||||||||||||
At 31 December 20182 | ||||||||||||||||||||||||||||||||||||||||
Retail | 1,768 | 0.5 | 493 | 0.2 | 713 | 3.8 | 484 | 22.6 | 78 | 0.5 | ||||||||||||||||||||||||||||||
Commercial Banking | 1,486 | 1.5 | 111 | 0.1 | 338 | 5.1 | 1,037 | 32.1 | – | – | ||||||||||||||||||||||||||||||
Insurance and Wealth | 18 | 2.1 | 6 | 0.7 | 1 | 16.7 | 11 | 20.0 | – | – | ||||||||||||||||||||||||||||||
Central items | 71 | 0.2 | 38 | 0.1 | 6 | 100.0 | 27 | 40.9 | – | – | ||||||||||||||||||||||||||||||
Total | 3,343 | 0.7 | 648 | 0.1 | 1,058 | 4.2 | 1,559 | 28.4 | 78 | 0.5 |
1 | Stage 3 ECL allowances as a percentage of drawn balances are calculated excluding loans in recoveries in Retail of £205 million (31 December 2018: £250 million). |
2 | Prior period segmental comparatives restated. See note 4 on page F-25. |
Table H: | Group Stage 2 loans and advances to customers |
Total | Up to date | 1-30 days past due | Over 30 days past due | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
PD movements | Other1 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Gross lending £m | ECL £m | As % of gross lending % | Gross lending £m | ECL £m | As % of gross lending % | Gross lending £m | ECL £m | As % of gross lending % | Gross lending £m | ECL £m | As % of gross lending % | Gross lending £m | ECL £m | As % of gross lending % | ||||||||||||||||||||||||||||||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Retail | 22,518 | 819 | 3.6 | 13,359 | 341 | 2.6 | 4,959 | 238 | 4.8 | 2,373 | 130 | 5.5 | 1,827 | 110 | 6.0 | |||||||||||||||||||||||||||||||||||||||||||||
Commercial Banking | 5,993 | 252 | 4.2 | 3,911 | 179 | 4.6 | 1,700 | 64 | 3.8 | 117 | 8 | 6.8 | 265 | 1 | 0.4 | |||||||||||||||||||||||||||||||||||||||||||||
Insurance and Wealth | 32 | 1 | 3.1 | – | – | – | 28 | 1 | 3.6 | 1 | – | – | 3 | – | – | |||||||||||||||||||||||||||||||||||||||||||||
Central items | – | – | – | – | – | – | – | – | – | – | – | – | – | – | – | |||||||||||||||||||||||||||||||||||||||||||||
Total | 28,543 | 1,072 | 3.8 | 17,270 | 520 | 3.0 | 6,687 | 303 | 4.5 | 2,491 | 138 | 5.5 | 2,095 | 111 | 5.3 | |||||||||||||||||||||||||||||||||||||||||||||
At 31 December 2018 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Retail | 18,741 | 713 | 3.8 | 10,017 | 248 | 2.5 | 4,488 | 250 | 5.6 | 2,441 | 113 | 4.6 | 1,795 | 102 | 5.7 | |||||||||||||||||||||||||||||||||||||||||||||
Commercial Banking | 6,592 | 338 | 5.1 | 4,169 | 177 | 4.2 | 1,851 | 110 | 5.9 | 455 | 42 | 9.2 | 117 | 9 | 7.7 | |||||||||||||||||||||||||||||||||||||||||||||
Insurance and Wealth | 6 | 1 | 16.7 | 3 | – | – | 1 | – | – | – | – | – | 2 | 1 | 50.0 | |||||||||||||||||||||||||||||||||||||||||||||
Central items | 6 | 6 | 100.0 | – | – | – | 6 | 6 | 100.0 | – | – | – | – | – | – | |||||||||||||||||||||||||||||||||||||||||||||
Total | 25,345 | 1,058 | 4.2 | 14,189 | 425 | 3.0 | 6,346 | 366 | 5.8 | 2,896 | 155 | 5.4 | 1,914 | 112 | 5.9 |
1 | Includes forbearance, client and product-specific indicators not reflected within quantitative probability of default assessments. |
57 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The Group’s assessment of a significant increase in credit risk, and resulting categorisation of Stage 2, includes customers moving into early arrears as well as a broader assessment that an up to date customer has experienced a level of deterioration in credit risk since origination. A more sophisticated assessment is required for up to date customers, which varies across divisions and product type. This assessment incorporates specific triggers such as a significant proportionate increase in probability of default relative to that at origination, recent arrears, forbearance activity, internal watch lists and external bureau flags. Up to date exposures in Stage 2 are likely to show lower levels of expected credit loss (ECL) allowance relative to those that have already moved into arrears given that an arrears status typically reflects a stronger indication of future default and greater likelihood of credit losses.
Additional information
The measurement of ECL reflects an unbiased probability-weighted range of possible future economic outcomes. The Group achieves this by selecting four economic scenarios to reflect the range of outcomes; the central scenario reflects the Group’s base case assumptions used for medium term planning purposes, an upside and a downside scenario are also selected together with a severe downside scenario. The base case, upside and downside scenarios carry a 30 per cent weighting; the severe downside is weighted at 10 per cent. The table below shows the decomposition of the final probability-weighted ECL for each forward-looking economic scenario. The stage allocation for an asset is based on the overall scenario probability-weighted PD and, hence, the Stage 2 allocation is constant across all the scenarios.
The table below shows the ECL calculated under each scenario.
Upside £m | Base Case £m | Downside £m | Severe Downside £m | Probability- weighted £m | ||||||||||||||||
Secured | 317 | 464 | 653 | 1,389 | 569 | |||||||||||||||
Other Retail | 1,443 | 1,492 | 1,564 | 1,712 | 1,521 | |||||||||||||||
Commercial | 1,211 | 1,258 | 1,382 | 1,597 | 1,315 | |||||||||||||||
Other | 50 | 50 | 50 | 50 | 50 | |||||||||||||||
At 31 December 2019 | 3,021 | 3,264 | 3,649 | 4,748 | 3,455 |
58 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
RETAIL
The credit quality of the Retail portfolios remains strong and continues to benefit from robust credit risk management, including affordability and indebtedness controls at origination and a prudent approach to risk appetite. The economic environment continues to benefit from high employment rates, positive real wage growth and household indebtedness remaining below pre-crisis levels. |
– | New business quality remains strong. |
– | The | |
– | Stage 3 loans and advances |
Loans and advances increased to £344 billion (31 December 2018: £342 billion). | |
The impairment charge increased to £1,038 million in 2019 compared to £861 million in the same period in 2018, driven by a number of items including some weakening in used car prices, provisioning methodology refinements and lower cash recoveries following prior year debt sales, partially offset by releases following a reassessment of cases in long-term default and improvements in the Secured portfolio. |
Portfolios
Secured credit quality remained strong, with flow to arrears stable at low levels. Total secured loans and advances are broadly flat at £289.2 billion (31 December 2018: £288.2 billion), with an improved asset risk mix. | ||
The average indexed loan to value (LTV) remained broadly stable at 44.9 per cent (31 December 2018: 44.3 per cent) and the proportion of balances with an LTV of greater than 90 per cent remained flat at 2.5 per cent. The average LTV of new business increased to 64.3 per cent (31 December 2018: 62.5 per cent). | ||
The impairment release of £167 million in 2019 compared to a charge of £38 million in 2018. This reflects provision releases due to improved credit quality of the portfolio and a reassessment of Secured cases in long-term default. | ||
Other loans and advances |
59 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table I: | Retail impairment charge |
Table 1.4:Group impairment charge
2016 | Loans and advances to customers £m | Debt securities classified as loans and receivables £m | Available- for-sale financial assets £m | Other credit risk provisions £m | Total £m | 20151 £m | ||||||||||||||||||
Retail | 373 | – | – | – | 373 | 349 | ||||||||||||||||||
Commercial Banking | 21 | – | – | (5 | ) | 16 | (22 | ) | ||||||||||||||||
Consumer Finance | 282 | – | – | – | 282 | 235 | ||||||||||||||||||
Run-off | (17 | ) | – | – | (9 | ) | (26 | ) | 8 | |||||||||||||||
Central items | (2 | ) | – | – | 2 | – | (2 | ) | ||||||||||||||||
Total impairment charge | 657 | – | – | (12 | ) | 645 | 568 | |||||||||||||||||
Asset quality ratio | 0.15% | 0.14% | ||||||||||||||||||||||
Gross asset quality ratio | 0.28% | 0.28% |
2019 | 2018 | Change | ||||||||||
£m | £m | % | ||||||||||
Secured | (167 | ) | 38 | |||||||||
Unsecured1 | 948 | 683 | (39 | ) | ||||||||
UK Motor Finance | 203 | 113 | (80 | ) | ||||||||
Other2,3 | 54 | 27 | (100 | ) | ||||||||
Total impairment charge | 1,038 | 861 | (21 | ) | ||||||||
Asset quality ratio | 0.30% | 0.25% | 5bp |
1 | |
2 | Other includes Business Banking, Europe and Retail run-off. |
3 | Prior period segmental comparatives restated. See note 4 on page F-25. |
Table 1.5:Movement in gross impaired loans
Table J: | Retail loans and advances to customers |
2016 | ||||||||||||||||||
Retail £m | Commercial Banking £m | Consumer Finance £m | Run-off £m | Total £m | 2015 Total £m | |||||||||||||
At 1 January1 | 4,112 | 2,543 | 910 | 2,025 | 9,590 | 14,308 | ||||||||||||
Classified as impaired during the year | 1,947 | 671 | 425 | 111 | 3,154 | 3,401 | ||||||||||||
Transferred to not impaired during the year | (800 | ) | (112 | ) | (81 | ) | (54 | ) | (1,047 | ) | (1,358 | ) | ||||||
Repayments | (517 | ) | (595 | ) | (121 | ) | (94 | ) | (1,327 | ) | (1,729 | ) | ||||||
Amounts written off | (391 | ) | (311 | ) | (285 | ) | (485 | ) | (1,472 | ) | (1,503 | ) | ||||||
Impact of disposal of business and asset sales | – | (33 | ) | (49 | ) | (410 | ) | (492 | ) | (3,403 | ) | |||||||
Exchange and other movements | 3 | 16 | (54 | ) | 124 | 89 | (126 | ) | ||||||||||
At 31 December | 4,354 | 2,179 | 745 | 1,217 | 8,495 | 9,590 |
Purchased | Stage 3 as | |||||||||||||||||||||||
or originated | % of | |||||||||||||||||||||||
Total | Stage 1 | Stage 2 | Stage 3 | credit-impaired | total | |||||||||||||||||||
£m | £m | £m | £m | £m | % | |||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||
Secured | 289,198 | 257,043 | 16,935 | 1,506 | 13,714 | 0.5 | ||||||||||||||||||
Unsecured1 | 28,411 | 24,921 | 2,812 | 678 | – | 2.4 | ||||||||||||||||||
UK Motor Finance | 15,976 | 13,884 | 1,942 | 150 | – | 0.9 | ||||||||||||||||||
Other2 | 10,633 | 9,654 | 829 | 150 | – | 1.4 | ||||||||||||||||||
Total gross lending | 344,218 | 305,502 | 22,518 | 2,484 | 13,714 | 0.7 | ||||||||||||||||||
Expected credit loss allowance on drawn balances | (1,961 | ) | (563 | ) | (766 | ) | (490 | ) | (142 | ) | ||||||||||||||
Net balance sheet carrying value | 342,257 | 304,939 | 21,752 | 1,994 | 13,572 | |||||||||||||||||||
Expected credit loss allowances (drawn and undrawn) as a percentage of gross lending (%)3 | 0.6 | 0.2 | 3.6 | 21.5 | 1.0 | |||||||||||||||||||
At 31 December 2018 | ||||||||||||||||||||||||
Secured | 288,235 | 257,797 | 13,654 | 1,393 | 15,391 | 0.5 | ||||||||||||||||||
Unsecured1 | 28,115 | 24,705 | 2,707 | 703 | – | 2.5 | ||||||||||||||||||
UK Motor Finance | 14,933 | 13,224 | 1,580 | 129 | – | 0.9 | ||||||||||||||||||
Other2 | 10,399 | 9,434 | 800 | 165 | – | 1.6 | ||||||||||||||||||
Total gross lending | 341,682 | 305,160 | 18,741 | 2,390 | 15,391 | 0.7 | ||||||||||||||||||
Expected credit loss allowance on drawn balances | (1,613 | ) | (389 | ) | (662 | ) | (484 | ) | (78 | ) | ||||||||||||||
Net balance sheet carrying value | 340,069 | 304,771 | 18,079 | 1,906 | 15,313 | |||||||||||||||||||
Expected credit loss allowances (drawn and undrawn) as a percentage of gross lending (%)3 | 0.5 | 0.2 | 3.8 | 22.6 | 0.5 |
1 | |
2 | Other includes Business Banking, Europe and Retail run-off. |
3 | Stage 3 ECL allowances as a percentage of drawn balances are calculated excluding loans in recoveries for unsecured of £184 million (31 December 2018: £233 million) and £21 million (31 December 2018: £17 million) for Business Banking in Other. |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table K: | Retail expected credit loss allowances (drawn and undrawn) as a percentage of loans and advances to customers |
Table 1.6:Group impaired loans and provisions
Loans and advances to customers £m | Impaired Loans £m | Impaired loans as % of closing advances % | Impairment provisions1 £m | Provision as % of impaired loans2 % | ||||||||||||||||
At 31 December 2016 | ||||||||||||||||||||
Retail | 299,493 | 4,354 | 1.5 | 1,630 | 38.2 | |||||||||||||||
Commercial Banking | 101,176 | 2,179 | 2.2 | 824 | 37.8 | |||||||||||||||
Consumer Finance | 35,494 | 745 | 2.1 | 396 | 85.0 | |||||||||||||||
Run-off | 10,259 | 1,217 | 11.9 | 682 | 56.0 | |||||||||||||||
Reverse repos and other items3 | 15,249 | |||||||||||||||||||
Total gross lending | 461,671 | 8,495 | 1.8 | 3,532 | 43.4 | |||||||||||||||
Impairment provisions | (3,532 | ) | ||||||||||||||||||
Fair value adjustments4 | (181 | ) | ||||||||||||||||||
Total Group | 457,958 | |||||||||||||||||||
At 31 December 20155 | ||||||||||||||||||||
Retail | 307,500 | 4,112 | 1.3 | 1,564 | 39.2 | |||||||||||||||
Commercial Banking | 103,082 | 2,543 | 2.5 | 1,091 | 42.9 | |||||||||||||||
Consumer Finance | 31,827 | 910 | 2.9 | 367 | 75.5 | |||||||||||||||
Run-off | 11,422 | 2,025 | 17.7 | 1,150 | 56.8 | |||||||||||||||
Reverse repos and other items3 | 5,798 | |||||||||||||||||||
Total gross lending | 459,629 | 9,590 | 2.1 | 4,172 | 46.1 | |||||||||||||||
Impairment provisions | (4,172 | ) | ||||||||||||||||||
Fair value adjustments4 | (282 | ) | ||||||||||||||||||
Total Group | 455,175 |
Purchased | ||||||||||||||||||||||||||||||||||||||||
or originated | ||||||||||||||||||||||||||||||||||||||||
Total | Stage 1 | Stage 2 | Stage 3 | credit-impaired | ||||||||||||||||||||||||||||||||||||
As % of | As % of | As % of | As % of | As % of | ||||||||||||||||||||||||||||||||||||
drawn | drawn | drawn | drawn | drawn | ||||||||||||||||||||||||||||||||||||
balances | balances | balances | balances1 | balances | ||||||||||||||||||||||||||||||||||||
£m | % | £m | % | £m | % | £m | % | £m | % | |||||||||||||||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||||||||||||||||||
Secured | 569 | 0.2 | 24 | – | 281 | 1.7 | 122 | 8.1 | 142 | 1.0 | ||||||||||||||||||||||||||||||
Unsecured2 | 1,007 | 3.6 | 363 | 1.5 | 411 | 14.6 | 233 | 47.2 | – | – | ||||||||||||||||||||||||||||||
UK Motor Finance3 | 387 | 2.4 | 216 | 1.6 | 87 | 4.5 | 84 | 56.0 | – | – | ||||||||||||||||||||||||||||||
Other4 | 127 | 1.2 | 36 | 0.4 | 40 | 4.8 | 51 | 39.5 | – | – | ||||||||||||||||||||||||||||||
Total | 2,090 | 0.6 | 639 | 0.2 | 819 | 3.6 | 490 | 21.5 | 142 | 1.0 | ||||||||||||||||||||||||||||||
At 31 December 2018 | ||||||||||||||||||||||||||||||||||||||||
Secured | 460 | 0.2 | 38 | – | 226 | 1.7 | 118 | 8.5 | 78 | 0.5 | ||||||||||||||||||||||||||||||
Unsecured2 | 896 | 3.2 | 287 | 1.2 | 379 | 14.0 | 230 | 48.9 | – | – | ||||||||||||||||||||||||||||||
UK Motor Finance3 | 290 | 1.9 | 127 | 1.0 | 78 | 4.9 | 85 | 65.9 | – | – | ||||||||||||||||||||||||||||||
Other4 | 122 | 1.2 | 41 | 0.4 | 30 | 3.8 | 51 | 34.5 | – | – | ||||||||||||||||||||||||||||||
Total | 1,768 | 0.5 | 493 | 0.2 | 713 | 3.8 | 484 | 22.6 | 78 | 0.5 |
1 | |
2 | |
3 | UK Motor Finance for Stages 1 and 2 include £201 million (31 December |
4 | Other includes Business Banking, Europe and |
Table L: | Retail Stage 2 loans and advances to customers |
Total | Up to date | 1-30 days past due | Over 30 days past due | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
PD movement | Other3 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
As % of | As % of | As % of | As % of | As % of | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Gross | gross | Gross | gross | Gross | gross | Gross | gross | Gross | gross | |||||||||||||||||||||||||||||||||||||||||||||||||||
lending | ECL | lending | lending | ECL | lending | lending | ECL | lending | lending | ECL | lending | lending | ECL | lending | ||||||||||||||||||||||||||||||||||||||||||||||
£m | £m | % | £m | £m | % | £m | £m | % | £m | £m | % | £m | £m | % | ||||||||||||||||||||||||||||||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Secured | 16,935 | 281 | 1.7 | 10,846 | 83 | 0.8 | 2,593 | 107 | 4.1 | 1,876 | 33 | 1.8 | 1,620 | 58 | 3.6 | |||||||||||||||||||||||||||||||||||||||||||||
Unsecured1 | 2,812 | 411 | 14.6 | 1,661 | 217 | 13.1 | 772 | 90 | 11.7 | 282 | 67 | 23.8 | 97 | 37 | 38.1 | |||||||||||||||||||||||||||||||||||||||||||||
UK Motor Finance | 1,942 | 87 | 4.5 | 543 | 27 | 5.0 | 1,232 | 30 | 2.4 | 135 | 21 | 15.6 | 32 | 9 | 28.1 | |||||||||||||||||||||||||||||||||||||||||||||
Other2 | 829 | 40 | 4.8 | 309 | 14 | 4.5 | 362 | 11 | 3.0 | 80 | 9 | 11.3 | 78 | 6 | 7.7 | |||||||||||||||||||||||||||||||||||||||||||||
Total | 22,518 | 819 | 3.6 | 13,359 | 341 | 2.6 | 4,959 | 238 | 4.8 | 2,373 | 130 | 5.5 | 1,827 | 110 | 6.0 | |||||||||||||||||||||||||||||||||||||||||||||
At 31 December 2018 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Secured | 13,654 | 226 | 1.7 | 8,318 | 62 | 0.7 | 1,800 | 77 | 4.3 | 1,955 | 30 | 1.5 | 1,581 | 57 | 3.6 | |||||||||||||||||||||||||||||||||||||||||||||
Unsecured1 | 2,707 | 379 | 14.0 | 998 | 149 | 14.9 | 1,357 | 144 | 10.6 | 258 | 53 | 20.5 | 94 | 33 | 35.1 | |||||||||||||||||||||||||||||||||||||||||||||
UK Motor Finance | 1,580 | 78 | 4.9 | 488 | 26 | 5.3 | 915 | 21 | 2.3 | 146 | 23 | 15.8 | 31 | 8 | 25.8 | |||||||||||||||||||||||||||||||||||||||||||||
Other2 | 800 | 30 | 3.8 | 213 | 11 | 5.2 | 416 | 8 | 1.9 | 82 | 7 | 8.5 | 89 | 4 | 4.5 | |||||||||||||||||||||||||||||||||||||||||||||
Total | 18,741 | 713 | 3.8 | 10,017 | 248 | 2.5 | 4,488 | 250 | 5.6 | 2,441 | 113 | 4.6 | 1,795 | 102 | 5.7 |
1 | Unsecured includes Credit cards, Loans and Overdrafts. |
2 | Other includes Business Banking, Europe and Retail run-off. |
3 | Includes |
Table 1.7:Derivative credit risk exposures
2016 | 2015 | |||||||||||||||||||||||||||||||
Traded over the counter | Traded over the counter | |||||||||||||||||||||||||||||||
Traded on recognised exchanges £m | Settled by central counterparties £m | Not settled by central counterparties £m | Total £m | Traded on recognised exchanges £m | Settled by central counterparties £m | Not settled by central counterparties £m | Total £m | |||||||||||||||||||||||||
Notional balances | ||||||||||||||||||||||||||||||||
Foreign exchange | – | 254 | 369,368 | 369,622 | 6,568 | – | 383,722 | 390,290 | ||||||||||||||||||||||||
Interest rate | 167,399 | 3,023,742 | 423,709 | 3,614,850 | 31,128 | 3,598,307 | 791,351 | 4,420,786 | ||||||||||||||||||||||||
Equity and other | 32,172 | – | 11,046 | 43,218 | 4,837 | – | 9,337 | 14,174 | ||||||||||||||||||||||||
Credit | – | – | 8,098 | 8,098 | – | – | 4,566 | 4,566 | ||||||||||||||||||||||||
Total | 199,571 | 3,023,996 | 812,221 | 4,035,788 | 42,533 | 3,598,307 | 1,188,976 | 4,829,816 | ||||||||||||||||||||||||
Fair values | ||||||||||||||||||||||||||||||||
Assets | 262 | 35,563 | 103 | 28,811 | ||||||||||||||||||||||||||||
Liabilities | (1 | ) | (34,506 | ) | (131 | ) | (26,149 | ) | ||||||||||||||||||||||||
Net asset | 261 | 1,057 | (28 | ) | 2,662 |
The total notional principal amount of interest rate, exchange rate, credit derivative and equity and other contracts outstanding at 31 December 2016 and 31 December 2015 is shown in the table above. The notional principal amount does not, however, represent the Group’s credit risk exposure, which is limited to the current cost of replacing contracts with a positive value to the Group. Such amounts are reflected in note 52 on page F-87.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Retail
Table 1.8:Retail impairment charge
2016 £m | 20151 £m | Change % | ||||||||||
Secured | 104 | 98 | (6 | ) | ||||||||
Overdrafts | 241 | 229 | (5 | ) | ||||||||
Wealth | 1 | 1 | — | |||||||||
Retail Business Banking | 27 | 21 | (29 | ) | ||||||||
Total impairment charge | 373 | 349 | (7 | ) | ||||||||
Asset quality ratio | 0.12% | 0.11% | 1bp |
Table 1.9:Retail impaired loans and provisions
Loans and advances to customers £m | Impaired loans £m | Impaired loans as a % of closing advances % | Impairment provisions1 £m | Impairment provisions as a % of impaired loans2 % | ||||||||||||||||
At 31 December 2016 | ||||||||||||||||||||
Secured | 294,503 | 4,104 | 1.4 | 1,503 | 36.6 | |||||||||||||||
Overdrafts | 1,952 | 179 | 9.2 | 90 | 82.6 | |||||||||||||||
Wealth | 2,034 | 44 | 2.2 | 15 | 34.1 | |||||||||||||||
Retail Business Banking | 1,004 | 27 | 2.7 | 22 | 200.0 | |||||||||||||||
Total gross lending | 299,493 | 4,354 | 1.5 | 1,630 | 38.2 | |||||||||||||||
Impairment provisions | (1,630 | ) | ||||||||||||||||||
Fair value adjustments | (181 | ) | ||||||||||||||||||
Total | 297,682 | |||||||||||||||||||
At 31 December 20153 | ||||||||||||||||||||
Secured | 302,413 | 3,818 | 1.3 | 1,431 | 37.5 | |||||||||||||||
Overdrafts | 2,028 | 211 | 10.4 | 95 | 78.5 | |||||||||||||||
Wealth | 2,164 | 40 | 1.8 | 19 | 47.5 | |||||||||||||||
Retail Business Banking | 895 | 43 | 4.8 | 19 | 126.7 | |||||||||||||||
Total gross lending | 307,500 | 4,112 | 1.3 | 1,564 | 39.2 | |||||||||||||||
Impairment provisions | (1,564 | ) | ||||||||||||||||||
Fair value adjustments | (273 | ) | ||||||||||||||||||
Total | 305,663 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Secured
Table 1.10:Retail Secured loans and advances to customers
At 31 Dec 2016 £m | At 31 Dec 2015 £m | |||||||
Mainstream | 222,450 | 227,267 | ||||||
Buy-to-let | 54,460 | 55,598 | ||||||
Specialist1 | 17,593 | 19,548 | ||||||
Total Secured | 294,503 | 302,413 |
Table 1.11:Mortgages greater than three months in arrears (excluding repossessions)
Number of cases | Total mortgage accounts % | Value of loans1 | Total mortgage balances % | |||||||||||||||||||||||||||||
2016 | 2015 | 2016 | 2015 | 2016 | 2015 | 2016 | 2015 | |||||||||||||||||||||||||
At 31 Dec | Cases | Cases | % | % | £m | £m | % | % | ||||||||||||||||||||||||
Mainstream | 35,254 | 34,850 | 1.7 | 1.6 | 3,865 | 3,803 | 1.7 | 1.7 | ||||||||||||||||||||||||
Buy-to-let | 5,324 | 5,021 | 1.1 | 1.0 | 660 | 626 | 1.2 | 1.1 | ||||||||||||||||||||||||
Specialist | 9,078 | 8,777 | 7.2 | 6.4 | 1,508 | 1,476 | 8.6 | 7.6 | ||||||||||||||||||||||||
Total | 49,656 | 48,648 | 1.8 | 1.7 | 6,033 | 5,905 | 2.0 | 2.0 |
The stock of repossessions increased to 678 cases at 31 December 2016 compared to 654 cases at 31 December 2015.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table 1.12:Period end and average LTVs across the Retail mortgage portfolios
Mainstream % | Buy-to-let % | Specialist % | Total % | Unimpaired % | Impaired % | |||||||||||||||||||
At 31 December 2016 | ||||||||||||||||||||||||
Less than 60% | 56.8 | 52.0 | 53.8 | 55.8 | 56.0 | 38.3 | ||||||||||||||||||
60% to 70% | 17.8 | 25.4 | 17.8 | 19.2 | 19.3 | 18.4 | ||||||||||||||||||
70% to 80% | 14.0 | 14.4 | 13.6 | 14.0 | 14.0 | 15.3 | ||||||||||||||||||
80% to 90% | 8.4 | 6.1 | 8.6 | 8.0 | 7.9 | 11.9 | ||||||||||||||||||
90% to 100% | 2.4 | 1.5 | 3.1 | 2.3 | 2.2 | 6.8 | ||||||||||||||||||
Greater than 100% | 0.6 | 0.6 | 3.1 | 0.7 | 0.6 | 9.3 | ||||||||||||||||||
Total | 100.0 | 100.0 | 100.0 | 100.0 | 100.0 | 100.0 | ||||||||||||||||||
Outstanding loan value (£m) | 222,450 | 54,460 | 17,593 | 294,503 | 290,399 | 4,104 | ||||||||||||||||||
Average loan to value:1 | ||||||||||||||||||||||||
Stock of residential mortgages | 41.8 | 53.7 | 49.2 | 44.0 | ||||||||||||||||||||
New residential lending | 65.0 | 61.9 | n/a | 64.4 | ||||||||||||||||||||
Impaired mortgages | 51.8 | 69.0 | 61.9 | 55.8 | ||||||||||||||||||||
At 31 December 2015 | ||||||||||||||||||||||||
Less than 60% | 52.2 | 45.4 | 43.7 | 50.4 | 50.7 | 30.9 | ||||||||||||||||||
60% to 70% | 19.1 | 26.8 | 19.7 | 20.6 | 20.6 | 17.5 | ||||||||||||||||||
70% to 80% | 15.5 | 15.0 | 15.5 | 15.4 | 15.4 | 16.9 | ||||||||||||||||||
80% to 90% | 9.0 | 8.0 | 11.6 | 9.0 | 8.9 | 13.3 | ||||||||||||||||||
90% to 100% | 3.2 | 3.9 | 5.5 | 3.5 | 3.4 | 9.5 | ||||||||||||||||||
Greater than 100% | 1.0 | 0.9 | 4.0 | 1.1 | 1.0 | 11.9 | ||||||||||||||||||
Total | 100.0 | 100.0 | 100.0 | 100.0 | 100.0 | 100.0 | ||||||||||||||||||
Outstanding loan value (£m) | 227,267 | 55,598 | 19,548 | 302,413 | 298,595 | 3,818 | ||||||||||||||||||
Average loan to value:1 | ||||||||||||||||||||||||
Stock of residential mortgages | 43.6 | 56.3 | 53.3 | 46.1 | ||||||||||||||||||||
New residential lending | 65.2 | 63.0 | n/a | 64.7 | ||||||||||||||||||||
Impaired mortgages | 55.6 | 74.6 | 66.8 | 60.0 |
At 31 Dec | At 31 Dec | |||||||
2019 | 2018 | |||||||
£m | £m | |||||||
Mainstream | 227,975 | 223,230 | ||||||
Buy-to-let | 49,086 | 51,322 | ||||||
Specialist | 12,137 | 13,683 | ||||||
Total | 289,198 | 288,235 |
Interest only mortgages
The Group provides interest only mortgages to owner occupier mortgage customers whereby only payments of interest are made for the term of the mortgage with the customer responsible for repaying the principal outstanding at the end of the loan term. At 31 December 2016,2019, owner occupier interest only balances as a proportion of total owner occupier balances had reduced to 31.323.9 per cent (31 December 2015: 33.92018: 26.7 per cent). The average indexed loan to value improved to 43.8remained at 41.2 per cent (31 December: 46.6December 2018: 41.2 per cent).
New owner occupier interest only mortgages are subject to conservative underwriting criteria with rigorous controls on customers’ ability to repay the principal at the end of term. New interest only mortgages, including those with any element of capital repayments represented 1.9 per cent of new residential mortgages in 2016 (2.8 per cent in 20152).
For existing interest only mortgages, a contact strategy is in place throughoutduring the term of the mortgage to ensure that customers are aware of their obligations to repay the principal upon maturity of the loan.
Treatment strategies are in place to help customers anticipate and plan for repayment of capital at maturity and support those who may have difficulty in repaying the principal amount. A dedicated specialist team supports customers who have passed their contractual maturity date and are unable to fully repay the principal. A range of treatments are offered suchto customers based on their individual circumstances to create fair and sustainable outcomes.
62 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table N: | Analysis of owner occupier interest only mortgages |
At 31 Dec | At 31 Dec | |||||||
2019 | 2018 | |||||||
Total | Total | |||||||
Interest only balances (£m) | 57,437 | 63,138 | ||||||
Stage 1% | 75.6 | 79.1 | ||||||
Stage 2% | 10.0 | 6.6 | ||||||
Stage 3% | 1.2 | 1.0 | ||||||
Purchased or originated credit impaired % | 13.2 | 13.3 | ||||||
Average loan to value (%)1 | 41.2 | 41.2 | ||||||
Maturity profile (£m) | ||||||||
Due | 1,459 | 1,144 | ||||||
1 year | 1,968 | 2,405 | ||||||
2-5 years | 9,852 | 10,229 | ||||||
6-10 years | 18,606 | 18,562 | ||||||
>11 years | 25,552 | 30,798 | ||||||
Past term interest only balances (£m)2 | 1,677 | 1,635 | ||||||
Stage 1% | 0.9 | 2.8 | ||||||
Stage 2% | 23.9 | 16.8 | ||||||
Stage 3% | 21.8 | 17.9 | ||||||
Purchased or originated credit impaired % | 53.4 | 62.5 | ||||||
Average loan to value (%)1 | 35.7 | 34.9 | ||||||
Negative equity (%) | 2.8 | 2.8 |
1 | 2019 interest only LTVs (loan to value) use Markit’s 2019 Halifax House Price Index; 2018 LTVs have been restated on the same basis. |
2 | Balances where all interest only elements have moved past term. Some may subsequently have had a term extension, so are no longer classed as due. |
Retail forbearance
The basis of disclosure for forbearance is aligned to definitions used in the European Banking Authority’s FINREP reporting. Total forbearance for the major retail portfolios has improved by £546 million to £6.2 billion driven primarily by a reduction in customers where arrears are written on to the loan balance (capitalisations).
The main customer treatments included are: repair, where arrears are written on to the loan balance and the arrears position cancelled; instances where there are suspensions of interest and/or capital repayments; past term interest only mortgages; and refinance personal loans.
As a percentage of loans and advances, forbearance loans improved to 1.8 per cent at 31 December 2019 (31 December 2018: 2.0 per cent).
Total expected credit losses (ECL) as full (or part) conversiona proportion of loans and advances which are forborne has increased to capital repayment, and extension of term to match the maturity dates of any associated repayment vehicles.5.0 per cent (31 December 2018: 4.3 per cent).
Table O: | Retail forborne loans and advances (audited) |
Expected credit | ||||||||||||||||||||
Of which | losses as a % of | |||||||||||||||||||
purchased or | total loans and | |||||||||||||||||||
Of which | Of which | originated | advances which | |||||||||||||||||
Total | Stage 2 | Stage 3 | credit impaired | are forborne1 | ||||||||||||||||
£m | £m | £m | £m | % | ||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||
Secured | 5,559 | 1,156 | 736 | 3,659 | 2.1 | |||||||||||||||
Unsecured2 | 540 | 168 | 305 | – | 31.2 | |||||||||||||||
UK Motor Finance | 63 | 35 | 26 | – | 30.4 | |||||||||||||||
Total | 6,162 | 1,359 | 1,067 | 3,659 | 5.0 | |||||||||||||||
At 31 December 2018 | ||||||||||||||||||||
Secured | 6,089 | 1,136 | 642 | 4,241 | 1.6 | |||||||||||||||
Unsecured2 | 563 | 204 | 289 | – | 30.3 | |||||||||||||||
UK Motor Finance | 56 | 30 | 25 | – | 34.8 | |||||||||||||||
Total | 6,708 | 1,370 | 956 | 4,241 | 4.3 |
1 | Expected credit loss allowance as a percentage of total loans and advances which are forborne is calculated excluding loans in recoveries for Unsecured (31 December 2019: £82 million; 31 December 2018: £107 million). |
2 | 2019 balances include MBNA, 2018 balances have been restated on the same basis |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
COMMERCIAL BANKING
Despite the challenging environment, the overall credit quality of the portfolio and new business remains good. The portfolio continues to benefit from effective risk management and low interest rates. Notwithstanding the current competitive market conditions, the Group is maintaining its prudent, well-defined and controlled through the cycle credit risk appetite. | |
The possibility of a no-deal exit from the European Union remains given the timelines for striking a trade deal. Developments continue to be monitored proactively and various initiatives are in place to mitigate ‘No Deal’ risk to ensure portfolio quality is maintained whilst supporting the Group’s purpose of Helping Britain Prosper. | |
There are headwinds in a number of sectors including agriculture, construction, manufacturing and consumer related sectors such as retail. Performance and monitoring of vulnerable sectors remains a key focus at this stage of the credit cycle. | |
Dynamic internal and external key performance indicators are monitored closely to help identify early signs of deterioration. | |
Portfolios remain well positioned and are subject to ongoing risk mitigation actions as appropriate. Monitoring indicates no material deterioration in the credit quality of the portfolio. | |
Net impairment charge of £306 million compared with a net charge of £71 million in 2018 is largely as a result of gross charges on two corporate cases, rather than any material deterioration in the underlying portfolio. These were partially offset by a net release in Stage 1 and 2 ECL, driven by enhancements to model methodology and data, including the approach to modelling loan amortisation. The impact of this was weighted toward the SME portfolio. Excluding the two large corporate cases, gross charges in 2019 were lower than 2018. | |
The size and nature of the commercial portfolio results in some volatility as cases move between stages. Stage 3 loans as a proportion of total loans and advances to customers has increased to 3.6 per cent (31 December 2018: 3.2 per cent). Stage 3 ECL allowance as a percentage of Stage 3 drawn balances has reduced to 27.4 per cent (31 December 2018: 32.1 per cent), predominantly due to the change in mix of assets due to write-offs and the transfer in of a small number of larger, individually assessed names with lower likelihood of net loss. | |
Stage 2 loans as a proportion of total loans and advances to customers remained broadly stable at 6.2 per cent (31 December 2018: 6.5 per cent). Stage 2 ECL allowances as a percentage of Stage 2 drawn balances were lower at 4.2 per cent (31 December 2018: 5.1 per cent) with the reduction weighted toward SME mainly due to enhanced approach to loan amortisation within the IFRS 9 model and a number of other model refinements |
64 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table 1.13:Analysis of owner occupier interest only mortgagesPortfolios
2016 | 2015 | |||||||
Interest only balances (£m)1 | 72,651 | 81,558 | ||||||
Of which, impaired (%) | 3.1 | 2.5 | ||||||
Average loan to value (%) | 43.8 | 46.6 | ||||||
Maturity profile (£m)2: | ||||||||
1 year | 2,496 | 1,709 | ||||||
2-5 years | 9,877 | 10,123 | ||||||
6-10 years | 16,990 | 17,084 | ||||||
>11 years | 41,927 | 51,502 | ||||||
Past term interest only balances (£m)3 | 1,361 | 1,140 | ||||||
Of which, impaired (%) | 10.5 | 9.7 | ||||||
Average loan to value (%) | 31.5 | 32.5 | ||||||
Negative equity (%) | 1.4 | 1.8 |
Forborne loans
UK Secured forborne loans and advances reduced by £1,006 million in 2016 to £2,096 million, primarily due to a reduction in recapitalisations with higher levels of historic cases exiting the two year probation period, and a tightening of eligibility criteria during the year. At 31 December 2016, UK Secured loans and advances currently or recently subject to forbearance improved to 0.7 per cent (31 December 2015: 1.0 per cent) of total UK Secured loans and advances.
Overdrafts forborne loans and advances have reduced by £9 million in 2016 to £78 million. At 31 December 2016, Overdrafts loans and advances currently or recently subject to forbearance were 4.0 per cent (31 December 2015: 4.3 per cent) of total overdrafts loans and advances.
Further analysis of the Retail forborne loan balances is set out below:
Table 1.14:UK Retail forborne loans and advances (audited)
Total loans and advances which are forborne | Total forborne loans and advances which are impaired | Impairment provisions as % of loans and advances which are forborne | ||||||||||||||||||||||
At Dec | At Dec | At Dec | At Dec | At Dec | At Dec | |||||||||||||||||||
2016 | 2015 | 2016 | 2015 | 2016 | 2015 | |||||||||||||||||||
£m | £m | £m | £m | % | % | |||||||||||||||||||
UK Secured lending: | ||||||||||||||||||||||||
Temporary forbearance arrangements | ||||||||||||||||||||||||
Reduced payment arrangements1 | 428 | 414 | 101 | 41 | 4.9 | 4.2 | ||||||||||||||||||
Permanent treatments | ||||||||||||||||||||||||
Repair and term extensions2 | 1,668 | 2,688 | 116 | 132 | 4.7 | 4.2 | ||||||||||||||||||
Total | 2,096 | 3,102 | 217 | 173 | 4.7 | 4.2 | ||||||||||||||||||
Overdrafts3 | 78 | 87 | 61 | 63 | 38.0 | 35.0 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The movements in Retail forborne loans and advances during the year are as follows:
Table 1.15:Movement in UK Retail forborne loans and advances (audited)
2016 | 2015 | |||||||||||||||
UK | UK | |||||||||||||||
Secured | Overdrafts | Secured | Overdrafts | |||||||||||||
£m | £m | £m | £m | |||||||||||||
At 1 January | 3,102 | 87 | 4,394 | 89 | ||||||||||||
Classified as forborne during the year | 975 | 50 | 1,290 | 53 | ||||||||||||
Written-off/sold | (12 | ) | (31 | ) | (25 | ) | (26 | ) | ||||||||
Exit from forbearance | (1,741 | ) | (24 | ) | (2,252 | ) | (22 | ) | ||||||||
Redeemed or repaid | (200 | ) | – | (263 | ) | – | ||||||||||
Exchange and other movements | (28 | ) | (4 | ) | (42 | ) | (7 | ) | ||||||||
At 31 December | 2,096 | 78 | 3,102 | 87 |
Commercial Banking
Table 1.16:Commercial Banking impairment charge
2016 | 2015 | Change | ||||||||||
£m | £m | % | ||||||||||
SME | (7 | ) | (22 | ) | (68 | ) | ||||||
Other | 23 | – | ||||||||||
Total impairment charge | 16 | (22 | ) | |||||||||
Asset quality ratio1 | 0.02% | 0.01% | 1bp |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table 1.17:Commercial Banking impaired loans and provisions
Impaired | ||||||||||||||||||||
Loans and | loans as a % | Impairment | ||||||||||||||||||
advances to | Impaired | of closing | Impairment | provisions as a % | ||||||||||||||||
customers | loans | advances | provisions1 | of impaired loans | ||||||||||||||||
£m | £m | % | £m | % | ||||||||||||||||
At 31 December 2016 | ||||||||||||||||||||
SME | 29,959 | 923 | 3.1 | 173 | 18.7 | |||||||||||||||
Other | 71,217 | 1,256 | 1.8 | 651 | 51.8 | |||||||||||||||
Total gross lending | 101,176 | 2,179 | 2.2 | 824 | 37.8 | |||||||||||||||
Impairment provisions | (824 | ) | ||||||||||||||||||
Total | 100,352 | |||||||||||||||||||
At 31 December 20152 | ||||||||||||||||||||
SME | 29,393 | 1,149 | 3.9 | 213 | 18.5 | |||||||||||||||
Other | 73,689 | 1,394 | 1.9 | 878 | 63.0 | |||||||||||||||
Total gross lending | 103,082 | 2,543 | 2.5 | 1,091 | 42.9 | |||||||||||||||
Impairment provisions | (1,091 | ) | ||||||||||||||||||
Total | 101,991 |
SME
Other Commercial Banking
The Global Corporates business continues to have a predominance of UK based, and to a lesser extent, US and European-based multi-national investment grade | |
Through clearly defined sector strategies, Financial Institutions serves predominantly investment grade counterparties with whom relationships are either client driven or held to support the Group’s funding, liquidity or general hedging requirements. Overall performance of the portfolio remains good. | |
The commercial real estate business within the Group’s Mid Markets and Global |
Table P: | Commercial Banking impairment charge |
2019 | 2018¹ | Change | ||||||||||
£m | £m | % | ||||||||||
SME | (65 | ) | 64 | |||||||||
Other | 371 | 7 | ||||||||||
Total impairment charge | 306 | 71 | (331 | ) | ||||||||
Asset quality ratio | 0.30% | 0.06% | 24bp |
Table Q: | Commercial Banking loans and advances to |
Stage 3 | ||||||||||||||||||||
as % of | ||||||||||||||||||||
Total | Stage 1 | Stage 2 | Stage 3 | total | ||||||||||||||||
£m | £m | £m | £m | % | ||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||
SME | 30,698 | 27,455 | 2,523 | 720 | 2.3 | |||||||||||||||
Other | 66,065 | 59,868 | 3,470 | 2,727 | 4.1 | |||||||||||||||
Total gross lending | 96,763 | 87,323 | 5,993 | 3,447 | 3.6 | |||||||||||||||
Expected credit loss allowance on drawn balances | (1,265 | ) | (96 | ) | (228 | ) | (941 | ) | ||||||||||||
Net balance sheet carrying value | 95,498 | 87,227 | 5,765 | 2,506 | ||||||||||||||||
Expected credit loss allowances (drawn and undrawn) as a percentage of gross lending (%) | 1.4 | 0.1 | 4.2 | 27.4 | ||||||||||||||||
At 31 December 20181 | ||||||||||||||||||||
SME | 30,296 | 26,099 | 3,484 | 713 | 2.4 | |||||||||||||||
Other1 | 71,528 | 65,903 | 3,108 | 2,517 | 3.5 | |||||||||||||||
Total gross lending | 101,824 | 92,002 | 6,592 | 3,230 | 3.2 | |||||||||||||||
Expected credit loss allowance on drawn balances | (1,449 | ) | (93 | ) | (325 | ) | (1,031 | ) | ||||||||||||
Net balance sheet carrying value | 100,375 | 91,909 | 6,267 | 2,199 | ||||||||||||||||
Expected credit loss allowances (drawn and undrawn) as a percentage of gross lending (%) | 1.5 | 0.1 | 5.1 | 32.1 |
1 | Prior period segmental comparatives restated. See note 4 on page F-25. |
Table R: | Commercial Banking expected credit loss allowances (drawn and undrawn) as |
Total | Stage 1 | Stage 2 | Stage 3 | |||||||||||||||||||||||||||||
As % of | As % of | As % of | As % of | |||||||||||||||||||||||||||||
drawn | drawn | drawn | drawn | |||||||||||||||||||||||||||||
balances | balances | balances | balances | |||||||||||||||||||||||||||||
£m | % | £m | % | £m | % | £m | % | |||||||||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||||||||||
SME | 273 | 0.9 | 45 | 0.2 | 127 | 5.0 | 101 | 14.0 | ||||||||||||||||||||||||
Other | 1,040 | 1.6 | 70 | 0.1 | 125 | 3.6 | 845 | 31.0 | ||||||||||||||||||||||||
Total | 1,313 | 1.4 | 115 | 0.1 | 252 | 4.2 | 946 | 27.4 | ||||||||||||||||||||||||
At 31 December 20181 | ||||||||||||||||||||||||||||||||
SME | 384 | 1.3 | 40 | 0.2 | 231 | 6.6 | 113 | 15.8 | ||||||||||||||||||||||||
Other | 1,102 | 1.5 | 71 | 0.1 | 107 | 3.4 | 924 | 36.7 | ||||||||||||||||||||||||
Total | 1,486 | 1.5 | 111 | 0.1 | 338 | 5.1 | 1,037 | 32.1 |
1 | Prior period segmental comparatives restated. See note 4 on page F-25. |
65 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table S: | Commercial Banking Stage 2 loans and advances to customers |
Total | Up to date | 1-30 days past due | Over 30 days past due | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
PD movement | Other1 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
As % of | As % of | As % of | As % of | As % of | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Gross | gross | Gross | gross | Gross | gross | Gross | gross | Gross | gross | |||||||||||||||||||||||||||||||||||||||||||||||||||
lending | ECL | lending | lending | ECL | lending | lending | ECL | lending | lending | ECL | lending | lending | ECL | lending | ||||||||||||||||||||||||||||||||||||||||||||||
£m | £m | % | £m | £m | % | £m | £m | % | £m | £m | % | £m | £m | % | ||||||||||||||||||||||||||||||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
SME | 2,523 | 127 | 5.0 | 2,030 | 104 | 5.1 | 410 | 17 | 4.1 | 56 | 6 | 10.7 | 27 | – | – | |||||||||||||||||||||||||||||||||||||||||||||
Other | 3,470 | 125 | 3.6 | 1,881 | 75 | 4.0 | 1,290 | 47 | 3.6 | 61 | 2 | 3.3 | 238 | 1 | 0.4 | |||||||||||||||||||||||||||||||||||||||||||||
Total | 5,993 | 252 | 4.2 | 3,911 | 179 | 4.6 | 1,700 | 64 | 3.8 | 117 | 8 | 6.8 | 265 | 1 | 0.4 | |||||||||||||||||||||||||||||||||||||||||||||
At 31 December 2018 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
SME | 3,484 | 231 | 6.6 | 2,376 | 116 | 4.9 | 661 | 65 | 9.8 | 383 | 41 | 10.7 | 64 | 9 | 14.1 | |||||||||||||||||||||||||||||||||||||||||||||
Other | 3,108 | 107 | 3.4 | 1,793 | 61 | 3.4 | 1,190 | 45 | 3.8 | 72 | 1 | 1.4 | 53 | – | – | |||||||||||||||||||||||||||||||||||||||||||||
Total | 6,592 | 338 | 5.1 | 4,169 | 177 | 4.2 | 1,851 | 110 | 5.9 | 455 | 42 | 9.2 | 117 | 9 | 7.7 |
1 | Includes client-specific indicators not reflected within |
Commercial Banking UK Direct Real Estate LTV analysis
The Group classifies Direct Real Estate as exposure which is directly supported by cash flows from property activities (as opposed to trading activities, such as hotels, care homes and housebuilders). Exposures to social housing providers is also excluded. | |
Focus remains on the UK market, on good quality customers, with a proven track record in | |
Approximately | |
The LTV profile of the UK Direct Real Estate portfolio in Commercial Banking |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table 1.18:LTV – UK Direct Real Estate
At 31 December 20161 | At 31 December 20151 | |||||||||||||||||||||||||||||||
Unimpaired | Impaired | Total | Unimpaired | Impaired | Total | |||||||||||||||||||||||||||
£m | £m | £m | % | £m | £m | £m | % | |||||||||||||||||||||||||
UK exposures >£5m | ||||||||||||||||||||||||||||||||
Less than 60% | 5,721 | 14 | 5,735 | 67.2 | 4,989 | 72 | 5,061 | 63.7 | ||||||||||||||||||||||||
60% to 70% | 1,470 | – | 1,470 | 17.2 | 1,547 | 6 | 1,553 | 19.5 | ||||||||||||||||||||||||
70% to 80% | 506 | 9 | 515 | 6.1 | 610 | 13 | 623 | 7.9 | ||||||||||||||||||||||||
80% to 100% | 20 | 6 | 26 | 0.3 | 75 | 36 | 111 | 1.4 | ||||||||||||||||||||||||
100% to 120% | – | – | – | – | – | 8 | 8 | 0.1 | ||||||||||||||||||||||||
120% to 140% | – | – | – | – | – | – | – | – | ||||||||||||||||||||||||
Greater than 140% | – | 68 | 68 | 0.8 | 5 | 100 | 105 | 1.3 | ||||||||||||||||||||||||
Unsecured2 | 689 | 26 | 715 | 8.4 | 487 | – | 487 | 6.1 | ||||||||||||||||||||||||
8,406 | 123 | 8,529 | 100.0 | 7,713 | 235 | 7,948 | 100.0 | |||||||||||||||||||||||||
UK exposures <£5m3 | 9,563 | 429 | 9,992 | 9,656 | 508 | 10,164 | ||||||||||||||||||||||||||
Total | 17,969 | 552 | 18,521 | 17,369 | 743 | 18,112 |
Table T: | LTV – UK Direct Real |
At 31 December 20191,2 | At 31 December 20181,2 | |||||||||||||||||||||||||||||||
Stage 1/2 | Stage 3 | Total | Stage 1/2 | Stage 3 | Total | |||||||||||||||||||||||||||
£m | £m | £m | % | £m | £m | £m | % | |||||||||||||||||||||||||
Investment Exposures > £1m | ||||||||||||||||||||||||||||||||
Less than 60% | 6,136 | 89 | 6,225 | 79.2 | 8,838 | 101 | 8,939 | 79.8 | ||||||||||||||||||||||||
60% to 70% | 917 | 14 | 931 | 11.8 | 1,190 | 7 | 1,197 | 10.7 | ||||||||||||||||||||||||
70% to 80% | 117 | 7 | 124 | 1.6 | 267 | 41 | 308 | 2.7 | ||||||||||||||||||||||||
80% to 100% | 138 | 38 | 176 | 2.2 | 79 | 11 | 90 | 0.8 | ||||||||||||||||||||||||
100% to 120% | 26 | 37 | 63 | 0.8 | 27 | 25 | 52 | 0.5 | ||||||||||||||||||||||||
120% to 140% | 4 | 12 | 16 | 0.2 | – | 1 | 1 | – | ||||||||||||||||||||||||
Greater than 140% | 18 | 1 | 19 | 0.2 | 18 | 46 | 64 | 0.6 | ||||||||||||||||||||||||
Unsecured3 | 311 | – | 311 | 4.0 | 520 | 31 | 551 | 4.9 | ||||||||||||||||||||||||
Total Investment >£1m | 7,667 | 198 | 7,865 | 100.0 | 10,939 | 263 | 11,202 | 100.0 | ||||||||||||||||||||||||
Investment <£1m4 | 3,455 | 88 | 3,543 | 3,679 | 105 | 3,784 | ||||||||||||||||||||||||||
Total Investment | 11,122 | 286 | 11,408 | 14,618 | 368 | 14,986 | ||||||||||||||||||||||||||
Development | 1,805 | 58 | 1,863 | 1,698 | 111 | 1,809 | ||||||||||||||||||||||||||
Total | 12,927 | 344 | 13,271 | 16,316 | 479 | 16,795 |
1 | Excludes Commercial Banking UK Direct Real Estate exposures subject to protection through Significant Risk Transfer transactions. |
2 | Excludes Islands Commercial UK Direct Real Estate of £0.35 billion (31 December 2018: £0.45 billion). |
3 | Predominantly |
December |
Forborne loans
Commercial Banking forbearance
At 31 December 2016, £2,645 million (31 December 2015: £3,529 million) of total loans and advances were forborne of which £2,179 million (31 December 2015: £2,543 million) were impaired. Impairment provisions as a percentage of forborne loans and advances increased marginally from 30.9 per cent at 31 December 2015 to 31.2 per cent at 31 December 2016.
Table 1.19:Commercial Banking forborne loans and advances (audited)
Impairment provisions as % | ||||||||||||||||
Total loans and advances | of loans and advances which | |||||||||||||||
which are forborne | are forborne | |||||||||||||||
2016 | 20151 | 2016 | 20151 | |||||||||||||
£m | £m | % | % | |||||||||||||
Impaired | 2,179 | 2,543 | 37.8 | 42.9 | ||||||||||||
Unimpaired | 466 | 986 | – | – | ||||||||||||
Total | 2,645 | 3,529 | 31.2 | 30.9 |
All impaired assets are considered forborne.
Impaired loans and advances
The movements in Commercial Banking impaired forborne loans and advances were as follows:
Table 1.20:Movement in Commercial Banking impaired forborne loans and advances (audited)
2016 | 20151 | |||||||
£m | £m | |||||||
At 1 January | 2,543 | 3,241 | ||||||
Classified as impaired during the year: | ||||||||
Exposures >£5m | 547 | 505 | ||||||
Exposures <£5m | 124 | 126 | ||||||
671 | 631 | |||||||
Transferred to unimpaired: | ||||||||
Exposures >£5m but still reported as forborne | – | (15 | ) | |||||
Exposures >£5m no longer reported as forborne | (31 | ) | (20 | ) | ||||
Exposures <£5m | (81 | ) | (111 | ) | ||||
(112 | ) | (146 | ) | |||||
Written-off | (311 | ) | (225 | ) | ||||
Asset disposal/sales of impaired assets | (33 | ) | (48 | ) | ||||
Drawdowns/repayments | (595 | ) | (693 | ) | ||||
Exchange and other movements | 16 | (217 | ) | |||||
At 31 December | 2,179 | 2,543 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
UnimpairedCommercial Banking forbearance
Table U: | Commercial Banking forborne loans and advances (audited) |
Of which | ||||||||
Total | Stage 3 | |||||||
£m | £m | |||||||
At 31 December 2019 | ||||||||
Type of forbearance | ||||||||
Refinancing | 70 | 41 | ||||||
Modification | 4,216 | 3,322 | ||||||
Total | 4,286 | 3,363 | ||||||
At 31 December 2018 | ||||||||
Type of forbearance | ||||||||
Refinancing | 38 | 29 | ||||||
Modification | 3,834 | 2,949 | ||||||
Total | 3,872 | 2,978 |
Table V: | Derivative credit risk exposures |
2019 | 2018 | |||||||||||||||||||||||||||||||
�� | Traded over the counter | Traded over the counter | ||||||||||||||||||||||||||||||
Traded on | Settled | Not settled | Traded on | Settled | Not settled | |||||||||||||||||||||||||||
recognised | by central | by central | recognised | by central | by central | |||||||||||||||||||||||||||
exchanges | counterparties | counterparties | Total | exchanges | counterparties | counterparties | Total | |||||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | £m | £m | |||||||||||||||||||||||||
Notional balances | ||||||||||||||||||||||||||||||||
Foreign exchange | – | 8 | 421,143 | 421,151 | – | 45 | 385,680 | 385,725 | ||||||||||||||||||||||||
Interest rate | 199,986 | 6,211,948 | 250,392 | 6,662,326 | 128,221 | 4,950,912 | 689,882 | 5,769,015 | ||||||||||||||||||||||||
Equity and other | 4,820 | – | 6,594 | 11,414 | 9,247 | – | 5,898 | 15,145 | ||||||||||||||||||||||||
Credit | – | – | 16,959 | 16,959 | – | – | 13,757 | 13,757 | ||||||||||||||||||||||||
Total | 204,806 | 6,211,956 | 695,088 | 7,111,850 | 137,468 | 4,950,957 | 1,095,217 | 6,183,642 | ||||||||||||||||||||||||
Fair values | ||||||||||||||||||||||||||||||||
Assets | 1,820 | 24,499 | 144 | 23,448 | ||||||||||||||||||||||||||||
Liabilities | (1,794 | ) | (23,928 | ) | (150 | ) | (21,222 | ) | ||||||||||||||||||||||||
Net asset | 26 | 571 | (6 | ) | 2,226 |
The total notional principal amount of interest rate, exchange rate, credit derivative and advances
Unimpaired forborne loansequity and advances were £466 millionother contracts outstanding at 31 December 2016 (31 December 2015: £986 million).
The table below sets out the largest unimpaired forborne loans2019 and advances to Commercial Banking customers (exposures over £5 million) as at 31 December 2016 by type2018 is shown in the table above. The notional principal amount does not, however, represent the Group’s credit risk exposure, which is limited to the current cost of forbearance:replacing contracts with a positive value to the Group. Such amounts are reflected in note 53 on page F-99.
Table 1.21:Commercial Banking unimpaired forborne loans and advances1(audited)
31 Dec | 31 Dec | |||||||
2016 | 2015 | |||||||
£m | £m | |||||||
Type of unimpaired forbearance: | ||||||||
Exposures >£5m | ||||||||
Covenants | 153 | 310 | ||||||
Extensions/alterations | 7 | 350 | ||||||
Multiple | 21 | 9 | ||||||
181 | 669 | |||||||
Exposures <£5m | 285 | 317 | ||||||
Total | 466 | 986 |
Table 1.22:Movement in Commercial Banking unimpaired forborne loans and advances >£5m1(audited)
2016 | 2015 | |||||||
£m | £m | |||||||
At 1 January | 669 | 1,450 | ||||||
Classified as impaired during the year | (63 | ) | (141 | ) | ||||
Cured no longer forborne | (413 | ) | (655 | ) | ||||
Classified as forborne during the year | 88 | 156 | ||||||
Transferred from impaired but still reported as forborne1 | – | 15 | ||||||
Asset disposal/sales | – | – | ||||||
Net drawdowns/repayments | (100 | ) | (153 | ) | ||||
Exchange and other movements | – | (3 | ) | |||||
At 31 December | 181 | 669 |
Consumer Finance
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table 1.23:Consumer Finance impairment charge
2016 | 2015 | Change | ||||||||||
£m | £m | % | ||||||||||
Credit Cards | 136 | 129 | (5 | ) | ||||||||
Loans | 70 | 83 | 16 | |||||||||
UK Motor Finance | 75 | 22 | ||||||||||
Europe | 1 | 1 | – | |||||||||
282 | 235 | (20 | ) | |||||||||
Asset quality ratio | 0.83% | 0.77% | 6bp |
Table 1.24:Consumer Finance impaired loans and provisions
Impairment | ||||||||||||||||||||
Impaired | provisions | |||||||||||||||||||
Loans and | loans as a | as a % of | ||||||||||||||||||
advances to | Impaired | % of closing | Impairment | impaired | ||||||||||||||||
customers | loans | advances | provisions1 | loans2 | ||||||||||||||||
£m | £m | % | £m | % | ||||||||||||||||
At 31 December 2016 | ||||||||||||||||||||
Credit cards | 9,843 | 307 | 3.1 | 157 | 81.8 | |||||||||||||||
Loans | 7,767 | 277 | 3.6 | 92 | 81.4 | |||||||||||||||
UK Motor Finance | 11,555 | 120 | 1.0 | 127 | 105.8 | |||||||||||||||
Europe | 6,329 | 41 | 0.6 | 20 | 48.8 | |||||||||||||||
Total gross lending | 35,494 | 745 | 2.1 | 396 | 85.0 | |||||||||||||||
Impairment provisions | (396 | ) | ||||||||||||||||||
Fair value adjustments | – | |||||||||||||||||||
Total | 35,098 | |||||||||||||||||||
At 31 December 20153 | ||||||||||||||||||||
Credit cards | 9,425 | 366 | 3.9 | 153 | 81.8 | |||||||||||||||
Loans | 7,889 | 367 | 4.7 | 102 | 83.6 | |||||||||||||||
UK Motor Finance | 9,582 | 134 | 1.4 | 90 | 67.2 | |||||||||||||||
Europe | 4,931 | 43 | 0.9 | 22 | 51.2 | |||||||||||||||
Total gross lending | 31,827 | 910 | 2.9 | 367 | 75.5 | |||||||||||||||
Impairment provisions | (367 | ) | ||||||||||||||||||
Fair value adjustments | (9 | ) | ||||||||||||||||||
Total | 31,451 |
Forborne loans
At 31 December 2016, total loans and advances currently or recently subject to forbearance as a percentage of total loans and advances had reduced across the major Consumer Finance portfolios with decreases in Consumer Credit Cards and Loans offset by an increase in UK Motor Finance. (31 December 2016: 1.4 per cent; 31 December 2015: 1.6 per cent).
Table 1.25:Consumer Finance forborne loans and advances (audited)
Impairment provisions | ||||||||||||||||||||||||
Total loans and advances | Total forborne loans and | as % of loans and advances | ||||||||||||||||||||||
which are forborne | advances which are impaired | which are forborne | ||||||||||||||||||||||
31 Dec | 31 Dec | 31 Dec | 31 Dec | 31 Dec | 31 Dec | |||||||||||||||||||
2016 | 2015 | 2016 | 2015 | 2016 | 2015 | |||||||||||||||||||
£m | £m | £m | £m | % | % | |||||||||||||||||||
Consumer Credit Cards1 | 212 | 225 | 119 | 120 | 29.0 | 26.8 | ||||||||||||||||||
Loans2 | 49 | 60 | 46 | 56 | 44.4 | 47.2 | ||||||||||||||||||
UK Motor Finance Retail2 | 117 | 100 | 62 | 51 | 27.0 | 25.5 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The movements in forborne loans and advances during the year were:
Table 1.26:Movement in Consumer Finance forborne loans and advances (audited)
2016 | 2015 | |||||||||||||||||||||||
Consumer credit | UK Motor | Consumer | UK Motor Finance | |||||||||||||||||||||
cards | Loans | Finance Retail | credit cards | Loans | Retail | |||||||||||||||||||
£m | £m | £m | £m | £m | £m | |||||||||||||||||||
At 1 January | 225 | 60 | 100 | 234 | 73 | 109 | ||||||||||||||||||
Classified as forborne during the year | 110 | 34 | 82 | 108 | 16 | 61 | ||||||||||||||||||
Written off/sold | (46 | ) | (24 | ) | (16 | ) | (48 | ) | (29 | ) | (15 | ) | ||||||||||||
Exit from forbearance | (43 | ) | (4 | ) | (22 | ) | (36 | ) | (4 | ) | (21 | ) | ||||||||||||
Redeemed or repaid | (9 | ) | (6 | ) | (16 | ) | (9 | ) | (6 | ) | (19 | ) | ||||||||||||
Exchange and other movements | (25 | ) | (11 | ) | (11 | ) | (24 | ) | 10 | (15 | ) | |||||||||||||
At 31 December | 212 | 49 | 117 | 225 | 60 | 100 |
Run-off
Table 1.27:Run-off impairment charge
2016 | 2015 | Change | ||||||||||
£m | £m | % | ||||||||||
Ireland retail | (1 | ) | (5 | ) | (80 | ) | ||||||
Ireland corporate and commercial real estate | (13 | ) | 72 | |||||||||
Corporate real estate and other corporate | 1 | 21 | 95 | |||||||||
Specialist finance | (2 | ) | (45 | ) | (96 | ) | ||||||
Other | (11 | ) | (35 | ) | (69 | ) | ||||||
Total | (26 | ) | 8 | |||||||||
Asset quality ratio1 | (0.15% | ) | 0.20% | (35)bp |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table 1.28:Run-off impaired loans and provisions
Impairment | ||||||||||||||||||||
Loans and | Impaired | provisions as a | ||||||||||||||||||
advances to | Impaired | loans as a % of | Impairment | % of impaired | ||||||||||||||||
customers | loans | closing advances | provisions | loans | ||||||||||||||||
£m | £m | % | £m | % | ||||||||||||||||
At 31 December 2016 | ||||||||||||||||||||
Ireland retail | 4,497 | 138 | 3.1 | 133 | 96.4 | |||||||||||||||
Ireland corporate | 1 | 1 | 100.0 | – | – | |||||||||||||||
Corporate real estate and other corporate | 1,190 | 896 | 75.3 | 399 | 44.5 | |||||||||||||||
Specialist finance | 3,374 | 99 | 2.9 | 111 | 112.1 | |||||||||||||||
Other | 1,197 | 83 | 6.9 | 39 | 47.0 | |||||||||||||||
Total gross lending | 10,259 | 1,217 | 11.9 | 682 | 56.0 | |||||||||||||||
Impairment provisions | (682 | ) | ||||||||||||||||||
Total | 9,577 | |||||||||||||||||||
At 31 December 2015 | ||||||||||||||||||||
Ireland retail | 4,040 | 132 | 3.3 | 120 | 90.9 | |||||||||||||||
Ireland corporate | 29 | – | – | |||||||||||||||||
Ireland commercial real estate | 8 | 5 | 62.5 | – | ||||||||||||||||
Corporate real estate and other corporate | 1,873 | 1,410 | 75.3 | 745 | 52.8 | |||||||||||||||
Specialist finance | 4,190 | 361 | 8.6 | 189 | 52.4 | |||||||||||||||
Other | 1,282 | 117 | 9.1 | 96 | 82.1 | |||||||||||||||
Total gross lending | 11,422 | 2,025 | 17.7 | 1,150 | 56.8 | |||||||||||||||
Impairment provisions | (1,150 | ) | ||||||||||||||||||
Total | 10,272 |
Forborne loans
Run-off Ireland retail lending
At 31 December 2016, £156 million or 3.5 per cent (31 December 2015: £169 million or 4.2 per cent) of Irish retail secured loans and advances were subject to current or recent forbearance. Of this amount, £19 million (31 December 2015: £26 million) were impaired.
Run-off Corporate real estate, other corporate and Specialist Finance
At 31 December 2016 £998 million (31 December 2015 £1,780 million) of total loans and advances were forborne of which £995 million (31 December 2015: £1,771 million) were impaired. Impairment provisions as a percentage of forborne loans and advances decreased from 52.5 per cent at 31 December 2015 to 51.1 per cent at 31 December 2016.
Unimpaired forborne loans and advances were £3 million at 31 December 2016 (31 December 2015: £9 million).
Impaired loans and advances
The movements in Run-off corporate real estate, other corporate and Specialist Finance impaired forborne loans and advances were as follows:
Table 1.29:Movement in Run-off corporate real estate, other corporate and Specialist Finance impaired forborne loans and advances (audited)
2016 | 2015 | |||||||
£m | £m | |||||||
At 1 January | 1,771 | 1,912 | ||||||
Classified as impaired during the year: | ||||||||
Exposures >£5m | 20 | 414 | ||||||
Exposures <£5m | 19 | 11 | ||||||
39 | 425 | |||||||
Transferred to unimpaired: | ||||||||
Exposures >£5m but still reported as forborne during the year | – | (13 | ) | |||||
Exposures <£5m | (8 | ) | (11 | ) | ||||
(8 | ) | (24 | ) | |||||
Write offs | (478 | ) | (238 | ) | ||||
Asset disposal/sales of impaired assets | (405 | ) | (763 | ) | ||||
Drawdowns/repayments | (24 | ) | (19 | ) | ||||
Exchange and other movements | 100 | 478 | ||||||
At 31 December | 995 | 1,771 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Eurozone exposures
The following section summarises the Group’s direct exposure to Eurozone countries at 31 December 2016. The exposures comprise on balance sheet exposures based on their balance sheet carrying values net of provisions and off balance sheet exposures, and are based on the country of domicile of the counterparty unless otherwise indicated.
The Group manages its exposures to individual countries through authorised country limits which take into account economic, financial, political and social factors. In addition, the Group manages its direct risks to the selected countries by establishing and monitoring risk limits for individual banks, financial institutions, corporates and individuals.
Identified indirect exposure information, where available is also taken into account when setting limits and determining credit risk appetite for individual counterparties. This forms part of the Group’s credit analysis undertaken at least annually for counterparty and sector reviews, with interim updates performed as necessary. Interim updates would usually be triggered by specific credit events such as rating downgrades, sovereign events or other developments such as spread widening. Examples of indirect risk which have been identified, where information is available, are: European Banking groups with lending and other exposures to certain Eurozone Countries; corporate customers with operations or significant trade in certain European jurisdictions; major travel operators known to operate in certain Eurozone Countries; and international banks with custodian operations based in certain European locations.
The Group Financial Stability Forum (GFSF) monitors developments within the Eurozone, carries out stress testing through detailed scenario analysis and completes appropriate due diligence on the Group’s exposures. The Group has pre-determined action plans that would be executed in certain scenarios which set out governance requirements and responsibilities for the key actions which would be carried out and cover risk areas such as payments, liquidity and capital, communications, suppliers and systems, legal, credit, delivery channels and products, employees and the impact on customers.
Derivative balances are included within exposures to financial institutions or corporates, as appropriate, at fair value adjusted for master netting agreements at obligor level and net of cash collateral in line with legal agreements. Exposures in respect of reverse repurchase agreements are included on a gross IFRS basis and are disclosed based on the counterparty rather than the collateral (repos and stock lending are excluded); reverse repurchase exposures are not, therefore, reduced as a result of collateral held. Exposures to central clearing counterparties are shown net.
For multi-country asset backed securities exposures, the Group has reported exposures based on the largest country exposure. The country of exposure for asset backed securities is based on the location of the underlying assets which are predominantly residential mortgages not on the domicile of the issuer.
For Insurance, the Group has reported shareholder exposures i.e. where the Group is directly exposed to risk of loss. These shareholder exposures relate to direct investments where the issuer is resident in the named Eurozone country and the credit rating is consistent with the tight credit criteria defined under the appropriate investment mandate. Insurance also has interests in funds domiciled in Ireland and Luxembourg where, in line with the investment mandates, cash is invested in short term financial instruments. For these funds, the exposure is analysed on a look through basis to the country of risk of the obligors of the underlying assets rather than treating as exposure to country of domicile of the fund.
Exposures to selected Eurozone countries
The Group continues to have minimal exposure, in aggregate, which could be considered to be direct recourse to the sovereign risk of the selected countries.
Table 1.30:Selected Eurozone exposures
Sovereign debt | Financial institutions | |||||||||||||||||||||||||||||||||||
Direct | Cash at | Asset | ||||||||||||||||||||||||||||||||||
sovereign | central | backed | Insurance | |||||||||||||||||||||||||||||||||
exposures | banks | Banks | Other1 | securities | Corporate | Personal2 | assets1 | Total | ||||||||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | £m | £m | £m | ||||||||||||||||||||||||||||
At 31 December 2016 | ||||||||||||||||||||||||||||||||||||
Ireland | – | – | 215 | 512 | 91 | 929 | 4,363 | – | 6,110 | |||||||||||||||||||||||||||
Spain | 23 | – | 76 | 126 | – | 630 | 41 | 19 | 915 | |||||||||||||||||||||||||||
Portugal | – | – | 7 | – | – | 22 | 7 | – | 36 | |||||||||||||||||||||||||||
Italy | – | – | 38 | – | – | 59 | – | 67 | 164 | |||||||||||||||||||||||||||
Greece | – | – | – | – | – | – | – | – | – | |||||||||||||||||||||||||||
23 | – | 336 | 638 | 91 | 1,640 | 4,411 | 86 | 7,225 | ||||||||||||||||||||||||||||
At 31 December 2015 | ||||||||||||||||||||||||||||||||||||
Ireland | – | – | 748 | 445 | 87 | 731 | 3,921 | – | 5,932 | |||||||||||||||||||||||||||
Spain | – | – | 77 | 102 | – | 870 | 39 | 9 | 1,097 | |||||||||||||||||||||||||||
Portugal | – | – | 7 | – | – | 86 | 6 | – | 99 | |||||||||||||||||||||||||||
Italy | – | – | 32 | – | – | 51 | – | 73 | 156 | |||||||||||||||||||||||||||
Greece | – | – | – | – | – | 1 | – | – | 1 | |||||||||||||||||||||||||||
– | – | 864 | 547 | 87 | 1,739 | 3,966 | 82 | 7,285 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
In addition to the exposures detailed above, the Group has exposures in the following Eurozone countries:
Table 1.31:Other Eurozone exposures
Sovereign debt | Financial institutions | ||||||||||||||||||||||||||||||||||
Direct | Cash at | Asset | |||||||||||||||||||||||||||||||||
sovereign | central | backed | Insurance | ||||||||||||||||||||||||||||||||
exposures | banks | Banks | Other1 | securities | Corporate | Personal | assets | Total | |||||||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | £m | £m | £m | |||||||||||||||||||||||||||
At 31 December 2016 | |||||||||||||||||||||||||||||||||||
Netherlands | – | 8,795 | 343 | 324 | 50 | 1,610 | 6,315 | 423 | 17,860 | ||||||||||||||||||||||||||
France | – | – | 1,907 | 620 | 41 | 2,648 | 96 | 851 | 6,163 | ||||||||||||||||||||||||||
Germany | 1,543 | 93 | 538 | 31 | 224 | 1,598 | 443 | 477 | 4,947 | ||||||||||||||||||||||||||
Luxembourg | 7 | – | 306 | 1,484 | 619 | 923 | – | – | 3,339 | ||||||||||||||||||||||||||
Belgium | 35 | – | 1,009 | 300 | – | 114 | – | 49 | 1,507 | ||||||||||||||||||||||||||
All other Eurozone countries | 38 | – | 95 | – | – | 354 | – | 62 | 549 | ||||||||||||||||||||||||||
1,623 | 8,888 | 4,198 | 2,759 | 934 | 7,247 | 6,854 | 1,862 | 34,365 | |||||||||||||||||||||||||||
At 31 December 2015 | |||||||||||||||||||||||||||||||||||
Netherlands | 281 | 11,515 | 328 | 164 | 37 | 1,275 | 4,863 | 428 | 18,891 | ||||||||||||||||||||||||||
France | 173 | – | 1,809 | 216 | 98 | 1,953 | 64 | 953 | 5,266 | ||||||||||||||||||||||||||
Germany | 151 | 97 | 888 | 21 | 66 | 1,924 | 177 | 573 | 3,897 | ||||||||||||||||||||||||||
Luxembourg | – | – | 74 | 1,178 | 618 | 1,614 | – | 36 | 3,520 | ||||||||||||||||||||||||||
Belgium | 20 | – | 830 | 1 | – | 298 | – | 51 | 1,200 | ||||||||||||||||||||||||||
All other Eurozone countries | 15 | – | 403 | – | – | 342 | – | 80 | 840 | ||||||||||||||||||||||||||
640 | 11,612 | 4,332 | 1,580 | 819 | 7,406 | 5,104 | 2,121 | 33,614 |
Environmental risk management
TheAs appropriate, the Group ensures appropriateconsiders the management of the environmental impact of its lending activities. The Group-wide credit risk principles require all credit risk to be incurred with due regard to environmental legislation and the Group’s Code of Business Responsibility. The Group’s external sector statements determine the appetite for many activities that impact the environment. The Group seeks to reduce detrimental impacts and support clients as they improve their own environmental footprint.
The Group’s business areas and sub-groups are each exposed to different types and levels of climate-related risk in their operations. For example, the general insurance function regularly uses weather, climate and environmental models and data to assess its insurance risk from covered perils such as windstorm and flood. A team of specialist scientists are employed within underwriting to do this work and they also regularly monitor the state of climate science to assess the need to include its potential impacts within pricing and solvency.
The Group has been a signatory to the Equator Principles since 2008 and has adopted and applied the expanded scope of Equator Principles III and committed itself to adoption of Equator Principles 4 during 2020. The Equator Principles support the Group’s approach to assessing and managing environmental and social issues in project finance, project-related corporate loans and bridge loans. The Group has also been a signatory to the UN Principles for Responsible Investment (UNPRI) since 2012, which incorporate ESG (environmental, social and governance) risk considerations in asset management. Scottish Widows is responsible for the annual UNPRI reporting process.
Within Commercial Banking, an electronic environmental risk screening system has beenEnvironmental Risk Screening Tool is the primary mechanism for assessing environmental risk infor lending transactions. This system provides screening of location specific and sector based risks that may be present in a transaction. IdentifiedWhere a risk results inis identified, the transaction is referred to the Group’s expert in-house environmental risk team for further review and assessment, as outlined below.assessment. Where required, the Group’s panel of environmental consultants provide additional expert support.
The Group provides colleagueColleague training inis provided on environmental risk management as part of the standard suite of Commercial Banking credit risk courses. SupportingTo support this training, a range of online resource isresources are available to colleagues, and includesincluding environmental risk theory, procedural guidance, and information on environmental legislation and sector-specific environmental impacts.
The Group has been a signatoryalso continue to partner with the Equator Principles since 2006Cambridge Institute for Sustainability Leadership to provide high quality training to executives and has adoptedcolleagues focused on risk management, product development and applied the expanded scope of Equator Principles III. The Equator Principles support the Group’s approach to assessing and managing environmental and social issues in Project Finance, Project-Related Corporate loans and Bridge loans.client-facing roles.
Table 1.32:W:Environmental risk management approach
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
In the following tables, where lending and the related impairment allowances are analysed between domestic and international, the classification as domestic or international is based on the location of the office recording the transaction, except for certain lending of the international business booked in London including the Group’s lending in Ireland which, following the merger of Bank of Scotland (Ireland) Limited into Bank of Scotland plc, is held on the balance sheet of Bank of Scotland plc in the UK but is reported as international.
ANALYSIS OF LOANS AND ADVANCES TO BANKS AND CUSTOMERS
The following table analyses loans and advances to banks and customers by category of loan at 31 December for each of the five years listed.
2016 | 2015 | 2014 | 2013 | 2012 | ||||||||||||||||||||||||||||||||||||
£m | £m | £m | £m | £m | 2019 £m | 2018 £m | 2017 £m | 2016 £m | 2015 £m | |||||||||||||||||||||||||||||||
Loans and advances to banks | 26,902 | 25,117 | 26,155 | 25,365 | 32,760 | 9,777 | 6,285 | 6,611 | 26,902 | 25,117 | ||||||||||||||||||||||||||||||
Loans and advances to customers: | ||||||||||||||||||||||||||||||||||||||||
Mortgages | 306,682 | 312,877 | 333,318 | 335,611 | 337,879 | 299,141 | 297,498 | 304,665 | 306,682 | 312,877 | ||||||||||||||||||||||||||||||
Other personal lending | 20,761 | 20,579 | 23,123 | 23,230 | 28,334 | 29,272 | 28,699 | 28,757 | 20,761 | 20,579 | ||||||||||||||||||||||||||||||
Agriculture, forestry and fishing | 7,269 | 6,924 | 6,586 | 6,051 | 5,531 | 7,558 | 7,314 | 7,461 | 7,269 | 6,924 | ||||||||||||||||||||||||||||||
Energy and water supply | 2,320 | 3,247 | 3,853 | 4,414 | 3,321 | 1,432 | 1,517 | 1,609 | 2,320 | 3,247 | ||||||||||||||||||||||||||||||
Manufacturing | 7,285 | 5,953 | 6,000 | 7,650 | 8,530 | 6,093 | 8,260 | 7,886 | 7,285 | 5,953 | ||||||||||||||||||||||||||||||
Construction | 4,535 | 4,952 | 6,425 | 7,024 | 7,526 | 4,285 | 4,684 | 4,428 | 4,535 | 4,952 | ||||||||||||||||||||||||||||||
Transport, distribution and hotels | 13,320 | 13,526 | 15,112 | 22,294 | 26,568 | 13,016 | 14,113 | 14,074 | 13,320 | 13,526 | ||||||||||||||||||||||||||||||
Postal and telecommunications | 2,564 | 2,563 | 2,624 | 2,364 | 1,397 | 1,923 | 2,711 | 2,148 | 2,564 | 2,563 | ||||||||||||||||||||||||||||||
Financial, business and other services | 49,197 | 43,072 | 44,979 | 42,478 | 48,729 | 89,763 | 77,505 | 57,006 | 49,197 | 43,072 | ||||||||||||||||||||||||||||||
Property companies | 32,192 | 32,228 | 36,682 | 44,277 | 52,388 | 27,596 | 28,451 | 30,980 | 32,192 | 32,228 | ||||||||||||||||||||||||||||||
Lease financing | 2,628 | 2,751 | 3,013 | 4,435 | 6,477 | 1,671 | 1,822 | 2,094 | 2,628 | 2,751 | ||||||||||||||||||||||||||||||
Hire purchase | 11,617 | 9,536 | 7,403 | 5,090 | 5,334 | 16,497 | 15,434 | 13,591 | 11,617 | 9,536 | ||||||||||||||||||||||||||||||
Total loans | 487,272 | 483,325 | 515,273 | 530,283 | 564,774 | 508,024 | 494,293 | 481,310 | 487,272 | 483,325 | ||||||||||||||||||||||||||||||
Allowance for impairment losses | (2,412 | ) | (3,033 | ) | (6,414 | ) | (11,966 | ) | (15,253 | ) | ||||||||||||||||||||||||||||||
Allowance for impairment losses1 | (3,261 | ) | (3,152 | ) | (2,201 | ) | (2,412 | ) | (3,033 | ) | ||||||||||||||||||||||||||||||
Total loans and advances net of allowance for impairment losses | 484,860 | 480,292 | 508,859 | 518,317 | 549,521 | 504,763 | 491,141 | 479,109 | 484,860 | 480,292 |
1 | The allowances for loan losses at 31 December 2019 and 2018 were measured in accordance with IFRS 9; for earlier years, they were determined in accordance with IAS 39. |
Following the reduction in the Group’s non-UK activities, an analysis between domestic and foreign operations is not provided for 2013 or later years. The analysis of loans and advances at 31 December 2012 between domestic and international offices is as follows:provided.
Domestic | International | Total | ||||||||||
£m | £m | £m | ||||||||||
Loans and advances to banks | 32,073 | 687 | 32,760 | |||||||||
Loans and advances to customers: | ||||||||||||
Mortgages | 322,687 | 15,192 | 337,879 | |||||||||
Other personal lending | 26,119 | 2,215 | 28,334 | |||||||||
Agriculture, forestry and fishing | 5,482 | 49 | 5,531 | |||||||||
Energy and water supply | 1,773 | 1,548 | 3,321 | |||||||||
Manufacturing | 7,246 | 1,284 | 8,530 | |||||||||
Construction | 6,481 | 1,045 | 7,526 | |||||||||
Transport, distribution and hotels | 22,205 | 4,363 | 26,568 | |||||||||
Postal and telecommunications | 1,239 | 158 | 1,397 | |||||||||
Financial, business and other services | 44,155 | 4,574 | 48,729 | |||||||||
Property companies | 43,683 | 8,705 | 52,388 | |||||||||
Lease financing | 5,306 | 1,171 | 6,477 | |||||||||
Hire purchase | 4,970 | 364 | 5,334 | |||||||||
Total loans | 523,419 | 41,355 | 564,774 | |||||||||
Allowance for impairment losses | (7,076 | ) | (8,177 | ) | (15,253 | ) | ||||||
Total loans and advances net of allowance for impairment losses | 516,343 | 33,178 | 549,521 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
SUMMARY OF LOAN LOSS EXPERIENCE
The following table analyses the movements in the allowance for impairment losses on loans and advances to banks and customers (drawn balances) for each of the five years listed. Allowances for loan losses in 2018 and 2019 were measured in accordance with IFRS 9; for earlier years they were determined in accordance with IAS 39.
2016 | 2015 | 2014 | 2013 | 2012 | 2019 £m | 2018 £m | 2017 £m | 2016 £m | 2015 £m | |||||||||||||||||||||||||||||||
£m | £m | £m | £m | £m | ||||||||||||||||||||||||||||||||||||
Balance at beginning of year | 3,033 | 6,414 | 11,966 | 15,253 | 18,746 | |||||||||||||||||||||||||||||||||||
Balance at end of preceding year | 3,152 | 2,201 | 2,412 | 3,033 | 6,414 | |||||||||||||||||||||||||||||||||||
Adjustment on adoption of IFRS 9 | 1,023 | |||||||||||||||||||||||||||||||||||||||
Balance at 1 January 2018 | 3,224 | |||||||||||||||||||||||||||||||||||||||
Exchange and other adjustments | 69 | (246 | ) | (410 | ) | 291 | (380 | ) | 312 | 126 | 132 | 69 | (246 | ) | ||||||||||||||||||||||||||
Disposal of businesses | – | (82 | ) | – | (176 | ) | – | – | (181 | ) | – | – | (82 | ) | ||||||||||||||||||||||||||
Advances written off: | ||||||||||||||||||||||||||||||||||||||||
Loans and advances to customers: | ||||||||||||||||||||||||||||||||||||||||
Mortgages | (42 | ) | (71 | ) | (87 | ) | (601 | ) | (133 | ) | (99 | ) | (12 | ) | (42 | ) | (42 | ) | (71 | ) | ||||||||||||||||||||
Other personal lending | (728 | ) | (853 | ) | (1,329 | ) | (1,437 | ) | (2,267 | ) | (1,111 | ) | (988 | ) | (925 | ) | (728 | ) | (853 | ) | ||||||||||||||||||||
Agriculture, forestry and fishing | (1 | ) | (1 | ) | (8 | ) | (11 | ) | (45 | ) | (5 | ) | (4 | ) | (1 | ) | (1 | ) | (1 | ) | ||||||||||||||||||||
Energy and water supply | (9 | ) | (73 | ) | – | (102 | ) | (77 | ) | (1 | ) | – | – | (9 | ) | (73 | ) | |||||||||||||||||||||||
Manufacturing | (19 | ) | (126 | ) | (59 | ) | (130 | ) | (226 | ) | (11 | ) | (11 | ) | (40 | ) | (19 | ) | (126 | ) | ||||||||||||||||||||
Construction | (96 | ) | (21 | ) | (157 | ) | (84 | ) | (654 | ) | (226 | ) | (82 | ) | (65 | ) | (96 | ) | (21 | ) | ||||||||||||||||||||
Transport, distribution and hotels | (64 | ) | (728 | ) | (1,119 | ) | (798 | ) | (458 | ) | (51 | ) | (42 | ) | (65 | ) | (64 | ) | (728 | ) | ||||||||||||||||||||
Postal and telecommunications | (189 | ) | (11 | ) | – | (14 | ) | (7 | ) | (6 | ) | (2 | ) | – | (189 | ) | (11 | ) | ||||||||||||||||||||||
Financial, business and other services | (712 | ) | (604 | ) | (946 | ) | (1,030 | ) | (1,071 | ) | (149 | ) | (244 | ) | (158 | ) | (712 | ) | (604 | ) | ||||||||||||||||||||
Property companies | (215 | ) | (1,648 | ) | (2,669 | ) | (1,891 | ) | (3,554 | ) | (139 | ) | (134 | ) | (136 | ) | (215 | ) | (1,648 | ) | ||||||||||||||||||||
Lease financing | – | (31 | ) | (4 | ) | (10 | ) | (75 | ) | – | – | (2 | ) | – | (31 | ) | ||||||||||||||||||||||||
Hire purchase | (36 | ) | (37 | ) | (54 | ) | (121 | ) | (130 | ) | (84 | ) | (57 | ) | (65 | ) | (36 | ) | (37 | ) | ||||||||||||||||||||
Loans and advances to banks | – | – | – | (3 | ) | (10 | ) | – | – | – | – | – | ||||||||||||||||||||||||||||
Total advances written off | (2,111 | ) | (4,204 | ) | (6,432 | ) | (6,232 | ) | (8,707 | ) | (1,882 | ) | (1,576 | ) | (1,499 | ) | (2,111 | ) | (4,204 | ) | ||||||||||||||||||||
Recoveries of advances written off: | ||||||||||||||||||||||||||||||||||||||||
Loans and advances to customers: | ||||||||||||||||||||||||||||||||||||||||
Mortgages | 44 | 35 | 18 | 28 | 53 | 62 | 20 | 17 | 44 | 35 | ||||||||||||||||||||||||||||||
Other personal lending | 329 | 366 | 600 | 408 | 757 | 343 | 333 | 419 | 329 | 366 | ||||||||||||||||||||||||||||||
Energy and water supply | 3 | 5 | – | – | – | – | 84 | – | 3 | 5 | ||||||||||||||||||||||||||||||
Manufacturing | 80 | – | – | – | – | 10 | 10 | – | 80 | – | ||||||||||||||||||||||||||||||
Construction | 78 | – | – | – | – | 2 | 65 | 4 | 78 | – | ||||||||||||||||||||||||||||||
Transport, distribution and hotels | 50 | 63 | – | – | 1 | 2 | 9 | 15 | 50 | 63 | ||||||||||||||||||||||||||||||
Postal and telecommunications | – | 1 | – | – | – | |||||||||||||||||||||||||||||||||||
Financial, business and other services | 241 | 193 | – | – | – | 2 | 42 | 6 | 241 | 193 | ||||||||||||||||||||||||||||||
Property companies | 34 | 101 | – | – | 4 | 1 | 16 | – | 34 | 101 | ||||||||||||||||||||||||||||||
Lease financing | – | – | – | – | 2 | – | – | 19 | – | – | ||||||||||||||||||||||||||||||
Hire purchase | 2 | 1 | 63 | 20 | 26 | 3 | – | 2 | 2 | 1 | ||||||||||||||||||||||||||||||
Total recoveries of advances written off | 861 | 764 | 681 | 456 | 843 | 425 | 580 | 482 | 861 | 764 | ||||||||||||||||||||||||||||||
Total net advances written off | (1,250 | ) | (3,440 | ) | (5,751 | ) | (5,776 | ) | (7,864 | ) | (1,457 | ) | (996 | ) | (1,017 | ) | (1,250 | ) | (3,440 | ) |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
2016 | 2015 | 2014 | 2013 | 2012 | ||||||||||||||||
£m | £m | £m | £m | £m | ||||||||||||||||
Effect of unwinding of discount recognised through interest income | (32 | ) | (56 | ) | (126 | ) | (351 | ) | (374 | ) | ||||||||||
Allowances for impairment losses charged against income for the year: | ||||||||||||||||||||
Loans and advances to customers: | ||||||||||||||||||||
Mortgages | (23 | ) | 33 | (138 | ) | 224 | 278 | |||||||||||||
Other personal lending | 438 | 437 | 536 | 920 | 881 | |||||||||||||||
Agriculture, forestry and fishing | 3 | 1 | 2 | – | 54 | |||||||||||||||
Energy and water supply | (4 | ) | 35 | 28 | 95 | 71 | ||||||||||||||
Manufacturing | (48 | ) | 23 | (4 | ) | 31 | 236 | |||||||||||||
Construction | 143 | 13 | (81 | ) | 66 | 326 | ||||||||||||||
Transport, distribution and hotels | (35 | ) | (88 | ) | 198 | 421 | 649 | |||||||||||||
Postal and telecommunications | 191 | (2 | ) | 6 | (3 | ) | 8 | |||||||||||||
Financial, business and other services | 6 | 77 | 179 | 552 | 824 | |||||||||||||||
Property companies | (166 | ) | (140 | ) | 40 | 457 | 1,725 | |||||||||||||
Lease financing | 15 | 31 | (1 | ) | (26 | ) | 26 | |||||||||||||
Hire purchase | 72 | 23 | (30 | ) | (12 | ) | 47 | |||||||||||||
Loans and advances to banks | – | – | – | – | – | |||||||||||||||
Total allowances for impairment losses charged against income for the year | 592 | 443 | 735 | 2,725 | 5,125 | |||||||||||||||
Total balance at end of year | 2,412 | 3,033 | 6,414 | 11,966 | 15,253 | |||||||||||||||
Ratio of net write-offs during the year to average loans outstanding during the year | 0.3% | 0.8% | 1.1% | 1.1% | 1.4% |
The Group’s impairment allowances in respect of loans and advances to banks and customers decreased by £621 million, or 20 per cent, from £3,033 million at 31 December 2015 to £2,412 million at 31 December 2016. This decrease resulted from a charge to the income statement of £592 million being more than offset by net advances written off of £1,250 million (advances written off of £2,111 million less recoveries £861 million). The increase in the charge to the income statement of £149 million, or 34 per cent, from £443 million in 2015 to £592 million in 2016 reflects lower levels of releases and write-backs rather than an underlying deterioration in credit quality. By category of lending, the most significant elements of the charge to the income statement were charges of £438 million in respect of other personal lending, £143 million in respect of construction and £191 million in respect of postal and telecommunications together with a credit of £166 million in respect of property companies. Of the net advances written off of £1,250 million, £399 million related to other personal lending, £471 million related to financial, business and other services and £181 million to property companies.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
2019 £m | 2018 £m | 2017 £m | 2016 £m | 2015 £m | ||||||||||||||||
Effect of unwinding of discount recognised through interest income | (53 | ) | (44 | ) | (23 | ) | (32 | ) | (56 | ) | ||||||||||
Allowances for impairment losses charged against income for the year: | ||||||||||||||||||||
Loans and advances to customers: | ||||||||||||||||||||
Mortgages | (167 | ) | 29 | (119 | ) | (23 | ) | 33 | ||||||||||||
Other personal lending | 948 | 699 | 596 | 438 | 437 | |||||||||||||||
Agriculture, forestry and fishing | (4 | ) | 10 | 2 | 3 | 1 | ||||||||||||||
Energy and water supply | (3 | ) | (8 | ) | – | (4 | ) | 35 | ||||||||||||
Manufacturing | 7 | 9 | 5 | (48 | ) | 23 | ||||||||||||||
Construction | 5 | 15 | 85 | 143 | 13 | |||||||||||||||
Transport, distribution and hotels | 326 | 47 | (19 | ) | (35 | ) | (88 | ) | ||||||||||||
Postal and telecommunications | 5 | (2 | ) | 1 | 191 | (2 | ) | |||||||||||||
Financial, business and other services | 64 | 79 | 42 | 6 | 77 | |||||||||||||||
Property companies | (48 | ) | 56 | (7 | ) | (166 | ) | (140 | ) | |||||||||||
Lease financing | – | – | – | 15 | 31 | |||||||||||||||
Hire purchase | 174 | 88 | 111 | 72 | 23 | |||||||||||||||
Loans and advances to banks | – | 1 | – | – | – | |||||||||||||||
Total allowances for impairment losses charged against income for the year | 1,307 | 1,023 | 697 | 592 | 443 | |||||||||||||||
Total balance at end of year | 3,261 | 3,152 | 2,201 | 2,412 | 3,033 | |||||||||||||||
Ratio of net write-offs during the year to average loans outstanding during the year | 0.3 | % | 0.2 | % | 0.2 | % | 0.3 | % | 0.8 | % |
Following the reduction in the Group’s non-UK activities, an analysis between domestic and foreign operations is not provided for 2013 or later years. provided.
The analysisGroup ’s impairment allowances in respect of movements in the allowance for impairment losses on loans and advances to banks and customers for the year endedincreased by £109 million, or 3 per cent, from £3,152 million at 31 December 2012 between domestic2018 to £3,261 million at 31 December 2019, the charge to the income statement of £1,307 million being offset by net advances written off of £1,457 million (advances written off of £1,882 million less recoveries of £425 million). The increase in the charge to the income statement from £1,023 million in 2018 to £1,307 million in 2019 reflects, in particular, two material corporate cases in Commercial Banking. By category of lending, the most significant elements of the charge to the income statement were charges of £948 million in respect of other personal lending, £326 million in respect of transport, distribution and international offices is as follows:hotels, £64 million in respect of financial, business and other services and £174 million in respect of hire purchase partly offset by a release of £167 million relating to mortgages. Of the net advances written off of £1,457 million, £768 million related to other personal lending, £224 million related to construction and £138 million to property companies.
Domestic | International | Total | ||||||||||
£m | £m | £m | ||||||||||
Balance at beginning of year | 8,025 | 10,721 | 18,746 | |||||||||
Exchange and other adjustments | (24 | ) | (356 | ) | (380 | ) | ||||||
Advances written off: | ||||||||||||
Loans and advances to customers: | ||||||||||||
Mortgages | (96 | ) | (37 | ) | (133 | ) | ||||||
Other personal lending | (2,258 | ) | (9 | ) | (2,267 | ) | ||||||
Agriculture, forestry and fishing | (11 | ) | (34 | ) | (45 | ) | ||||||
Energy and water supply | (68 | ) | (9 | ) | (77 | ) | ||||||
Manufacturing | (75 | ) | (151 | ) | (226 | ) | ||||||
Construction | (477 | ) | (177 | ) | (654 | ) | ||||||
Transport, distribution and hotels | (140 | ) | (318 | ) | (458 | ) | ||||||
Postal and telecommunications | (1 | ) | (6 | ) | (7 | ) | ||||||
Financial, business and other services | (919 | ) | (152 | ) | (1,071 | ) | ||||||
Property companies | (528 | ) | (3,026 | ) | (3,554 | ) | ||||||
Lease financing | (74 | ) | (1 | ) | (75 | ) | ||||||
Hire purchase | (129 | ) | (1 | ) | (130 | ) | ||||||
Loans and advances to banks | (10 | ) | – | (10 | ) | |||||||
Total advances written off | (4,786 | ) | (3,921 | ) | (8,707 | ) | ||||||
Recoveries of advances written off: | ||||||||||||
Loans and advances to customers: | ||||||||||||
Mortgages | 53 | – | 53 | |||||||||
Other personal lending | 751 | 6 | 757 | |||||||||
Agriculture, forestry and fishing | – | – | – | |||||||||
Energy and water supply | – | – | – | |||||||||
Manufacturing | – | – | – | |||||||||
Construction | – | – | – | |||||||||
Transport, distribution and hotels | 1 | – | 1 | |||||||||
Financial, business and other services | – | – | – | |||||||||
Property companies | – | 4 | 4 | |||||||||
Lease financing | 2 | – | 2 | |||||||||
Hire purchase | 26 | – | 26 | |||||||||
Total recoveries of advances written off | 833 | 10 | 843 | |||||||||
Total net advances written off | (3,953 | ) | (3,911 | ) | (7,864 | ) |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Domestic | International | Total | ||||||||||
£m | £m | £m | ||||||||||
Effect of unwinding of discount recognised through interest income | (405 | ) | 31 | (374 | ) | |||||||
Allowances for impairment losses charged against income for the year: | ||||||||||||
Loans and advances to customers: | ||||||||||||
Mortgages | 32 | 246 | 278 | |||||||||
Other personal lending | 1,121 | (240 | ) | 881 | ||||||||
Agriculture, forestry and fishing | 15 | 39 | 54 | |||||||||
Energy and water supply | 77 | (6 | ) | 71 | ||||||||
Manufacturing | 81 | 155 | 236 | |||||||||
Construction | 221 | 105 | 326 | |||||||||
Transport, distribution and hotels | 289 | 360 | 649 | |||||||||
Postal and telecommunications | – | 8 | 8 | |||||||||
Financial, business and other services | 734 | 90 | 824 | |||||||||
Property companies | 776 | 949 | 1,725 | |||||||||
Lease financing | 37 | (11 | ) | 26 | ||||||||
Hire purchase | 50 | (3 | ) | 47 | ||||||||
Total allowances for impairment losses charged against income for the year | 3,433 | 1,692 | 5,125 | |||||||||
Total balance at end of year | 7,076 | 8,177 | 15,253 |
The following table analyses the coverage of the allowance for loan losses by category of loans.
2016 | 2015 | 2014 | 2013 | 2012 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Percentage | Percentage of | Percentage of | Percentage of | Percentage of | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
of loans | loans | loans | loans | loans | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
in each | in each | in each | in each | in each | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
2016 | category to | 2015 | category to | 2014 | category to | 2013 | category to | 2012 | category to | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Allowance | total loans | Allowance | total loans | Allowance | total loans | Allowance | total loans | Allowance | total loans | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
£m | % | £m | % | £m | % | £m | % | £m | % | 2019 Allowance1 £m | 2019 Percentage of loans in each category to total loans % | 2018 Allowance1 £m | 2018 Percentage of loans in each category to total loans % | 2017 Allowance1 £m | 2017 Percentage of loans in each category to total loans % | 2016 Allowance1 £m | 2016 Percentage of loans in each category to total loans % | 2015 Allowance1 £m | 2015 Percentage of loans in each category to total loans % | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Balance at year end applicable to: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Loans and advances to banks | – | 5.5 | – | 5.2 | – | 5.1 | – | 4.8 | 3 | 5.8 | 2 | 1.9 | 2 | 1.3 | – | 1.4 | – | 5.5 | – | 5.2 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Loans and advances to customers: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Mortgages | 576 | 63.0 | 479 | 64.7 | 460 | 64.7 | 657 | 63.5 | 1,113 | 60.0 | 611 | 58.9 | 509 | 60.1 | 485 | 63.4 | 576 | 63.0 | 479 | 64.7 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Other personal lending | 356 | 4.3 | 388 | 4.3 | 607 | 4.5 | 919 | 4.4 | 1,147 | 5.0 | 933 | 5.8 | 823 | 5.8 | 381 | 6.0 | 356 | 4.3 | 388 | 4.3 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Agriculture, forestry and fishing | 13 | 1.5 | 15 | 1.4 | 18 | 1.3 | 38 | 1.1 | 67 | 1.0 | 47 | 1.5 | 19 | 1.5 | 8 | 1.6 | 13 | 1.5 | 15 | 1.4 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Energy and water supply | 6 | 0.5 | 20 | 0.7 | 61 | 0.7 | 149 | 0.8 | 191 | 0.6 | 7 | 0.3 | 11 | 0.3 | 5 | 0.3 | 6 | 0.5 | 20 | 0.7 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Manufacturing | 84 | 1.5 | 70 | 1.2 | 179 | 1.2 | 296 | 1.4 | 337 | 1.5 | 58 | 1.2 | 65 | 1.7 | 35 | 1.6 | 84 | 1.5 | 70 | 1.2 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Construction | 319 | 0.9 | 165 | 1.0 | 158 | 1.3 | 395 | 1.3 | 504 | 1.3 | 305 | 0.8 | 514 | 0.9 | 410 | 0.9 | 319 | 0.9 | 165 | 1.0 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Transport, distribution and hotels | 161 | 2.7 | 219 | 2.8 | 1,051 | 2.9 | 1,954 | 4.2 | 2,162 | 4.7 | 503 | 2.6 | 161 | 2.9 | 57 | 2.9 | 161 | 2.7 | 219 | 2.8 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Postal and telecommunications | 5 | 0.5 | 4 | 0.5 | 17 | 0.5 | 11 | 0.4 | 40 | 0.2 | 9 | 0.4 | 10 | 0.5 | 5 | 0.4 | 5 | 0.5 | 4 | 0.5 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Financial, business and other services | 312 | 10.1 | 811 | 8.9 | 1,225 | 8.7 | 2,293 | 8.0 | 2,764 | 8.6 | 274 | 17.7 | 476 | 15.7 | 312 | 11.9 | 312 | 10.1 | 811 | 8.9 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Property companies | 470 | 6.6 | 790 | 6.7 | 2,553 | 7.1 | 5,145 | 8.3 | 6,664 | 9.3 | 147 | 5.4 | 294 | 5.8 | 343 | 6.4 | 470 | 6.6 | 790 | 6.7 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Lease financing | – | 0.5 | – | 0.6 | 1 | 0.6 | 6 | 0.8 | 33 | 1.1 | – | 0.3 | – | 0.4 | – | 0.4 | – | 0.5 | – | 0.6 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Hire purchase | 110 | 2.4 | 72 | 2.0 | 84 | 1.4 | 103 | 1.0 | 228 | 0.9 | 365 | 3.2 | 268 | 3.1 | 160 | 2.8 | 110 | 2.4 | 72 | 2.0 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Total balance at year end | 2,412 | 100.0 | 3,033 | 100.0 | 6,414 | 100.0 | 11,966 | 100.0 | 15,253 | 100.0 | 3,261 | 100.0 | 3,152 | 100.0 | 2,201 | 100.0 | 2,412 | 100.0 | 3,033 | 100.0 |
The allowances for loan losses at 31 December 2019 and 2018 were measured in accordance with IFRS 9; for earlier years, they were determined in accordance with IAS 39. |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Following the reduction in the Group’s non-UK activities, an analysis between domestic and foreign operations is not provided for 2013 or later years. The analysis of the coverage of the allowance for loan losses at 31 December 2012 between domestic and international offices is as follows:provided.
Domestic | Foreign | Total | ||||||||||||||||||||||
Percentage of | Percentage of | Percentage of | ||||||||||||||||||||||
loans in each | loans in each | loans in each | ||||||||||||||||||||||
category to | category to | category to | ||||||||||||||||||||||
Allowance | total loans | Allowance | total loans | Allowance | total loans | |||||||||||||||||||
2012 | £m | % | £m | % | £m | % | ||||||||||||||||||
Balance at year end applicable to: | ||||||||||||||||||||||||
Loans and advances to banks | 3 | 6.1 | – | 1.7 | 3 | 5.8 | ||||||||||||||||||
Loans and advances to customers: | ||||||||||||||||||||||||
Mortgages | 106 | 62.0 | 1,007 | 36.8 | 1,113 | 60.0 | ||||||||||||||||||
Other personal lending | 1,064 | 5.0 | 83 | 5.4 | 1,147 | 5.0 | ||||||||||||||||||
Agriculture, forestry and fishing | 57 | 1.0 | 10 | 0.1 | 67 | 1.0 | ||||||||||||||||||
Energy and water supply | 177 | 0.3 | 14 | 3.7 | 191 | 0.6 | ||||||||||||||||||
Manufacturing | 194 | 1.4 | 143 | 3.1 | 337 | 1.5 | ||||||||||||||||||
Construction | 215 | 1.2 | 289 | 2.5 | 504 | 1.3 | ||||||||||||||||||
Transport, distribution and hotels | 715 | 4.2 | 1,447 | 10.6 | 2,162 | 4.7 | ||||||||||||||||||
Postal and telecommunications | 10 | 0.2 | 30 | 0.4 | 40 | 0.2 | ||||||||||||||||||
Financial, business and other services | 2,008 | 8.4 | 756 | 11.1 | 2,764 | 8.6 | ||||||||||||||||||
Property companies | 2,307 | 8.3 | 4,357 | 21.0 | 6,664 | 9.3 | ||||||||||||||||||
Lease financing | 14 | 1.0 | 19 | 2.8 | 33 | 1.1 | ||||||||||||||||||
Hire purchase | 206 | 0.9 | 22 | 0.8 | 228 | 0.9 | ||||||||||||||||||
Total | 7,076 | 100.0 | 8,177 | 100.0 | 15,253 | 100.0 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
RISK ELEMENTS IN THE LOAN PORTFOLIO AND POTENTIAL PROBLEM LOANS
The Group’s credit risk elements analysedIFRS 9, which was adopted by categories reflecting US lending and accounting practices, which differ from those employed in the UK, are detailed below:Group on 1 January 2018, requires that:
NON-PERFORMING LENDING
In the US, it is the normal practice to stop accruing interest when payments are 90 days or more past due or when recovery of both principal and interest is doubtful. When the loans are transferred to non-accrual status, accrued interest is reversed from income and no further– interest is recognised until it becomes probable that the principal will be repaid in full. Loans on which interest has been accrued but suspended would be included in risk elements as loans accounted for on a non-accrual basis.
In the US non-performingall loans and advances are typically written off more quickly than in the UK. Consequentlyand, as a UK bank may appear to have a higher level of non-performingresult, no loan is classified as non-accrual; and
– an allowance for expected credit losses is recognised on all loans and advances than a comparable US bank although the reported net income may be similar in both the US and the UK.irrespective of whether any payments are past due.
TheAs a result, the Group compliesno longer analyses its loans between those that are neither past due nor impaired, past due but not impaired, impaired with no provision held and impaired with a provision.
Whilst IFRS 7 whichwas amended to recognise the impact of IFRS 9, it still requires more detailed qualitative and quantitative disclosures about its loan portfolios. Accordingly,The Group revised its disclosures accordingly; the following tables are presented in respect of the Group’s credit risk elements and potential problem loans.
2019 and 2018 | 2017 and earlier years | |||||||
Days past due for loans and advances that are considered to have experienced a significant increase in credit risk, but are not credit-impaired | ü | |||||||
Days past due for loans past due but not impaired | ü | |||||||
Credit quality of all loans and advances | ü | |||||||
Credit quality of loans neither past due nor impaired | ü | |||||||
Interest foregone on non-performing lending | ü | ü | ||||||
Analysis of impairment and provision status | ü |
73 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
SIGNIFICANT INCREASE IN CREDIT RISK
31 December 2019 and 2018
The table below analyses the Group’s loans and advances to customers and banks that are considered to have experienced a significant increase in credit risk, but are not credit-impaired, according to the number of days that have elapsed since the last payment received by the Group was due from the borrower; the analysis of lending has been prepared based on the division in which the asset is held.
Loans and | Loans and advances to customers | |||||||||||||||||||||||
advances | Retail – | Retail – | ||||||||||||||||||||||
to banks | mortgages | other | Commercial | Other | Total | |||||||||||||||||||
£m | £m | £m | £m | £m | £m | |||||||||||||||||||
31 December 2019 | ||||||||||||||||||||||||
Up to date | – | 13,439 | 4,879 | 5,611 | 28 | 23,957 | ||||||||||||||||||
1-30 days past due | – | 1,876 | 497 | 117 | 1 | 2,491 | ||||||||||||||||||
Over 30 days past due | – | 1,620 | 207 | 265 | 3 | 2,095 | ||||||||||||||||||
Total | – | 16,935 | 5,583 | 5,993 | 32 | 28,543 | ||||||||||||||||||
31 December 2018 | ||||||||||||||||||||||||
Up to date | 3 | 10,118 | 4,387 | 6,020 | 10 | 20,535 | ||||||||||||||||||
1-30 days past due | – | 1,955 | 486 | 455 | – | 2,896 | ||||||||||||||||||
Over 30 days past due | – | 1,581 | 214 | 117 | 2 | 1,914 | ||||||||||||||||||
Total | 3 | 13,654 | 5,087 | 6,592 | 12 | 25,345 |
A financial asset is “past due” if a counterparty has failed to make a payment when contractually due.
LOANS PAST DUE BUT NOT IMPAIRED
31 December 2017 and earlier years
The loans that are past due but not impaired are analysed in the table below according to the number of days that have elapsed since the last payment received by the Group was due from the borrower. The analysis of lending between retail and commercial has been prepared based upon the type of exposure and not the business segment in which the exposure is recorded. Included within retail are exposures to personal customers and small businesses, whilst included within commercial are exposures to corporate customers and other large institutions.
Loans and | ||||||||||||||||||||||||
advances | ||||||||||||||||||||||||
designated | ||||||||||||||||||||||||
Loans and | Loans and advances to customers | at fair value | ||||||||||||||||||||||
advances | Retail – | Retail – | through | |||||||||||||||||||||
(audited) | to banks £m | mortgages £m | other £m | Commercial £m | Total £m | profit or loss £m | ||||||||||||||||||
31 December 2017 | ||||||||||||||||||||||||
0-30 days | 6 | 3,057 | 458 | 246 | 3,761 | – | ||||||||||||||||||
30-60 days | – | 1,115 | 111 | 10 | 1,236 | – | ||||||||||||||||||
60-90 days | – | 785 | 3 | 13 | 801 | – | ||||||||||||||||||
90-180 days | – | 977 | 3 | 8 | 988 | – | ||||||||||||||||||
Over 180 days | – | – | 10 | 59 | 69 | – | ||||||||||||||||||
Total | 6 | 5,934 | 585 | 336 | 6,855 | – | ||||||||||||||||||
31 December 2016 | ||||||||||||||||||||||||
0-30 days | 14 | 3,547 | 285 | 157 | 3,989 | – | ||||||||||||||||||
30-60 days | – | 1,573 | 75 | 37 | 1,685 | – | ||||||||||||||||||
60-90 days | – | 985 | 2 | 74 | 1,061 | – | ||||||||||||||||||
90-180 days | – | 1,235 | 6 | 14 | 1,255 | – | ||||||||||||||||||
Over 180 days | – | – | 18 | 23 | 41 | – | ||||||||||||||||||
Total | 14 | 7,340 | 386 | 305 | 8,031 | – | ||||||||||||||||||
31 December 2015 | ||||||||||||||||||||||||
0-30 days | 111 | 4,066 | 276 | 248 | 4,590 | – | ||||||||||||||||||
30-60 days | – | 1,732 | 81 | 100 | 1,913 | – | ||||||||||||||||||
60-90 days | – | 1,065 | 9 | 52 | 1,126 | – | ||||||||||||||||||
90-180 days | – | 1,370 | 8 | 19 | 1,397 | – | ||||||||||||||||||
Over 180 days | – | – | 19 | 44 | 63 | – | ||||||||||||||||||
Total | 111 | 8,233 | 393 | 463 | 9,089 | – |
A financial asset is “past due” if a counterparty has an amount outstanding beyond its contractual due date.
74 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
POTENTIAL PROBLEM LOANS
Potential problem loans are loans where known information about possible credit problems causes management to have concern as to the borrower’s ability to comply with the present loan repayment terms.
31 December 2019 and 2018
IFRS 7 requires the disclosure of information about the credit quality of loans and advances. The Group’s disclosures analyse its loans (gross drawn exposures) based on the internal credit ratings systems used by the Group; these differ between Retail and Commercial, reflecting the characteristics of their exposures and the way that they are managed by the Group.
Probability of | 2019 | 2018 | ||||||||||
Gross drawn exposures | default range | £m | £m | |||||||||
Loans and advances to banks: | ||||||||||||
CMS 1-10 | 0.00-0.50% | 9,777 | 6,180 | |||||||||
CMS 11-14 | 0.51-3.00% | – | 105 | |||||||||
CMS 15-18 | 3.01-20.00% | – | – | |||||||||
CMS 19 | 20.01-99.99% | – | – | |||||||||
CMS 20-23 | 100% | – | – | |||||||||
9,777 | 6,285 | |||||||||||
Loans and advances to customers: | ||||||||||||
Retail - mortgages | ||||||||||||
RMS 1-6 | 0.00-4.50% | 270,522 | 268,524 | |||||||||
RMS 7-9 | 4.51-14.00% | 2,067 | 1,766 | |||||||||
RMS 10 | 14.01-20.00% | 414 | 262 | |||||||||
RMS 11-13 | 20.01-99.99% | 975 | 899 | |||||||||
RMS 14 | 100% | 15,220 | 16,784 | |||||||||
289,198 | 288,235 | |||||||||||
Retail - unsecured | ||||||||||||
RMS 1-6 | 0.00-4.50% | 23,249 | 23,442 | |||||||||
RMS 7-9 | 4.51-14.00% | 3,595 | 2,845 | |||||||||
RMS 10 | 14.01-20.00% | 265 | 239 | |||||||||
RMS 11-13 | 20.01-99.99% | 624 | 886 | |||||||||
RMS 14 | 100% | 678 | 703 | |||||||||
28,411 | 28,115 | |||||||||||
Retail - UK Motor Finance | ||||||||||||
RMS 1-6 | 0.00-4.50% | 14,865 | 13,872 | |||||||||
RMS 7-9 | 4.51-14.00% | 682 | 619 | |||||||||
RMS 10 | 14.01-20.00% | 99 | 111 | |||||||||
RMS 11-13 | 20.01-99.99% | 180 | 202 | |||||||||
RMS 14 | 100% | 150 | 129 | |||||||||
15,976 | 14,933 | |||||||||||
Retail - Other | ||||||||||||
RMS 1-6 | 0.00-4.50% | 9,910 | 9,737 | |||||||||
RMS 7-9 | 4.51-14.00% | 409 | 256 | |||||||||
RMS 10 | 14.01-20.00% | 7 | 7 | |||||||||
RMS 11-13 | 20.01-99.99% | 157 | 234 | |||||||||
RMS 14 | 100% | 150 | 165 | |||||||||
10,633 | 10,399 | |||||||||||
Total Retail | 344,218 | 341,682 |
75 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Probability of | 2019 | 2018 | ||||||||||
Gross drawn exposures (continued) | default range | £m | £m | |||||||||
Commercial | ||||||||||||
CMS 1-10 | 0.00-0.50% | 60,259 | 65,189 | |||||||||
CMS 11-14 | 0.51-3.00% | 27,960 | 28,922 | |||||||||
CMS 15-18 | 3.01-20.00% | 4,928 | 4,429 | |||||||||
CMS 19 | 20.01-99.99% | 169 | 54 | |||||||||
CMS 20-23 | 100% | 3,447 | 3,230 | |||||||||
96,763 | 101,824 | |||||||||||
Other | ||||||||||||
RMS 1-6 | 0.00-4.50% | 786 | 810 | |||||||||
RMS 7-9 | 4.51-14.00% | 40 | – | |||||||||
RMS 10 | 14.01-20.00% | – | – | |||||||||
RMS 11-13 | 20.01-99.99% | – | – | |||||||||
RMS 14 | 100% | 84 | 55 | |||||||||
910 | 865 | |||||||||||
CMS 1-10 | 0.00-0.50% | 56,356 | 43,565 | |||||||||
CMS 11-14 | 0.51-3.00% | – | 6 | |||||||||
CMS 15-18 | 3.01-20.00% | – | – | |||||||||
CMS 19 | 20.01-99.99% | – | – | |||||||||
CMS 20-23 | 100% | – | 66 | |||||||||
56,356 | 43,637 | |||||||||||
Total loans and advances to customers | 498,247 | 488,008 | ||||||||||
In respect of: | ||||||||||||
Retail | 344,218 | 341,682 | ||||||||||
Commercial | 96,763 | 101,824 | ||||||||||
Other | 57,266 | 44,502 | ||||||||||
Total loans and advances to customers | 498,247 | 488,008 |
76 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
31 December 2017 and earlier years
IFRS 7 required the disclosure of information about the credit quality of loans and advances that were neither past due nor impaired. The Group’s disclosures analyse these loans between those that the Group believed were of good quality, satisfactory quality, lower quality and those that were below standard but not impaired. The below standard but not impaired balances represented potential problem loans. The analysis of lending between retail and commercial has been prepared based upon the type of exposure and not the business segment in which the exposure is recorded. Included within retail are exposures to personal customers and small businesses, whilst included within commercial are exposures to corporate customers and other large institutions.
Loans and | ||||||||||||||||||||||||
advances | ||||||||||||||||||||||||
designated | ||||||||||||||||||||||||
Loans and | Loans and advances to customers | at fair value | ||||||||||||||||||||||
advances | Retail – | Retail – | through | |||||||||||||||||||||
(audited) | to banks £m | mortgages £m | other £m | Commercial £m | Total £m | profit or loss £m | ||||||||||||||||||
31 December 2017 | ||||||||||||||||||||||||
Good quality | 6,351 | 294,748 | 43,145 | 81,121 | 31,548 | |||||||||||||||||||
Satisfactory quality | 198 | 790 | 4,770 | 30,154 | 42 | |||||||||||||||||||
Lower quality | 28 | 32 | 286 | 4,807 | – | |||||||||||||||||||
Below standard, but not impaired | – | 195 | 696 | 314 | – | |||||||||||||||||||
Total | 6,577 | 295,765 | 48,897 | 116,396 | 461,058 | 31,590 | ||||||||||||||||||
31 December 2016 | ||||||||||||||||||||||||
Good quality | 26,745 | 295,286 | 34,195 | 72,083 | 33,049 | |||||||||||||||||||
Satisfactory quality | 87 | 814 | 4,479 | 30,433 | 30 | |||||||||||||||||||
Lower quality | 3 | 39 | 387 | 6,433 | – | |||||||||||||||||||
Below standard, but not impaired | 53 | 164 | 417 | 415 | – | |||||||||||||||||||
Total | 26,888 | 296,303 | 39,478 | 109,364 | 445,145 | 33,079 | ||||||||||||||||||
31 December 2015 | ||||||||||||||||||||||||
Good quality | 24,670 | 301,403 | 33,589 | 63,453 | 33,156 | |||||||||||||||||||
Satisfactory quality | 311 | 527 | 4,448 | 28,899 | 15 | |||||||||||||||||||
Lower quality | 4 | 27 | 476 | 7,210 | 3 | |||||||||||||||||||
Below standard, but not impaired | 21 | 106 | 373 | 439 | – | |||||||||||||||||||
Total | 25,006 | 302,063 | 38,886 | 100,001 | 440,950 | 33,174 |
77 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
INTEREST FOREGONE ON NON-PERFORMING LENDING
The table below summarises the interest foregone on impaired lending.
2019 | ||||
£m | ||||
Interest income that would have been recognised under original contract terms | 313 | |||
Interest income included in profit | (198 | ) | ||
Interest foregone | 115 |
ANALYSIS OF IMPAIRMENT AND PROVISION STATUS
31 December 2017 and earlier years
The table below shows separately those loans that are (i) neither past due nor impaired, (ii) past due but not impaired, (iii) impaired, but not requiring a provision and (iv) impaired with a provision.
Loans and | Loans and | ||||||||||||||||||||||||||||||||||||||||||||||
advances | advances | ||||||||||||||||||||||||||||||||||||||||||||||
Loans and advances to customers | designated | designated | |||||||||||||||||||||||||||||||||||||||||||||
Loans and | at fair value | Loans and | Loans and advances to customers | at fair value | |||||||||||||||||||||||||||||||||||||||||||
advances | Retail – | Retail – | through | advances | Retail – | Retail – | through | ||||||||||||||||||||||||||||||||||||||||
(audited) | to banks £m | mortgages £m | other £m | Commercial £m | Total £m | profit or loss £m | to banks £m | mortgages £m | other £m | Commercial £m | Total £m | profit or loss £m | |||||||||||||||||||||||||||||||||||
31 December 2017 | |||||||||||||||||||||||||||||||||||||||||||||||
Neither past due nor impaired | 6,577 | 295,765 | 48,897 | 116,396 | 461,058 | 31,590 | |||||||||||||||||||||||||||||||||||||||||
Past due but not impaired | 6 | 5,934 | 585 | 336 | 6,855 | – | |||||||||||||||||||||||||||||||||||||||||
Impaired – no provision required | 28 | 640 | 306 | 700 | 1,646 | – | |||||||||||||||||||||||||||||||||||||||||
– provision held | – | 3,529 | 1,053 | 1,613 | 6,195 | – | |||||||||||||||||||||||||||||||||||||||||
Gross | 6,611 | 305,868 | 50,841 | 119,045 | 475,754 | 31,590 | |||||||||||||||||||||||||||||||||||||||||
31 December 2016 | |||||||||||||||||||||||||||||||||||||||||||||||
Neither past due nor impaired | 26,888 | 296,303 | 39,478 | 109,364 | 445,145 | 33,079 | 26,888 | 296,303 | 39,478 | 109,364 | 445,145 | 33,079 | |||||||||||||||||||||||||||||||||||
Past due but not impaired | 14 | 7,340 | 386 | 305 | 8,031 | – | 14 | 7,340 | 386 | 305 | 8,031 | – | |||||||||||||||||||||||||||||||||||
Impaired – no provision required | – | 784 | 392 | 689 | 1,865 | – | – | 784 | 392 | 689 | 1,865 | – | |||||||||||||||||||||||||||||||||||
– provision held | – | 3,536 | 1,038 | 2,056 | 6,630 | – | – | 3,536 | 1,038 | 2,056 | 6,630 | – | |||||||||||||||||||||||||||||||||||
Gross | 26,902 | 307,963 | 41,294 | 112,414 | 461,671 | 33,079 | 26,902 | 307,963 | 41,294 | 112,414 | 461,671 | 33,079 | |||||||||||||||||||||||||||||||||||
31 December 2015 | |||||||||||||||||||||||||||||||||||||||||||||||
Neither past due nor impaired | 25,006 | 302,063 | 38,886 | 100,001 | 440,950 | 33,174 | 25,006 | 302,063 | 38,886 | 100,001 | 440,950 | 33,174 | |||||||||||||||||||||||||||||||||||
Past due but not impaired | 111 | 8,233 | 393 | 463 | 9,089 | – | 111 | 8,233 | 393 | 463 | 9,089 | – | |||||||||||||||||||||||||||||||||||
Impaired – no provision required | – | 732 | 690 | 1,092 | 2,514 | – | – | 732 | 690 | 1,092 | 2,514 | – | |||||||||||||||||||||||||||||||||||
– provision held | – | 3,269 | 911 | 2,896 | 7,076 | – | – | 3,269 | 911 | 2,896 | 7,076 | – | |||||||||||||||||||||||||||||||||||
Gross | 25,117 | 314,297 | 40,880 | 104,452 | 459,629 | 33,174 | 25,117 | 314,297 | 40,880 | 104,452 | 459,629 | 33,174 | |||||||||||||||||||||||||||||||||||
31 December 2014 | |||||||||||||||||||||||||||||||||||||||||||||||
Neither past due nor impaired | 26,003 | 320,324 | 37,886 | 106,768 | 464,978 | 36,725 | |||||||||||||||||||||||||||||||||||||||||
Past due but not impaired | 152 | 10,311 | 674 | 488 | 11,473 | – | |||||||||||||||||||||||||||||||||||||||||
Impaired – no provision required | – | 578 | 938 | 847 | 2,363 | – | |||||||||||||||||||||||||||||||||||||||||
– provision held | – | 3,766 | 1,109 | 7,070 | 11,945 | – | |||||||||||||||||||||||||||||||||||||||||
Gross | 26,155 | 334,979 | 40,607 | 115,173 | 490,759 | 36,725 | |||||||||||||||||||||||||||||||||||||||||
31 December 2013 | |||||||||||||||||||||||||||||||||||||||||||||||
Neither past due nor impaired | 25,219 | 318,668 | 36,789 | 107,764 | 463,221 | 29,443 | |||||||||||||||||||||||||||||||||||||||||
Past due but not impaired | 146 | 12,329 | 580 | 786 | 13,695 | – | |||||||||||||||||||||||||||||||||||||||||
Impaired – no provision required | – | 637 | 1,284 | 1,824 | 3,745 | – | |||||||||||||||||||||||||||||||||||||||||
– provision held | – | 6,229 | 1,456 | 20,829 | 28,514 | – | |||||||||||||||||||||||||||||||||||||||||
Gross | 25,365 | 337,863 | 40,109 | 131,203 | 509,175 | 29,443 | |||||||||||||||||||||||||||||||||||||||||
31 December 2012 | |||||||||||||||||||||||||||||||||||||||||||||||
Neither past due nor impaired | 32,726 | 319,613 | 41,223 | 117,152 | 477,988 | 14,551 | |||||||||||||||||||||||||||||||||||||||||
Past due but not impaired | 31 | 12,880 | 922 | 1,527 | 15,329 | – | |||||||||||||||||||||||||||||||||||||||||
Impaired – no provision required | – | 741 | 1,530 | 1,504 | 3,775 | – | |||||||||||||||||||||||||||||||||||||||||
– provision held | 3 | 7,391 | 2,124 | 33,003 | 42,518 | – | |||||||||||||||||||||||||||||||||||||||||
Gross | 32,760 | 340,625 | 45,799 | 153,186 | 539,610 | 14,551 |
The analysis of lending between retail and commercial has been prepared based upon the type of exposure and not the business segment in which the exposure is recorded. Included within retail are exposures to personal customers and small businesses, whilst included within commercial are exposures to corporate customers and other large institutions.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The loans that are past due but not impaired are further analysed in the table below according to the number of days that have elapsed since the last payment was due from the borrower.
Loans and | ||||||||||||||||||||||||
advances | ||||||||||||||||||||||||
Loans and advances to customers | designated | |||||||||||||||||||||||
Loans and | at fair value | |||||||||||||||||||||||
advances | Retail – | Retail – | through | |||||||||||||||||||||
(audited) | to banks £m | mortgages £m | other £m | Commercial £m | Total £m | profit or loss £m | ||||||||||||||||||
31 December 2016 | ||||||||||||||||||||||||
0-30 days | 14 | 3,547 | 285 | 157 | 3,989 | – | ||||||||||||||||||
30-60 days | – | 1,573 | 75 | 37 | 1,685 | – | ||||||||||||||||||
60-90 days | – | 985 | 2 | 74 | 1,061 | – | ||||||||||||||||||
90-180 days | – | 1,235 | 6 | 14 | 1,255 | – | ||||||||||||||||||
Over 180 days | – | – | 18 | 23 | 41 | – | ||||||||||||||||||
Total | 14 | 7,340 | 386 | 305 | 8,031 | – | ||||||||||||||||||
31 December 2015 | ||||||||||||||||||||||||
0-30 days | 111 | 4,066 | 276 | 248 | 4,590 | – | ||||||||||||||||||
30-60 days | – | 1,732 | 81 | 100 | 1,913 | – | ||||||||||||||||||
60-90 days | – | 1,065 | 9 | 52 | 1,126 | – | ||||||||||||||||||
90-180 days | – | 1,370 | 8 | 19 | 1,397 | – | ||||||||||||||||||
Over 180 days | – | – | 19 | 44 | 63 | – | ||||||||||||||||||
Total | 111 | 8,233 | 393 | 463 | 9,089 | – | ||||||||||||||||||
31 December 2014 | ||||||||||||||||||||||||
0-30 days | 152 | 4,854 | 453 | 198 | 5,505 | – | ||||||||||||||||||
30-60 days | – | 2,309 | 110 | 51 | 2,470 | – | ||||||||||||||||||
60-90 days | – | 1,427 | 90 | 139 | 1,656 | – | ||||||||||||||||||
90-180 days | – | 1,721 | 5 | 38 | 1,764 | – | ||||||||||||||||||
Over 180 days | – | – | 16 | 62 | 78 | – | ||||||||||||||||||
Total | 152 | 10,311 | 674 | 488 | 11,473 | – | ||||||||||||||||||
31 December 2013 | ||||||||||||||||||||||||
0-30 days | 146 | 5,596 | 489 | 347 | 6,432 | – | ||||||||||||||||||
30-60 days | – | 2,639 | 87 | 102 | 2,828 | – | ||||||||||||||||||
60-90 days | – | 1,734 | 4 | 57 | 1,795 | – | ||||||||||||||||||
90-180 days | – | 2,360 | – | 41 | 2,401 | – | ||||||||||||||||||
Over 180 days | – | – | – | 239 | 239 | – | ||||||||||||||||||
Total | 146 | 12,329 | 580 | 786 | 13,695 | – | ||||||||||||||||||
31 December 2012 | ||||||||||||||||||||||||
0-30 days | – | 5,996 | 744 | 860 | 7,600 | – | ||||||||||||||||||
30-60 days | 3 | 2,667 | 138 | 131 | 2,936 | – | ||||||||||||||||||
60-90 days | 2 | 1,750 | 29 | 328 | 2,107 | – | ||||||||||||||||||
90-180 days | 6 | 2,467 | 5 | 56 | 2,528 | – | ||||||||||||||||||
Over 180 days | 20 | – | 6 | 152 | 158 | – | ||||||||||||||||||
Total | 31 | 12,880 | 922 | 1,527 | 15,329 | – |
A financial asset is ‘past due’ if a counterparty has failed to make a payment when contractually due.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
POTENTIAL PROBLEM LOANS
Potential problem loans are loans where known information about possible credit problems causes management to have concern as to the borrower’s ability to comply with the present loan repayment terms.
IFRS 7 requires the disclosure of information about the credit quality of loans and advances that are neither past due nor impaired. The Group’s disclosures analyse these loans between those that the Group believes are of good quality, satisfactory quality, and lower quality and those that are below standard but not impaired. The below standard but not impaired balances represent potential problem loans.
Loans and | ||||||||||||||||||||||||
advances | ||||||||||||||||||||||||
Loans and advances to customers | designated | |||||||||||||||||||||||
Loans and | at fair value | |||||||||||||||||||||||
advances | Retail – | Retail – | through | |||||||||||||||||||||
(audited) | to banks £m | mortgages £m | other £m | Commercial £m | Total £m | profit or loss £m | ||||||||||||||||||
31 December 2016 | ||||||||||||||||||||||||
Good quality | 26,745 | 295,286 | 34,195 | 72,083 | 33,049 | |||||||||||||||||||
Satisfactory quality | 87 | 814 | 4,479 | 30,433 | 30 | |||||||||||||||||||
Lower quality | 3 | 39 | 387 | 6,433 | – | |||||||||||||||||||
Below standard, but not impaired | 53 | 164 | 417 | 415 | – | |||||||||||||||||||
Total | 26,888 | 296,303 | 39,478 | 109,364 | 445,145 | 33,079 | ||||||||||||||||||
31 December 2015 | ||||||||||||||||||||||||
Good quality | 24,670 | 301,403 | 33,589 | 63,453 | 33,156 | |||||||||||||||||||
Satisfactory quality | 311 | 527 | 4,448 | 28,899 | 15 | |||||||||||||||||||
Lower quality | 4 | 27 | 476 | 7,210 | 3 | |||||||||||||||||||
Below standard, but not impaired | 21 | 106 | 373 | 439 | – | |||||||||||||||||||
Total | 25,006 | 302,063 | 38,886 | 100,001 | 440,950 | 33,174 | ||||||||||||||||||
31 December 2014 | ||||||||||||||||||||||||
Good quality | 25,654 | 318,967 | 30,993 | 65,106 | 36,482 | |||||||||||||||||||
Satisfactory quality | 263 | 1,159 | 5,675 | 28,800 | 238 | |||||||||||||||||||
Lower quality | 49 | 72 | 623 | 11,204 | 5 | |||||||||||||||||||
Below standard, but not impaired | 37 | 126 | 595 | 1,658 | – | |||||||||||||||||||
Total | 26,003 | 320,324 | 37,886 | 106,768 | 464,978 | 36,725 | ||||||||||||||||||
31 December 2013 | ||||||||||||||||||||||||
Good quality | 25,044 | 314,749 | 29,129 | 66,345 | 29,432 | |||||||||||||||||||
Satisfactory quality | 171 | 2,948 | 6,414 | 29,038 | 7 | |||||||||||||||||||
Lower quality | 2 | 308 | 501 | 9,991 | 3 | |||||||||||||||||||
Below standard, but not impaired | 2 | 663 | 745 | 2,390 | 1 | |||||||||||||||||||
Total | 25,219 | 318,668 | 36,789 | 107,764 | 463,221 | 29,443 | ||||||||||||||||||
31 December 2012 | ||||||||||||||||||||||||
Good quality | 32,173 | 313,372 | 30,924 | 60,049 | 14,514 | |||||||||||||||||||
Satisfactory quality | 174 | 4,532 | 8,579 | 33,477 | 28 | |||||||||||||||||||
Lower quality | 10 | 552 | 862 | 18,153 | 6 | |||||||||||||||||||
Below standard, but not impaired | 369 | 1,157 | 858 | 5,473 | 3 | |||||||||||||||||||
Total | 32,726 | 319,613 | 41,223 | 117,152 | 477,988 | 14,551 |
For further details see note 52 on page F-90.
INTEREST FOREGONE ON NON-PERFORMING LENDING
The table below summarises the interest foregone on impaired lending.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
TROUBLED DEBT RESTRUCTURINGS
In the US, loans whose terms have been modified due to problems with the borrower are required to be separately disclosed. If the new terms were in line with market conditions at the time of the restructuring and the restructured loan remains current as to repayment of principal and interest then the disclosure is discontinued at the end of the first year. The Company’s accounting policy for loans that are renegotiated is set out in note 2(H)(l) to the financial statements. The table below sets out loans that are forborneIn accordance with IFRS 9, an impairment provision is recognised on all loans; as a result, the Company amended these disclosures in 2018. Loans modified by the Group during the year as a result of a customer’s financial difficulties were credit-impaired at 31 December 2016, 20152019 and 2014, separately identifying those loans that2018 and are also impaired:included within the forborne balances set out in the table below.
Impairment | Purchased | ||||||||||||||||||||||||||||||
Total forborne | Total forborne | allowance as a | or originated | ||||||||||||||||||||||||||||
loans and | loans and | Total loans and | % of loans and | Credit-impaired | credit-impaired | Other | Total | ||||||||||||||||||||||||
advances which | advances which | advances which | advances which | forborne | forborne | forborne | forborne | ||||||||||||||||||||||||
are not impaired | are impaired | are forborne | are forborne | loans and | loans and | loans and | loans and | ||||||||||||||||||||||||
£m | £m | £m | % | advances | advances | advances | advances | ||||||||||||||||||||||||
£m | £m | £m | £m | ||||||||||||||||||||||||||||
At 31 December 2019 | |||||||||||||||||||||||||||||||
Retail: | |||||||||||||||||||||||||||||||
Secured | 736 | 3,659 | 1,164 | 5,559 | |||||||||||||||||||||||||||
Unsecured | 305 | – | 235 | 540 | |||||||||||||||||||||||||||
UK Motor Finance | 26 | – | 37 | 63 | |||||||||||||||||||||||||||
Total Retail | 1,067 | 3,659 | 1,436 | 6,162 | |||||||||||||||||||||||||||
Commercial | 3,363 | – | 923 | 4,286 | |||||||||||||||||||||||||||
At 31 December 2018 | |||||||||||||||||||||||||||||||
Retail: | |||||||||||||||||||||||||||||||
Secured | 642 | 4,241 | 1,206 | 6,089 | |||||||||||||||||||||||||||
Unsecured | 289 | – | 274 | 563 | |||||||||||||||||||||||||||
UK Motor Finance | 25 | – | 31 | 56 | |||||||||||||||||||||||||||
Total Retail | 956 | 4,241 | 1,511 | 6,708 | |||||||||||||||||||||||||||
Commercial | 2,978 | – | 894 | 3,872 | |||||||||||||||||||||||||||
Impairment | |||||||||||||||||||||||||||||||
Total forborne loans | Total forborne loans | Total loans and | allowance as a % of | ||||||||||||||||||||||||||||
and advances which | and advances which | advances which are | loans and advances | ||||||||||||||||||||||||||||
are not impaired | are impaired | forborne | which are forborne | ||||||||||||||||||||||||||||
£m | £m | £m | % | ||||||||||||||||||||||||||||
At 31 December 2017 | |||||||||||||||||||||||||||||||
UK secured retail | 1,291 | 137 | 1,428 | 4.3 | |||||||||||||||||||||||||||
UK unsecured retail | 55 | 139 | 194 | 38.6 | |||||||||||||||||||||||||||
Consumer credit cards | 105 | 190 | 295 | 36.0 | |||||||||||||||||||||||||||
Asset Finance UK Retail | 15 | 19 | 34 | 36.6 | |||||||||||||||||||||||||||
Run off: Ireland secured retail | 213 | 25 | 238 | 21.0 | |||||||||||||||||||||||||||
Commercial Banking | 447 | 1,927 | 2,374 | 35.0 | |||||||||||||||||||||||||||
Run off: Corporate Real Estate, other Corporate and Specialist Finance | – | 715 | 715 | 44.1 | |||||||||||||||||||||||||||
At 31 December 2016 | |||||||||||||||||||||||||||||||
UK secured retail | 1,879 | 217 | 2,096 | 4.7 | 1,879 | 217 | 2,096 | 4.7 | |||||||||||||||||||||||
UK unsecured retail | 20 | 107 | 127 | 40.5 | 20 | 107 | 127 | 40.5 | |||||||||||||||||||||||
Consumer credit cards | 93 | 119 | 212 | 29.0 | 93 | 119 | 212 | 29.0 | |||||||||||||||||||||||
Asset Finance UK Retail | 55 | 62 | 117 | 27.0 | 55 | 62 | 117 | 27.0 | |||||||||||||||||||||||
Run off: Ireland secured retail | 137 | 19 | 156 | 16.6 | 137 | 19 | 156 | 16.6 | |||||||||||||||||||||||
Commercial Banking | 466 | 2,179 | 2,645 | 31.2 | 466 | 2,197 | 2,663 | 31.1 | |||||||||||||||||||||||
Run off: Corporate Real Estate, other Corporate and Specialist Finance | 3 | 995 | 998 | 51.1 | 3 | 995 | 998 | 51.1 | |||||||||||||||||||||||
At 31 December 2015 | |||||||||||||||||||||||||||||||
UK secured retail | 2,929 | 173 | 3,102 | 4.2 | |||||||||||||||||||||||||||
UK unsecured retail | 28 | 119 | 147 | 40.0 | |||||||||||||||||||||||||||
Consumer credit cards | 105 | 120 | 225 | 26.8 | |||||||||||||||||||||||||||
Asset Finance UK Retail | 49 | 51 | 100 | 25.5 | |||||||||||||||||||||||||||
Run off: Ireland secured retail | 143 | 26 | 169 | 13.3 | |||||||||||||||||||||||||||
Commercial Banking | 986 | 2,528 | 3,514 | 30.9 | |||||||||||||||||||||||||||
Run off: Corporate Real Estate, other Corporate and Specialist Finance | 9 | 1,771 | 1,780 | 52.5 | |||||||||||||||||||||||||||
Run-off Ireland: Commercial real estate and corporate | 32 | 5 | 37 | 0.0 | |||||||||||||||||||||||||||
At 31 December 2014 | |||||||||||||||||||||||||||||||
UK secured retail | 4,128 | 266 | 4,394 | 3.5 | |||||||||||||||||||||||||||
UK unsecured retail | 23 | 139 | 162 | 39.4 | |||||||||||||||||||||||||||
Consumer credit cards | 94 | 140 | 234 | 29.1 | |||||||||||||||||||||||||||
Asset Finance UK Retail | 56 | 53 | 109 | 20.5 | |||||||||||||||||||||||||||
Run off: Ireland secured retail | 239 | 41 | 280 | 12.7 | |||||||||||||||||||||||||||
Commercial Banking | 1,896 | 3,241 | 5,137 | 31.0 | |||||||||||||||||||||||||||
Run off: Corporate Real Estate, other Corporate and Specialist Finance | 86 | 1,912 | 1,998 | 58.3 | |||||||||||||||||||||||||||
Run-off Ireland: Commercial real estate and corporate | 384 | 3,052 | 3,436 | 72.2 |
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Impairment | |||||||||||||||
Total forborne loans | Total forborne loans | Total loans and | allowance as a % of | ||||||||||||
and advances which | and advances which | advances which are | loans and advances | ||||||||||||
are not impaired | are impaired | forborne | which are forborne | ||||||||||||
£m | £m | £m | % | ||||||||||||
At 31 December 2015 | |||||||||||||||
UK secured retail | 2,929 | 173 | 3,102 | 4.2 | |||||||||||
UK unsecured retail | 28 | 119 | 147 | 40.0 | |||||||||||
Consumer credit cards | 105 | 120 | 225 | 26.8 | |||||||||||
Asset Finance UK Retail | 49 | 51 | 100 | 25.5 | |||||||||||
Run off: Ireland secured retail | 143 | 26 | 169 | 13.3 | |||||||||||
Commercial Banking | 986 | 2,543 | 3,529 | 30.9 | |||||||||||
Run off: Corporate Real Estate, other Corporate and Specialist Finance | 9 | 1,771 | 1,780 | 52.5 | |||||||||||
Run-off Ireland: Commercial real estate and corporate | 32 | 5 | 37 | 0.0 |
The Group assesses whether a loan benefiting from a UK Government-sponsored programme is impaired or a troubled debt restructuring using the same accounting policies and practices as it does for loans not benefiting from such a programme.
Further information on the schemes operated by the Group to assist borrowers who are experiencing financial stress and on the Group’s forborne loans is set out on pages 5654 to 5955, page 63 and pages 65 to 72.page 67.
ASSETS ACQUIRED IN EXCHANGE FOR ADVANCES
In most circumstances in the US, title to property securing residential real estate transfers to the lender upon foreclosure. The loan is written off and the property acquired in this way is reported in a separate balance sheet category with any recoveries recorded as an offset to the provision for loan losses recorded in the year. Upon sale of the acquired property, gains or losses are recorded in the income statement as a gain or loss on acquired property.
In the UK, although a bank is entitled to enforce a first charge on a property held as security, it typically does so only to the extent of enforcing its power of sale. In accordance with IFRS and industry practice, Lloyds Banking Group usually takes control of a property held as collateral on a loan at repossession without transfer of title. Loans subject to repossession continue to be reported as loans in the balance sheet. The Group’s gains or losses on sale of the acquired property are recorded within the provision for loan losses during the reporting period.
The difference in practices has no effect on net income reported in the UK compared to that reported in the US but it does result in a difference in classification of losses and recoveries in the income statement. It also has the effect of causing UK banks to report an increased level of non-performing loans compared with US banks.
In certain circumstances the Group takes physical possession of assets held as collateral against wholesale lending. In such cases, the assets are carried on the Group’s balance sheet and are classified according to the Group’s accounting policies.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
CROSS BORDER OUTSTANDINGS
The business of Lloyds Banking Group involves exposures in non-local currencies. These cross border outstandings comprise loans (including accrued interest), acceptances, interest-bearing deposits with other banks, other interest-bearing investments and any other monetary assets which are denominated in non-local currency. The following table analyses, by type of borrower, foreign outstandings which individually represent in excess of 1 per cent of Lloyds Banking Group’s total assets.
Governments | Banks and other | Commercial, | Governments | Banks and other | Commercial, | |||||||||||||||||||||||||||||||||||
and official | financial | industrial | and official | financial | industrial | |||||||||||||||||||||||||||||||||||
Total | institutions | institutions | and other | Total | institutions | institutions | and other | |||||||||||||||||||||||||||||||||
% of assets | £m | £m | £m | £m | % of assets | £m | £m | £m | £m | |||||||||||||||||||||||||||||||
At 31 December 2016: | ||||||||||||||||||||||||||||||||||||||||
At 31 December 2019: | ||||||||||||||||||||||||||||||||||||||||
United States of America | 1.6 | 13,224 | 7,564 | 1,718 | 3,942 | 1.0 | 8,741 | 3,191 | 4,831 | 719 | ||||||||||||||||||||||||||||||
At 31 December 2015: | ||||||||||||||||||||||||||||||||||||||||
At 31 December 2018: | ||||||||||||||||||||||||||||||||||||||||
United States of America | 1.5 | 11,748 | 6,349 | 952 | 4,447 | 1.6 | 12,502 | 4,045 | 5,091 | 3,366 | ||||||||||||||||||||||||||||||
At 31 December 2014: | ||||||||||||||||||||||||||||||||||||||||
At 31 December 2017: | ||||||||||||||||||||||||||||||||||||||||
United States of America | 1.3 | 11,437 | 7,838 | 1,177 | 2,422 | 1.6 | 12,963 | 6,760 | 3,205 | 2,998 |
At 31 December 2016,2019, United States of America had commitments of £2,168£3,773 million.
At 31 December 2016,2019, no countries had cross-border outstandings of between 0.75 per cent and 1 per cent of assets.
At 31 December 2018, no countries had cross border outstandings of between 0.75 per cent and 1 per cent of assets.
At 31 December 2015,2017, no countries had cross border outstandings of between 0.75 per cent and 1 per cent of assets.
At 31 December 2014, no countries had cross-border outstandings of between 0.75 per cent and 1 per cent of assets.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
DEFINITION
Regulatory and legal risk is defined as the risk of financial penalties, regulatory censure, criminal or civil enforcement action or customer detriment as a result of failure to identify, assess, correctly interpret, comply with, or manage regulatory and/or legal requirements.
EXPOSURES
Whilst the Group has a zero risk appetite for material regulatory breaches or material legal incidents, the Group remains exposed to them, driven by significant ongoing and new legislation, regulation and court proceedings in the UK and overseas which in each case needs to be interpreted, implemented and embedded into day-to-day operational and business practices across the Group.
MEASUREMENT
Regulatory and legal risks are measured against a defined risk appetite metric, which is an assessment of material regulatory breaches and material legal incidents.
MITIGATION
The Group undertakes a range of key mitigating actions to manage regulatory and legal risk. These include the following:
The Board has established a Group-wide risk appetite and metric for regulatory and legal risk. | |
Group policies and procedures set out the principles and key controls that should apply across the business which are aligned to the Group risk appetite. Mandated policies and processes require appropriate control frameworks, management information, standards and colleague training to be implemented to identify and manage regulatory and legal risk. |
Business units identify, assess and implement policy and regulatory requirements and establish local controls, processes, procedures and resources to ensure appropriate governance and compliance. | |
Business units regularly produce management information to assist in the identification of issues and test management controls are working effectively. | |
Risk and Legal departments provide oversight, proactive support and constructive challenge to the business in identifying and managing regulatory and legal issues. | |
Risk department conducts thematic reviews of regulatory compliance and provides oversight of regulatory compliance assessments across businesses and divisions where appropriate. | |
Business units, with the support of divisional and Group-level teams, conduct ongoing horizon scanning to identify and address changes in regulatory and legal requirements. | |
The Group engages with regulatory authorities and industry bodies on forthcoming regulatory changes, market reviews and investigations, ensuring programmes are established to deliver new regulation and legislation. |
MONITORING
Material risks are managed through the relevant divisional-level committees, with review and escalation through Group level committees where appropriate, including the escalation of any material regulatory breaches or material legal incidents.
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DEFINITION
Conduct risk is defined as the risk of customer detriment across the customer lifecycle including: failures in product management, distribution and servicing activities; from other risks materialising, or other activities which could undermine the integrity of the market or distort competition, leading to unfair customer outcomes, regulatory censure, and/reputational damage or a reduction in earnings/value, through financial or reputational loss, from inappropriate or poor customer treatment or business conduct.loss.
EXPOSURES
The Group faces significant conduct risks, which affect all aspects of the Group’s operations and all types of customers.
Conduct risks can impact directly or indirectly on our customers and other stakeholders. These can be consideredcould materialise from a number of areas across two main categories; customer conduct risks and market conduct risks. Customer conduct risks are those that have a direct impact on a customer – or group of customers – and can materialise through products or services not meeting the needs of its customers; sales processes resulting in poor customer outcomes; or the failure to deal with a customer’s complaint effectively which in turn may lead to a referral to the Financial Ombudsman Service. Market conduct risks can exist where activity taken can disrupt the fair and effective operation of a market in which the Group, is active. Market conduct risks can arise from the mismanagement of market sensitive information, the failure to identify and report suspicious transactions or orders, or through inaccurate benchmark submissions.including:
Business and strategic planning that does not sufficiently consider customer needs. | |
Ineffective management and monitoring of products and their distribution (including the sales process). | |
Unclear, unfair, misleading or untimely customer communications. | |
A culture that is not sufficiently customer-centric. | |
Poor governance of colleagues’ incentives and rewards and approval of schemes which drive unfair customer outcomes. | |
Ineffective management and oversight of legacy conduct issues. | |
Ineffective management of customers’ complaints or claims. | |
Outsourcing of customer service and product delivery to third-parties that do not have the same level of control, oversight and culture as the Group. |
There is an ongoinga high level of scrutiny regarding financial institutions’ treatment of customers, including those in vulnerable circumstances, from regulatory bodies, the media, politicians and consumer groups. As
There continues to be a result,significant focus on market misconduct, resulting from previous issues such as London Inter-bank Offered Rate (LIBOR) and foreign exchange (FX).
Due to the level of enhanced focus on conduct, there is a risk that certain aspects of the Group’s current or legacy business may be determined by the Financial Conduct Authority, other regulatory bodies or the courts as not being conducted in accordance with applicable laws or regulations, or in a manner that fails to deliver fair and reasonable customer treatment. The Group may also be liable for damages to third parties harmed by the conduct of its business. Theretreatment, or is also a significant regulatory focus oninconsistent with market misconduct, resultant from previous issues around LIBOR and FX.integrity or competition requirements.
MEASUREMENT
To articulate its conduct risk appetite, the Group has sought more granularity through the use of suitable conduct risk metricsConduct Risk Appetite Metrics (CRAMs) and tolerances that indicate where it may potentially be operating outside its conduct risk appetite. Conduct Risk Appetite Metrics (CRAMs)These include Board-level conduct risk metrics covering an assessment of overall CRAMs performance, out of appetite CRAMs, UK Financial Ombudsman Service (FoS) change rates and complaints.
CRAMs have been designed for allservices and product families offered by the Group;Group and are measured by a consistent set of common metrics have been agreed for all products to support a consistent approach.metrics. These contain a range of product design, sales and post-salesprocess metrics to provide a more holistic view of conduct risks; each productsome products also hashave a suite of additional bespoke metrics. The common metrics are sales volume, product governance adherence, target market, outcome testing: meets customer needs, outcome testing: information disclosure, outcome testing: regulatory compliance, retention, usage, claims (decline rates), complaints, Financial Ombudsman Service uphold rate and complaints outcome testing.
Each of the tolerances for the metrics are agreed for the individual product or service and are tracked monthly.regularly tracked. At a consolidated level these metrics are part of the Board approved risk appetite. The Group alsohas, and continues to, measure the effectiveness of the overall strategic focus onevolve its approach to conduct within the divisionsrisk measurements, including those supporting customer vulnerability, process delivery and functions and its impact on customer outcomes and the effective implementation of the Customer Vulnerability agenda through the Group Customer First Committee (GCFC).
In relation to market conduct, relevant metrics are being established, and will continue to evolve in line with external developments. These cover a range of topics including the management of confidential and market sensitive information; and the way in which conflicts of interest are managed.journeys.
MITIGATION
The Group takes a range of mitigating actions with respect to this risk.conduct risk and remains focused on delivering a leading customer experience. The transitionGroup’s ongoing commitment to good customer outcomes sets the tone from the top and supports the development of the customer-focused UK centric strategy into the Business has strengthened itsright customer-centric culture – strengthening links between actions to support conduct, culture and values, improved systemscustomer and processes, and implementedenabling more effective controls. These actions are being further embedded throughout the Group (across all business areas and all supporting functional areas) through the continued evolution of the strategic focus oncontrol management. Actions to encourage good conduct within business as usual supported by the GCFC, including:include:
Conduct risk appetite established at Group and business area level, with metrics included in the |
Simplified and enhanced conduct policies and procedures in place to ensure appropriate controls and processes that deliver fair customer outcomes, and support market integrity and competition requirements. | |
Customer needs | |
Cultural | |
Enhanced product governance framework to ensure products continue to offer customers fair value, and consistently meet their needs throughout their product life cycle; reviewed and challenged by Group Product Governance Committee (GPGC). | |
Enhanced complaints management through effectively responding to, and learning from, root causes | |
Robust recruitment and training, with a continued focus on how the Group manages colleagues’ performance with | |
Ongoing | |
Monitoring and testing of customer outcomes to ensure the Group delivers fair outcomes for customers whilst making continuous improvements to products, services and processes. | |
Continued focus on market conduct and member of the Fixed Income, Currencies and Commodities Markets Standard Board. | |
Adoption of robust change delivery methodology to enable prioritisation and delivery of |
The Group has also prioritised activity designed to reinforce good conduct in its engagement with the markets in which it operates. This has included the creation of a Market Conduct Steering Committee, training for relevant colleagues, the development of enhanced procedures, and the enhancement of preventative and detective controls including the Group’s trade surveillance and continuous surveillance capability.
The Group’s leadership team, through the GCFC, has oversighted and approved the transition of the Conduct Strategy within the business as usual to support the development of the right customer centric culture. The Board and Group Risk Committee receive regular qualitative and quantitative reports to track progress on how the Group is meeting customer needs and minimising conduct risk across all areas of the business.
The Group actively engages with regulatory bodies and other stakeholders in developing its understanding of current customer treatment concerns, and those relating to the fairness and effectiveness of markets,
MONITORING
Monitoring and reporting is undertaken at Board, Group, entity and divisional committees. As part of the reporting of CRAMs, a robust outcomes testing regime is in place to determine whether the Group is delivering fair outcomes for customers.
GCFC acts as the guardian of customer experience and has responsibility for monitoring and reviewing plans and actions to improve it, providing oversight of customer outcomes and customer experience and providing challenge to divisions to make changes to support the delivery of the Group’s vision and foster a customer-centric culture.
DEFINITION
Operational risk is defined as the risk of loss resulting from inadequate or failed internal processes, people and systems or from external events.
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EXPOSURES
The principal operational risks to the Group which could result in customer detriment, unfair customer outcomes, financial loss, disruption and/or reputational damage are:
A cyber-attack. | |
Failure of IT systems, due to volume of change, and/or aged infrastructure. | |
Internal and/or external fraud or financial crime. | |
Failure to ensure compliance with increasingly complex and detailed regulation including anti-money laundering, anti-bribery, counter-terrorist financing, and financial sanctions and prohibitions laws and regulations. |
A number of these risks could increase where there is a reliance on third-party suppliers to provide services to the Group or its customers.
MEASUREMENT
Operational risk is managed across the Group through an operational risk framework and operational risk policies. The operational risk framework includes a risk and control self-assessment process, risk impact likelihood matrix, key risk and control indicators, risk appetite, a robust operational event management and escalation process, scenario analysis and an operational losses process.
Table X below shows high level loss and event trends for the Group using Basel II categories. Based on data captured on the Group’s Risk and Control Self-Assessment, in 2019 the highest frequency of events occurred in external fraud (67.89 per cent) and execution, delivery and process management (18.04 per cent). Clients, products and business practices accounted for 72.70 per cent of losses by value, driven by legacy issues where impacts materialised in 2019 (excluding PPI).
Table X:Operational risk events by risk category (losses greater than or equal to £10,000), excluding PPI1
% of total volume | % of total losses | |||||||||||||||
2019 | 2018 | 2019 | 2018 | |||||||||||||
Business disruption and system failures | 0.78 | 1.46 | 2.45 | 3.53 | ||||||||||||
Clients, products and business practices | 12.84 | 12.30 | 72.70 | 65.12 | ||||||||||||
Damage to physical assets | 0.15 | 1.64 | 0.03 | 0.21 | ||||||||||||
Employee practices and workplace safety | 0.10 | 0.06 | 0.01 | – | ||||||||||||
Execution, delivery and process management | 18.04 | 21.21 | 20.60 | 25.96 | ||||||||||||
External fraud | 67.89 | 62.98 | 4.16 | 5.05 | ||||||||||||
Internal fraud | 0.20 | 0.35 | 0.05 | 0.13 | ||||||||||||
Total | 100.00 | 100.00 | 100.00 | 100.00 |
1 | 2018 breakdowns have been restated to reflect a number of events that have been reclassified following an internal review. |
Operational risk losses and scenario analysis is used to inform the Internal Capital Adequacy Assessment Process (ICAAP). The Group calculates its minimum (Pillar I) operational risk capital requirements using The Standardised Approach (TSA). Pillar II is calculated using internal and external loss data and extreme but plausible scenarios that may occur in the next 12 months.
MITIGATION
The Group’s strategic review considers the changing risk management requirements, adapting the change delivery model to be more agile and develop the people skills and capabilities needed to be a ‘Bank of the Future’. The Group continues to review and invest in its control environment to ensure it addresses the inherent risks faced. Risks are reported and discussed at local governance forums and escalated to executive management and Board as appropriate to ensure the correct level of visibility and engagement. The Group employs a range of risk management strategies, including: avoidance, mitigation, transfer (including insurance) and acceptance. Where there is a reliance on third-party suppliers to provide services, the Group’s sourcing policy ensures that outsourcing initiatives follow a defined process including due diligence, risk evaluation and ongoing assurance.
Mitigating actions to the principal operational risks are:
The threat landscape associated with cyber risk continues to evolve and there is significant regulatory attention on this subject. The Board continues to invest heavily to protect the Group from malicious cyber-attacks. Investment continues to focus on improving the Group’s approach to identity and access management, improving capability to detect and respond to cyber-attacks and improved ability to manage vulnerabilities across the estate. | |
The Group continues to optimise its approach to IT by investing in technology improvements; focusing on simplification of IT architecture; and decommissioning legacy systems in order to maintain reliable banking services for its customers. IT risk mitigation programmes are in place to continually improve customers’ experience, which receive considerable time and focus at Board and Board Risk Committees. | |
The Group adopts a risk based approach to mitigate the internal and external fraud risks it faces, reflecting the current and emerging fraud risks within the market. Fraud risk appetite metrics holistically cover the impacts of fraud in terms of losses to the Group, costs of fraud systems and operations, and customer experience of actual and attempted fraud. Oversight of the appropriateness and performance of these |
metrics is undertaken regularly through business area and Group-level committees. This approach drives a continual programme of prioritised enhancements to the Group’s technology, process and people related controls, with an emphasis on preventative controls supported by real time detective controls wherever feasible. Group-wide policies and operational control frameworks are maintained and designed to provide customer confidence, protect the Group’s commercial interests and reputation, comply with legal requirements and meet regulatory requirements. The Group’s fraud awareness programme remains a key component of its fraud control environment, and awareness of fraud risk is supported by mandatory training for all colleagues. The Group also plays an active role with other financial institutions, industry bodies, and enforcement agencies in identifying and combatting fraud. | |
The Group continues to lead and support industry wide activity to help address fraud, such as leadership on the design and implementation of the industry code for Authorised Push Payment (APP) fraud, in addition to making more bespoke commitments with key partners, such as the City of London Police. Such initiatives support the continued enhancement of the Group’s control framework, whilst contributing to the raising of standards across the industry. The Group also continues to make material annual investments in both technology and colleague development to help mitigate this growing area of risk. | |
The Group has adopted policies and procedures designed to detect and prevent the use of its banking network for money laundering, terrorist financing, bribery, tax evasion, human trafficking, modern-day slavery and wildlife trafficking, and activities prohibited by legal and regulatory sanctions. Against a background of increasingly complex and detailed laws and regulations, and of increased criminal and terrorist activity, the Group regularly reviews and assesses its policies, procedures and organisational arrangements to keep them current, effective and consistent across markets and jurisdictions. The Group requires mandatory training on these topics for all employees. Specifically, the anti-money laundering procedures include ‘know-your-customer’ requirements, transaction monitoring technologies, reporting of suspicions of money laundering or terrorist financing to the applicable regulatory authorities, and interaction between the Group’s Financial Intelligence Unit and external agencies and other financial institutions. The Anti-Bribery Policy prohibits the payment, offer, acceptance or request of a bribe, including ‘facilitation payments’ by any employee or agent and provides a confidential reporting service for anonymous reporting of suspected or actual bribery activity. The Sanctions and |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
the Related Prohibitions Policy sets out a framework of controls for compliance with legal and regulatory sanctions. |
MONITORING
Monitoring and reporting of operational risk is undertaken at Board, Group, entity and divisional committees. Each committee monitors key risks, control effectiveness, key risk and control indicators, events, operational losses, risk appetite metrics and the results of independent testing conducted by Risk and/or Internal Audit.
The Group maintains a formal approach to operational risk event escalation, whereby material events are identified, captured and escalated. Root causes of events are determined, and action plans put in place to ensure an optimum level of control to keep customers and the business safe, reduce costs, and improve efficiency.
The insurance programme is monitored and reviewed regularly, with recommendations being made to the Group’s senior management annually prior to each renewal. Insurers are monitored on an ongoing basis, to ensure counterparty risk is minimised. A process is in place to manage any insurer rating changes or insolvencies.
DEFINITION
The risk that the Group fails to provide an appropriate colleague and customer-centric culture, supported by robust reward and wellbeing policies and processes; effective leadership to manage colleague resources; effective talent and succession management; and robust control to ensure all colleague-related requirements are met.
EXPOSURES
The Group’s management of material people risks is critical to its capacity to deliver against its strategic objectives and to be the best bank for customers, particularly in the context of increasing volumes of organisational, political and external market change and increasing digitisation. The Group is exposed to the following key people risks:
Failure to recruit, develop and retain colleagues, including ineffective management of succession planning or failure to identify appropriate talent pipeline. | |
The increasing digitisation of the business is changing the capability mix required and may impact the Group’s ability to attract and retain talent. | |
Senior Managers and Certification Regime (SM&CR) and additional regulatory constraints on remuneration structures may impact the Group’s ability to attract and retain talent. | |
Failure to manage capacity, colleagues having excessive demands placed on them resulting in wellbeing issues and business objectives not being met. | |
Failure to meet all colleague-related legal and regulatory requirements. | |
Ineffective leadership, poor communication, weak performance, inappropriate remuneration policies. | |
Colleague engagement may continue to be challenged by ongoing media attention on culture within the banking sector, conduct and ethical considerations. | |
Inadequately designed people processes that are not resilient to withstand unexpected events. |
MEASUREMENT
People risk is measured through a series of quantitative and qualitative indicators, aligned to key sources of people risk for the Group such as succession, retention, colleague engagement and wellbeing. In addition to risk appetite measures and limits, people risks and controls are monitored on a monthly basis via the Group’s risk governance framework and reporting structures.
MITIGATION
The Group takes many mitigating actions with respect to people risk. Key areas of focus include:
Focusing on leadership and colleague engagement, through delivery of strategies to attract, retain and develop high calibre people together with implementation of rigorous succession planning. | |
Continued focus on the Group’s culture by developing and delivering initiatives that reinforce the appropriate behaviours which generate the best possible long-term outcomes for customers and colleagues. | |
Managing organisational capability and capacity through divisional people strategies to ensure there are the right skills and resources to meet customers’ needs and deliver the Group’s strategic plan. | |
Maintain effective remuneration arrangements to ensure they promote an appropriate culture and colleague behaviours that meet customer needs and regulatory expectations. | |
Ensuring colleague wellbeing strategies and support are in place to meet colleague needs, and that the skills and capability growth required to build a workforce for the ‘Bank of the Future’ are achieved. | |
Ensuring compliance with legal and regulatory requirements related to SM&CR, embedding compliant and appropriate colleague behaviours in line with Group policies, values and its people risk priorities. | |
Ongoing consultation with the Group’s recognised unions on changes which impact their members. | |
Reviewing and enhancing people processes to ensure they are fit for purpose and operationally resilient. |
MONITORING
Monitoring and reporting is undertaken at Board, Group, entity and divisional committees. Key people risk metrics are reported and discussed monthly at the Group People Risk Committee with escalation to Group Risk and Executive Committees and the Board where required.
All material people risk events are escalated in accordance with the Group Operational Risk Policy.
DEFINITION
Insurance underwriting risk is defined as the risk of adverse developments in the timing, frequency and severity of claims for insured/underwritten events and in customer behaviour, leading to reductions in earnings and/or value.
EXPOSURES
The major source of insurance underwriting risk within the Group is the Insurance business.
Longevity and persistency are key risks within the life and pensions business. Longevity risk arises from the annuity portfolios where policyholders’ future cash flows are guaranteed at retirement and increases in life expectancy, beyond current assumptions, will increase the cost of annuities. Longevity risk exposures are expected to increase with the Insurance business growth in the annuity market. Persistency assumptions are set to give a best estimate, however customer behaviour may result in increased cancellations or cessation of contributions.
The Group’s defined benefit pension schemes also expose the Group to longevity risk. For further information please refer to the defined benefit pension schemes component of the market risk section and note 36 to the financial statements.
Property insurance risk is a key risk within the General Insurance business, through Home Insurance. Exposures can arise, for example, in extreme weather conditions such as flooding, when property damage claims are higher than expected.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
MEASUREMENT
Insurance underwriting risks are measured using a variety of techniques including stress, reverse stress and scenario testing, as well as stochastic modelling. Current and potential future insurance underwriting risk exposures are assessed and aggregated on a range of stresses including risk measures based on 1-in-200 year stresses for the Insurance business’ regulatory capital assessments and other supporting measures where appropriate, including those set out in note 33 to the financial statements.
MITIGATION
Insurance underwriting risk in the Insurance business is mitigated in a number of ways:
General Insurance exposure to accumulations of risk and possible catastrophes is mitigated by reinsurance arrangements broadly spread over different reinsurers. Detailed modelling, including that of the potential losses under various catastrophe scenarios, supports the choice of reinsurance arrangements. | |
Insurance processes on underwriting, claims management, pricing and product design. | |
Longevity risk transfer and hedging solutions are considered on a regular basis and since 2017 the Group have reinsured £3.1 billion of annuitant longevity. A team of longevity and pricing experts has been built to support the annuity proposition. | |
Exposure limits by risk type are assessed through the business planning process and used as a control mechanism to ensure risks are taken within risk appetite. |
MONITORING
Insurance underwriting risks in the Insurance business are monitored by Insurance senior executive committees and ultimately the Insurance Board. Significant risks from the Insurance business and the defined benefit pension schemes are reviewed by the Group Executive and Group Risk Committees and Board.
Insurance underwriting risk exposures within the Insurance business are monitored against risk appetite. The Insurance business monitors experiences against expectations, for example business volumes and mix, claims and persistency experience. The effectiveness of controls put in place to manage insurance underwriting risk is evaluated and significant divergences from experience or movements in risk exposures are investigated and remedial action taken.
DEFINITION
Capital risk is defined as the risk that the Group has a sub-optimal quantity or quality of capital or that capital is inefficiently deployed across the Group.
EXPOSURES
A capital risk exposure arises when the Group has insufficient capital resources to support its strategic objectives and plans, and to meet both regulatory and external stakeholder requirements and expectations. This could arise due to a depletion of the Group’s capital resources as a result of the crystallisation of any of the risks to which it is exposed. Alternatively a shortage of capital could arise from an increase in the amount of capital that needs to be held either at Group level, Ring-Fenced Bank (RFB) sub-group level or at a regulated entity level. The Group’s capital management approach is focused on maintaining sufficient capital resources across all regulated levels of its structure in order to prevent such exposures while optimising value for shareholders.
MEASUREMENT
The Group maintains capital levels commensurate with a prudent level of solvency and aims to deliver consistent and high quality returns to shareholders. To support this the capital risk appetite is calibrated by taking into consideration both an internal view of the amount of capital the Group should hold as well as recognising external regulatory requirements.
The Group measures both its capital requirements and the amount of capital resources it holds to meet those requirements through applying the regulatory framework defined by the Capital Requirements Directive and Regulation (CRD IV), as amended by provisions of the revised Capital Requirements Regulation (CRR II) that came into force in June 2019. Directive requirements are implemented in the UK by the Prudential Regulation Authority (PRA) and supplemented through additional regulation under the PRA Rulebook. Further details of the regulatory capital and leverage frameworks that the Group is subject to, including the means by which its capital and leverage requirements and capital resources are calculated, will be provided in the Group’s Pillar 3 Report.
The minimum amount of total capital, under Pillar 1 of the regulatory framework, is set at 8 per cent of total risk-weighted assets. At least 4.5 per cent of risk-weighted assets are required to be covered by common equity tier 1 (CET1) capital and at least 6 per cent of risk-weighted assets are required to be covered by tier 1 capital. These minimum Pillar 1 requirements are supplemented by additional minimum requirements under Pillar 2A of the regulatory framework, the aggregate of which is referred to as the Group’s Total Capital Requirement (TCR), and a number of regulatory capital buffers as described below.
Additional minimum requirements under Pillar 2A are set by the PRA as a firm-specific Individual Capital Requirement (ICR) reflecting a point in time estimate, which may change over time, of the minimum amount of capital that is needed by the Group to cover risks that are not fully covered by Pillar 1, such as credit concentration and operational risk, and those risks not covered at all by Pillar 1, such as pensions and interest rate risk in the banking book (IRRBB). The Group’s Pillar 2A capital requirement at 31 December 2019 was 4.6 per cent of risk-weighted assets, of which 2.6 per cent must be met by CET1 capital.
The Group is also required to hold a number of regulatory capital buffers which are required to be met with CET1 capital.
Systemic buffers are designed to hold systemically important banks to higher capital standards, so that they can withstand a greater level of stress before requiring resolution.
Although the Group is not currently classified as a global systemically important institution (G-SII) under the Capital Requirements Directive, it has been classified as an ‘other’ systemically important institution (O-SII) by the PRA. The O-SII buffer is set to zero in the UK. | |
The systemic risk buffer (SRB) came into force for UK ring-fenced banks during 2019, with the PRA setting a buffer of 2.0 per cent of risk-weighted assets for the RFB sub-group. The size of the buffer applied to the RFB sub-group is dependent upon its total assets. The SRB equates to 1.7 per cent of risk-weighted assets at Group level, with the difference reflecting the risk-weighted assets of the Group that are not in the Ring-Fenced Bank sub-group and for which the SRB does not therefore apply. |
The capital conservation buffer (CCB) is a standard buffer of 2.5 per cent of risk-weighted assets designed to provide for losses in the event of stress.
The countercyclical capital buffer (CCYB) is time-varying and is designed to require banks to hold additional capital to remove or reduce the build-up of systemic risk in times of credit boom, providing additional loss absorbing capacity and acting as an incentive for banks to constrain further credit growth. The amount of the buffer is determined by reference to buffer rates applied by the Bank of England’s Financial Policy Committee (FPC) for the individual countries where the Group has relevant credit exposures. The CCYB rate for the UK is currently set at 1.0 per cent and will increase to 2.0 per cent from December 2020 following a review by the FPC of the appropriate level to set in the current standard risk environment. As a result of this change the PRA will consult in 2020 on a reduction in Pillar 2A capital requirements by 50 per cent of the relevant bank specific increase in the CCYB, which would leave overall loss absorbing capacity (MREL) broadly unchanged, but increase the Group’s requirement plus buffers for CET1 by c.65 basis points.
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The Bank of England’s Financial Policy Committee (FPC) regularly considers the adequacy of the UK CCYB rate in light of the evolution of the overall risk environment. As at 31 December 2019 non-zero buffer rates also currently apply for Bulgaria, the Czech Republic, Denmark, France, Hong Kong, Iceland, Ireland, Lithuania, Norway, Slovakia and Sweden. During 2020 Belgium, Germany, and Luxembourg will implement non-zero buffer rates. The Group’s overall countercyclical capital buffer at 31 December 2019 was 0.9 per cent of risk-weighted assets which reflects the concentration of exposures of the Group to the UK.
As part of the capital planning process, forecast capital positions are subjected to wide ranging programme of stress testing to determine the adequacy of the Group’s capital resources against the minimum requirements, including the ICR. The PRA considers outputs from both the Group’s internal stress tests and the annual Bank of England stress test, in conjunction with the Group’s other regulatory capital buffers and non-stress related elements, as part of the process for informing the setting of a bank-specific capital buffer for the Group, known as the PRA Buffer. The PRA requires this buffer to remain confidential between the Group and the PRA.
All buffers are required to be met with CET1 capital. Usage of the PRA Buffer would trigger a dialogue between the Group and the PRA to agree what action is required whereas a breach of the CRD IV combined buffer (all other regulatory buffers, as referenced above) would give rise to mandatory restrictions upon any discretionary capital distributions.
In addition to the risk-based capital framework outlined above, the Group is also subject to minimum capital requirements under the UK Leverage Ratio Framework. The leverage ratio is calculated by dividing fully loaded tier 1 capital resources by the leverage exposure which is a defined measure of on-balance sheet assets and off-balance sheet items.
The minimum leverage ratio requirement under the UK Leverage Ratio Framework is 3.25 per cent. This is supplemented by a time-varying countercyclical leverage buffer (CCLB) which is determined by multiplying the leverage exposure measure by 35 per cent of the countercyclical capital buffer (CCYB) rate. As at 31 December 2019 the CCLB for the Group was 0.3 per cent. This is set to increase in proportion to the increase in the countercyclical capital buffer following the FPC’s decision to increase the UK CCYB rate to 2.0 per cent with effect from December 2020. An additional leverage ratio buffer (ALRB) of 0.7 per cent applies to the Ring-Fenced Bank sub-group and is determined by multiplying the Ring-Fenced Bank sub-group leverage exposure measure by 35 per cent of the SRB. This equates to 0.6 per cent of the total leverage exposure measure at Group level.
At least 75 per cent of the 3.25 per cent minimum leverage ratio requirement as well as 100 per cent of regulatory leverage buffers must be met by CET1 capital.
The leverage ratio framework does not currently give rise to higher regulatory capital requirements for the Group than the risk-based capital framework.
MITIGATION
The Group has a capital management framework that includes the setting of capital risk appetite. Close monitoring of capital and leverage ratios is undertaken to ensure the Group meets regulatory requirements and risk appetite levels and deploys its capital resources efficiently. Comprehensive stress testing analyses take place to evidence capital adequacy.
The Group maintains a recovery plan which sets out a range of potential mitigating actions that could be taken in response to a stress. For example, the Group is able to accumulate additional capital through the retention of profits over time, which can be enhanced through reducing or cancelling dividend payments and share buybacks, by raising new equity via, for example, a rights issue or debt exchange and by raising additional tier 1 or tier 2 capital securities. The cost and availability of additional capital is dependent upon market conditions and perceptions at the time. The Group is also able to manage the demand for capital through management actions including adjusting its lending strategy, risk hedging strategies and through business disposals.
MONITORING
The Group’s capital is actively managed and monitoring capital ratios is a key factor in the Group’s planning processes and stress testing, which separately cover the Ring-Fenced Bank sub-group and key individual banking entities. Multi-year base-case forecasts of the Group’s capital position, based upon the Group’s operating plan, are produced at least annually to inform the Group’s capital plan whilst shorter term forecasts are more frequently undertaken to understand and respond to variations of the Group’s actual performance against the plan. The Group’s capital plan is tested for capital adequacy using a range of stress scenarios and sensitivities covering adverse economic conditions as well as other adverse factors that could impact the Group.
The Group’s capital plan also considers the impact of IFRS 9 which has the potential to increase bank capital volatility. Under stress this is primarily a result of provisioning for assets that are not in default at an earlier stage than would have been the case under IAS 39.
In the short to medium term the IFRS 9 transitional arrangements for capital, which the Group has adopted, will provide some stability in capital requirements against the increased provisioning, measurement uncertainty and volatility introduced by IFRS 9.
For the Bank of England Annual Cyclical Scenario stress test, the Bank of England has taken action to avoid an unwarranted de facto increase in capital requirements that could result from the interaction of IFRS 9. The stress hurdle rates for banks participating in the exercise are adjusted to recognise the additional resilience provided by the earlier provisions taken under IFRS 9. The Bank of England is considering options for a more enduring treatment of IFRS9 provisions in the capital framework and alternative options will be explored further during the 2020 Bank of England ACS stress test.
Regular reporting of actual and base case and stress scenario projected ratios for Group, the Ring-Fenced Bank sub-group and key legal entities is undertaken, including submissions to the Group Capital Risk Committee (GCRC), Group Financial Risk Committee (GFRC), Group Asset and Liability Committee (GALCO), Group Risk Committee (GRC), Board Risk Committee (BRC) and the Board. Capital policies and procedures are well established and subject to independent oversight.
The regulatory framework within which the Group operates continues to evolve and further detail on this will be provided in the Group’s Pillar 3 report. The Group continues to monitor these developments very closely, analysing the potential capital impacts to ensure that, through organic capital generation and management actions, the Group continues to maintain a strong capital position that exceeds both minimum regulatory requirements and the Group’s risk appetite and is consistent with market expectations.
Target capital ratios
The Board’s view of the ongoing level of CET1 capital required by the Group to grow the business, meet regulatory requirements and cover uncertainties continues to be c12.5 per cent plus a management buffer of c.1 per cent.
This takes into account, amongst other things:
the minimum Pillar 1 CET1 capital requirement of 4.5 per cent of risk-weighted assets. | |
the Group’s Pillar 2A set by the PRA. During the year the PRA reduced the Group’s Pillar 2A requirement from 4.7 per cent to 4.6 per cent of risk-weighted assets at 31 December 2019, of which 2.6 per cent must be met by CET1 capital. | |
the capital conservation buffer (CCB) requirement of 2.5 per cent of risk-weighted assets. | |
the Group’s current countercyclical capital buffer (CCYB) requirement of 0.9 per cent of risk-weighted assets, which is set to increase following the FPC’s decision to increase the UK CCYB rate from 1.0 per cent to 2.0 per cent, effective from December 2020. In conjunction the PRA will consult during 2020 on a proposed reduction in Pillar 2A capital requirements by 50 per cent of this increase in the CCYB, equivalent to reducing the Pillar 2A CET1 requirement by 28 per cent of the increase. | |
the Ring-Fenced Bank sub-group’s systemic risk buffer (SRB) of 2.0 per cent of risk-weighted assets, which equates to 1.7 per cent of risk weighted assets at Group level. | |
the Group’s PRA Buffer, which the PRA sets after taking account of the results of the annual PRA stress test and other information, as well as outputs from the Group’s internal stress tests. The PRA requires the PRA Buffer itself to remain confidential between the Group and the PRA. |
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Dividend policy
The Group has established a policy to pay a progressive and sustainable ordinary dividend. Any growth in the ordinary dividend will be decided by the Board in light of the circumstances at the time.
The Board also gives due consideration to the return of capital through the use of special dividends or share buybacks. Surplus capital represents capital over and above the amount management wish to retain to grow the business, meet regulatory requirements and cover uncertainties. The amount of required capital may vary from time to time depending on circumstances and by its nature there can be no guarantee that any return of surplus capital will be appropriate.
The ability of the Group to pay a dividend is also subject to constraints including the availability of distributable reserves, legal and regulatory restrictions and the Group’s financial and operating performance.
Distributable reserves are determined as required by the Companies Act 2006 by reference to a company’s individual financial statements. At 31 December 2019 Lloyds Banking Group plc (‘the Company’) had accumulated distributable reserves of approximately £10 billion. Substantially all of the Company’s merger reserve is available for distribution under UK company law as a result of transactions undertaken to recapitalise the Company in 2009.
Lloyds Banking Group plc acts as a holding company which also issues capital and other securities to capitalise and fund the activities of the Group. The profitability of the holding company, and its ability to sustain dividend payments, is therefore dependent upon the continued receipt of dividends from its main operating subsidiaries, including Lloyds Bank plc (the Ring-Fenced Bank), Lloyds Bank Corporate Markets plc (the non-ring-fenced bank), LBG Equity Investments Limited and Scottish Widows Group Limited (the insurance business). The principal operating subsidiary is Lloyds Bank plc which, at 31 December 2019, had a consolidated CET1 capital ratio of 14.3 per cent (31 December 2018: 14.9 per cent). A number of Group subsidiaries, principally those with banking and insurance activities, are subject to regulatory capital requirements which require minimum amounts of capital to be maintained relative to their size and risk. The Group actively manages the capital of its subsidiaries, which includes monitoring the regulatory capital ratios for its banking and insurance subsidiaries and, on a consolidated basis, the RFB sub-group against approved risk appetite levels. The Group operates a formal capital management policy which requires all subsidiary entities to remit surplus capital to their parent companies.
In May 2019 the Group announced that it will move to the payment of quarterly dividends in 2020, with the first quarterly dividend in respect of the period to 31 March 2020 payable in June 2020. The new approach will result in three equal interim ordinary dividend payments for the first three quarters of the year followed by, subject to performance, a larger final dividend for the fourth quarter of the year. The first three quarterly payments, payable in June, September and December will be equal to 20 per cent of the previous year’s total ordinary dividend per share. The fourth quarter payment will be announced with the full year results, with the amount continuing to deliver a full year dividend payment that reflects the Group’s financial performance and objective of a progressive and sustainable ordinary dividend.
Minimum requirement for own funds and eligible liabilities (MREL)
In 2015, the Financial Stability Board established an international standard for the total loss absorbing capacity (TLAC) of global systemically important banks (G-SIBs). The standard, which applies from 1 January 2019, is designed to enhance the resilience of the global financial system by ensuring that failing G-SIBs have sufficient capital to absorb losses and recapitalise under resolution, whilst continuing to provide critical banking services.
At EU level, G-SIBs are subject to the minimum requirements for own funds and eligible liabilities (MREL) that came into force in June 2019 following the implementation of CRR II. The MREL framework reflects the European implementation of the global TLAC standard. The purpose of MREL is to require firms to maintain sufficient own funds and eligible liabilities that are capable of credibly bearing losses or recapitalising a bank whilst in resolution. MREL requirements can be satisfied by a combination of regulatory capital and certain unsecured liabilities (which must be subordinate to a firm’s operating liabilities).
In the UK the Bank of England has implemented the requirements of the TLAC standard through a statement of policy on MREL (the MREL SoP).
As the Group is not classified as a G-SIB it is not directly subject to the CRR II MREL requirements. However the Group is subject to the Bank of England’s MREL SoP and must therefore maintain a minimum level of MREL resources from 1 January 2020. The Group operates a single point of entry (SPE) resolution strategy, with Lloyds Banking Group plc as the designated resolution entity.
Applying the Bank of England’s MREL SoP to current minimum capital requirements, the Group’s indicative MREL requirement, excluding regulatory capital and leverage buffers, is as follows:
From 1 January 2020, the higher of 2 times Pillar 1 plus Pillar 2A, equivalent to 20.6 per cent of risk-weighted assets, or 6.5 per cent of the UK leverage ratio exposure measure | |
From 1 January 2022, the higher of 2 times Pillar 1 plus 2 times Pillar 2A, equivalent to 25.2 per cent of risk-weighted assets, or 6.5 per cent of the UK leverage ratio exposure measure. |
In addition, CET1 capital cannot be used to meet both MREL requirements and capital or leverage buffers.
The Bank of England will review the calibration of MREL in 2020 before setting final end-state requirements to be met from 2022. This review will take into consideration any changes to the capital framework, including the finalisation of the Basel III reforms.
Internal MREL requirements will also apply to the Group’s material sub-groups and entities, including the RFB sub-group, Lloyds Bank plc, Bank of Scotland plc and Lloyds Bank Corporate Markets plc, from 1 January 2020.
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Analysis of capital position
The Group’s adjusted CET1 capital build amounted to 207 basis points before PPI, and to 86 basis points after the in-year PPI charge, reflecting:
Underlying capital build (198 basis points), including the dividend paid up by the Insurance business in February 2020 in relation to its 2019 earnings (18 basis points) | |
Other movements (20 basis points), reflecting market movements and the continued optimisation of Commercial Banking risk-weighted assets, net of additional pension contributions and model updates | |
Offset by a reduction of 121 basis points relating to the in-year PPI charge and 11 basis points relating to the impact of changes arising from the implementation of IFRS 16 on risk-weighted assets. |
The Group’s capital position also benefitted by 34 basis points as a result of the cancellation of the remaining c.£650 million of the 2019 buyback programme, as announced in September 2019. The Group used 9 basis points of capital for the acquisition of the Tesco UK prime residential mortgage portfolio.
Overall the Group’s CET1 capital ratio is 15.0 per cent on an adjusted basis before ordinary dividends and 13.8 per cent on an adjusted basis after ordinary dividends (31 December 2018: 13.9 per cent an adjusted, after ordinary dividends and incorporating the effects of the share buyback announced in February 2019).
Excluding the Insurance dividend paid in February 2020 the Group’s actual CET1 ratio is 13.6 per cent after ordinary dividends (31 December 2018: 14.6 per cent).
The accrual for foreseeable dividends reflects the recommended final ordinary dividend of 2.25 pence per share.
The transitional total capital ratio, after ordinary dividends, reduced to 21.3 per cent (21.5 per cent on an adjusted basis), largely reflecting the reduction in CET1 capital and the net reduction in AT1 capital instruments, partially offset by the reduction in risk-weighted assets.
The UK leverage ratio, after ordinary dividends, reduced from 5.6 per cent on an adjusted basis to 5.2 per cent on an adjusted basis, largely reflecting the reduction in the fully loaded tier 1 capital position, partially offset by a reduction in the exposure measure.
Total capital requirement
The Group’s total capital requirement (TCR) as at 31 December 2019, being the aggregate of the Group’s Pillar 1 and current Pillar 2A capital requirements, was £25,608 million (31 December 2018: £26,124 million).
Capital resources
An analysis of the Group’s capital position as at 31 December 2019 is presented in the following section on both a CRD IV transitional arrangements basis and a CRD IV fully loaded basis, as amended by provisions of the revised Capital Requirements Regulation (CRR II) that came into force in June 2019. In addition the Group’s capital position reflects the application of the transitional arrangements for IFRS 9.
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Table Y:Capital resources
The table below summarises the consolidated capital position of the Group. The Group’s Pillar 3 Report will provide a comprehensive analysis of the own funds of the Group.
Transitional | Fully loaded | |||||||||||||||
At 31 Dec 2019 £m | At 31 Dec 2018 £m | At 31 Dec 2019 £m | At 31 Dec 2018 £m | |||||||||||||
Common equity tier 1 | ||||||||||||||||
Shareholders’ equity per balance sheet | 41,697 | 43,434 | 41,697 | 43,434 | ||||||||||||
Adjustment to retained earnings for foreseeable dividends | (1,586 | ) | (1,523 | ) | (1,586 | ) | (1,523 | ) | ||||||||
Deconsolidation adjustments1 | 2,337 | 2,273 | 2,337 | 2,273 | ||||||||||||
Adjustment for own credit | 26 | (280 | ) | 26 | (280 | ) | ||||||||||
Cash flow hedging reserve | (1,504 | ) | (1,051 | ) | (1,504 | ) | (1,051 | ) | ||||||||
Other adjustments | 247 | (19 | ) | 247 | (19 | ) | ||||||||||
41,217 | 42,834 | 41,217 | 42,834 | |||||||||||||
less: deductions from common equity tier 1 | ||||||||||||||||
Goodwill and other intangible assets | (4,179 | ) | (3,667 | ) | (4,179 | ) | (3,667 | ) | ||||||||
Prudent valuation adjustment | (509 | ) | (529 | ) | (509 | ) | (529 | ) | ||||||||
Excess of expected losses over impairment provisions and value adjustments | (243 | ) | (27 | ) | (243 | ) | (27 | ) | ||||||||
Removal of defined benefit pension surplus | (531 | ) | (994 | ) | (531 | ) | (994 | ) | ||||||||
Securitisation deductions | (185 | ) | (191 | ) | (185 | ) | (191 | ) | ||||||||
Significant investments1 | (4,626 | ) | (4,222 | ) | (4,626 | ) | (4,222 | ) | ||||||||
Deferred tax assets | (3,200 | ) | (3,037 | ) | (3,200 | ) | (3,037 | ) | ||||||||
Common equity tier 1 capital | 27,744 | 30,167 | 27,744 | 30,167 | ||||||||||||
Additional tier 1 | ||||||||||||||||
Other equity instruments | 5,881 | 6,466 | 5,881 | 6,466 | ||||||||||||
Preference shares and preferred securities2 | 4,127 | 4,008 | – | – | ||||||||||||
Transitional limit and other adjustments | (2,474 | ) | (1,804 | ) | – | – | ||||||||||
7,534 | 8,670 | 5,881 | 6,466 | |||||||||||||
less: deductions from tier 1 | ||||||||||||||||
Significant investments1 | (1,286 | ) | (1,298 | ) | – | – | ||||||||||
Total tier 1 capital | 33,992 | 37,539 | 33,625 | 36,633 | ||||||||||||
Tier 2 | ||||||||||||||||
Other subordinated liabilities2 | 13,003 | 13,648 | 13,003 | 13,648 | ||||||||||||
Deconsolidation of instruments issued by insurance entities1 | (1,796 | ) | (1,767 | ) | (1,796 | ) | (1,767 | ) | ||||||||
Adjustments for transitional limit and non-eligible instruments | 2,278 | 1,504 | (2,204 | ) | (1,266 | ) | ||||||||||
Amortisation and other adjustments | (3,101 | ) | (2,717 | ) | (3,101 | ) | (2,717 | ) | ||||||||
10,384 | 10,668 | 5,902 | 7,898 | |||||||||||||
less: deductions from tier 2 | ||||||||||||||||
Significant investments1 | (960 | ) | (973 | ) | (2,246 | ) | (2,271 | ) | ||||||||
Total capital resources | 43,416 | 47,234 | 37,281 | 42,260 | ||||||||||||
Risk-weighted assets | 203,431 | 206,366 | 203,431 | 206,366 | ||||||||||||
Common equity tier 1 capital ratio3 | 13.6% | 14.6% | 13.6% | 14.6% | ||||||||||||
Tier 1 capital ratio | 16.7% | 18.2% | 16.5% | 17.8% | ||||||||||||
Total capital ratio | 21.3% | 22.9% | 18.3% | 20.5% |
1 | For regulatory capital purposes, the Group’s Insurance business is deconsolidated and replaced by the amount of the Group’s investment in the business. A part of this amount is deducted from capital (via ’significant investments’ in the table above) and the remaining amount is risk-weighted, forming part of threshold risk-weighted assets. |
2 | Preference shares, preferred securities and other subordinated liabilities are categorised as subordinated liabilities in the balance sheet. |
3 | The common equity tier 1 ratio is 13.8 per cent on an adjusted basis reflecting the dividend paid up by the Insurance business in February 2020 in relation to its 2019 earnings (31 December 2018: 13.9 per cent on an adjusted basis, incorporating the effects of the share buyback announced in February 2019). |
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Movements in capital resources
The key difference between the transitional capital calculation as at 31 December 2019 and the fully loaded equivalent is primarily related to capital securities that previously qualified as tier 1 or tier 2 capital, but that do not fully qualify under the regulation, which can be included in additional tier 1 (AT1) or tier 2 capital (as applicable) up to specified limits which reduce by 10 per cent per annum until 2022. In addition, following revisions to eligibility criteria for capital instruments under CRR II, certain tier 1 capital instruments of the Group that will transition to tier 2 capital by 2022 will cease to qualify as regulatory capital in June 2025. The key movements on a transitional basis are set out in the table below.
Table Z:Movements in capital resources
Common Equity tier 1 £m | Additional Tier 1 £m | Tier 2 £m | Total capital £m | |||||||||||||
At 31 December 2018 | 30,167 | 7,372 | 9,695 | 47,234 | ||||||||||||
Banking profit attributable to ordinary shareholders1 | 2,228 | – | – | 2,228 | ||||||||||||
Movement in foreseeable dividends2 | (63 | ) | – | – | (63 | ) | ||||||||||
Dividends paid out on ordinary shares during the year | (2,312 | ) | – | – | (2,312 | ) | ||||||||||
Dividends received from the Insurance business1 | 450 | – | – | 450 | ||||||||||||
Share buyback completed | (1,095 | ) | – | – | (1,095 | ) | ||||||||||
IFRS 9 transitional adjustment to retained earnings | (49 | ) | – | – | (49 | ) | ||||||||||
Movement in treasury shares and employee share schemes | 233 | – | – | 233 | ||||||||||||
Pension movements: | ||||||||||||||||
Removal of defined benefit pension surplus | 463 | – | – | 463 | ||||||||||||
Movement through other comprehensive income | (1,117 | ) | – | – | (1,117 | ) | ||||||||||
Fair value through other comprehensive income reserve | (142 | ) | – | – | (142 | ) | ||||||||||
Prudent valuation adjustment | 20 | – | – | 20 | ||||||||||||
Deferred tax asset | (163 | ) | – | – | (163 | ) | ||||||||||
Goodwill and other intangible assets | (512 | ) | – | – | (512 | ) | ||||||||||
Excess of expected losses over impairment provisions and value adjustments | (216 | ) | – | – | (216 | ) | ||||||||||
Significant investments | (404 | ) | 12 | 13 | (379 | ) | ||||||||||
Movements in other equity, subordinated debt and other tier 2 items: | ||||||||||||||||
Repurchases, redemptions and other | – | (2,032 | ) | (284 | ) | (2,316 | ) | |||||||||
Issuances | – | 896 | – | 896 | ||||||||||||
Other movements | 256 | – | – | 256 | ||||||||||||
At 31 December 2019 | 27,744 | 6,248 | 9,424 | 43,416 |
1 | Under the regulatory framework, profits made by Insurance are removed from CET1 capital. However, when dividends are paid to the Group by Insurance these are recognised through CET1 capital. The £450 million of dividends received from Insurance during the year include £350 million in respect of their 2018 full year ordinary dividend and £100 million in respect of their 2019 interim ordinary dividend. |
2 | Reflects the accrual for the 2019 full year ordinary dividend and the reversal of the accrual for the 2018 full year ordinary dividend which was paid during the year. |
CET1 capital resources have reduced by £2,423 million over the year, primarily reflecting:
the interim dividend paid in September 2019 and the accrual for the 2019 full year ordinary dividend | |
the extent of the 2019 share buyback programme completed during the year prior to the cancellation of the remaining 2019 buyback programme in September 2019 | |
the impact of additional pension contributions made during the year | |
the increase in other intangible assets, excess expected losses and significant investments in financial sector entities | |
offset in part by profit generation during the year (net of PPI provision charges), the receipt of dividends paid by the Insurance business during the year and movements in treasury shares and employee share schemes |
AT1 capital resources have reduced by £1,124 million over the year, primarily reflecting a redemption during the year and the annual reduction in the transitional limit applied to grandfathered AT1 capital instruments, offset in part by the issuance of new capital instruments.
Tier 2 capital resources have reduced by £271 million over the year, largely reflecting the amortisation of dated instruments and a reduction in eligible provisions, partially offset by the transitioning of grandfathered AT1 instruments to tier 2.
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Table AA:Minimum requirement for own funds and eligible liabilities (MREL)
An analysis of the Group’s current transitional MREL position is provided below.
Transitional2 | ||||||||
At 31 Dec 2019 £m | At 31 Dec 2018 £m | |||||||
Total capital resources (transitional basis) | 43,416 | 47,234 | ||||||
Ineligible AT1 and tier 2 instruments1 | (874 | ) | (613 | ) | ||||
Amortised portion of eligible tier 2 instruments issued by Lloyds Banking Group plc | 24 | – | ||||||
Senior unsecured securities issued by Lloyds Banking Group plc | 23,554 | 20,213 | ||||||
Total MREL resources2 | 66,120 | 66,834 | ||||||
Risk-weighted assets | 203,431 | 206,366 | ||||||
MREL ratio3 | 32.5% | 32.4% | ||||||
Leverage exposure measure | 654,387 | 663,277 | ||||||
MREL leverage ratio | 10.1% | 10.1% |
1 | Instruments with less than one year to maturity or governed under non-EEA law without a contractual bail-in clause. |
2 | Until 2022, externally issued regulatory capital in operating entities can count towards the Group’s MREL to the extent that such capital would count towards the Group’s consolidated capital resources. |
3 | The MREL ratio is 32.6 per cent on an adjusted basis upon recognition of the dividend paid up by the Insurance business in February 2020 in relation to its 2019 earnings (31 December 2018: 32.6 per cent on an adjusted basis). |
During 2019, the Group issued externally £3.5 billion (sterling equivalent) of senior unsecured securities from Lloyds Banking Group plc which, while not included in total capital, are eligible to meet MREL requirements. Combined with previous issuances made over the last few years the Group remains comfortably positioned to meet MREL requirements from 1 January 2020 and, as at 31 December 2019, had a transitional MREL ratio of 32.5 per cent of risk-weighted assets.
Total MREL resources reduced by £714 million, largely as a result of the reduction in total capital resources, offset in part by the increase in senior unsecured securities following the issuances made during the year.
Table AB:Risk-weighted assets
At 31 Dec 2019 £m | At 31 Dec 2018 £m | |||||||
Foundation Internal Ratings Based (IRB) Approach | 53,842 | 60,555 | ||||||
Retail IRB Approach | 63,208 | 59,522 | ||||||
Other IRB Approach | 18,544 | 15,666 | ||||||
IRB Approach | 135,594 | 135,743 | ||||||
Standardised (STA) Approach | 24,420 | 25,757 | ||||||
Credit risk | 160,014 | 161,500 | ||||||
Counterparty credit risk | 5,083 | 5,718 | ||||||
Contributions to the default funds of central counterparties | 210 | 830 | ||||||
Credit valuation adjustment risk | 584 | 702 | ||||||
Operational risk | 25,482 | 25,505 | ||||||
Market risk | 1,790 | 2,085 | ||||||
Underlying risk-weighted assets | 193,163 | 196,340 | ||||||
Threshold risk-weighted assets1 | 10,268 | 10,026 | ||||||
Total risk-weighted assets | 203,431 | 206,366 |
1 | Threshold risk-weighted assets reflect the element of significant investments and deferred tax assets that are permitted to be risk-weighted instead of being deducted from CET1 capital. Significant investments primarily arise from investment in the Group’s Insurance business. |
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Table AC:Risk-weighted assets movement by key driver
Credit risk IRB £m | Credit risk STA £m | Credit risk total1 £m | Counterparty credit risk2 £m | Market risk £m | Operational risk £m | Total £m | ||||||||||||||||||||||
Total risk-weighted assets as at 31 December 2018 | 206,366 | |||||||||||||||||||||||||||
Less threshold risk-weighted assets3 | (10,026 | ) | ||||||||||||||||||||||||||
Risk-weighted assets as at 31 December 2018 | 135,743 | 25,757 | 161,500 | 7,250 | 2,085 | 25,505 | 196,340 | |||||||||||||||||||||
Asset size | (2,707 | ) | (1,184 | ) | (3,891 | ) | (257 | ) | (110 | ) | – | (4,258 | ) | |||||||||||||||
Asset quality | 2,190 | (682 | ) | 1,508 | (672 | ) | – | – | 836 | |||||||||||||||||||
Model updates | 2,284 | – | 2,284 | – | (110 | ) | – | 2,174 | ||||||||||||||||||||
Methodology and policy | (1,083 | ) | (747 | ) | (1,830 | ) | (339 | ) | 4 | – | (2,165 | ) | ||||||||||||||||
Acquisitions and disposals | – | 1,326 | 1,326 | – | – | – | 1,326 | |||||||||||||||||||||
Movements in risk levels (market risk only) | – | – | – | – | (79 | ) | – | (79 | ) | |||||||||||||||||||
Foreign exchange movements | (833 | ) | (50 | ) | (883 | ) | (105 | ) | – | – | (988 | ) | ||||||||||||||||
Other | – | – | – | – | – | (23 | ) | (23 | ) | |||||||||||||||||||
Risk-weighted assets as at 31 December 2019 | 135,594 | 24,420 | 160,014 | 5,877 | 1,790 | 25,482 | 193,163 | |||||||||||||||||||||
Threshold risk-weighted assets3 | 10,268 | |||||||||||||||||||||||||||
Risk-weighted assets as at 31 December 2019 | 203,431 |
1 | Credit risk includes securitisation risk-weighted assets. |
2 | Counterparty credit risk includes movements in contributions to the default funds of central counterparties and movements in credit valuation adjustment risk. |
3 | Threshold risk-weighted assets reflect the element of significant investments and deferred tax assets that are permitted to be risk-weighted instead of being deducted from CET1 capital. Significant investments primarily arise from investments in the Group’s Insurance business. |
The risk-weighted assets movement table provides analysis of the movement in risk-weighted assets in the period by risk type and an insight into the key drivers of the movements. The key driver analysis is compiled on a monthly basis through the identification and categorisation of risk-weighted asset movements and is subject to management judgment.
Credit risk, risk-weighted assets:
Asset size reduction of £3.9 billion, largely driven by commercial portfolio management, includes changes in book size (both drawn and undrawn balances) and composition, excluding acquisitions and disposals. | |
Asset quality increase of £1.5 billion includes increases in the valuation of equity investments as well as movements due to changes in borrower risk, including changes in the macro-economic environment | |
Model updates increase in risk-weighted assets of £2.3 billion which relates to changes to the Retail mortgage models | |
Methodology and policy changes reduced risk-weighted assets by £1.8 billion principally as a result of securitisation activity, partially offset by the introduction of IFRS 16. | |
Acquisition and disposals increase of £1.3 billion reflects the purchase of the Tesco Bank UK prime residential mortgage portfolio. |
Counterparty credit risk, risk-weighted assets reduced by £1.4 billion due to reduced contributions to the default fund of a central counterparty, movement in CVA and a reduction in asset size.
Market risk, risk-weighted assets reductions of £0.3 billion were driven by refinements to internal models, a change in the business model following ring-fencing and movement in risk levels.
Leverage ratio
Analysis of leverage movements
The Group’s fully loaded UK leverage ratio reduced to 5.1 per cent, primarily driven by the reduction in tier 1 capital. This was partially offset by the £8.9 billion reduction in the leverage exposure measure which largely reflected the reduction in the derivatives exposure measure and off-balance sheet items.
On an adjusted basis the UK leverage ratio reduced to 5.2 per cent from 5.6 per cent, on an adjusted basis at 31 December 2018.
The derivatives exposure measure, representing derivative financial instruments per the balance sheet net of deconsolidation and derivatives adjustments, reduced by £3.6 billion during the period, predominantly reflecting a move from a collateralised-to-market to a settled-to-market approach for swaps transacted through a central counterparty.
The SFT exposure measure, representing SFT assets per the balance sheet net of deconsolidation and other SFT adjustments, reduced by £0.6 billion during the period, largely reflecting a reduction in volumes.
Off-balance sheet items reduced by £3.2 billion during the period, reflecting an overall reduction in corporate facilities driven by commercial portfolio management, offset in part by new residential mortgage offers placed.
The average UK leverage ratio of 5.0 per cent over the quarter largely reflected a higher average exposure measure compared to the position at 31 December 2019, with the reductions in the derivative exposure measure and off-balance sheet items described above largely occurring towards the end of the quarter.
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Table AD:Leverage ratio
Fully loaded | ||||||||
At 31 Dec 2019 £m | At 31 Dec 2018 £m | |||||||
Total tier 1 capital for leverage ratio | ||||||||
Common equity tier 1 capital | 27,744 | 30,167 | ||||||
Additional tier 1 capital | 5,881 | 6,466 | ||||||
Total tier 1 capital | 33,625 | 36,633 | ||||||
Exposure measure | ||||||||
Statutory balance sheet assets | ||||||||
Derivative financial instruments | 26,369 | 23,595 | ||||||
Securities financing transactions | 67,424 | 69,301 | ||||||
Loans and advances and other assets | 740,100 | 704,702 | ||||||
Total assets | 833,893 | 797,598 | ||||||
Qualifying central bank claims | (49,590 | ) | (50,105 | ) | ||||
Deconsolidation adjustments1 | ||||||||
Derivative financial instruments | (1,293 | ) | (1,376 | ) | ||||
Securities financing transactions | (334 | ) | (487 | ) | ||||
Loans and advances and other assets | (167,410 | ) | (130,048 | ) | ||||
Total deconsolidation adjustments | (169,037 | ) | (131,911 | ) | ||||
Derivatives adjustments | ||||||||
Adjustments for regulatory netting | (11,298 | ) | (8,828 | ) | ||||
Adjustments for cash collateral | (12,551 | ) | (10,536 | ) | ||||
Net written credit protection | 458 | 539 | ||||||
Regulatory potential future exposure | 16,337 | 18,250 | ||||||
Total derivatives adjustments | (7,054 | ) | (575 | ) | ||||
Securities financing transactions adjustments | 1,164 | 40 | ||||||
Off-balance sheet items | 53,191 | 56,393 | ||||||
Regulatory deductions and other adjustments | (8,180 | ) | (8,163 | ) | ||||
Total exposure measure2 | 654,387 | 663,277 | ||||||
Average exposure measure3 | 667,433 | |||||||
UK Leverage ratio2,4 | 5.1% | 5.5% | ||||||
Average UK leverage ratio3 | 5.0% | |||||||
CRD IV exposure measure5 | 703,977 | 713,382 | ||||||
CRD IV leverage ratio5 | 4.8% | 5.1% |
1 | Deconsolidation adjustments relate to the deconsolidation of certain Group entities that fall outside the scope of the Group’s regulatory capital consolidation, being primarily the Group’s Insurance business. |
2 | Calculated in accordance with the UK Leverage Ratio Framework which requires qualifying central bank claims to be excluded from the leverage exposure measure. |
3 | The average UK leverage ratio is based on the average of the month end tier 1 capital position and average exposure measure over the quarter (1 October 2019 to 31 December 2019). The average of 5.0 per cent compares to 4.9 per cent at the start and 5.1 per cent at the end of the quarter. |
4 | The UK leverage ratio is 5.2 per cent on an adjusted basis upon recognition of the dividend paid up by the Insurance business in February 2020 in relation to its 2019 earnings (31 December 2018: 5.6 per cent on an adjusted basis). |
5 | Calculated in accordance with CRD IV rules which include central bank claims within the leverage exposure measure. |
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Table AE :Application of IFRS 9 on a full impact basis for capital and leverage
IFRS 9 full impact | ||||||||
At 31 Dec 2019 | At 31 Dec 2018 | |||||||
Common equity tier 1 (£m) | 27,002 | 29,592 | ||||||
Transitional tier 1 (£m) | 33,249 | 36,964 | ||||||
Transitional total capital (£m) | 43,153 | 47,195 | ||||||
Total risk-weighted assets (£m) | 203,083 | 206,614 | ||||||
Common equity tier 1 ratio (%) | 13.3% | 14.3% | ||||||
Transitional tier 1 ratio (%) | 16.4% | 17.9% | ||||||
Transitional total capital ratio (%) | 21.2% | 22.8% | ||||||
UK leverage ratio exposure measure (£m) | 653,643 | 663,182 | ||||||
UK leverage ratio (%) | 5.0% | 5.4% |
The Group has opted to apply paragraph 4 of CRR Article 473a (the ‘transitional rules’) which allows for additional capital relief in respect of any post 1 January 2018 increase in Stage 1 and Stage 2 IFRS 9 expected credit loss provisions (net of regulatory expected losses) during the transition period. As at 31 December 2019 no additional capital relief has been recognised.
Stress testing
The Group undertakes a wide-ranging programme of stress testing providing a comprehensive view of the potential impacts arising from the risks to which the Group and its key legal entities are exposed. One of the most important uses of stress testing is to assess the resilience of the operational and strategic plans of the Group and its legal entities to adverse economic conditions and other key vulnerabilities. As part of this programme the Group conducted a macroeconomic stress test of the four year operating plan in the first quarter of 2019.
The Group also participates in the UK wide Annual Cyclical Scenario stress tests run by the Bank of England. In the 2019 Bank of England stress test the Group exceeded the capital and leverage hurdles on a transitional basis after the application of management actions and was not required to take any action as a result of the test.
G-SIB indicators
Although the Group is not currently classified as a Global Systemically Important Bank (G-SIB), by virtue of the Group’s leverage exposure measure exceeding €200 billion the Group is required to report G-SIB indicator metrics to the PRA. The Group’s indicator metrics used within the 2019 Basel G-SIBs annual exercise will be disclosed from April 2020 and the results are expected to be made available by the Basel Committee later this year.
Insurance businesses
The business transacted by the insurance companies within the Group comprises both life insurance business and General Insurance business. Life insurance business comprises unit-linked business, non-profit business and with-profits business.
Scottish Widows Limited (SW Ltd) holds the only with-profit fund managed by the Group. Each insurance company within the Group is regulated by the PRA.
The Solvency II regime for insurers and insurance groups came into force from 1 January 2016. The insurance businesses are required to calculate solvency capital requirements and available capital on a risk-based approach. The Insurance business of the Group calculates regulatory capital on the basis of an internal model, which was approved by the PRA on 5 December 2015, with the latest major change to the model approved in December 2019.
The minimum required capital must be maintained at all times throughout the year. These capital requirements and the capital available to meet them are regularly estimated in order to ensure that capital maintenance requirements are being met.
All minimum regulatory requirements of the insurance companies have been met during the year.
DEFINITION
Funding risk is defined as the risk that the Group does not have sufficiently stable and diverse sources of funding. Liquidity risk is defined as the risk that the Group has insufficient financial resources to meet its commitments as they fall due.
EXPOSURE
Liquidity exposure represents the potential stressed outflows in any future period less expected inflows. The Group considers liquidity exposure from both an internal and a regulatory perspective.
MEASUREMENT
Liquidity risk is managed through a series of measures, tests and reports that are primarily based on contractual maturities with behavioural overlays as appropriate. Note 53 on page F-120 sets out an analysis of assets and liabilities by relevant maturity grouping. The Group undertakes quantitative and qualitative analysis of the behavioural aspects of its assets and liabilities in order to reflect their expected behaviour.
MITIGATION
The Group manages and monitors liquidity risks and ensures that liquidity risk management systems and arrangements are adequate with regard to the internal risk appetite, Group strategy and regulatory requirements. Liquidity policies and procedures are subject to independent internal oversight by Risk. Overseas branches and subsidiaries of the Group may also be required to meet the liquidity requirements of the entity’s domestic country. Management of liquidity requirements is performed by the overseas branch or subsidiary in line with Group policy. Liquidity risk of the Insurance business is actively managed and monitored within the Insurance business. The Group plans funding requirements over the life of the funding plan, combining business as usual and stressed conditions. The Group manages its liquidity position both with regard to its internal risk appetite and the Liquidity Coverage Ratio (LCR) as required by the PRA and Capital Requirements Directive and Regulation (CRD IV) liquidity requirements.
The Group’s funding and liquidity position is underpinned by its significant customer deposit base, and is supported by strong relationships across customer segments. The Group has consistently observed that in aggregate the retail deposit base provides a stable source of funding. Funding concentration by counterparty, currency and tenor is monitored on an ongoing basis and where concentrations do exist, these are managed as part of the planning process and limited by internal funding and liquidity risk monitoring framework, with analysis regularly provided to senior management.
To assist in managing the balance sheet, the Group operates a Liquidity Transfer Pricing (LTP) process which: allocates relevant interest expenses from the centre to the Group’s banking businesses within the internal management accounts; helps drive the correct inputs to customer pricing; and is consistent with regulatory requirements. LTP makes extensive use of behavioural maturity profiles, taking account of expected customer loan prepayments and stability of customer deposits, modelled on historic data.
The Group can monetise liquid assets quickly, either through the repurchase agreements (repo) market or through outright sale. In addition, the Group has pre-positioned a substantial amount of assets at the Bank of England’s Discount Window Facility which can be used to access additional liquidity in a time of stress. The Group considers diversification
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across geography, currency, markets and tenor when assessing appropriate holdings of liquid assets. The Group’s liquid asset buffer is available for deployment at immediate notice, subject to complying with regulatory requirements.
Liquidity risk within the Insurance business may result from: the inability to sell financial assets quickly at their fair values; an insurance liability falling due for payment earlier than expected; the inability to generate cash inflows as anticipated; an unexpected large operational event; or from a general insurance catastrophe, for example, a significant weather event. Liquidity risk is actively managed and monitored within the Insurance business to ensure that it remains within approved risk appetite, so that even under stress conditions, there is sufficient liquidity to meet obligations.
MONITORING
MonitoringDaily monitoring and reporting is undertaken at Board,control processes are in place to address internal and regulatory liquidity requirements. The Group monitors a range of market and business area committees. Asinternal early warning indicators on a daily basis for early signs of liquidity risk in the market or specific to the Group. This captures regulatory metrics as well as metrics the Group considers relevant for its liquidity profile. These are a mixture of quantitative and qualitative measures, including: daily variation of customer balances; changes in maturity profiles; funding concentrations; changes in LCR outflows; credit default swap (CDS) spreads; and basis risks.
The Group carries out internal stress testing of its liquidity and potential cash flow mismatch position over both short (up to one month) and longer-term horizons against a range of scenarios forming an important part of the reportinginternal risk appetite. The scenarios and assumptions are reviewed at least annually to ensure that they continue to be relevant to the nature of CRAMs,the business including reflecting emerging horizon risks to the Group. For further information on the Group’s 2019 liquidity stress testing results refer to page 98.
The Group maintains a Contingency Funding Framework as part of the wider Recovery Plan which is designed to identify emerging liquidity concerns at an early stage, so that mitigating actions can be taken to avoid a more serious crisis developing. Contingency Funding Plan invocation and escalation processes are based on analysis of five major quantitative and qualitative components, comprising assessment of: early warning indicators; prudential and regulatory liquidity risk limits and triggers; stress testing results; event and systemic indicators; and market intelligence.
Funding and liquidity management in 2019
The Group has maintained its strong funding and liquidity position with a stable loan to deposit ratio of 107 per cent.
During 2019, the Group repaid its Funding for Lending Scheme (FLS) contractual maturities of £12.1 billion and early repaid £4.5 billion of its Term Funding Scheme (TFS) drawings, representing all of its 2020 TFS maturities. This has reduced the balance of FLS outstanding to £1 billion and the balance of TFS to £15.4 billion as at 31 December 2019.
The Group’s liquidity coverage ratio (LCR) was 137 per cent (based on a monthly rolling average over the previous 12 months) as at 31 December 2019 calculated on a consolidated basis based on the EU Delegated Act. Following the implementation of structural reform, liquidity risk is managed at a legal entity level with the Group consolidated LCR representing the composite of the ring-fenced bank and non ring-fenced bank entities.
The Group’s credit ratings continue to reflect its robust outcomesbalance sheet, resilient underlying profitability and bail-in capital position. There were no changes to the ratings over 2019, although in November, Moody’s revised the Group’s and Lloyds Bank plc’s outlooks to negative due to concern relating to the UK’s exit from the European Union. In March Fitch placed the majority of UK banks, including the Group’s entities, on Ratings Watch Negative before stabilising the ratings in December given the reduced risk of a no-deal exit from the EU.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table AF:Group funding position
At 31 Dec 2019 £bn | At 31 Dec 2018 £bn | Change % | ||||||||||
Funding requirement | ||||||||||||
Loans and advances to customers1 | 440.4 | 444.4 | (1 | ) | ||||||||
Loans and advances to banks2 | 8.1 | 5.9 | 37 | |||||||||
Debt securities at amortised cost | 3.9 | 4.0 | (5 | ) | ||||||||
Reverse repurchase agreements | – | – | – | |||||||||
Financial assets at fair value through other comprehensive income – non-LCR eligible3 | 0.1 | 0.8 | (75 | ) | ||||||||
Cash and balances at central bank – non-LCR eligible4 | 5.7 | 5.8 | (2 | ) | ||||||||
Funded assets | 458.2 | 460.9 | – | |||||||||
Other assets5 | 251.7 | 212.9 | 18 | |||||||||
709.9 | 673.8 | |||||||||||
On balance sheet LCR eligible liquid assets | ||||||||||||
Reverse repurchase agreements | 56.2 | 40.9 | 37 | |||||||||
Cash and balances at central banks4 | 49.4 | 48.9 | 1 | |||||||||
Debt securities at amortised cost | 1.6 | 1.2 | 42 | |||||||||
Financial assets at fair value through other comprehensive income | 25.0 | 24.0 | 4 | |||||||||
Trading and fair value through profit and loss | 4.0 | 11.9 | (66 | ) | ||||||||
Repurchase agreements | (12.2 | ) | (3.1 | ) | ||||||||
124.0 | 123.8 | – | ||||||||||
Total Group assets | 833.9 | 797.6 | 5 | |||||||||
Less: other liabilities5 | (230.6 | ) | (187.9 | ) | 23 | |||||||
Funding requirement | 603.3 | 609.7 | (1 | ) | ||||||||
Funded by | ||||||||||||
Customer deposits6 | 411.8 | 416.3 | ||||||||||
Wholesale funding7 | 128.3 | 123.3 | 4 | |||||||||
540.1 | 539.6 | – | ||||||||||
Term funding scheme | 15.4 | 19.9 | (23 | ) | ||||||||
Total equity | 47.8 | 50.2 | (5 | ) | ||||||||
Total funding | 603.3 | 609.7 | (1 | ) |
1 | Excludes reverse repos of £54.6 billion (31 December 2018: £40.5 billion). |
2 | Excludes £0.1 billion (31 December 2018: £nil) of loans and advances to banks within the Insurance business and £1.6 billion (31 December 2018: £0.4 billion) of reverse repurchase agreements. |
3 | Non-LCR eligible liquid assets comprise a diversified pool of highly rated unencumbered collateral (including retained issuance). |
4 | Cash and balances at central banks are combined in the Group’s balance sheet. |
5 | Other assets and other liabilities primarily include balances in the Group’s Insurance business and the fair value of derivative assets and liabilities. |
6 | Excludes repos of £9.5 billion (31 December 2018: £1.8 billion). |
7 | The Group’s definition of wholesale funding aligns with that used by other international market participants; including interbank deposits, debt securities in issue and subordinated liabilities. |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table AGReconciliation of Group funding to the balance sheet (audited)
Included in funding analysis £bn | Repos and cash collateral received by Insurance £bn | Fair value and other accounting methods £bn | Balance sheet £bn | |||||||||||||
At 31 December 2019 | ||||||||||||||||
Deposits from banks | 9.6 | 18.7 | (0.1 | ) | 28.2 | |||||||||||
Debt securities in issue | 102.1 | – | (4.4 | ) | 97.7 | |||||||||||
Subordinated liabilities | 16.6 | – | 0.5 | 17.1 | ||||||||||||
Total wholesale funding | 128.3 | 18.7 | ||||||||||||||
Customer deposits | 411.8 | 9.5 | – | 421.3 | ||||||||||||
Total | 540.1 | 28.2 | ||||||||||||||
At 31 December 2018 | ||||||||||||||||
Deposits from banks | 8.3 | 22.1 | (0.1 | ) | 30.3 | |||||||||||
Debt securities in issue | 97.1 | – | (5.9 | ) | 91.2 | |||||||||||
Subordinated liabilities | 17.9 | – | (0.2 | ) | 17.7 | |||||||||||
Total wholesale funding | 123.3 | 22.1 | ||||||||||||||
Customer deposits | 416.3 | 1.8 | – | 418.1 | ||||||||||||
Total | 539.6 | 23.9 |
Table AH:Analysis of 2019 total wholesale funding by residual maturity
Less than one month £bn | One to three months £bn | Three to six months £bn | Six to nine months £bn | Nine months to one year £bn | One to two years £bn | Two to five years £bn | More than five years £bn | Total at 31 Dec 2019 £bn | Total at 31 Dec 2018 £bn | |||||||||||||||||||||||||||||||
Deposits from banks | 7.3 | 1.3 | 0.3 | 0.1 | 0.1 | 0.2 | 0.3 | – | 9.6 | 8.3 | ||||||||||||||||||||||||||||||
Debt securities in issue: | ||||||||||||||||||||||||||||||||||||||||
Certificates of deposit | 1.2 | 2.6 | 2.8 | 2.4 | 1.2 | 0.4 | – | – | 10.6 | 12.0 | ||||||||||||||||||||||||||||||
Commercial paper | 1.3 | 3.5 | 2.8 | 0.9 | 0.4 | – | – | – | 8.9 | 8.0 | ||||||||||||||||||||||||||||||
Medium-term notes | 1.0 | 0.8 | 1.8 | 1.2 | 0.2 | 6.6 | 19.3 | 17.1 | 48.0 | 45.4 | ||||||||||||||||||||||||||||||
Covered bonds | 0.8 | 1.3 | – | 2.9 | – | 6.1 | 10.6 | 7.0 | 28.7 | 27.1 | ||||||||||||||||||||||||||||||
Securitisation | 0.4 | – | 1.1 | 0.9 | 0.4 | 1.7 | 1.4 | – | 5.9 | 4.6 | ||||||||||||||||||||||||||||||
4.7 | 8.2 | 8.5 | 8.3 | 2.2 | 14.8 | 31.3 | 24.1 | 102.1 | 97.1 | |||||||||||||||||||||||||||||||
Subordinated liabilities | – | 1.2 | – | 1.0 | 0.1 | 0.5 | 4.3 | 9.5 | 16.6 | 17.9 | ||||||||||||||||||||||||||||||
Total wholesale funding1 | 12.0 | 10.7 | 8.8 | 9.4 | 2.4 | 15.5 | 35.9 | 33.6 | 128.3 | 123.3 |
1 | The Group’s definition of wholesale funding aligns with that used by other international market participants; including interbank deposits, debt securities and subordinated liabilities. |
Table AI:Total wholesale funding by currency (audited)
Sterling £bn | US Dollar £bn | Euro £bn | Other currencies £bn | Total £bn | ||||||||||||||||
At 31 December 2019 | 28.7 | 49.6 | 40.9 | 9.1 | 128.3 | |||||||||||||||
At 31 December 2018 | 25.8 | 45.2 | 42.8 | 9.5 | 123.3 |
Table AJ:Analysis of 2019 term issuance (audited)
Sterling £bn | US Dollar £bn | Euro £bn | Other currencies £bn | Total £bn | ||||||||||||||||
Securitisation | 1.6 | 0.4 | – | – | 2.0 | |||||||||||||||
Medium-term notes | 0.5 | 3.2 | 1.8 | 1.1 | 6.6 | |||||||||||||||
Covered bonds | 2.0 | 0.8 | 2.8 | – | 5.6 | |||||||||||||||
Private placements1 | 0.1 | 0.3 | 0.9 | – | 1.3 | |||||||||||||||
Subordinated liabilities2 | 0.5 | 0.4 | – | – | 0.9 | |||||||||||||||
Total issuance | 4.7 | 5.1 | 5.5 | 1.1 | 16.4 |
1 | Private placements include structured bonds. |
2 | Consists of AT1 issuances. |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The Group continues to access wholesale funding markets across a wide range of products, currencies and investors to maintain a stable and diverse source of funds. In 2019, the Group has continued with this approach to funding, including capital and funding from the holding company, Lloyds Banking Group plc, as needed to transition towards final UK Minimum Requirements for Own Funds and Eligible Liabilities (MREL). The Group will continue to issue funding trades from Lloyds Bank plc, the ring-fenced bank operating company, across senior unsecured, covered bonds, ABS and RMBS. In 2019, the Group launched an operating company funding programme for LBCM, the non-ring-fenced bank, and have since issued a number of trades for this entity including an inaugural five year £500 million senior unsecured public benchmark transaction. The maturity of the Funding for Lending and Term Funding Schemes are fully factored into the Group’s funding plans.
Liquidity Portfolio
At 31 December 2019, the banking business had £118.3 billion of highly liquid unencumbered LCR eligible assets (31 December 2018: £129.4 billion), of which £115.7 billion is LCR level 1 eligible (31 December 2018: £128.6 billion) and £2.6 billion is LCR level 2 eligible (31 December 2018: £0.8 billion). These assets are available to meet cash and collateral outflows and regulatory requirements. Total LCR eligible liquid assets represent over five times the Group’s money market funding less than one year to maturity (excluding derivative collateral margins and settlement accounts) and thus provide a substantial buffer in the event of market dislocation. The Insurance business manages a separate liquidity portfolio to mitigate insurance liquidity risk.
Table AK:LCR eligible assets
At 31 Dec 2019 £bn | At 31 Dec 2018 £bn | Change % | Average 2019 £bn | Average 2018 £bn | ||||||||||||||||
Level 1 | ||||||||||||||||||||
Cash and central bank reserves | 49.4 | 48.9 | 1 | 50.9 | 58.1 | |||||||||||||||
High quality government/MDB/agency bonds1 | 63.9 | 78.7 | (19 | ) | 76.4 | 66.2 | ||||||||||||||
High quality covered bonds | 2.4 | 1.0 | 1.9 | 0.8 | ||||||||||||||||
Total | 115.7 | 128.6 | (10 | ) | 129.2 | 125.1 | ||||||||||||||
Level 22 | 2.6 | 0.8 | 1.5 | 0.8 | ||||||||||||||||
Total LCR eligible assets | 118.3 | 129.4 | (9 | ) | 130.7 | 125.9 |
1 | Designated multilateral development bank (MDB). |
2 | Includes Level 2A and Level 2B. |
Table AL:LCR eligible assets by currency
Sterling £bn | US Dollar £bn | Euro £bn | Other currencies £bn | Total £bn | ||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||
Level 1 | 91.5 | 11.7 | 12.5 | – | 115.7 | |||||||||||||||
Level 2 | 1.7 | 0.5 | 0.4 | – | 2.6 | |||||||||||||||
Total | 93.2 | 12.2 | 12.9 | – | 118.3 | |||||||||||||||
At 31 December 2018 | ||||||||||||||||||||
Level 1 | 98.2 | 19.8 | 10.6 | – | 128.6 | |||||||||||||||
Level 2 | 0.4 | 0.4 | – | – | 0.8 | |||||||||||||||
Total | 98.6 | 20.2 | 10.6 | – | 129.4 |
The banking business also has a significant amount of non-LCR eligible liquid assets which are eligible for use in a range of central bank or similar facilities. Future use of such facilities will be based on prudent liquidity management and economic considerations, having regard for external market conditions.
Stress testing regime,results
Internal liquidity stress testing results at 31 December 2019 showed that the banking business had liquidity resources representing 158 per cent of modelled outflows over a three month period from all wholesale funding sources, retail and corporate deposits, intraday requirements and rating dependent contracts under the Group’s most severe liquidity stress scenario.
This scenario includes a two notch downgrade of the Group’s current long-term debt rating and accompanying one notch short-term downgrade implemented instantaneously by all major rating agencies.
Encumbered assets
This disclosure provides further detail on the availability of assets that could be used to support potential future funding requirements of the Group.
The disclosure is not designed to identify assets that would be available in the event of a resolution or bankruptcy.
The Board and the Group Asset and Liability Committee (GALCO) monitor and manage total balance sheet encumbrance using a number of risk appetite metrics. At 31 December 2019, the Group had £60.6 billion (31 December 2018: £53.4 billion) of externally encumbered on-balance sheet assets with counterparties other than central banks. The increase in encumbered assets was primarily driven by an increase in covered bond issuance. The Group also had £639.5 billion (31 December 2018: £584.3 billion) of unencumbered on-balance sheet assets, and £133.7 billion (31 December 2018: £159.8 billion) of pre-positioned and encumbered assets held with central banks, the reduction in the latter was primarily driven by a decrease in encumbrance relating to FLS and TFS maturities in the year. Primarily, the Group encumbers mortgages, unsecured lending and credit card receivables through the issuance programmes and tradable securities through securities financing activity. The Group mainly positions mortgage assets at central banks.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table AM:On balance sheet encumbered and unencumbered assets
Encumbered with counterparties other than central banks | Pre- positioned and | Unencumbered assets not pre-positioned with central banks | ||||||||||||||||||||||||||||||||||||||
Securitisations £m | Covered bond £m | Other £m | Total £m | encumbered assets held with central banks £m | Readily realisable1 £m | Other realisable assets2 £m | Cannot be used3 £m | Total £m | Total £m | |||||||||||||||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||||||||||||||||||
Cash and balances at central banks | – | – | – | – | – | 49,270 | – | 5,860 | 55,130 | 55,130 | ||||||||||||||||||||||||||||||
Financial assets at fair value through profit or loss | 51 | – | 4,834 | 4,885 | – | 2,469 | – | 152,835 | 155,304 | 160,189 | ||||||||||||||||||||||||||||||
Derivative financial instruments | – | – | – | – | – | – | – | 26,369 | 26,369 | 26,369 | ||||||||||||||||||||||||||||||
Financial assets at amortised cost: | ||||||||||||||||||||||||||||||||||||||||
Loans and advances to banks | – | – | 1 | 1 | – | 1,858 | 3,851 | 4,065 | 9,774 | 9,775 | ||||||||||||||||||||||||||||||
Loans and advances to customers | 7,319 | 33,161 | 7,109 | 47,589 | 133,732 | 14,087 | 171,370 | 128,210 | 313,667 | 494,988 | ||||||||||||||||||||||||||||||
Debt securities | – | – | 553 | 553 | – | 3,200 | – | 1,791 | 4,991 | 5,544 | ||||||||||||||||||||||||||||||
7,319 | 33,161 | 7,663 | 48,143 | 133,732 | 19,145 | 175,221 | 134,066 | 328,432 | 510,307 | |||||||||||||||||||||||||||||||
Financial assets at fair value through other comprehensive income | – | – | 7,617 | 7,617 | – | 16,919 | – | 556 | 17,475 | 25,092 | ||||||||||||||||||||||||||||||
Other4 | – | – | – | – | – | – | 514 | 56,292 | 56,806 | 56,806 | ||||||||||||||||||||||||||||||
Total assets | 7,370 | 33,161 | 20,114 | 60,645 | 133,732 | 87,803 | 175,735 | 375,978 | 639,516 | 833,893 | ||||||||||||||||||||||||||||||
At 31 December 2018 | ||||||||||||||||||||||||||||||||||||||||
Cash and balances at central banks | – | – | – | – | – | 49,645 | – | 5,018 | 54,663 | 54,663 | ||||||||||||||||||||||||||||||
Trading and other financial assets at fair value through profit or loss | 54 | – | 2,646 | 2,700 | – | 5,190 | – | 150,639 | 155,829 | 158,529 | ||||||||||||||||||||||||||||||
Derivative financial instruments | – | – | – | – | – | – | – | 23,595 | 23,595 | 23,595 | ||||||||||||||||||||||||||||||
Financial assets at amortised cost: | ||||||||||||||||||||||||||||||||||||||||
Loans and advances to banks | – | – | 12 | 12 | – | 1,223 | 2,555 | 2,493 | 6,271 | 6,283 | ||||||||||||||||||||||||||||||
Loans and advances to customers | 5,774 | 29,041 | 6,012 | 40,827 | 159,822 | 12,098 | 155,278 | 116,833 | 284,209 | 484,858 | ||||||||||||||||||||||||||||||
Debt securities | – | – | 2,627 | 2,627 | – | 2,581 | 4 | 26 | 2,611 | 5,238 | ||||||||||||||||||||||||||||||
5,774 | 29,041 | 8,651 | 43,466 | 159,822 | 15,902 | 157,837 | 119,352 | 293,091 | 496,379 | |||||||||||||||||||||||||||||||
Financial assets at fair value through other comprehensive income: | – | – | 7,278 | 7,278 | – | 17,114 | – | 423 | 17,537 | 24,815 | ||||||||||||||||||||||||||||||
Other4 | – | – | – | – | – | 56 | 612 | 38,949 | 39,617 | 39,617 | ||||||||||||||||||||||||||||||
Total assets | 5,828 | 29,041 | 18,575 | 53,444 | 159,822 | 87,907 | 158,449 | 337,976 | 584,332 | 797,598 |
1 | Assets regarded by the Group to be readily realisable in the normal course of business, to secure funding, meet collateral needs, or be sold to reduce potential future funding requirements, and are not subject to any restrictions on their use for these purposes. |
2 | Assets where there are no restrictions on their use to secure funding, meet collateral needs, or be sold to reduce potential future funding requirements, but are not readily realisable in the normal course of business in their current form. |
3 | The following assets are classified as unencumbered – cannot be used: assets held within the Group’s Insurance businesses which are generally held to either back liabilities to policyholders or to support the solvency of the Insurance subsidiaries; assets held within consolidated limited liability partnerships which provide security for the Group’s obligations to its pension schemes; assets segregated in order to meet the Financial Resilience requirements of the PRA’s Supervisory Statement 9/6 ‘Operational Continuity in Resolution’; assets pledged to facilitate the use of intra-day payment and settlement systems; and reverse repos and derivatives balance sheet ledger items. |
4 | Other comprises: items in the course of collection from banks; investment properties; goodwill; value in-force business; other intangible assets; tangible fixed assets; current tax recoverable; deferred tax assets; retirement benefit assets; investments in joint ventures and associates; assets arising from reinsurance contracts held and other assets. |
The above table sets out the carrying value of the Group’s encumbered and unencumbered assets, separately identifying those that are available to support the Group’s funding needs. The table does not include collateral received by the Group (i.e. from reverse repos) that is not recognised on its balance sheet, the vast majority of which the Group is permitted to repledge.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
FUNDING AND LIQUIDITY RISK – CONTRACTUAL CASH OBLIGATIONS
The following table sets out the amounts and maturities of Lloyds Banking Group’s contractual cash obligations at 31 December 2019.
Within one year £m | One to three years £m | Three to five years £m | Over five years £m | Total £m | ||||||||||||||||
Long-term debt – dated | 2,442 | 356 | 2,345 | 7,343 | 12,486 | |||||||||||||||
Debt securities in issue | 29,977 | 26,556 | 19,082 | 29,605 | 105,220 | |||||||||||||||
Lease liabilities | 241 | 429 | 315 | 859 | 1,844 | |||||||||||||||
Capital commitments | 405 | – | – | – | 405 | |||||||||||||||
Other purchase obligations | 1,232 | 1,946 | 1,209 | 929 | 5,316 | |||||||||||||||
34,297 | 29,287 | 22,951 | 38,736 | 125,271 |
Other purchase obligations include amounts expected to be payable in respect of material contracts entered into by Lloyds Banking Group, in the ordinary course of business, for the provision of outsourced and other services. The cost of these services will be charged to the income statement as it is incurred. Lloyds Banking Group also has a constructive obligation to ensure that its defined post-retirement benefit schemes remain adequately funded. The amount and timing of Lloyds Banking Group’s cash contributions to these schemes is uncertain and will be affected by factors such as future investment returns and demographic changes. Lloyds Banking Group expects to make cash contributions of at least £1,200 million to these schemes in 2020.
At 31 December 2019, Lloyds Banking Group also had £4,642 million of preference shares, preferred securities and undated subordinated liabilities outstanding.
At 31 December 2019, the principal sources of potential liquidity for Lloyds Banking Group plc were dividends received from its directly owned subsidiary companies, particularly Lloyds Bank plc and Scottish Widows Group Limited, and loans from this and other Lloyds Banking Group companies. The ability of Lloyds Bank to pay dividends going forward, or for Lloyds Bank or other Lloyds Banking Group companies to make loans to Lloyds Banking Group plc, depends on a number of factors, including their own regulatory capital requirements, distributable reserves and financial performance.
OFF-BALANCE SHEET ARRANGEMENTS
A table setting out the amounts and maturities of Lloyds Banking Group’s other commercial commitments and guarantees at 31 December 2019 is included in note 53 to the financial statements. These commitments and guarantees are not included in Lloyds Banking Group’s consolidated balance sheet.
Lending commitments are agreements to lend to customers in accordance with contractual provisions; these are either for a specified period or, as in the case of credit cards and overdrafts, represent a revolving credit facility which can be drawn down at any time, provided that the agreement has not been terminated. The total amounts of unused commitments do not necessarily represent future cash requirements, in that commitments often expire without being drawn upon.
Lloyds Banking Group’s banking businesses are also exposed to liquidity risk through the provision of securitisation facilities to certain corporate customers. At 31 December 2019, Lloyds Banking Group offered securitisation facilities to its corporate and financial institution client base through its conduit securitisation vehicles, Argento, Cancara and Grampian. These are funded in the global asset-backed commercial paper market. The assets and obligations of these conduits are included in Lloyds Banking Group’s consolidated balance sheet. Lloyds Banking Group provides short-term asset-backed commercial paper liquidity support facilities on commercial terms to the issuers of the commercial paper, for use in the event of a market disturbance should they be unable to roll over maturing commercial paper or obtain alternative sources of funding.
Details of securitisations and other special purpose entity arrangements entered into by Lloyds Banking Group are provided in notes 32 and 49 to the financial statements. The successful development of Lloyds Banking Group’s ability to securitise its own assets has provided a mechanism to tap a well established market, thereby diversifying Lloyds Banking Group’s funding base.
Within Lloyds Banking Group’s insurance businesses, the principal sources of liquidity are premiums received from policyholders, charges levied upon policyholders, investment income and the proceeds from the sale and maturity of investments. The investment policies followed by Lloyds Banking Group’s life assurance companies take account of anticipated cash flow requirements including by matching the cash inflows with projected liabilities where appropriate. Cash deposits and highly liquid government securities are available to provide liquidity to cover any higher than expected cash outflows.
100 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
DEFINITION
Governance risk is defined as the risk that the Group’s organisational infrastructure fails to provide robust oversight of decision-making and the control mechanisms to ensure strategies and management instructions are implemented effectively.
EXPOSURES
The internal and corporate governance arrangements of major financial institutions continue to be subject to a high level of regulatory and public scrutiny. The Group’s exposure to governance risk is also reflective of the significant volume of existing and proposed legislation and regulation, both saleswithin the UK and complaints processes, isacross the multiple jurisdictions within which it operates, with which it must comply.
MEASUREMENT
The Group’s governance arrangements are assessed against new or proposed legislation and regulation and best practice among peer organisations in order to identify any areas of enhancement required.
MITIGATION
The Group’s enterprise risk management framework (ERMF) establishes robust arrangements for risk governance, in particular by:
Defining individual and collective accountabilities for risk management, risk oversight and risk assurance through a three lines of defence model which supports the discharge of responsibilities to customers, shareholders and regulators; | |
Outlining governance arrangements which articulate the enterprise-wide approach to risk management; and | |
Supporting a consistent approach to Group-wide behaviour and risk decision-making through a Group policy framework which helps everyone understand their responsibilities by clearly articulating and communicating rules, standards, boundaries and risk appetite measures which can be controlled, enforced and monitored. |
Under the banner of the ERMF, training modules are in place to testsupport all colleagues in understanding and fulfilling their risk responsibilities.
The Group’s Code of Responsibility embodies its values and reflect its commitment to operating responsibly and ethically both at a business and an individual level. All colleagues are required to adhere to the code in all aspects of their roles.
Effective implementation of the ERMF mutually reinforces and is reinforced by the Group’s risk culture, which is embedded in its approach to recruitment, selection, training, performance of customer critical activities. The GCFC has responsibility for monitoringmanagement and reviewing integrated measurement of enhanced outcomes, customer views and cultural transformation, including challenging Divisions to make changes based on key learnings to support the deliveryreward.
MONITORING
A review of the Group’s visionERMF, which includes the status of the Group’s principles and foster a customer centric culture. Monitoring activity has also increased in scope to cover trading and communication surveillance,policy framework, and the monitoringdesign and testingoperational effectiveness of controls relevantkey governance committees, is undertaken on an annual basis and the findings are reported to the Group’s market conduct agenda.Group Risk Committee, Board Risk Committee and the Board.
For further information on corporate governance see pages 143 to 169.
101 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
DEFINITION
Market risk is defined as the risk that unfavourable market moves (including changes in and increased volatility of interest rates, market-implied inflation rates, credit spreads and prices for bonds, foreign exchange rates, equity, property and commodity prices and other instruments) lead to reductions in earnings and/or value.
BALANCE SHEET LINKAGES
Balance sheet linkages
The information provided in table 1.33 (below)AN aims to facilitate the understanding of linkages between banking, trading, and insurance balance sheet items and the positions disclosed in the Group’s market risk disclosures.
Table 1.33:AN:Market risk linkage to the balance sheet
Banking | ||||||||||||||||||
Trading | ||||||||||||||||||
2016 | Total £m | book only £m | Non-trading £m | Insurance £m | Primary market risk factor | |||||||||||||
Assets | ||||||||||||||||||
Cash and balances at central banks | 47,452 | – | 47,452 | – | Interest rate | |||||||||||||
Trading and other financial assets at fair value through profit or loss | 151,174 | 45,247 | 4,039 | 101,888 | Interest rate, foreign exchange, credit spread | |||||||||||||
Derivative financial instruments | 36,138 | 30,951 | 2,713 | 2,474 | Interest rate, foreign exchange, credit spread | |||||||||||||
Loans and receivables: | ||||||||||||||||||
Loans and advances to banks | 26,902 | – | 5,583 | 21,319 | Interest rate | |||||||||||||
Loans and advances to customers1 | 457,958 | – | 457,958 | – | Interest rate | |||||||||||||
Debt securities | 3,397 | – | 3,397 | – | Interest rate, credit spread | |||||||||||||
488,257 | – | 466,938 | 21,319 | |||||||||||||||
Available-for-sale financial assets | 56,524 | – | 56,522 | 2 | Interest rate, foreign exchange, credit spread | |||||||||||||
Value of in-force business | 5,042 | – | – | 5,042 | Equity | |||||||||||||
Other assets | 33,206 | – | 16,811 | 16,395 | Interest rate | |||||||||||||
Total assets | 817,793 | 76,198 | 594,475 | 147,120 | ||||||||||||||
Liabilities | ||||||||||||||||||
Deposits from banks | 16,384 | – | 16,384 | – | Interest rate | |||||||||||||
Customer deposits | 415,460 | – | 415,460 | – | Interest rate | |||||||||||||
Trading and other financial liabilities at fair value through profit or loss | 54,504 | 45,079 | 9,425 | – | Interest rate, foreign exchange | |||||||||||||
Derivative financial instruments | 34,924 | 30,143 | 1,967 | 2,814 | Interest rate, foreign exchange, credit spread | |||||||||||||
Debt securities in issue | 76,314 | – | 76,314 | – | Interest rate, credit spread | |||||||||||||
Liabilities arising from insurance and investment contracts | 114,502 | – | – | 114,502 | Credit spread | |||||||||||||
Subordinated liabilities | 19,831 | – | 18,012 | 1,819 | Interest rate, foreign exchange | |||||||||||||
Other liabilities | 37,409 | – | 9,726 | 27,683 | Interest rate | |||||||||||||
Total liabilities | 769,328 | 75,222 | 547,288 | 146,818 |
Banking | ||||||||||||||||||
2019 | Total £m | Trading book only £m | Non-trading £m | Insurance £m | Primary market risk factor | |||||||||||||
Assets | ||||||||||||||||||
Cash and balances at central banks | 55,130 | – | 55,130 | – | Interest rate | |||||||||||||
Financial assets at fair value through profit or loss | 160,189 | 17,982 | 5,352 | 136,855 | Interest rate, foreign exchange, credit spread | |||||||||||||
Derivative financial instruments | 26,369 | 18,885 | 5,119 | 2,365 | Interest rate, foreign exchange, credit spread | |||||||||||||
Financial assets at amortised cost | ||||||||||||||||||
Loans and advances to banks | 9,775 | – | 9,710 | 65 | Interest rate | |||||||||||||
Loans and advances to customers | 494,988 | – | 494,948 | 40 | Interest rate | |||||||||||||
Debt securities | 5,544 | – | 5,544 | – | Interest rate, credit spread | |||||||||||||
510,307 | – | 510,202 | 105 | |||||||||||||||
Financial assets at fair value through other comprehensive income | 25,092 | – | 25,092 | – | Interest rate, foreign exchange, credit spread | |||||||||||||
Value of in-force business | 5,558 | – | – | 5,558 | Equity | |||||||||||||
Other assets | 51,248 | – | 22,410 | 28,838 | Interest rate | |||||||||||||
Total assets | 833,893 | 36,867 | 623,305 | 173,721 | ||||||||||||||
Liabilities | ||||||||||||||||||
Deposit from banks | 28,179 | – | 28,179 | – | Interest rate | |||||||||||||
Customer deposits | 421,320 | – | 421,320 | – | Interest rate | |||||||||||||
Financial liabilities at fair value through profit or loss | 21,486 | 13,955 | 7,531 | – | Interest rate, foreign exchange | |||||||||||||
Derivative financial instruments | 25,779 | 15,654 | 7,719 | 2,406 | Interest rate, foreign exchange, credit spread | |||||||||||||
Debt securities in issue | 97,689 | – | 97,689 | – | Interest rate, credit spread | |||||||||||||
Liabilities arising from insurance and investment contracts | 148,908 | – | – | 148,908 | Credit spread | |||||||||||||
Subordinated liabilities | 17,130 | – | 15,335 | 1,795 | Interest rate, foreign exchange | |||||||||||||
Other liabilities | 25,596 | – | 10,678 | 14,918 | Interest rate | |||||||||||||
Total liabilities | 786,087 | 29,609 | 588,451 | 168,027 |
The defined benefit pension schemes’ assets and liabilities are included under Other assets and Other liabilities in this table and note 36 on page F-47F-61 provides further information.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The Group’s trading book assets and liabilities are originated by Financial Markets within the Commercial Banking division. Within the Group’s balance sheet these fall under the trading assets and liabilities and derivative financial instruments. The assets and liabilities are classified as trading books if they have been acquired or incurred formeet the purpose of selling or repurchasingrequirements as set out in the near future. These consist of government, corporate and financial institution bonds and loans/deposits and repos.Capital Requirements Regulation, article 104. Further information on these activities can be found under the Trading portfolios section on page 92.107.
Derivative assets and liabilities are held by the Group for three main purposes; to provide risk management solutions for clients, to manage portfolio risks arising from client business and to manage and hedge the Group’s own risks. The majority of derivatives exposure arises within Financial Markets. Insurance business assets and liabilities relate to policyholder funds, as well as shareholder invested assets, including annuity funds. The Group recognises the value of in-force business in respect of Insurance’s long-term life assurance contracts as an asset in the balance sheet (see note 24,25, page F-38)F-51).
The Group ensures that it has adequate cash and balances at central banks and stocks of high quality liquid assets (e.g. Giltsgilts or US Treasury Securities)securities) that can be converted easily into cash to meet liquidity requirements. The majority of these assets are asset swapped and held as available-for-saleat fair value through other comprehensive income with the remainder held as financial assets at fair value through profit and loss. Further information on these balances can be found under the Fundingfunding and Liquidity Riskliquidity risk on page 95. Interest rate risk in the asset portfolios is swapped into a floating rate.94.
The majority of debt issuance originates from the Issuance, Capital VehiclesGroup’s capital and Medium Term Notes desksfunding activities and the interest rate risk of the debt issued is hedged by swapping them into a floating rate.
The non tradingnon-trading book primarily consists of customer on balanceon-balance sheet activities and the Group’s capital and funding activities, which expose it to the risk of adverse movements in market prices, predominantly interest rates, credit spreads, exchange rates and equity prices, as described in further detail within the Banking activities section (page 89)103).
102 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table 1.34 shows the key material market risks for the Group’s banking, defined benefit pension schemes, Insurance and trading activities.
Table 1.34:Key material market risks for the Group by individual business activity (profit before tax impact measured against Group single stress scenarios)
Risk type | ||||||||||||||||||||||||
2016 | Interest Rate | Basis Risk | FX | Credit Spread | Equity | Inflation | ||||||||||||||||||
Banking activities1 | l | l | – | l | l | – | ||||||||||||||||||
Defined benefit pension scheme1 | l | – | – | n | – | – | ||||||||||||||||||
Insurance portfolios1 | l | – | – | l | l | – | ||||||||||||||||||
Trading portfolios2 | – | – | – | – | – | – | ||||||||||||||||||
Profit before tax | Loss | Gain | ||||||||||||||||||||||
>£500m | l | n | ||||||||||||||||||||||
£250m – £500m | l | n | ||||||||||||||||||||||
£50m – <£250m | l | n | ||||||||||||||||||||||
Immaterial/zero | – | – |
MEASUREMENT
In addition to measuring single factors, boardGroup risk appetite is calibrated primarily to five multi-risk Group economic multirisk scenarios, and is supplemented with sensitivity basedsensitivity-based measures. The scenarios assess the impact of unlikely, but plausible, adverse stresses on income with the worst case for banking activities, defined benefit pensions, insurance and trading portfolios reported against independently, and across the Group as a whole.
The BoardGroup risk appetite is cascaded first to the Group Asset and Liability Committee (GALCO), chaired by the Chief Financial Officer, where risk appetite is approved and monitored by risk type, and then to Group Market Risk Committee (GMRC) where risk appetite is sub allocatedsub-allocated by Division.division. These metrics are reviewed regularly by senior management to inform effective decision making.decision-making.
MITIGATION
GALCO is responsible for approving and monitoring group market risks, management techniques, market risk measures, behavioural assumptions, and the market risk policy. Various mitigation activities are assessed and undertaken across the Group to manage portfolios and seek to ensure they remain within approved limits. The mitigation actions will vary dependent on exposure but will, in general, look to reduce risk in a cost effective manner by offsetting balance sheet exposures and externalising through to the financial markets dependent on market liquidity. The market risk policy is owned by Group Corporate Treasury (GCT) and refreshed annually. The policy is underpinned by supplementary market risk procedures, which define specific market risk management and oversight requirements.
MONITORING
GALCO and the GMRC regularly review high level market risk exposure as part of the wider risk management framework. They also make recommendations to the Group Chief ExecutiveBoard concerning overall market risk appetite and Group Market Risk Policy. Exposures at lower levels of delegation are monitored at various intervals according to their volatility, from daily in the case of trading portfolios to monthly or quarterly in the case of less volatile portfolios. Levels of exposures compared to approved limits and triggers are monitored by Risk Division and where appropriate, escalation procedures are in place.
How market risks arise and are managed across the Group’s activities is considered in more detail below.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
BANKING ACTIVITIES
EXPOSURESExposures
The Group’s banking activities expose it to the risk of adverse movements in market prices, predominantly interest rates, credit spreads, exchange rates and equity prices. The volatility of market values can be affected by both the transparency of prices and the amount of liquidity in the market for the relevant asset, liability or liability.instrument.
Interest rate risk
Interest rate risk
Interest rateYield curve risk in the Group’s divisional portfolios, and in the Group’s capital and funding activities arises from the different repricing characteristics of the Group’s non-trading assets, liabilities (see loans and advances to customers and customer deposits in table 1.36)AN) and off balanceoff-balance sheet positions. Behavioural assumptions are applied to (i) embedded optionality within products; (ii) the duration of balances that are contractually repayable on demand, such as current accounts and overdrafts, together with net free reserves of the group; and (iii) to the re-pricing behaviour of managed rate liabilities namely variable rate savings.
Basis risk arises from the possible changes in spreads, for example where the bank lends with reference to a central bank rate but funds with reference to LIBOR, and the spread between these two rates widens or tightens.
PrepaymentOptionality risk arises predominantly infrom embedded optionality within assets, liabilities or off-balance sheet items where either the Retail division, asGroup or the customer can affect the size or timing of cash flows. One example of this is mortgage prepayment risk where the customer owns an option allowing them to prepay when it is economical to do so. This can result in customer balances amortiseamortising more quickly or slowly than anticipated due to economic conditions or customer’scustomers’ response to changes in economic conditions. Pipeline and pre hedge risk arises where new business volumes are higher or lower than forecasted.
Foreign exchange risk
Economic foreign exchange exposure arises from the Group’s investment in its overseas operations (net investment exposures are disclosed in note 5253 on page F-87)F-98). In addition, the Group incurs foreign exchange risk through non-functional currency flows from services provided by customer facingcustomer-facing divisions, and the Group’s debt and capital management programmes.programmes and is exposed to volatility in its CET1 ratio, due to the impact of changes in foreign exchange rates on the retranslation of non-sterling-denominated RWAs.
Equity risk
Equity risk arises primarily from three different sources; (i) the Group’s strategic equity holdings in Banco Sabadell, Aberdeen Asset Management, and Visa Europe; (ii) exposure to Lloyds Banking Group share price through deferred shares and deferred options granted to employees as part of their benefits package; and (iii) the Group’s private equity investments held by Lloyds Development Capital.
the Group’s private equity investments held by Lloyds Development Capital within the Equities sub-group. | |
the Group’s strategic equity holdings, for example Visa Inc Preference Shares, now held in the Equities sub-group. | |
a small exposure to Lloyds Banking Group share price through deferred shares and deferred options granted to employees as part of their benefits package. |
Credit spread risk
Credit spread risk arises largely from (i) the liquid asset portfolio held in the management of Group liquidity, comprising of government, supranational and other eligible assets; and (ii) the Credit Valuation Adjustment (CVA) and Debit Valuation Adjustment (DVA) sensitivity to credit spreads; and (iii) a number of the Group’s structured medium termmedium-term notes where it haswe have elected to fair value the notes through the profit and loss account.account; and (iv) banking book assets held at fair value in Commercial Banking under IFRS 9.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
MEASUREMENTMeasurement
Interest rate risk exposure is monitored monthly using, primarily:
(i) Market value sensitivity: this methodology considers all repricing mismatches (behaviourally adjusted where appropriate) in the current balance sheet and calculates the change in market value that would result from an instantaneous 25, 100 and 200 basis points parallel rise or fall in the yield curve (subject to an appropriate floor). The market value sensitivities are calculated on a static balance sheet using principal cash flows excluding interest, commercial margins and other spread components and are therefore discounted at the risk free zero-coupon rate.
(ii) Interest income sensitivity: this measures the 12 month impact on future net interest income arising from anvarious economic scenarios. These include instantaneous 25, 100 and 200 basis pointspoint parallel rise or fallshifts in all the yield curves over a rolling 12 month basisand the five Group economic scenarios (subject to an appropriate floor). These scenarios are reviewed every year and are designed to replicate severe but plausible economic events, capturing risks that would not be evident through the use of parallel shocks alone such as basis risk and steepening or flattening of the yield curve. An additional negative rates scenario is also used for information purposes where all floors are removed; however this is not measured against the limit framework.
Unlike the market value sensitivities, the interest income sensitivities incorporate additional behavioural assumptions as to how and when individual products would reprice in response to such change.changing rates. In addition a dynamic balance sheet is used which includes the run-off of current assets and liabilities and the addition of planned new business.
(iii) Market Value limit: this capsReported sensitivities are not necessarily predictive of future performance as they do not capture additional management actions that would likely be taken in response to an immediate, large, movement in interest rates. These actions could reduce the amount of conventional and inflation-linked government bonds held bynet interest income sensitivity, help mitigate any adverse impacts or they may result in changes to total income that are not captured in the Group for liquidity purposes.net interest income.
(iv) Structural hedge limits; theselimits: the structural hedging programme managing interest rate risk in the banking book relies on a number of assumptions made around customer behaviour. A material mismatch between assumptions and reality could lead to a deterioration in earnings. In order to monitor this risk a number of metrics are in place to enhance understanding of assumption and duration risk takenrisks within the behaviouralisation of this portfolio.
The Group has an integrated Asset and Liability Management (ALM) system which supports non tradednon-traded asset and liability management of the Group. This provides a single consolidated tool to measure and manage interest rate repricing profiles (including behavioural assumptions), perform stress testing and produce forecast outputs. The Group is aware that any assumptions based model is open to challenge. A full behavioural review is performed annually, or in response to changing market conditions, to ensure the assumptions remain appropriate.appropriate and the model itself is subject to annual re-validation, as required under the Group Model Governance Policy. The key behavioural assumptions are:
A limit structure exists to ensure that risks stemming from residual and temporary positions or from changes in assumptions about customer behaviour remain within the Group’s risk appetite.
embedded optionality within products. | |
the duration of balances that are contractually repayable on demand, such as current accounts and overdrafts, together with net free reserves of the Group. | |
the re-pricing behaviour of managed rate liabilities namely variable rate savings. |
Table 1.35AO below shows, split by material currency, the Group’s market value sensitivities to an instantaneous parallel up and down 25 and 100 basis points change to all interest rates.
Table 1.35:AO: Group Banking activities: market value sensitivity
2016 | 2015 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Up 25bps | Down 25bps | Up 100bps | Down 100bps | Up 25bps | Down 25bps | Up 100bps | Down 100bps | 2019 | 2018 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | £m | £m | Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | |||||||||||||||||||||||||||||||||||||||||||||||||
Sterling | (11.4 | ) | 11.5 | (45.1 | ) | 31.6 | 48.7 | (48.8 | ) | 194.2 | (115.9 | ) | 13.6 | (13.6 | ) | 52.7 | (47.4 | ) | 29.1 | (29.5 | ) | 113.7 | (122.4 | ) | ||||||||||||||||||||||||||||||||||||||||
US Dollar | 3.2 | (3.2 | ) | 12.6 | (13.7 | ) | 1.9 | (1.9 | ) | 7.5 | (5.9 | ) | (5.6 | ) | 5.8 | (21.3 | ) | 24.3 | (7.8 | ) | 7.8 | (30.6 | ) | 31.9 | ||||||||||||||||||||||||||||||||||||||||
Euro | (6.0 | ) | (3.7 | ) | (23.2 | ) | (12.1 | ) | 1.7 | (2.1 | ) | 6.9 | (6.8 | ) | (7.2 | ) | 2.3 | (27.0 | ) | 11.1 | (3.0 | ) | 1.7 | (11.2 | ) | 7.2 | ||||||||||||||||||||||||||||||||||||||
Other | (0.2 | ) | 0.2 | (0.9 | ) | 0.6 | (0.4 | ) | 0.4 | (1.6 | ) | 1.1 | 0.2 | (0.2 | ) | 0.8 | (0.8 | ) | (0.1 | ) | 0.1 | (0.4 | ) | 0.5 | ||||||||||||||||||||||||||||||||||||||||
Total | (14.4 | ) | 4.8 | (56.6 | ) | 6.4 | 51.9 | (52.4 | ) | 207.0 | (127.5 | ) | 1.0 | (5.7 | ) | 5.2 | (12.8 | ) | 18.2 | (19.9 | ) | 71.5 | (82.8 | ) |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
This is a risk based disclosure and the amounts shown would be amortised in the income statement over the duration of the portfolio.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The market value sensitivity is driven by temporary customer flow positions not yet hedged plus other positions occasionally held, within limits, by the Group’s wholesale funding desks in order to minimise overall funding and hedging costs. The level of risk is low relative to the size of the total balance sheet.
Table 1.36AP below shows supplementary value sensitivity to a steepening and flattening (c.100 basis points around the 3 year point) in the yield curve. This ensures there are no unintended consequences to managing risk to parallel shifts in rates.
Table 1.36:AP:Group Banking activities: market value sensitivity to a steepening and flattening of the yield curve
2016 | 2015 | |||||||||||||||||||||||||||||||
Steepener | Flattener | Steepener | Flattener | 2019 | 2018 | |||||||||||||||||||||||||||
£m | £m | £m | £m | Steepener £m | Flattener £m | Steepener £m | Flattener £m | |||||||||||||||||||||||||
Sterling | (5.8 | ) | (13.2 | ) | (105.7 | ) | 97.1 | 46.6 | (47.5 | ) | 38.3 | (36.5 | ) | |||||||||||||||||||
US Dollar | 0.7 | (1.3 | ) | (3.4 | ) | 4.8 | (13.2 | ) | 15.3 | 6.5 | (5.7 | ) | ||||||||||||||||||||
Euro | (15.3 | ) | (12.8 | ) | (0.5 | ) | 2.0 | (15.5 | ) | 9.7 | (6.8 | ) | 3.6 | |||||||||||||||||||
Other | (0.2 | ) | 0.2 | 0.2 | (0.2 | ) | 0.4 | (0.4 | ) | (0.1 | ) | 0.1 | ||||||||||||||||||||
Total | (20.6 | ) | (27.1 | ) | (109.4 | ) | 103.7 | 18.3 | (22.9 | ) | 37.9 | (38.5 | ) |
The table below shows the banking book income sensitivity to an instantaneous parallel up and down 25 and 100 basis points change to all interest rates.
Table 1.37:AQ:Group Banking activities: net interest income sensitivity (audited)
2016 | 2015 | |||||||||||||||||||||||||||||||
Up 25bps | Down 25bps | Up 100bps | Down 100bps | Up 25bps | Down 25bps | Up 100bps | Down 100bps | |||||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | £m | £m | |||||||||||||||||||||||||
Client facing activity and associated hedges | 176.8 | (286.1 | ) | 724.9 | (408.0 | ) | 152.4 | (140.1 | ) | 604.7 | (464.2 | ) |
2019 | 2018 | |||||||||||||||||||||||||||||||
Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | |||||||||||||||||||||||||
Client facing activity and associated hedges | 109.4 | (147.9 | ) | 430.8 | (702.8 | ) | 76.2 | (125.4 | ) | 341.6 | (538.6 | ) |
Income sensitivity is measured over a rolling 12 month basis.
The increase in the net interest income sensitivity continues to reflect structural hedging againsta downwards 100bps shock reflects additional margin compression. The increased sensitivity reflects both the timing of margin management, and the level of floors giving rise to increased compression risk within retail savings and a reduction in the Group.size of the structural hedge.
Basis risk, foreign exchange, equity, and credit spread risks are measured primarily through scenario analysis by assessing the impact on profit before tax over a 12 month horizon arising from a change in market rates, and reported within the Board Risk Appetiterisk appetite on a monthly basis. Supplementary measures such as sensitivity and exposure limits are applied where they provide greater insight into risk positions. Frequency of reporting supplementary measures varies from daily to quarterly appropriate to each risk type.
MITIGATIONMitigation
The Group’s policy is to optimise reward whilst managing its market risk exposures within the risk appetite defined by the Board. The Group Market Risk policyPolicy and procedures outlines the hedging process, and the centralisation of risk from divisions into GCT, e.g. via Transfer Pricing Framework.the transfer pricing framework. GCT is responsible for managing the centralised risk and does this through natural offsets of matching assets and liabilities, and appropriate hedging activity of the residual exposures, subject to the authorisation and mandate of GALCO within the Board risk appetite. Derivative desks in Financial Markets will then externalise theThe hedges are externalised to the market.market by derivative desks within GCT and Commercial Banking Markets. The Group hasmitigates income statement volatility through hedge accounting solutions in place, which reduceaccounting. This reduces the accounting volatility arising from the Group’s economic hedging activities by utilising both Libor basedLIBOR and Bankbank base rate assets. Any hedge accounting ineffectiveness that leads to accounting volatility is continuously monitored.
The largest residual risk exposure arises from balances that are deemed to be insensitive to changes in market rates (including current accounts, a portion of variable rate deposits and investable equity), and is managed through the Group’s structural hedge. Consistent with the Group’s strategy to deliver stable returns, GALCO seeks to minimise large reinvestment risk, and to smooth earnings over a range of investment tenors. The structural hedge consists of longer-term fixed rate assets or interest rate swaps and the amount and duration of the hedging activity is reviewed regularly by GALCO, with current maximum duration of around four years.GALCO.
Whilst the bank faces margin compression in the current low rate environment,environments, its exposure to pipeline and prepayment risk are not considered material and are hedged in line with expected customer behaviour. These are appropriately monitored and controlled through Divisional ALCOs.divisional Asset and Liability Committees (ALCOs).
Net investment foreign exchange exposures are managed centrally by GCT, by hedging non GBPnon-sterling asset values with currency borrowing.
Economic foreign exchange exposures arising from non-functional currency flows are identified by divisions and transferred and managed centrally. The Group also has a policy of forward hedging its forecasted currency profit and loss to year end. The Group makes use of both accounting and economic foreign exchange exposures, as an offset against the impact of changes in foreign exchange rates on the value of non-sterling-denominated RWAs. This involves the holding of a structurally open currency position; sensitivity is minimised where, for a given currency, the ratio of the structural open position to RWAs equals the CET1 ratio. Continually evaluating this structural open currency position against evolving non-sterling-denominated RWAs, mitigates volatility in the Group’s CET1 ratio.
MONITORINGMonitoring
The appropriate limits and triggers are monitored by senior executive Committeescommittees within the Bankingbanking divisions. Banking assets, liabilities and associated hedging are actively monitored and if necessary rebalanced to be within agreed tolerances.
DEFINED BENEFIT PENSION SCHEMES
EXPOSURESExposures
The Group’s defined benefit pension schemes are exposed to significant risks from their assets and liabilities. The liability discount rate provides exposureexposes the Group to interest rate risk and credit spread risk, which are partially offset by fixed interest assets (such as gilts and corporate bonds) and swaps. Equity and alternative asset risk arises from direct asset holdings. Scheme membership exposes the Group to longevity risk.
For further information on defined benefit pension scheme assets and liabilities please refer to note 36 on page F-47.
OPERATING AND FINANCIAL REVIEW AND PROSPECTSF-61.
MEASUREMENTMeasurement
Management of the schemes’ assets is the responsibility of the Trustees of the schemes who are responsible for setting the investment strategy and for agreeing funding requirements with the Group. Should a funding deficit arise, theThe Group will be liable for meeting it, and asany funding deficit that may arise. As part of athe triennial valuation process, the Group will agree with the Trustees a funding strategy to eliminate the deficit over an appropriate period.
MITIGATIONLongevity risk is measured using both 1-in-20 year stresses (risk appetite) and 1-in-200 year stresses (regulatory capital).
Mitigation
The Group takes an active involvement in agreeing risk management and mitigation strategies with the schemes’ Trustees. An interest rate and inflation hedging programme is in place to reduce liability risk. In recent years theThe schemes have also reduced equity allocation and invested the proceeds in credit assets as partassets. The Trustees have put
105 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
in place a longevity swap to mitigate longevity risk. The merits of a programme to de-risk the portfolio.longevity risk transfer and hedging solutions are reviewed regularly.
MONITORINGMonitoring
In addition to the wider risk management framework, governance of the schemes includes two specialist pensions committees (one Group executive sub-committee and a supporting management committee).committees.
The surplus, or deficit, in the schemes is tracked on a monthly basis along with various single factor and scenario stresses which consider the assets and liabilities holistically. The impact on GroupKey metrics are monitored monthly including the Group’s capital resources of the schemes is monitored monthly. Performancescheme, the performance against risk appetite triggers, is also monitored monthly. Hedges are in place and asset/the performance of the hedged asset and liability matching positions are also actively monitored.positions.
INSURANCE PORTFOLIOS
EXPOSURESExposures
The main elements of market risk to which the Group is exposed through the Insurance business are equity, credit spread, interest rate and inflation.
Equity risk arises indirectly through the value of future management charges on policyholder funds. These management charges form part of the value of in-force business (see note | |
Credit spread risk mainly arises from annuities where policyholders’ future |
market value of the assets which are held to back these liabilities, mainly corporate bonds and loans, do not perform in line with expectations. | |
Interest rate risk arises through holding credit and interest assets mainly in the annuity book and also to cover general insurance liabilities, capital requirements and risk appetite. | |
Inflation exposure arises from a combination of inflation linked policyholder benefits and inflation assumptions used to project future expenses. |
MEASUREMENTMeasurement
Current and potential future market risk exposures within Insurance are assessed using a range of techniques including stress, testing exercisesreverse stress and scenario analyses.testing, as well as stochastic modelling.
Risk measures include 1-in-200 year stresses used for regulatory capital assessments and single factor stresses for profit before tax.
Table 1.38AR demonstrates the impact of the Group’s UK Recession stress scenario on the Insurance business’ portfolio (with no diversification benefit)benefit, but after the impact of Group consolidation on Insurance’s portfolio; this is the most onerous scenario for Insurance out of the Group scenarios.interest rate and credit spreads). The amounts include movements in assets, liabilities and the value of in-force business in respect of insurance contracts and participating investment contracts.
Table 1.38:AR:Insurance business: profit before tax sensitivities
Increase (reduction) in profit before tax | ||||||||
2016 | 20151 | |||||||
£m | £m | |||||||
Interest rates – decrease 100 basis points | (142 | ) | 9 | |||||
Inflation – increase 50 basis points | (34 | ) | (23 | ) | ||||
Credit spreads – 100% widening | (812 | ) | (864 | ) | ||||
Equity – 30% fall | (681 | ) | (616 | ) | ||||
Property – 25% fall | (58 | ) | (51 | ) |
Increase (reduction) in profit before tax | ||||||||
2019 £m | 2018 £m | |||||||
Interest rates – decrease 100 basis points | 116 | 297 | ||||||
Inflation – increase 50 basis points | 30 | 93 | ||||||
Credit spreads – 100% widening | (859 | ) | (823 | ) | ||||
Equity – 30% fall | (68 | ) | (38 | ) | ||||
Property – 25% fall | (47 | ) | (50 | ) | ||||
Total | (828 | ) | (521 | ) |
Further stresses that show the effect of reasonably possible changes in key assumptions, including the risk-free rate, equity investment volatility, widening of credit default spreads on corporate bonds and an increase in illiquidity premia,premium, as applied to profit before tax are set out in note 33.33 on page F-60.
MITIGATIONOne of the consequences of preparations for the formation of the Ring Fenced Bank was to reduce the impact of some stresses within the Insurance business, though Group exposures may not have materially changed. Examples of this include centralisation of defined benefit pension schemes, and the transfer of specific hedging programmes from the corporate centre to the business unit where the exposure emanated.
Mitigation
Equity and credit spread risks are closely monitored and, where appropriate, asset liability matching is undertaken to mitigate risk. A hedging strategy isUnit matching has been used since 2018 to reduce the sensitivity of equity movements by matching unit-linked liabilities on a best-estimate view. Hedging strategies are also in place to reduce exposure from unit-linked funds and the with-profit funds.
Interest rate risk in the annuity book is mitigated by investing in assets whose cash flows closely match those on the projected future liabilities. It is not possible to eliminate risk completely as the timing of insured events is uncertain and bonds are not available at all of the required maturities. As a result, the cash flows cannot be precisely matched and so sensitivity tests are used to test the extent of the mismatch.
Other market risks (e.g. interest rate exposure outside the annuity book and inflation) are also closely monitored and where considered appropriate, hedges are put in place to reduce exposure.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
MONITORINGMonitoring
Market risks in the Insurance business are monitored by Insurance senior executive committees and ultimately the Insurance Board. Monitoring includes the progression of market risk capital against risk appetite limits, as well as the sensitivity of profit before tax to combined market risk stress scenarios and in year market movements. Asset/Asset and liability matching positions and hedges in place are actively monitored and if necessary rebalanced to be within agreed tolerances. In addition market risk is controlled via approved investment policies and mandates.
106 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
TRADING PORTFOLIOSEXPOSURE
EXPOSURES
The Group’s trading activity is small relative to its peers andLiquidity exposure represents the Group does not have a programme of proprietary trading activities. The Group’s trading activity is undertaken solely to meet the financial requirements of commercial and retail customers for foreign exchange, credit and interest rate products. These activities support customer flow and market making activities.
All trading activities are performed within the Commercial Banking division. While the trading positions taken are generally small,potential stressed outflows in any extreme moves in the main risk factors and other related risk factors could cause significant losses in the trading book depending on the positions at the time. The average 95 per cent 1-day trading VaR (diversified across risk factors) was £1.3 million for year end 2016 compared to £1.4 million for year end 2015. This decrease was due to the significant de-risking activities that took place at the portfolio level.
Trading market risk measures are applied to all the Group’s regulatory trading books and they include daily VaR (table 1.39), sensitivity based measures, and stress testing calculations.
MEASUREMENT
future period less expected inflows. The Group internally uses VaR as the primary risk measure for all trading book positions.
Table 1.39 shows some relevant statistics for the Group’s 1-day 95 per cent confidence level VaR that are based on 300 historical consecutive business days to year end 2016 and year end 2015.
The risk of loss measured by the VaR model is the minimum expected loss in earnings given the 95 per cent confidence. The total and average trading VaR numbers reported below have been obtained after the application of the diversification benefits across the five risk types. The maximum and minimum VaR reported for each risk category did not necessarily occur on the same day as the maximum and minimum VaR reported at Group level.
Table 1.39: Trading portfolios: VaR (1-day 95 per cent confidence level) (audited)
At 31 December 2016 | At 31 December 2015 | |||||||||||||||||||||||||||||||
Close | Average | Maximum | Minimum | Close | Average | Maximum | Minimum | |||||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | £m | £m | |||||||||||||||||||||||||
Interest rate risk | 0.7 | 1.3 | 7.7 | 0.5 | 0.8 | 1.4 | 3.5 | 0.8 | ||||||||||||||||||||||||
Foreign exchange risk | 0.1 | 0.3 | 0.8 | 0.1 | 0.2 | 0.3 | 0.8 | 0.1 | ||||||||||||||||||||||||
Equity risk | – | – | – | – | – | – | – | – | ||||||||||||||||||||||||
Credit spread risk | 0.2 | 0.2 | 0.4 | 0.1 | 0.2 | 0.4 | 1.0 | 0.2 | ||||||||||||||||||||||||
Inflation risk | 0.2 | 0.3 | 5.9 | 0.1 | 0.1 | 0.3 | 1.6 | 0.1 | ||||||||||||||||||||||||
All risk factors before diversification | 1.2 | 2.1 | 14.3 | 1.1 | 1.3 | 2.3 | 6.2 | 1.3 | ||||||||||||||||||||||||
Portfolio diversification | (0.5 | ) | (0.8 | ) | (0.4 | ) | (0.9 | ) | ||||||||||||||||||||||||
Total VaR | 0.7 | 1.3 | 5.7 | 0.6 | 0.9 | 1.4 | 3.1 | 0.8 |
The market risk for the trading book continues to be low with respect to the size of the Group and compared to its peers. This reflects the fact that the Group’s trading operations are customer-centric and focused on hedging and recycling client risks. Note that the maximum VaR reported at £5.7 million was due to the incomplete booking of a position by end of day 22 March 2016 and hence did not reflect the true end of day position and was not a real limit breach. The VaR returned to normal levels once the booking was completed the next day. The next highest VaR was £3.8 million.
Although it isconsiders liquidity exposure from both an important market standard measure of risk, VaR has limitations. One of them is the use of limited historical data sample which influences the output by the implicit assumption that future market behaviour will not differ greatly from the historically observed period. Another known limitation is the use of defined holding periods which assumes that the risk can be liquidated or hedged within that holding period. Also calculating the VaR at the chosen confidence interval does not give enough information about potential losses which may occur if this level is exceeded. The Group fully recognises these limitations and supplements the use of VaR with a variety of other measurements which reflect the nature of the business activity. These include detailed sensitivity analysis, position reportinginternal and a stress testing programme.
Trading book VaR (1-day 99 per cent) is compared daily against both hypothetical and clean profit and loss. 1-day 99 per cent VaR charts for Lloyds Bank, HBOS and Lloyds Banking Group models can be found in the Group’s Pillar 3 Report.
MITIGATION
The level of exposure is controlled by establishing and communicating the approved risk limits and controls through policies and procedures that define the responsibility and authority for risk taking. Market risk limits are clearly and consistently communicated to the business. Any new or emerging risks are brought within risk reporting and defined limits.
MONITORING
Trading risk appetite is monitored daily with 1-day 95 per cent VaR and Stress Testing limits. These limits are complemented with position level action triggers and profit and loss referrals. Risk and position limits are set and managed at both desk and overall trading book levels. They are reviewed at least annually and can be changed as required within the overall Group risk appetite framework.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
DEFINITION
Operational risk is defined as the risk of loss resulting from inadequate or failed internal processes, people and systems or from external events.
The aim of operational risk management is to manage operational risks, protecting customers and the Group, whilst delivering sustainable growth. Operational risks are managed in line with defined appetites through the Group Operational Risk Management Framework, evaluating key exposures, measuring risks, mitigating risks, and monitoring risks on an ongoing basis, as set out below.
EXPOSURES
The principal operational risks to the Group are:
A number of these risks also apply where there is a reliance on third party suppliers to provide services to the Group or its customers.regulatory perspective.
MEASUREMENT
OperationalLiquidity risk is managed withinthrough a Board approved framework and risk appetite. A varietyseries of measures, tests and reports that are used such as: scoringprimarily based on contractual maturities with behavioural overlays as appropriate. Note 53 on page F-120 sets out an analysis of potential risks, using impactassets and likelihood, with impact thresholds aligned to risk appetite statements; assessmentliabilities by relevant maturity grouping. The Group undertakes quantitative and qualitative analysis of the effectivenessbehavioural aspects of controls; monitoring of eventsits assets and losses by size, business unit and internal risk categories.
Table 1.40 below shows high level loss and event trends for the Group using Basel II categories. Based on data captured on the Group’s Operational Risk System,liabilities in 2016, the highest frequency of events occurred in external fraud (61.58 per cent) and execution, delivery and process management (24.80 per cent). Clients, products and business practices accounted for 77.62 per cent of losses by value, driven by legacy issues where impacts materialised in 2016 (excluding PPI).
Table 1.40: Operational risk events by risk category (losses greater than or equalorder to £10,000), excluding PPI
% of total volume | % of total losses | |||||||||||||||
2016 | 2015 | 2016 | 2015 | |||||||||||||
Business disruption and system failures | 1.01 | 0.40 | 0.55 | 0.13 | ||||||||||||
Clients, products and business practices | 11.31 | 11.46 | 77.62 | 83.43 | ||||||||||||
Damage to physical assets | 1.05 | 0.06 | 0.27 | 0.04 | ||||||||||||
Employee practices and workplace safety | 0.04 | 0.03 | – | – | ||||||||||||
Execution, delivery and process management | 24.80 | 15.81 | 19.23 | 11.08 | ||||||||||||
External fraud | 61.58 | 71.96 | 2.31 | 5.27 | ||||||||||||
Internal fraud | 0.21 | 0.28 | 0.02 | 0.05 | ||||||||||||
Total | 100.00 | 100.00 | 100.00 | 100.00 |
Operational risk scenario assessments and actual losses are used by the Group to calculate the appropriate holding of operational risk regulatory capital under the Internal Capital Adequacy Assessment Process (ICAAP). The Group calculates its minimum (Pillar I) operational risk capital requirements using The Standardised Approach (TSA), which the Basel Committee has stated as being appropriate for an ‘internationally active’ bank.
OPERATING AND FINANCIAL REVIEW AND PROSPECTSreflect their expected behaviour.
MITIGATION
The Group continues to reviewmanages and invest in its control environment to ensure it addresses the inherentmonitors liquidity risks faced. Risks are reported and discussed at local governance forums and escalated to executive management and Board as appropriate. This ensures the correct level of visibility and engagement. The Group employs a range ofthat liquidity risk management strategies, including: avoidance, mitigation, transfer (which would also include insurance)systems and acceptance. Where there is a reliance on third party suppliersarrangements are adequate with regard to provide services, the Group’s Sourcing Policy ensures that outsourcing initiatives follow a defined sourcing process including due diligenceinternal risk appetite, Group strategy and risk evaluation. Contingency plansregulatory requirements. Liquidity policies and procedures are maintained for a range of potential scenarios, with regular disaster recoverysubject to independent internal oversight by Risk. Overseas branches and scenario testing scheduled to test and challenge the readinesssubsidiaries of the Group may also be required to respondmeet the liquidity requirements of the entity’s domestic country. Management of liquidity requirements is performed by the overseas branch or subsidiary in line with Group policy. Liquidity risk of the eventInsurance business is actively managed and monitored within the Insurance business. The Group plans funding requirements over the life of an incident.
MONITORING
Monitoringthe funding plan, combining business as usual and reporting is undertaken at Board,stressed conditions. The Group manages its liquidity position both with regard to its internal risk appetite and business area committees, in accordance with delegated limits of authority which are regularly reviewedthe Liquidity Coverage Ratio (LCR) as required by the PRA and refreshed. Business unit risk exposure is aggregatedCapital Requirements Directive and discussed at oversight committees, and matters are escalated to the Chief Risk Officer, or higher committees, if appropriate. A combination of: regular management information and reporting from business areas, oversight and challenge from Risk Division, Group Audit and other assurance activities ensures that key risks are regularly presented and debated by executive management.Regulation (CRD IV) liquidity requirements.
The Group’s funding and liquidity position is underpinned by its significant customer deposit base, and is supported by strong relationships across customer segments. The Group maintainshas consistently observed that in aggregate the retail deposit base provides a formal approach to operational risk event escalation, whereby material events are identified, capturedstable source of funding. Funding concentration by counterparty, currency and escalated. Root causes of events are determined, where possible and action plans put in place to ensure an optimum level of control to keep customers and the business safe, reduce costs, and improve efficiency.
The insurance programmetenor is monitored and reviewed regularly, with recommendations being made to the Group’s senior management annually prior to each renewal. Insurers are monitored on an ongoing basis and where concentrations do exist, these are managed as part of the planning process and limited by internal funding and liquidity risk monitoring framework, with analysis regularly provided to ensure counterparty risksenior management.
To assist in managing the balance sheet, the Group operates a Liquidity Transfer Pricing (LTP) process which: allocates relevant interest expenses from the centre to the Group’s banking businesses within the internal management accounts; helps drive the correct inputs to customer pricing; and is minimised. A process isconsistent with regulatory requirements. LTP makes extensive use of behavioural maturity profiles, taking account of expected customer loan prepayments and stability of customer deposits, modelled on historic data.
The Group can monetise liquid assets quickly, either through the repurchase agreements (repo) market or through outright sale. In addition, the Group has pre-positioned a substantial amount of assets at the Bank of England’s Discount Window Facility which can be used to access additional liquidity in place to manage any insurer rating changes or insolvencies.a time of stress. The Group considers diversification
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across geography, currency, markets and tenor when assessing appropriate holdings of liquid assets. The Group’s liquid asset buffer is available for deployment at immediate notice, subject to complying with regulatory requirements.
Liquidity risk within the Insurance business may result from: the inability to sell financial assets quickly at their fair values; an insurance liability falling due for payment earlier than expected; the inability to generate cash inflows as anticipated; an unexpected large operational event; or from a general insurance catastrophe, for example, a significant weather event. Liquidity risk is actively managed and monitored within the Insurance business to ensure that it remains within approved risk appetite, so that even under stress conditions, there is sufficient liquidity to meet obligations.
MONITORING
Daily monitoring and control processes are in place to address internal and regulatory liquidity requirements. The Group monitors a range of market and internal early warning indicators on a daily basis for early signs of liquidity risk in the market or specific to the Group. This captures regulatory metrics as well as metrics the Group considers relevant for its liquidity profile. These are a mixture of quantitative and qualitative measures, including: daily variation of customer balances; changes in maturity profiles; funding concentrations; changes in LCR outflows; credit default swap (CDS) spreads; and basis risks.
The Group carries out internal stress testing of its liquidity and potential cash flow mismatch position over both short (up to one month) and longer-term horizons against a range of scenarios forming an important part of the internal risk appetite. The scenarios and assumptions are reviewed at least annually to ensure that they continue to be relevant to the nature of the business including reflecting emerging horizon risks to the Group. For further information on the Group’s 2019 liquidity stress testing results refer to page 98.
The Group maintains a Contingency Funding Framework as part of the wider Recovery Plan which is designed to identify emerging liquidity concerns at an early stage, so that mitigating actions can be taken to avoid a more serious crisis developing. Contingency Funding Plan invocation and escalation processes are based on analysis of five major quantitative and qualitative components, comprising assessment of: early warning indicators; prudential and regulatory liquidity risk limits and triggers; stress testing results; event and systemic indicators; and market intelligence.
Funding and liquidity management in 2019
The Group has maintained its strong funding and liquidity position with a stable loan to deposit ratio of 107 per cent.
During 2019, the Group repaid its Funding for Lending Scheme (FLS) contractual maturities of £12.1 billion and early repaid £4.5 billion of its Term Funding Scheme (TFS) drawings, representing all of its 2020 TFS maturities. This has reduced the balance of FLS outstanding to £1 billion and the balance of TFS to £15.4 billion as at 31 December 2019.
The Group’s liquidity coverage ratio (LCR) was 137 per cent (based on a monthly rolling average over the previous 12 months) as at 31 December 2019 calculated on a consolidated basis based on the EU Delegated Act. Following the implementation of structural reform, liquidity risk is managed at a legal entity level with the Group consolidated LCR representing the composite of the ring-fenced bank and non ring-fenced bank entities.
The Group’s credit ratings continue to reflect its robust balance sheet, resilient underlying profitability and bail-in capital position. There were no changes to the ratings over 2019, although in November, Moody’s revised the Group’s and Lloyds Bank plc’s outlooks to negative due to concern relating to the UK’s exit from the European Union. In March Fitch placed the majority of UK banks, including the Group’s entities, on Ratings Watch Negative before stabilising the ratings in December given the reduced risk of a no-deal exit from the EU.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table AF:Group funding position
At 31 Dec 2019 £bn | At 31 Dec 2018 £bn | Change % | ||||||||||
Funding requirement | ||||||||||||
Loans and advances to customers1 | 440.4 | 444.4 | (1 | ) | ||||||||
Loans and advances to banks2 | 8.1 | 5.9 | 37 | |||||||||
Debt securities at amortised cost | 3.9 | 4.0 | (5 | ) | ||||||||
Reverse repurchase agreements | – | – | – | |||||||||
Financial assets at fair value through other comprehensive income – non-LCR eligible3 | 0.1 | 0.8 | (75 | ) | ||||||||
Cash and balances at central bank – non-LCR eligible4 | 5.7 | 5.8 | (2 | ) | ||||||||
Funded assets | 458.2 | 460.9 | – | |||||||||
Other assets5 | 251.7 | 212.9 | 18 | |||||||||
709.9 | 673.8 | |||||||||||
On balance sheet LCR eligible liquid assets | ||||||||||||
Reverse repurchase agreements | 56.2 | 40.9 | 37 | |||||||||
Cash and balances at central banks4 | 49.4 | 48.9 | 1 | |||||||||
Debt securities at amortised cost | 1.6 | 1.2 | 42 | |||||||||
Financial assets at fair value through other comprehensive income | 25.0 | 24.0 | 4 | |||||||||
Trading and fair value through profit and loss | 4.0 | 11.9 | (66 | ) | ||||||||
Repurchase agreements | (12.2 | ) | (3.1 | ) | ||||||||
124.0 | 123.8 | – | ||||||||||
Total Group assets | 833.9 | 797.6 | 5 | |||||||||
Less: other liabilities5 | (230.6 | ) | (187.9 | ) | 23 | |||||||
Funding requirement | 603.3 | 609.7 | (1 | ) | ||||||||
Funded by | ||||||||||||
Customer deposits6 | 411.8 | 416.3 | ||||||||||
Wholesale funding7 | 128.3 | 123.3 | 4 | |||||||||
540.1 | 539.6 | – | ||||||||||
Term funding scheme | 15.4 | 19.9 | (23 | ) | ||||||||
Total equity | 47.8 | 50.2 | (5 | ) | ||||||||
Total funding | 603.3 | 609.7 | (1 | ) |
1 | Excludes reverse repos of £54.6 billion (31 December 2018: £40.5 billion). |
2 | Excludes £0.1 billion (31 December 2018: £nil) of loans and advances to banks within the Insurance business and £1.6 billion (31 December 2018: £0.4 billion) of reverse repurchase agreements. |
3 | Non-LCR eligible liquid assets comprise a diversified pool of highly rated unencumbered collateral (including retained issuance). |
4 | Cash and balances at central banks are combined in the Group’s balance sheet. |
5 | Other assets and other liabilities primarily include balances in the Group’s Insurance business and the fair value of derivative assets and liabilities. |
6 | Excludes repos of £9.5 billion (31 December 2018: £1.8 billion). |
7 | The Group’s definition of wholesale funding aligns with that used by other international market participants; including interbank deposits, debt securities in issue and subordinated liabilities. |
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Table AGReconciliation of Group funding to the balance sheet (audited)
Included in funding analysis £bn | Repos and cash collateral received by Insurance £bn | Fair value and other accounting methods £bn | Balance sheet £bn | |||||||||||||
At 31 December 2019 | ||||||||||||||||
Deposits from banks | 9.6 | 18.7 | (0.1 | ) | 28.2 | |||||||||||
Debt securities in issue | 102.1 | – | (4.4 | ) | 97.7 | |||||||||||
Subordinated liabilities | 16.6 | – | 0.5 | 17.1 | ||||||||||||
Total wholesale funding | 128.3 | 18.7 | ||||||||||||||
Customer deposits | 411.8 | 9.5 | – | 421.3 | ||||||||||||
Total | 540.1 | 28.2 | ||||||||||||||
At 31 December 2018 | ||||||||||||||||
Deposits from banks | 8.3 | 22.1 | (0.1 | ) | 30.3 | |||||||||||
Debt securities in issue | 97.1 | – | (5.9 | ) | 91.2 | |||||||||||
Subordinated liabilities | 17.9 | – | (0.2 | ) | 17.7 | |||||||||||
Total wholesale funding | 123.3 | 22.1 | ||||||||||||||
Customer deposits | 416.3 | 1.8 | – | 418.1 | ||||||||||||
Total | 539.6 | 23.9 |
Table AH:Analysis of 2019 total wholesale funding by residual maturity
Less than one month £bn | One to three months £bn | Three to six months £bn | Six to nine months £bn | Nine months to one year £bn | One to two years £bn | Two to five years £bn | More than five years £bn | Total at 31 Dec 2019 £bn | Total at 31 Dec 2018 £bn | |||||||||||||||||||||||||||||||
Deposits from banks | 7.3 | 1.3 | 0.3 | 0.1 | 0.1 | 0.2 | 0.3 | – | 9.6 | 8.3 | ||||||||||||||||||||||||||||||
Debt securities in issue: | ||||||||||||||||||||||||||||||||||||||||
Certificates of deposit | 1.2 | 2.6 | 2.8 | 2.4 | 1.2 | 0.4 | – | – | 10.6 | 12.0 | ||||||||||||||||||||||||||||||
Commercial paper | 1.3 | 3.5 | 2.8 | 0.9 | 0.4 | – | – | – | 8.9 | 8.0 | ||||||||||||||||||||||||||||||
Medium-term notes | 1.0 | 0.8 | 1.8 | 1.2 | 0.2 | 6.6 | 19.3 | 17.1 | 48.0 | 45.4 | ||||||||||||||||||||||||||||||
Covered bonds | 0.8 | 1.3 | – | 2.9 | – | 6.1 | 10.6 | 7.0 | 28.7 | 27.1 | ||||||||||||||||||||||||||||||
Securitisation | 0.4 | – | 1.1 | 0.9 | 0.4 | 1.7 | 1.4 | – | 5.9 | 4.6 | ||||||||||||||||||||||||||||||
4.7 | 8.2 | 8.5 | 8.3 | 2.2 | 14.8 | 31.3 | 24.1 | 102.1 | 97.1 | |||||||||||||||||||||||||||||||
Subordinated liabilities | – | 1.2 | – | 1.0 | 0.1 | 0.5 | 4.3 | 9.5 | 16.6 | 17.9 | ||||||||||||||||||||||||||||||
Total wholesale funding1 | 12.0 | 10.7 | 8.8 | 9.4 | 2.4 | 15.5 | 35.9 | 33.6 | 128.3 | 123.3 |
1 | The Group’s definition of wholesale funding aligns with that used by other international market participants; including interbank deposits, debt securities and subordinated liabilities. |
Table AI:Total wholesale funding by currency (audited)
Sterling £bn | US Dollar £bn | Euro £bn | Other currencies £bn | Total £bn | ||||||||||||||||
At 31 December 2019 | 28.7 | 49.6 | 40.9 | 9.1 | 128.3 | |||||||||||||||
At 31 December 2018 | 25.8 | 45.2 | 42.8 | 9.5 | 123.3 |
Table AJ:Analysis of 2019 term issuance (audited)
Sterling £bn | US Dollar £bn | Euro £bn | Other currencies £bn | Total £bn | ||||||||||||||||
Securitisation | 1.6 | 0.4 | – | – | 2.0 | |||||||||||||||
Medium-term notes | 0.5 | 3.2 | 1.8 | 1.1 | 6.6 | |||||||||||||||
Covered bonds | 2.0 | 0.8 | 2.8 | – | 5.6 | |||||||||||||||
Private placements1 | 0.1 | 0.3 | 0.9 | – | 1.3 | |||||||||||||||
Subordinated liabilities2 | 0.5 | 0.4 | – | – | 0.9 | |||||||||||||||
Total issuance | 4.7 | 5.1 | 5.5 | 1.1 | 16.4 |
1 | Private placements include structured bonds. |
2 | Consists of AT1 issuances. |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The Group continues to access wholesale funding markets across a wide range of products, currencies and investors to maintain a stable and diverse source of funds. In 2019, the Group has continued with this approach to funding, including capital and funding from the holding company, Lloyds Banking Group plc, as needed to transition towards final UK Minimum Requirements for Own Funds and Eligible Liabilities (MREL). The Group will continue to issue funding trades from Lloyds Bank plc, the ring-fenced bank operating company, across senior unsecured, covered bonds, ABS and RMBS. In 2019, the Group launched an operating company funding programme for LBCM, the non-ring-fenced bank, and have since issued a number of trades for this entity including an inaugural five year £500 million senior unsecured public benchmark transaction. The maturity of the Funding for Lending and Term Funding Schemes are fully factored into the Group’s funding plans.
Liquidity Portfolio
At 31 December 2019, the banking business had £118.3 billion of highly liquid unencumbered LCR eligible assets (31 December 2018: £129.4 billion), of which £115.7 billion is LCR level 1 eligible (31 December 2018: £128.6 billion) and £2.6 billion is LCR level 2 eligible (31 December 2018: £0.8 billion). These assets are available to meet cash and collateral outflows and regulatory requirements. Total LCR eligible liquid assets represent over five times the Group’s money market funding less than one year to maturity (excluding derivative collateral margins and settlement accounts) and thus provide a substantial buffer in the event of market dislocation. The Insurance business manages a separate liquidity portfolio to mitigate insurance liquidity risk.
Table AK:LCR eligible assets
At 31 Dec 2019 £bn | At 31 Dec 2018 £bn | Change % | Average 2019 £bn | Average 2018 £bn | ||||||||||||||||
Level 1 | ||||||||||||||||||||
Cash and central bank reserves | 49.4 | 48.9 | 1 | 50.9 | 58.1 | |||||||||||||||
High quality government/MDB/agency bonds1 | 63.9 | 78.7 | (19 | ) | 76.4 | 66.2 | ||||||||||||||
High quality covered bonds | 2.4 | 1.0 | 1.9 | 0.8 | ||||||||||||||||
Total | 115.7 | 128.6 | (10 | ) | 129.2 | 125.1 | ||||||||||||||
Level 22 | 2.6 | 0.8 | 1.5 | 0.8 | ||||||||||||||||
Total LCR eligible assets | 118.3 | 129.4 | (9 | ) | 130.7 | 125.9 |
1 | Designated multilateral development bank (MDB). |
2 | Includes Level 2A and Level 2B. |
Table AL:LCR eligible assets by currency
Sterling £bn | US Dollar £bn | Euro £bn | Other currencies £bn | Total £bn | ||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||
Level 1 | 91.5 | 11.7 | 12.5 | – | 115.7 | |||||||||||||||
Level 2 | 1.7 | 0.5 | 0.4 | – | 2.6 | |||||||||||||||
Total | 93.2 | 12.2 | 12.9 | – | 118.3 | |||||||||||||||
At 31 December 2018 | ||||||||||||||||||||
Level 1 | 98.2 | 19.8 | 10.6 | – | 128.6 | |||||||||||||||
Level 2 | 0.4 | 0.4 | – | – | 0.8 | |||||||||||||||
Total | 98.6 | 20.2 | 10.6 | – | 129.4 |
The banking business also has a significant amount of non-LCR eligible liquid assets which are eligible for use in a range of central bank or similar facilities. Future use of such facilities will be based on prudent liquidity management and economic considerations, having regard for external market conditions.
Stress testing results
Internal liquidity stress testing results at 31 December 2019 showed that the banking business had liquidity resources representing 158 per cent of modelled outflows over a three month period from all wholesale funding sources, retail and corporate deposits, intraday requirements and rating dependent contracts under the Group’s most severe liquidity stress scenario.
This scenario includes a two notch downgrade of the Group’s current long-term debt rating and accompanying one notch short-term downgrade implemented instantaneously by all major rating agencies.
Encumbered assets
This disclosure provides further detail on the availability of assets that could be used to support potential future funding requirements of the Group.
The disclosure is not designed to identify assets that would be available in the event of a resolution or bankruptcy.
The Board and the Group Asset and Liability Committee (GALCO) monitor and manage total balance sheet encumbrance using a number of risk appetite metrics. At 31 December 2019, the Group had £60.6 billion (31 December 2018: £53.4 billion) of externally encumbered on-balance sheet assets with counterparties other than central banks. The increase in encumbered assets was primarily driven by an increase in covered bond issuance. The Group also had £639.5 billion (31 December 2018: £584.3 billion) of unencumbered on-balance sheet assets, and £133.7 billion (31 December 2018: £159.8 billion) of pre-positioned and encumbered assets held with central banks, the reduction in the latter was primarily driven by a decrease in encumbrance relating to FLS and TFS maturities in the year. Primarily, the Group encumbers mortgages, unsecured lending and credit card receivables through the issuance programmes and tradable securities through securities financing activity. The Group mainly positions mortgage assets at central banks.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table AM:On balance sheet encumbered and unencumbered assets
Encumbered with counterparties other than central banks | Pre- positioned and | Unencumbered assets not pre-positioned with central banks | ||||||||||||||||||||||||||||||||||||||
Securitisations £m | Covered bond £m | Other £m | Total £m | encumbered assets held with central banks £m | Readily realisable1 £m | Other realisable assets2 £m | Cannot be used3 £m | Total £m | Total £m | |||||||||||||||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||||||||||||||||||
Cash and balances at central banks | – | – | – | – | – | 49,270 | – | 5,860 | 55,130 | 55,130 | ||||||||||||||||||||||||||||||
Financial assets at fair value through profit or loss | 51 | – | 4,834 | 4,885 | – | 2,469 | – | 152,835 | 155,304 | 160,189 | ||||||||||||||||||||||||||||||
Derivative financial instruments | – | – | – | – | – | – | – | 26,369 | 26,369 | 26,369 | ||||||||||||||||||||||||||||||
Financial assets at amortised cost: | ||||||||||||||||||||||||||||||||||||||||
Loans and advances to banks | – | – | 1 | 1 | – | 1,858 | 3,851 | 4,065 | 9,774 | 9,775 | ||||||||||||||||||||||||||||||
Loans and advances to customers | 7,319 | 33,161 | 7,109 | 47,589 | 133,732 | 14,087 | 171,370 | 128,210 | 313,667 | 494,988 | ||||||||||||||||||||||||||||||
Debt securities | – | – | 553 | 553 | – | 3,200 | – | 1,791 | 4,991 | 5,544 | ||||||||||||||||||||||||||||||
7,319 | 33,161 | 7,663 | 48,143 | 133,732 | 19,145 | 175,221 | 134,066 | 328,432 | 510,307 | |||||||||||||||||||||||||||||||
Financial assets at fair value through other comprehensive income | – | – | 7,617 | 7,617 | – | 16,919 | – | 556 | 17,475 | 25,092 | ||||||||||||||||||||||||||||||
Other4 | – | – | – | – | – | – | 514 | 56,292 | 56,806 | 56,806 | ||||||||||||||||||||||||||||||
Total assets | 7,370 | 33,161 | 20,114 | 60,645 | 133,732 | 87,803 | 175,735 | 375,978 | 639,516 | 833,893 | ||||||||||||||||||||||||||||||
At 31 December 2018 | ||||||||||||||||||||||||||||||||||||||||
Cash and balances at central banks | – | – | – | – | – | 49,645 | – | 5,018 | 54,663 | 54,663 | ||||||||||||||||||||||||||||||
Trading and other financial assets at fair value through profit or loss | 54 | – | 2,646 | 2,700 | – | 5,190 | – | 150,639 | 155,829 | 158,529 | ||||||||||||||||||||||||||||||
Derivative financial instruments | – | – | – | – | – | – | – | 23,595 | 23,595 | 23,595 | ||||||||||||||||||||||||||||||
Financial assets at amortised cost: | ||||||||||||||||||||||||||||||||||||||||
Loans and advances to banks | – | – | 12 | 12 | – | 1,223 | 2,555 | 2,493 | 6,271 | 6,283 | ||||||||||||||||||||||||||||||
Loans and advances to customers | 5,774 | 29,041 | 6,012 | 40,827 | 159,822 | 12,098 | 155,278 | 116,833 | 284,209 | 484,858 | ||||||||||||||||||||||||||||||
Debt securities | – | – | 2,627 | 2,627 | – | 2,581 | 4 | 26 | 2,611 | 5,238 | ||||||||||||||||||||||||||||||
5,774 | 29,041 | 8,651 | 43,466 | 159,822 | 15,902 | 157,837 | 119,352 | 293,091 | 496,379 | |||||||||||||||||||||||||||||||
Financial assets at fair value through other comprehensive income: | – | – | 7,278 | 7,278 | – | 17,114 | – | 423 | 17,537 | 24,815 | ||||||||||||||||||||||||||||||
Other4 | – | – | – | – | – | 56 | 612 | 38,949 | 39,617 | 39,617 | ||||||||||||||||||||||||||||||
Total assets | 5,828 | 29,041 | 18,575 | 53,444 | 159,822 | 87,907 | 158,449 | 337,976 | 584,332 | 797,598 |
1 | Assets regarded by the Group to be readily realisable in the normal course of business, to secure funding, meet collateral needs, or be sold to reduce potential future funding requirements, and are not subject to any restrictions on their use for these purposes. |
2 | Assets where there are no restrictions on their use to secure funding, meet collateral needs, or be sold to reduce potential future funding requirements, but are not readily realisable in the normal course of business in their current form. |
3 | The following assets are classified as unencumbered – cannot be used: assets held within the Group’s Insurance businesses which are generally held to either back liabilities to policyholders or to support the solvency of the Insurance subsidiaries; assets held within consolidated limited liability partnerships which provide security for the Group’s obligations to its pension schemes; assets segregated in order to meet the Financial Resilience requirements of the PRA’s Supervisory Statement 9/6 ‘Operational Continuity in Resolution’; assets pledged to facilitate the use of intra-day payment and settlement systems; and reverse repos and derivatives balance sheet ledger items. |
4 | Other comprises: items in the course of collection from banks; investment properties; goodwill; value in-force business; other intangible assets; tangible fixed assets; current tax recoverable; deferred tax assets; retirement benefit assets; investments in joint ventures and associates; assets arising from reinsurance contracts held and other assets. |
The above table sets out the carrying value of the Group’s encumbered and unencumbered assets, separately identifying those that are available to support the Group’s funding needs. The table does not include collateral received by the Group (i.e. from reverse repos) that is not recognised on its balance sheet, the vast majority of which the Group is permitted to repledge.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
FUNDING AND LIQUIDITY RISK – CONTRACTUAL CASH OBLIGATIONS
The following table sets out the amounts and maturities of Lloyds Banking Group’s contractual cash obligations at 31 December 2019.
Within one year £m | One to three years £m | Three to five years £m | Over five years £m | Total £m | ||||||||||||||||
Long-term debt – dated | 2,442 | 356 | 2,345 | 7,343 | 12,486 | |||||||||||||||
Debt securities in issue | 29,977 | 26,556 | 19,082 | 29,605 | 105,220 | |||||||||||||||
Lease liabilities | 241 | 429 | 315 | 859 | 1,844 | |||||||||||||||
Capital commitments | 405 | – | – | – | 405 | |||||||||||||||
Other purchase obligations | 1,232 | 1,946 | 1,209 | 929 | 5,316 | |||||||||||||||
34,297 | 29,287 | 22,951 | 38,736 | 125,271 |
Other purchase obligations include amounts expected to be payable in respect of material contracts entered into by Lloyds Banking Group, in the ordinary course of business, for the provision of outsourced and other services. The cost of these services will be charged to the income statement as it is incurred. Lloyds Banking Group also has a constructive obligation to ensure that its defined post-retirement benefit schemes remain adequately funded. The amount and timing of Lloyds Banking Group’s cash contributions to these schemes is uncertain and will be affected by factors such as future investment returns and demographic changes. Lloyds Banking Group expects to make cash contributions of at least £1,200 million to these schemes in 2020.
At 31 December 2019, Lloyds Banking Group also had £4,642 million of preference shares, preferred securities and undated subordinated liabilities outstanding.
At 31 December 2019, the principal sources of potential liquidity for Lloyds Banking Group plc were dividends received from its directly owned subsidiary companies, particularly Lloyds Bank plc and Scottish Widows Group Limited, and loans from this and other Lloyds Banking Group companies. The ability of Lloyds Bank to pay dividends going forward, or for Lloyds Bank or other Lloyds Banking Group companies to make loans to Lloyds Banking Group plc, depends on a number of factors, including their own regulatory capital requirements, distributable reserves and financial performance.
OFF-BALANCE SHEET ARRANGEMENTS
A table setting out the amounts and maturities of Lloyds Banking Group’s other commercial commitments and guarantees at 31 December 2019 is included in note 53 to the financial statements. These commitments and guarantees are not included in Lloyds Banking Group’s consolidated balance sheet.
Lending commitments are agreements to lend to customers in accordance with contractual provisions; these are either for a specified period or, as in the case of credit cards and overdrafts, represent a revolving credit facility which can be drawn down at any time, provided that the agreement has not been terminated. The total amounts of unused commitments do not necessarily represent future cash requirements, in that commitments often expire without being drawn upon.
Lloyds Banking Group’s banking businesses are also exposed to liquidity risk through the provision of securitisation facilities to certain corporate customers. At 31 December 2019, Lloyds Banking Group offered securitisation facilities to its corporate and financial institution client base through its conduit securitisation vehicles, Argento, Cancara and Grampian. These are funded in the global asset-backed commercial paper market. The assets and obligations of these conduits are included in Lloyds Banking Group’s consolidated balance sheet. Lloyds Banking Group provides short-term asset-backed commercial paper liquidity support facilities on commercial terms to the issuers of the commercial paper, for use in the event of a market disturbance should they be unable to roll over maturing commercial paper or obtain alternative sources of funding.
Details of securitisations and other special purpose entity arrangements entered into by Lloyds Banking Group are provided in notes 32 and 49 to the financial statements. The successful development of Lloyds Banking Group’s ability to securitise its own assets has provided a mechanism to tap a well established market, thereby diversifying Lloyds Banking Group’s funding base.
Within Lloyds Banking Group’s insurance businesses, the principal sources of liquidity are premiums received from policyholders, charges levied upon policyholders, investment income and the proceeds from the sale and maturity of investments. The investment policies followed by Lloyds Banking Group’s life assurance companies take account of anticipated cash flow requirements including by matching the cash inflows with projected liabilities where appropriate. Cash deposits and highly liquid government securities are available to provide liquidity to cover any higher than expected cash outflows.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
DEFINITION
FundingGovernance risk is defined as the risk that the Group’s organisational infrastructure fails to provide robust oversight of decision-making and the control mechanisms to ensure strategies and management instructions are implemented effectively.
EXPOSURES
The internal and corporate governance arrangements of major financial institutions continue to be subject to a high level of regulatory and public scrutiny. The Group’s exposure to governance risk is also reflective of the significant volume of existing and proposed legislation and regulation, both within the UK and across the multiple jurisdictions within which it operates, with which it must comply.
MEASUREMENT
The Group’s governance arrangements are assessed against new or proposed legislation and regulation and best practice among peer organisations in order to identify any areas of enhancement required.
MITIGATION
The Group’s enterprise risk management framework (ERMF) establishes robust arrangements for risk governance, in particular by:
Defining individual and collective accountabilities for risk management, risk oversight and risk assurance through a three lines of defence model which supports the discharge of responsibilities to customers, shareholders and regulators; | |
Outlining governance arrangements which articulate the enterprise-wide approach to risk management; and | |
Supporting a consistent approach to Group-wide behaviour and risk decision-making through a Group policy framework which helps everyone understand their responsibilities by clearly articulating and communicating rules, standards, boundaries and risk appetite measures which can be controlled, enforced and monitored. |
Under the banner of the ERMF, training modules are in place to support all colleagues in understanding and fulfilling their risk responsibilities.
The Group’s Code of Responsibility embodies its values and reflect its commitment to operating responsibly and ethically both at a business and an individual level. All colleagues are required to adhere to the code in all aspects of their roles.
Effective implementation of the ERMF mutually reinforces and is reinforced by the Group’s risk culture, which is embedded in its approach to recruitment, selection, training, performance management and reward.
MONITORING
A review of the Group’s ERMF, which includes the status of the Group’s principles and policy framework, and the design and operational effectiveness of key governance committees, is undertaken on an annual basis and the findings are reported to the Group does not have sufficiently stableRisk Committee, Board Risk Committee and diverse sources of funding or the funding structure is inefficient. LiquidityBoard.
For further information on corporate governance see pages 143 to 169.
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DEFINITION
Market risk is defined as the risk that unfavourable market moves (including changes in and increased volatility of interest rates, market-implied inflation rates, credit spreads and prices for bonds, foreign exchange rates, equity, property and commodity prices and other instruments) lead to reductions in earnings and/or value.
Balance sheet linkages
The information provided in table AN aims to facilitate the understanding of linkages between banking, trading, and insurance balance sheet items and the positions disclosed in the Group’s market risk disclosures.
Table AN:Market risk linkage to the balance sheet
Banking | ||||||||||||||||||
2019 | Total £m | Trading book only £m | Non-trading £m | Insurance £m | Primary market risk factor | |||||||||||||
Assets | ||||||||||||||||||
Cash and balances at central banks | 55,130 | – | 55,130 | – | Interest rate | |||||||||||||
Financial assets at fair value through profit or loss | 160,189 | 17,982 | 5,352 | 136,855 | Interest rate, foreign exchange, credit spread | |||||||||||||
Derivative financial instruments | 26,369 | 18,885 | 5,119 | 2,365 | Interest rate, foreign exchange, credit spread | |||||||||||||
Financial assets at amortised cost | ||||||||||||||||||
Loans and advances to banks | 9,775 | – | 9,710 | 65 | Interest rate | |||||||||||||
Loans and advances to customers | 494,988 | – | 494,948 | 40 | Interest rate | |||||||||||||
Debt securities | 5,544 | – | 5,544 | – | Interest rate, credit spread | |||||||||||||
510,307 | – | 510,202 | 105 | |||||||||||||||
Financial assets at fair value through other comprehensive income | 25,092 | – | 25,092 | – | Interest rate, foreign exchange, credit spread | |||||||||||||
Value of in-force business | 5,558 | – | – | 5,558 | Equity | |||||||||||||
Other assets | 51,248 | – | 22,410 | 28,838 | Interest rate | |||||||||||||
Total assets | 833,893 | 36,867 | 623,305 | 173,721 | ||||||||||||||
Liabilities | ||||||||||||||||||
Deposit from banks | 28,179 | – | 28,179 | – | Interest rate | |||||||||||||
Customer deposits | 421,320 | – | 421,320 | – | Interest rate | |||||||||||||
Financial liabilities at fair value through profit or loss | 21,486 | 13,955 | 7,531 | – | Interest rate, foreign exchange | |||||||||||||
Derivative financial instruments | 25,779 | 15,654 | 7,719 | 2,406 | Interest rate, foreign exchange, credit spread | |||||||||||||
Debt securities in issue | 97,689 | – | 97,689 | – | Interest rate, credit spread | |||||||||||||
Liabilities arising from insurance and investment contracts | 148,908 | – | – | 148,908 | Credit spread | |||||||||||||
Subordinated liabilities | 17,130 | – | 15,335 | 1,795 | Interest rate, foreign exchange | |||||||||||||
Other liabilities | 25,596 | – | 10,678 | 14,918 | Interest rate | |||||||||||||
Total liabilities | 786,087 | 29,609 | 588,451 | 168,027 |
The defined benefit pension schemes’ assets and liabilities are included under Other assets and Other liabilities in this table and note 36 on page F-61 provides further information.
The Group’s trading book assets and liabilities are originated within the Commercial Banking division. Within the Group’s balance sheet these fall under the trading assets and liabilities and derivative financial instruments. The assets and liabilities are classified as trading books if they meet the requirements as set out in the Capital Requirements Regulation, article 104. Further information on these activities can be found under the Trading portfolios section on page 107.
Derivative assets and liabilities are held by the Group for three main purposes; to provide risk management solutions for clients, to manage portfolio risks arising from client business and to manage and hedge the Group’s own risks. Insurance business assets and liabilities relate to policyholder funds, as well as shareholder invested assets, including annuity funds. The Group recognises the value of in-force business in respect of Insurance’s long-term life assurance contracts as an asset in the balance sheet (see note 25, page F-51).
The Group ensures that it has insufficient financial resourcesadequate cash and balances at central banks and stocks of high quality liquid assets (e.g. gilts or US Treasury securities) that can be converted easily into cash to meet liquidity requirements. The majority of these assets are asset swapped and held at fair value through other comprehensive income with the remainder held as financial assets at fair value through profit and loss. Further information on these balances can be found under funding and liquidity risk on page 94.
The majority of debt issuance originates from the Group’s capital and funding activities and the interest rate risk of the debt issued is hedged by swapping them into a floating rate.
The non-trading book primarily consists of customer on-balance sheet activities and the Group’s capital and funding activities, which expose it to the risk of adverse movements in market prices, predominantly interest rates, credit spreads, exchange rates and equity prices, as described in further detail within the Banking activities section (page 103).
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
MEASUREMENT
In addition to measuring single factors, Group risk appetite is calibrated primarily to five multi-risk Group economic scenarios, and is supplemented with sensitivity-based measures. The scenarios assess the impact of unlikely, but plausible, adverse stresses on income with the worst case for banking activities, defined benefit pensions, insurance and trading portfolios reported against independently, and across the Group as a whole.
The Group risk appetite is cascaded first to the Group Asset and Liability Committee (GALCO), chaired by the Chief Financial Officer, where risk appetite is approved and monitored by risk type, and then to Group Market Risk Committee (GMRC) where risk appetite is sub-allocated by division. These metrics are reviewed regularly by senior management to inform effective decision-making.
MITIGATION
GALCO is responsible for approving and monitoring group market risks, management techniques, market risk measures, behavioural assumptions, and the market risk policy. Various mitigation activities are assessed and undertaken across the Group to manage portfolios and seek to ensure they remain within approved limits. The mitigation actions will vary dependent on exposure but will, in general, look to reduce risk in a cost effective manner by offsetting balance sheet exposures and externalising to the financial markets dependent on market liquidity. The market risk policy is owned by Group Corporate Treasury (GCT) and refreshed annually. The policy is underpinned by supplementary market risk procedures, which define specific market risk management and oversight requirements.
MONITORING
GALCO and the GMRC regularly review high level market risk exposure as part of the wider risk management framework. They also make recommendations to the Board concerning overall market risk appetite and Group Market Risk Policy. Exposures at lower levels of delegation are monitored at various intervals according to their volatility, from daily in the case of trading portfolios to monthly or quarterly in the case of less volatile portfolios. Levels of exposures compared to approved limits and triggers are monitored by Risk and where appropriate, escalation procedures are in place.
How market risks arise and are managed across the Group’s activities is considered in more detail below.
BANKING ACTIVITIES
Exposures
The Group’s banking activities expose it to the risk of adverse movements in market prices, predominantly interest rates, credit spreads, exchange rates and equity prices. The volatility of market values can be affected by both the transparency of prices and the amount of liquidity in the market for the relevant asset, liability or instrument.
Interest rate risk
Yield curve risk in the Group’s divisional portfolios, and in the Group’s capital and funding activities arises from the different repricing characteristics of the Group’s non-trading assets, liabilities (see loans and advances to customers and customer deposits in table AN) and off-balance sheet positions.
Basis risk arises from the possible changes in spreads, for example where the bank lends with reference to a central bank rate but funds with reference to LIBOR, and the spread between these two rates widens or tightens.
Optionality risk arises predominantly from embedded optionality within assets, liabilities or off-balance sheet items where either the Group or the customer can affect the size or timing of cash flows. One example of this is mortgage prepayment risk where the customer owns an option allowing them to prepay when it is economical to do so. This can result in customer balances amortising more quickly or slowly than anticipated due to customers’ response to changes in economic conditions.
Foreign exchange risk
Economic foreign exchange exposure arises from the Group’s investment in its commitmentsoverseas operations (net investment exposures are disclosed in note 53 on page F-98). In addition, the Group incurs foreign exchange risk through non-functional currency flows from services provided by customer-facing divisions, the Group’s debt and capital management programmes and is exposed to volatility in its CET1 ratio, due to the impact of changes in foreign exchange rates on the retranslation of non-sterling-denominated RWAs.
Equity risk
Equity risk arises primarily from three different sources;
the Group’s private equity investments held by Lloyds Development Capital within the Equities sub-group. | |
the Group’s strategic equity holdings, for example Visa Inc Preference Shares, now held in the Equities sub-group. | |
a small exposure to Lloyds Banking Group share price through deferred shares and deferred options granted to employees as part of their benefits package. |
Credit spread risk
Credit spread risk arises largely from (i) the liquid asset portfolio held in the management of Group liquidity, comprising of government, supranational and other eligible assets; (ii) the Credit Valuation Adjustment (CVA) and Debit Valuation Adjustment (DVA) sensitivity to credit spreads; (iii) a number of the Group’s structured medium-term notes where we have elected to fair value the notes through the profit and loss account; and (iv) banking book assets held at fair value in Commercial Banking under IFRS 9.
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Measurement
Interest rate risk exposure is monitored monthly using, primarily:
Market value sensitivity: this methodology considers all repricing mismatches (behaviourally adjusted where appropriate) in the current balance sheet and calculates the change in market value that would result from an instantaneous 25, 100 and 200 basis points parallel rise or fall in the yield curve (subject to an appropriate floor). The market value sensitivities are calculated on a static balance sheet using principal cash flows excluding interest, commercial margins and other spread components and are therefore discounted at the risk free zero-coupon rate.
Interest income sensitivity: this measures the 12 month impact on future net interest income arising from various economic scenarios. These include instantaneous 25, 100 and 200 basis point parallel shifts in all yield curves and the five Group economic scenarios (subject to an appropriate floor). These scenarios are reviewed every year and are designed to replicate severe but plausible economic events, capturing risks that would not be evident through the use of parallel shocks alone such as basis risk and steepening or flattening of the yield curve. An additional negative rates scenario is also used for information purposes where all floors are removed; however this is not measured against the limit framework.
Unlike the market value sensitivities, the interest income sensitivities incorporate additional behavioural assumptions as to how and when individual products would reprice in response to changing rates. In addition a dynamic balance sheet is used which includes the run-off of current assets and liabilities and the addition of planned new business.
Reported sensitivities are not necessarily predictive of future performance as they fall due,do not capture additional management actions that would likely be taken in response to an immediate, large, movement in interest rates. These actions could reduce the net interest income sensitivity, help mitigate any adverse impacts or can only secure them at excessive cost.they may result in changes to total income that are not captured in the net interest income.
Structural hedge limits: the structural hedging programme managing interest rate risk in the banking book relies on a number of assumptions made around customer behaviour. A material mismatch between assumptions and reality could lead to a deterioration in earnings. In order to monitor this risk a number of metrics are in place to enhance understanding of risks within this portfolio.
The Group has an integrated Asset and Liability Management (ALM) system which supports non-traded asset and liability management of the Group. This provides a single consolidated tool to measure and manage interest rate repricing profiles (including behavioural assumptions), perform stress testing and produce forecast outputs. The Group is aware that any assumptions based model is open to challenge. A full behavioural review is performed annually, or in response to changing market conditions, to ensure the assumptions remain appropriate and the model itself is subject to annual re-validation, as required under the Group Model Governance Policy. The key behavioural assumptions are:
embedded optionality within products. | |
the duration of balances that are contractually repayable on demand, such as current accounts and overdrafts, together with net free reserves of the Group. | |
the re-pricing behaviour of managed rate liabilities namely variable rate savings. |
Table AO below shows, split by material currency, the Group’s market value sensitivities to an instantaneous parallel up and down 25 and 100 basis points change to all interest rates.
Table AO: Group Banking activities: market value sensitivity
2019 | 2018 | |||||||||||||||||||||||||||||||
Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | |||||||||||||||||||||||||
Sterling | 13.6 | (13.6 | ) | 52.7 | (47.4 | ) | 29.1 | (29.5 | ) | 113.7 | (122.4 | ) | ||||||||||||||||||||
US Dollar | (5.6 | ) | 5.8 | (21.3 | ) | 24.3 | (7.8 | ) | 7.8 | (30.6 | ) | 31.9 | ||||||||||||||||||||
Euro | (7.2 | ) | 2.3 | (27.0 | ) | 11.1 | (3.0 | ) | 1.7 | (11.2 | ) | 7.2 | ||||||||||||||||||||
Other | 0.2 | (0.2 | ) | 0.8 | (0.8 | ) | (0.1 | ) | 0.1 | (0.4 | ) | 0.5 | ||||||||||||||||||||
Total | 1.0 | (5.7 | ) | 5.2 | (12.8 | ) | 18.2 | (19.9 | ) | 71.5 | (82.8 | ) |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
This is a risk based disclosure and the amounts shown would be amortised in the income statement over the duration of the portfolio.
The market value sensitivity is driven by temporary customer flow positions not yet hedged plus other positions occasionally held, within limits, by the Group’s wholesale funding desks in order to minimise overall funding and hedging costs. The level of risk is low relative to the size of the total balance sheet.
Table AP below shows supplementary value sensitivity to a steepening and flattening (c.100 basis points around the 3 year point) in the yield curve. This ensures there are no unintended consequences to managing risk to parallel shifts in rates.
Table AP:Group Banking activities: market value sensitivity to a steepening and flattening of the yield curve
2019 | 2018 | |||||||||||||||
Steepener £m | Flattener £m | Steepener £m | Flattener £m | |||||||||||||
Sterling | 46.6 | (47.5 | ) | 38.3 | (36.5 | ) | ||||||||||
US Dollar | (13.2 | ) | 15.3 | 6.5 | (5.7 | ) | ||||||||||
Euro | (15.5 | ) | 9.7 | (6.8 | ) | 3.6 | ||||||||||
Other | 0.4 | (0.4 | ) | (0.1 | ) | 0.1 | ||||||||||
Total | 18.3 | (22.9 | ) | 37.9 | (38.5 | ) |
The table below shows the banking book income sensitivity to an instantaneous parallel up and down 25 and 100 basis points change to all interest rates.
Table AQ:Group Banking activities: net interest income sensitivity
2019 | 2018 | |||||||||||||||||||||||||||||||
Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | |||||||||||||||||||||||||
Client facing activity and associated hedges | 109.4 | (147.9 | ) | 430.8 | (702.8 | ) | 76.2 | (125.4 | ) | 341.6 | (538.6 | ) |
Income sensitivity is measured over a rolling 12 month basis.
The increase in the net interest income sensitivity to a downwards 100bps shock reflects additional margin compression risk within retail savings and a reduction in the size of the structural hedge.
Basis risk, foreign exchange, equity, and credit spread risks are measured primarily through scenario analysis by assessing the impact on profit before tax over a 12 month horizon arising from a change in market rates, and reported within the Board risk appetite on a monthly basis. Supplementary measures such as sensitivity and exposure limits are applied where they provide greater insight into risk positions. Frequency of reporting supplementary measures varies from daily to quarterly appropriate to each risk type.
Mitigation
The Group’s policy is to optimise reward whilst managing its market risk exposures within the risk appetite defined by the Board. The Group Market Risk Policy and procedures outlines the hedging process, and the centralisation of risk from divisions into GCT, e.g. via the transfer pricing framework. GCT is responsible for managing the centralised risk and does this through natural offsets of matching assets and liabilities, and appropriate hedging activity of the residual exposures, subject to the authorisation and mandate of GALCO within the Board risk appetite. The hedges are externalised to the market by derivative desks within GCT and Commercial Banking Markets. The Group mitigates income statement volatility through hedge accounting. This reduces the accounting volatility arising from the Group’s economic hedging activities by utilising both LIBOR and bank base rate assets. Any hedge accounting ineffectiveness that leads to accounting volatility is continuously monitored.
The largest residual risk exposure arises from balances that are deemed to be insensitive to changes in market rates (including current accounts, a portion of variable rate deposits and investable equity), and is managed through the Group’s structural hedge. Consistent with the Group’s strategy to deliver stable returns, GALCO seeks to minimise large reinvestment risk, and to smooth earnings over a range of investment tenors. The structural hedge consists of longer-term fixed rate assets or interest rate swaps and the amount and duration of the hedging activity is reviewed regularly by GALCO.
Whilst the bank faces margin compression in low rate environments, its exposure to pipeline and prepayment risk are not considered material and are hedged in line with expected customer behaviour. These are appropriately monitored and controlled through divisional Asset and Liability Committees (ALCOs).
Net investment foreign exchange exposures are managed centrally by GCT, by hedging non-sterling asset values with currency borrowing.
Economic foreign exchange exposures arising from non-functional currency flows are identified by divisions and transferred and managed centrally. The Group also has a policy of forward hedging its forecasted currency profit and loss to year end. The Group makes use of both accounting and economic foreign exchange exposures, as an offset against the impact of changes in foreign exchange rates on the value of non-sterling-denominated RWAs. This involves the holding of a structurally open currency position; sensitivity is minimised where, for a given currency, the ratio of the structural open position to RWAs equals the CET1 ratio. Continually evaluating this structural open currency position against evolving non-sterling-denominated RWAs, mitigates volatility in the Group’s CET1 ratio.
Monitoring
The appropriate limits and triggers are monitored by senior executive committees within the banking divisions. Banking assets, liabilities and associated hedging are actively monitored and if necessary rebalanced to be within agreed tolerances.
DEFINED BENEFIT PENSION SCHEMES
Exposures
The Group’s defined benefit pension schemes are exposed to significant risks from their assets and liabilities. The liability discount rate exposes the Group to interest rate risk and credit spread risk, which are partially offset by fixed interest assets (such as gilts and corporate bonds) and swaps. Equity and alternative asset risk arises from direct asset holdings. Scheme membership exposes the Group to longevity risk.
For further information on defined benefit pension scheme assets and liabilities please refer to note 36 on page F-61.
Measurement
Management of the schemes’ assets is the responsibility of the Trustees of the schemes who are responsible for setting the investment strategy and for agreeing funding requirements with the Group. The Group will be liable for meeting any funding deficit that may arise. As part of the triennial valuation process, the Group will agree with the Trustees a funding strategy to eliminate the deficit over an appropriate period.
Longevity risk is measured using both 1-in-20 year stresses (risk appetite) and 1-in-200 year stresses (regulatory capital).
Mitigation
The Group takes an active involvement in agreeing mitigation strategies with the schemes’ Trustees. An interest rate and inflation hedging programme is in place to reduce liability risk. The schemes have also reduced equity allocation and invested the proceeds in credit assets. The Trustees have put
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
in place a longevity swap to mitigate longevity risk. The merits of longevity risk transfer and hedging solutions are reviewed regularly.
Monitoring
In addition to the wider risk management framework, governance of the schemes includes two specialist pensions committees.
The surplus, or deficit, in the schemes is tracked monthly along with various single factor and scenario stresses which consider the assets and liabilities holistically. Key metrics are monitored monthly including the Group’s capital resources of the scheme, the performance against risk appetite triggers, and the performance of the hedged asset and liability matching positions.
INSURANCE PORTFOLIOS
Exposures
The main elements of market risk to which the Group is exposed through the Insurance business are equity, credit spread, interest rate and inflation.
Equity risk arises indirectly through the value of future management charges on policyholder funds. These management charges form part of the value of in-force business (see note 25 on page F-51). Equity risk also arises in the with-profits funds but is less material. | |
Credit spread risk mainly arises from annuities where policyholders’ future cash flows are guaranteed at retirement. Exposure arises if the |
market value of the assets which are held to back these liabilities, mainly corporate bonds and loans, do not perform in line with expectations. | |
Interest rate risk arises through holding credit and interest assets mainly in the annuity book and also to cover general insurance liabilities, capital requirements and risk appetite. | |
Inflation exposure arises from a combination of inflation linked policyholder benefits and inflation assumptions used to project future expenses. |
Measurement
Current and potential future market risk exposures within Insurance are assessed using a range of techniques including stress, reverse stress and scenario testing, as well as stochastic modelling.
Risk measures include 1-in-200 year stresses used for regulatory capital assessments and single factor stresses for profit before tax.
Table AR demonstrates the impact of the Group’s UK Recession scenario on the Insurance business’ portfolio (with no diversification benefit, but after the impact of Group consolidation on interest rate and credit spreads). The amounts include movements in assets, liabilities and the value of in-force business in respect of insurance contracts and participating investment contracts.
Table AR:Insurance business: profit before tax sensitivities
Increase (reduction) in profit before tax | ||||||||
2019 £m | 2018 £m | |||||||
Interest rates – decrease 100 basis points | 116 | 297 | ||||||
Inflation – increase 50 basis points | 30 | 93 | ||||||
Credit spreads – 100% widening | (859 | ) | (823 | ) | ||||
Equity – 30% fall | (68 | ) | (38 | ) | ||||
Property – 25% fall | (47 | ) | (50 | ) | ||||
Total | (828 | ) | (521 | ) |
Further stresses that show the effect of reasonably possible changes in key assumptions, including the risk-free rate, equity investment volatility, widening of credit default spreads on corporate bonds and an increase in illiquidity premium, as applied to profit before tax are set out in note 33 on page F-60.
One of the consequences of preparations for the formation of the Ring Fenced Bank was to reduce the impact of some stresses within the Insurance business, though Group exposures may not have materially changed. Examples of this include centralisation of defined benefit pension schemes, and the transfer of specific hedging programmes from the corporate centre to the business unit where the exposure emanated.
Mitigation
Equity and credit spread risks are closely monitored and, where appropriate, asset liability matching is undertaken to mitigate risk. Unit matching has been used since 2018 to reduce the sensitivity of equity movements by matching unit-linked liabilities on a best-estimate view. Hedging strategies are also in place to reduce exposure from unit-linked funds and the with-profit funds.
Interest rate risk in the annuity book is mitigated by investing in assets whose cash flows closely match those on the projected future liabilities. It is not possible to eliminate risk completely as the timing of insured events is uncertain and bonds are not available at all of the required maturities. As a result, the cash flows cannot be precisely matched and so sensitivity tests are used to test the extent of the mismatch.
Other market risks (e.g. interest rate exposure outside the annuity book and inflation) are also closely monitored and where considered appropriate, hedges are put in place to reduce exposure.
Monitoring
Market risks in the Insurance business are monitored by Insurance senior executive committees and ultimately the Insurance Board. Monitoring includes the progression of market risk capital against risk appetite limits, as well as the sensitivity of profit before tax to combined market risk stress scenarios and in year market movements. Asset and liability matching positions and hedges in place are actively monitored and if necessary rebalanced to be within agreed tolerances. In addition market risk is controlled via approved investment policies and mandates.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
EXPOSURE
Liquidity exposure represents the amount of potential stressed outflows in any future period less expected inflows. Liquidity is consideredThe Group considers liquidity exposure from both an internal and a regulatory perspective.
MEASUREMENT
Liquidity risk is managed through a series of measures, tests and reports that are primarily based on contractual maturity.maturities with behavioural overlays as appropriate. Note 5253 on page F-87F-120 sets out an analysis of assets and liabilities by relevant maturity grouping. In order to reflect more accurately the expected behaviour of the Group’s assetsThe Group undertakes quantitative and liabilities, measurement and modellingqualitative analysis of the behavioural aspects of each is constructed. Divisional teams form a view of customer behaviour based on quantitativeits assets and qualitative analysis.liabilities in order to reflect their expected behaviour.
MITIGATION
The Group manages and monitors liquidity risks and ensures that liquidity risk management systems and arrangements are adequate with regard to the internal risk appetite, Group strategy and regulatory requirements. Liquidity policies and procedures are subject to independent internal oversight by Risk. Overseas branches and subsidiaries of the Group may also be required to meet the liquidity profilerequirements of the balance sheet through short termentity’s domestic country. Management of liquidity managementrequirements is performed by the overseas branch or subsidiary in line with Group policy. Liquidity risk of the Insurance business is actively managed and monitored within the Insurance business. The Group plans funding requirements over the life of the funding plan, combining business as usual and stressed conditions. Longer term funding, definedThe Group manages its liquidity position both with regard to its internal risk appetite and the Liquidity Coverage Ratio (LCR) as having an original maturity of more than one year, is used to manage the Group’s strategic liquidity profile, determinedrequired by the Group’s balance sheet structure.PRA and Capital Requirements Directive and Regulation (CRD IV) liquidity requirements.
The Group’s funding and liquidity position is underpinned by its significant customer deposit base, and is supported by strong relationships with corporate customers and certain wholesale marketacross customer segments. A substantial proportion ofThe Group has consistently observed that in aggregate the retail deposit base is made up of customers’ current and savings accounts which, although mostly repayable on demand, have traditionally in aggregate providedprovides a stable source of funding. Funding concentration by counterparty, currency and currencytenor is monitored on an ongoing basis. Wherebasis and where concentrations do exist, (for example, maturity profile), these are managed as part of the planning process and limited by the internal funding and liquidity risk appetite and considered manageable. The abilitymonitoring framework, with analysis regularly provided to deploy assets quickly, either through the repo market or through outright sale, is also an important source of liquidity for the Group’s Banking businesses.senior management.
To assist in managing the balance sheet, the Group operates a Liquidity Transfer Pricing (LTP) process which: allocates relevant interest expenses from the centre to the Group’s Bankingbanking businesses within the internal management accounts in a manner consistent with the Group Funding and Liquidity Policy;accounts; helps drive the correct inputs to customer pricing and supports the overall Group balance sheet strategy;pricing; and is consistent with regulatory requirements. LTP makes extensive use of behavioural maturity profiles, taking account of expected customer loan prepayments and stability of customer deposits, modelled on data gathered over several years.historic data.
The Group can monetise liquid assets quickly, either through the repurchase agreements (repo) market or through outright sale. In addition, the Group has pre-positioned a substantial amount of assets at the Bank of England’s Discount Window Facility which can be used to access additional liquidity in a time of stress. The Group considers diversification
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
across geography, currency, markets and tenor when assessing appropriate holdings of liquid assets. The Group’s liquid asset buffer is available for deployment at immediate notice, subject to complying with regulatory requirements.
Liquidity risk within the Insurance business may result from: the inability to sell financial assets quickly at their fair values; an insurance liability falling due for payment earlier than expected; the inability to generate cash inflows as anticipated; an unexpected large operational event; or from a general insurance catastrophe, e.g.for example, a significant weather event. Following the implementation of Solvency II, the annuity portfolio is ring-fenced and assets held to match annuity liability cashflows are excluded from shareholder liquidity. In the event a liquidity shortfall arises on the annuity portfolio, shareholder liquidity will be required to support this. As a result, the shareholder’s exposure to liquidity risk is through Insurance’s non-annuity and surplus assets, any shortfall arising in the annuity portfolio and the investment portfolios within the general insurance business. Liquidity risk is actively managed and monitored within the Insurance business to ensure that it remains within approved risk appetite, so that even under stress conditions, there is sufficient liquidity to meet obligations and remain within approved risk appetite.obligations.
MONITORING
Liquidity is actively monitored at Group level. Daily monitoring and control processes are in place to address internal and regulatory liquidity requirements. Liquidity policiesThe Group monitors a range of market and proceduresinternal early warning indicators on a daily basis for early signs of liquidity risk in the market or specific to the Group. This captures regulatory metrics as well as metrics the Group considers relevant for its liquidity profile. These are subject to independent internal oversight by Risk.a mixture of quantitative and qualitative measures, including: daily variation of customer balances; changes in maturity profiles; funding concentrations; changes in LCR outflows; credit default swap (CDS) spreads; and basis risks.
The Group carries out internal stress testing of its liquidity and potential cash flow mismatch position over both short (up to one month) and longer term (up to three months)longer-term horizons against a range of scenarios.scenarios forming an important part of the internal risk appetite. The scenarios and the assumptions are reviewed at least annually to gain assuranceensure that they continue to be relevant to the nature of the business.business including reflecting emerging horizon risks to the Group. For further information on the Group’s 20162019 liquidity stress testing results refer to page 98. The Group funding plan is also stressed against a range of macroeconomic scenarios. Regulatory metrics are calculated and monitored over the life the plan under base and stress conditions.
The Group maintains a Contingency Funding Framework as part of the wider Recovery Plan which is designed to identify emerging liquidity concerns at an early stage, so that mitigating actions can be taken to avoid a more serious crisis developing. Contingency Funding Plan invocation and escalation processes are based on analysis of five major quantitative and qualitative components, comprising assessment of: early warning indicators,indicators; prudential and regulatory liquidity risk limits and triggers,triggers; stress testing results,results; event and systemic indicatorsindicators; and market intelligence.
FUNDING AND LIQUIDITY MANAGEMENT IN 2016Funding and liquidity management in 2019
During 2016 theThe Group has maintained its strong funding and liquidity position with a stable loan to deposit ratio of 108.9107 per cent.
Total funded assets reduced by £5.8 billion to £465.4 billion during 2016. Loans and advances to customers, excluding reverse repos, reduced by £5.5 billion. Growth in Consumer Finance was strong at 11 per cent and SME lending growth was 3 per cent, both outperforming the market. This was offset by a reduction in mortgage balances asDuring 2019, the Group continuesrepaid its Funding for Lending Scheme (FLS) contractual maturities of £12.1 billion and early repaid £4.5 billion of its Term Funding Scheme (TFS) drawings, representing all of its 2020 TFS maturities. This has reduced the balance of FLS outstanding to £1 billion and the balance risk and margin considerations versus volumes in a competitive low growth market. Total customer deposits fell by £5.3of TFS to £15.4 billion to £413.0 billionas at 31 December 2016, largely due to lower Retail and Consumer Finance tactical balances.2019.
Wholesale funding has decreased by £9.1 billion to £110.8 billionThe Group’s liquidity coverage ratio (LCR) was 137 per cent (based on a monthly rolling average over the previous 12 months) as excess liquidity is managed down; the amount with a residual maturity less than one year fell to £35.1 billion (£37.9 billion at 31 December 2015). 2019 calculated on a consolidated basis based on the EU Delegated Act. Following the implementation of structural reform, liquidity risk is managed at a legal entity level with the Group consolidated LCR representing the composite of the ring-fenced bank and non ring-fenced bank entities.
The Group’s term funding ratio (wholesale funding with a remaining life ofcredit ratings continue to reflect its robust balance sheet, resilient underlying profitability and bail-in capital position. There were no changes to the ratings over one year as a percentage of total wholesale funding) is unchanged at 68 per cent. During 20162019, although in November, Moody’s revised the Group’s term issuance costs have remained broadlyand Lloyds Bank plc’s outlooks to negative due to concern relating to the UK’s exit from the European Union. In March Fitch placed the majority of UK banks, including the Group’s entities, on Ratings Watch Negative before stabilising the ratings in line with other post-crisis years and significantly lower than levels seen duringDecember given the economic downturn. The Group’s overall costreduced risk of wholesale funding has reduceda no-deal exit from the EU.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
as more expensive funding raised in previous years mature. The Group’s market capacity for term funding is considered across the planning horizon as part of the funding plan and the Group expects term funding requirements to remain stable.
The credit ratings on Lloyds Bank were unchanged over 2016, and the median credit rating among the three major credit rating agencies remains ‘A+’. Following the EU referendum in June, both S&P and Moody’s revised their outlooks on Lloyds Bank, among other UK banks, in order to reflect increased macroeconomic uncertainty. S&P revised the outlook on Lloyds Bank’s ‘A’ rating to ‘Negative’ from ’Stable’ whilst Moody’s revised the outlook on Lloyds Bank’s ‘A1’ rating to ‘Stable’ from ‘Positive’. Moody’s also revised their outlook on the UK banking system to ‘Negative’ from ‘Stable’. Fitch’s outlook on Lloyds Bank’s ‘A+’ rating remained ’Stable’ as Fitch expect the economic effects of the referendum to be manageable. The effects of a potential downgrade from all three credit rating agencies are included in Group liquidity stress testing.
The LCR became the Pillar 1 standard for liquidity in the UK in October 2015. The Group comfortably meets the requirements. Liquid asset holdings have fallen during the second half of 2016 as excess liquidity held during the EU Referendum is managed down. The Group continues to monitor the Net Stable Funding Ratio (NSFR) requirements and expects to meet them once confirmed by the PRA.
Table 1.41:AF:Group funding position
At 31 Dec | At 31 Dec | |||||||||||||||||||||||
2016 | 2015 | Change | ||||||||||||||||||||||
£bn | £bn | % | At 31 Dec 2019 £bn | At 31 Dec 2018 £bn | Change % | |||||||||||||||||||
Funding requirement | ||||||||||||||||||||||||
Loans and advances to customers1 | 449.7 | 455.2 | (1 | ) | 440.4 | 444.4 | (1 | ) | ||||||||||||||||
Loans and advances to banks2 | 5.1 | 3.4 | 50 | 8.1 | 5.9 | 37 | ||||||||||||||||||
Debt securities | 3.4 | 4.2 | (19 | ) | ||||||||||||||||||||
Debt securities at amortised cost | 3.9 | 4.0 | (5 | ) | ||||||||||||||||||||
Reverse repurchase agreements | 0.5 | 1.0 | (50 | ) | – | – | – | |||||||||||||||||
Available-for-sale financial assets – non-LCR eligible3 | 1.9 | 2.7 | (30 | ) | ||||||||||||||||||||
Cash and balances at central bank – non LCR eligible4 | 4.8 | 4.7 | 2 | |||||||||||||||||||||
Financial assets at fair value through other comprehensive income – non-LCR eligible3 | 0.1 | 0.8 | (75 | ) | ||||||||||||||||||||
Cash and balances at central bank – non-LCR eligible4 | 5.7 | 5.8 | (2 | ) | ||||||||||||||||||||
Funded assets | 465.4 | 471.2 | (1 | ) | 458.2 | 460.9 | – | |||||||||||||||||
Other assets5 | 249.9 | 234.2 | 7 | 251.7 | 212.9 | 18 | ||||||||||||||||||
715.3 | 705.4 | 1 | 709.9 | 673.8 | ||||||||||||||||||||
On balance sheet LCR eligible liquidity assets | ||||||||||||||||||||||||
On balance sheet LCR eligible liquid assets | ||||||||||||||||||||||||
Reverse repurchase agreements | 8.7 | – | 56.2 | 40.9 | 37 | |||||||||||||||||||
Cash and balances at central banks4 | 42.7 | 53.7 | (20 | ) | 49.4 | 48.9 | 1 | |||||||||||||||||
Available-for-sale financial assets6 | 54.6 | 30.3 | 80 | |||||||||||||||||||||
Held-to-maturity financial assets6 | – | 19.8 | ||||||||||||||||||||||
Debt securities at amortised cost | 1.6 | 1.2 | 42 | |||||||||||||||||||||
Financial assets at fair value through other comprehensive income | 25.0 | 24.0 | 4 | |||||||||||||||||||||
Trading and fair value through profit and loss | 1.8 | 3.0 | (40 | ) | 4.0 | 11.9 | (66 | ) | ||||||||||||||||
Repurchase agreements | (5.3 | ) | (5.5 | ) | (4 | ) | (12.2 | ) | (3.1 | ) | ||||||||||||||
102.5 | 101.3 | 1 | 124.0 | 123.8 | – | |||||||||||||||||||
Total Group assets | 817.8 | 806.7 | 1 | 833.9 | 797.6 | 5 | ||||||||||||||||||
Less: other liabilities5 | (245.5 | ) | (221.5 | ) | 11 | (230.6 | ) | (187.9 | ) | 23 | ||||||||||||||
Funding requirement | 572.3 | 585.2 | (2 | ) | 603.3 | 609.7 | (1 | ) | ||||||||||||||||
Funded by | ||||||||||||||||||||||||
Customer deposits7 | 413.0 | 418.3 | (1 | ) | ||||||||||||||||||||
Wholesale funding8 | 110.8 | 119.9 | (8 | ) | ||||||||||||||||||||
Customer deposits6 | 411.8 | 416.3 | ||||||||||||||||||||||
Wholesale funding7 | 128.3 | 123.3 | 4 | |||||||||||||||||||||
523.8 | 538.2 | (3 | ) | 540.1 | 539.6 | – | ||||||||||||||||||
Repurchase agreements | – | – | ||||||||||||||||||||||
Term funding scheme | 15.4 | 19.9 | (23 | ) | ||||||||||||||||||||
Total equity | 48.5 | 47.0 | 4 | 47.8 | 50.2 | (5 | ) | |||||||||||||||||
Total funding | 572.3 | 585.2 | (2 | ) | 603.3 | 609.7 | (1 | ) |
1 | Excludes |
2018: £40.5 billion). | |
2 | Excludes |
3 | Non-LCR eligible liquid assets comprise a diversified pool of highly rated unencumbered collateral (including retained issuance). |
4 | Cash and balances at central banks are combined in the Group’s balance sheet. |
5 | Other assets and other liabilities primarily include balances in the Group’s Insurance business and the fair value of derivative assets and liabilities. |
6 | |
Excludes | |
The Group’s definition of wholesale funding aligns with that used by other international market participants; including interbank deposits, debt securities in issue and subordinated liabilities. |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table 1.42:AGReconciliation of Group funding to the balance sheet (audited)
At 31 December 2016 | At 31 December 2015 | Included in funding analysis £bn | Repos and cash collateral received by Insurance £bn | Fair value and other accounting methods £bn | Balance sheet £bn | |||||||||||||||||||||||||||||||||||||||||||
Repos | ||||||||||||||||||||||||||||||||||||||||||||||||
Repos and | Fair value | and cash | Fair value | |||||||||||||||||||||||||||||||||||||||||||||
Included in | cash collateral | and other | Included in | collateral | and other | |||||||||||||||||||||||||||||||||||||||||||
funding | received by | accounting | funding | received by | accounting | Balance | ||||||||||||||||||||||||||||||||||||||||||
analysis | Insurance | methods | Balance sheet | analysis | Insurance | methods | sheet | |||||||||||||||||||||||||||||||||||||||||
£bn | £bn | £bn | £bn | £bn | £bn | £bn | £bn | |||||||||||||||||||||||||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||||||||||||||||||||||||||
Deposits from banks | 8.1 | 8.0 | 0.3 | 16.4 | 8.5 | 8.4 | – | 16.9 | 9.6 | 18.7 | (0.1 | ) | 28.2 | |||||||||||||||||||||||||||||||||||
Debt securities in issue | 83.0 | – | (6.7 | ) | 76.3 | 88.1 | – | (6.0 | ) | 82.1 | 102.1 | – | (4.4 | ) | 97.7 | |||||||||||||||||||||||||||||||||
Subordinated liabilities | 19.7 | – | 0.1 | 19.8 | 23.3 | – | – | 23.3 | 16.6 | – | 0.5 | 17.1 | ||||||||||||||||||||||||||||||||||||
Total wholesale funding | 110.8 | 8.0 | 119.9 | 8.4 | 128.3 | 18.7 | ||||||||||||||||||||||||||||||||||||||||||
Customer deposits | 413.0 | 2.5 | – | 415.5 | 418.3 | – | – | 418.3 | 411.8 | 9.5 | – | 421.3 | ||||||||||||||||||||||||||||||||||||
Total | 523.8 | 10.5 | 538.2 | 8.4 | 540.1 | 28.2 | ||||||||||||||||||||||||||||||||||||||||||
At 31 December 2018 | ||||||||||||||||||||||||||||||||||||||||||||||||
Deposits from banks | 8.3 | 22.1 | (0.1 | ) | 30.3 | |||||||||||||||||||||||||||||||||||||||||||
Debt securities in issue | 97.1 | – | (5.9 | ) | 91.2 | |||||||||||||||||||||||||||||||||||||||||||
Subordinated liabilities | 17.9 | – | (0.2 | ) | 17.7 | |||||||||||||||||||||||||||||||||||||||||||
Total wholesale funding | 123.3 | 22.1 | ||||||||||||||||||||||||||||||||||||||||||||||
Customer deposits | 416.3 | 1.8 | – | 418.1 | ||||||||||||||||||||||||||||||||||||||||||||
Total | 539.6 | 23.9 |
Table 1.43:AH:Analysis of 20162019 total wholesale funding by residual maturity
One to | Nine | Total at | Total at | Less than one month £bn | One to three months £bn | Three to six months £bn | Six to nine months £bn | Nine months to one year £bn | One to two years £bn | Two to five years £bn | More than five years £bn | Total at 31 Dec 2019 £bn | Total at 31 Dec 2018 £bn | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Less than | three | Three to six | Six to nine | months to | One to two | Two to five | More than | 31 Dec | 31 Dec | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
one month | months | months | months | one year | years | years | five years | 2016 | 2015 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
£bn | £bn | £bn | £bn | £bn | £bn | £bn | £bn | £bn | £bn | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Deposit from banks | 6.1 | 1.0 | 0.5 | 0.4 | – | 0.1 | – | – | 8.1 | 8.5 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Deposits from banks | 7.3 | 1.3 | 0.3 | 0.1 | 0.1 | 0.2 | 0.3 | – | 9.6 | 8.3 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Debt securities in issue: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Certificates of deposit | 0.4 | 2.1 | 3.0 | 1.7 | 0.3 | – | – | – | 7.5 | 10.6 | 1.2 | 2.6 | 2.8 | 2.4 | 1.2 | 0.4 | – | – | 10.6 | 12.0 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Commercial paper | 2.0 | 0.8 | – | 0.4 | – | – | – | – | 3.2 | 6.6 | 1.3 | 3.5 | 2.8 | 0.9 | 0.4 | – | – | – | 8.9 | 8.0 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Medium-term notes1 | – | 1.5 | 2.7 | 1.4 | 0.3 | 5.1 | 12.3 | 13.6 | 36.9 | 37.6 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Medium-term notes | 1.0 | 0.8 | 1.8 | 1.2 | 0.2 | 6.6 | 19.3 | 17.1 | 48.0 | 45.4 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Covered bonds | 2.1 | 2.8 | 1.1 | – | – | 2.2 | 10.7 | 10.2 | 29.1 | 25.8 | 0.8 | 1.3 | – | 2.9 | – | 6.1 | 10.6 | 7.0 | 28.7 | 27.1 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Securitisation | 0.6 | 1.0 | 0.4 | 0.7 | 0.8 | 0.7 | 1.8 | 0.3 | 6.3 | 7.5 | 0.4 | – | 1.1 | 0.9 | 0.4 | 1.7 | 1.4 | – | 5.9 | 4.6 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
5.1 | 8.2 | 7.2 | 4.2 | 1.4 | 8.0 | 24.8 | 24.1 | 83.0 | 88.1 | 4.7 | 8.2 | 8.5 | 8.3 | 2.2 | 14.8 | 31.3 | 24.1 | 102.1 | 97.1 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Subordinated liabilities | – | 0.5 | 0.1 | 0.4 | – | 2.4 | 3.7 | 12.6 | 19.7 | 23.3 | – | 1.2 | – | 1.0 | 0.1 | 0.5 | 4.3 | 9.5 | 16.6 | 17.9 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Total wholesale funding2 | 11.2 | 9.7 | 7.8 | 5.0 | 1.4 | 10.5 | 28.5 | 36.7 | 110.8 | 119.9 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Of which issued by Lloyds Banking Group plc3 | – | – | – | – | – | – | 1.7 | 5.7 | 7.4 | 3.4 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Total wholesale funding1 | 12.0 | 10.7 | 8.8 | 9.4 | 2.4 | 15.5 | 35.9 | 33.6 | 128.3 | 123.3 |
1 | |
The Group’s definition of wholesale funding aligns with that used by other international market participants; including interbank deposits, debt securities | |
Table 1.44:AI:Total wholesale funding by currency (audited)
Other | ||||||||||||||||||||
Sterling | US Dollar | Euro | currencies | Total | ||||||||||||||||
£bn | £bn | £bn | £bn | £bn | ||||||||||||||||
At 31 December 2016 | 30.6 | 33.0 | 41.4 | 5.8 | 110.8 | |||||||||||||||
At 31 December 2015 | 34.9 | 37.6 | 41.3 | 6.1 | 119.9 |
Sterling £bn | US Dollar £bn | Euro £bn | Other currencies £bn | Total £bn | ||||||||||||||||
At 31 December 2019 | 28.7 | 49.6 | 40.9 | 9.1 | 128.3 | |||||||||||||||
At 31 December 2018 | 25.8 | 45.2 | 42.8 | 9.5 | 123.3 |
Table 1.45:AJ:Analysis of 20162019 term issuance (audited)
Other | ||||||||||||||||||||||||||||||||||||||||
Sterling | US Dollar | Euro | currencies | Total | ||||||||||||||||||||||||||||||||||||
£bn | £bn | £bn | £bn | £bn | Sterling £bn | US Dollar £bn | Euro £bn | Other currencies £bn | Total £bn | |||||||||||||||||||||||||||||||
Securitisation | 0.3 | 0.4 | – | – | 0.7 | 1.6 | 0.4 | – | – | 2.0 | ||||||||||||||||||||||||||||||
Medium-term notes | – | 1.5 | 1.2 | 0.4 | 3.1 | 0.5 | 3.2 | 1.8 | 1.1 | 6.6 | ||||||||||||||||||||||||||||||
Covered bonds | 1.2 | – | 2.4 | – | 3.6 | 2.0 | 0.8 | 2.8 | – | 5.6 | ||||||||||||||||||||||||||||||
Private placements1 | 0.1 | 1.0 | 0.8 | – | 1.9 | 0.1 | 0.3 | 0.9 | – | 1.3 | ||||||||||||||||||||||||||||||
Subordinated liabilities | – | 1.1 | – | – | 1.1 | |||||||||||||||||||||||||||||||||||
Subordinated liabilities2 | 0.5 | 0.4 | – | – | 0.9 | |||||||||||||||||||||||||||||||||||
Total issuance | 1.6 | 4.0 | 4.4 | 0.4 | 10.4 | 4.7 | 5.1 | 5.5 | 1.1 | 16.4 | ||||||||||||||||||||||||||||||
Of which issued by Lloyds Banking Group plc2 | – | 3.8 | 1.2 | 0.4 | 5.4 |
1 | Private placements include structured |
bonds. | |
2 | Consists of |
Gross term issuance for 2016 totalled £10.4 billion. The Group maintained a diversified approach to funding markets with trades in public and private format, secured and unsecured products and a wide range of currencies and markets. In 2016, the Group drew down £1.0 billion under the Funding for Lending Scheme (FLS), taking peak usage to £33.1 billion, with £3.0 billion of maturities during the year. A further £4.5 billion was drawn under the Bank of England’s Term Funding Scheme (TFS), underlining the Group’s support to the UK economy. The maturities for the FLS and TFS are fully factored into the Group’s funding plan.
97 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
LIQUIDITY PORTFOLIOThe Group continues to access wholesale funding markets across a wide range of products, currencies and investors to maintain a stable and diverse source of funds. In 2019, the Group has continued with this approach to funding, including capital and funding from the holding company, Lloyds Banking Group plc, as needed to transition towards final UK Minimum Requirements for Own Funds and Eligible Liabilities (MREL). The Group will continue to issue funding trades from Lloyds Bank plc, the ring-fenced bank operating company, across senior unsecured, covered bonds, ABS and RMBS. In 2019, the Group launched an operating company funding programme for LBCM, the non-ring-fenced bank, and have since issued a number of trades for this entity including an inaugural five year £500 million senior unsecured public benchmark transaction. The maturity of the Funding for Lending and Term Funding Schemes are fully factored into the Group’s funding plans.
Liquidity Portfolio
At 31 December 2016,2019, the Bankingbanking business had £120.8£118.3 billion of highly liquid unencumbered LCR eligible assets (31 December 2018: £129.4 billion), of which £120.3£115.7 billion is LCR level 1 eligible (31 December 2018: £128.6 billion) and £0.5£2.6 billion is LCR level 2 eligible.eligible (31 December 2018: £0.8 billion). These assets are available to meet cash and collateral outflows and PRA regulatory requirements. A separate liquidity portfolio to mitigate any insurance liquidity risk is managed within the Insurance business.Total LCR eligible liquid assets represent over 8five times the Group’s money market funding less than one year to maturity (excluding derivative collateral margins and settlement accounts) and exceed total wholesale funding, and thus providesprovide a substantial buffer in the event of continued market dislocation. The Insurance business manages a separate liquidity portfolio to mitigate insurance liquidity risk.
Table 1.46:AK:LCR eligible assets
At 31 Dec | At 31 Dec | Average | Average1 | |||||||||||||||||
2016 | 2015 | Change | 2016 | 2015 | ||||||||||||||||
£bn | £bn | % | £bn | £bn | ||||||||||||||||
Level 1 | ||||||||||||||||||||
Cash and central bank reserves | 42.7 | 53.7 | (20 | ) | 53.7 | 57.2 | ||||||||||||||
High quality government/MDB/agency bonds2 | 75.3 | 65.8 | 14 | 72.4 | 63.0 | |||||||||||||||
High quality covered bonds | 2.3 | 3.4 | (32 | ) | 2.4 | 3.3 | ||||||||||||||
Total | 120.3 | 122.9 | (2 | ) | 128.5 | 123.5 | ||||||||||||||
Level 23 | 0.5 | 0.5 | – | 0.5 | 0.7 | |||||||||||||||
Total LCR eligible assets | 120.8 | 123.4 | (2 | ) | 129.0 | 124.2 |
At 31 Dec 2019 £bn | At 31 Dec 2018 £bn | Change % | Average 2019 £bn | Average 2018 £bn | ||||||||||||||||
Level 1 | ||||||||||||||||||||
Cash and central bank reserves | 49.4 | 48.9 | 1 | 50.9 | 58.1 | |||||||||||||||
High quality government/MDB/agency bonds1 | 63.9 | 78.7 | (19 | ) | 76.4 | 66.2 | ||||||||||||||
High quality covered bonds | 2.4 | 1.0 | 1.9 | 0.8 | ||||||||||||||||
Total | 115.7 | 128.6 | (10 | ) | 129.2 | 125.1 | ||||||||||||||
Level 22 | 2.6 | 0.8 | 1.5 | 0.8 | ||||||||||||||||
Total LCR eligible assets | 118.3 | 129.4 | (9 | ) | 130.7 | 125.9 |
1 | |
Designated multilateral development bank (MDB). | |
Includes Level 2A and Level 2B. |
Table 1.47:AL:LCReligible assets by currency
Other | ||||||||||||||||||||
Sterling | US Dollar | Euro | currencies | Total | ||||||||||||||||
£bn | £bn | £bn | £bn | £bn | ||||||||||||||||
At 31 December 2016 | ||||||||||||||||||||
Level 1 | 96.0 | 12.5 | 11.8 | – | 120.3 | |||||||||||||||
Level 2 | 0.2 | 0.3 | – | – | 0.5 | |||||||||||||||
Total | 96.2 | 12.8 | 11.8 | – | 120.8 | |||||||||||||||
At 31 December 2015 | ||||||||||||||||||||
Level 1 | 90.9 | 15.8 | 16.2 | – | 122.9 | |||||||||||||||
Level 2 | 0.1 | – | 0.4 | – | 0.5 | |||||||||||||||
Total | 91.0 | 15.8 | 16.6 | – | 123.4 |
Sterling £bn | US Dollar £bn | Euro £bn | Other currencies £bn | Total £bn | ||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||
Level 1 | 91.5 | 11.7 | 12.5 | – | 115.7 | |||||||||||||||
Level 2 | 1.7 | 0.5 | 0.4 | – | 2.6 | |||||||||||||||
Total | 93.2 | 12.2 | 12.9 | – | 118.3 | |||||||||||||||
At 31 December 2018 | ||||||||||||||||||||
Level 1 | 98.2 | 19.8 | 10.6 | – | 128.6 | |||||||||||||||
Level 2 | 0.4 | 0.4 | – | – | 0.8 | |||||||||||||||
Total | 98.6 | 20.2 | 10.6 | – | 129.4 |
The Bankingbanking business also had £113.8 billionhas a significant amount of secondary, non-LCR eligible liquidity, the vast majority ofliquid assets which isare eligible for use in a range of central bank or similar facilities and the Group routinely makes use of as part of its normal liquidity management practices.facilities. Future use of such facilities will be based on prudent liquidity management and economic considerations, having regard for external market conditions.
The Group considers diversification across geography, currency, markets and tenor when assessing appropriate holdings of liquid assets. This liquidity is managed as a single pool in the centre and is under the control of the function charged with managing the liquidity of the Group. It is available for deployment at immediate notice, subject to complying with regulatory requirements.
STRESS TESTING RESULTSStress testing results
Internal liquidity stress testing results at 31 December 20162019 showed that the Bankingbanking business had liquidity resources representing 167.0158 per cent of modelled outflows over a three month period from all wholesale funding sources, retail and corporate deposits, intraday requirements and rating dependent contracts under the Group’s most severe liquidity stress scenario.
A hypothetical idiosyncraticThis scenario includes a two notch downgrade of the Group’s current long-term debt rating and accompanying one notch short-term downgrade implemented instantaneously by all major rating agencies, could result in a contractual outflow of £3.1 billion of cash over a period of up to one year, £1.8 billion of collateral posting related to customer financial contracts and £9.0 billion of collateral posting associated with secured funding.agencies.
ENCUMBERED ASSETSEncumbered assets
This disclosure provides further detail on the availability of assets that could be used to support potential future funding requirements of the Group.
The disclosure is not designed to identify assets that would be available in the event of a resolution or bankruptcy.
The Group’s analysis separately identifies those assets held at central banks; assets not held at central banks are classified as either encumbered or unencumbered.
The Board and GALCOthe Group Asset and Liability Committee (GALCO) monitor and manage total balance sheet encumbrance viausing a number of risk appetite metrics. At 31 December 2016,2019, the Group had £83.5£60.6 billion (31 December 2015: £77.42018: £53.4 billion) of externally encumbered on balanceon-balance sheet assets with counterparties other than central banks. The increase in encumbered assets was primarily driven by an increase in the use of on balance sheet available-for-sale financial assets for repo activity.covered bond issuance. The Group also had £580.9£639.5 billion (31 December 2015: £573.72018: £584.3 billion) of unencumbered on balanceon-balance sheet assets, and £153.5£133.7 billion (31 December 2015: £155.62018: £159.8 billion) of pre-positioned and encumbered assets held with central banks.banks, the reduction in the latter was primarily driven by a decrease in encumbrance relating to FLS and TFS maturities in the year. Primarily, the Group encumbers mortgages, unsecured lending and credit card receivables through the issuance programmes and tradable securities through securities financing activity. The Group mainly positions mortgage assets at central banks.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table 1.48:AM:On balance sheet encumbered and unencumbered assets
Encumbered with counterparties other | Pre- | Unencumbered assets not pre-positioned | Encumbered with counterparties other than central banks | Pre- positioned and | Unencumbered assets not pre-positioned with central banks | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
than central banks | positioned | with central banks | Securitisations £m | Covered bond £m | Other £m | Total £m | encumbered assets held with central banks £m | Readily realisable1 £m | Other realisable assets2 £m | Cannot be used3 £m | Total £m | Total £m | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
and | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
encumbered | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
assets | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
held with | Other | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Covered | central | Readily | realisable | Cannot | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Securitisations | bond | Other | Total | banks | realisable | assets | be used1 | Total | Total | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | £m | £m | £m | £m | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
At 31 December 2016 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
At 31 December 2019 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Cash and balances at central banks | – | – | – | – | – | 42,998 | – | 4,454 | 47,452 | 47,452 | – | – | – | – | – | 49,270 | – | 5,860 | 55,130 | 55,130 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Trading and other financial assets at fair value through profit or loss | – | – | 4,806 | 4,806 | – | 9,175 | 22 | 137,171 | 146,368 | 151,174 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Financial assets at fair value through profit or loss | 51 | – | 4,834 | 4,885 | – | 2,469 | – | 152,835 | 155,304 | 160,189 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Derivative financial instruments | – | – | – | – | – | – | – | 36,138 | 36,138 | 36,138 | – | – | – | – | – | – | – | 26,369 | 26,369 | 26,369 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Loans and receivables: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Financial assets at amortised cost: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Loans and advances to banks | – | – | 32 | 32 | – | 528 | 1,825 | 24,517 | 26,870 | 26,902 | – | – | 1 | 1 | – | 1,858 | 3,851 | 4,065 | 9,774 | 9,775 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Loans and advances to customers | 14,542 | 30,883 | 7,305 | 52,730 | 153,482 | 7,032 | 152,997 | 91,717 | 251,746 | 457,958 | 7,319 | 33,161 | 7,109 | 47,589 | 133,732 | 14,087 | 171,370 | 128,210 | 313,667 | 494,988 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Debt securities | – | – | 904 | 904 | – | 2,344 | 5 | 144 | 2,493 | 3,397 | – | – | 553 | 553 | – | 3,200 | – | 1,791 | 4,991 | 5,544 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
14,542 | 30,883 | 8,241 | 53,666 | 153,482 | 9,904 | 154,827 | 116,378 | 281,109 | 488,257 | 7,319 | 33,161 | 7,663 | 48,143 | 133,732 | 19,145 | 175,221 | 134,066 | 328,432 | 510,307 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Available-for-sale financial assets | 154 | – | 24,824 | 24,978 | – | 31,017 | 31 | 498 | 31,546 | 56,524 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Held-to-maturity investments | – | – | – | – | – | – | – | – | – | – | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Other2 | – | – | – | – | – | 34 | 1,737 | 36,477 | 38,248 | 38,248 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Financial assets at fair value through other comprehensive income | – | – | 7,617 | 7,617 | – | 16,919 | – | 556 | 17,475 | 25,092 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Other4 | – | – | – | – | – | – | 514 | 56,292 | 56,806 | 56,806 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Total assets | 14,696 | 30,883 | 37,871 | 83,450 | 153,482 | 93,128 | 156,617 | 331,116 | 580,861 | 817,793 | 7,370 | 33,161 | 20,114 | 60,645 | 133,732 | 87,803 | 175,735 | 375,978 | 639,516 | 833,893 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
At 31 December 2015 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
At 31 December 2018 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Cash and balances at central banks | – | – | – | – | – | 56,323 | – | 2,094 | 58,417 | 58,417 | – | – | – | – | – | 49,645 | – | 5,018 | 54,663 | 54,663 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Trading and other financial assets at fair value through profit or loss | – | – | 6,922 | 6,922 | – | 7,459 | 17 | 126,138 | 133,614 | 140,536 | 54 | – | 2,646 | 2,700 | – | 5,190 | – | 150,639 | 155,829 | 158,529 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Derivative financial instruments | – | – | – | – | – | – | – | 29,467 | 29,467 | 29,467 | – | – | – | – | – | – | – | 23,595 | 23,595 | 23,595 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Loans and receivables: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Financial assets at amortised cost: | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Loans and advances to banks | – | – | 37 | 37 | – | 431 | 910 | 23,739 | 25,080 | 25,117 | – | – | 12 | 12 | – | 1,223 | 2,555 | 2,493 | 6,271 | 6,283 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Loans and advances to customers | 13,668 | 32,641 | 7,418 | 53,727 | 150,086 | 7,678 | 159,510 | 84,174 | 251,362 | 455,175 | 5,774 | 29,041 | 6,012 | 40,827 | 159,822 | 12,098 | 155,278 | 116,833 | 284,209 | 484,858 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Debt securities | – | – | 855 | 855 | – | 3,150 | 62 | 124 | 3,336 | 4,191 | – | – | 2,627 | 2,627 | – | 2,581 | 4 | 26 | 2,611 | 5,238 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
13,668 | 32,641 | 8,310 | 54,619 | 150,086 | 11,259 | 160,482 | 108,037 | 279,778 | 484,483 | 5,774 | 29,041 | 8,651 | 43,466 | 159,822 | 15,902 | 157,837 | 119,352 | 293,091 | 496,379 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Available-for-sale financial assets | – | – | 15,810 | 15,810 | 5,548 | 11,048 | 31 | 595 | 11,674 | 33,032 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Held-to-maturity investments | – | – | – | – | – | 19,808 | – | – | 19,808 | 19,808 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Other2 | – | – | – | – | – | 10 | 2,716 | 38,219 | 40,945 | 40,945 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Financial assets at fair value through other comprehensive income: | – | – | 7,278 | 7,278 | – | 17,114 | – | 423 | 17,537 | 24,815 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Other4 | – | – | – | – | – | 56 | 612 | 38,949 | 39,617 | 39,617 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Total assets | 13,668 | 32,641 | 31,042 | 77,351 | 155,634 | 105,907 | 163,246 | 304,550 | 573,703 | 806,688 | 5,828 | 29,041 | 18,575 | 53,444 | 159,822 | 87,907 | 158,449 | 337,976 | 584,332 | 797,598 |
1 | Assets regarded by the Group to be readily realisable in the normal course of business, to secure funding, meet collateral needs, or be sold to reduce potential future funding requirements, and are not subject to any restrictions on their use for these purposes. |
2 | Assets where there are no restrictions on their use to secure funding, meet collateral needs, or be sold to reduce potential future funding requirements, but are not readily realisable in the normal course of business in their current form. |
3 | The following assets are classified as unencumbered – cannot be used: assets held within the Group’s Insurance businesses which are generally held to either back liabilities to policyholders or to support the solvency of the Insurance subsidiaries; assets held within consolidated limited liability partnerships which provide security for the Group’s obligations to its pension schemes; assets segregated in order to meet the Financial Resilience requirements of the PRA’s Supervisory Statement 9/6 ‘Operational Continuity in Resolution’; assets pledged to facilitate the use of intra-day payment and settlement systems; and reverse repos and derivatives balance sheet ledger items. |
Other comprises: items in the course of collection from |
The above table sets out the carrying value of the Group’s encumbered and unencumbered assets, separately identifying those that are available to support the Group’s funding needs. The table does not include collateral received by the Group (i.e. from reverse repos) that is not recognised on its balance sheet, the vast majority of which the Group is permitted to repledge.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
FUNDING AND LIQUIDITY RISK – CONTRACTUAL CASH OBLIGATIONS
The following table sets out the amounts and maturities of Lloyds Banking Group’s contractual cash obligations at 31 December 2016.2019.
Within | One to three | Three to | Over five | |||||||||||||||||||||||||||||||||||||
one year | years | five years | years | Total | ||||||||||||||||||||||||||||||||||||
£m | £m | £m | £m | £m | Within one year £m | One to three years £m | Three to five years £m | Over five years £m | Total £m | |||||||||||||||||||||||||||||||
Long-term debt – dated | 761 | 2,195 | 3,446 | 7,832 | 14,234 | 2,442 | 356 | 2,345 | 7,343 | 12,486 | ||||||||||||||||||||||||||||||
Debt securities in issue | 25,708 | 14,914 | 18,655 | 26,460 | 85,737 | 29,977 | 26,556 | 19,082 | 29,605 | 105,220 | ||||||||||||||||||||||||||||||
Finance leases | 8 | 3 | – | 12 | 23 | |||||||||||||||||||||||||||||||||||
Operating leases | 264 | 453 | 402 | 944 | 2,063 | |||||||||||||||||||||||||||||||||||
Lease liabilities | 241 | 429 | 315 | 859 | 1,844 | |||||||||||||||||||||||||||||||||||
Capital commitments | 543 | – | – | – | 543 | 405 | – | – | – | 405 | ||||||||||||||||||||||||||||||
Other purchase obligations | 1,221 | 1,899 | 912 | 557 | 4,589 | 1,232 | 1,946 | 1,209 | 929 | 5,316 | ||||||||||||||||||||||||||||||
28,505 | 19,464 | 23,415 | 35,805 | 107,189 | 34,297 | 29,287 | 22,951 | 38,736 | 125,271 |
Other purchase obligations include amounts expected to be payable in respect of material contracts entered into by the Lloyds Banking Group, in the ordinary course of business, for the provision of outsourced and other services. The cost of these services will be charged to the income statement as it is incurred. The Lloyds Banking Group also has a constructive obligation to ensure that its defined post-retirement benefit schemes remain adequately funded. The amount and timing of the Lloyds Banking Group’s cash contributions to these schemes is uncertain and will be affected by factors such as future investment returns and demographic changes. Lloyds Banking Group expects to make cash contributions of at least £575£1,200 million to these schemes in 2017.2020.
At 31 December 2016,2019, Lloyds Banking Group also had £5,597£4,642 million of preference shares, preferred securities and undated subordinated liabilities outstanding.
At 31 December 2016,2019, the principal sources of potential liquidity for Lloyds Banking Group plc were dividends received from its directly owned subsidiary company,companies, particularly Lloyds Bank plc and Scottish Widows Group Limited, and loans from this and other Lloyds Banking Group companies. The ability of Lloyds Bank to pay dividends going forward, or for Lloyds Bank or other Lloyds Banking Group companies to make loans to Lloyds Banking Group plc, depends on a number of factors, including their own regulatory capital requirements, distributable reserves and financial performance.
OFF-BALANCE SHEET ARRANGEMENTS
A table setting out the amounts and maturities of Lloyds Banking Group’s other commercial commitments and guarantees at 31 December 20162019 is included in note 5253 to the financial statements. These commitments and guarantees are not included in Lloyds Banking Group’s consolidated balance sheet.
Lending commitments are agreements to lend to customers in accordance with contractual provisions; these are either for a specified period or, as in the case of credit cards and overdrafts, represent a revolving credit facility which can be drawn down at any time, provided that the agreement has not been terminated. The total amounts of unused commitments do not necessarily represent future cash requirements, in that commitments often expire without being drawn upon.
Lloyds Banking Group’s financial guarantee contracts are accounted for as financial instruments and measured at fair value on the balance sheet. The contractual nominal amounts of these guarantees totalled £6,883 million at 31 December 2016 (with £3,815 million expiring within one year; £667 million between one and three years; £1,334 million between three and five years; and £1,067 million over five years).
Lloyds Banking Group’s banking businesses are also exposed to liquidity risk through the provision of securitisation facilities to certain corporate customers. At 31 December 2016,2019, Lloyds Banking Group offered securitisation facilities to its corporate and financial institution client base through its conduit securitisation vehicles, Argento, Cancara and Grampian. These are funded in the global asset-backed commercial paper market. The assets and obligations of these conduits are included in Lloyds Banking Group’s consolidated balance sheet. Lloyds Banking Group provides short-term asset-backed commercial paper liquidity support facilities on commercial terms to the issuers of the commercial paper, for use in the event of a market disturbance should they be unable to roll over maturing commercial paper or obtain alternative sources of funding.
Details of securitisations and other special purpose entity arrangements entered into by theLloyds Banking Group are provided in notes 1932 and 2049 to the financial statements. The successful development of Lloyds Banking Group’s ability to securitise its own assets has provided a mechanism to tap a well established market, thereby diversifying Lloyds Banking Group’s funding base.
Within Lloyds Banking Group’s insurance businesses, the principal sources of liquidity are premiums received from policyholders, charges levied upon policyholders, investment income and the proceeds from the sale and maturity of investments. The investment policies followed by Lloyds Banking Group’s life assurance companies take account of anticipated cash flow requirements including by matching the cash inflows with projected liabilities where appropriate. Cash deposits and highly liquid government securities are available to provide liquidity to cover any higher than expected cash outflows.
100 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
DEFINITION
Capital risk is defined as the risk that the Group has a sub-optimal quantity or quality of capital or that capital is inefficiently deployed across the Group.
EXPOSURES
A capital risk exposure arises when the Group has insufficient capital resources to support its strategic objectives and plans, and to meet external stakeholder requirements and expectations. This could arise due to a depletion of the Group’s capital resources as a result of the crystallisation of any of the risks to which it is exposed. Alternatively a shortage of capital could arise from an increase in the amount of capital that is needed to be held. The Group’s capital management approach is focused on maintaining sufficient capital resources to prevent such exposures while optimising value for shareholders.
MEASUREMENT
The Group measures the amount of capital it holds using the regulatory framework defined by the Capital Requirements Directive and Regulation (CRD IV) as implemented in the UK by the Prudential Regulation Authority (PRA). Full details of the Group’s regulatory capital and leverage frameworks will be provided in the Group’s Pillar 3 Report.
The minimum amount of total capital, under Pillar 1 of the regulatory framework, is determined as 8 per cent of aggregate risk-weighted assets. At least 4.5 per cent of risk-weighted assets are required to be covered by common equity tier 1 (CET1) capital and at least 6 per cent of risk-weighted assets are required to be covered by tier 1 capital. These minimum Pillar 1 requirements are supplemented by additional minimum requirements under Pillar 2 of the regulatory framework and a number of regulatory capital buffers as described below.
Additional minimum requirements are set by the PRA by the issuance of bank specific Individual Capital Guidance (ICG). This reflects a point in time estimate by the PRA, which may change over time, of the minimum amount of capital that is needed by the bank. It includes the assessment of risks that are not fully covered by Pillar 1, such as credit concentration and operational risk, and those risks not covered at all by Pillar 1, such as pensions and interest rate risk in the banking book (IRRBB).
The Group is also required to maintain a number of regulatory capital buffers, which are required to be met with CET1 capital.
Systemic buffers are designed to hold systemically important banks to higher capital standards, so that they can withstand a greater level of stress before requiring resolution.
There are three systemic buffers in the Capital Requirements Directive:
Although the SRB will apply at a sub consolidated level within the Group’s structure, the PRA have indicated that they will include in the PRA Buffer that applies to the Group an amount equivalent to the RFB’s Systemic Risk Buffer. The amount included in the PRA Buffer is expected to be lower as a percentage of Group RWAs reflecting the assets of the Group that will not be held in the RFB sub-group and for which the SRB will not apply to.
The capital conservation buffer (CCB) is a standard buffer of 2.5 per cent of risk-weighted assets designed to provide for losses in the event of stress and is being phased in over the period from 1 January 2016 to 1 January 2019. During 2016 it was 0.625 per cent and during 2017 it is 1.25 per cent.
The countercyclical capital buffer (CCYB) is time-varying and is designed to require banks to hold additional capital to remove or reduce the build-up of systemic risk in times of credit boom, providing additional loss absorbing capacity and acting as an incentive for banks to constrain further credit growth. The amount of the buffer is determined by reference to buffer rates set by the FPC for the individual countries where the Group has relevant credit risk exposures. The buffer is currently set at zero for the UK, however non-zero rates for Norway, Sweden and Hong Kong were in place at 31 December 2016. Given that the Group has minimal exposures to these jurisdictions, the overall requirement is negligible. The UK CCYB rate was set to increase from 0 per cent to 0.5 per cent of risk-weighted assets on 29 March 2017, at which time the overlapping aspects of Pillar 2 supervisory capital buffers would be removed or reduced. However, following the EU referendum, on 5 July 2016 the FPC announced in their Financial Stability Report that the planned 0.5 per cent UK CCYB would not be implemented in March 2017 and the zero per cent rate was expected to remain until at least June 2017. The FPC also recommended that where existing Pillar 2 supervisory buffers reflect risks that would be captured by a UK CCYB rate, the PRA should reduce those buffers by an amount of capital which is equivalent to the effect of a UK CCYB rate of 0.5 per cent. The FPC has also indicated that it expects to review the UK CCYB and to set a rate in the region of 1 per cent of risk-weighted assets when risks are judged to be neither subdued nor elevated, but the rate can be set in excess of this level. Any increase in CCYB would take effect 1 year after it is set.
The FPC can also set sectoral capital requirements which are temporary increases to banks’ capital requirements on exposures to specific sectors, if the FPC judges that exuberant lending to those sectors poses risks to financial stability. No sectoral capital requirements currently apply to the Group.
As part of the capital planning process, forecast capital positions are subjected to extensive stress analyses to determine the adequacy of the Group’s capital resources against the minimum requirements, including ICG. The PRA uses the outputs from some of these stress analyses as one of the inputs that inform the setting of a bank-specific capital buffer for the Group, known as the PRA Buffer. The PRA Buffer also takes into account the CCB, CCYB and any sectoral capital requirements that already apply to the Group. The PRA requires the PRA Buffer to remain confidential between the Group and the PRA.
All buffers are required to be met with CET1 capital. A breach of the PRA buffer would trigger a dialogue between the Group and the PRA to agree what action is required whereas a breach of the CRD IV combined buffer (all regulatory buffers excluding the PRA buffer) would give rise to automatic constraints upon any discretionary capital distributions by the Group.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
In addition to the risk-based capital framework outlined above, the Group is also subject to minimum capital requirements under the UK’s Leverage Ratio Framework. The leverage ratio is calculated by dividing fully loaded tier 1 capital resources by a defined measure of on balance sheet assets and off balance sheet items.
The minimum leverage ratio in the UK is 3 per cent, in line with current Basel requirements. In addition the UK framework requires two buffers to be maintained: an Additional Leverage Ratio Buffer (ALRB), which is calculated as 35 per cent of the Systemic Risk Buffer (applicable from 2019) and a time-varying Countercyclical Leverage Buffer (CCLB) which is calculated as 35 per cent of the countercyclical capital buffer rate (currently set at 0 per cent). At least 75 per cent of the minimum 3 per cent requirement and the entirety of any buffers that may apply must be met by CET1 capital.
The leverage ratio framework does not currently give rise to higher capital requirements for the Group than the risk-based capital framework.
MITIGATION
The Group has a capital management framework including policies and procedures that are designed to ensure that it operates within its risk appetite, uses its capital resources efficiently and continues to comply with regulatory requirements.
The Group is able to accumulate additional capital through the retention of profits over time, which can be enhanced through cutting costs and reducing or cancelling dividend payments, by raising new equity via, for example, a rights issue or debt exchange and by raising additional tier 1 or tier 2 capital through issuing tier 1 instruments or subordinated liabilities. The cost and availability of additional capital is dependent upon market conditions and perceptions at the time. The Group is also able to manage the demand for capital through management actions including adjusting its lending strategy, risk hedging strategies and through business disposals.
Additional measures to manage the Group’s capital position include seeking to optimise the generation of capital demand within the Group’s businesses to strike an appropriate balance of capital held within the Group’s Insurance and banking subsidiaries and through improving the quality of its capital through liability management exercises.
MONITORING
Capital is actively managed and regulatory ratios are a key factor in the Group’s planning processes and stress analyses. Multi-year forecasts of the Group’s capital position, based upon the Group’s operating plan, are produced at least annually to inform the Group’s capital strategy whilst shorter term forecasts are more frequently undertaken to understand and respond to variations of the Group’s actual performance against the plan. The capital plans are tested for capital adequacy using a range of stress scenarios covering adverse economic conditions as well as other adverse factors that could impact the Group and the Group maintains a Recovery Plan which sets out a range of potential mitigating actions that could be taken in response to a stress.
Regular reporting of actual and projected ratios, including those in stressed scenarios, is undertaken, including submissions to the Group Capital Risk Committee (GCRC), Group Financial Risk Committee (GFRC), Group Asset and Liability Committee (GALCO), Group Risk Committee (GRC), Board Risk Committee (BRC) and the Board. Capital policies and procedures are subject to independent oversight.
The regulatory framework within which the Group operates continues to evolve and further detail on this will be provided in the Group’s Pillar 3 report. The Group continues to monitor these developments very closely, analysing the potential capital impacts to ensure that, through organic capital generation, the Group continues to maintain a strong capital position that exceeds the minimum regulatory requirements and the Group’s risk appetite and is consistent with market expectations.
Target capital ratios
The Board’s view of the current level of CET1 capital required to grow the business, meet regulatory requirements and cover uncertainties and future regulatory developments remains at around 13 per cent.
This takes into account, amongst other things:
In addition, the Group targets a transitional total capital ratio of around 20 per cent.
Dividend policy
The Group has established a dividend policy that is both progressive and sustainable. Ordinary dividends are expected to increase over the medium term to a dividend payout ratio of at least 50 per cent of sustainable earnings. The Board interprets progressive to indicate a dividend per share that is expected to increase over the medium term. Sustainable earnings represents the long term earnings generation of the business. Sustainable earnings are defined as earnings after tax attributable to ordinary shareholders adjusted to remove the effects of market volatility, exceptional conduct or litigation events, major liability management or restructuring and other one off items such as the sale of businesses, and exceptional underlying business performance.
The Board also gives due consideration to the distribution of surplus capital through the use of special dividends or share buy-backs. Surplus capital represents capital over and above the amount management wish to retain to grow the business, meet regulatory requirements and cover uncertainties. The amount of required capital may vary from time to time depending on circumstances and the Board will continue to give due consideration, subject to the situation at the time, to the distribution of any surplus capital. By its nature, there can be no guarantee that this level of special dividends or any surplus capital distribution will be appropriate in future years.
The ability of the Group to pay a dividend is also subject to constraints including the availability of distributable reserves, legal and regulatory restrictions and the financial and operating performance of the entity.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Distributable reserves are determined as required by the Companies Act 2006 by reference to a company’s individual financial statements. At 31 December 2016 Lloyds Banking Group plc (‘the Company’) had accumulated distributable reserves of approximately £8,500 million. Substantially all of the Company’s merger reserve is available for distribution under UK company law as a result of transactions undertaken to recapitalise the Company in 2009.
Lloyds Banking Group plc acts as a holding company which also issues capital and other securities to capitalise and fund the activities of the Group. The profitability of the holding company, and consequently its ability to sustain dividend payments, is therefore dependent upon the continued receipt of dividends from its subsidiaries (representing both banking and insurance). A number of Group subsidiaries, principally those with banking and insurance activities, are also subject to regulatory capital requirements. These require entities to maintain minimum amounts of capital related to their size and risk. The principal operating subsidiary is Lloyds Bank plc which, at 31 December 2016, had a consolidated CET1 capital ratio of 15.1 per cent (31 December 2015: 15.2 per cent). The Group actively manages the capital of its subsidiaries, which includes monitoring the regulatory capital ratios for its banking and insurance subsidiaries against approved risk appetite limits. It operates a formal capital management policy which requires all subsidiary entities to remit any surplus capital to their parent companies.
During 2016 the Group has continued to simplify the Group’s internal capital structure and to ensure that profits generated by subsidiary entities can be more easily remitted to the Company. This included the court approved capital reduction by Lloyds Bank plc.
Analysis of capital position
During 2016 the Group continued to strengthen its capital position with a fully loaded CET1 ratio, after accruing for foreseeable dividends, of 13.4 per cent and 13.7 per cent on an adjusted basis upon recognition of the dividend paid by the Insurance business in February 2017 in relation to its 2016 earnings (31 December 2015: 13.0 per cent on an adjusted basis). The accrual for foreseeable dividends includes both the recommended full year ordinary dividend of 2.55 pence per ordinary share and a special dividend of 0.5 pence per ordinary share.
The final and special dividends proposed were consistent with a CET1 ratio on an adjusted basis retaining circa 0.8 per cent of capital, above the current target level, to cover the estimated capital impact of the MBNA acquisition that was announced in December 2016. Subsequently, on 2 March 2017, the FCA provided further clarification in relation to the consultation paper dealing with PPI, resulting in an additional provision of £350 million being recorded, reducing the adjusted CET1 ratio by 18 bps to 13.7 per cent.
Over the year the Group generated around 1.7 per cent of CET1 capital on an adjusted basis, pre dividend, primarily as a result of the following:
After accruing for foreseeable dividends, the transitional total capital ratio reduced by 0.3 percentage points to 21.2 per cent, primarily reflecting managed reductions in tier 2 capital, largely due to calls and redemptions, partially offset by the increase in CET1 capital and the reduction in risk-weighted assets.
In 2020 the Group will have to meet a Minimum Requirement for Own Funds and Eligible Liabilities (MREL). During 2016 the Group commenced issuance of senior unsecured securities from Lloyds Banking Group plc, which, while not included in total capital, are eligible to meet MREL, £2.5 billion (Sterling equivalent) was issued in 2016 and a further £2.2 billion (Sterling equivalent) was issued in January 2017 leaving the Group well positioned to meet MREL requirements from 2020.
The leverage ratio, after accruing for foreseeable dividends, was 4.8 per cent (4.9 per cent on an adjusted basis).
An analysis of the Group’s capital position as at 31 December 2016 is presented in the following section applying CRD IV transitional arrangements and also on a fully loaded CRD IV basis, both as implemented in the UK by the PRA.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The table below summarises the consolidated capital position of the Group.
Table 1.49:Capital resources
Transitional | Fully loaded | |||||||||||||||
At 31 Dec | At 31 Dec | At 31 Dec | At 31 Dec | |||||||||||||
2016 | 20151 | 2016 | 20151 | |||||||||||||
£m | £m | £m | £m | |||||||||||||
Capital resources (audited) | ||||||||||||||||
Common equity tier 1 | ||||||||||||||||
Shareholders’ equity per balance sheet | 42,670 | 41,234 | 42,670 | 41,234 | ||||||||||||
Adjustment to retained earnings for foreseeable dividends | (1,568 | ) | (1,427 | ) | (1,568 | ) | (1,427 | ) | ||||||||
Deconsolidation adjustments1 | 1,342 | 1,119 | 1,342 | 1,119 | ||||||||||||
Adjustment for own credit | 87 | 67 | 87 | 67 | ||||||||||||
Cash flow hedging reserve | (2,136 | ) | (727 | ) | (2,136 | ) | (727 | ) | ||||||||
Other adjustments1 | (276 | ) | (97 | ) | (276 | ) | (97 | ) | ||||||||
40,119 | 40,169 | 40,119 | 40,169 | |||||||||||||
less: deductions from common equity tier 1 | ||||||||||||||||
Goodwill and other intangible assets | (1,623 | ) | (1,719 | ) | (1,623 | ) | (1,719 | ) | ||||||||
Prudent valuation adjustment | (630 | ) | (372 | ) | (630 | ) | (372 | ) | ||||||||
Excess of expected losses over impairment provisions and value adjustments | (602 | ) | (270 | ) | (602 | ) | (270 | ) | ||||||||
Removal of defined benefit pension surplus | (267 | ) | (721 | ) | (267 | ) | (721 | ) | ||||||||
Securitisation deductions | (217 | ) | (169 | ) | (217 | ) | (169 | ) | ||||||||
Significant investments1 | (4,317 | ) | (4,500 | ) | (4,317 | ) | (4,529 | ) | ||||||||
Deferred tax assets | (3,564 | ) | (3,874 | ) | (3,564 | ) | (3,884 | ) | ||||||||
Common equity tier 1 capital | 28,899 | 28,544 | 28,899 | 28,505 | ||||||||||||
Additional tier 1 | ||||||||||||||||
Other equity instruments | 5,320 | 5,355 | 5,320 | 5,355 | ||||||||||||
Preference shares and preferred securities2 | 4,998 | 4,728 | – | – | ||||||||||||
Transitional limit and other adjustments | (1,692 | ) | (906 | ) | – | – | ||||||||||
8,626 | 9,177 | 5,320 | 5,355 | |||||||||||||
less: deductions from tier 1 | ||||||||||||||||
Significant investments1 | (1,329 | ) | (1,177 | ) | – | – | ||||||||||
Total tier 1 capital | 36,196 | 36,544 | 34,219 | 33,860 | ||||||||||||
Tier 2 | ||||||||||||||||
Other subordinated liabilities2 | 14,833 | 18,584 | 14,833 | 18,584 | ||||||||||||
Deconsolidation of instruments issued by insurance entities1 | (1,810 | ) | (1,665 | ) | (1,810 | ) | (1,665 | ) | ||||||||
Adjustments for transitional limit and non-eligible instruments | 1,351 | (52 | ) | (1,694 | ) | (3,066 | ) | |||||||||
Amortisation and other adjustments | (3,447 | ) | (3,880 | ) | (3,597 | ) | (4,885 | ) | ||||||||
10,927 | 12,987 | 7,732 | 8,968 | |||||||||||||
Eligible provisions | 186 | 221 | 186 | 221 | ||||||||||||
less: deductions from tier 2 | ||||||||||||||||
Significant investments1 | (1,571 | ) | (1,756 | ) | (2,900 | ) | (2,933 | ) | ||||||||
Total capital resources | 45,738 | 47,996 | 39,237 | 40,116 | ||||||||||||
Risk-weighted assets | 215,446 | 222,845 | 215,446 | 222,747 | ||||||||||||
Common equity tier 1 capital ratio3 | 13.4% | 12.8% | 13.4% | 12.8% | ||||||||||||
Tier 1 capital ratio | 16.8% | 16.4% | 15.9% | 15.2% | ||||||||||||
Total capital ratio | 21.2% | 21.5% | 18.2% | 18.0% |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The key differences between the transitional capital calculation as at 31 December 2016 and the fully loaded equivalent are as follows:
The movements in the transitional CET1, AT1, tier 2 and total capital positions in the period are provided below.
Table 1.50:Movements in capital resources
Common | Additional | Total | ||||||||||||||
Equity Tier 1 | Tier 1 | Tier 2 | capital | |||||||||||||
£m | £m | £m | £m | |||||||||||||
At 31 December 2015 | 28,544 | 8,000 | 11,452 | 47,996 | ||||||||||||
Profit attributable to ordinary shareholders1 | 1,720 | – | – | 1,720 | ||||||||||||
Movement in foreseeable dividends2 | (141 | ) | – | – | (141 | ) | ||||||||||
Dividends paid out on ordinary shares during the year | (2,014 | ) | – | – | (2,014 | ) | ||||||||||
Dividends in respect of 2015 earnings received from the insurance business1 | 500 | – | – | 500 | ||||||||||||
Movement in treasury shares and employee share schemes | 134 | – | – | 134 | ||||||||||||
Pension movements: | ||||||||||||||||
Removal of defined benefit pension surplus | 454 | – | – | 454 | ||||||||||||
Movement through other comprehensive income | (954 | ) | – | – | (954 | ) | ||||||||||
Available-for-sale reserve | 1,197 | – | – | 1,197 | ||||||||||||
Prudent valuation adjustment | (258 | ) | – | – | (258 | ) | ||||||||||
Deferred tax asset | 310 | – | – | 310 | ||||||||||||
Goodwill and other intangible assets | 96 | – | – | 96 | ||||||||||||
Excess of expected losses over impairment provisions and value adjustments | (332 | ) | – | – | (332 | ) | ||||||||||
Significant investments | 183 | (152 | ) | 185 | 216 | |||||||||||
Eligible provisions | – | – | (35 | ) | (35 | ) | ||||||||||
Movements in subordinated debt: | ||||||||||||||||
Repurchases, redemptions and other | – | (551 | ) | (3,211 | ) | (3,762 | ) | |||||||||
Issuances | – | – | 1,151 | 1,151 | ||||||||||||
Other movements | (540 | ) | – | – | (540 | ) | ||||||||||
At 31 December 2016 | 28,899 | 7,297 | 9,542 | 45,738 |
CET1 capital resources have increased by £355 million in the year largely as a result of profit generation in the year, dividends received from the Insurance business and the favourable movement in the available-for-sale reserve following the accounting reclassification of gilts within the liquidity portfolio from held-to-maturity. These movements in CET 1 capital were partially offset by dividends paid out during the year, movements in the defined benefit pension schemes largely driven by the impact of credit spreads, an increase in the excess of expected losses over impairment provisions and value adjustments primarily as a result of the implementation of recently published EBA guidance restricting prudent valuation adjustments eligible for offset against expected losses, and the accrual of the full year ordinary and special dividends, representing returns to ordinary shareholders following strong capital generation.
AT1 capital resources have reduced by £703 million in the year, primarily reflecting the annual reduction in the transitional limit applied to grandfathered AT1 capital instruments and an increase in the significant investments deduction.
Tier 2 capital resources have reduced by £1,910 million in the year largely reflecting calls and redemptions, including the redemption of all remaining series of Enhanced Capital Notes (ECNs) under the Regulatory Call Right, and the amortisation of dated tier 2 instruments, partly offset by the issuance of a new dated tier 2 instrument, foreign exchange movements on subordinated debt, the transitioning of grandfathered AT1 instruments to tier 2 and a reduction in the significant investments deduction.
The redemption of the remaining series of ECNs followed the decision of the Court of Appeal in December 2015 that a Capital Disqualification Event (CDE) in relation to the ECNs had occurred. The Group subsequently exercised its option to redeem them in the first quarter of 2016. In June 2016 the UK Supreme Court confirmed the decision of the Court of Appeal.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table 1.51:Risk-weighted assets
At 31 Dec | At 31 Dec | |||||||
2016 | 2015 | |||||||
£m | £m | |||||||
Foundation Internal Ratings Based (IRB) Approach | 64,907 | 68,990 | ||||||
Retail IRB Approach | 64,970 | 63,912 | ||||||
Other IRB Approach | 17,788 | 18,661 | ||||||
IRB Approach | 147,665 | 151,563 | ||||||
Standardised (STA) Approach | 18,956 | 20,443 | ||||||
Credit risk | 166,621 | 172,006 | ||||||
Counterparty credit risk | 8,419 | 7,981 | ||||||
Contributions to the default fund of a central counterparty | 340 | 488 | ||||||
Credit valuation adjustment risk | 864 | 1,684 | ||||||
Operational risk | 25,292 | 26,123 | ||||||
Market risk | 3,147 | 3,775 | ||||||
Underlying risk-weighted assets | 204,683 | 212,057 | ||||||
Threshold risk-weighted assets1 | 10,763 | 10,788 | ||||||
Total risk-weighted assets | 215,446 | 222,845 | ||||||
Movement to fully loaded risk-weighted assets2 | – | (98 | ) | |||||
Fully loaded risk-weighted assets | 215,446 | 222,747 |
Table 1.52:Risk-weighted assets movement by key driver
Credit risk | Credit risk | Counterparty | Operational | |||||||||||||||||||||||||
IRB | STA | Credit risk1 | Credit risk2 | Market risk | risk | Total | ||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | £m | ||||||||||||||||||||||
Fully loaded risk-weighted assets as at 31 December 2015 | 222,747 | |||||||||||||||||||||||||||
Less total threshold risk-weighted assets3 | (10,690 | ) | ||||||||||||||||||||||||||
Risk-weighted assets at 31 December 2015 | 151,563 | 20,443 | 172,006 | 10,153 | 3,775 | 26,123 | 212,057 | |||||||||||||||||||||
Asset size | (4,453 | ) | (440 | ) | (4,893 | ) | (1,542 | ) | (139 | ) | – | (6,574 | ) | |||||||||||||||
Acquisitions and disposals | (3,406 | ) | (435 | ) | (3,841 | ) | (183 | ) | – | – | (4,024 | ) | ||||||||||||||||
Model updates | 4,363 | – | 4,363 | 99 | (951 | ) | – | 3,511 | ||||||||||||||||||||
Methodology and policy | (1,215 | ) | (1,184 | ) | (2,399 | ) | – | – | – | (2,399 | ) | |||||||||||||||||
Asset quality | (2,989 | ) | (75 | ) | (3,064 | ) | 729 | (200 | ) | – | (2,535 | ) | ||||||||||||||||
Movements in risk levels (Market risk only) | – | – | – | – | 662 | – | 662 | |||||||||||||||||||||
Foreign exchange | 3,802 | 647 | 4,449 | 367 | – | – | 4,816 | |||||||||||||||||||||
Other | – | – | – | – | – | (831 | ) | (831 | ) | |||||||||||||||||||
Risk-weighted assets as at 31 December 2016 | 147,665 | 18,956 | 166,621 | 9,623 | 3,147 | 25,292 | 204,683 | |||||||||||||||||||||
Threshold risk-weighted assets3 | 10,763 | |||||||||||||||||||||||||||
Total risk-weighted assets as at 31 December 2016 | 215,446 |
The risk-weighted assets movement tables provide analyses of the reduction in risk-weighted assets in the period by risk type and an insight into the key drivers of the movements. The key driver analysis is compiled on a monthly basis through the identification and categorisation of risk-weighted asset movements and is subject to management judgment.
Credit risk-weighted assets reductions of £5.4 billion were driven by the following key movements:
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Counterparty credit risk assets decreased by £0.5 billion mainly driven by increased capital relief from CVA related hedges partially offset by increased trading activity, foreign exchange and yield curve movements.
Market risk-weighted assets reduced by £0.6 billion due to a reduction in the Value-at-Risk multiplier, improvements to the VaR model and active portfolio management.
Operational risk-weighted assets reduced by £0.8 billion due to the annual update of the income based TSA operational risk calculation.
STRESS TESTING
The Group undertakes a wide ranging programme of stress testing providing a comprehensive view of the potential impacts arising from the risks to which the Group is exposed. One of the most important uses of stress testing is to assess the resilience of the operational and strategic plans of the Group to adverse economic conditions and other key vulnerabilities. As part of that the Group participates in the UK-wide concurrent stress test run by the Bank of England.
During 2016, the Group was subject to the European Banking Authority’s Europe-wide stress test with the Group’s results significantly above its minimum capital requirements. The concurrent UK stress test run by the Bank of England was also undertaken in 2016. As announced in November, the Group comfortably exceeded the capital thresholds set by the PRA and was not required to take any action as a result of this test.
LEVERAGE RATIO
Table 1.53: Leverage ratio
Fully loaded | ||||||||
At 31 Dec | At 31 Dec | |||||||
2016 | 2015 | |||||||
£m | £m | |||||||
Total tier 1 capital for leverage ratio | ||||||||
Common equity tier 1 capital | 28,899 | 28,505 | ||||||
Additional tier 1 capital | 5,320 | 5,355 | ||||||
Total tier 1 capital | 34,219 | 33,860 | ||||||
Exposure measure | ||||||||
Statutory balance sheet assets | ||||||||
Derivative financial instruments | 36,138 | 29,467 | ||||||
Securities financing transactions (SFTs) | 42,285 | 34,136 | ||||||
Loans and advances and other assets | 739,370 | 743,085 | ||||||
Total assets | 817,793 | 806,688 | ||||||
Deconsolidation adjustments1 | ||||||||
Derivative financial instruments | (2,403 | ) | (1,510 | ) | ||||
Securities financing transactions (SFTs) | 112 | (441 | ) | |||||
Loans and advances and other assets | (142,990 | ) | (133,975 | ) | ||||
Total deconsolidation adjustments | (145,281 | ) | (135,926 | ) | ||||
Derivatives adjustments | ||||||||
Adjustments for regulatory netting | (20,490 | ) | (16,419 | ) | ||||
Adjustments for cash collateral | (8,432 | ) | (6,464 | ) | ||||
Net written credit protection | 699 | 682 | ||||||
Regulatory potential future exposure | 13,188 | 12,966 | ||||||
Total derivatives adjustments | (15,035 | ) | (9,235 | ) | ||||
SFT adjustments | 39 | 3,361 | ||||||
Off-balance sheet items | 58,685 | 56,424 | ||||||
Regulatory deductions and other adjustments | (9,128 | ) | (9,112 | ) | ||||
Total exposure | 707,073 | 712,200 | ||||||
Leverage ratio2 | 4.8% | 4.8% | ||||||
Average leverage ratio3 | 4.9% | |||||||
Average leverage ratio exposure measure4 | 718,914 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
KEY MOVEMENTS
The Group’s fully loaded leverage ratio was increased by 9 basis points reflecting the impact of both the increase in tier 1 capital and the £5.1 billion reduction in the exposure measure, the latter largely reflecting the reduction in liquid asset holdings.
The derivatives exposure measure, representing derivative financial instruments per the balance sheet net of deconsolidation and derivatives adjustments, reduced marginally with market movements and trading activity broadly offset through netting and cash collateral inflows.
The increase in SFT assets over the period, reflecting increased customer volumes, was offset by the reduction in SFT adjustments reflecting both the recognition of additional eligible netting adjustments and a reduction in the counterparty credit risk add-on.
Off-balance sheet items increased by £2.3 billion, primarily reflecting a change in the profile and subsequent classification of commercial off-balance sheet items and a net increase in securitisation financing facilities, partially offset by a planned drawdown on certain liquidity facilities supporting the Group’s conduit programme to provide funding alongside the proceeds of the ABCP issurance.
The average leverage ratio of 4.9 per cent over the quarter reflected a strengthening tier 1 capital position prior to the accrual for the announced full year special dividend and the reduction in balance sheet assets during the quarter, largely reflecting the reduction in liquid asset holdings.
MODIFIED UK LEVERAGE RATIO
The Group’s leverage ratio on a modified basis, excluding qualifying central bank claims from the leverage exposure measure, is 5.1 per cent. This follows the rule modification applied to the UK Leverage Ratio Framework by the PRA in August 2016 as a result of recommendations made by the Financial Policy Committee.
The Financial Policy Committee has indicated that it intends to recalibrate the UK framework in 2017 in order to adjust for the impact of the rule modification, thereby ensuring that levels of capital currently required to meet leverage ratio minimums are maintained. The modified UK leverage ratio should therefore be considered in the context of the proposed recalibration.
G-SIB INDICATORS
Although the Group is not currently classified as a Global Systemically Important Bank (G-SIB), by virtue of the Group’s leverage exposure measure exceeding €200 billion the Group is required to report G-SIB indicator metrics to the PRA. The Group’s indicator metrics used within the 2016 Basel G-SIBs annual exercise will be disclosed from April 2017, and the results are expected to be made available by the Basel Committee later this year.
INSURANCE BUSINESSES
The business transacted by the insurance companies within the Group comprises both life insurance business and general insurance business. Life insurance business comprises unit-linked business, non-profit business and with-profits business.
Scottish Widows Limited (SW Ltd) holds the only with-profit funds managed by the Group. Each insurance company within the Group is regulated by the PRA.
The Solvency II regime for insurers and insurance groups came into force from 1 January 2016. The insurance businesses are required to calculate solvency capital requirements and available capital on a risk-based approach. The insurance business of the Group calculates regulatory capital on the basis of an internal model, which was approved by the PRA on 5 December 2015.
The minimum required capital must be maintained at all times throughout the year. These capital requirements and the capital available to meet them are regularly estimated in order to ensure that capital maintenance requirements are being met.
All minimum regulatory requirements of the insurance companies have been met during the year.
DEFINITION
Regulatory and legal risk is defined as the risk that the Group is exposed to fines, censure, or legal or enforcement action; or to civil or criminal proceedings in the courts (or equivalent) and/or the Group is unable to enforce its rights due to failing to comply with applicable laws (including Codes of Practice which could have legal implications), regulations, codes of conduct or legal obligations.
EXPOSURES
Whilst the Group has a zero risk appetite for material regulatory breaches or material legal incidents, the Group remains exposed to material regulatory breaches and material legal incidents outside of its risk appetite. Exposure is driven by significant ongoing and new legislation, regulation and court proceedings in the UK and overseas which in each case needs to be interpreted, implemented and embedded into day-to-day operational and business practices across the Group.
MEASUREMENT
Regulatory and legal risks are measured against a set of risk appetite metrics, with appropriate thresholds, which are approved annually by the Board and which are regularly reviewed and monitored. Metrics include assessments of control and material regulatory rule breaches.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
MITIGATION
The Group has taken a number of steps and have outlined below the following key components:
MONITORING
Business unit risk exposure is reported to Risk Division where it is aggregated at Group level and a report prepared. The report forms the basis of challenge to the business at the monthly Group Conduct, Compliance and Operational Risk Committee. This committee may escalate matters to the Chief Risk Officer, or higher committees. The report also forms the basis of the regulatory and legal sections in the Group’s consolidated risk reporting.
STATE AID COMMITMENTS
In 2015 the Group satisfied all material structural and behavioural commitments following the successful carve-out and disposal of TSB with respect to the State Aid commitments agreed with the European Commission under the State Aid regime in 2009. The Group is therefore no longer subject to restrictive behavioural commitments including the constraint on acquisitions, but continue to be bound by two remaining limited ancillary commitments which means that the Group remains subject to supervision by the European Commission with respect to these commitments until they cease to have effect on or before June 2017.
DEFINITION
Insurance risk is defined as the risk of adverse developments in the timing, frequency and severity of claims for insured/underwritten events and in customer behaviour, leading to reductions in earnings and/or value.
EXPOSURES
The major sources of insurance risk within the Group are the Insurance business and the Group’s defined benefit pension schemes.
Longevity and persistency are key risks within the life and pensions business. Longevity risk arises from the annuity portfolios where policyholders’ future cashflows are guaranteed at retirement and increases in life expectancy, beyond current assumptions, will increase the cost of annuities. Longevity risk exposures are expected to increase with the Insurance business growth in the bulk annuity market. Persistency assumptions are set to give a best estimate however, customer behaviour may result in increased cancellations or cessation of contributions.
Property insurance risk is a key risk within the general insurance business, through Home Insurance, and exposures can arise, for example, in extreme weather conditions, such as flooding, when property damage claims are higher than expected.
The prime insurance risk of the Group’s defined benefit pension schemes is longevity.
MEASUREMENT
Insurance risks are measured using a variety of techniques including stress, reverse stress and scenario testing, as well as stochastic modelling. Current and potential future insurance risk exposures are assessed and aggregated on a range of stresses including risk measures based on 1-in-200 year stresses for Insurance’s regulatory capital assessments and other supporting measures where appropriate, including those set out in note 33 to the financial statements. For measuring the longevity risk in the Group’s defined benefit pension schemes both 1-in-20 year stresses (risk appetite) and 1-in-200 year stresses (regulatory capital) are utilised. For further information on defined benefit schemes please refer to note 36 to the financial statements.
MITIGATION
Insurance risk in the Insurance business is mitigated in a number of ways:
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The most significant insurance risk in the defined benefit pension schemes is longevity risk. The merits of longevity risk transfer and hedging solutions are regularly reviewed.
MONITORING
Insurance risks in the Insurance business are monitored by Insurance senior executive Committees and ultimately the Insurance Board. Governance of the Group’s defined benefit pension schemes includes two specialist pension committees. Significant risks from the Insurance business and the defined benefit pension schemes are reviewed by the Group Executive and Group Risk Committees and/or Board.
Insurance risk exposures within the Insurance business are monitored against risk appetite. The Insurance business monitors experiences against expectations, for example business volumes and mix, claims and persistency experience. The effectiveness of controls put in place to manage insurance risk is evaluated and significant divergences from experience or movements in risk exposures are investigated and remedial action taken.
Progress against risk appetite metrics in respect of longevity risk in the Group’s defined benefit pension schemes is regularly reported and reviewed by the relevant committees.
DEFINITION
People risk is defined as the risk that the Group fails to lead, manage and enable colleagues to deliver the Group’s strategy for customers, shareholders and regulators.
EXPOSURES
The Group’s management of material people risks is critical to its capacity to deliver against its strategic objectives and to be the best bank for customers. Over the coming year the Group anticipates the following key people risk exposures:
MEASUREMENT
People risk is measured through a series of quantitative and qualitative indicators, aligned to key sources of people risk for the Group such as succession, retention, colleague engagement and performance management. In addition to risk appetite measures and limits, people risks and controls are monitored on a monthly basis via the Group’s risk governance framework and reporting structures.
MITIGATION
The Group takes many mitigating actions with respect to people risk. Key areas of focus include:
MONITORING
People risks from across the Group are monitored and reported through Board and Group Governance Committees in accordance with the Group’s Risk Management Framework and People Risk sub-framework. Risk exposures are discussed monthly via the Group People Risk Committee with upwards reporting to Group Risk and Executive Committees. In addition oversight, challenge and reporting is completed at Risk Division level and combined with Risk Assurance reviews, assesses the effectiveness of controls, recommending follow up remedial action if relevant. All material People Risk events are escalated in accordance with the formal Group Operational Risk Policy and People Policies to the respective Divisional Managing Directors and the Group Director, Conduct, Compliance and Operational Risk.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
DEFINITION
Financial reporting risk is defined as the risk that the Group suffers reputational damage, loss of investor confidence and/or financial loss arising from the adoption of inappropriate accounting policies, ineffective controls over business or finance processes impacting financial, prudential regulatory, and tax reporting, failure to manage the associated risks of changes in taxation rates, law, corporate ownership or structure and the failure to disclose timely and appropriate information in accordance with regulatory requirements.
EXPOSURES
Exposure represents the sufficiency of the Group’s policies and procedures to maintain adequate systems, processes and controls to support statutory, prudential regulatory and tax reporting, to prevent and detect financial reporting fraud, to manage the Group’s tax position and to support regulatory disclosures.
MEASUREMENT
Financial reporting risk is measured by the adequacy of, and compliance with, a number of key controls. Identification of potential financial reporting risk also forms a part of the Group’s Operational Risk management framework.
MITIGATION
The Group maintains a system of internal controls, which is designed to:
MONITORING
Financial reporting risk is actively monitored at business unit and Group levels. There are specific programmes of work undertaken across the Group to support:
The Group also has in place an assurance process to support its prudential regulatory reporting and monitoring activities designed to identify and review tax exposures on a regular basis. There is ongoing monitoring to assess the impact of emerging regulation and legislation on financial, prudential regulatory and tax reporting.
The Group has a Disclosure Committee which assists the Group Chief Executive and Chief Financial Officer in fulfilling their disclosure responsibilities under relevant listing and other regulatory and legal requirements. In addition, the Audit Committee reviews the quality and acceptability of the Group’s financial disclosures. For further information on the Audit Committee’s responsibilities relating to financial reporting see pages 167 to 170.
DEFINITION
Governance risk is defined as the risk that the Group’s organisational infrastructure fails to provide robust oversight of decision makingdecision-making and the control mechanisms to ensure strategies and management instructions are implemented effectively.
EXPOSURES
The internal and corporate governance arrangements of major financial institutions continue to be subject to a high level of regulatory and public scrutiny. The Group’s exposure to governance risk is also reflective of the significant volume of existing and proposed legislation and regulation, both within the UK and overseasacross the multiple jurisdictions within which it operates, with which it must comply. Risk governance and risk culture are mutually reinforcing.
MEASUREMENT
The Group’s governance arrangements are assessed against new or proposed legislation and regulation and best practice among peer organisations in order to identify any areas of enhancement required.
Model Risk appetite considers the performance of the Group’s most material models.
MITIGATION
The Group’s Risk Management Framework (RMF)enterprise risk management framework (ERMF) establishes robust arrangements for risk governance, in particular by:
Defining individual and collective accountabilities for risk management, risk oversight and risk assurance through a | |
Outlining governance arrangements which articulate the enterprise-wide approach to risk management; and |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Supporting a consistent approach to Group-wide behaviour and risk |
Under the banner of the RMF,ERMF, training modules are in place to support all colleagues in understanding and fulfilling their risk responsibilities.
The Ethics and Responsible Business Policy and supporting CodesGroup’s Code of Personal Responsibility and Business Responsibility embody the Group’sembodies its values and reflect its commitment to operating responsibly and ethically both at a business and an individual level. All colleagues are required to adhere to the Codescode in all aspects of their roles.
Driving adherence toEffective implementation of the ERMF mutually reinforces and is reinforced by the Group’s RMF goes ‘hand in glove’ with its approach to risk culture, which is embedded in the Group’sits approach to recruitment, selection, training, performance management and reward.
MONITORING
A review of the Group’s RMF,ERMF, which includes the status of the Group’s Principlesprinciples and Policy Framework,policy framework, and the design and operational effectiveness of key governance committees, is undertaken on an annual basis and the findings are reported to the Group Risk Committee, Board Risk Committee and the Board.
This includes a reviewFor further information on corporate governance see pages 143 to 169.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
DEFINITION
Market risk is defined as the risk that unfavourable market moves (including changes in and increased volatility of interest rates, market-implied inflation rates, credit spreads and prices for bonds, foreign exchange rates, equity, property and commodity prices and other instruments) lead to reductions in earnings and/or value.
Balance sheet linkages
The information provided in table AN aims to facilitate the understanding of linkages between banking, trading, and insurance balance sheet items and the positions disclosed in the Group’s market risk disclosures.
Table AN:Market risk linkage to the balance sheet
Banking | ||||||||||||||||||
2019 | Total £m | Trading book only £m | Non-trading £m | Insurance £m | Primary market risk factor | |||||||||||||
Assets | ||||||||||||||||||
Cash and balances at central banks | 55,130 | – | 55,130 | – | Interest rate | |||||||||||||
Financial assets at fair value through profit or loss | 160,189 | 17,982 | 5,352 | 136,855 | Interest rate, foreign exchange, credit spread | |||||||||||||
Derivative financial instruments | 26,369 | 18,885 | 5,119 | 2,365 | Interest rate, foreign exchange, credit spread | |||||||||||||
Financial assets at amortised cost | ||||||||||||||||||
Loans and advances to banks | 9,775 | – | 9,710 | 65 | Interest rate | |||||||||||||
Loans and advances to customers | 494,988 | – | 494,948 | 40 | Interest rate | |||||||||||||
Debt securities | 5,544 | – | 5,544 | – | Interest rate, credit spread | |||||||||||||
510,307 | – | 510,202 | 105 | |||||||||||||||
Financial assets at fair value through other comprehensive income | 25,092 | – | 25,092 | – | Interest rate, foreign exchange, credit spread | |||||||||||||
Value of in-force business | 5,558 | – | – | 5,558 | Equity | |||||||||||||
Other assets | 51,248 | – | 22,410 | 28,838 | Interest rate | |||||||||||||
Total assets | 833,893 | 36,867 | 623,305 | 173,721 | ||||||||||||||
Liabilities | ||||||||||||||||||
Deposit from banks | 28,179 | – | 28,179 | – | Interest rate | |||||||||||||
Customer deposits | 421,320 | – | 421,320 | – | Interest rate | |||||||||||||
Financial liabilities at fair value through profit or loss | 21,486 | 13,955 | 7,531 | – | Interest rate, foreign exchange | |||||||||||||
Derivative financial instruments | 25,779 | 15,654 | 7,719 | 2,406 | Interest rate, foreign exchange, credit spread | |||||||||||||
Debt securities in issue | 97,689 | – | 97,689 | – | Interest rate, credit spread | |||||||||||||
Liabilities arising from insurance and investment contracts | 148,908 | – | – | 148,908 | Credit spread | |||||||||||||
Subordinated liabilities | 17,130 | – | 15,335 | 1,795 | Interest rate, foreign exchange | |||||||||||||
Other liabilities | 25,596 | – | 10,678 | 14,918 | Interest rate | |||||||||||||
Total liabilities | 786,087 | 29,609 | 588,451 | 168,027 |
The defined benefit pension schemes’ assets and liabilities are included under Other assets and Other liabilities in this table and note 36 on page F-61 provides further information.
The Group’s trading book assets and liabilities are originated within the Commercial Banking division. Within the Group’s balance sheet these fall under the trading assets and liabilities and derivative financial instruments. The assets and liabilities are classified as trading books if they meet the requirements as set out in the Capital Requirements Regulation, article 104. Further information on these activities can be found under the Trading portfolios section on page 107.
Derivative assets and liabilities are held by the Group for three main purposes; to provide risk management solutions for clients, to manage portfolio risks arising from client business and to manage and hedge the Group’s own risks. Insurance business assets and liabilities relate to policyholder funds, as well as shareholder invested assets, including annuity funds. The Group recognises the value of in-force business in respect of Insurance’s long-term life assurance contracts as an asset in the balance sheet (see note 25, page F-51).
The Group ensures that it has adequate cash and balances at central banks and stocks of high quality liquid assets (e.g. gilts or US Treasury securities) that can be converted easily into cash to meet liquidity requirements. The majority of these assets are asset swapped and held at fair value through other comprehensive income with the remainder held as financial assets at fair value through profit and loss. Further information on these balances can be found under funding and liquidity risk on page 94.
The majority of debt issuance originates from the Group’s capital and funding activities and the interest rate risk of the debt issued is hedged by swapping them into a floating rate.
The non-trading book primarily consists of customer on-balance sheet activities and the Group’s current approachcapital and funding activities, which expose it to governancethe risk of adverse movements in market prices, predominantly interest rates, credit spreads, exchange rates and ongoing initiativesequity prices, as described in lightfurther detail within the Banking activities section (page 103).
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
MEASUREMENT
In addition to measuring single factors, Group risk appetite is calibrated primarily to five multi-risk Group economic scenarios, and is supplemented with sensitivity-based measures. The scenarios assess the impact of unlikely, but plausible, adverse stresses on income with the latest regulatory guidance, including in 2016 the further enhancement of frameworks to address Senior Managers and Certification Regime (SM&CR) requirements and prepareworst case for the requirement to ring-fence retail banking activities, with effect from January 2019.defined benefit pensions, insurance and trading portfolios reported against independently, and across the Group as a whole.
As part ofThe Group risk appetite is cascaded first to the RMF,Group Asset and Liability Committee (GALCO), chaired by the performance of modelsChief Financial Officer, where risk appetite is approved and monitored by risk type, and then to Group Market Risk Committee (GMRC) where risk appetite is sub-allocated by division. These metrics are reviewed regularly monitoredby senior management to inform effective decision-making.
MITIGATION
GALCO is responsible for approving and monitoring group market risks, management techniques, market risk measures, behavioural assumptions, and the market risk policy. Various mitigation activities are assessed and undertaken across the Group to manage portfolios and seek to ensure they remain fit-for-purpose.within approved limits. The mitigation actions will vary dependent on exposure but will, in general, look to reduce risk in a cost effective manner by offsetting balance sheet exposures and externalising to the financial markets dependent on market liquidity. The market risk policy is owned by Group Corporate Treasury (GCT) and refreshed annually. The policy is underpinned by supplementary market risk procedures, which define specific market risk management and oversight requirements.
MONITORING
GALCO and the GMRC regularly review high level market risk exposure as part of the wider risk management framework. They also make recommendations to the Board concerning overall market risk appetite and Group Market Risk Policy. Exposures at lower levels of delegation are monitored at various intervals according to their volatility, from daily in the case of trading portfolios to monthly or quarterly in the case of less volatile portfolios. Levels of exposures compared to approved limits and triggers are monitored by Risk and where appropriate, escalation procedures are in place.
How market risks arise and are managed across the Group’s activities is considered in more detail below.
BANKING ACTIVITIES
Exposures
The Group’s banking activities expose it to the risk of adverse movements in market prices, predominantly interest rates, credit spreads, exchange rates and equity prices. The volatility of market values can be affected by both the transparency of prices and the amount of liquidity in the market for the relevant asset, liability or instrument.
Interest rate risk
Yield curve risk in the Group’s divisional portfolios, and in the Group’s capital and funding activities arises from the different repricing characteristics of the Group’s non-trading assets, liabilities (see loans and advances to customers and customer deposits in table AN) and off-balance sheet positions.
Basis risk arises from the possible changes in spreads, for example where the bank lends with reference to a central bank rate but funds with reference to LIBOR, and the spread between these two rates widens or tightens.
Optionality risk arises predominantly from embedded optionality within assets, liabilities or off-balance sheet items where either the Group or the customer can affect the size or timing of cash flows. One example of this is mortgage prepayment risk where the customer owns an option allowing them to prepay when it is economical to do so. This can result in customer balances amortising more quickly or slowly than anticipated due to customers’ response to changes in economic conditions.
Foreign exchange risk
Economic foreign exchange exposure arises from the Group’s investment in its overseas operations (net investment exposures are disclosed in note 53 on page F-98). In addition, the Group incurs foreign exchange risk through non-functional currency flows from services provided by customer-facing divisions, the Group’s debt and capital management programmes and is exposed to volatility in its CET1 ratio, due to the impact of changes in foreign exchange rates on the retranslation of non-sterling-denominated RWAs.
Equity risk
Equity risk arises primarily from three different sources;
the Group’s private equity investments held by Lloyds Development Capital within the Equities sub-group. | |
the Group’s strategic equity holdings, for example Visa Inc Preference Shares, now held in the Equities sub-group. | |
a small exposure to Lloyds Banking Group share price through deferred shares and deferred options granted to employees as part of their benefits package. |
Credit spread risk
Credit spread risk arises largely from (i) the liquid asset portfolio held in the management of Group liquidity, comprising of government, supranational and other eligible assets; (ii) the Credit Valuation Adjustment (CVA) and Debit Valuation Adjustment (DVA) sensitivity to credit spreads; (iii) a number of the Group’s structured medium-term notes where we have elected to fair value the notes through the profit and loss account; and (iv) banking book assets held at fair value in Commercial Banking under IFRS 9.
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Measurement
Interest rate risk exposure is monitored monthly using, primarily:
Market value sensitivity: this methodology considers all repricing mismatches (behaviourally adjusted where appropriate) in the current balance sheet and calculates the change in market value that would result from an instantaneous 25, 100 and 200 basis points parallel rise or fall in the yield curve (subject to an appropriate floor). The market value sensitivities are calculated on a static balance sheet using principal cash flows excluding interest, commercial margins and other spread components and are therefore discounted at the risk free zero-coupon rate.
Interest income sensitivity: this measures the 12 month impact on future net interest income arising from various economic scenarios. These include instantaneous 25, 100 and 200 basis point parallel shifts in all yield curves and the five Group economic scenarios (subject to an appropriate floor). These scenarios are reviewed every year and are designed to replicate severe but plausible economic events, capturing risks that would not be evident through the use of parallel shocks alone such as basis risk and steepening or flattening of the yield curve. An additional negative rates scenario is also used for information purposes where all floors are removed; however this is not measured against the limit framework.
Unlike the market value sensitivities, the interest income sensitivities incorporate additional behavioural assumptions as to how and when individual products would reprice in response to changing rates. In addition a dynamic balance sheet is used which includes the run-off of current assets and liabilities and the addition of planned new business.
Reported sensitivities are not necessarily predictive of future performance as they do not capture additional management actions that would likely be taken in response to an immediate, large, movement in interest rates. These actions could reduce the net interest income sensitivity, help mitigate any adverse impacts or they may result in changes to total income that are not captured in the net interest income.
Structural hedge limits: the structural hedging programme managing interest rate risk in the banking book relies on a number of assumptions made around customer behaviour. A material mismatch between assumptions and reality could lead to a deterioration in earnings. In order to monitor this risk a number of metrics are in place to enhance understanding of risks within this portfolio.
The Group has an integrated Asset and Liability Management (ALM) system which supports non-traded asset and liability management of the Group. This provides a single consolidated tool to measure and manage interest rate repricing profiles (including behavioural assumptions), perform stress testing and produce forecast outputs. The Group is aware that any assumptions based model is open to challenge. A full behavioural review is performed annually, or in response to changing market conditions, to ensure the assumptions remain appropriate and the model itself is subject to annual re-validation, as required under the Group Model Governance Policy. The key behavioural assumptions are:
embedded optionality within products. | |
the duration of balances that are contractually repayable on demand, such as current accounts and overdrafts, together with net free reserves of the Group. | |
the re-pricing behaviour of managed rate liabilities namely variable rate savings. |
Table AO below shows, split by material currency, the Group’s market value sensitivities to an instantaneous parallel up and down 25 and 100 basis points change to all interest rates.
Table AO: Group Banking activities: market value sensitivity
2019 | 2018 | |||||||||||||||||||||||||||||||
Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | |||||||||||||||||||||||||
Sterling | 13.6 | (13.6 | ) | 52.7 | (47.4 | ) | 29.1 | (29.5 | ) | 113.7 | (122.4 | ) | ||||||||||||||||||||
US Dollar | (5.6 | ) | 5.8 | (21.3 | ) | 24.3 | (7.8 | ) | 7.8 | (30.6 | ) | 31.9 | ||||||||||||||||||||
Euro | (7.2 | ) | 2.3 | (27.0 | ) | 11.1 | (3.0 | ) | 1.7 | (11.2 | ) | 7.2 | ||||||||||||||||||||
Other | 0.2 | (0.2 | ) | 0.8 | (0.8 | ) | (0.1 | ) | 0.1 | (0.4 | ) | 0.5 | ||||||||||||||||||||
Total | 1.0 | (5.7 | ) | 5.2 | (12.8 | ) | 18.2 | (19.9 | ) | 71.5 | (82.8 | ) |
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OPERATING AND FINANCIAL REVIEW AND PROSPECTS
This is a risk based disclosure and the amounts shown would be amortised in the income statement over the duration of the portfolio.
The market value sensitivity is driven by temporary customer flow positions not yet hedged plus other positions occasionally held, within limits, by the Group’s wholesale funding desks in order to minimise overall funding and hedging costs. The level of risk is low relative to the size of the total balance sheet.
Table AP below shows supplementary value sensitivity to a steepening and flattening (c.100 basis points around the 3 year point) in the yield curve. This ensures there are no unintended consequences to managing risk to parallel shifts in rates.
Table AP:Group Banking activities: market value sensitivity to a steepening and flattening of the yield curve
2019 | 2018 | |||||||||||||||
Steepener £m | Flattener £m | Steepener £m | Flattener £m | |||||||||||||
Sterling | 46.6 | (47.5 | ) | 38.3 | (36.5 | ) | ||||||||||
US Dollar | (13.2 | ) | 15.3 | 6.5 | (5.7 | ) | ||||||||||
Euro | (15.5 | ) | 9.7 | (6.8 | ) | 3.6 | ||||||||||
Other | 0.4 | (0.4 | ) | (0.1 | ) | 0.1 | ||||||||||
Total | 18.3 | (22.9 | ) | 37.9 | (38.5 | ) |
The table below shows the banking book income sensitivity to an instantaneous parallel up and down 25 and 100 basis points change to all interest rates.
Table AQ:Group Banking activities: net interest income sensitivity
2019 | 2018 | |||||||||||||||||||||||||||||||
Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | Up 25bps £m | Down 25bps £m | Up 100bps £m | Down 100bps £m | |||||||||||||||||||||||||
Client facing activity and associated hedges | 109.4 | (147.9 | ) | 430.8 | (702.8 | ) | 76.2 | (125.4 | ) | 341.6 | (538.6 | ) |
Income sensitivity is measured over a rolling 12 month basis.
The increase in the net interest income sensitivity to a downwards 100bps shock reflects additional margin compression risk within retail savings and a reduction in the size of the structural hedge.
Basis risk, foreign exchange, equity, and credit spread risks are measured primarily through scenario analysis by assessing the impact on profit before tax over a 12 month horizon arising from a change in market rates, and reported within the Board risk appetite on a monthly basis. Supplementary measures such as sensitivity and exposure limits are applied where they provide greater insight into risk positions. Frequency of reporting supplementary measures varies from daily to quarterly appropriate to each risk type.
Mitigation
The Group’s policy is to optimise reward whilst managing its market risk exposures within the risk appetite defined by the Board. The Group Market Risk Policy and procedures outlines the hedging process, and the centralisation of risk from divisions into GCT, e.g. via the transfer pricing framework. GCT is responsible for managing the centralised risk and does this through natural offsets of matching assets and liabilities, and appropriate hedging activity of the residual exposures, subject to the authorisation and mandate of GALCO within the Board risk appetite. The hedges are externalised to the market by derivative desks within GCT and Commercial Banking Markets. The Group mitigates income statement volatility through hedge accounting. This reduces the accounting volatility arising from the Group’s economic hedging activities by utilising both LIBOR and bank base rate assets. Any hedge accounting ineffectiveness that leads to accounting volatility is continuously monitored.
The largest residual risk exposure arises from balances that are deemed to be insensitive to changes in market rates (including current accounts, a portion of variable rate deposits and investable equity), and is managed through the Group’s structural hedge. Consistent with the Group’s strategy to deliver stable returns, GALCO seeks to minimise large reinvestment risk, and to smooth earnings over a range of investment tenors. The structural hedge consists of longer-term fixed rate assets or interest rate swaps and the amount and duration of the hedging activity is reviewed regularly by GALCO.
Whilst the bank faces margin compression in low rate environments, its exposure to pipeline and prepayment risk are not considered material and are hedged in line with expected customer behaviour. These are appropriately monitored and controlled through divisional Asset and Liability Committees (ALCOs).
Net investment foreign exchange exposures are managed centrally by GCT, by hedging non-sterling asset values with currency borrowing.
Economic foreign exchange exposures arising from non-functional currency flows are identified by divisions and transferred and managed centrally. The Group also has a policy of forward hedging its forecasted currency profit and loss to year end. The Group makes use of both accounting and economic foreign exchange exposures, as an offset against the impact of changes in foreign exchange rates on the value of non-sterling-denominated RWAs. This involves the holding of a structurally open currency position; sensitivity is minimised where, for a given currency, the ratio of the structural open position to RWAs equals the CET1 ratio. Continually evaluating this structural open currency position against evolving non-sterling-denominated RWAs, mitigates volatility in the Group’s CET1 ratio.
Monitoring
The appropriate limits and triggers are monitored by senior executive committees within the banking divisions. Banking assets, liabilities and associated hedging are actively monitored and if necessary rebalanced to be within agreed tolerances.
DEFINED BENEFIT PENSION SCHEMES
Exposures
The Group’s defined benefit pension schemes are exposed to significant risks from their assets and liabilities. The liability discount rate exposes the Group to interest rate risk and credit spread risk, which are partially offset by fixed interest assets (such as gilts and corporate bonds) and swaps. Equity and alternative asset risk arises from direct asset holdings. Scheme membership exposes the Group to longevity risk.
For further information on Corporate Governance see pages 152defined benefit pension scheme assets and liabilities please refer to 176.note 36 on page F-61.
For further information on Model Risk see page 173.Measurement
Management of the schemes’ assets is the responsibility of the Trustees of the schemes who are responsible for setting the investment strategy and for agreeing funding requirements with the Group. The Group will be liable for meeting any funding deficit that may arise. As part of the triennial valuation process, the Group will agree with the Trustees a funding strategy to eliminate the deficit over an appropriate period.
Longevity risk is measured using both 1-in-20 year stresses (risk appetite) and 1-in-200 year stresses (regulatory capital).
Mitigation
The Group takes an active involvement in agreeing mitigation strategies with the schemes’ Trustees. An interest rate and inflation hedging programme is in place to reduce liability risk. The schemes have also reduced equity allocation and invested the proceeds in credit assets. The Trustees have put
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
in place a longevity swap to mitigate longevity risk. The merits of longevity risk transfer and hedging solutions are reviewed regularly.
Monitoring
In addition to the wider risk management framework, governance of the schemes includes two specialist pensions committees.
The surplus, or deficit, in the schemes is tracked monthly along with various single factor and scenario stresses which consider the assets and liabilities holistically. Key metrics are monitored monthly including the Group’s capital resources of the scheme, the performance against risk appetite triggers, and the performance of the hedged asset and liability matching positions.
INSURANCE PORTFOLIOS
Exposures
The main elements of market risk to which the Group is exposed through the Insurance business are equity, credit spread, interest rate and inflation.
Equity risk arises indirectly through the value of future management charges on policyholder funds. These management charges form part of the value of in-force business (see note 25 on page F-51). Equity risk also arises in the with-profits funds but is less material. | |
Credit spread risk mainly arises from annuities where policyholders’ future cash flows are guaranteed at retirement. Exposure arises if the |
market value of the assets which are held to back these liabilities, mainly corporate bonds and loans, do not perform in line with expectations. | |
Interest rate risk arises through holding credit and interest assets mainly in the annuity book and also to cover general insurance liabilities, capital requirements and risk appetite. | |
Inflation exposure arises from a combination of inflation linked policyholder benefits and inflation assumptions used to project future expenses. |
Measurement
Current and potential future market risk exposures within Insurance are assessed using a range of techniques including stress, reverse stress and scenario testing, as well as stochastic modelling.
Risk measures include 1-in-200 year stresses used for regulatory capital assessments and single factor stresses for profit before tax.
Table AR demonstrates the impact of the Group’s UK Recession scenario on the Insurance business’ portfolio (with no diversification benefit, but after the impact of Group consolidation on interest rate and credit spreads). The amounts include movements in assets, liabilities and the value of in-force business in respect of insurance contracts and participating investment contracts.
Table AR:Insurance business: profit before tax sensitivities
Increase (reduction) in profit before tax | ||||||||
2019 £m | 2018 £m | |||||||
Interest rates – decrease 100 basis points | 116 | 297 | ||||||
Inflation – increase 50 basis points | 30 | 93 | ||||||
Credit spreads – 100% widening | (859 | ) | (823 | ) | ||||
Equity – 30% fall | (68 | ) | (38 | ) | ||||
Property – 25% fall | (47 | ) | (50 | ) | ||||
Total | (828 | ) | (521 | ) |
Further stresses that show the effect of reasonably possible changes in key assumptions, including the risk-free rate, equity investment volatility, widening of credit default spreads on corporate bonds and an increase in illiquidity premium, as applied to profit before tax are set out in note 33 on page F-60.
One of the consequences of preparations for the formation of the Ring Fenced Bank was to reduce the impact of some stresses within the Insurance business, though Group exposures may not have materially changed. Examples of this include centralisation of defined benefit pension schemes, and the transfer of specific hedging programmes from the corporate centre to the business unit where the exposure emanated.
Mitigation
Equity and credit spread risks are closely monitored and, where appropriate, asset liability matching is undertaken to mitigate risk. Unit matching has been used since 2018 to reduce the sensitivity of equity movements by matching unit-linked liabilities on a best-estimate view. Hedging strategies are also in place to reduce exposure from unit-linked funds and the with-profit funds.
Interest rate risk in the annuity book is mitigated by investing in assets whose cash flows closely match those on the projected future liabilities. It is not possible to eliminate risk completely as the timing of insured events is uncertain and bonds are not available at all of the required maturities. As a result, the cash flows cannot be precisely matched and so sensitivity tests are used to test the extent of the mismatch.
Other market risks (e.g. interest rate exposure outside the annuity book and inflation) are also closely monitored and where considered appropriate, hedges are put in place to reduce exposure.
Monitoring
Market risks in the Insurance business are monitored by Insurance senior executive committees and ultimately the Insurance Board. Monitoring includes the progression of market risk capital against risk appetite limits, as well as the sensitivity of profit before tax to combined market risk stress scenarios and in year market movements. Asset and liability matching positions and hedges in place are actively monitored and if necessary rebalanced to be within agreed tolerances. In addition market risk is controlled via approved investment policies and mandates.
106 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
TRADING PORTFOLIOS
Exposures
The Group’s trading activity is small relative to its peers and does not engage in any proprietary trading activities. The Group’s trading activity is undertaken solely to meet the financial requirements of commercial and retail customers for foreign exchange, credit and interest rate products. These activities support customer flow and market making activities.
All trading activities are performed within the Commercial Banking division. While the trading positions taken are generally small, any extreme moves in the main risk factors and other related risk factors could cause significant losses in the trading book depending on the positions at the time. The average 95 per cent 1-day trading VaR (Value at Risk; diversified across risk factors) was £0.9 million for 31 December 2019 compared to £0.8 million for 31 December 2018.
Trading market risk measures are applied to all of the Group’s regulatory trading books and they include daily VaR (table AS), sensitivity based measures, and stress testing calculations.
Measurement
The Group internally uses VaR as the primary risk measure for all trading book positions.
Table AS shows some relevant statistics for the Group’s 1-day 95 per cent confidence level VaR that are based on 300 historical consecutive business days to year end 2019 and year end 2018.
The risk of loss measured by the VaR model is the minimum expected loss in earnings given the 95 per cent confidence. The total and average trading VaR numbers reported below have been obtained after the application of the diversification benefits across the five risk types, but does not reflect any diversification between Lloyds Bank Corporate Markets and any other entities. The maximum and minimum VaR reported for each risk category did not necessarily occur on the same day as the maximum and minimum VaR reported at Group level.
107 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Table AS:Trading portfolios: VaR (1-day 95 per cent confidence level) (audited)
At 31 December 2019 | At 31 December 2018 | |||||||||||||||||||||||||||||||
Close £m | Average £m | Maximum £m | Minimum £m | Close £m | Average £m | Maximum £m | Minimum £m | |||||||||||||||||||||||||
Interest rate risk | 0.6 | 0.8 | 1.6 | 0.4 | 0.6 | 0.7 | 1.8 | 0.4 | ||||||||||||||||||||||||
Foreign exchange risk | 0.1 | 0.1 | 0.3 | 0.0 | 0.1 | 0.1 | 2.1 | – | ||||||||||||||||||||||||
Equity risk | – | – | – | – | – | – | – | – | ||||||||||||||||||||||||
Credit spread risk | 0.1 | 0.2 | 0.3 | 0.1 | 0.2 | 0.2 | 0.7 | 0.1 | ||||||||||||||||||||||||
Inflation risk | 0.4 | 0.2 | 0.6 | 0.1 | 0.3 | 0.3 | 0.7 | 0.2 | ||||||||||||||||||||||||
All risk factors before diversification | 1.2 | 1.3 | 2.2 | 0.9 | 1.2 | 1.3 | 3.0 | 0.9 | ||||||||||||||||||||||||
Portfolio diversification | (0.4 | ) | (0.4 | ) | (0.4 | ) | (0.5 | ) | ||||||||||||||||||||||||
Total VaR | 0.8 | 0.9 | 1.6 | 0.5 | 0.8 | 0.8 | 2.1 | 0.4 |
The market risk for the trading book continues to be low with respect to the size of the Group and compared to our peers. This reflects the fact that the Group’s trading operations are customer-centric and focused on hedging and recycling client risks.
Although it is an important market standard measure of risk, VaR has limitations. One of them is the use of a limited historical data sample which influences the output by the implicit assumption that future market behaviour will not differ greatly from the historically observed period. Another known limitation is the use of defined holding periods which assumes that the risk can be liquidated or hedged within that holding period. Also calculating the VaR at the chosen confidence interval does not give enough information about potential losses which may occur if this level is exceeded. The Group fully recognises these limitations and supplements the use of VaR with a variety of other measurements which reflect the nature of the business activity. These include detailed sensitivity analysis, position reporting and a stress testing programme.
Trading book VaR (1-day 99 per cent) is compared daily against both hypothetical and actual profit and loss. The 1-day 99 per cent VaR chart for Lloyds Banking Group can be found in the Group’s Pillar 3 Report.
Mitigation
The level of exposure is controlled by establishing and communicating the approved risk limits and controls through policies and procedures that define the responsibility and authority for risk taking. Market risk limits are clearly and consistently communicated to the business. Any new or emerging risks are brought within risk reporting and defined limits.
Monitoring
Trading risk appetite is monitored daily with 1-day 95 per cent VaR and stress testing limits. These limits are complemented with position level action triggers and profit and loss referrals. Risk and position limits are set and managed at both desk and overall trading book levels. They are reviewed at least annually and can be changed as required within the overall Group risk appetite framework.
DEFINITION
Model risk is defined as the risk of financial loss, regulatory censure, reputational damage or customer detriment, as a result of deficiencies in the development, application or ongoing operation of models and rating systems.
Models are defined as quantitative methods that process input data into quantitative outputs, or qualitative outputs (including ordinal letter output) which have a quantitative measure associated with them. Model Governance Policy is restricted to specific categories of application of models, principally financial risk, treasury and valuation, with certain exclusions, such as prescribed calculations and project appraisal calculations.
EXPOSURES
There are over 300 models in the Group performing a variety of functions including:
capital calculation; | |
credit decisioning, including fraud; | |
pricing models; | |
impairment calculation; | |
stress testing and forecasting; and | |
market risk measurement. |
As a result of the wide scope and breadth of coverage, there is exposure to model risk across a number of the Group’s principal risk categories.
MEASUREMENT
The Group risk appetite framework is the key component for measuring the Group’s model risk. Reported monthly to the Group Risk Committee and Board, focus is placed on the performance of the Group’s most material models.
MITIGATION
The model risk management framework, established by and with continued oversight from an independent team in the Risk division, provides the foundation for managing and mitigating model risk within the Group. Accountability is cascaded from the Board and senior management via the Group enterprise risk management framework.
This provides the basis for the Group Model Governance Policy, which defines the mandatory requirements for models across the Group, including:
the scope of models covered by the policy; | |
model materiality; | |
roles and responsibilities, including ownership, independent oversight and approval; and | |
key principles and controls regarding data integrity, development, validation, implementation, ongoing maintenance and revalidation, monitoring, and the process for non-compliance. |
The model owner takes responsibility for ensuring the fitness for purpose of the models and rating systems, supported and challenged by the independent specialist Group function.
The above ensures all models in scope of policy, including those involved in regulatory capital calculation, are developed consistently and are of sufficient quality to support business decisions and meet regulatory requirements.
MONITORING
The Group Model Governance Committee is the primary body for overseeing model risk. Policy requires that key performance indicators are monitored for every model to ensure they remain fit for purpose and all issues are escalated appropriately. Material model issues are reported to Group and Board Risk Committees monthly with more detailed papers as necessary to focus on key issues.
108 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
INVESTMENT PORTFOLIO, MATURITIES, DEPOSITS, SHORT-TERM BORROWINGS
Trading securities and other financialFinancial assets at fair value through profit or loss; financial assets at fair value through other comprehensive income (2017: available-for-sale financial assets; held-to-maturity investments;assets); and debt securities classified as loans and receivablesheld at amortised cost
The following table sets out the book values and valuationsvaluation (fair value) of the Group’s debt securities, treasury and other bills and equity shares at 31 December for each of the three years indicated.
2016 | 2016 | 2015 | 2015 | 2014 | 2014 | 2019 Book value £m | 2019 Valuation £m | 2018 Book value £m | 2018 Valuation £m | 2017 Book value £m | 2017 Valuation £m | |||||||||||||||||||||||||||||||||||||
Book value | Valuation | Book value | Valuation | Book value | Valuation | |||||||||||||||||||||||||||||||||||||||||||
£m | £m | £m | £m | £m | £m | |||||||||||||||||||||||||||||||||||||||||||
Trading securities and other financial assets at fair value through profit or loss | ||||||||||||||||||||||||||||||||||||||||||||||||
Financial assets at fair value through profit or loss | ||||||||||||||||||||||||||||||||||||||||||||||||
US treasury and US government agencies | 1,607 | 1,607 | 663 | 663 | 658 | 658 | 194 | 194 | 474 | 474 | 1,458 | 1,458 | ||||||||||||||||||||||||||||||||||||
Other government securities | 25,125 | 25,125 | 21,454 | 21,454 | 24,815 | 24,815 | 18,660 | 18,660 | 17,621 | 17,621 | 20,562 | 20,562 | ||||||||||||||||||||||||||||||||||||
Other public sector securities | 1,325 | 1,325 | 2,039 | 2,039 | 2,170 | 2,170 | 2,126 | 2,126 | 2,064 | 2,064 | 1,527 | 1,527 | ||||||||||||||||||||||||||||||||||||
Bank and building society certificates of deposit | 244 | 244 | 135 | 135 | 554 | 554 | 984 | 984 | 1,105 | 1,105 | 222 | 222 | ||||||||||||||||||||||||||||||||||||
Mortgage-backed securities | 707 | 707 | 1,358 | 1,358 | 1,034 | 1,034 | 468 | 468 | 225 | 225 | 400 | 400 | ||||||||||||||||||||||||||||||||||||
Other asset-backed securities | 1,538 | 1,538 | 847 | 847 | 850 | 850 | 258 | 258 | 349 | 349 | 1,021 | 1,021 | ||||||||||||||||||||||||||||||||||||
Corporate and other debt securities | 19,832 | 19,832 | 20,316 | 20,316 | 22,090 | 22,090 | 18,216 | 18,216 | 18,310 | 18,310 | 19,990 | 19,990 | ||||||||||||||||||||||||||||||||||||
Treasury bills and other bills | 20 | 20 | 74 | 74 | 1,459 | 1,459 | 19 | 19 | 20 | 20 | 18 | 18 | ||||||||||||||||||||||||||||||||||||
Equity shares | 67,697 | 67,697 | 60,476 | 60,476 | 61,576 | 61,576 | 95,789 | 95,789 | 77,485 | 77,485 | 86,090 | 86,090 | ||||||||||||||||||||||||||||||||||||
118,095 | 118,095 | 107,362 | 107,362 | 115,206 | 115,206 | 136,714 | 136,714 | 117,653 | 117,653 | 131,288 | 131,288 | |||||||||||||||||||||||||||||||||||||
Financial assets at fair value through other comprehensive income | ||||||||||||||||||||||||||||||||||||||||||||||||
US treasury and US government agencies | 1,979 | 1,979 | 3,963 | 3,963 | ||||||||||||||||||||||||||||||||||||||||||||
Other government securities | 11,119 | 11,119 | 15,008 | 15,008 | ||||||||||||||||||||||||||||||||||||||||||||
Bank and building society certificates of deposit | – | – | 118 | 118 | ||||||||||||||||||||||||||||||||||||||||||||
Mortgage-backed securities | 121 | 121 | 120 | 120 | ||||||||||||||||||||||||||||||||||||||||||||
Other asset-backed securities | 60 | 60 | 131 | 131 | ||||||||||||||||||||||||||||||||||||||||||||
Corporate and other debt securities | 11,051 | 11,051 | 5,151 | 5,151 | ||||||||||||||||||||||||||||||||||||||||||||
Treasury and other bills | 535 | 535 | 303 | 303 | ||||||||||||||||||||||||||||||||||||||||||||
Equity shares | 227 | 227 | 21 | 21 | ||||||||||||||||||||||||||||||||||||||||||||
25,092 | 25,092 | 24,815 | 24,815 | |||||||||||||||||||||||||||||||||||||||||||||
Available-for-sale financial assets | ||||||||||||||||||||||||||||||||||||||||||||||||
US treasury and US government agencies | 7,564 | 7,564 | 6,349 | 6,349 | 7,226 | 7,226 | 6,760 | 6,760 | ||||||||||||||||||||||||||||||||||||||||
Other government securities | 41,150 | 41,150 | 18,980 | 18,980 | 40,176 | 40,176 | 27,948 | 27,948 | ||||||||||||||||||||||||||||||||||||||||
Bank and building society certificates of deposit | 142 | 142 | 186 | 186 | 298 | 298 | 167 | 167 | ||||||||||||||||||||||||||||||||||||||||
Mortgage-backed securities | 108 | 108 | 197 | 197 | 674 | 674 | 1,156 | 1,156 | ||||||||||||||||||||||||||||||||||||||||
Other asset-backed securities | 317 | 317 | 319 | 319 | 685 | 685 | 255 | 255 | ||||||||||||||||||||||||||||||||||||||||
Corporate and other debt securities | 6,030 | 6,030 | 5,808 | 5,808 | 5,529 | 5,529 | 4,615 | 4,615 | ||||||||||||||||||||||||||||||||||||||||
Treasury bills and other bills | – | – | – | – | 863 | 863 | ||||||||||||||||||||||||||||||||||||||||||
Equity shares | 1,213 | 1,213 | 1,193 | 1,193 | 1,042 | 1,042 | 1,197 | 1,197 | ||||||||||||||||||||||||||||||||||||||||
56,524 | 56,524 | 33,032 | 33,032 | 56,493 | 56,493 | 42,098 | 42,098 | |||||||||||||||||||||||||||||||||||||||||
Held-to-maturity investments | ||||||||||||||||||||||||||||||||||||||||||||||||
UK government | – | – | 19,808 | 19,851 | – | – | ||||||||||||||||||||||||||||||||||||||||||
Debt securities classified as loans and receivables | ||||||||||||||||||||||||||||||||||||||||||||||||
Debt securities held at amortised cost | ||||||||||||||||||||||||||||||||||||||||||||||||
Mortgage-backed securities | 2,089 | 2,065 | 2,528 | 2,493 | 190 | 155 | 3,007 | 3,007 | 3,272 | 3,396 | 2,366 | 2,351 | ||||||||||||||||||||||||||||||||||||
Other asset-backed securities | 1,290 | 1,227 | 1,234 | 1,173 | 985 | 900 | 876 | 876 | 780 | 642 | 1,260 | 1,225 | ||||||||||||||||||||||||||||||||||||
Corporate and other debt securities | 94 | 11 | 526 | 441 | 164 | 45 | 1,664 | 1,654 | 1,192 | 1,206 | 43 | 10 | ||||||||||||||||||||||||||||||||||||
3,473 | 3,303 | 4,288 | 4,107 | 1,339 | 1,100 | 5,547 | 5,537 | 5,244 | 5,244 | 3,669 | 3,586 | |||||||||||||||||||||||||||||||||||||
Allowance for impairment losses | (76 | ) | – | (97 | ) | – | (126 | ) | – | (3 | ) | – | (6 | ) | – | (26 | ) | – | ||||||||||||||||||||||||||||||
3,397 | 3,303 | 4,191 | 4,107 | 1,213 | 1,100 | 5,544 | 5,537 | 5,238 | 5,244 | 3,643 | 3,586 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
MATURITIES AND WEIGHTED AVERAGE YIELDS OF INTEREST-BEARING SECURITIES
The weighted average yield for each range of maturities is calculated by dividing the annualised interest income prevailing at 31 December 20162019 by the book value of securities held at that date.
Maturing within one year | Maturing after one but within five years | Maturing after five but within ten years | Maturing after ten years | Maturing within one year | Maturing after one but within five years | Maturing after five but within ten years | Maturing after ten years | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Amount | Yield | Amount | Yield | Amount | Yield | Amount | Yield | Amount £m | Yield % | Amount £m | Yield % | Amount £m | Yield % | Amount £m | Yield % | |||||||||||||||||||||||||||||||||||||||||||||||||
£m | % | £m | % | £m | % | £m | % | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Trading securities and other financial assets at fair value through profit or loss | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Financial assets at fair value through profit or loss | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
US treasury and US government agencies | – | – | 407 | 1.22 | 93 | 2.02 | 1,107 | 2.24 | – | – | 68 | 2.6 | 86 | 2.3 | 40 | 3.5 | ||||||||||||||||||||||||||||||||||||||||||||||||
Other government securities | 390 | 1.68 | 3,484 | 3.26 | 2,602 | 1.89 | 18,649 | 2.60 | 958 | 3.2 | 2,667 | 1.7 | 2,829 | 1.7 | 12,206 | 2.6 | ||||||||||||||||||||||||||||||||||||||||||||||||
Other public sector securities | – | – | 238 | 2.61 | 86 | 3.37 | 1,001 | 2.95 | 1 | 5.0 | 487 | 1.9 | 294 | 3.2 | 1,344 | 2.7 | ||||||||||||||||||||||||||||||||||||||||||||||||
Bank and building society certificates of deposit | 244 | 0.93 | – | – | – | – | – | – | 984 | 0.7 | – | – | – | – | – | – | ||||||||||||||||||||||||||||||||||||||||||||||||
Mortgage-backed securities | – | – | 37 | 1.14 | 105 | 4.61 | 565 | 2.83 | – | – | 5 | 2.0 | 192 | 4.2 | 271 | 4.3 | ||||||||||||||||||||||||||||||||||||||||||||||||
Other asset-backed securities | – | – | 121 | 3.65 | 583 | 2.44 | 834 | 3.73 | 15 | 5.0 | 26 | 3.8 | 6 | 4.0 | 211 | 2.3 | ||||||||||||||||||||||||||||||||||||||||||||||||
Corporate and other debt securities | 12,456 | 3.48 | 3,404 | 5.59 | 2,841 | 4.04 | 1,131 | 4.15 | 311 | 2.5 | 3,256 | 4.2 | 4,361 | 4.1 | 10,288 | 3.3 | ||||||||||||||||||||||||||||||||||||||||||||||||
Treasury bills and other bills | 20 | 0.50 | – | – | – | – | – | – | 19 | 1.5 | – | – | – | – | – | – | ||||||||||||||||||||||||||||||||||||||||||||||||
13,110 | 7,691 | 6,310 | 23,287 | 2,288 | 6,509 | 7,768 | 24,360 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Available-for-sale financial assets | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Financial assets at fair value through other comprehensive income | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
US treasury and US government agencies | – | – | 4,651 | 2.78 | 2,652 | 5.76 | 262 | 3.85 | – | – | 549 | 0.2 | 1,430 | 5.5 | – | – | ||||||||||||||||||||||||||||||||||||||||||||||||
Other government securities | 539 | 0.99 | 9,045 | 3.79 | 15,531 | 3.05 | 16,034 | 3.69 | 664 | 7.0 | 6,183 | 2.7 | 3,505 | 2.0 | 767 | 3.0 | ||||||||||||||||||||||||||||||||||||||||||||||||
Bank and building society certificates of deposit | 142 | 0.07 | – | – | – | – | – | – | – | – | – | – | – | – | – | – | ||||||||||||||||||||||||||||||||||||||||||||||||
Mortgage-backed securities | 9 | 2.44 | 4 | 1.00 | – | – | 95 | 0.76 | – | – | – | – | 18 | 0.9 | 103 | 0.0 | ||||||||||||||||||||||||||||||||||||||||||||||||
Other asset-backed securities | – | – | – | – | 41 | 1.02 | 276 | 0.97 | – | – | – | – | – | – | 60 | 4.2 | ||||||||||||||||||||||||||||||||||||||||||||||||
Corporate and other debt securities | 628 | 1.28 | 4,267 | 1.50 | 1,134 | 2.04 | 1 | 0.00 | 525 | 1.5 | 8,776 | 1.6 | 1,750 | 2.5 | – | – | ||||||||||||||||||||||||||||||||||||||||||||||||
Treasury and other bills | 165 | 0.7 | 229 | 2.1 | 141 | 2.1 | – | – | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||
1,318 | 17,967 | 19,358 | 16,668 | 1,354 | 15,737 | 6,844 | 930 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Debt securities classified as loans and receivables | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Debt securities held at amortised cost | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Mortgage-backed securities | – | – | – | – | 30 | 1.8 | 2,059 | 1.0 | – | – | 1,913 | 1.7 | – | – | 1,094 | 1.5 | ||||||||||||||||||||||||||||||||||||||||||||||||
Other asset-backed securities | 248 | 0.2 | 32 | 0.3 | 779 | 1.1 | 231 | 1.8 | 11 | 0.0 | 381 | 0.2 | 484 | 1.4 | – | – | ||||||||||||||||||||||||||||||||||||||||||||||||
Corporate and other debt securities | 2 | 0.0 | 2 | 0.0 | – | – | 90 | 0.0 | 139 | 1.8 | 871 | 2.9 | 646 | 2.3 | 8 | 1.9 | ||||||||||||||||||||||||||||||||||||||||||||||||
250 | 34 | 809 | 2,380 | 150 | 3,165 | 1,130 | 1,102 |
The Group’s investment holdings at 31 December 20162019 include £63,253£28,303 million due from the UK government and its agencies and £9,172 million due from the US government and its agencies.
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
MATURITY ANALYSIS AND INTEREST RATE SENSITIVITY OF LOANS AND ADVANCES TO CUSTOMERS AND BANKS AT 31 DECEMBER 20162019
The following table analyses the maturity profile and interest rate sensitivity of loans by type on a contractual repayment basis at 31 December 2016.2019. Following the reduction in the Group’s non-UK activities, an analysis between domestic and foreign operations is not provided.
All amounts are before deduction of impairment allowances. Demand loans are included in the ‘maturing in one year or less’ category.
Maturing in one | Maturing after one but within | Maturing after | ||||||||||||||||||||||||||||||
year or less | five years | five years | Total | |||||||||||||||||||||||||||||
£m | £m | £m | £m | Maturing in one year or less £m | Maturing after one but within five years £m | Maturing after five years £m | Total £m | |||||||||||||||||||||||||
Loans and advances to banks | 21,812 | 4,973 | 117 | 26,902 | 6,422 | 57 | 3,298 | 9,777 | ||||||||||||||||||||||||
Loans and advances to customers: | ||||||||||||||||||||||||||||||||
Mortgages | 11,614 | 47,535 | 247,533 | 306,682 | 14,138 | 51,009 | 233,994 | 299,141 | ||||||||||||||||||||||||
Other personal lending | 5,418 | 4,621 | 10,722 | 20,761 | 4,079 | 5,871 | 19,322 | 29,272 | ||||||||||||||||||||||||
Property companies | 5,266 | 10,404 | 16,522 | 32,192 | 3,560 | 13,010 | 11,026 | 27,596 | ||||||||||||||||||||||||
Financial, business and other services | 26,234 | 13,311 | 9,652 | 49,197 | 69,807 | 11,826 | 8,130 | 89,763 | ||||||||||||||||||||||||
Transport, distribution and hotels | 6,097 | 4,649 | 2,574 | 13,320 | 6,440 | 3,985 | 2,591 | 13,016 | ||||||||||||||||||||||||
Manufacturing | 4,598 | 2,133 | 554 | �� | 7,285 | 3,658 | 1,892 | 543 | 6,093 | |||||||||||||||||||||||
Other | 9,807 | 13,311 | 7,815 | 30,933 | 8,696 | 17,678 | 6,992 | 33,366 | ||||||||||||||||||||||||
Total loans | 90,846 | 100,937 | 295,489 | 487,272 | 116,800 | 105,328 | 285,896 | 508,024 | ||||||||||||||||||||||||
Of which: | ||||||||||||||||||||||||||||||||
Fixed interest rate | 23,434 | 29,776 | 102,631 | 155,841 | 73,986 | 50,235 | 162,151 | 286,372 | ||||||||||||||||||||||||
Variable interest rate | 67,412 | 71,161 | 192,858 | 331,431 | 42,814 | 55,093 | 123,745 | 221,652 | ||||||||||||||||||||||||
90,846 | 100,937 | 295,489 | 487,272 | 116,800 | 105,328 | 285,896 | 508,024 |
DEPOSITS
The following tables show the details of the Group’s average customer deposits in each of the past three years.
2016 | 2016 | 2015 | 2015 | 2014 | 2014 | |||||||||||||||||||
Average | Average | Average | Average | Average | Average | |||||||||||||||||||
balance | rate | balance | rate | balance | rate | |||||||||||||||||||
£m | % | £m | % | £m | % | |||||||||||||||||||
Non-interest bearing demand deposits | 54,379 | – | 45,294 | – | 42,049 | – | ||||||||||||||||||
Interest-bearing demand deposits | 90,272 | 0.48 | 83,756 | 0.47 | 82,545 | 0.80 | ||||||||||||||||||
Savings deposits | 164,155 | 0.57 | 174,239 | 1.00 | 201,046 | 1.18 | ||||||||||||||||||
Time deposits | 111,751 | 1.05 | 122,142 | 0.99 | 133,060 | 1.32 | ||||||||||||||||||
Total average deposits | 420,557 | 0.60 | 425,431 | 0.79 | 458,700 | 1.04 |
2019 Average balance £m | 2019 Average rate % | 2018 Average balance £m | 2018 Average rate % | 2017 Average balance £m | 2017 Average rate % | |||||||||||||||||||
Non-interest bearing demand deposits | 74,906 | – | 72,913 | – | 66,276 | – | ||||||||||||||||||
Interest-bearing demand deposits | 85,251 | 0.50 | 92,190 | 0.41 | 94,627 | 0.33 | ||||||||||||||||||
Savings deposits | 162,290 | 0.50 | 152,304 | 0.38 | 168,013 | 0.23 | ||||||||||||||||||
Time deposits | 93,713 | 0.82 | 98,476 | 0.86 | 86,043 | 1.15 | ||||||||||||||||||
Total average deposits | 416,160 | 0.48 | 415,883 | 0.44 | 414,959 | 0.41 |
Following the reduction in the Group’s non-UK activities, an analysis between domestic and foreign operations is not provided.
CERTIFICATES OF DEPOSIT AND OTHER TIME DEPOSITS
The following table gives details of the Group’s certificates of deposit issued and other time deposits at 31 December 20162019 individually in excess of US $100,000 (or equivalent in another currency) by time remaining to maturity. Following the continuing reduction in the Group’s non-UK activities, an analysis between domestic and foreign operations is not provided.
Over 3 months | Over 6 months | |||||||||||||||||||||||||||||||||||||||
3 months | but within | but within | Over | |||||||||||||||||||||||||||||||||||||
or less | 6 months | 12 months | 12 months | Total | ||||||||||||||||||||||||||||||||||||
£m | £m | £m | £m | £m | 3 months or less £m | Over 3 months but within 6 months £m | Over 6 months but within 12 months £m | Over 12 months £m | Total £m | |||||||||||||||||||||||||||||||
Certificates of deposit | 2,668 | 3,692 | 1,642 | 70 | 8,072 | 2,643 | 4,277 | 3,398 | 280 | 10,598 | ||||||||||||||||||||||||||||||
Time deposits | 26,051 | 5,877 | 6,778 | 4,692 | 43,398 | 15,899 | 4,703 | 4,990 | 2,245 | 27,837 | ||||||||||||||||||||||||||||||
Total | 28,719 | 9,569 | 8,420 | 4,762 | 51,470 | 18,542 | 8,980 | 8,388 | 2,525 | 38,435 |
OPERATING AND FINANCIAL REVIEW AND PROSPECTS
SHORT-TERM BORROWINGS
Short-term borrowings are included within the balance sheet captions ‘Deposits by banks’, ‘Customer accounts’ and ‘Debt securities in issue’ and are not identified separately on the balance sheet. The short-term borrowings of the Group consist of overdrafts from banks, securities sold under agreements to repurchase, notes issued as part of the lending securitisations, certificates of depositdepost issued, commercial paper and promissory notes issued and other marketable paper. Securities sold under agreements to repurchase certificates of deposit issued, commercial paper, securitisation notes and covered bonds are the only potentially significant short-term borrowings of the Group.
The following tables give details of thesethe significant short-term borrowings of the Group for each of the past three years.
2016 | 2015 | 2014 | |||||||||||||||||
£m | £m | £m | 2019 £m | 2018 £m | 2017 £m | ||||||||||||||
Liabilities in respect of securities sold under repurchase agreements | |||||||||||||||||||
Balance at the year end | 9,741 | 7,061 | 1,075 | ||||||||||||||||
Average balance for the year | 8,342 | 5,960 | 2,104 | ||||||||||||||||
Maximum balance during the year | 12,734 | 9,467 | 9,971 | ||||||||||||||||
Average interest rate during the year | 0.5% | 0.6% | 1.1% | ||||||||||||||||
Interest rate at the year end | 0.6% | 0.6% | 1.2% | ||||||||||||||||
Certificates of deposit issued | |||||||||||||||||||
Balance at the year end | 8,077 | 11,101 | 7,033 | ||||||||||||||||
Average balance for the year | 11,200 | 11,708 | 9,912 | ||||||||||||||||
Maximum balance during the year | 13,712 | 13,925 | 11,376 | ||||||||||||||||
Average interest rate during the year | 0.6% | 0.4% | 0.4% | ||||||||||||||||
Interest rate at the year end | 0.7% | 0.2% | 0.3% | ||||||||||||||||
Commercial paper | |||||||||||||||||||
Balance at the year end | 3,281 | 6,663 | 7,373 | ||||||||||||||||
Average balance for the year | 4,666 | 5,286 | 8,432 | ||||||||||||||||
Maximum balance during the year | 7,646 | 12,700 | 14,768 | ||||||||||||||||
Average interest rate during the year | 0.9% | 0.6% | 0.3% | ||||||||||||||||
Interest rate at the year end | 0.0% | 0.0% | 0.1% | ||||||||||||||||
Securitisation notes | |||||||||||||||||||
Balance at the year end | 7,253 | 7,763 | 11,908 | 27,635 | 22,988 | 25,813 | |||||||||||||
Average balance for the year | 7,131 | 10,362 | 13,836 | 26,905 | 25,634 | 18,943 | |||||||||||||
Maximum balance during the year | 7,436 | 12,155 | 15,787 | 31,241 | 25,813 | 25,813 | |||||||||||||
Average interest rate during the year | 2.5% | 2.4% | 2.1% | 1.1% | 1.0% | 0.6% | |||||||||||||
Interest rate at the year end | 2.2% | 2.7% | 2.0% | 1.3% | 2.1% | 1.4% | |||||||||||||
Covered bonds | |||||||||||||||||||
Balance at the year end | 30,521 | 27,200 | 27,191 | 29,821 | 28,194 | 26,132 | |||||||||||||
Average balance for the year | 30,625 | 26,503 | 29,754 | 29,674 | 27,028 | 26,765 | |||||||||||||
Maximum balance during the year | 32,444 | 27,200 | 31,684 | 30,953 | 28,194 | 30,521 | |||||||||||||
Average interest rate during the year | 3.5% | 4.2% | 4.5% | 2.7% | 3.0% | 3.2% | |||||||||||||
Interest rate at the year end | 3.0% | 3.7% | 4.3% | 2.4% | 2.7% | 2.8% |
DIRECTORS AND SENIOR MANAGEMENT
The Group is led by the Board comprising a Chairman (who was independent on appointment), independent Non-Executive Directors and Executive Directors with a wide range of experience. The appointment of directorsDirectors is considered by the Nomination and Governance Committee and approved by the Board. Following the provisions in the articles of association, directorsDirectors must stand for election by the shareholders at the first annual general meeting following their appointment. In line with UK Corporate Governance best practice, all Directors are subject to annual re-election by shareholders at each annual general meeting thereafter. Independent Non-Executive Directors are appointed for an initial term of three years after which their appointment may continue subject to an annual review. Their appointment may be terminated, in accordance with statute and the articles of association, at any time with immediate effect and without compensation.
The Board meets regularly. In 2016,2019, a total of 9 Board11 scheduled meetings were held, 9 of which were scheduled at the start of the year.held.
The roles of the Chairman, the Group Chief Executive and the Board and its governance arrangements, including the schedule of matters specifically reserved to the Board for decision, are reviewed annually. The matters reserved to the Board for decision include the approval of the annual report and accounts and any other financial statements; the payment of dividends; the long-term objectives of the Group; the strategies necessary to achieve these objectives; the Group’s budgets and plans; significant capital expenditure items; significant investments and disposals; the basis of allocation of capital within the Group; the organisational structure of the Group; the arrangements for ensuring that the Group manages risks effectively; any significant change in accounting policies or practices; the appointment of the Company’s main professional advisers (other than the auditors) and their fees;fees (where significant); and the determination of Board and Committee structures, together with their size and composition.
According to the articles of association, the business and affairs of the Company are managed by the Directors, who have delegated to management the power to make decisions on operational matters, including those relating to credit, liquidity and market risk, within an agreed framework.
All Directors have access to the services of the Company Secretary, and independent professional advice is available to the Directors at the Group’s expense, where they judge it necessary to discharge their duties as directors.
The Chairman has a private discussion at least once a year with each Director on a wide range of issues affecting the Group, including any matters which the Directors, individually, wish to raise.
There is an induction programme for all Directors, which is tailored to their specific requirements having regard to their specific role on the Board and their skills and experience to date. Major shareholders are also offered the opportunity to meet new Non-Executive Directors.
The Directors and senior management of Lloyds Banking Group plc are:
NON-EXECUTIVE DIRECTORS
1. Lord Blackwell Chairman
Chairman
Age: 64
Age: 67
Chairman of the Nomination and Governance Committee, memberMember of the Remuneration Committee, the Responsible Business Committee and the Board Risk Committee the Remuneration Committee and the Responsible Business Committee.
Appointed: June 2012 (Board), April 2014 (Chairman)
Skills, experience and contribution:
Skills and experience: Lord Blackwell has deepDeep financial services knowledge including in insurance and banking as well as regulatory
Significant experience with strategic planning and implementation
Regulatory and public policy experience gained from senior positions in Downing Street, Regulators and a wide range of industries. His breadth of experience, credibilityindustries
Credibility with key stakeholders and strong
Strong leadership qualities make him an effective Chairman.
Lord Blackwell wasis an experienced Chairman and Non-Executive Director within the financial services sector having previously thebeen Chairman of Scottish Widows Group,Group. He was previously Senior Independent Director and Interserve plc,Chairman of the UK Board for Standard Life and Director of Group Development at NatWest Group, a Senior IndependentGroup. His past Board roles have also included Chairman of Interserve plc, and Non-Executive Director of Standard Life and also chaired their UK Life and Pensions Board. His past Non-Executive Directorships have included Halma plc, Dixons Group, SEGRO and Ofcom. He was Head of the Prime Minister’s Policy Unit from 1995 to 1997 and was appointed a Life Peer in 1997. He has an MA in Natural Sciences from the University of Cambridge, a Ph.D in Finance and Economics and an MBA from the University of Pennsylvania.
External appointments: Governor of the Yehudi Menuhin School.
Anita Frew
Deputy ChairmanSchool and Independent Director
Age: 59
Chairman of the Remuneration Committee,a member of the Audit Committee,Governing Body of the Board RiskRoyal Academy of Music.
2. Anita Frew Deputy Chairman
Age: 62
Member of the Audit Committee, the Nomination and Governance Committee, andthe Remuneration Committee, the Responsible Business Committee.Committee and the Board Risk Committee
Appointed: December 2010 (Board), May 2014 (Deputy Chairman), May 2017 to December 2019 (Senior Independent Director)
Skills, experience and contribution:
Skills and experience: Anita has significantSignificant board, financial and general management experience
Experience across a range of sectors, including banking, asset and investment management, manufacturing and utilities. Sheutilities
Extensive experience as chairman in a range of industries
Strong board governance experience, including investor relations and remuneration
Anita was previously Chairman of Victrex plc, the Senior Independent Director of Aberdeen Asset Management and IMI plc, an Executive Director of Abbott Mead Vickers, a Non-Executive Director of Northumbrian Water and has held various investment and marketing roles at Scottish Provident and the Royal Bank of Scotland. Her extensive board level, asset and investment management experience makes her a strong Deputy Chairman and Chairman of the Remuneration Committee. She has a BA (Hons) in International Business from the University of Strathclyde, a MRes in Humanities and Philosophy from the University of London and an Honorary DSc for contribution to industry and finance from the University of Cranfield.
External appointments: Chairman of Croda International Plc and a Non-Executive Director of BHP Billiton.
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Alan Dickinson
Independent DirectorMANAGEMENT AND EMPLOYEES
Age: 663. Alan Dickinson Senior Independent Director
Age: 69
Chairman of the Board Risk Committee, memberMember of the Audit Committee, the RemunerationNomination and Governance Committee and the NominationRemuneration Committee.
Appointed: September 2014 (Board), December 2019 (Senior Independent Director)
Skills, experience and Governance Committee.contribution:
Appointed: September 2014
Skills and experience: Alan is a highlyHighly regarded retail and commercial banker having spent
Strong strategic, risk and core banking experience
Regulatory and public policy experience
Alan has 37 yearsyears’ experience with the Royal Bank of Scotland, most notably as Chief Executive of RBS UK. More recently, heAlan was a Non-Executive Director of Willis Limited and Chairman of its Risk Committee. He was formerly
MANAGEMENT AND EMPLOYEES
Chairman of Brown, Shipley & Co. Limited, and a Non-Executive Director of Nationwide Building Society, where he was Chairman of its Risk Committee. Alan’s strategic focus and core banking experience complements the balance of skills on our Board and makes him ideal for the role of Chairman of the Board Risk Committee. He is a Fellow of the Chartered Institute of Bankers and the Royal Statistical Society and has an MBA from the Manchester Business SchoolCommittee and a BachelorGovernor of Science from the University of Birmingham.
Motability.
External appointments: Chairman of Urban & Civic&Civic plc and a GovernorNon-Executive Director of Motability.England and Wales Cricket Board.
4. Simon Henry
Independent Director
Age: 58
Age: 55
MemberChairman of the Audit Committee and Member of the Board Risk Committee.Committee
Appointed: June 2014
Skills, experience and contribution:
Skills and experience: Simon has deepDeep international experience in board level strategy and execution. His extensiveexecution
Extensive knowledge of financial markets, treasury and risk management and his qualification
Qualification as an Audit Committee Financial Expert is
Strong board governance experience, including investor relations and remuneration
Simon was formerly Chief Financial Officer and Executive Director of particular value in our Board Risk and Audit Committees. Simon has a BA in Mathematics, an MA from the University of Cambridge and is a fellow of the Chartered Institute of Management Accountants.
External appointments:Royal Dutch Shell plc. He was also previously Chair of the European Round Table CFO Taskforce and a Member of the Main Committee of the 100 Group of UK FTSE CFOs,CFOs.
External appointments: Non-Executive Director of Rio Tinto plc and Rio Tinto Limited and Chair of their Audit Committee, Independent Director of PetroChina Company Limited, Member of the Defence Board and Chair of the Defence Audit Committee, UK Government, Member of the Advisory Panel of CIMA and of the Advisory Board of the Centre for European Reform. Non-Executive Director of Rio Tinto plc and Rio Tinto Limited (from 1 July 2017). Chief Financial Officer and Executive Director of Royal Dutch Shell plc until 9 March 2017 and will remain available to his successor and the Board of Royal Dutch Shell plc to assist with transition until 30 June 2017.
Nick Luff
5. Sarah Legg Independent Director
Age: 49
Chairman of the Audit Committee, member of the Board Risk Committee and the Nomination and Governance Committee.
Appointed: March 2013
Skills and experience:Age: Nick has significant financial experience in the UK listed environment having served in a number of senior finance positions within a range of sectors. His background and experience enables him to fulfil the role of Audit Committee Chair and, for SEC purposes, the role of Audit Committee Financial Expert. Nick was previously the Group Finance Director of Centrica plc, Finance Director of The Peninsular & Oriental Steam Navigation Company and Chief Financial Officer of P&O Princess Cruises plc. He previously served as a Non-Executive Director and was the Audit Committee Chair of QinetiQ Group plc. He is a Mathematics graduate from the University of Oxford and a Chartered Accountant.
External appointments: Executive Director and Chief Financial Officer of RELX Group.
Deborah McWhinney
Independent Director
Age: 61
52
Member of the Audit Committee and the Board Risk Committee.
Appointed: December 2015
Committee
Appointed: December 2019
Skills, experience and experience: Deborahcontribution:
Strong financial leadership skills
Significant experience in financial and regulatory reporting
Strong transformation programme experience
Sarah has an extensive executive backgroundspent her entire career in managing technology, operations and new digital innovations across banking, payments and institutional investment. She broadens the Board’s diversity from a global market perspective. Deborah is a former Chief Executive Officer, Global Enterprise Payments and President, Personal Banking and Wealth Management at Citibank.financial services with HSBC in finance leadership roles. She was the Group Financial Controller and a Group General Manager of HSBC until early 2019 and previously PresidentChief Financial Officer for HSBC’s Asia Pacific region. She also spent 8 years as a Non-Executive Director on the Board of Institutional Services at Charles Schwab Corporation and held executive roles at Engage Media Services Group, Visa International andHang Seng Bank of America, where she held senior roles in Consumer Banking. She holdsLimited, a BSc in Communications from the University of Montana.
Hong Kong listed bank.
External appointments: Honorary Vice President of The Hong Kong Society for Rehabilitation and Chair of the Campaign Advisory Board of King’s College, Cambridge University.
6. Lord Lupton CBE Independent Director and Chairman of Lloyds Bank Corporate Markets plc
Age: 64
Member of the SupervisoryResponsible Business Committee and the Board Risk Committee
Appointed: June 2017
Skills, experience and contribution:
Extensive international corporate experience, especially in financial markets
Strong board governance experience, including investor relations and remuneration
Regulatory and public policy experience
Significant experience in strategic planning and implementation
Lord Lupton was Deputy Chairman of Fresenius Medical Care AGBaring Brothers, co-founded the London office of Greenhill & Co. KGaA, Independent Director, and was Chairman of Fluor Corporation and IHS Markit Ltd,Greenhill Europe. He was previously Chairman of Trustees of Dulwich Picture Gallery, a Trustee of the California InstituteBritish Museum, Governor of TechnologyDowne House School and a member of the Institute for Defense Analyses.International Advisory Board of Global Leadership Foundation. He became a Life Peer in October 2015 and is a former Treasurer of the Conservative Party. He served on the House of Lords Select Committee on Charities.
External appointments: Senior Advisor to Greenhill Europe, Trustee of the Lovington Foundation and Chairman of the Board of Visitors of the Ashmolean Museum with effect from 1 January 2020.
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MANAGEMENT AND EMPLOYEES
7. Amanda Mackenzie OBE Independent Director
Age: 56
Member of the Remuneration Committee, the Responsible Business Committee and the Board Risk Committee
Appointed: October 2018
Skills, experience and contribution:
Extensive experience in responsible business
Considerable customer engagement experience
Strong digital technology experience
Significant marketing and brand background
Amanda was a member of Aviva’s Group Executive for seven years and Chief Marketing and Communications Officer. Prior to her current role, Amanda was seconded from Aviva as Executive Adviser to Project Everyone, to help launch the United Nations Sustainable Development Goals. She has over 25 years’ of commercial business practice, including director roles at British Airways AirMiles, BT, Hewlett Packard Inc, British Gas and as a Non-Executive Director of Mothercare plc. Amanda is a Life Fellow of the Royal Society of Arts and Fellow and past President of the Marketing Society.
External appointments: Chief Executive of Business in the Community – The Prince’s Responsible Business Network.
8. Nick Prettejohn
Independent Director and Chairman of Scottish Widows Group
Age: 56
59
Member of the Audit Committee, the Nomination and Governance Committee and the Board Risk Committee.Committee
Appointed: June 2014
Skills, experience and contribution:
Skills and experience: Nick has significantDeep financial services experience, particularly in insurance where he
In-depth regulatory knowledge and experience
Governance experience and strong leadership qualities
Significant experience in strategic planning and implementation
Nick has served as Chief Executive of Lloyd’s of London, and Prudential UK and Europe as well asand Chairman of Brit Insurance. He is a former Non-Executive Director of the Prudential Regulation Authority and of Legal & General Group Plc as well as Chairman of the Financial Services Practitioner Panel. He has the knowledge and experience to provide valuable insight and contribute effectively as a Non-Executive Director and Member of the Audit Committee and Risk Committee as well as the governance experience and leadership qualities to chair Scottish Widows Group. Nick has a First Class Degree in Philosophy, Politics and Economics from Balliol College, University of Oxford.
External appointments: Member of the BBC Trust (until 31 March 2017), Chairman of the Britten-Pears Foundation, the Royal Northern College of MusicPanel and the Financial Conduct Authority’s Financial Advice Working Group. He was previously a Member of the BBC Trust and Chairman of the Britten-Pears Foundation.
External appointments: Chairman of Reach plc (formerly Trinity Mirror plc) and of their Nomination Committee. He is also Chairman of the Royal Northern College of Music and a member of the Board of Opera Ventures.
9. Stuart Sinclair Independent Director
Age: 66
Chairman of the Remuneration Committee, Member of the Responsible Business Committee, the Board Risk Committee and the Nomination and Governance Committee
Appointed: January 2016
Skills, experience and contribution:
Extensive experience in retail banking, insurance and consumer finance
Governance and regulatory experience
Significant experience in strategic planning and implementation
Experience in consumer analysis, marketing and distribution
Stuart is a former Non-Executive Director of TSB Banking Group plc, TSB Bank plc, LV Group, Virgin Direct and Vitality Health (formerly Prudential Health). He was previously the Interim Chairman of Provident Financial plc and a former Senior Independent Director of Swinton Group Limited. In his executive career, he was President and Chief Operating Officer of Aspen Insurance after spending nine years with General Electric as Chief Executive Officer of the UK Consumer Finance business then President of GE Capital China. Before that he was Chief Executive Officer of Tesco Personal Finance and Director of UK Retail Banking at the Royal Bank of Scotland. He was a Council member of The Royal Institute for International Affairs (Chatham House).
External appointments: Senior Independent Director and Chair of the Risk & Capital Committee at QBE UK Limited (formerly QBE Insurance (Europe) Limited).
10. Sara Weller CBE Independent Director
Age: 58
Chairman of the Responsible Business Committee, Member of the Nomination and Governance Committee, the Remuneration Committee and the Board Risk Committee
Appointed: February 2012
Skills, experience and contribution:
Background in retail and associated sectors, including financial services
Strong board governance experience, including investor relations and remuneration
Passionate advocate of customers, the community, financial inclusion and the development of digital skills
Considerable experience of boards at both executive and non-executive level
Sara’s previous appointments include Managing Director of Argos, various senior positions at J Sainsbury (including Deputy Managing Director), Chairman of the Planning Inspectorate, Lead Non-Executive Director at the Department of Communities and Local Government, a Board member at the Higher Education Funding Council, a Governing Council Member of Cambridge University, a Non-Executive Director of Mitchells & Butlers as well as a number of senior management roles for Abbey National and Mars Confectionery.
External appointments: Non-Executive Director of United Utilities Group and Chair of their Remuneration Committee, Lead Non-Executive Director at the Department for Work and Pensions, Chair of the Remuneration Committee of New College, Oxford and Trustee of Lloyds Bank Foundation for England and Wales.
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MANAGEMENT AND EMPLOYEES
EXECUTIVE DIRECTORS
11. António Horta-Osório Executive Director and Group Chief Executive
Age: 56
Appointed: January 2011 (Board), March 2011 (Group Chief Executive)
Skills, experience and contribution:
Extensive experience in, and understanding of, both retail and commercial banking built over a period of more than 30 years, working both internationally and in the UK
Drive, enthusiasm and commitment to customers
Proven ability to build and lead strong management teams
António previously worked for Citibank and Goldman Sachs and held various senior management positions at Grupo Santander before becoming its Executive Vice President and member of the Group’s Management Committee. He was a Non-Executive Director of Santander UK and subsequently its Chief Executive. He is also a former Non-Executive Director of the Court of the Bank of England.
External appointments: Non-Executive Director of EXOR N.V., Fundação Champalimaud and Sociedade Francisco Manuel dos Santos in Portugal, a member of the Board of Stichting INPAR Management/Enable and Chairman of the Wallace Collection.
12. William Chalmers Executive Director and Chief Financial Officer
Age: 51
Appointed: August 2019
Skills, experience and contribution:
Significant board level strategic and financial leadership experience including strategic planning and development, mergers and acquisitions, equity and debt capital structuring and risk management
Worked in financial services for over 25 years
William was previously Co-Head of the Global Financial Institutions Group at Morgan Stanley. Prior to that, he held a number of senior roles at Morgan Stanley, including Head of EMEA Financial Institutions Group. Before joining Morgan Stanley, William worked for JP Morgan, again in the Financial Institutions Group.
External appointments: None.
13. Juan Colombás Executive Director and Chief Operating Officer
Age: 57
Appointed: November 2013 (Board), January 2011 to September 2017 (Chief Risk Officer), September 2017 (Chief Operating Officer)
Skills, experience and contribution:
Significant banking and risk management experience
International business and management experience
Juan is responsible for leading a number of critical Group functions and driving the transformation activities across the Group in order to build the Bank of the Future. He was previously the Chief Risk Officer and an Executive Director of Santander’s UK business. Prior to this, he held a number of senior risk, control and business management roles across the Corporate, Investment, Retail and Risk Divisions of the Santander Group. He was previously the Vice Chairman of the International Financial Risk Institute.
External appointments: Member of the FCA Practitioner Panel.
1 | Lord Blackwell has announced his plan to retire as Group Chairman at or before the AGM in 2021. |
2 | Alan Dickinson has succeeded Anita Frew as Senior Independent Director on 1 December 2019 and will succeed her as Deputy Chairman when she retires from the Board at the AGM in May 2020. |
3 | Juan Colombás has announced his plan to retire from the Group in July 2020. |
EMPLOYEES
As at 31 December 2019, the Group employed 63,069 people (on a full-time equivalent basis), compared with 64,928 at 31 December 2018 and 67,905 at 31 December 2017. At 31 December 2019, 62,327 employees were located in the UK, 403 in continental Europe, 277 in the Americas, and 62 in the rest of the world. At the same date, 33,933 people were employed in Retail, 6,505 in Commercial Banking, 4,911 in Insurance and Wealth, and 17,720 in other functions.
The Group has Codes of Responsibility which apply to all employees. The Codes of Responsibility can be found at: www.lloydsbankinggroup.com/Responsible-Business.
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Remuneration Content
Chairman’s statement and remuneration policy overview 117-121 | |
Annual report on remuneration 122-133 | |
2020 Remuneration Policy 134-142 |
DEAR SHAREHOLDER
On behalf of the Board I am pleased to present the Directors’ Remuneration Report for the year ended 31 December 2019 and the proposed Directors’ Remuneration Policy (our ‘Policy’) for which we are seeking your support and approval at our Annual General Meeting in May 2020.
Our upcoming AGM marks the beginning of our next remuneration policy cycle, which will run until the end of 2022. This offered the opportunity to take a fresh look at how we incentivise and reward our colleagues, and what values and outcomes we wish to encourage.
The timing coincided with a great deal of public interest in matters of executive pay, fairness, employee engagement and the pay gap between those at the top of organisations compared to other colleagues. We have been active participants in these discussions, through meetings with shareholders, our unions, the Investment Association and some members of Parliament, as well as through an open dialogue with colleagues on a variety of topics related to their pay and benefits. These talks have had a material impact on the priorities and recommendations of the Remuneration Committee throughout the last year. In the pages which follow, the proposals which have emerged from these discussions are laid out in detail.
While we were pleased to receive over 90 per cent support for our Annual Report on Remuneration at the AGM in 2019, we heard during that process a continued desire for greater simplicity and transparency in our approach. To that end, we started to make changes early in 2019, without waiting for our full redesign to be finalised.
In November 2019, we announced our decision, subject to AGM approval, to reduce pension allowances for Executive Directors to 15 per cent of salary in a single step in 2020 with no offsetting adjustment in salary or other remuneration. We are also
making improvements to pensions for all the 50,000 colleagues who participate in Defined Contribution (DC) arrangements (the majority of our workforce) to make all members eligible for a maximum employer contribution of 15 per cent, and to increase the employer contribution for our lower paid colleagues by one per cent. This represents a significant investment of approximately £20 million per annum in our colleagues and aligns the employer contributions available to the wider workforce with those of Executive Directors. At the same time, the Group supports the third largest private sector defined benefit (DB) scheme accruing benefits for a further 16,000 current colleagues.
We have listened to feedback and the external sentiment around executive remuneration. Some of the sentiments that resonated with me and my Committee were that executive remuneration should be re-evaluated in the context of colleagues as a whole; be truly variable and not managed within a ‘corridor’ without being closely aligned with outcomes. We have tackled these sentiments head on with our proposals in the new Policy by reducing the new maximum opportunity for Executive Directors and by demonstrating with this year’s outcomes that performance and conduct do have material consequences, resulting in lower total remuneration.
OUR NEW POLICY
In approaching the refresh of the Directors’ Remuneration Policy, my committee colleagues and I thought carefully about what behaviours and outcomes we wanted to see and how the remuneration structure could support them. We approached the review with the following core aims:
Remuneration should be linked to the Group’s purpose of Helping Britain Prosper | ||
Remuneration should reward and drive the right behaviours and outcomes and reflect both strategic (non-financial) and financial achievements | ||
Remuneration should be designed in a manner that is clear for all stakeholders and reflects their expectations | ||
Remuneration should be easy to explain and be viewed as fair | ||
It was with these objectives in mind that we designed the new Policy detailed on page 134 and summarised on page 119. The key headlines are as follows:
The maximum pension allowance for Executive Directors is reduced to 15 per cent of salary | |
We are introducing a new long-term variable reward plan to align pay more closely to our business model of producing sustainable long-term returns | |
As a result of the new Policy, the Group Chief Executive’s fixed pay will reduce by 8 per cent and his maximum total remuneration opportunity by 29 per cent |
Given the feedback we have received, we hope you will support the aims and the methods we outline, and vote accordingly ahead of the AGM in May.
GROUP PERFORMANCE AND VARIABLE REMUNERATION
For 2019, the performance of the Group was resilient in a challenging and uncertain economic environment. Despite a softening of margins and income, continued discipline in operating costs enabled the Group to maintain its significant investment in digitising and transforming the way we support customers, as well as to pay an increased dividend to shareholders. Financial results were however heavily impacted by the PPI provision of £2.45 billion; therefore a significant downward adjustment was made to the Group Performance Share pool to reflect this along with other conduct-related costs. The final 2019 Group Performance Share pool is £310.1 million, which is a reduction of 33 per cent compared to 2018. The vesting of the 2017 Executive Group Ownership Share was similarly affected by financial performance and shareholder returns, with a formulaic vesting outcome of 49.7 per cent. No discretion was used to change the vesting outcome.
The performance and strategic progress of the Group was however overshadowed by significant non-financial conduct issues during the latter part of the year, not least the findings of Sir Ross Cranston’s review into how the Group has treated customers who were the victims of the HBOS Reading fraud. These issues are reflected in the variable reward outcomes for Executive Directors.
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COMPENSATION
EXECUTIVE DIRECTOR VARIABLE REWARDS DECISIONS
As a result of the overall performance of the Group and the issues faced during 2019, the Group Chief Executive and Chief Operating Officer independently requested that they be withdrawn from consideration for Group Performance Share awards for 2019. The Committee exercised its discretion to accept this request and welcomed the judgement shown in volunteering it as a consequence of the non-financial conduct issues mentioned above. No downward adjustment has been made to the overall Group Performance Share pool as a result of these individual decisions, which was therefore distributed to other colleagues outside the executive team.
For the newly appointed Chief Financial Officer, overall performance for 2019 was assessed at 3.12 out of 5 with a corresponding Group Performance Share award of £195,528. An award of 250 per cent of salary will be awarded under the final Executive Group Ownership Share to the Group Chief Executive and 237.5 per cent for Chief Financial Officer. No Group Ownership Share award is being made to the Chief Operating Officer who has announced his retirement. Further details of awards are provided on pages 124 and 130.
Executive Director total remuneration outcomes
The information below summarises Executive Director remuneration for the 2018 and 2019 performance years. Full details are provided in the Single total figure of remuneration table on page 122.
Director | 2018 | 2019 | ||||||||||
António Horta Osório Group Chief Executive | £ | 6.54m | £ | 4.73m | 28 | % | ||||||
Juan Colombás Chief Operating Officer | £ | 3.42m | £ | 2.58m | 25 | % | ||||||
William Chalmers Chief Financial Officer 1 Aug 2019 | – | £ | 5.14m | – | ||||||||
George Culmer Former Chief Financial Officer 1 Jan-1 Aug 2019 | £ | 3.43m | £ | 1.95m | – |
HOW WE HAVE RESPONDED TO YOUR FEEDBACK
Executive remuneration should be re-evaluated in the context of colleagues as a whole.
The proposed Policy for 2020 reduces the maximum total compensation opportunity for the Group Chief Executive by 29 per cent | |
The Group Chief Executive’s pension reduced from 46 per cent to 33 per cent in 2018 and will now be 15 per cent with effect from 2020, a decrease of 67 per cent from 2018 to 2020 | |
The ratio of CEO pay to the medium employee has reduced by 24 per cent between 2018 and 2019 | |
We are very focused on addressing the pay gap from the bottom up and not just from the top down, in other words, by taking action to increase pay and pensions for more junior colleagues | |
In 2019 we have continued our commitment for pay progression with higher pay awards for lower paid colleagues and colleagues paid lower within their pay range | |
The pay budget for colleagues this year is 2.4 per cent, above the budget of 2 per cent for executives and we will once again make an award of free shares worth £200 to every permanent colleague in the Group. All these actions are intended to reduce the gap between executives and the wider workforce |
Variable pay should be truly variable and not managed within a corridor without being closely aligned with outcomes.
The Balanced Scorecard is made up of an appropriate balance of financial and non-financial measures. Targets are determined at the beginning of the year and my Committee and I discuss them thoroughly to ensure they are stretching |
When determining reward outcomes, other factors outside of the scorecard are considered. Scores directly correlate to reward outcomes and, as can be seen with this year’s awards, there is clear pay for performance alignment | |
GPS award outcomes for 2019 show that award outcomes are truly variable and that the structure of the plan ensures that performance and conduct will have a direct impact on remuneration |
Your remuneration structure is overly complex
We recognise that our process for determining short-term variable (GPS) outcomes has been perceived to be complex and the link between pay and performance is not easily understood | |
We have taken steps to reduce complexity through reducing the number of measures in our Group Balanced Scorecard from 20 to 15 for 2019 and 2020. We believe this provides the optimum breadth of measures for a large and complex Group | |
We’ve focused on simplifying the allocation to our overall Group Performance Share pool by agreeing to use a fixed 5 per cent of underlying profit as the starting position. The Committee will retain discretion to ensure that 5 per cent remains appropriate | |
To support colleaguesunderstanding of determining Group Performance Share awards across the Group, including for Executive Directors, we have used internal media channels to explain the process in a clear and transparent way and to emphasise the link between pay and performance | |
Together with my Committee members, I look forward to hearing your views on the remuneration arrangements outlined in the report and we hope the new Policy alongside the resolutions relating to remuneration will receive your support at the upcoming AGM.
Stuart Sinclair
Independent Director
Age: 63
Member of the Board Risk Committee and theChairman, Remuneration Committee.Committee
Appointed: January 2016
Skills and experience: Stuart has extensive experience in retail banking, insurance and consumer finance. He is a former Non-Executive Director of TSB Banking Group plc, TSB Bank plc, LV Group and Virgin Direct. In his executive career, he was President and Chief Operating Officer of Aspen
118 |
MANAGEMENT AND EMPLOYEESCOMPENSATION
Insurance after spending nine years
Proposed Policy overview
Pages 134 to 142 provide an overview of the new proposed 2020 Policy. The full policy can be found on page 115.
Current PolicyProposed changes in Policy and why
Base Salary – Reflective of individual role, taking account of responsibilities, experience and pay in the wider Group. – Typically reviewed annually, with General Electric,increases effective 1 January. What: – We are changing the effective date of increases from 1 January to 1 April for new Executive Directors (EDs). Why: – Provides alignment to the award timeline for other colleagues in the Group, meeting our alignment principle.
Fixed Share Award– Ensures fixed remuneration is commensurate with role. – Delivered in shares. – 20 per cent released over five years. What: – We are changing the release schedule from five to three years. All other aspects remain the same, including quantum. Why: – Provides alignment to the release Schedule for other colleagues eligible for a Fixed Share Award in the Group meeting our alignment principle.
Pension – Contributions set as a percentage of base salary (cash salary only). – Maximum allowance of 46 per cent for Group Chief Executive Officer(GCE) and 25 per cent for other EDs and all future appointments. What: – We are reducing the maximum employer pension contribution available to all EDs to 15 per cent of base salary with no compensation for the UK Consumer Finance business then President of GE Capital China. Before that he was Chief Executive Officer of Tesco Personal Finance and Director of UK Retail Banking at the Royal Bank of Scotland. He was a Council member of The Royal Institute for International Affairs (Chatham House). He has an MA in Economics from the University of Aberdeen and an MBA from the University of California.reduction. Why: – We agree comparable pension contributions should be available to all colleagues, including EDs.
External appointments: Non-Executive DirectorBenefits – Flexible benefit allowance of 4 per cent of base salary in line with other colleagues. – Other benefits include private medical insurance and Chair of the Risk Committee at Provident Financial plc, Senior Independent Director and Chair of Risk at QBE Insurance (Europe) Limited and Senior Independent Director and Chair of Risk at Swinton Group Limited.car allowance. – No changes.
Short Term Variable Group Performance Share (GPS) – Maximum opportunity of 140 per cent of salary for GCE and 100 per cent of salary for other EDs with normal target to 30 per cent of maximum. – Performance adjustment including malus and clawback provisions apply. – No award can be made if threshold performance is not met by the Group or the individual. What: – There will be no change in maximum opportunities, however expected value for performance in line with target will change to 50 per cent of maximum. Why: – We believe the GPS award is an effective short term variable reward opportunity. – Simplifying the approach to target performance aligns the design structure to other colleagues and is clearer to articulate. The approach to target setting has been adjusted to ensure that the outcome is no less stretching to achieve.
Anthony Watson CBE
Senior Independent Director
Age: 71
MemberLong Term Variable Group Ownership Share (GOS) – A long-term incentive plan. – Maximum opportunity of 400 per cent for the Audit Committee, the Board Risk Committee, the Remuneration Committee and the Nomination and Governance Committee.
Appointed: April 2009 (Board), May 2012 (Senior Independent Director)
Skills and experience: Tony is our Senior Independent Director and with over 40 years of experience in the investment management industry and related sectors, he is well placed to carry out this role. His former positions include Chief Executive of Hermes Pensions Management and Chairman of the Asian Infrastructure Fund, MEPC, the Marks & Spencer Pension Trustees and of the Strategic Investment Board (Northern Ireland). He is also a former Member of the Financial Reporting Council, a Senior Independent Director of HammersonGCE and a Non-Executive Directormaximum of the Shareholder Executive and Vodafone Group. He has a BSc (Hons) in Economics from Queen’s University Belfast, a Diploma in Security Analysis from the New York Institute300 per cent of Finance and is a Barrister at Law, England and Wales.
External appointments: Senior Independent Director of Witan Investment Trust, Chairman of the Lincoln’s Inn Investment Committee and a member of the Norges Bank Investment Management Corporate Governance Advisory Board.
Sara Weller CBE
Independent Director
Age: 55
Chairman of the Responsible Business Committee, member of the Board Risk Committee and the Remuneration Committee.
Appointed: February 2012
Skills and experience: With a background in retail and associated sectors, including financial services, Sara brings a broad perspectivesalary for other EDs. – Vesting will be subject to the Board. She is a passionate advocateachievement of customers, the community, financial inclusion and the development of digital skills which directly support Lloyds Banking Group’s strategy and her role as Chairman of the Responsible Business Committee. Sara has considerable experience of boards at both executive and non-executive level. Her previous appointments include Managing Director of Argos, various senior positions at J Sainsbury including Deputy Managing Director, Lead Non-Executive Director at the Department of Communities and Local Government, a Non-Executive Director of Mitchells & Butlers as well as a number of senior management roles for Abbey National and Mars Confectionery. She has an MA in Chemistry from Oxford University.
External appointments: Non-Executive Director of United Utilities Group and Chair of their Remuneration Committee, a Governing Council Member of Cambridge University, Chairman of the Planning Inspectorate and Board member at the Higher Education Funding Council.
EXECUTIVE DIRECTORS
António Horta-Osório
Executive Director and Group Chief Executive
Age: 53
Appointed: January 2011 (Board), March 2011 (Group Chief Executive)
Skills and experience: António brings extensive experience in, and understanding of, both retail and commercial banking. This has been builtperformance conditions measured over a period of more than 30 years, working both internationally as well asthree years. – The Committee retains full discretion to amend the payout levels should the award not reflect business and/or individual performance. – Award levels set at the time of grant under the rules of the 2016 Long-Term Incentive Plan approved at the AGM on 12 May 2016 and made in the UK. António’s drive, enthusiasmform of conditional shares. What: – Introducing the Long Term Share Plan (LTSP), subject to approval at the 2020 AGM. An alternative reward structure to a traditional LTIP that has similarities with restricted share awards. – Maximum opportunities will significantly reduce from 400 per cent for the GCE and commitment300 per cent for other EDs to customers, along200 per cent of base salary. The normal ‘target’ level of award will be 150 per cent of base salary. Please see page 101 for further explanation of how we determined the right maximum opportunities for the business. – Remuneration Committee will grant awards based on a discretionary pre-grant test using the Balanced Scorecard to inform decision making. – Vesting will be subject to a set of three financial underpins. – Remuneration Committee retains full discretion to amend the vesting levels from that determined should they not reflect performance. Why: – The proposed structure provides greater alignment to the delivery of the strategic aims for the Group. Please see our Policy FAQs on page 120 for further understanding of our rationale for the LTSP and how it is structured.
The Group’s approach to shareholding requirements
The Group currently operates a shareholding policy, please see page 127 for further details.
The Group considers it important to ensure Executive Directors continue to have a substantial shareholding after employment to continue to align their interests with his proven ability to buildshareholders over a longer time horizon than simply whilst in role. Our existing reward structures and lead strong management teams, brings significant value to all stakeholdersthe structure designed through the Long Term Share Plan, which, in line with regulatory requirements, mean that a substantial proportion of Lloyds Banking Group. Previously he workedvariable reward for Goldman Sachs, CitibankExecutive Directors and other senior employees takes the form of shares, deferred and held various senior management positions at Grupo Santander before becoming its Executive Vice President. He wasover a Non-Executive Directorperiod of Santander UK and subsequently its Chief Executive. He is also a former Non-Executive Director ofup to eight years. These structures achieve the Court of the Bank of England and Governor of the London Business School. António has a Degree in Management & Business Administrationoutcomes intended from the Universidade Católica Portuguesa, an MBA from INSEADintroduction of a post-employment shareholding requirement and has completedensure that Executive Directors continue to meet their shareholding requirements for a minimum of two years after leaving the Advanced Management Program at Harvard Business School.
External appointments: Non-Executive Director of EXOR N.V., Fundação ChampalimaudGroup. On this basis, the Group already complies with best practice and Sociedade Francisco Manuel dos Santos in Portugal, a member of the Board of Stichting INPAR and Chairman of the Wallace Collection.
George Culmer
Executive Director and Chief Financial Officer
Age: 54
Appointed: May 2012 (Board)
Skills and experience: George has extensive operational and financial expertise including strategic and financial planning and control. He has worked in financial services in the UK and overseas for over 25 years. George was an Executive Director and Chief Financial Officer of RSA Insurance Group, the former Head of Capital Management of Zurich Financial Services and Chief Financial Officer of its UK operations as well as holding various senior management positions at Prudential. Hetherefore no formal post-employment shareholding policy is a Non-Executive Director of Scottish Widows. George is a Chartered Accountant and has a history degree from the University of Cambridge.
External appointments: None.necessary.
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Juan Colombás
Executive Director and Chief Risk Officer
Age: 54
Appointed: January 2011 (Chief Risk Officer), November 2013 (Board)
Skills and experience: Juan has significant banking and risk management experience, having spent 31 years working in these fields both internationally and in the UK. Juan is responsible for developing the Group’s risk framework, recommending its risk appetite and ensuring that all risks generated by the business are measured, reviewed and monitored on an ongoing basis. He was previously the Chief Risk Officer and an Executive Director of Santander’s UK business. Prior to this position, he held a number of senior risk, control and business management roles across the Corporate, Investment, Retail and Risk Divisions of the Santander Group. He has served as the Group’s Chief Risk Officer and as a member of the Group Executive Committee since January 2011. Juan has a BSc in Industrial Chemical Engineering from the Universidad Politécnica de Madrid, a Financial Management degree from ICADE School of Business and Economics and an MBA from the Institute de Empresa Business School.
External appointments: Vice Chairman of the International Financial Risk Institute.
EMPLOYEES
As at 31 December 2016, the Group employed 70,433 people (on a full-time equivalent basis), compared with 75,306 at 31 December 2015 and 84,490 at 31 December 2014. At 31 December 2016, 69,649 employees were located in the UK, 394 in continental Europe, 328 in the Americas, and 62 in the rest of the world. At the same date, 29,639 people were employed in Retail, 5,816 in Commercial Banking, 3,399 in Consumer Finance, 1,874 in Insurance, 19,213 in Group Operations and 10,492 in other functions.
The Group has Codes of Responsibility which apply to all employees. The Codes of Responsibility can be found at: www.lloydsbankinggroup.com/Responsible-Business.
DIRECTORS’ REMUNERATION
The Committee’s focus goes beyond executive pay to ensure that the interests of all colleagues and shareholders are considered fairly and consistently.
KEY MESSAGESNew Policy FAQs
Long Term Share Plan Why did you decide the new Long Term Share Plan is more appropriate for your business compared to the traditional LTIP? We believe this Policy cycle is the most opportune time to restructure our reward package and introduce the LTSP for the following core reasons. Lower and less volatile potential reward outcomes aligned to a stable long-term business model We believe that a reward package that has less volatile outcomes is more reflective of our objective of delivering stable and sustainable returns and will incentivise stewardship over longer timeframes. A simpler structure with one set of annual metrics In recent years we have received significant feedback on the complexity of our reward structures. Removing multiple scorecards and focusing on a single simplified Balanced Scorecard will give management clearer line of sight and greater alignment of interests to long-term company performance. Amending the existing LTIP by reducing the number of measures was considered. However, we felt that this would not match the wider objectives of alignment to the Group’s strategy and the experience of colleagues. The use of a single Balanced Scorecard to inform both variable reward components provides clear line of sight to important annual and strategic measures, which can be tracked year on year through our disclosure. Promote fairness and consistency The structure supports reducing the gap between colleague and executive remuneration; the increase in certainty of award outcomes is offset by reduced opportunities. Performance against strategic goals will be assessed and Committee discretion will play an important role The Committee will have four opportunities to test performance, using a mixture of clear metrics and discretion, applied against a pre-determined approach. Balanced Scorecard Strategic decisions will, as now, be measured through the inclusion of both financial and non-financial performance metrics within the Balanced Scorecard Individual assessment As now, the Committee will determine if an Executive Director’s personal performance justifies a variation in the assessment of performance or award values determined by the Balanced Scorecard, and will explain how this is determined | Pre-grant test Committee discretion, incorporating an assessment of risk and conduct, will be applied where actual behaviours or outcomes are not adequately captured in Underpin assessment The Committee will make an assessment against the three financial underpins. In addition, the Committee will consider applying a downward discretionary adjustment by asking itself whether there are any non-financial factors that should be considered at vesting What factors will the Committee take into account when exercising discretion? When considering the use of discretion in Do the Group’s financial results and capital position adequately reflect risk, conduct and any other non-financial considerations? Has the Group suffered a serious conduct event or has severe reputational damage arisen from the Group not living its values? Has the bank lived up to its ambition to be the Best Bank for Customers? The Committee will explain its reasons for applying discretion in either direction, or for not doing so. How did you determine the new maximum opportunity for the Long Term Share Plan and did you consider shareholder guidelines that there should be at least a 50 per cent discount when moving to a restricted share model? We are reducing the maximum opportunity for the Group Chief Executive’s long-term awards by 50 per cent from 400 per cent to 200 per cent of base salary, and the normal ‘target’ level of award to 150 per cent of base salary. Unlike a number of restricted share schemes, our Long Term Share Plan will have a pre-grant test to determine the value of awards. As outlined, this will be based on the Balanced Scorecard (consistent with the short term variable Under the Group Ownership Share Plan Executive Directors were eligible to receive a maximum award of 300 per cent. We wanted consistency in award maximum for all Executive Directors. This therefore marks a discount of 33 per cent but we are confident this is appropriate for the business given the use of a pre-grant test, underpins and the Committee’s intention to use discretion where appropriate. Why did the Committee decide that the three underpins chosen for the plan are the most appropriate? The pre-vest test against defined underpins after three years is an important feature to guard against the potential of ‘rewards for | failure.’ After considerable debate, we are confident that focusing on capital strength, relative returns and a progressive and sustainable ordinary dividend aligns with our commitments to shareholders. Underpins will be measured over a three year period year period from grant and each underpin element will determine the vesting of 33 per cent of the original award. The Committee will have discretion to consider any other events before confirming the vesting of awards using the questions outlined above. Balanced Scorecard How does the use of the Balanced Scorecard ensure that Executive Directors are rewarded for performance aligned to the strategic objectives of the Group? The Balanced Scorecard is considered by non-executives and management to be a transparent and effective tool to drive and assess performance while meeting regulatory requirements. Each measure has pre-set underlying objectives determined by the Remuneration Committee at the start of the performance year. In the interest of transparency, the Committee can confirm that for 2020 there is no change1 to the 15 measures in the 2019 Balanced Scorecard (fully disclosed on page 123) which the Committee consider provide sufficient breadth across the Group’s | ||||
Customer measures (33%) Providing a leading customer experience sits at the core of our strategy. The Group customer dashboard provides an assessment of how effectively we are serving customers across all brands, products and Colleagues and Conduct measures (33%) Colleagues are critical to the delivery of Finance measures (33%) Our financial measures assess the Group’s ability to deliver a 1 The measure in relation to | ||||||
On behalf of the Board and as Chair of the Group’s Remuneration Committee, I have pleasure in presenting the Directors’ remuneration report for the year ended 31 December 2016. I am very grateful for the continued support and engagement we have had with shareholders and their representative bodies, especially during consultations on the outcomes of the remuneration review which I outlined in last year’s statement and which was a key priority for 2016.
OUTCOMES OF THE REMUNERATION REVIEW
The Committee conducted a full review of the Group’s remuneration arrangements in 2016. The main focus of this review was to ensure the remuneration arrangements support our purpose of helping Britain prosper and align to the Group’s aim of becoming the best bank for customers whilst delivering superior and sustainable returns for shareholders. With this in mind, the Committee simplified and updated the Reward Principles that apply across the Group to ensure they support the strategic priorities, as set out below:
Further detail is set out in the ‘Summary of the remuneration review’.
There are no significant changes to the remuneration policy for Executive Directors that is being put to a binding vote at the 2017 AGM, and the maximum opportunity for both the short-term and long-term elements of variable remuneration will remain the same.
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COMPENSATION
FAIR REWARD FOR COLLEAGUES
OUR NEW VARIABLE REWARD STRUCTURE The Group’s purpose is to support our customers, colleagues and communities and to Help Britain Prosper. The Group’s business model is to be a low risk UK bank and rewards for the executive management team in that business should reflect and encourage the steady creation of shareholder value over the long-term, best measured through the share price. The long-term sustainable success of the business is driven by meeting the needs of different stakeholders and our proposed move to Long Term (restricted) Share awards within our revised variable reward structure | supports these strategic aims. To gain greater understanding of why we believe the implementation of this new approach is now appropriate for the Group and aligns to our business model in our Policy FAQs on page 120. The diagram below illustrates the performance inputs, underpin assessment and delivery of the Group’s proposed short and long-term variable reward structures. The new structure has multiple test points to ensure the Remuneration Committee can use its discretion and make an evaluation beyond formulaic outcomes. Further details on the use of discretion are explained in full within the Policy on page 137. | Removing complex standalone LTIP metrics and instead using a simplified Balanced Scorecard will give management clearer line of sight and greater alignment of interest to long-term share price performance whilst the underpin and pre-vest test, combined with the long-term delivery of shares over up to eight years, ensure that long-term and multi-year performance assessment is not compromised. |
The
HOW THE NEW STRUCTURE OPERATES Y1 Y2 Y3 Y4 Y5 Y6 Y7 Y8 40% 60% Pre-grant performance assessment and sizing of award determined at Remuneration Committee’s focus goes beyond executive pay. I have engaged with the Group’s recognised unions, and I am keen to ensure that the interests of all colleagues are considered in the Committee’s deliberations. We are mindful of the relationship between pay for executives and more junior colleagues, and to that end have sought to ensure consistency of pay outcomes with a salary budget of 2 per cent applied across the whole Group. In order to ensure that the Committee’s approach to remuneration aligns to Group strategy, I have engaged the Responsible Business Committee in discussions on pay. This dialogue will continue during 2017.
In 2016, the Group has completed the moves to ensure that all customer-facing colleagues in Retail are now incentivised by reference to Balanced Scorecard metrics, rather than individual or branch level sales or product targets. This change ensures that colleagues are rewarded for action and behaviour that puts customers first. All variable remuneration decisions takediscretion, taking into consideration the Group’s Value, Codes of Responsibility, and the Conduct Pillars (Integrity, Compliance and Competence).
SHARING IN THE GROUP’S PERFORMANCE
As part of considering the structure of remuneration, the Committee concluded that it was important all colleagues should understand that they share in the overall performance of the Group alongside other stakeholders. The short-term variable remuneration element that supports this will be known as the ‘Group Performancekey questions outlined on page 120. Long Term Share plan’.
The plan outcome will be determined ‘top-down’ as a percentage of the Group’s underlying profit, modified based on the Group’sPlan Award Balanced Scorecard performance and any collective adjustment for risk and conduct matters. The clear and transparent link between risk-adjusted profit and theIndividual ED Assessments Group Performance Share plan outcome ensures direct alignment betweenLong Term Share Plan Underpin Assessment 1 yr hold 1 yr hold 1 yr hold 1 yr hold 1 yr hold 33% 33% 33% CET 1 Ratio ROTE Ordinary Dividend Remuneration Committee evaluation. See page 120 for further detail. In light of the interestsChief Operating Officer, Juan Colombás’ retirement announcement in 2020, an illustration has not been provided here. Underpins (Pre-Vest Test)* Group CET1 ratio above the guided management buffer each year, including all regulatory buffers Group ROTE exceeds average for UK peer banks (excluding the Group) over the 3 years Actual dividend payments do not fall below stated progress policy in any year of colleagues (including Executive Directors) and shareholders.the vesting period 40% 20% 40% 20% 20% TEST 20% 1 yr hold 20% 1 yr hold 20% 1 yr hold * Indicative underpin definition; final details to be confirmed in 2020 DRR Implementation Report.
BUILDING A LONG-TERM OWNERSHIP CULTURE
The Group promotes the broadest possible share ownership by colleagues to buildHOW HAVE THE MAXIMUM OPPORTUNITIES FOR EXECUTIVE DIRECTORS CHANGED? As a culture of acting as stewardsresult of the long-term interests of the Group.
Over 80proposed changes in policy, total variable opportunities will reduce from 540 per cent of colleagues hold an interest insalary to 340 per cent for the Group through participation in oneChief Executive. This is a reduction of our existing share plans. To achieve 10029 per cent share ownership, forin maximum total compensation when reductions in fixed pay through the first time in 2017, all colleagues in the Group will receive an award of shares valued at £200, which they will be required to hold for at least three years. We will look to repeat awards in future years, dependent on delivering against the Group’s strategic aims.
Executive-level share ownership is high, with all Executive Director shareholdings well above their minimum requirement under the shareholding policy. The Group Chief Executive’s current shareholding significantly exceeds the level required, as detailed in the annual report on remuneration.
To align with the culture of broader share ownership, the long-term element of variable remuneration will be known as the ‘Group Ownership Share plan’. This plan incentivises and rewardspension changes are taken into account. Other Executive Directors and senior colleagues against Group financial and strategic objectives designedwill reduce from 400 per cent to deliver superior and sustainable long-term returns for shareholders. Executives will build a direct ownership interest in the Group if those strategic objectives are met over the three-year performance period. The Committee decided that the performance measures for the 2017 awards should align to the revised Reward Principles, and with that, the Group’s strategic priorities.
REMUNERATION OUTCOMES FOR 2016
The Group has delivered strong financial performance in 2016 following further strategic progress. Underlying profit was £7.9 billion and statutory profit has more than doubled to £4.2 billion. The Group’s balance sheet remains strong and capital generation of approximately 190 basis points has enabled the Group to increase the ordinary dividend, pay a special dividend and fully cover the expected capital impact of the MBNA acquisition.
The gross bonus that results from underlying profit modifiers and Balanced Scorecard performance is £484.1 million. In reaching the final decision on the 2016 bonus outcome, the Committee considered the conduct-related provisions, including an additional provision for PPI in 2016. This led to a downward adjustment of 19300 per cent resulting in a final bonus outcome for 2016 of £392.9 million. This is an increase of 1119 per cent compared to 2015.
The Group’s bonus outcome is amongst the lowest of large UK banks and at 4.8 per cent of pre-bonus underlying profit, significantly lower than the Group’s funding limit of 10 per cent of pre bonus underlying profit.
A formulaic approach has been used to set thereduction in maximum total compensation. New Policy Current Policy £000 £000 £2,828 £2,603 £1,813 £1,813 £5,180 29% £2,589 Chief Financial Officer William Chalmers Group Chief Executive Directors’ bonus awards, consistent with other colleagues across the Group. The Committee determined that bonus awards of between 77 per cent and 78 per cent of maximum should be made to Executive Directors. Each of these awards, as well as the proposed Group Ownership Share awards detailed in the report, reflect the Group’s strong underlying performance against both financial and Balanced Scorecard metrics.
The long-term incentive plan (LTIP) awards made in 2014 are proposed to vest at 55 per cent, reflecting performance in the period to 31 December 2016.
Overall, the total remuneration for the Executive Directors is down by around 35 per cent compared to 2015. Further details on the reward outcomes for Executive Directors are outlined in the annual report on remuneration.
The Group’s approach to deferral of total variable remuneration ensures that both the short-term and long-term elements are subject to deferral in a way that results in a slower release of variable remuneration than the minimum regulatory requirements.António Horta-Osório £1,552 £1,473 £811 £811 £2,433 19% £1,622 Fixed Pay Short Term Variable Long Term Variable Current Policy New Policy Current Policy In line with the new PRA remuneration requirements for PRA Senior Managers, the Group Ownership Share element is deferred over seven years with pro rata vesting between the third and seventh year.
Across all colleagues, less than 3.5 per cent of annual bonus plan awards are above £25,000 and relate to high performing colleagues at senior levels. The first £2,000 of any bonus award continues to be paid in cash in March 2017, with the balance deferred in shares which are released periodically over subsequent months and years.
2017 EXECUTIVE DIRECTOR SALARIES
It was the Committee’s intent that Executive Director salary increases remain aligned with the 2 per cent budget for all colleagues. With that principle in mind, the Committee proposes to increase the base salarieslight of the Chief FinancialOperating Officer, and the Chief Risk Officer by 2 per cent.
As disclosedJuan Colombás’ retirement announcement in the 2015 Directors’ remuneration report, for the first time since 2011, a salary increase was applied in 2016 for the Group Chief Executive to begin to adjust his base salary to the previously disclosed Reference Salary of £1.22 million, which was set relative to the market when he joined in 2011, and for the adjustment to be staged over two years. As a result the second stage of the adjustment to £1.22 million is to be implemented with effect from January 2017, with 2 per cent of the increase delivered in cash and the remainder in shares.
2017 ANNUAL GENERAL MEETING
Approval for the Directors’ remuneration policy will be sought at the AGM on 11 May 2017; if approved, it will take effect from that date. I hope you will support the resolutions relating to remuneration.2020, an illustration has not been provided here.
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COMPENSATION
SUMMARY OF THE REMUNERATION REVIEW2019 Annual report on remuneration
ENHANCING THE LINK BETWEENEXECUTIVE DIRECTOR SINGLE TOTAL FIGURE OF REMUNERATION AND STRATEGY
As part of the review of the Group’s variable remuneration arrangements in 2016, the existing reward principles were simplified and updated to ensure they support the Group’s strategic priorities. The table below shows the link between strategic priorities, the reward principles and performance measures for the Group Ownership Share and Group Performance Share plans. Further detail can be found in the strategic report.
António Horta-Osório | Juan Colombás | William Chalmers | George Culmer | Total | ||||||||||||||||
£000 | 2019 | 2018 | 2019 | 2018 | 2019 | 2018 | 2019 | 2018 | 2019 | 2018 | ||||||||||
Base Salary | 1,269 | 1,244 | 795 | 779 | 331 | – | 461 | 776 | 2,856 | 2,799 | ||||||||||
Fixed Share Award | 1,050 | 900 | 497 | 497 | 252 | – | 298 | 504 | 2,097 | 1,901 | ||||||||||
Benefits | 166 | 157 | 74 | 68 | 19 | – | 41 | 49 | 300 | 274 | ||||||||||
Pension | 419 | 573 | 199 | 195 | 83 | – | 130 | 194 | 831 | 962 | ||||||||||
Total Fixed Pay | 2,904 | 2,874 | 1,565 | 1,539 | 685 | – | 930 | 1,523 | 6,084 | 5,936 | ||||||||||
Group Performance Share1 | – | 1,178 | – | 527 | 81 | – | 113 | 527 | 194 | 2,232 | ||||||||||
Group Ownership Share/Long Term Incentive (LTIP)2,3 | 1,821 | 2,490 | 1,011 | 1,355 | – | – | 911 | 1,374 | 3,743 | 5,219 | ||||||||||
Total Variable Pay | 1,821 | 3,668 | 1,011 | 1,882 | 81 | – | 1,024 | 1,901 | 3,937 | 7,451 | ||||||||||
Other Remuneration4 | 2 | 2 | 1 | 1 | – | – | 1 | 1 | 4 | 4 | ||||||||||
Buy out award5 | – | – | – | – | 4,378 | – | – | – | 4,378 | – | ||||||||||
Total Remuneration | 4,727 | 6,544 | 2,577 | 3,422 | 5,144 | – | 1,955 | 3,425 | 14,403 | 13,391 |
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The Group’s remuneration arrangements support its purpose of helping Britain prosper and align to the Group’s aim of becoming the best bank for customers, whilst delivering long-term, superior and sustainable returns for shareholders.
The Group believes in offering fair reward. It fosters a performance-driven and meritocratic culture where colleagues share in the collective success of the Group and are rewarded for performance aligned to the long-term sustainable success of the business and the commitment to changing the culture of the Group.
The new variable remuneration arrangements have been designed to reinforce the simplified reward principles and maintain a separate short-term and long-term model. Remuneration remains weighted towards the long-term and the design closely aligns to the Group’s strategic priorities. There have not been any changes to the maximum potential under either plan.
The graphic below summarises the elements of the Executive Directors’ total remuneration package for 2017.
SIMPLIFYING THE APPROACH TO SHORT-TERM VARIABLE REMUNERATION: GROUP PERFORMANCE SHARE
The Group Performance Share plan provides Executive Directors and colleagues with a reward for delivery against the Group’s short-term financial and strategic priorities. The annual performance share outcome is based on a percentage of the Group’s underlying profit, adjusted by a strategic multiplier based on the Group’s Balanced Scorecard (BSC) metrics and risk matters. This approach replaces the more complex methodology used in recent years where the Group’s total bonus outcome was driven by the aggregate divisional and functional bonus outcomes and provides a clear line of sight for Executive Directors, colleagues and shareholders.
COMPENSATION
In order to ensure that the opportunity under the Group Performance Share plan is not increased when compared to the previous annual bonus plan, the Committee has included threshold and maximum payout levels. The maximum for 2017 is 20 per cent above the underlying profit target and a ‘Top’ rating against Balanced Scorecard objectives. This is consistent with prior years. The threshold is set at 20 per cent below the Group’s underlying profit target.
LONG-TERM VARIABLE REMUNERATION: GROUP OWNERSHIP SHARE
From 2017, the long-term incentive plan will be known as the Group Ownership Share plan to reinforce its link to the Group’s strategic priorities and provide greater shareholder alignment. The Group Ownership Share plan ensures Executive Directors and senior colleagues build an ownership interest in the Group and are motivated by delivering long-term superior and sustainable returns for shareholders. Vesting is subject to future three-year performance with a clear link between measures and key strategic priorities.
2017 DEFERRAL OF VARIABLE REMUNERATION
Under new PRA remuneration requirements, 60 per cent of variable remuneration awarded to PRA Senior Managers must be deferred for seven years with pro rata vesting between the third and seventh year. The Group’s approach ensures that both short-term and long-term variable remuneration is subject to deferral and is more onerous than the minimum PRA requirements, as over 60 per cent of variable remuneration awarded to Executive Directors is deferred under the Group Ownership Share plan and vests over a period of seven years from the date of grant.
Due to this more onerous approach under the Group Ownership Share plan, awards for Executive Directors under the Group Performance Share plan are deferred for two years as follows:
table above. Awards for William Chalmers and George Culmer will be made in March 2020 in a combination of cash and shares. 40 per cent will be released in the first year following | |
the award with £2,000 paid in cash, and the balance of the upfront 40 per cent delivered in shares; 50 per cent of which will be | |
The graphic below illustrates how the Group’s deferral approach for Executive Directors (who are PRA Senior Managers for regulatory purposes) continues to be weighted to the long term, underpinning the strategic priority and reward principle of delivering sustainable growth. Any shares released are subject to a further holding period in line with regulatory requirements and market practice. In line with shareholder expectations, no Group Ownership Share awards are unconditionally released until at least five years after grant.
COMPENSATION
REMUNERATION AT A GLANCE
HOW LLOYDS BANKING GROUP PERFORMED
KEY PERFORMANCE MEASURES
The table below illustrates outcomes against the Group’s key performance measures relevant to remuneration.
The annual bonus outcome is driven by a combination of Group underlying profit and Balanced Scorecard performance. The long-term incentive plan measures Group performance over a three-year period, using a range of financial and strategic measures.
Measure | 2016 | 2015 | ||||||
Underlying profit before tax | £7,867m | £8,112m | 1 | |||||
Group Balanced Scorecard | Strong plus | Strong | ||||||
Economic profit | £3,377m | £2,233m | ||||||
Total Shareholder Return (TSR) | ||||||||
Per annum for the three years ended 31 December | (5% | ) | 16.6% | |||||
Cost:income ratio | 48.7%2 | 49.3% | ||||||
Net promoter score | 62.7 | 59.3 | ||||||
Digital active customer base | 12.5m | 11.5m | ||||||
Employee engagement index | 71 | 71 |
2 | The |
ANNUAL BONUS PLAN OUTCOME
The Group has delivered strong financial performance in 2016 following further strategic progress. In reaching the decision on the 2016 bonus outcome, the Committee considered the conduct-related provisions, including an additional provision for PPI in 2016. This led to a downward adjustment of 19 per ent.
The total bonus award as a percentage of pre-bonus underlying profit before tax increased from 4.2 per cent in 2015 to 4.8 per cent in 2016. This compares favourably to shareholder return from dividend payments over the same period which increased to 26.3 per cent of underlying profit and remains significantly lower than the Group’s funding limit of 10 per cent of pre bonus underlying profit.
For Executive Directors, awards of between 77 per cent and 78 per cent of maximum opportunity were determined reflecting Group and individual performance.
LONG-TERM INCENTIVE PLAN OUTCOME
The Group has delivered a good financial performance over the performance period of the 2014 Long-Term Incentive Plan (LTIP) awards, continuing to transform the business for the benefit of its shareholders. Performance was measured over three financial years ended 31 December 2016. The performance conditions attached to these awards and actual performance are set out in the table below. At the end of the performance period, it has been assessed that awards will vest at 55 per cent of maximum. Executive Directors are required to retain any shares vesting for a further two years post vesting.
COMPENSATION
EXECUTIVE DIRECTOR REMUNERATION OUTCOMES
The charts below summarise the Executive Directors’ remuneration for the years ended 31 December 2015 and 2016.
3 | LTIP and dividend equivalent figures for 2018 have been adjusted to reflect the share price on the date of vesting (62.9679 pence) instead of the average price (56.04 pence) reported in the 2018 report. |
4 | Other remuneration payments comprise income from all employee share plans, which arises through employer matching or discounting of employee purchases. |
5 | William Chalmers joined the Group on 3 June 2019 and was appointed as Chief Financial Officer on 1 August 2019 on the retirement of George Culmer. He was granted deferred cash of £2,046,097 and deferred share awards over 4,086,632 Shares, to replace unvested awards from his former employer, Morgan Stanley, that were forfeited as a result of him joining the Group. The deferred cash and the number of Shares over which the deferred share awards were granted was calculated using the USD:GBP exchange rate and the respective mid-market closing prices of Mr Chalmers’ previous employer and the Group on 3 June 2019. |
The awards are subject to a vesting schedule and retention periods that match the vesting schedule and retention periods of the awards forfeited and as a result, the awards vest in tranches until January 2022. The awards were granted pursuant to Listing Rule 9.4.2, and in accordance with the regulatory requirements for buy-outs and are subject to clawback. Clawback will also apply to any awards exercised prior to the first anniversary of employment. |
DIRECTORS’ FIXED REMUNERATION FOR 2017PENSION AND BENEFITS
Pension/Benefits £ | António Horta-Osório | Juan Colombás | William Chalmers | George Culmer | ||||
Cash allowance in lieu of pension contribution | 418,865 | 198,735 | 82,806 | 129,892 | ||||
Car or car allowance | 12,000 | 12,000 | 5,000 | 19,646 | ||||
Flexible benefits payments | 49,776 | 31,174 | 13,249 | 20,783 | ||||
Private medical insurance | 42,341 | 19,246 | 279 | 481 | ||||
Tax preparation | 24,000 | 9,000 | – | – | ||||
Transportation | 37,606 | 2,359 | – | – |
DEFINED BENEFIT PENSION ARRANGEMENTS
BASE SALARYAntónio Horta-Osório has a conditional unfunded pension commitment. This was a partial buy-out of a pension forfeited on joining from Santander Group. It is an Employer-Financed Retirement Benefits Scheme (EFRBS). The EFRBS provides benefits on a defined benefit basis at a normal retirement age of 65. The benefit in the EFRBS accrued during the six years following commencement of employment, therefore ceasing to accrue as of 31 December 2016.
2017The EFRBS was subject to performance conditions and it provided for a percentage of the GCE’s base salariessalary or reference salary in the 12 months before retirement or leaving. No additional benefit is due in the event of early retirement. The rate of pension accrued in each year depended on share price conditions being met. In March 2019, the GCE asked that his defined benefit pension be based on a percentage of his pensionable salary in 2014. The total pension due is now fixed at 6 per cent of his 2014 reference salary of £1,220,000, or £73,200.
There are no other Executive Directors with defined benefit pension entitlements.
Under terms agreed when joining the Group, Juan Colombás is entitled to a conditional lump sum benefit of £718,996 either (i) on reaching normal retirement age of 65 unless he voluntarily resigns or is dismissed for cause, or (ii) on leaving due to long-term sickness or death.
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COMPENSATION
CALCULATING THE 2019 GROUP PERFORMANCE SHARE OUTCOME
Allocating Underlying Profit | |||
To simplify the approach to determining the Group Performance Share outcome for 2019, the Committee agreed that a fixed 5 per cent of Underlying Profit (UP) would be used as a starting position for the overall pool. | £8,349m1 x 5% =£417.4m | ||
The threshold, below which no bonus is payable, remains set at 20 per cent below target UP. | |||
For 2019, UP target was £8,637 million, actual UP was £8,349 million. |
1 Underlying profit of £7,531m, adjusted by £21m for year-on-year Prudential Value Adjustment in line with regulatory requirement, £445m for conduct and costs, and £352m for Group Performance Share expenses in 2019.
STEP 1 STEP 2 STEP 3 STEP 4 Measurement of performance against Balanced Scorecard objectives. Strategic objectives Measure Performance Range/Outcome Minimum: 1 Maximum: 5 Score Customer 33% Leading customer experience Satisfying our Customers Customer dashboard 64 <30 .85 3 Retaining and growing valuable customers Segmented Customer Index 3.75 <2.0 >4.5 3 Helping Britain Prosper Deliver Helping Britain Prosper Plan targets 20/22 metrics were rated green (90.9%) <50% of Helping Britain Prosper Plan 4 metrics are Green .90% of Helping Britain Prosper Plan metrics are Green and none are Red Fewer complaints, better handled, driving better customer outcomes Total FCA Complaints per e 000 2.72 <3.04 .2.81 5 FOS Change Rate (ex PPI) 26% >30% .25% 4 Building great relationships with external stakeholders Reputation with External Stakeholders (Excluding Regulators) 4.00 <2.0 &/or >30% rated 1 >4.5 & none rated 1 4 Colleagues & Conduct 33% Transforming ways of working Building a better culture Colleague Culture & Engagement survey 69 <64 >73 3 Building skills for the future Colleagues successfully completing upskilling/ retraining 3,193,087 Cumulative hours <1,980,000 Cumulative hours .2,640,000 5 Maintaining a low risk Bank Board Risk Appetite 7.4% >10% .4% 3 Change delivered safely Change Execution Risk 92.2% green and 6.4% red Green <75% and Red >15% Green >92.5% and Red <5% 4 Finance 33% Maximising Group capabilities Delivering a capital efficient, low cost, profitable Bank Investment Performance 11 <5 .14 4 Cost:Income Ratio 48.5% >50.4% .46.4% 3 Statutory Profit after tax ‘3,006m <4,241 .5,831 1 Common Equity Tier 1 77bps <127bps >200.bps 1 Statutory Return on Tangible Equity 7.8% <11.5% .15.8% 1 STEP 1 STEP 2 STEP 3 STEP 4
Application of Group performance modifier
The modifier determined by Group Balanced Scorecard performance is applied to the proportion of UP allocated under Step 1.
2019 Balanced Scorecard Outcome | 1.00-1.49 | 1.5-1.79 | 1.8-2.09 | 2.1-2.39 | 2.4-2.69 | 2.7-2.99 | 3.0-3.29 | 3.3-3.59 | 3.6-3.89 | 3.9-4.19 | 4.2-4.49 | 4.5-4.79 | 4.8-5 |
Group Balanced Scorecard Modifier | 0.00 | 0.55 | 0.70 | 0.80 | 0.90 | 0.95 | 1.00 | 1.05 | 1.10 | 1.15 | 1.20 | 1.25 | 1.30 |
Group Balanced Scorecard Modifier | £417.4m x 1.00 =£417.4m |
Application of adjustments for risk, conduct and other factors. | ||
The overall pool was reduced by £107.3m to reflect the impact of conduct-related provisions and regulatory fines received during 2019. | £107.3m | |
Overall GPS pool | £310.1m |
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COMPENSATION
EXECUTIVE DIRECTORS’ GROUP PERFORMANCE SHARE OUTCOME FOR 2019
Balanced Scorecard performance
Individual awards for Executive Directors are determined through the assessment of individual performance using the Group or their divisional balanced scorecard. Awards will not be made if the Group does not meet threshold financial performance or if an individual receives a score below 2.6 out of 5.
Group Chief Executive António Horta-Osório The Group Chief Executive’s performance assessment for 2019 reflected the Group’s objectives For Group Balanced Scorecard please see page 103 Chief Operating Officer Juan Colombás Chief Operating Office Scorecard rating BSC category Assessment Customer 3.00 Colleague & Conduct 3.63 Finance 4.33 Chief Financial Officer William Chalmers Finance Division Scorecard rating BSC category Assessment Customer 3.00 Colleague & Conduct 3.29 Finance 2.71 Finance Division Scorecard rating BSC category Assessment Customer 3.00 Colleague & Conduct 3.29 Finance 2.71
Individual Performance Assessment and Committee Discretion
Personal contribution and how performance has been achieved through leadership approach may be considered where it diverges from scorecard outcomes. Judgement may be applied in deciding whether personal contribution should alter the mechanical outcome provided by balanced scorecard metrics.
Key considerations factored into assessing performance and overall rating include, but are not limited to, the following:
Other performance considerations Strong progress in executing the Group’s strategic transformation programme, with significant investment in technology, people and improved customer propositions Further progress on the strategy for growing our Financial Planning & Retirement business with the successful launch of our Schroders Personal Wealth joint venture But acknowledged organisational failures in the Group’s handling of some customers, including the victims of the historic HBOS Reading fraud Other performance considerations Strong leadership and oversight of the Group’s strategic transformation programme, transforming the Group for success in a digital world. Further investment and improvements delivered in the Group’s operational resilience, resulting in a c30% reduction in critical incident occurrences in 2019. Acknowledged failures in the handling of customers impacted by the historic HBOS reading fraud. Other performance considerations Strong start to tenure as CFO, overseeing a challenging second half, marked by the substantial increase in PPI provision related to the deadline for claims submission. Delivered costs, investments and FTE favourable to plan in 2019, maintaining cost efficiency versus peers. Successful acquisition of the Tesco mortgage book finalised under William’s stewardship Other performance considerations Prior to his retirement at the end of July, George oversaw delivery of a good financial performance in H1, with market leading efficiency and returns Balance sheet strength maintained with lower capital requirement Maintained prudent approach to growth and risk The Group Chief Executive and Chief Operating Officer voluntarily requested to be withdrawn from consideration for a 2019 award. Overall score 3.12/5 Overall score 3.12/5
GPS award commensurate with performance determined
Awards are initially based on pre-determined formulaic pay out ranges, commensurate with performance scores as follows:
Group Chief Executive: £1,220,000 (1 January 2017)
Chief Financial Officer: £764,070 (1 April 2017)
Chief Risk Officer: £753,458 (1 January 2017)Individual Performance Score 1.00 – 2.59 – Threshold 2.60 – 2.69– 2.70– 2.99– Target 3.00– 3.29– 3.30– 3.59– 3.60– 3.89– 3.90– 4.19– 4.20– 4.49– 4.50– 4.79– 4.80– 5.00– Maximum Opportunity (% of maximum) 0% 0.0% – 19.5%– 19.5% – 30.0%– 30.0% – 40.5% 40.5% – 51.0% 51.0% – 61.5%– 61.5% – 72.0%– 72.0% – 82.5% 82.5% – 93.0% 93.0% – 100.0%–
FIXED SHARE AWARDCommittee determine final award outcome
Judgement is applied by the Remuneration Committee to determine award levels with the formulaic pay-out ranges.
The levelsRemuneration Committee exercised its overall discretion to accept the voluntary withdrawal of the Group Chief Executive and Chief Operating Officer from consideration for a 2019 GPS award. Accordingly, no award set for value was determined.
Executive Directors | Balanced Scorecard | Final Individual Score | Award (% of max) | Group Funding Modifier1 | Final Award (% of max) | GPS Maximum Opportunity (% of salary) | Final Award (% of salary) | Final Award (£) |
António Horta–Osório | Group | – | – | – | – | 140% | – | – |
Juan Colombás | Chief Operating Office | – | – | – | 100% | – | – | |
William Chalmers | Finance | 3.12 | 34.2% | 71.9% | 24.6% | 100% | 24.6% | £195,528 |
George Culmer2 | Finance | 3.12 | 34.2% | 24.6% | 100% | 24.6% | £113,407 |
1 | The overall GPS pool was 28.1 per cent below the target pool of £431.2 million. Therefore, a downward adjustment of 28.1 per cent was applied to the award recommendations of William Chalmers and George Culmer. |
2 | Award pro-rated to reflect working days of employment. |
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COMPENSATION
2017 remain unchanged and are as follows:EXECUTIVE GROUP OWNERSHIP SHARE
Group Chief Executive: £900,000Ownership Share (GOS) Awards in the form of conditional rights to free shares in 2017 were made over shares with a value of 300 per cent of reference salary for the GCE and 275 per cent of salary for the former CFO and COO. These awards are vesting at 49.7 per cent, as detailed in the table below. The formulaic outcome reflects the Group’s solid financial and strong strategic performance over the three years ended 31 December 2019, balanced against a challenging economic and political environment impacting negatively on share price performance. This has resulted in no vesting for the Total Shareholder Return component and lower than expected Economic Profit.
The Committee has an overarching discretion to reduce the level of award that will vest, regardless of whether the performance condition for partial or full vesting has been met. This qualitative judgement ensures that vesting is not simply driven by a formula that may give an unexpected or unintended remuneration outcome compared to Group performance and that share price performance can also be considered. The Committee agreed that no adjustment would be applied to the vesting outcome of 49.7 per cent.
Shares will vest on a pro–rata basis up to the seventh anniversary of the award grant and each set of vested shares will be subject to a further holding period. Further details on deferral and holding can be found on pages 110-111.
Weighting | Measure | Threshold | Maximum | Actual | Vesting | |||||
30% | Absolute Total Shareholder Return | 8% p.a. | 16% p.a. | 5.6% p.a. | 0.00% | |||||
25% | Economic Profit1 | £3,074m | £3,769m | £3,138m | 7.97% | |||||
10% | Cost : Income Ratio2 | 47.2% | 45.7% | 45.9% | 8.00% | |||||
10% | Customer Complaint Handling | 3.52 complaints per 1,000 | 3.18 complaints per 1,000 | 2.72 | 5.00% | |||||
FCA reportable complaints | ||||||||||
Financial Ombudsman Service (FOS) uphold rate | =< 29% FOS uphold rate | =<25% FOS uphold rate | 26% | 3.75% | ||||||
10% | Customer Satisfaction | |||||||||
Group performance relative to market peers | 3rd | 1st | 1st | 10.00% | ||||||
7.5% | Digital | |||||||||
Active Customer Growth | 14.3m | 14.9m | 15.0m | 7.50% | ||||||
7.5% | People | |||||||||
Employee Engagement Index | 67 | 73 | 74 | 7.50% | ||||||
Award (% maximum) vesting 49.70% |
1 | A measure of profit taking into account Expected Losses, tax and a charge for equity utilisation |
2 | Adjusted to exclude remediation costs |
SINGLE TOTAL FIGURE OF REMUNERATION FOR CHAIRMAN AND NON-EXECUTIVE DIRECTORS
Fees £000 | Benefits £0002 | Total £000 | ||||||||||
2019 | 2018 | 2019 | 2018 | 2019 | 2018 | |||||||
Chairman and current Non–Executive Directors | ||||||||||||
Lord Blackwell | 758 | 743 | 12 | 12 | 770 | 755 | ||||||
Alan Dickinson | 240 | 230 | 1 | – | 241 | 230 | ||||||
Anita Frew | 356 | 380 | 1 | – | 357 | 380 | ||||||
Simon Henry | 186 | 182 | – | – | 186 | 182 | ||||||
Lord Lupton | 314 | 318 | 1 | – | 315 | 318 | ||||||
Amanda Mackenzie OBE | 156 | 31 | – | – | 156 | 31 | ||||||
Nick Prettejohn | 471 | 449 | 5 | – | 476 | 449 | ||||||
Stuart Sinclair | 210 | 172 | – | – | 210 | 172 | ||||||
Sara Weller CBE | 203 | 199 | 4 | – | 207 | 199 | ||||||
Sarah Legg1 | 6 | – | – | – | 6 | – | ||||||
Former Non–Executive Directors | – | |||||||||||
Deborah McWhinney | – | 174 | – | – | – | 174 |
1 | Appointed 1 December 2019. |
2 | The Chairman receives a car allowance of £12,000. Other benefits relate to reimbursement for expenses incurred in the course of duties. |
PAYMENTS FOR LOSS OF OFFICE
George Culmer retired as Chief Financial Officer: £504,000Officer and an Executive Director with effect from 1 August 2019 and retired from the Group on 2 August 2019.
Chief Risk Officer: £497,000
He received a payment of £79,595 in lieu of unused annual leave entitlement up to his Retirement Date. In accordance with contractual entitlements, George was entitled to a capped contribution of up to £10,000 (excluding VAT) towards legal fees incurred in connection with his retirement from the Company.
In accordance with retirement provisions, George has maintained outstanding deferred Group Performance Share awards under the 2016 GPS Plan (83,466 Shares), 2017 GPS Plan (176,108 Shares) and under the 2018 GPS Plan (501,341 Shares) which continue to be released on their scheduled release dates, subject to the relevant terms (including post-vesting holding periods, malus and, where applicable, clawback and deductions for national insurance and income tax).
A 2019 Group Performance Share award was made, pro-rated for the period of 2019 elapsed to George Culmer’s retirement date, as described on page 105. This award is subject to deferral, holding periods, malus and clawback. Under the Executive Group Ownership Plan Rules (Executive GOS), George Culmer’s outstanding 2017 and 2018 Executive GOS awards will be time pro-rated to his retirement date (2017 becomes 2,660,946 Shares and 2018 becomes 2,144,958 Shares). The awards remain subject to the performance measures which apply to the relevant awards and will continue to vest at the normal vesting dates and be released on their scheduled release dates, subject to the relevant terms (including post-vesting retention periods, malus and, where applicable, clawback and to deductions for national insurance and income tax).
No other payment for loss of office were made in 2019.
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COMPENSATION
PAYMENTS WITHIN THE REPORTING YEAR TO PAST DIRECTORS
There were no payments made to past directors in 2019.
EXTERNAL APPOINTMENTS
António Horta-Osório – During the year ended 31 December 2019, the GCE served as a Non- Executive Director of Exor, Fundação Champalimaud, Stichting INPAR Management/Enable and Sociedade Francisco Manuel dos Santos. The Group Chief Executive is entitled to retain the fees, which were £349,303 in total.
No other Executive Director served as a Non-Executive Director in 2019.
RELATIVE IMPORTANCE OF SPEND ON PAY
The graphs illustrate the total remuneration of all Group employees compared with returns of capital to shareholders in the form of dividends and share buyback.
Dividend £m 2019 2018 [xxx] 4,039 Salaries and performance-based compensation £m 2019 2018 2,919 2,991
1 | 2019: Ordinary dividend in respect of the financial year ended 31 December 2019, partly paid in 2019 and partly to be paid in 2020. 2018: Ordinary dividend in respect of the financial year ended 31 December 2018, partly paid in 2018 and partly paid in 2019 and intended share buyback. |
COMPARISON OF RETURNS TO SHAREHOLDERS AND GCE TOTAL REMUNERATION
The chart below shows the historical total shareholder return (TSR) of Lloyds Banking Group plc compared with the FTSE 100 as required by the regulations.
The FTSE 100 index has been chosen as it is a widely recognised equity index of which Lloyds Banking Group plc has been a constituent throughout this period.
TSR INDICES – LLOYDS BANKING GROUP AND FTSE 100
Growth in the value of a hypothetical £100 holding since 31 December 2009 (to 31 December 2019)
Growth in the value of a hypothetical £100 holding since 31 December 2009 (to 31 December 2019) Value of £100 invested on 31 December 2009 250 0 25 50 75 100 125 150 175 200 225 Dec 2009 Dec 2010 Dec 2011 Dec 2012 Dec 2013 Dec 2014 Dec 2015 Dec 2016 Dec 2017 Dec 2018 Dec 2019
CEO | 2010 | 2011 | 2012 | 2013 | 2014 | 2015 | 2016 | 2017 | 2018 | 2019 | ||||||||||||
GCE single figure of remunerati on £000 | J E Daniels | 2,572 | 855 | – | – | – | – | – | – | – | – | |||||||||||
António Horta-Osório | – | 1,765 | 3,398 | 7,475 | 11,540 | 8,704 | 5,791 | 6,434 | 6,544 | 4,727 | ||||||||||||
Annual bonus/ GPS payout (% of maximum opportunity) | J E Daniels | 62% | 0% | – | – | – | – | – | – | – | – | |||||||||||
António Horta-Osório | – | – | 62% | 71% | 54% | 57% | 77% | 77% | 67.60% | – | ||||||||||||
Long-term incentive vesting (% of maximum opportunity) | J E Daniels | 0% | 0% | – | – | – | – | – | – | – | – | |||||||||||
António Horta-Osório | – | 0% | 0% | 54% | 97% | 94.18% | 55% | 66.30% | 68.70% | 49.7% | ||||||||||||
TSR component vesting (% of maximum) | J E Daniels | 0% | 0% | – | – | – | – | – | – | – | ||||||||||||
António Horta-Osório | – | 0% | 0% | 25.30% | 30% | 30% | 0% | 0% | 0% | 0% |
Notes: J E Daniels served as GCE until 28 February 2011; António Horta-Osório was appointed GCE from 1 March 2011. António Horta-Osório declined to take a bonus in 2011 and independently requested that he be withdrawn from consideration for a Group Performance Share award in 2019.
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COMPENSATION
DIRECTORS’ SHARE INTERESTS AND SHARE AWARDS
DIRECTORS’ INTERESTS
Number of shares | Number of options | Total shareholding1 | Value | |||||||||||||
Owned outright | Unvested subject to continued employment | Unvested subject to performance | Unvested subject to continued employment | Vested unexercised | Total at 31 December 2019 | Total at 20 February 2020 | Expected value at 31 December 2019 (£000s)2 | |||||||||
Executive Directors | ||||||||||||||||
António Horta-Osório | 20,817,507 | 1,509,516 | 19,729,182 | 53,618 | 42,109,823 | 42,110,475 | 7 | 20,165 | ||||||||
Juan Colombás | 10,713,340 | 694,247 | 11,171,375 | 29,109 | 22,608,071 | 22,608,639 | 7 | 10,645 | ||||||||
William Chalmers³ | 705,398 | – | – | 3,268,460 | 3,973,858 | 3,973,858 | 2,485 | |||||||||
George Culmer4 | 16,626,666 | 677,449 | 6,854,490 | – | 24,158,605 | 24,158,605 | 12,967 | |||||||||
Non-Executive Directors | ||||||||||||||||
Lord Blackwell | 150,000 | – | – | – | – | 150,000 | 150,000 | n/a | ||||||||
Alan Dickinson | 200,000 | – | – | – | – | 200,000 | 200,000 | n/a | ||||||||
Anita Frew | 450,000 | – | – | – | – | 450,000 | 450,000 | n/a | ||||||||
Simon Henry | 250,000 | – | – | – | – | 250,000 | 250,000 | n/a | ||||||||
Sarah Legg5 | 0 | – | – | – | – | 0 | 0 | – | ||||||||
Lord Lupton | 1,000,000 | – | – | – | – | 1,000,000 | 1,000,000 | n/a | ||||||||
Amanda Mackenzie OBE | 63,567 | – | – | – | – | 63,567 | 63,567 | n/a | ||||||||
Nick Prettejohn6 | 69,280 | – | – | – | – | 69,280 | 69,280 | n/a | ||||||||
Stuart Sinclair | 362,664 | – | – | – | – | 362,664 | 362,664 | n/a | ||||||||
Sara Weller CBE | 372,988 | – | – | – | – | 372,988 | 372,988 | n/a |
1 | Including holdings of connected persons. |
2 | Awards subject to performance under the GOS had an expected value of 50 per cent of face value at grant (in line with the Remuneration Policy). Values are based on the 31 December 2019 closing price of 62.535 pence. |
3 | Appointed 1 August 2019. |
4. | Retired as Chief Financial Officer and an Executive Director with effect from 1 August 2019 and from the Group 2 August 2019. The number of shares in respect of which the GOS Awards (unvested subject to performance) vests, will be reduced to reflect the period from the start of the Performance Period to 2 August 2019, date of leaving, at the point of vest. |
5 | Appointed 1 December 2019. |
6 | In addition, Nick Prettejohn held 400 6.475 per cent preference shares at 1 January 2019 and 31 December 2019. |
7 | The changes in beneficial interests for António Horta-Osório (652 shares), Juan Colombás (568 shares) relate to ‘partnership’ and ‘matching’ shares acquired under the Lloyds Banking Group Share Incentive Plan between 31 December 2019 and 20 February 2020. There have been no other changes up to 20 February 2020. |
SHAREHOLDING REQUIREMENTS
Executives are expected to build and maintain a company shareholding in direct proportion to their remuneration in order to align their interests to those of shareholders. The minimum shareholding requirements Executive Directors are expected to meet are as follows: 350 per cent of base salary for the GCE and 250 per cent of base salary for other Executive Directors. Newly appointed individuals will have three years from appointment to achieve the shareholding requirement. In the event that exceptional individual circumstances exist resulting in an Executive not being able to comply with the Policy, the Remuneration Committee will consider whether an exception should apply.
In addition to the Group’s shareholding requirements, shares vesting are subject to holding periods in line with regulatory requirements.
For the year ending 31 December 2019, the GCE and COO continued to meet their shareholding requirements, as detailed within the illustration below. William currently holds 52 per cent of his salary in shares and will have until 2 June 2022 to achieve the requirement. At the time of his departure in August 2019, George Culmer held 1,233 per cent of his salary in shares.
The Group does not operate a formal post-employment shareholding policy. Existing reward structures and the Long Term Share Plan under the proposed new Policy have been designed in line with regulatory requirements and ensure that a substantial proportion of variable reward for Executive Directors and other senior employees takes the form of shares deferred and held over a period of up to eight years. These structures already ensure that Executive Directors continue to meet our shareholding requirements for a minimum of two years after leaving the Group.
António Horta-Osório 350% George Culmer 250% 782% 1,233% 952% Juan Colombás 250% 52% William Chalmers Shareholding requirement Actual shareholding1 Shareholding requirement Actual shareholding1 Shareholding requirement Actual shareholding1 0 130 260 390 520 650 780 910 1040 1170 1300 0 130 260 390 520 650 780 910 1040 1170 1300 0 130 260 390 520 650 780 910 1040 1170 1300 Shareholding requirement Actual shareholding1
1 | Calculated using the average share price for the period 1 January 2019 to 31 December 2019 (58.07 pence). Includes ordinary shares acquired through the vesting of the deferred Group Performance Share plan, Fixed Share Awards as the shares have no performance conditions; American Deposit Receipts (ADRs) with each one ADR equating to four shares, Executive Share Awards which have vested but have not been exercised; shares held in the Share Incentive Plan (SIP) Trust, i.e. Free, Partnership, Matching and Dividend shares which are no longer subject to forfeiture, as defined in the SIP Rules. Shares held by Connected Persons, as defined by the Companies Act, but broadly meaning spouse or partner and children, may also be included. |
None of those who were Directors at the end of the year had any other interest in the capital of Lloyds Banking Group plc or its subsidiaries.
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COMPENSATION
OUTSTANDING SHARE PLAN INTERESTS
Vested / | At 31 | Exercise periods | ||||||||||||||||||
At 1 January 2019 | Granted/ awarded | Dividends awarded | released / exercised | Lapsed | December 2019 | Exercise price | From | To | Note | |||||||||||
António Horta-Osório | ||||||||||||||||||||
LTIP 2016-2018 | 5,015,210 | – | 509,271 | 3,445,449 | 1,569,761 | – | 1,2,3 | |||||||||||||
GOS 2017-2019 | 5,318,685 | – | – | – | – | 5,318,685 | 3 | |||||||||||||
GOS 2018-2020 | 6,725,221 | – | – | – | 6,725,221 | 3 | ||||||||||||||
GOS 2019-2021 | 7,685,276 | 7,685,276 | 3, 4 | |||||||||||||||||
Deferred GPS awarded in 2018 | 1,166,466 | 777,644 | 388,822 | 10 | ||||||||||||||||
Deferred GPS awarded in 2019 | 1,494,258 | – | 373,564 | – | 1,120,694 | 6 | ||||||||||||||
2016 Sharesave | 14,554 | – | – | – | – | 14,554 | 47.49p | 01/01/2020 | 30/06/2020 | |||||||||||
2017 Sharesave | 21,728 | – | – | – | 21,728 | 51.03p | 01/01/2021 | 30/06/2021 | ||||||||||||
2019 Sharesave | 17,336 | 17,336 | 39.87p | 01/01/2023 | 30/06/2023 | |||||||||||||||
Juan Colombás | ||||||||||||||||||||
LTIP2016-2018 | 2,728,973 | – | 277,114 | 1,874,804 | 854,169 | – | 1,2,3 | |||||||||||||
GOS 2017-2019 | 2,951,987 | – | – | – | 2,951,987 | 3 | ||||||||||||||
GOS 2018-2020 | 3,807,302 | – | – | – | 3,807,302 | 3 | ||||||||||||||
GOS 2019-2021 | 4,412,086 | 4,412,086 | 3,4 | |||||||||||||||||
Deferrred GPS awarded in 2018 | 528,320 | 352,212 | 176,108 | 10 | ||||||||||||||||
Deferred GPS awarded in 2019 | 668,453 | 167,112 | 501,341 | 6 | ||||||||||||||||
2016 Sharesave | 29,109 | – | – | – | – | 29,109 | 47.49p | 01/01/2020 | 30/06/2020 | |||||||||||
William Chalmers | ||||||||||||||||||||
Share Buy-Out | 818,172 | 818,172 | 7,8 | |||||||||||||||||
1,457,748 | 1,457,748 | 28/01/2020 | 27/01/2025 | 7 | ||||||||||||||||
1,124,627 | 1,124,627 | 28/01/2021 | 27/01/2026 | 7 | ||||||||||||||||
686,085 | 686,085 | 28/01/2022 | 27/01/2027 | 7 | ||||||||||||||||
George Culmer | ||||||||||||||||||||
LTIP 2016-2018 | 2,767,409 | – | 281,017 | 1,901,209 | 866,200 | – | 1,2,3 | |||||||||||||
GOS 2017-2019 | 2,993,565 | – | – | – | 2,993,565 | 3,5 | ||||||||||||||
GOS 2018-2020 | 3,860,925 | – | – | – | 3,860,925 | 3,5 | ||||||||||||||
Deferred GPS awarded in 2018 | 528,320 | 352,212 | 176,108 | 10 | ||||||||||||||||
Deferred GPS awarded in 2019 | 668,453 | 167,112 | 501,341 | 6 | ||||||||||||||||
2016 Sharesave | 14,554 | – | – | 13,341 | 1,213 | – | 47.49p | 9 |
1. | The shares awarded in March 2016 vested on 7 March 2019. The closing market price of the Group’s ordinary shares on that date was 62.15 pence. Shares vested are subject to a further two-year holding period. |
2. | 2016 LTIP award was eligible to receive an amount equal in value to any dividends paid during the performance period. Dividend equivalents have been paid based on the number of shares vested and have been paid in shares. The dividend equivalent shares were paid on 7 March 2019. The closing market price of the Group’s ordinary shares on that date was 62.15 pence. The dividend equivalent shares are not subject to any holding period. |
3. | All GOS have performance periods ending 31 December at the end of the three-year period. Awards were made in the form of conditional rights to free shares. |
4. | Awards (in the form of conditional rights to free shares) in 2019 were made over shares with a value of 300 per cent of salary for António Horta-Osório (7,685,276 shares with a face value of £3,733,200) and 275 per cent for Juan Colombás (4,412,086 shares with a face value of £2,143,215). No award was made to George Culmer. The share price used to calculate face value is the average price over the five days prior to grant (27 February to 5 March 2019), which was 63.052 pence. As regulations prohibit the payment of dividend equivalents on awards in 2018 and subsequent years, the number of shares awarded has been determined by applying a discount factor to the share price on award. An adjustment of 29.8 per cent was applied. Performance conditions for this award are set out in the table on page 110. |
5. | The number of Shares in respect of the 2017 and 2018 GOS Awards are stated in full and will be reduced to reflect the period from the start of the Performance Period to the date of leaving (2 August 2019) at the point of vest in accordance with the appropriate plan rules. |
6. | Part of GPS is deferred into shares (in the form of conditional rights to free shares). The face value of the share awards in respect of GPS granted in March 2019 was £942,160 (1,494,258 shares) for António Horta-Osório; £421,473 (668,453 shares) for Juan Colombás and £421,473 (668,453) for George Culmer. The share price used to calculate the face value is the average price over the five days prior to grant (27 February to 5 March 2019), which was 63.052 pence. |
7. | William Chalmers joined the Group on 3 June 2019 and was appointed as Chief Financial Officer on 1 August 2019 on the retirement of George Culmer. He was granted deferred cash of £2,046,097 and deferred share awards over 4,086,632 Shares, to replace unvested awards from his former employer, Morgan Stanley, that were forfeited as a result of him joining the Group. The deferred cash and the number of Shares over which the deferred share awards were granted was calculated using the USD:GBP exchange rate of 1.2664 and the respective mid-market closing prices of Mr Chalmers’ previous employer and the Group on 3 June 2019 (57.05 pence) resulting in a face value of the awards of £4,377,521. The award is subject to vesting terms in line with those forfeited as set out above, and is on materially the same terms as the Executive Group Ownership Share (ExGOS), including the discretions as summarised on page 93 of the 2017 Annual Report, but as the award is a buy-out it is not subject to performance conditions and is not subject to time pro-rating in a good leaver circumstances. The award is subject to malus and clawback on the same terms as ExGOS awards, and in addition is subject to clawback in the event of resignation within one year of grant. The value of the award is not pensionable. |
8. | Options vested on 18 July 2019 and William Chalmers exercised on 1 August 2019. The closing market price of the Group’s ordinary shares on that date was 52.84 pence. Mr Chalmers retained all the shares apart from 384,733 shares which were sold to meet income tax and National Insurance contributions. Shares are subject to a six month holding period from the date of vesting on 18 July 2019. |
9. | Mr Culmer had six months from his date of retirement to exercise his Sharesave options. Options were exercised on 7 November 2019 and savings made to date were used to buy shares. The closing market price of the Group’s ordinary shares on that date was 57.20 pence. |
10. | Part of GPS is deferred into shares. The face value of the share awards in respect of GPS granted in March 2018 was £1,058,016 (1,555,288 shares) for António Horta-Osório; £479,200 (704,426 shares) for Juan Colombás and £479,200 (704,426) for George Culmer. The share price used to calculate the face value is the average price over the five days prior to grant (27 February to 5 March 2019), which was 63.052 pence. |
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2019 GROUP OWNERSHIP SHARE PERFORMANCE MEASURES (FOR AWARDS MADE IN MARCH 2019)
Meeting threshold performance will result in 25 per cent vesting of each metric, relative to each weighting.
Strategic priorities | Measure | Basis of payout range | Metric | Weighting | ||||
Creating the best customerexperience | Customer satisfaction | Major Group average ranking over2021 | Threshold: 3rd Maximum: 1st | 10% | ||||
Digital net promoter score | Set relative to 2021 targets | Threshold: 65.3 Maximum: 68.3 | 7.5% | |||||
FCA total reportable complaints and FinancialOmbudsman Service (FOS) change rate | Set relative to 2021 targetsAverage rates over 2020 | Threshold: 2.891and ≤ 29%2 Maximum: 2.611and ≤ 25%2 | 10% | |||||
Becoming simpler andmore efficient | Statutory economic profit3 | Set relative to 2021 targets | Threshold: £2,210m Maximum: £3,315m | 25% | ||||
Cost:income ratio | Set relative to 2021 targets | Threshold: 45.9% Maximum: 43.4% | 10% | |||||
Delivering sustainablegrowth | Absolute total shareholder return (TSR) | Growth in share price includingdividends over 3-year period | Threshold: 8% p.a. Maximum: 16% p.a. | 30% | ||||
Building the best team | Employee engagement index | Set relative to 2021 markets norms | Threshold: +5% vs. 2021 UK Norm Maximum: +2% vs. 2021 UK HighPerforming Norm | 7.5% |
1 | FCA reportable complaints per 1,000 accounts. |
2 | FOS uphold rate. |
3 | A measure of profit taking into account Expected Losses, tax and a charge for equity utilisation. |
IMPLEMENTATION OF THE POLICY IN 2020
The 2020 Remuneration Policy is subject to approval at the Annual General Meeting in May 2020. We propose to implement the Policy in the following ways subject to shareholder approval. A final 2020 Group Ownership Share award will be granted under the existing Remuneration Policy prior to the AGM when the 2020 Remuneration Policy is intended to come into effect.
Base Salary | The Group has applied a total pay budget of 2.4 per cent including a minimumpay award of £500 for eligible colleagues. Focussing on lower paid colleagues andcolleagues paid lower in their pay range, the Group’s pay approach ensures over 63 percent of colleague will receive a pay award of 2.5 per cent or more. The pay budget forsenior executives is set below the budget for the wider colleague at 2 per cent. | It was agreed that a salary increase of 2 per cent would applyfor the Group Chief Executive (GCE) and Chief FinancialOfficer (CFO). Following confirmation that the ChiefOperating Officer (COO) is due to retire in 2020, his salary isdue to remain in line with 2019. Salaries will therefore be as follows: GCE: £1,294,674 (with effect from 1 January 2020) COO: £794,938 CFO: £810,837 (with effect from 1 April 2020) | ||
Fixed ShareAward | Awards remain unchanged from 2019 as follows: GCE: £1,050,000 COO: £497,000 CFO: £504,000 | Subject to approval shares will be released in equal tranchesover three years. (See page 135 for further details). | ||
Pension | With effect from 1 January 2020, pension allowances will be reduced for all ExecutiveDirectors to 15 per cent of base salary. Any new Executive Director appointments in2020 will also attract a maximum allowance of 15 per cent of base salary. | Over 50,000 colleagues participate in the Group’s DefinedContribution (DC) Pension scheme. We therefore believe theDC pension provisions provide an accurate reflection of thepension rate available to the majority of the workforce. Witheffect from July 2020 the maximum employer contributionfor all colleagues will be 15 per cent of base salary andExecutive Directors will be aligned to the majority of theworkforce. | ||
Benefits | Benefits remain unchanged from 2019. Executive Directors receive a flexible benefitallowance in line with colleagues, (4 per cent of base salary). This can be used to selectbenefits including life assurance and critical illness cover. Other benefits include carallowance, transportation tax preparation and private medical cover. | |||
GroupPerformanceShare | The approach to determining the Group’s Group Performance Share outcome for2020 will remain aligned to the approach from 2019. A fixed five per cent of adjustedUnderlying Profit (UP) will be used as a starting position for the overall pool. Thisremains within the maximum plan limit of 10 per cent of UP and a financial performancethreshold will be set at 20 per cent below the Group’s underlying profit target, at whichno award will be payable. A measurement of the Group’s performance will be assessed against BalancedScorecard objectives and receive a score from 1 to 5. The Group Balanced Scorecardmust exceed a threshold score of 1.5, below which no award will be payable. The fixed 5 per cent of UP will be adjusted by a scorecard modifier commensurate withthe Group Balanced Scorecard performance score. Adjustments for conduct and riskfactors will also be considered when determining the final overall pool. Individual maximum opportunities for Executive Directors remain unchanged from2019 at 140 per cent of base salary for the GCE and 100 per cent of base salary for otherExecutive Directors. Individual awards will be based on pre-determined formulaic pay out rangescommensurate with performance and will be determined by the RemunerationCommittee through the assessment of a balanced scorecard and an individualperformance assessment. The Committee will determine if an Executive Director’spersonal performance justifies a variation up or down in the rating or award valuesdetermined by the scorecard, and will explain how this is determined. The Group ChiefExecutive’s individual performance will be measured through the Group BalancedScorecard, the Chief Operating Officer will be measured through the Chief OperatingOffice scorecard and the Chief Financial Officer will be measured through the FinanceDivision scorecard. | The 2020 scorecards will provide a balanced view acrossfinancial, operational and strategic measures equallyweighted between 15 financial, customer and colleague andconduct measures. Target will be assessed against a ratingscale of 1 to 5. The Committee considers the specific targets thatapply to 2020 to be commercially sensitive but willprovide information on the level of payout relative to theperformance achieved in next year’s annual report onremuneration. For the 2020 performance year, any Group PerformanceShare opportunity will be awarded in March 2021 in acombination of cash (up to 50 per cent) and shares. 40 percent will be released in the first year following the awardwith £2,000 paid in cash, and the balance of the upfront 40per cent delivered in shares; 50 per cent of which will besubject to holding until March 2022. The remaining 60 percent is deferred into shares with 40 per cent vesting in 2022and 20 per cent in 2023. 50 per cent of each release will besubject to a further 12-month holding in line with regulatoryrequirements. The Committee may consider the application of malusand clawback as outlined in the performance adjustmentsection. |
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COMPENSATION
GroupOwnershipShare | A Group Ownership Share award will be granted in relation to 2019 performance underthe terms of the current Remuneration Policy. On the basis of the new Long Term SharePlan being approved by shareholders at the 2020 AGM, no further Group OwnershipShare awards would then be made. The maximum Group Ownership Share award for Executive Directors is 300 per cent ofsalary and the Remuneration Committee has to ability to grant an award up to 400 percent of salary for exceptional circumstances for the Group Chief Executive. Followingconfirmation that the Chief Operating Officer (COO) is due to retire in 2020, no awardwill be made. Awards in 2020 are being made as follows: GCE: 250 per cent of base salary COO: No award CFO: 237.5 per cent of base salary As regulations prohibit the payment of dividend equivalents on awards, the number ofshares subject to the award has been determined by applying a discount factor to theshare price on grant, as previously disclosed. The Committee approved an adjustmentof 29.03 per cent for colleagues who are senior managers, including the ExecutiveDirectors. | Awards will be subject to a three-year performance periodwith vesting between the third and seventh anniversaryof award, on a pro-rata basis. Any shares released aresubject to a further holding period in line with regulatoryrequirements and market practice. Meeting thresholdperformance will result in 25 per cent vesting of each metric,relative to each weighting. Awards made in 2020 will vest based on the Group’sperformance against the financial and strategic measures,set out below. In line with the current Remuneration Policy,the Committee has full discretion to amend payout levelsshould the award not reflect business and/or individualperformance. Business performance includes, but is notlimited to, consideration of returns to shareholders. There are no changes to proposed financial and strategicmeasures to provide consistency with the 2019 plan andcontinued alignment to the key strategic priorities as set outin the third Group Strategic Review. The Committee may consider the application of malusand clawback as outlined in the performance adjustmentsection. |
Strategic priorities | Measure | Basis of payout range | Metric | Weighting | ||||||
Group continued | Creating the best customerexperience | Customer satisfaction | Major Group averageranking over 2022 | Threshold: 3rd Maximum: 1st | 10% | |||||
Digital net promoter score | Set relative to 2022 targets | Threshold: 65.3 Maximum: 68.3 | 7.5% | |||||||
FCA total reportablecomplaints and FinancialOmbudsman Service (FOS)change rate | Set relative to 2022 targetsAverage rates over 2022 | Threshold: 2.65 Maximum: 2.52 Threshold: 30% Maximum: 25% | 15% | |||||||
Becoming simpler and more Statutory economic profit1efficient | Set relative to 2022 targets | Threshold: £1,965m Maximum: £2,948 | 25% | |||||||
Cost: income ratio | Set relative to 2022 targets | Threshold: 46.4% Maximum: 43.9% | 10% | |||||||
Delivering sustainablegrowth | Absolute total shareholderreturn (TSR) | Growth in share priceincluding dividends over3-year period | Threshold: 8% Maximum: 16% | 40% | ||||||
Building the best team | Employee engagementindex | Set relative to 2022 marketsnorms | Threshold: +5% vs UK norm Maximum: +2% vs UK HighPerforming Norm | 7.5% | ||||||
1 | A measure of profit taking into account expected losses, tax and a charge for equity utilisation. |
Performanceadjustment | Performance adjustment is determined by the Remuneration Committee and/orBoard Risk Committee and may result in a reduction of up to 100 per cent of the GPSand/or GOS opportunity for the relevant period. It can be applied on a collective orindividual basis. When considering collective adjustment, the Senior IndependentPerformance Adjustment and Conduct Committee (SIPACC) submits a report to theRemuneration Committee and Board Risk Committee regarding any adjustmentsrequired to balanced scorecards or the overall GPS and/or GOS outcome to reflectin-year or prior year risk matters. The application of malus will generally be considered when: – there is reasonable evidence of employee misbehaviour or material error or thatthey participated in conduct which resulted in losses for the Group or failed to meetappropriate standards of fitness and propriety; – there is material failure of risk management at a Group, business area, division and/or business unit level; – the Committee determines that the financial results for a given year do not supportthe level of variable remuneration awarded; and/or | – any other circumstances where the Committee consideradjustments should be made. Judgement on individual performance adjustment isinformed by taking into account the severity of the issue,the individual’s proximity to the issue and the individual’sbehaviour in relation to the issue. Individual adjustmentmay be applied through adjustments to balancedscorecard assessments and/or through reducing the GPSand/or GOS outcome. Awards are subject to clawback for a period of up to sevenyears after the date of award which may be extended to10 years where there is an ongoing internal or regulatoryinvestigation. The application of clawback will generally be consideredwhen: – there is reasonable evidence of employee misbehaviouror material error; or – there is material failure of risk management at a Group,business area, division and/or business unit level. |
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COMPENSATION
CHAIRMAN AND NON-EXECUTIVE DIRECTOR FEES IN 2019
The annual fee for the Chairman was increased by 2 per cent to £772,855, in line with the overall salary budget for the executive population. The annual Non-Executive Director fees were increased by 2 per cent, in line with the base salary increase awarded to the senior management of the Group. These changes took effect from 1 January 2020.
2020 | 2019 | |||
Basic Non-Executive Director fee | £81,200 | £79,600 | ||
Deputy Chairman | £106,000 | £104,000 | ||
Senior Independent Director | £63,600 | £62,400 | ||
Audit Committee Chairmanship | £74,300 | £72,800 | ||
Remuneration Committee Chairmanship | £74,300 | £72,800 | ||
Risk Committee Chairmanship | £74,300 | £72,800 | ||
Responsible Business Committee Chairmanship | £42,400 | £41,600 | ||
IT Forum Chairmanship | £42,400 | £41,600 | ||
Audit Committee Membership | £34,000 | £33,300 | ||
Remuneration Committee Membership | £34,000 | £33,300 | ||
Risk Committee Membership | £34,000 | £33,300 | ||
Responsible Business Committee Membership1 | £15,900 | £15,600 | ||
Nomination and Governance Committee Membership | £15,900 | £15,600 |
1 | New members only. |
Non-Executive Directors may receive more than one of the above fees.
PERCENTAGE CHANGE IN REMUNERATION POLICYLEVELS
Figures for ‘All employees’ are calculated using figures for all colleagues eligible for the GPS plan. This population is considered to be the most appropriate group of employees for these purposes because its remuneration structure is consistent with that of the GCE. For 2019, 66,216colleagues were included in this category.
% change in base salary (2018 to 2019) | % change in GPS (2018 to 2019) | % change in benefits (2018 to 2019) | ||||
GCE (salary increase effective 1 January 2020) | 2.0% | (100%)1 | 2.0% | |||
All employees | 2.4%2 | (31.7%)2 | 2.4%2 |
1 | Reflects the increase in base salary from 1 January 2019 against which the award is determined. |
2 | Adjusted for movements in colleagues numbers and other impacts to ensure a like-for-like comparison. Salary increases effective 1 April 2020. |
GENDER PAY
We have further reduced our gender pay gap in 2019 resulting in a 1.9 per cent improvement since 2017.
At Lloyds Banking Group we are committed to promoting a diverse and inclusive working environment. Our focus is on improving the gender pay and bonus gaps by increasing the proportion of women in senior roles. In doing so, the gender gaps will reduce over time. We are committed to attracting and retaining the best talent and we are pleased that our 2019 mean gender pay and bonus gaps have reduced further this year.
The reduction in the pay gap can be attributed to an improvement in female representation across the Bank, with an increase in the proportion of female colleagues in senior roles. The proportion of women in the upper pay quartile for the Group has increased. We are pleased to see that our efforts have started to decrease our gender pay gap, however we are aware that there continue to be more men in senior roles. Addressing female representation across the Bank will take time and we are committed to achieving our gender targets will have an impact on our pay gaps in future years. Further information is available at: https://www.lloydsbankinggroup.com/globalassets/our-group/responsible-business/ reporting-centre/lloyds-banking-group-gender-pay-gap-report-2019.pdf
2018 2019 Mean Pay Gap % 31.5% 30.9% 2018 2019 Mean Bonus Gap % 66.4% 64.2%
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COMPENSATION
CEO PAY RATIO
Total Compensation | Fixed pay | |||||||
Year | Methodology | P25 (Lower Quartile) | P50 (Median) | P75 (Upper Quartile) | P25 (Lower Quartile) | P50 (Median) | P75 (Upper Quartile) | |
2019 | A | 179:1 | 128:1 | 71:1 | 114:1 | 82:1 | 47:1 | |
2018 | A | 237:1 | 169:1 | 93:1 | 113:1 | 81:1 | 48:1 | |
2017 | A | 245:1 | 177:1 | 97:1 | 113:1 | 82:1 | 48:1 | |
Y-o-Y (2018 vs 2019) | (24%) | 1% |
Notes to the calculation:
The 2019 total remuneration for the colleagues identified at P25, P50 and P75 are as follows: £26,419, £36,975, £66,944. | |
The 2019 base salary for the colleagues identified at P25, P50 and P75 are as follows: £22,227, £31,671, £50,431. | |
The P25, P50 and P75 colleagues were determined on 12 February 2020 based on calculating total remuneration for all UK employees for the 2019 financial year. Payroll data from 1 January 2019 to 31 December 2019 and variable remuneration outcomes approved in February 2020 were used. | |
Methodology option A has been used and was selected on the basis that it provided the most accurate means of identifying the median, lower and upper quartile colleagues. | |
Colleague total remuneration has been calculated in line with the single total figure of remuneration. The single total figure of remuneration calculated for each of the 62,364 UK colleagues includes full time equivalent base pay, Group Performance Share awards for the 2019 performance year, vesting Group Ownership Share awards (for eligible colleagues), core benefits, pension, overtime and shift payments, travel/relocation payments (for eligible colleagues) and private medical benefit. | |
The average share price between 1 October 2019 and 31 December 2019 (59.34 pence) has been used to indicate the value of vesting Group Ownership Share awards. | |
The colleague identified at P50 did not receive a separate car benefit and does not participate in the long-term incentive plan. As a result, the ratio does not provide a direct comparison to the total remuneration of the Group Chief Executive. | |
Each of the three individuals identified was a full-time employee during the year. | |
Due to operational constraints, inflationary adjustments to defined benefit pensions are excluded. | |
All other data has been calculated in line with the methodology for the single total figure of remuneration for the Group Chief Executive. |
The median ratio has decreased 24 per cent year-on-year. The reduction is largely attributed to the Group Chief Executive’s request to withdraw from consideration by the Remuneration Committee (the Committee) for a Group Performance Share award for 2019. Volatility in variable reward outcomes has contributed to the year-on-year changes in the ratio.
The Committee is thoughtful of the volatility in pay ratios due to variable reward outcomes. Although the pay ratio is used as a useful reference point to inform policy-setting, the Committee takes into account a number of other factors to assess colleague pay progression.
For the majority of colleagues, year-on-year changes in remuneration are principally driven by pay increases. We are committed to reducing the pay gap between executives and wider colleagues and continue to remain focused on addressing the gap from the bottom up and not just from the top down. To support this, the Group has a commitment to pay progression and a continued focus on ensuring higher pay awards for colleagues who are lower paid, or paid lower within their pay range.
For 2020, the pay budget has been set at 2.4 per cent, with over 63 per cent of colleagues at lower grades receiving a pay award of 2.5 per cent or over. The pay budget for senior colleagues was set lower, at 2 per cent.
A minimum pay award of £500 will apply for all eligible colleagues and pay awards of up to 3.5 per cent for the lowest paid colleagues. We are proud to be an accredited Living Wage employer since 2015, and from April 2020 we will go further and raise the minimum salary for all full-time colleagues to £18,200, reflecting a rate of £10 per hour. For some colleagues this will result in an increase of up to 3.94 per cent and is 22 per cent greater than the National Living Wage and 70 pence greater than current National Living Wage Foundation’s UK wide real Living Wage.
We believe our approach to pay progression has contributed to the reduction of the 2019 median pay ratio and supports reducing the gap between executive and wider colleague pay over time. For example, the colleague who is now at P25 for 2019 received a 2.69 per cent pay increase which brought them up from P24 to that level.
REMUNERATION COMMITTEE
The Committee comprises six Non-Executive Directors; Stuart Sinclair (Chair), Lord Blackwell, Alan Dickinson, Anita Frew, Sara Weller and Amanda Mackenzie; to provide a balanced and independent view on remuneration matters. Stuart Sinclair has been Chair of the Committee since 1 September 2018 and has been a member of the Committee since January 2016. For further details of Committee membership and attendance at meetings, please see page 145.
The purpose of the Committee is to set the remuneration for all Executive Directors and the Chairman, including pension rights and any compensation payments. It recommends and monitors the level and structure of remuneration for senior management and material risk takers. It also considers, agrees and recommends to the Board an overall remuneration policy and philosophy for the Group that is aligned with its long-term business strategy, its business objectives, its risk appetite, purpose and values and the long-term interests of the Group, and recognises the interests of relevant stakeholders, including the wider workforce. The Committee’s operation is designed to ensure that no conflicts of interest arise, and in particular, the Committee ensures that no individual is present when matters relating to their own remuneration are discussed.
Mercer was appointed by the Committee in 2016 following a competitive tender process and was retained for 2019. The Committee is of the view that Mercer provides independent remuneration advice to the Committee and does not have any connections with the Group or any director that may impair its independence. The broader Mercer company provides unrelated advice on accounting and investments. During the year the Committee requested advice and independent research on market and best practice in relation to fixed and variable reward structures to support formulating the Policy. Mercer attended Committee meetings upon invitation and fees payable for the provision of services in 2019 were £31,630.
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COMPENSATION
HOW THE REMUNERATION COMMITTEE SPENT ITS TIME IN 2019 AND COMPLIANCE WITH THE 2018 CORPORATE GOVERNANCE CODE
EXECUTIVES Key highlights: Assurance that the new Policy supports the delivery of the Group’s purpose and long-term goals whilst rewarding the right behaviours in line with the Group’s culture and values. | COLLEAGUES AND WIDER WORKFORCE Key highlights: Delivery of the Group’s new performance management approach ‘Your Best’ and colleague understanding of the link between performance and reward. | ADDITIONAL STAKEHOLDERS Key highlights: Consideration of a balanced range of opinions from stakeholders on remuneration matters. | |||||
Oversight and approval | Oversight | Oversight and engagement | |||||
Review of 2018 performance andremuneration for EDs and seniormanagement. Particularly focused ondiscussing and challenging performanceoutcomes and the direct implications ofrisk and conduct on reward outcomes. Comfortable that the Directors’ Remuneration Policy worked effectively in 2019, ensuring that there was true alignment between pay and performance notwithstanding that there were areas of development to consider when designing the new policy. The 2019 executive pay budget was setin the context of the wider colleague paybudget. Pay increases were approvedon the basis that they were lower thanpay increases for wider colleagues. Theimplications of pay increases on futureCEO pay ratios and the Group’s approachto pay progression was considered. Code Provision 40. When designing thenew Directors’ Remuneration Policy, theCommittee has aimed to design clear andtransparent remuneration structures thatreduce complexity and promote behavioursthat support the Group’s purpose, valuesand culture. Risk and conduct has beenconsidered to avoid rewarding for failureand the range of possible values of rewardsEDs can potentially receive have beenreviewed. Please see pages 117 to 121 forexamples of how we have considered the key principles of Provision 40 in 2019. | 2020 Colleague Pension Policy and how the changes support the Group’s culture. When finalising the changes to the Group’s DC employer pension offering including the reduction to ED pensions, the potential impact on pay ratios including gender pay were considered. Received a quarterly report on key colleague and wider workforce reward activity including in-year spend on colleague pay increases and a review of the Group Remuneration Policy for third party suppliers sharing enhancements to the assessment framework used to ensure third party reward polices align to the Group’s own principles. Constructive engagement with the Group’s recognised Unions, particularly on the deployment of the Group Performance Share model with the introduction of ‘Your Best’, the improvements to the DC pension scheme for all colleagues, the broader reward package the Group offers and 2019 discussions on pay budgets. Together the Unions are recognised across a bargaining unit of circa. 95 per cent of colleagues and continue to play a valuable role in representing colleagues across the Group. To support colleagues to better understand the approach to determining GPS awards across the Group, including Executive Directors, the Committee gained insight into how the Group has used internal media channels to explain the process in a clear and transparent way and to emphasise the link between pay and performance. | Regular updates on corporate governance and institutional remuneration principles changes. The regulators were invited to attend committee meetings in 2019 and gain greater understanding of Committee debates in relation to performance and reward outcomes. The Chair attended the Work and Pensions Select Committee and reiterated intentions to focus on purpose and behaviour when designing the Policy in its entirety whilst also gaining further insight into external sentiment felt in relation to executive pensions. | |||||
STATEMENT OF VOTING AT ANNUAL GENERAL MEETING
The table below sets out the voting outcome at the Annual General Meeting in May 2019 in relation to the annual report on remuneration and the Remuneration Policy, last voted on in 2017.
Votes cast in favour | Votes cast against | Votes withheld | ||||||||
Number of shares (millions) | Percentage of votes cast | Number of shares (millions) | Percentage of votes cast | Number of shares (millions) | ||||||
2018 annual report on remuneration (advisory vote) | 43,322 | 91.95% | 3,790 | 8.05% | 1,006 | |||||
Directors’ remuneration policy (binding vote in 2017) | 47,673 | 98.03% | 959 | 1.97% | 535 |
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2020 Remuneration policy
Approval for this remuneration policyRemuneration Policy will be sought at the AGM on 1121 May 20172020 and, if approved, will take effect from that date.
It is intended that approval of the remuneration policyRemuneration Policy will be sought at three-year intervals, unless amendments to the policyPolicy are required, in which case further shareholder approval will be sought. Information on how the Policy will be implemented in 20172020 is included in the annual report on remuneration.
The Group’s policy continues to help ensure that the remuneration proposition is both cost effective and enables the Group to attract and retain executivesobjective of the highest calibre. The objectivePolicy is to align individual reward with the Group’s performance, the interests of its shareholders and a prudent approach to risk management. In this way, the requirements of the major stakeholders are balanced: customers, shareholders, employees, and regulators.
The policy is based on principles which are applicable to all employees within the Group and, in particular, the principle that the reward package should support the delivery of the Group’s purpose of helpingHelping Britain prosperProsper and the strategic aim of becoming the best bank for customers whilst delivering long-term superior and sustainable returns to shareholders. It fosters a performance-drivenperformance in line with the Group’s values and meritocratic culture,behaviours, encourages effective risk disciplines and is in line with relevant regulations and codes of best practice.
DECISION MAKING PROCESS FOR DETERMINING THE POLICY AND CONSIDERATION OF STAKEHOLDER VIEWS
In formulating the Policy, the Remuneration Committee has consulted extensively with a number of stakeholders including institutional shareholders and the Group’s main regulators, the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA). A formal consultation on the remuneration of Executive Directors was not undertaken with colleagues. However, constructive engagement with the Group’s recognised Unions took place on key elements of the reward package and the unions continue to play a valuable role in representing colleagues across the Group. The Committee also increased its level of oversight on remuneration matters for colleagues and the wider workforce in 2019, receiving overviews and analysis on key reward matters on a quarterly basis to support decisions in relation to executive remuneration.
The Chairman of the Remuneration Committee alongside senior management consulted with shareholders extensively and the proposed amendments to the Policy were deliberated by the Remuneration Committee at three separate committee meetings. Throughout the process, the Committee Chair kept an open dialogue with key stakeholders to provide updates on amendments and additional points of consideration within the Policy following their feedback. The final Policy is proposed on the basis that it has been widely consulted on with stakeholders and has been designed to align to the Group’s culture, values and purpose whilst also remaining aligned to wider stakeholder interests.
No Executive Director has been involved in the determination of their own remuneration but has remained well informed to ensure alignment between executive and wider colleague remuneration structures. To manage conflicts of interests effectively, Executive Directors were asked to step out of committee meetings and relevant paperwork was also redacted for individuals if required. The Committee has also considered gender pay and CEO pay ratio analysis when finalising policy proposals.
DIRECTORS’ REMUNERATION POLICY AND GROUP REMUNERATION POLICY ALIGNMENT
There is no significant difference between the policyPolicy for Executive Directors and that for other senior employees.colleagues. If a significant difference for any individual were proposed, this would be subject to approval by the Remuneration Committee (within regulatory requirements). The table below summarises how the policyPolicy applies across the Group.
Executive Directors | Group Executive Committee | Other Material | ||||||||||
Risk Takers | Other | Employees | ||||||||||
Fixed | Base salary | ü | ü | ü | ||||||||
Fixed share award1 | ü | ü | ü | |||||||||
Pension and benefits | ü | ü | ü | |||||||||
Variable | Short-term incentive | ü | ü | ü | ||||||||
ü | ü | ü |
1 | Eligibility based on seniority |
CONSIDERATION OF SHAREHOLDERS’ AND EMPLOYEES’ VIEWS
The Group is committed to regular dialogue with stakeholders. In formulating the policy, the Remuneration Committee has consulted extensively with a number of shareholders and key stakeholders, such as the Group’s main regulators, the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA). The following topics were discussed:
Formal consultation on the remuneration of Executive Directors is not undertaken with employees and no formal remuneration comparison measurements were used. However, surveys are undertaken semi-annually on employee engagement and discussion on the Group’s remuneration approach takes place with union representatives during the annual pay review cycle and on relevant employee reward matters, on which the Remuneration Committee receives and considers relevant feedback. In addition, the Remuneration Committee has reviewed equal pay analysis undertaken by an independent third party and will continue to monitor this on an ongoing basis.
Colleague opinion is also sought through regular engagement surveys. This includes questions relating to remuneration, the results of which in 2016 positioned colleague satisfaction with the Group’s reward arrangements, including the link to performance, above the high performing norm of UK companies.
REMUNERATION POLICY TABLE FOR EXECUTIVE DIRECTORS
BASE SALARY
Purpose and link to strategy | To support the recruitment and retention of Executive Directors of the calibre required to develop and deliver theGroup’s strategic priorities. Base salary reflects the role of the individual, taking account of market competitiveness,responsibilities and experience, and pay in the Group as a whole. | ||
Operation | Base salaries are typically reviewed annually with any increases normally taking effect from 1 | ||
– | An objective assessment of the individual’s responsibilities and the size and scope of their role, using | ||
– | Pay for comparable roles in comparable publicly listed financial services groups of a similar size. Salary may be paid in sterling or other currency and at an exchange rate determined by the Committee. | ||
Maximum potential | The Committee will make no increase which it believes is inconsistent with the two parameters above. Increaseswill normally be in line with the increase awarded to the overall employee population. However, a greater | ||
Performance measures | N/A | ||
Changes | The effective date will change from January to April each year for future Executive Directors to align delivery with the rest of the workforce. |
COMPENSATION
Fixed share award | |||
Purpose and link to strategy | To ensure that total fixed remuneration is commensurate with role and to provide a competitive reward packagefor Executive Directors with an appropriate balance of fixed and variable remuneration, in line with | ||
Operation | The fixed share award will | ||
Maximum potential | The maximum award is 100 per cent of base salary. | ||
Performance measures | N/A | ||
Changes | |||
Purpose and link to strategy | To provide cost effective and market competitive retirement benefits, supporting Executive Directors in buildinglong-term retirement savings. | ||
Operation | Executive Directors are entitled to participate in the Group’s defined contribution scheme with | ||
An individual may elect to receive some or all of their pension allowance as cash in lieu of pension contribution. | |||
Maximum potential | The maximum allowance for | ||
Performance measures | N/A | ||
Changes | |||
Benefits | |||
Purpose and link to strategy | To provide flexible benefits as part of a competitive remuneration package. | ||
Operation | Benefits may include those currently provided and disclosed in the annual report on
Additional benefits may be provided to individuals in certain circumstances such as relocation. This may When determining and reviewing the level of benefits provided, the Committee ensures that decisions are | ||
– | An objective assessment of the individual’s responsibilities and the size and scope of their role, using | ||
– | Benefits for comparable roles in comparable publicly listed financial services groups of a similar size. | ||
Maximum potential | The Committee will only make The flexible benefits allowance does not currently exceed 4 per cent of base salary. | ||
Performance measures | N/A | ||
Changes | No change to | ||
All-employee plans | |||
Purpose and link to strategy | Executive Directors are eligible to participate in HMRC-approved share plans which promote share ownershipby giving employees an opportunity to invest in Group shares. | ||
Operation | Executive Directors may participate in these plans in line with HMRC guidelines currently prevailing (where relevant),on the same basis as other eligible employees. | ||
Maximum potential | Participation levels may be increased up to HMRC limits as amended from time to time. The monthly savings | ||
The maximum value of free shares that may be awarded in any year is £3,600. | |||
Performance measures | N/A | ||
Changes | No change to policy |
COMPENSATION
Purpose and link to strategy | To incentivise and reward the achievement of the Group’s annual financial and strategic targets whilst supportingthe delivery of long-term superior and sustainable | |
Operation | Measures and targets are set annually and awards are determined by the Committee after the year end | |
Where an award or a deferred award is in shares or other share-linked instrument, the number of shares | ||
The Committee applies its judgement to determine the payout level commensurate with business and/orindividual performance or | ||
Maximum potential | The maximum Group Performance Share opportunities are 140 per cent of base salary for the GCE and 100 per centof base salary for other Executive Directors. | |
Performance measures | Measures and targets are set annually by the Committee in line with the Group’s strategic business plan and | |
Measures consist of both financial and non-financial measures and the weighting of these measures will | ||
The Committee is committed to providing transparency in its decision making in respect of Group | ||
Changes | ||
Purpose and link to strategy | ||
Operation | From 2021, awards will be granted under the rules of the | |
The number of shares to be | ||
Vesting will be subject to | ||
The Committee retains full discretion to amend the payout levels should the award not reflect business and/ Awards may be subject to malus and clawback for a period of up to seven years after the date of award which | ||
Maximum potential | The maximum | |
Performance measures | An award may be No further performance conditions will apply. However vesting will be subject to the underpins and RemunerationCommittee discretion as described above. | |
Changes | The Long Term Share Plan replaces the Executive Group Ownership Share Plan. |
COMPENSATION
Operation | The Group Performance Share and | ||
A proportion of the aggregate variable remuneration may vest immediately on award. The remaining proportion of the variable remuneration is then deferred in line with regulatory requirements. | |||
Changes |
Further information on which performance measures were chosen and how performance targets and underpin thresholds are set are disclosed in the relevant sections throughout the report.
DISCRETION IN RELATION TO GROUP PERFORMANCE SHARE AND GROUP OWNERSHIP SHARE PLANSVARIABLE REWARDS
The Committee retains discretion with regards to these plans. This relates to:
the timing, size and type of awards and holding periods, subject to policy | |
where qualitative performance measures or underpins are used and performance against those measures or underpins is not commensurate with the Group’s overall financial or strategic performance over the performance period; | |
where qualitative underpin thresholds are used and performance against those underpins is not commensurate with the Group’s overall financial performance over the underpin period; | |
adjustment of targets and measures if events occur which cause it to determine that it is appropriate to do so. The Committee also retains the right to change performance measures and the weighting of measures, including following feedback from regulators, shareholders and/or other stakeholders; and amending the plan rules in accordance with their terms and or amending the basis of operation (including but not limited to the approach in respect of dividend equivalents) including in light of any change to regulatory requirements or guidance or feedback from regulators; | |
to exercise discretion in accordance with the rules, including in relation to whether or not malus or clawback provisions would apply, in connection with recruitment, or terminations of employment, or corporate events affecting the Company; | |
adjustments required in certain circumstances (e.g. rights issues, corporate restructuring events and special dividends); | |
The exercise of the Committee’s discretion will be disclosed in accordance with regulatory requirements.
LEGACY AWARDS AND RESTRICTIONS ON PAYMENTS
Awards in respect of the Group Performance Share and under the long-term incentive Group Ownership share will be granted in 2020 under the terms of the Directors’ remuneration policy approved by shareholders on 11 May 2017 (the “2017 Policy”). No further awards would be made under the long-term incentive Group Ownership share (or the terms of the 2017 Policy) unless the new Long Term Share Plan 2020 was not approved by shareholders. The Committee reserves the right to make any remuneration payments/awards and any payments/awards for loss of office, notwithstanding that they are not in line with the policy set out above where the terms of the payment/award were agreed (i) before the Directors’ remuneration2017 policy approved by shareholders on 15 May 2014 (the ’2014 policy’) came into effect; (ii) pursuant to the 20142017 policy; or (iii) at a time when the relevant individual was not a Director of the Group and, in the opinion of the Committee, the payment/award was not in consideration for the individual becoming a Director of the Group. Such payments/awards will have been set out in the annual report on remuneration for the relevant year. They include awards and payments made under previous approved remuneration policy and payments in relation to deferred bonusGroup Performance Share awards and long-term incentiveincentive’ Group Ownership share awards granted in 20122018, 2019 and, 2013.as referred to above, 2020.
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COMPENSATION
ILLUSTRATION OF APPLICATION OF REMUNERATION POLICY
The charts below illustrate possible remuneration outcomes under the following three scenarios:
1. | The maximum that may be paid, assuming full Group Performance Share payout and full vesting under the |
2. | The expected value of remuneration for performance midway between threshold and maximum, assuming |
3. | The minimum that may be paid, where only the fixed element is paid |
COMPENSATION
No share price growth has been assumed. The amountsAmounts are based on based salaries as at 1 January 2017 (GCE2020 for the Group Chief Executive and CRO)Chief Operating Officer and 1 April 2017 (CFO) and implementation2020 for the Chief Financial Officer. Implementation of the policyPolicy in 2017 as2020 is set out in the annual report on remuneration.
António Horta-Osório
Value of package (£000)
George Culmer
Value of package (£000)
Juan Colombás
Value of package (£000)
1 | Maximum values of reward package take into account the assumed 50 per cent share price appreciation. Maximum total compensation (£000) without share price appreciation is £7,005 for António Horta-Osório, £3,840 for Juan Colombás and £3,913 for William Chalmers. |
APPROACH TO RECRUITMENT AND APPOINTMENT TO THE BOARD
In determining appropriate remuneration arrangements on hiring a new Executive Director, the Committee will take into account all relevant factors. This may include the experience and calibre of the individual, local market practice, the existing remuneration arrangements for other executives and the business circumstances. The Committee will seek to ensure that arrangements are in the best interests of both the Group and its shareholders and will seek not to pay more than is necessary.
The Committee may make awards on hiring an external candidate to ‘buy-out’ remuneration arrangements forfeited on leaving a previous employer. In doing so the Committee will take account of relevant factors including any performance conditions attached to these awards, the form in which they were granted (e.g. cash or shares), the currency of the awards, and the timeframe of awards. Any such award made will be made in accordance with the PRA’s Rulebook and made on a comparable basis to those forfeited and subject to malus and clawback at the request of the previous employer as required by the PRA rules.
The package will normally be aligned with the remuneration policy as described in the policy report. However, the Committee retains the discretion to make appropriate remuneration decisions outside the standard policy to facilitate the recruitment of an individual of the calibre required and in exceptional cases.
This may, for example, include the following circumstances:
An interim recruit, appointed to fill an Executive Director role on a short-term basis. | |
Exceptional circumstances requiring the Chairman to take on an executive function on a short-term basis. | |
An Executive Director recruited at a time in the year when it would be inappropriate to provide a Group Performance Share or | |
An Executive Director recruited from a business or location where benefits are provided that do not fall into the definition of ‘variable remuneration forfeited’ but where the Committee considers it reasonable to buy-out these benefits. | |
Transitional arrangements for overseas hires, which might include relocation expenses and accommodation. |
The maximum level of variable remuneration (excluding buy-out awards) that may be awarded to new Executive Directors is equal to 200 per cent of fixed remuneration, including any discount permitted by the European Banking Authority for Group Ownership Share awards.Authority. In making any such remuneration decisions, the Committee will apply any appropriate performance measures in line with those applied to other Executive Directors.
A full explanation will be provided of any buy-out award or discretionary payment.
COMPENSATION
SERVICE AGREEMENTS
The service contracts of all current Executive Directors are terminable on 12 months’ notice from the Group and six months’ notice from the individual.
The Chairman also has a letter of appointment. His engagement may be terminated on six months’ notice by either the Group or him.
Notice to be given by the Group | Date of service agreement | |||
Lord Blackwell | 6 months | 31 March 2014 | ||
António Horta-Osório | 12 months | 3 November 2010 | ||
12 months | ||||
Juan Colombás | 12 months | 30 November 2010 |
Under his contract (dated 3 November 2010), António Horta-Osório (GCE) is entitled to an amount equivalent to base salary and pension allowance as a payment in lieu of notice if notice to terminate is given by the Group. If notice to terminate is given by the GCE, he is entitled to an amount equivalent to base salary if the Group chooses to make a payment in lieu of notice. Such payments in lieu will be made in monthly instalments subject to mitigation. He is also entitled to six months’ notice from the Group in the event of his long-term incapacity. As part of a buy-out of a pension forfeited on joining from Santander, the GCE is also entitled to the provision of a conditional unfunded pension commitment, subject to performance conditions as described further in the annual report on remuneration. In the event of long-term incapacity, if the GCE does not perform his duties for a period of at least 26 weeks (in aggregate over a 12 month period), the Group shall be entitled to terminate his employment by giving six months’ notice. In all other respects, the terms of the GCE’s contract in relation to payments for loss of office match those set out below for new directors.
Under terms agreed when joining the Group, Juan Colombás is entitled to a conditional lump sum benefit, payable either (i) on reaching normal retirement age unless he voluntarily resigns or is dismissed for cause, or (ii) on leaving due to long-term sickness or death, as described further in the annual report on remuneration.
The service contracts and letters of appointment are available for inspection at the Company’s registered office.
NOTICE PERIODS
Newly-appointed Executive Directors will be employed on contracts that include the following provisions:
The individual will be required to give six months’ notice if they wish to leave and the Group will give 12 months’ notice other than for material misconduct or neglect or other circumstances where the individual may be summarily dismissed by written notice. In exceptional circumstances, new joiners will be offered a longer notice period (typically reducing to 12 months within two years of joining). | |
In the event of long-term incapacity, if the Executive Director does not perform their duties for a period of at least 26 weeks (in aggregate over a 12 month period), the Group shall be entitled to terminate the executive’s employment by giving three months’ notice. | |
At any time after notice to terminate is given by either the Group or the Executive Director, the Group may require the Executive Director to take leave for some or all of the notice period. | |
At any time, at its absolute discretion, the Group may elect to terminate the individual’s employment by paying to the Executive Director, in lieu of the notice period, an amount equivalent to base salary, subject to mitigation as described more fully in the termination payments section of this |
COMPENSATION
TERMINATION PAYMENTS
It is the Group’s policy that where compensation on termination is due, it should be paid on a phased basis, mitigated in the event that alternative employment is secured. Where it is appropriate to make a bonus payment (now( known as Group Performance Share) to the individual, this should relate to the period of actual service, rather than the full notice period. Any Group Performance Share payment will be determined on the basis of performance as for all continuing employees and will remain subject to performance adjustment (malus and clawback) and deferral. Generally, on termination of employment, Group Performance Share awards, long-term incentive awards (now known asin flight Group Ownership Share)Share awards, Long Term Share Plan awards and other rights to payments will lapse except where termination falls within one of the reasons set out below. In the event of redundancy, the individual may receive a payment in line with statutory entitlements at that time. If an Executive Director is dismissed for gross misconduct, the Executive Director will receive normal contractual entitlements until the date of termination and all deferred Group Performance Share, and Group Ownership Share and Long Term Share Plan awards will lapse.
Base salary | Fixed share award | Pension, benefits and other fixed remuneration | ||||
Resignation | In the case of resignation to take up new employment, paid until date of termination (including any period of leave required by the Group). In the case of resignation for other reasons, base salary will be paid in monthly instalments for the notice period (or any balance of it), offset by earnings from new employment during this period. | Awards continue and are released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination. | Paid until date of termination including any period of leave required by the Group (subject to individual benefit scheme rules). | |||
Redundancy or termination by mutual agreement | Paid until date of termination (including any period of leave required by the Group). In respect of the balance of any notice period, base salary will be paid in monthly instalments, offset by earnings from new employment during this period. | Awards will normally continue and be released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination unless, in the case of mutual agreement, the Committee determines that exceptional circumstances apply in which case shares may be released on termination. | Paid until date of termination including any period of leave required by the Group (subject to individual benefit scheme rules). | |||
Retirement/ill health, injury, permanent disability/death | Paid until date of retirement/death. For ill health, injury or permanent disability which results in the loss of employment, paid for the applicable notice period (including any period of leave required by the Group). | Awards will normally continue and be released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination except for (i) death where shares are released on the date of termination; or (ii) in the case of permanent disability the Committee determines that exceptional circumstances apply in which case shares may be released on the date of termination. | Paid until date of death/ retirement (subject to individual benefit scheme rules). For ill health, injury, permanent disability, paid for the notice period including any period of leave required by the Group (subject to individual benefit scheme rules). | |||
Change of control or merger | N/A | Awards will be payable on the date of the Change of Control and the number of shares subject to the award will be reduced to reflect the shorter accrual period. The Committee may decide that vested awards will be exchanged for (and future awards made over) shares in the acquiring company or other relevant company. | N/A | |||
Other reason where the Committee determines that the executive should be treated as a good leaver | Paid until date of termination (including any period of leave required by the Group). In respect of the balance of any notice period, base salary will be paid in monthly instalments, offset by earnings from new employment during this period. | Awards continue and are released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination. | Paid until date of termination including any period of leave required by the Group (subject to individual benefit scheme rules). |
COMPENSATION
Group Performance Share (Annual bonus | Chairman and Non-Executive Director fees3 | |||||
Resignation | Unvested deferred Group Performance Share awards are forfeited and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier) unless the Committee determines otherwise (in exceptional circumstances), in | Awards lapse on date of leaving (or on notice of leaving) unless the Committee determines otherwise in exceptional circumstances that they will vest on the original vesting date (or exceptionally on the date of leaving). Where award is to vest it will be subject to the | Paid until date of leaving Board. | |||
Redundancy or termination by mutual agreement | For cases of redundancy, unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier). Such awards would be subject to deferral, malus and clawback. For termination by mutual agreement, the same approach as for resignation would apply. | Awards vest on the original vesting date (or exceptionally on the date of leaving). Vesting is subject to the | Paid until date of leaving Board. | |||
Retirement/ill health, injury, permanent disability | Unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier). Such awards would be subject to deferral, malus and clawback. | Awards vest on the original vesting date (or exceptionally on the date of leaving). Vesting is subject to the | Paid until date of leaving Board. | |||
Death | Unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination. Deferred Group Performance Share awards vest on death in cash, unless the Committee determines otherwise. | Awards vest in full on the date of death | Paid until date of leaving Board. | |||
Change of control or merger2 | In-year Group Performance Share accrued up until date of change of control or merger (current year). Where there is a Corporate Event, deferred Group Performance Share awards vest to the extent and timing determined by the Committee in its absolute discretion. | Awards vest on date of event. Vesting is subject to the | Paid until date of leaving Board. | |||
Other reason where the Committee determines that the executive should be treated as a good leaver | Unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier). Deferred Group Performance Share awards vest in line with normal timeframes and are subject to malus and clawback. The Committee may allow awards to vest early if it considers it appropriate. | Awards vest on the original vesting date (or exceptionally on the date of leaving). Vesting is subject to the | Paid until date of leaving Board. |
1 | If any Group Performance Share is to be paid to the Executive Director for the current year, this will be determined on the basis of performance for the period of actual service, rather than the full notice period (and so excluding any period of leave required by the Group). |
2 | Reference to change of control or merger includes a compromise or arrangement under section 899 of the Companies Act 2006 or equivalent. Fixed share awards may also be released/exchanged in the event of a resolution for the voluntary winding up of the Company; a demerger, delisting, distribution (other than an ordinary dividend) or other transaction, which, in the opinion of the Committee, might affect the current or future value of any award; or a reverse takeover, merger by way of a dual listed company or other significant corporate event, as determined by the Committee. In the event of a demerger, special dividend or other transaction which would in the Committee’s opinion affect the value of awards, the Committee may allow a |
3 | The Chairman is entitled to six months’ notice. |
4 | The terms applicable on a cessation of employment to Group Ownership Share Awards are as shown on page 133 of the 2017 Remuneration Policy. |
COMPENSATION
On termination, the Executive Director will be entitled to payment for any accrued but untaken holiday calculated by reference to base salary and fixed share award.
The cost of legal, tax or other advice incurred by an Executive Director in connection with the termination of their employment and/or the cost of support in seeking alternative employment may be met up to a maximum of £100,000. Additional payments may be made where required to settle legal disputes, or as consideration for new or amended post-employment restrictions.
Where an Executive Director is in receipt of expatriate or relocation expenses at the time of termination (as at the date of the AGM no current Executive Directors are in receipt of such expenses), the cost of actual expenses incurred may continue to be reimbursed for up to 12 months after termination or, at the Group’s discretion, a one-off payment may be made to cover the costs of premature cancellation. The cost of repatriation may also be covered.
REMUNERATION POLICY TABLE FOR CHAIRMAN AND NON-EXECUTIVE DIRECTORS
The table below sets out the remuneration policy for Non-Executive Directors (NEDs).
CHAIRMAN AND NON-EXECUTIVE DIRECTOR FEES
AND BENEFITS
Purpose and link to strategy | To provide an appropriate reward to attract and retain a high-calibre individual with the relevant skills, knowledge and experience. | ||
Operation | The Committee is responsible for evaluating and making recommendations to the Board with regards to the Chairman’s fees. The Chairman does not participate in these discussions. | ||
The GCE and the Chairman are responsible for evaluating and making recommendations to the Board in relation to the fees of the NEDs. | |||
When determining and reviewing fee and benefit levels, the Committee ensures that decisions are made within the following parameters: | |||
– | The individual’s skills and experience. | ||
– | An objective assessment of the individual’s responsibilities and the size and scope of their role, using objective sizing methodologies. | ||
– | Fees and benefits for comparable roles in comparable publicly listed financial services groups of a similar size. | ||
The Chairman receives an all-inclusive fee, which is reviewed periodically plus benefits including life insurance, car allowance, medical insurance and transportation. The Committee retains the right to provide additional benefits depending on individual circumstances. | |||
NEDs are paid a basic fee plus additional fees for the chairmanship/membership of committees and for membership of Group companies/boards/non-board level committees. | |||
Additional fees are also paid to the senior independent director and to the deputy chairman to reflect additional responsibilities. | |||
Any increases normally take effect from 1 January of a given year. | |||
The Chairman and the NEDs are not entitled to receive any payment for loss of office (other than in the case of the Chairman’s fees for the six month notice period) and are not entitled to participate in the Group’s bonus, share plan or pension arrangements. | |||
NEDs are reimbursed for expenses incurred in the course of their duties, such as travel and accommodation expenses, on a grossed-up basis (where applicable). | |||
Maximum potential | The Committee will make no increase in fees or benefits currently provided which it believes is inconsistent with the parameters above. | ||
Performance metrics | N/A | ||
Changes | No change to policy. |
LETTERS OF APPOINTMENT
The Non-Executive Directors all have letters of appointment and are appointed for an initial term of three years after which their appointment may continue subject to an annual review. Non-Executive Directors may have their appointment terminated, in accordance with statute and the articles of association, at any time with immediate effect and without compensation.
DATESTATEMENT OF LETTERVOTING AT ANNUAL GENERAL MEETING
The table below sets out the voting outcome at the Annual General Meeting in May 2019 in relation to the annual report on remuneration and the Remuneration Policy, last voted on in 2017.
Votes cast in favour | Votes cast against | Votes withheld | ||||||||
Number of shares (millions) | Percentage of votes cast | Number of shares (millions) | Percentage of votes cast | Number of shares (millions) | ||||||
2018 annual report on remuneration (advisory vote) | 43,322 | 91.95% | 3,790 | 8.05% | 1,006 | |||||
Directors’ remuneration policy (binding vote in 2017) | 47,673 | 98.03% | 959 | 1.97% | 535 |
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COMPENSATION
2020 Remuneration policy
Approval for this Remuneration Policy will be sought at the AGM on 21 May 2020 and, if approved, will take effect from that date.
It is intended that approval of the Remuneration Policy will be sought at three-year intervals, unless amendments to the Policy are required, in which case further shareholder approval will be sought. Information on how the Policy will be implemented in 2020 is included in the annual report on remuneration.
The objective of the Policy is to align individual reward with the Group’s performance, the interests of its shareholders and a prudent approach to risk management. In this way, the requirements of the major stakeholders are balanced: customers, shareholders, employees, and regulators.
The policy is based on principles which are applicable to all employees within the Group and, in particular, the principle that the reward package should support the delivery of the Group’s purpose of Helping Britain Prosper and the strategic aim of becoming the best bank for customers whilst delivering long-term superior and sustainable returns to shareholders. It fosters performance in line with the Group’s values and behaviours, encourages effective risk disciplines and is in line with relevant regulations and codes of best practice.
DECISION MAKING PROCESS FOR DETERMINING THE POLICY AND CONSIDERATION OF APPOINTMENTSTAKEHOLDER VIEWS
In formulating the Policy, the Remuneration Committee has consulted extensively with a number of stakeholders including institutional shareholders and the Group’s main regulators, the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA). A formal consultation on the remuneration of Executive Directors was not undertaken with colleagues. However, constructive engagement with the Group’s recognised Unions took place on key elements of the reward package and the unions continue to play a valuable role in representing colleagues across the Group. The Committee also increased its level of oversight on remuneration matters for colleagues and the wider workforce in 2019, receiving overviews and analysis on key reward matters on a quarterly basis to support decisions in relation to executive remuneration.
The Chairman of the Remuneration Committee alongside senior management consulted with shareholders extensively and the proposed amendments to the Policy were deliberated by the Remuneration Committee at three separate committee meetings. Throughout the process, the Committee Chair kept an open dialogue with key stakeholders to provide updates on amendments and additional points of consideration within the Policy following their feedback. The final Policy is proposed on the basis that it has been widely consulted on with stakeholders and has been designed to align to the Group’s culture, values and purpose whilst also remaining aligned to wider stakeholder interests.
No Executive Director has been involved in the determination of their own remuneration but has remained well informed to ensure alignment between executive and wider colleague remuneration structures. To manage conflicts of interests effectively, Executive Directors were asked to step out of committee meetings and relevant paperwork was also redacted for individuals if required. The Committee has also considered gender pay and CEO pay ratio analysis when finalising policy proposals.
DIRECTORS’ REMUNERATION POLICY AND GROUP REMUNERATION POLICY ALIGNMENT
There is no significant difference between the Policy for Executive Directors and that for other colleagues. If a significant difference for any individual were proposed, this would be subject to approval by the Remuneration Committee (within regulatory requirements). The table below summarises how the Policy applies across the Group.
Committee | Other Material Risk Takers | Other Employees | |||
ü | ü | ||||
Fixed share award1 | ü | ü | |||
ü | ü | ||||
ü | ü | ||||
Long term incentive1 | ü | ü | ü | ü |
All Directors are subject to annual re-election by shareholders.
1 | Eligibility based on seniority and/or role. |
The service contracts and letters of appointments are available for inspection at the Company’s registered office.
BASE SALARY | ||
Purpose and link to strategy | To support the recruitment and retention of Executive Directors of the calibre required to develop and deliver theGroup’s strategic priorities. Base salary reflects the role of the individual, taking account of market competitiveness,responsibilities and experience, and pay in the Group as a whole. | |
Operation | Base salaries are typically reviewed annually with any increases normally taking effect from 1 January for existingExecutive Directors and 1 April for future appointments. When determining and reviewing base salary levels,the Committee takes into account base salary increases for employees throughout the Group and ensures thatdecisions are made within the following two parameters: – An objective assessment of the individual’s responsibilities and the size and scope of their role, using objectivejob-sizing methodologies. – Pay for comparable roles in comparable publicly listed financial services groups of a similar size. Salary may be paid in sterling or other currency and at an exchange rate determined by the Committee. | |
Maximum potential | The Committee will make no increase which it believes is inconsistent with the two parameters above. Increaseswill normally be in line with the increase awarded to the overall employee population. However, a greater salaryincrease may be appropriate in certain circumstances, such as a new appointment made on a salary below a marketcompetitive level, where phased increases are planned, or where there has been an increase in the responsibilitiesof an individual. Where increases are awarded in excess of the wider employee population, the Committee willprovide an explanation in the relevant annual report on remuneration. | |
Performance measures | N/A | |
Changes | The effective date will change from January to April each year for future Executive Directors to align delivery with the rest of the workforce. |
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COMPENSATION
ANNUAL REPORT ON REMUNERATION
IMPLEMENTATION OF THE POLICY IN 2017
It is proposed to operate the policy in the following way in 2017:
BASE SALARY
The Group has applied a 2 per cent overall salary budget increase for the general population differentiated by performance and market position (with increases of around 4 per cent for strongly performing colleagues). Salary increases of 2 per cent are proposed for the Chief Financial Officer (CFO) and the Chief Risk Officer (CRO).
As announced last year, for the first time since 2011 a salary increase was applied in 2016 for the Group Chief Executive to begin to adjust his base salary to the previously disclosed reference salary of £1,220,000 which was set relative to the market when he joined in 2011. After discussing the proposed increase with shareholders, the Remuneration Committee decided to stage the adjustment over two years, with an initial increase to £1,125,000 effective from 1 January 2016 and the second stage increase to £1,220,000 due to be implemented with effect from 1 January 2017. The form of the increase will follow that for 2016, with 2 per cent delivered in cash (in line with other colleagues) and the remainder in shares, held until the government has sold its shareholding in the Group.
Salaries will therefore be as follows, effective dates shown below:
GCE: £1,220,000 (1 January 2017)CFO: £764,070 (1 April 2017)CRO: £753,458 (1 January 2017)
Due to the GCE’s base salary being increased in line with his reference salary (effective from 1 January 2017), the concept of a separate reference salary will be removed. Reference salary will therefore no longer be used when calculating certain elements of long-term remuneration and the pension allowance. Instead, these elements will be calculated with reference to the GCE’s base salary.
FIXED SHARE AWARD
The levels of the 2017 award are unchanged from 2016 and are as follows:
GCE: £900,000
CFO: £504,000
CRO: £497,000
Shares will be released in equal tranches over a five year period.
PENSION
Executive Directors are entitled to a pension allowance which they may choose to take as cash in lieu of pension contributions.
The level of allowances has not been increased for 2017.
GCE: 50 per cent of base salary less flexible benefits allowance
CFO: 25 per cent of base salary
CRO: 25 per cent of base salary
BENEFITS
For 2017, the benefits provided to Executive Directors include a car allowance, transportation, private medical insurance, life assurance and other benefits selected through the flexible benefits allowance which is currently capped at 4 per cent of base salary (unchanged from 2016).
ALL-EMPLOYEE PLANS
Executive Directors are eligible to participate in the Group’s Sharesave and Sharematch plans on the same basis as other employees.
GROUP PERFORMANCE SHARE PLAN
Purpose and link to strategy | To ensure that total fixed remuneration is commensurate with role and to provide a competitive reward packagefor Executive Directors with an appropriate balance of fixed and variable remuneration, in line with regulatoryrequirements. | |
Operation | The fixed share award will be delivered entirely in Lloyds Banking Group shares, released over three years with33 per cent being released each year following the year of award. The Committee can, however, decide to deliversome or all of it in the form of cash. | |
Maximum potential | The maximum | |
Performance measures | N/A | |
Changes | Delivery of vested shares will change from five to three years to align the delivery schedule with other colleagueseligible to receive a Fixed Share | |
Pension | ||
Purpose and link to strategy | To provide cost effective and market competitive retirement benefits, supporting Executive Directors in buildinglong-term retirement savings. | |
Operation | Executive Directors are entitled to participate in the Group’s defined contribution scheme with companycontributions set as a percentage of salary. An individual may elect to receive some or all of their pension allowance as cash in lieu of pension contribution. | |
Maximum potential | The maximum allowance for all Executive Directors is | |
Performance measures | N/A | |
Changes | Maximum employer pension contribution available has been reduced to 15 per cent of cash salary with nocompensation for the | |
Benefits | ||
Purpose and | To provide flexible benefits as part of a competitive remuneration package. | |
Operation | Benefits may include those currently provided and disclosed in the annual report on remuneration.Core benefits include a company car or car allowance, private medical insurance, life insurance and other benefitsthat may be selected through the Group’s flexible benefits plan. Additional benefits may be provided to individuals in certain circumstances such as relocation. This may includebenefits such as accommodation, relocation, and travel. The Committee retains the right to provide additionalbenefits depending on individual circumstances. When determining and reviewing the level of benefits provided, the Committee ensures that decisions are madewithin the following two parameters: – An objective assessment of the individual’s responsibilities and the size and scope of their role, using objectivejob-sizing methodologies. – Benefits for comparable roles in comparable publicly listed financial services groups of a similar size. | |
Maximum potential | The Committee will only make increases in the benefits currently provided which it believes are consistent with thetwo parameters above. Executive Directors receive a flexible benefits allowance, in line with all other colleagues. The flexible benefits allowance does not currently exceed 4 per cent of base | |
Performance measures | N/A | |
Changes | No change to Policy | |
All-employee plans | ||
Purpose and link to strategy | Executive Directors | |
Executive Directors may participate in these plans in line with HMRC guidelines currently prevailing (where relevant),on the | ||
Maximum potential | Participation levels may be increased up to HMRC limits as amended from time to time. The monthly savings limitsfor Save As You Earn (SAYE) is currently £500. The maximum value of shares that may be purchased under theShare Incentive Plan (SIP) in any year The maximum value of free shares that may be awarded in | |
Performance measures | N/A | |
Changes | No change to |
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COMPENSATION
Purpose and link to strategy | To incentivise and reward the achievement of the Group’s | |||
Operation | Measures and targets are set annually and awards are determined by the Committee after the year end basedon performance against the targets set. The Group Performance Share may be delivered partly in cash, shares,notes or other debt instruments including contingent convertible bonds. Where all or part of any award is deferred,the Committee may adjust these deferred awards in the event of any variation of share capital, demerger, specialdividend or distribution or amend the terms of the plan in accordance with the plan rules. Where an award or a | |||
market value, as appropriate. The Committee applies its judgement to determine the payout level commensurate with | ||||
it considers it appropriate. Awards | ||||
Maximum potential | The maximum Group Performance Share opportunities are 140 per cent of base salary for the GCE and 100 per centof base salary for other Executive Directors. | |||
Performance measures | Measures and targets are set annually by the Committee in line with the Group’s strategic business plan and furtherdetails are set out in the annual report on remuneration for the relevant year. | |||
Measures consist of both financial and non-financial measures and the weighting of these measures will bedetermined annually by the Committee. The weightings of the performance measures for the 2020 financialyear are set out for 2019 on page 129. All assessments of performance are ultimately subject to the Committee’sjudgement, but no award will be made if threshold performance (as determined by the Committee) is not met forfinancial measures or the individual receives a score of 2.6 out of 5 or below. The normal ‘target’ level of the GroupPerformance Share is 50 per cent of maximum opportunity. The Committee is committed to providing transparency in its decision making in respect of Group PerformanceShare awards and will disclose historic measures and target information together with information relating to howthe Group has performed against those targets in the annual report on remuneration for the relevant year exceptto the extent that this information is deemed to be commercially sensitive, in which case it will be disclosed once itis deemed not to be sensitive. | ||||
Changes | The normal ‘target’ level of the Group Performance Share has changed to 50 per cent of maximum opportunityfrom 30 per cent. | |||
Long Term Share plan | ||||
Purpose and link to strategy | Long term variable reward opportunity to align executive management incentives and behaviours to the Group’sobjectives of delivering long-term superior and sustainable returns. The Long Term Share Plan will incentivestewardship over a long time horizon and promote good governance through a simple alignment with the interestof shareholders. | |||
Operation | From 2021, awards will be granted under the rules of the 2020 Long-Term Share Plan, subject to shareholderapproval at the AGM on 21 May 2020. Awards are made in the form of conditional shares and award levels are set atthe time of grant, in compliance with regulatory requirements, and may be subject to a discount in determining totalvariable remuneration under the rules set by the European Banking Authority. The number of shares to be awardedmay be calculated using a fair value or based on a discount to market value, as appropriate. Vesting will be subject to an assessment of underpin thresholds being maintained measured over a period of threeyears, or such longer period, as determined by the Committee. The Committee retains full discretion to amend the payout levels should the award not reflect business and/orindividual performance. The Committee may reduce (including to zero) the level of the award, apply additionalconditions to the vesting, or delay the vesting of awards to a specified date or until conditions set by the Committeeare satisfied, where it considers it appropriate. Awards may be subject to malus and clawback for a period of up to seven years after the date of award which maybe extended to 10 years where there is an ongoing internal or regulatory investigation. | |||
Maximum potential | The maximum Long Term Share Plan opportunity is 200 per cent of base salary for all Executive Directors includingthe GCE. | |||
Performance measures | An award may be granted by the Remuneration Committee No further performance conditions will apply. However vesting will be subject to the underpins and RemunerationCommittee discretion as described above. | |||
Changes | The Long Term Share Plan replaces the Executive Group Ownership Share Plan. |
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COMPENSATION
The Group Performance Share and Long Term Share plans are both considered variable remuneration for the | A proportion of the aggregate variable remuneration may vest immediately on award. The remaining proportion of the variable remuneration is then deferred in line with regulatory requirements. | ||||||||
Changes | |||||||||
CHAIRMAN AND NON-EXECUTIVE DIRECTOR FEESFurther information on which performance measures were chosen and how performance targets and underpin thresholds are set are disclosed in the relevant sections throughout the report.
DISCRETION IN 2017RELATION TO VARIABLE REWARDS
The annual feeCommittee retains discretion with regards to these plans. This relates to:
the timing, size and type of awards and holding periods, subject to policy maxima, and the annual setting of targets; | |
where qualitative performance measures or underpins are used and performance against those measures or underpins is not commensurate with the Group’s overall financial or strategic performance over the performance period; | |
where qualitative underpin thresholds are used and performance against those underpins is not commensurate with the Group’s overall financial performance over the underpin period; | |
adjustment of targets and measures if events occur which cause it to determine that it is appropriate to do so. The Committee also retains the right to change performance measures and the weighting of measures, including following feedback from regulators, shareholders and/or other stakeholders; and amending the plan rules in accordance with their terms and or amending the basis of operation (including but not limited to the approach in respect of dividend equivalents) including in light of any change to regulatory requirements or guidance or feedback from regulators; | |
to exercise discretion in accordance with the rules, including in relation to whether or not malus or clawback provisions would apply, in connection with recruitment, or terminations of employment, or corporate events affecting the Company; | |
adjustments required in certain circumstances (e.g. rights issues, corporate restructuring events and special dividends); | |
the exercise of the Committee’s discretion will be disclosed in accordance with regulatory requirements. |
LEGACY AWARDS AND RESTRICTIONS ON PAYMENTS
Awards in respect of the Group Performance Share and under the long-term incentive Group Ownership share will be granted in 2020 under the terms of the Directors’ remuneration policy approved by shareholders on 11 May 2017 (the “2017 Policy”). No further awards would be made under the long-term incentive Group Ownership share (or the terms of the 2017 Policy) unless the new Long Term Share Plan 2020 was not approved by shareholders. The Committee reserves the right to make any remuneration payments/awards and any payments/awards for the Chairman was increased by 2 per cent to £728,280,loss of office, notwithstanding that they are not in line with the overall salary budgetpolicy set out above where the terms of the payment/award were agreed (i) before the 2017 policy came into effect; (ii) pursuant to the 2017 policy; or (iii) at a time when the relevant individual was not a Director of the Group and, in the opinion of the Committee, the payment/award was not in consideration for the general colleague population.
Theindividual becoming a Director of the Group. Such payments/awards will have been set out in the annual Non-Executive Director fees were reviewedreport on remuneration for the relevant year. They include awards and payments made under previous approved remuneration policy and payments in relation to deferred Group Performance Share awards and long-term incentive’ Group Ownership share awards granted in 2018, 2019 and, as result of this review some of the fees were increased, as follows,referred to reflect market practice in financial services groups of a similar size. These changes took effect from 1 January 2017.
2017 | 2016 | ||||
Basic Non-Executive Director fee | £76,500 | £75,000 | |||
Deputy Chairman | £100,000 | £100,000 | |||
Senior Independent Director | £60,000 | £60,000 | |||
Audit Committee Chairmanship | £70,000 | £60,000 | |||
Remuneration Committee Chairmanship | £70,000 | £60,000 | |||
Board Risk Committee Chairmanship | £70,000 | £60,000 | |||
Responsible Business Committee Chairmanship | £40,000 | £40,0004 | |||
Audit Committee membership | £32,000 | £30,000 | |||
Remuneration Committee membership | £32,000 | £30,000 | |||
Board Risk Committee membership | £32,000 | £30,000 | |||
Responsible Business Committee members | £15,0001 | £10,0001 | |||
Nomination and Governance Committee membership | £15,0002 | £5,0003 |
Non-Executive Directors may receive more than one of the above, fees.2020.
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COMPENSATION
ILLUSTRATION OF APPLICATION OF REMUNERATION OUTCOME FOR 2016
EXECUTIVE DIRECTORS (AUDITED)POLICY
The charts below illustrate possible remuneration outcomes under the following table summarises the total remuneration delivered during 2016 in relation to service as an Executive Director.three scenarios:
António Horta-Osório1 | George Culmer | Juan Colombás | Totals | |||||||||||||||||||||||||||||
£000 | 2016 | 2015 | 2016 | 2015 | 2016 | 2015 | 2016 | 2015 | ||||||||||||||||||||||||
Base salary | 1,125 | 1,061 | 745 | 731 | 739 | 724 | 2,609 | 2,516 | ||||||||||||||||||||||||
Fixed share award | 900 | 900 | 504 | 504 | 497 | 497 | 1,901 | 1,901 | ||||||||||||||||||||||||
Benefits | 143 | 140 | 42 | 41 | 70 | 73 | 255 | 254 | ||||||||||||||||||||||||
Other remuneration2 | 1 | 2 | 1 | 2 | 1 | 2 | 3 | 6 | ||||||||||||||||||||||||
Annual bonus | 1,220 | 850 | 574 | 462 | 578 | 455 | 2,372 | 1,767 | ||||||||||||||||||||||||
Long-term incentive3 | 1,584 | 5,183 | 857 | 2,804 | 763 | 2,496 | 3,204 | 10,483 | ||||||||||||||||||||||||
Pension allowance4 | 568 | 568 | 186 | 182 | 185 | 181 | 939 | 931 | ||||||||||||||||||||||||
Total remuneration | 5,541 | 8,704 | 2,909 | 4,726 | 2,833 | 4,428 | 11,283 | 17,858 | ||||||||||||||||||||||||
Less: performance adjustment5 | – | (234 | ) | – | (65 | ) | – | (3 | ) | – | (302 | ) | ||||||||||||||||||||
Total remuneration less performance adjustment | 5,541 | 8,470 | 2,909 | 4,661 | 2,833 | 4,425 | 11,283 | 17,556 |
1. | |
The |
Amounts are based on based salaries as at 1 January 2020 for the Group Chief Executive and Chief Operating Officer and 1 April 2020 for the Chief Financial Officer. Implementation of the Policy in 2020 is set out in the annual report on remuneration.
1 | Maximum values of reward package take into account the assumed 50 per cent share price |
APPROACH TO RECRUITMENT AND APPOINTMENT TO THE BOARD
In determining appropriate remuneration arrangements on hiring a new Executive Director, the Committee will take into account all relevant factors. This may include the experience and calibre of the individual, local market practice, the existing remuneration arrangements for other executives and the business circumstances. The Committee will seek to ensure that arrangements are in the best interests of both the Group and its shareholders and will seek not to pay more than is necessary.
The Committee may make awards on hiring an external candidate to ‘buy-out’ remuneration arrangements forfeited on leaving a previous employer. In doing so the Committee will take account of relevant factors including any performance conditions attached to these awards, the form in which they were granted (e.g. cash or shares), the currency of the awards, and the timeframe of awards. Any such award made will be made in accordance with the PRA’s Rulebook and made on a comparable basis to those forfeited and subject to malus and clawback at the request of the previous employer as required by the PRA rules.
The package will normally be aligned with the remuneration policy as described in the policy report. However, the Committee retains the discretion to make appropriate remuneration decisions outside the standard policy to facilitate the recruitment of an individual of the calibre required and in exceptional cases.
This may, for example, include the following circumstances:
An interim recruit, appointed to | |
Exceptional circumstances requiring the Chairman to take on an executive function on a short-term basis. | |
An Executive Director recruited at a time in the year when it would be inappropriate to provide a Group Performance Share or Long Term Share award for that year, for example, where there may be insufficient time to assess performance. In this situation the Committee may feel it appropriate to transfer the quantum in respect of | |
An Executive Director recruited from a business or location where benefits are provided that do not fall into the definition of ‘variable remuneration forfeited’ but where the Committee considers it reasonable to buy-out these benefits. | |
Transitional arrangements for overseas hires, which might include relocation expenses and |
The maximum level of variable remuneration (excluding buy-out awards) that may be awarded to new Executive Directors is equal to 200 per cent of fixed remuneration, including any discount permitted by the European Banking Authority. In making any such remuneration decisions, the Committee will apply any appropriate performance measures in line with those applied to other Executive Directors.
A full explanation will be provided of any buy-out award or discretionary payment.
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COMPENSATION
SERVICE AGREEMENTS
The service contracts of all current Executive Directors are terminable on 12 months’ notice from the Group and six months’ notice from the individual.
The Chairman also has a letter of appointment. His engagement may be terminated on six months’ notice by either the Group or him.
Date of | ||||
Lord Blackwell | 6 months | 31 March 2014 | ||
12 months | 3 November 2010 | |||
William Chalmers | 12 months | 3 June | ||
Juan Colombás | 12 months | 30 November |
PENSION AND BENEFITS (AUDITED)
António | George | Juan | ||||||||||
Pension/Benefit £ | Horta-Osório | Culmer | Colombás | |||||||||
Employer contribution to pension scheme | 9,542 | 4,492 | 12,068 | |||||||||
Cash allowance in lieu of pension contribution | 558,018 | 181,862 | 172,711 | |||||||||
Car or car allowance | 12,000 | 12,183 | 12,000 | |||||||||
Flexible benefits payments | 42,440 | 29,376 | 28,968 | |||||||||
Private medical insurance | 30,950 | 760 | 14,068 | |||||||||
Tax preparation | 24,000 | – | 11,940 | |||||||||
Transportation | 33,760 | – | 2,900 |
DEFINED BENEFIT PENSION ARRANGEMENTS (AUDITED)
TheUnder his contract (dated 3 November 2010), António Horta-Osório (GCE) is entitled to an amount equivalent to base salary and pension allowance as a payment in lieu of notice if notice to terminate is given by the Group. If notice to terminate is given by the GCE, hashe is entitled to an amount equivalent to base salary if the Group chooses to make a conditional unfunded pension commitment,payment in lieu of notice. Such payments in lieu will be made in monthly instalments subject to share price performance. This wasmitigation. He is also entitled to six months’ notice from the Group in the event of his long-term incapacity. As part of a partial buy-out of a pension forfeited on joining from Santander, Group. Itthe GCE is an Employer-Financed Retirement Benefits Scheme (EFRBS). The EFRBS provides benefitsalso entitled to the provision of a conditional unfunded pension commitment, subject to performance conditions as described further in the annual report on a defined benefit basis at a normal retirement ageremuneration. In the event of 65. The EFRBS applieslong-term incapacity, if the GCE does not perform his duties for a maximumperiod of at least 26 weeks (in aggregate over a 12 month period), the Group shall be entitled to terminate his employment by giving six years followingmonths’ notice. In all other respects, the commencement of employment and the maximum allowance over that period is 26.5 per cent of the higherterms of the GCE’s base salary or reference salarycontract in the 12 months before retirement or leaving, subjectrelation to performance conditions. No additional benefit is due in the eventpayments for loss of early retirement. The rate of pension accrual in each year depends on share price conditions being met. Accrual at 31 December 2016 is a pension of 6 per cent of the reference salary or £73,200. Nooffice match those set out below for new pension entitlement was accrued in 2016.
There are no other Executive Directors with defined benefit pension entitlements.directors.
Under terms agreed when joining the Group, the CROJuan Colombás is entitled to a conditional lump sum benefit, of £718,996payable either (i) on reaching normal retirement age unless the CROhe voluntarily resigns or is dismissed for cause, or (ii) on leaving due to long-term sickness or death.
2014 LTIP VESTING (AUDITED)
Number | Indicative | Indicative | Indicative | |||||||||||
Number | of shares | share price | value of award | dividend | Indicative | |||||||||
of shares awarded | Vesting %1 | vesting | at vesting | at vesting | equivalent | total value | ||||||||
António Horta-Osório | 4,640,077 | 55% | 2,552,042 | 58.30 pence | £1,487,840 | £95,940 | £1,583,780 | |||||||
George Culmer | 2,510,205 | 55% | 1,380,612 | 58.30 pence | £804,897 | £51,902 | £856,799 | |||||||
Juan Colombás | 2,234,780 | 55% | 1,229,129 | 58.30 pence | £716,582 | £46,207 | £762,789 |
COMPENSATION
ANNUAL BONUS (AUDITED)death, as described further in the annual report on remuneration.
The individual bonus awardsservice contracts and letters of appointment are available for inspection at the Company’s registered office.
NOTICE PERIODS
Newly-appointed Executive Directors are determined inwill be employed on contracts that include the same way as for colleagues across the Group, with outcomes based on the individual on-target award adjusted for the Group annual bonus outcome and for individual performance outcomes.
The Group total bonus outcome is the sum of the divisional and functional bonus outcomes. Performance outcomes are determined by adjusting the Group’s target bonus outcome according to Group underlying profit and Balanced Scorecard performance. These are each used as a modifier to increase or decrease the target bonus outcome in the range of 0 per cent – 145 per cent, subject to an overall funding limit of 10 per cent of pre-bonus underlying profit. A collective performance adjustment is then applied.
The individual on-target award is then adjusted for the Group annual bonus outcome and for individual performance outcomes. Awards are approved by the Committee, which has discretion to adjust outcomes for any reason.
The approach to determining annual bonus awards is summarised below:
ANNUAL BONUS OUTCOME FOR 2016 (AUDITED)
The target bonus outcome for 2016 (£397.1 million) was adjusted for:following provisions:
The individual will be required to give six months’ notice if they wish to leave and the Group | |
In the event of long-term incapacity, if the Executive Director does not perform their duties for a period of at least 26 weeks (in aggregate over a 12 month period), the Group shall be entitled to terminate the executive’s employment by giving three months’ notice. | |
At any time after notice to terminate is given by either the Group or the Executive Director, the Group may require the Executive Director to take leave for some or all of the notice period. | |
At any time, at its absolute discretion, the Group may elect to terminate the individual’s employment by paying to the Executive Director, in lieu of the notice period, an amount equivalent to base salary, subject to mitigation as described more fully in the termination payments section of this report. |
A target of £7,572 million was approved by the Board. In line with regulatory requirements, the underlying profit of £7,867 million has been adjusted by the incremental movement in Prudential Valuation Adjustment (PVA) from year-end 2015 to year-end 2016. The adjustment of £126 million reduces the underlying profit figure to £7,741 million, resulting in a modifier of 1.22.
A balanced scorecard approach with clearly identified performance descriptors is used to assess Group performance in key areas. Stretching objectives for each division and function were approved by the Committee around the start of the performance year. The objectives are aligned to the Group’s strategy and split across five categories: customer, people, control environment, building the business and finance.
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COMPENSATION
APPROACH TO THE BALANCED SCORECARD (BSC)
Each measure in the Group and divisional/functional BSC is assigned targets aligned to a five-point rating scale.TERMINATION PAYMENTS
It is the Group’s policy that where compensation on termination is due, it should be paid on a phased basis, mitigated in the event that alternative employment is secured. Where it is appropriate to make a bonus payment ( known as Group Performance Share) to the individual, this should relate to the period of actual service, rather than the full notice period. Any Group Performance Share payment will be determined on the basis of performance as for all continuing employees and will remain subject to performance adjustment (malus and clawback) and deferral. Generally, on termination of employment, Group Performance Share awards, in flight Group Ownership Share awards, Long Term Share Plan awards and other rights to payments will lapse except where termination falls within one of the reasons set out below. In the event of redundancy, the individual may receive a payment in line with statutory entitlements at that time. If an Executive Director is dismissed for gross misconduct, the Executive Director will receive normal contractual entitlements until the date of termination and all deferred Group Performance Share, Group Ownership Share and Long Term Share Plan awards will lapse.
BSC ratings are based on a scale ranging from ‘Under’ (at the lowest level), through ‘Developing’, ‘Good’, ‘Strong’ and up to ‘Top’, which is the highest rating. Each of these ratings may be further differentiated by the addition of ‘minus’ or ‘plus’. The Committee reviewed performance in depth to determine ratings for the Group and each division and function, including consideration of risk matters arising in 2016. Risk adjustments were approved by the Board Risk Committee.
The ratings for each division and function are communicated to all colleagues within the business area to ensure bonus outcomes are transparent and understood. The ratings are considered commercially sensitive; however, as an indication of performance, the overall rating for the Group (as determined by the Committee) was Strong plus and the average of the divisional/functional modifiers applied was 1.26.
Key performance factors considered by the Committee in arriving at the performance assessment for the Group included:
Base salary | Fixed share award | Pension, benefits and other fixed remuneration | ||||
In the case of resignation to take up new employment, paid until date of termination (including any period of leave required by the Group). In the case of resignation for other reasons, base salary will be paid in monthly instalments for the notice period (or any balance of it), offset by earnings from new employment during this period. | Awards continue and are released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination. | Paid until date of termination including any period of leave required by the Group (subject to individual benefit scheme rules). | ||||
Redundancy or termination by mutual agreement | Paid until date of termination (including any period of leave required by the Group). In respect of the balance of any notice period, base salary will be paid in monthly instalments, offset by earnings from new employment during this period. | Awards will normally continue and be released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination unless, in the case of mutual agreement, the Committee determines that exceptional circumstances apply in which case shares may be released on termination. | Paid until date of termination including any period of leave required by the Group (subject to individual benefit scheme rules). | |||
Retirement/ill health, injury, permanent disability/death | Paid until date of retirement/death. For ill health, injury or permanent disability which results in the loss of employment, paid for the applicable notice period (including any period of leave required by the Group). | Awards will normally continue and be released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination except for (i) death where shares are released on the date of termination; or (ii) in the case of permanent disability the Committee determines that exceptional circumstances apply in which case shares may be released on the date of termination. | Paid until date of death/ retirement (subject to individual benefit scheme rules). For ill health, injury, permanent disability, paid for the notice period including any period of leave required by the Group (subject to individual benefit scheme rules). | |||
Change of control or merger | N/A | Awards will be payable on the date of the Change of Control and the number of shares subject to the award will be reduced to reflect the shorter accrual period. The Committee may decide that vested awards will be exchanged for (and future awards made over) shares in the acquiring company or other relevant company. | N/A | |||
Other reason where the Committee determines that the executive should be treated as a good leaver | Paid until date of termination (including any period of leave required by the Group). In respect of the balance of any notice period, base salary will be paid in monthly instalments, offset by earnings from new employment during this period. | Awards continue and are released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination. | Paid until date of termination including any period of leave required by the Group (subject to individual benefit scheme rules). |
Consideration was given to items not factored into the Group underlying profit or divisional or functional Balanced Scorecards. These included the provisions for legacy conduct-related matters relevant to the year. As a result of these items, the Committee approved an overall collective adjustment of £91.2 million or approximately 19 per cent, resulting in a final bonus outcome of £392.9 million as shown in the table below. The bonus outcome of £392.9 million is significantly below the overall funding limit of 10 per cent of pre bonus underlying profit.
TOTAL BONUS OUTCOME
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COMPENSATION
INDIVIDUAL OUTCOMES FOR EXECUTIVE DIRECTORS (AUDITED)
The individual bonus awards for Executive Directors are determined in the same way as for colleagues across the Group, with outcomes based on annual bonus outcome, weighted by:
Group Performance Share (Annual bonus plan)1 | Long Term Share Plan (Long term variable reward plan)2 | Chairman and Non-Executive Director fees3 | ||||
Unvested deferred Group Performance Share awards are forfeited and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier) unless the Committee determines otherwise (in exceptional circumstances), in which case such awards are subject to deferral, malus and clawback. | Awards lapse on date of leaving (or on notice of leaving) unless the Committee determines otherwise in exceptional circumstances that they will vest on the original vesting date (or exceptionally on the date of leaving). Where award is to vest it will be subject to the underpins and time pro-rating (for months worked in underpin period). Malus and clawback will apply. | Paid until date of leaving Board. | ||||
Redundancy or termination by mutual agreement | For cases of redundancy, unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier). Such awards would be subject to deferral, malus and clawback. For termination by mutual agreement, the same approach as for resignation would apply. | Awards vest on the original vesting date (or exceptionally on the date of leaving). Vesting is subject to the underpins and time pro-rating (for months worked in underpin period). Malus and clawback will apply. | Paid until date of leaving Board. | |||
Retirement/ill health, injury, permanent disability | Unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier). Such awards would be subject to deferral, malus and clawback. | Awards vest on the original vesting date (or exceptionally on the date of leaving). Vesting is subject to the underpins and time pro-rating (for months worked in underpin period). Malus and clawback will apply. | Paid until date of leaving Board. | |||
Death | Unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination. Deferred Group Performance Share awards vest on death in cash, unless the Committee determines otherwise. | Awards vest in full on the date of death unless in exceptional circumstances the Remuneration Committee determines that the underpins or pre-vest test do not support full vesting. | Paid until date of leaving Board. | |||
Change of control or merger2 | In-year Group Performance Share accrued up until date of change of control or merger (current year). Where there is a Corporate Event, deferred Group Performance Share awards vest to the extent and timing determined by the Committee in its absolute discretion. | Awards vest on date of event. Vesting is subject to the underpins and time pro-rating (for months worked in underpin period unless determined otherwise). Malus and clawback will normally apply. Instead of vesting, awards may be exchanged for equivalent awards over the shares of the acquiring company or another company or equivalent cash based awards. | Paid until date of leaving Board. | |||
Other reason where the Committee determines that the executive should be treated as a good leaver | Unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier). Deferred Group Performance Share awards vest in line with normal timeframes and are subject to malus and clawback. The Committee may allow awards to vest early if it considers it appropriate. | Awards vest on the original vesting date (or exceptionally on the date of leaving). Vesting is subject to the underpins and time pro-rating (for months worked in underpin period). Malus and clawback will apply. | Paid until date of leaving Board. |
Awards are approved by the Committee, which has discretion to adjust outcomes for any reason.
ANTÓNIO HORTA-OSÓRIO
The Group Chief Executive’s (GCE) individual performance assessment for 2016, as confirmed by the Committee, reflected the Group’s performance as outlined on page 140 and a number of other considerations including:
If any Group Performance Share is to be paid to the Executive Director for the current year, this will be determined on the basis of performance | ||
Based on a full assessment of performance, the Committee agreed an individual rating for 2016 of Strong plus for the GCE, an improvement from Strong in 2015.
Expected outcomes are based on individual performance before taking into account a modifier based on underlying profit and the Group BSC, as follows:
Rating | Under | Developing | Good | Strong | Top |
Expected outcome as % of salary | 0% | 0% | 42% | 91% | 140% |
Following the Committee’s assessment of performance against the underlying profit target and Group BSC objectives, and taking into account the collective performance adjustment of 19 per cent and the improvement to the individual rating of Strong plus, the Committee determined a 2016 bonus award for the GCE of £1,219,537 (108 per cent of salary and 77 per cent of maximum).
GEORGE CULMER
The Chief Financial Officer’s (CFO) personal performance assessment for 2016, as confirmed by the Committee, reflected a number of considerations including:
141 |
COMPENSATION
Based on a full assessment of performance,On termination, the Committee agreed an individual ratingExecutive Director will be entitled to payment for 2016 of Strong plus for the CFO. Expected outcomes are based on individual performance before taking into account a modifier based on underlying profitany accrued but untaken holiday calculated by reference to base salary and the Finance division’s BSC, as follows:
Rating | Under | Developing | Good | Strong | Top |
Expected outcome as % of salary | 0% | 0% | 30% | 65% | 100% |
Following the Committee’s assessment of performance against the underlying profit target and the Finance division’s BSC objectives, and taking into account the collective performance adjustment of 19 per cent and the individual rating of Strong plus, the Committee determined a 2016 bonus award for the CFO of £574,326 (77 per cent of maximum).
JUAN COLOMBÁSfixed share award.
The Chief Risk Officer’s (CRO) personal performance assessmentcost of legal, tax or other advice incurred by an Executive Director in connection with the termination of their employment and/or the cost of support in seeking alternative employment may be met up to a maximum of £100,000. Additional payments may be made where required to settle legal disputes, or as consideration for 2016, as confirmed by the Committee, reflected a number of considerations including:
Based on a full assessment of performance, the Committee agreed an individual rating for 2016 of Strong plus for the CRO.new or amended post-employment restrictions.
Expected outcomesWhere an Executive Director is in receipt of expatriate or relocation expenses at the time of termination (as at the date of the AGM no current Executive Directors are based on individual performance, before taking into accountin receipt of such expenses), the cost of actual expenses incurred may continue to be reimbursed for up to 12 months after termination or, at the Group’s discretion, a modifier based on underlying profit andone-off payment may be made to cover the Risk division’s BSC, as follows:
Rating | Under | Developing | Good | Strong | Top |
Expected outcome as % of salary | 0% | 0% | 30% | 65% | 100% |
Following the Committee’s assessmentcosts of performance against the underlying profit target and the Risk division’s BSC objectives, and taking into account the collective performance adjustmentpremature cancellation. The cost of 19 per cent and the individual rating of Strong plus, the Committee determined a 2016 bonus award for the CRO of £577,676 (78 per cent of maximum).repatriation may also be covered.
DEFERRALREMUNERATION POLICY TABLE FOR CHAIRMAN AND NON-EXECUTIVE DIRECTORS
The 2016 annual bonustable below sets out the remuneration policy for all ExecutiveNon-Executive Directors is awarded in a combination of cash and shares. 40 per cent of the annual bonus will be released in 2017 (£2,000 cash in March, the remainder in shares), 40 per cent will be released in 2018 and the remaining 20 per cent will be released in 2019, subject to remaining in the Group’s employment. Any shares released are subject to a further holding period in line with regulatory requirements.
The Group’s malus and clawback provisions cover all material risk takers, in line with regulatory requirements. Vested variable remuneration can be recovered from employees for a period of up to seven years after the date of award which may be extended to 10 years where there is an ongoing internal or regulatory investigation. The Committee reserves the right to exercise its discretion in reducing any payment that otherwise would have been earned, if it deems appropriate as a result of an event occurring before vesting.
LONG-TERM AWARDS MADE IN MARCH 2014 VESTING FOR THE PERIOD ENDED ON 31 DECEMBER 2016 (AUDITED)
Awards (in the form of conditional rights to free shares) in 2014 were made over shares with a value of 300 per cent of reference salary for the GCE and 275 per cent of salary for the CFO and CRO.
COMPENSATION
The Group has delivered a good financial performance over the performance period of the 2014 Long-Term Incentive Plan (LTIP) awards, continuing to transform the business for the benefit of our shareholders. Performance was measured over three financial years ended 31 December 2016. The performance conditions attached to these awards and actual performance are set out in the table below. At the end of the performance period, it has been assessed that awards will vest at 55 per cent of maximum. Executive Directors are required to retain any shares vesting for a further two years post vesting.
PERCENTAGE CHANGE IN REMUNERATION OF THE GROUP CHIEF EXECUTIVE VERSUS THE WIDER EMPLOYEE POPULATION
Figures for ‘All Employees’ are calculated using figures for UK-based colleagues subject to the Group Annual Bonus Plan. This population is considered to be the most appropriate group of employees for these purposes because its remuneration structure is consistent with that of the GCE. For 2016, 46,963 colleagues were included in this category.
% change in base salary (2015 – 2016) | % change in bonus (2015 – 2016) | % change in benefits (2015 – 2016) | ||||||||||
GCE | 8.4% | 1 | 44% | 2 | 2% | |||||||
All employees | 2% | 3 | 17% | 3 | 2% | 3 |
RELATIVE SPEND ON PAY (£M)
The graph below illustrates the relative importance of spend on pay (total remuneration of all Group employees) compared with distributions to shareholders. Distributions to shareholders are ordinary and special dividends.
COMPENSATION
LOSS OF OFFICE PAYMENTS AND PAYMENTS WITHIN THE REPORTING YEAR TO PAST DIRECTORS (AUDITED)
There were no payments for the loss of office or any other payments made to former Directors during 2016.
EXTERNAL APPOINTMENTS HELD BY THE EXECUTIVE DIRECTORS
António Horta-Osório – During the year ended 31 December 2016, the Group Chief Executive served as a Non-Executive Director of Exor, Fundação Champalimaud, Stichting INPAR and Sociedade Francisco Manuel dos Santos for which he received fees of £217,098 in total.(NEDs).
CHAIRMAN AND NON-EXECUTIVE DIRECTORS (AUDITED)
Fees £000 | Taxable benefits £000 | Total £000 | ||||||||||
2016 | 2015 | 2016 | 2015 | 2016 | 2015 | |||||||
Chairman and current Non-Executive Directors | ||||||||||||
Lord Blackwell | 714 | 700 | 121 | 121 | 726 | 712 | ||||||
Alan Dickinson | 195 | 144 | – | – | 195 | 144 | ||||||
Anita Frew | 295 | 236 | – | – | 295 | 236 | ||||||
Simon Henry | 135 | 105 | – | – | 135 | 105 | ||||||
Nick Luff | 165 | 135 | – | – | 165 | 135 | ||||||
Deborah McWhinney | 135 | 9 | – | – | 135 | 9 | ||||||
Nick Prettejohn | 412 | 350 | – | – | 412 | 350 | ||||||
Stuart Sinclair | 135 | – | – | – | 135 | – | ||||||
Anthony Watson | 230 | 209 | – | – | 230 | 209 | ||||||
Sara Weller | 171 | 135 | – | – | 171 | 135 | ||||||
Former Non-Executive Directors | ||||||||||||
Carolyn Fairbairn (retired October 2015) | – | 88 | – | – | – | 88 | ||||||
Dyfrig John (retired May 2016) | 49 | 105 | – | – | 49 | 105 | ||||||
Total | 2,636 | 2,216 | 12 | 12 | 2,648 | 2,228 |
DIRECTOR FEES AND BENEFITS
Operation | The Committee is responsible for evaluating and making recommendations to the Board with regards to the Chairman’s fees. The Chairman does not participate in these discussions. |
The GCE and the Chairman are responsible for evaluating and making recommendations to the Board in relation to the fees of the NEDs. | |
When determining and reviewing fee and benefit levels, the Committee ensures that decisions are made within the following parameters: | |
– The individual’s skills and experience. – An objective assessment of the individual’s responsibilities and the size and scope of their role, using objective sizing methodologies. – Fees and benefits for comparable roles in comparable publicly listed financial services groups of a similar size. | |
The Chairman receives an all-inclusive fee, which is reviewed periodically plus benefits including life insurance, car allowance, medical insurance and transportation. The Committee retains the right to provide additional benefits depending on individual circumstances. | |
NEDs are paid a basic fee plus additional fees for the chairmanship/membership of committees and for membership of Group companies/boards/non-board level committees. | |
Additional fees are also paid to the senior independent director and to the deputy chairman to reflect additional responsibilities. | |
Any increases normally take effect from 1 January of a given year. | |
The Chairman and the NEDs are not entitled to receive any payment for loss of office (other than in the case of the Chairman’s fees for the six month notice period) and are not entitled to participate in the Group’s bonus, share plan or pension arrangements. | |
NEDs are reimbursed for expenses incurred in the course of their duties, such as travel and accommodation expenses, on a grossed-up basis (where applicable). | |
Maximum potential | The Committee will make no increase in fees or benefits currently provided which it believes is inconsistent with the parameters above. |
Performance metrics | N/A |
Changes | No change to policy. |
BREAKDOWNLETTERS OF NON-EXECUTIVE DIRECTORS’ FEES (£000S)
Board fee | Deputy Chairman | Senior Independent Director | Audit Committee | Remuneration Committee | Board Risk Committee | SWG Board fees1 | Other Committees | 2016 Total | ||||||||||
Alan Dickinson2 | 75 | 30 | 30 | 60 | 195 | |||||||||||||
Anita Frew2,3 | 75 | 100 | 30 | 60 | 30 | 295 | ||||||||||||
Simon Henry | 75 | 30 | 30 | 135 | ||||||||||||||
Dyfrig John | 27 | 11 | 11 | 49 | ||||||||||||||
Nick Luff2 | 75 | 60 | 30 | 165 | ||||||||||||||
Deborah McWhinney | 75 | 30 | 30 | 135 | ||||||||||||||
Nick Prettejohn | 75 | 30 | 30 | 277 | 412 | |||||||||||||
Stuart Sinclair | 75 | 30 | 30 | 135 | ||||||||||||||
Anthony Watson | 75 | 60 | 30 | 30 | 30 | 54 | 230 | |||||||||||
Sara Weller | 75 | 30 | 30 | 365 | 171 |
COMPENSATION
HISTORICAL TOTAL SHAREHOLDER RETURN (TSR) PERFORMANCEAPPOINTMENT
The chart below showsNon-Executive Directors all have letters of appointment and are appointed for an initial term of three years after which their appointment may continue subject to an annual review. Non-Executive Directors may have their appointment terminated, in accordance with statute and the historical TSRarticles of Lloyds Banking Group plc comparedassociation, at any time with the FTSE 100 as required by the regulations, rebased as at 31 December 2008. The FTSE 100 index has been chosen as it is a widely recognised equity index of which Lloyds Banking Group plc has been a constituent throughout this period.immediate effect and without compensation.
TOTAL SHAREHOLDER RETURN INDICES – LLOYDS BANKING GROUP AND FTSE 100
HISTORICAL GROUP CHIEF EXECUTIVE (GCE) REMUNERATION OUTCOMES
GCE | 2009 | 2010 | 2011 | 2012 | 2013 | 2014 | 2015 | 2016 | ||||||||||
GCE single figure of | J E Daniels | 1,121 | 2,572 | 855 | – | – | – | – | – | |||||||||
remuneration £000 | António Horta-Osório | – | – | 1,765 | 3,398 | 7,475 | 11,540 | 8,704 | 5,541 | |||||||||
Annual bonus payout | J E Daniels | Waived | 62% | 0% | – | – | – | – | – | |||||||||
(% of maximum opportunity) | António Horta-Osório | – | – | Waived | 62% | 71% | 54% | 57% | 77% | |||||||||
Long-term incentive vesting | J E Daniels | 0% | 0% | 0% | – | – | – | – | – | |||||||||
(% of maximum opportunity) | António Horta-Osório | – | – | 0% | 0% | 54% | 97% | 94.18% | 55% |
Notes: J E Daniels served as GCE until 28 February 2011; António Horta-Osório was appointed GCE from 1 March 2011. J E Daniels declined to take a bonus in 2009 and António Horta-Osório declined to take a bonus in 2011.
OUTSTANDING SHARE AWARDS
DIRECTORS’ INTERESTS (AUDITED)
SHAREHOLDING GUIDELINES
Executive Directors were required to build up a holding in Lloyds Banking Group plc shares of value equal to 150 per cent of base salary (200 per cent for the GCE) within three years from the later of 1 January 2012 or their date of joining the Board. Following the introduction of the fixed share award in 2014, the gross annual value of this award was added to salary to determine the personal shareholding requirement.
For the purposes of assessing the additional shareholding requirement related to the fixed share award, Executive Directors had up to three years from 1 January 2014 to build up the additional shareholding created by the addition of the fixed share award. As at 31 December 2016, all Executive Directors significantly exceeded the requirements.
In order to provide greater transparency in the measurement of the shareholding requirements, from 1 January 2017 the measure is to be focused on base salary only. There will be a consequent increase in the percentage required as a multiple of salary; however the number of shares required to be held will remain approximately the same. The new requirements are 350 per cent of base salary for the GCE and 250 per cent of base salary for the other Executive Directors.
Executive Directors are required to retain any shares vesting from 2014 LTIP awards onwards for a further two years post vesting (although vested shares count towards the shareholding requirement immediately after vesting).
COMPENSATION
Number of shares | Number of options | Total shareholding1 | Value | |||||||||||||
Owned outright | Unvested subject to continued employment | Unvested subject to performance | Unvested subject to continued employment | Vested unexercised | Totals at 31 December 2016 | Totals at 24 February 2017 | Expected value at 31 December 2016 (£000s)2 | |||||||||
Executive Directors | ||||||||||||||||
António Horta-Osório3 | 17,893,726 | 4,212,594 | 14,234,293 | 29,549 | – | 36,370,162 | 36,370,7576 | 18,286 | ||||||||
George Culmer | 10,547,315 | 1,253,398 | 7,754,781 | 29,549 | – | 19,585,043 | 19,585,5626 | 9,819 | ||||||||
Juan Colombás | 6,362,996 | 1,209,441 | 7,406,515 | 29,109 | – | 15,008,061 | 15,008,5806 | 7,067 | ||||||||
Non-Executive Directors | ||||||||||||||||
Lord Blackwell | 100,000 | – | – | – | – | 100,000 | n/a6 | n/a | ||||||||
Alan Dickinson | 200,000 | – | – | – | – | 200,000 | n/a6 | n/a | ||||||||
Anita Frew | 450,000 | – | – | – | – | 450,000 | n/a6 | n/a | ||||||||
Simon Henry | 200,000 | – | – | – | – | 200,000 | n/a6 | n/a | ||||||||
Dyfrig John4 | 27,385 | – | – | – | – | 27,385 | n/a6 | n/a | ||||||||
Nick Luff | 400,000 | – | – | – | – | 400,000 | n/a6 | n/a | ||||||||
Deborah McWhinney3 | 250,000 | – | – | – | – | 250,000 | n/a6 | n/a | ||||||||
Nick Prettejohn5 | 69,280 | – | – | – | – | 69,280 | n/a6 | n/a | ||||||||
Stuart Sinclair | – | – | – | – | – | – | n/a6 | n/a | ||||||||
Anthony Watson | 576,357 | – | – | – | – | 576,357 | n/a6 | n/a | ||||||||
Sara Weller | 340,000 | – | – | – | – | 340,000 | n/a6 | n/a |
A summary of transactions undertaken in the year, including share plan awards vested plus open market purchases and sales made by Directors, is shown on pages 148/149.
As a result of the above shareholdings, the position for each Executive Director is as follows:
2016 Shareholding requirement | Current shareholding | New shareholding requirement from 1 January 2017 | Current shareholding (based on new requirement) | |||||||||||||||||
Base salary plus fixed share award (£000s) | % of base salary plus fixed share award | Number of shares1 | % of base salary plus fixed share award1 | Number of shares as at 31/12/162 | Old requirement met | % of base salary | Number of shares1 | % of base salary1 | New requirement met | |||||||||||
Executive Directors | ||||||||||||||||||||
António Horta-Osório | 2,025 | 200% | 6,560,829 | 545% | 17,891,894 | Yes | 350% | 6,917,220 | 905% | Yes | ||||||||||
George Culmer | 1,253 | 150% | 3,044,925 | 519% | 10,545,483 | Yes | 250% | 3,094,403 | 852% | Yes | ||||||||||
Juan Colombás | 1,236 | 150% | 3,002,634 | 318% | 6,361,547 | Yes | 250% | 3,051,426 | 521% | Yes |
None of those who were Directors at the end of the year had any other interest in the capital of Lloyds Banking Group plc or its subsidiaries.
COMPENSATION
BREAKDOWN OF SHARES INTERESTS AND INTERESTS IN SHARE OPTIONS (AUDITED)
Exercise periods | ||||||||||||||||||||
At 1 January 2016 | Granted/ awarded | Dividends awarded | Vested / exercised | Lapsed | At 31 December 2016 | Exercise price | From | To | Notes | |||||||||||
António Horta-Osório | ||||||||||||||||||||
LTIP 2013-2015 | 7,425,441 | – | 130,641 | 6,993,280 | 432,161 | – | 1, 2, 3 | |||||||||||||
LTIP 2014-2016 | 4,640,077 | – | – | – | – | 4,640,077 | 3 | |||||||||||||
LTIP 2015-2017 | 4,579,006 | – | – | – | – | 4,579,006 | 3 | |||||||||||||
LTIP 2016-2018 | 5,015,210 | – | – | – | 5,015,210 | 3, 4 | ||||||||||||||
Deferred bonus awarded | ||||||||||||||||||||
in 2016 | 1,164,253 | – | – | – | 1,164,253 | 5 | ||||||||||||||
2013 Sharesave | 22,156 | – | – | 22,156 | – | – | 40.62p | 8 | ||||||||||||
2014 Sharesave | 14,995 | – | – | – | – | 14,995 | 60.02p | 01/01/2018 | 30/06/2018 | |||||||||||
2016 Sharesave | 14,554 | – | – | – | 14,554 | 47.49p | 01/01/2020 | 30/06/2020 | 10 | |||||||||||
George Culmer | ||||||||||||||||||||
LTIP 2013-2015 | 4,017,041 | – | 70,674 | 3,783,249 | 233,792 | – | 1, 2, 3 | |||||||||||||
LTIP 2014-2016 | 2,510,205 | – | – | – | – | 2,510,205 | 3 | |||||||||||||
LTIP 2015-2017 | 2,477,167 | – | – | – | – | 2,477,167 | 3 | |||||||||||||
LTIP 2016-2018 | 2,767,409 | – | – | – | 2,767,409 | 3, 4 | ||||||||||||||
Deferred bonus awarded | ||||||||||||||||||||
in 2016 | 632,856 | – | – | – | 632,856 | 5 | ||||||||||||||
2013 Sharesave | 22,156 | – | – | 22,156 | – | – | 40.62p | 9 | ||||||||||||
2014 Sharesave | 14,995 | – | – | – | – | 14,995 | 60.02p | 01/01/2018 | 30/06/2018 | |||||||||||
2016 Sharesave | 14,554 | – | – | – | 14,554 | 47.49p | 01/01/2020 | 30/06/2020 | 10 | |||||||||||
Juan Colombás | ||||||||||||||||||||
LTIP 2013-2015 | 3,576,283 | – | 62,920 | 3,368,143 | 208,140 | – | 1, 2, 3 | |||||||||||||
LTIP 2014-2016 | 2,234,780 | – | – | – | – | 2,234,780 | 3 | |||||||||||||
LTIP 2015-2017 | 2,442,762 | – | – | – | – | 2,442,762 | 3 | |||||||||||||
LTIP 2016-2018 | 2,728,973 | – | – | – | 2,728,973 | 3, 4 | ||||||||||||||
Deferred bonus awarded | ||||||||||||||||||||
in 2016 | 624,065 | – | – | – | 624,065 | 5 | ||||||||||||||
Share buy-out award | ||||||||||||||||||||
(share options) | 235,499 | – | – | 235,499 | – | – | 6, 7 | |||||||||||||
Share buy-out award | ||||||||||||||||||||
(share options) | 299,732 | – | – | 299,732 | – | – | 6, 7 | |||||||||||||
2014 Sharesave | 29,990 | – | – | – | 29,990 | – | 60.02p | |||||||||||||
2016 Sharesave | 29,109 | – | – | – | 29,109 | 47.49p | 01/01/2020 | 30/06/2020 | 10 |
The aggregate amount of gains made by Directors on the exercise of share options was £391,270.
None of the other Directors at 31 December 2016 had options to acquire shares in Lloyds Banking Group plc or its subsidiaries.
COMPENSATION
DIRECTORS’ INTERESTS – SUMMARY OF AWARDS VESTED, PURCHASES AND SALES MADE BY DIRECTORS IN 2016 (UNAUDITED)
Holding at 1 January 2016 (or appointment date) | Transactions during the year | Number of shares1 | Notes | Holding at 31 December 2016 | ||||||
Executive Directors | ||||||||||
António Horta-Osório2 | 11,761,072 | 08/03/2016 | 3,706,439 | Vesting of 2013 LTIP | ||||||
08/03/2016 | 69,239 | Dividend equivalent shares paid on 2013 LTIP | ||||||||
16/03/2016 | 173,707 | Fixed Share Award | ||||||||
18/03/2016 | 8,256 | Salary for shares | ||||||||
18/04/2016 | 2,803 | Salary for shares | ||||||||
16/05/2016 | 1,437,096 | Release of 2012 Deferred Bonus | ||||||||
16/05/2016 | 2,873 | Salary for shares | ||||||||
06/06/2016 | 22,156 | 2013 Sharesave | ||||||||
17/06/2016 | 2,920 | Salary for shares | ||||||||
17/06/2016 | 184,317 | Fixed Share Award | ||||||||
28/06/2016 | 100,000 | Share purchase | ||||||||
18/07/2016 | 3,377 | Salary for shares | ||||||||
17/08/2016 | 3,482 | Salary for shares | ||||||||
19/09/2016 | 3,330 | Salary for shares | ||||||||
19/09/2016 | 210,206 | Fixed Share Award | ||||||||
18/10/2016 | 3,549 | Salary for shares | ||||||||
16/11/2016 | 3,069 | Salary for shares | ||||||||
14/12/2016 | 2,994 | Salary for shares | ||||||||
14/12/2016 | 189,000 | Fixed Share Award | ||||||||
Monthly | 3,841 | Share Incentive Plan purchase andmatching shares | 17,893,726 | |||||||
George Culmer | 7,090,093 | 08/03/2016 | 295,534 | Release of 2013 Deferred Bonus | ||||||
08/03/2016 | 2,005,122 | Vesting of 2013 LTIP | ||||||||
08/03/2016 | 37,457 | Dividend equivalent shares paid on 2013 LTIP | ||||||||
16/03/2016 | 97,276 | Fixed Share Award | ||||||||
19/05/2016 | 210,244 | Dividend Reinvestment | ||||||||
02/06/2016 | 22,156 | 2013 Sharesave | ||||||||
17/06/2016 | 103,218 | Fixed Share Award | ||||||||
30/06/2016 | 50,000 | Share purchase | ||||||||
19/09/2016 | 295,534 | Release of 2013 Deferred Bonus | ||||||||
19/09/2016 | 117,715 | Fixed Share Award | ||||||||
28/09/2016 | 113,779 | Dividend Reinvestment | ||||||||
14/12/2016 | 105,840 | Fixed Share Award | ||||||||
Monthly | 3,347 | Share Incentive Plan purchase andmatching shares | 10,547,315 | |||||||
Juan Colombás | 3,145,458 | 08/03/2016 | 44,355 | Release of 2012 Deferred Bonus | ||||||
08/03/2016 | 277,981 | Release of 2013 Deferred Bonus | ||||||||
08/03/2016 | 1,785,116 | Vesting of 2013 LTIP | ||||||||
08/03/2016 | 33,347 | Dividend equivalent shares paid on 2013 LTIP | ||||||||
16/03/2016 | 282,898 | Exercise of Share buy out | ||||||||
16/03/2016 | 95,924 | Fixed Share Award | ||||||||
17/06/2016 | 101,784 | Fixed Share Award | ||||||||
30/06/2016 | 50,000 | Share purchase | ||||||||
19/09/2016 | 44,355 | Release of 2012 Deferred Bonus | ||||||||
19/09/2016 | 277,981 | Release of 2013 Deferred Bonus | ||||||||
19/09/2016 | 116,080 | Fixed Share Award | ||||||||
14/12/2016 | 104,370 | Fixed Share Award | ||||||||
Monthly | 3,347 | Share Incentive Plan purchase andmatching shares | 6,362,996 |
COMPENSATION
Holding at 1 January 2016 (or appointment date) | Transactions during the year | Number of shares | Notes | Holding at 31 December 2016 | ||||||
Non-Executive Directors | ||||||||||
Lord Blackwell | 50,000 | 05/05/2016 | 50,000 | Share purchase | 100,000 | |||||
Alan Dickinson | 100,000 | 29/06/2016 | 100,000 | Share purchase | 200,000 | |||||
Anita Frew | 300,000 | 29/06/2016 | 150,000 | Share purchase | 450,000 | |||||
Simon Henry | 100,000 | 30/06/2016 | 100,000 | Share purchase | 200,000 | |||||
Dyfrig John3 | 27,385 | – | – | – | 27,385 | |||||
Nick Luff | 300,000 | 29/06/2016 | 100,000 | Share purchase | 400,000 | |||||
Deborah McWhinney4 | 200,000 | 29/06/2016 | 50,000 | Share purchase | 250,000 | |||||
Nick Prettejohn | – | 26/02/2016 | 69,280 | Share purchase | 69,280 | |||||
Stuart Sinclair | – | – | – | – | – | |||||
Anthony Watson | 476,357 | 29/06/2016 | 100,000 | Share purchase | 576,357 | |||||
Sara Weller | 200,000 | 04/05/2016 | 100,000 | Share purchase | ||||||
29/06/2016 | 40,000 | Share purchase | 340,000 |
ADDITIONAL DISCLOSURES
TOTAL REMUNERATION OF THE EIGHT HIGHEST PAID SENIOR EXECUTIVES1
The following table sets out the total remuneration of the eight highest paid senior executives (excluding Executive Directors) in respect of the 2016 performance year.
Executive | ||||||||||||||||||||||||||||||||
8 | 7 | 6 | 5 | 4 | 3 | 2 | 1 | |||||||||||||||||||||||||
£000 | £000 | £000 | £000 | £000 | £000 | £000 | £000 | |||||||||||||||||||||||||
Fixed | ||||||||||||||||||||||||||||||||
Cash-based | 305 | 589 | 300 | 740 | 799 | 315 | 330 | 420 | ||||||||||||||||||||||||
Share-based | 200 | 406 | 250 | 490 | 500 | 500 | 740 | 650 | ||||||||||||||||||||||||
Total fixed | 505 | 995 | 550 | 1,230 | 1,299 | 815 | 1,070 | 1,070 | ||||||||||||||||||||||||
Variable | ||||||||||||||||||||||||||||||||
Upfront cash | 2 | 2 | 2 | 2 | 2 | 2 | 2 | 2 | ||||||||||||||||||||||||
Deferred cash | 0 | 0 | 0 | 0 | 0 | 0 | 0 | 0 | ||||||||||||||||||||||||
Upfront shares | 273 | 152 | 416 | 187 | 217 | 462 | 658 | 238 | ||||||||||||||||||||||||
Deferred shares | 213 | 231 | 432 | 284 | 328 | 196 | 165 | 360 | ||||||||||||||||||||||||
Long-term incentive plan2 | 1,042 | 744 | 884 | 833 | 780 | 2,020 | 2,571 | 2,886 | ||||||||||||||||||||||||
Total variable pay | 1,530 | 1,129 | 1,734 | 1,306 | 1,327 | 2,680 | 3,396 | 3,486 | ||||||||||||||||||||||||
Pension cost3 | 46 | 147 | 45 | 181 | 182 | 63 | 66 | 84 | ||||||||||||||||||||||||
Total remuneration | 2,081 | 2,271 | 2,329 | 2,717 | 2,808 | 3,558 | 4,532 | 4,640 |
TOTAL REMUNERATION OF EMPLOYEES ACROSS THE GROUP
COMPENSATION
REMUNERATION COMMITTEE
COMMITTEE PURPOSE AND RESPONSIBILITIES
The Remuneration Committee has responsibility for setting remuneration for all Executive Directors and the Chairman, including pension rights and any compensation payments. The Committee also recommends and monitors the level and structure of remuneration for senior management and material risk takers.
The Committee’s purpose is to consider, agree and recommend to the Board an overall remuneration policy and philosophy for the Group that is aligned with its long-term business strategy, its business objectives, its risk appetite, values and the long-term interests of the Group that recognises the interests of relevant stakeholders. The Committee’s Terms of Reference can be found on the Company’s website at www.lloydsbankinggroup.com/our-group/corporate-governance
The Directors who served on the Committee during the year and their attendance at Committee meetings is set out in the table below.
Remuneration Committee meetings | ||||||||
Eligible to | ||||||||
attend | Attended | |||||||
Committee Chairman | ||||||||
Anita Frew | 7 | 7 | ||||||
Committee members who served during 2016 | ||||||||
Lord Blackwell | 7 | 7 | ||||||
Alan Dickinson | 7 | 7 | ||||||
Stuart Sinclair1 | 7 | 7 | ||||||
Anthony Watson2 | 7 | 6 | ||||||
Sara Weller | 7 | 7 | ||||||
Former members who served during 2016 | ||||||||
Dyfrig John3 | 3 | 3 |
COMMITTEE COMPOSITION, SKILLS AND EXPERIENCE
The Committee comprises Non-Executive Directors from a wide background to provide a balanced and independent view on remuneration matters. Stuart Sinclair was appointed as an independent Non-Executive Director and as a member of the Committee on 4 January 2016. Dyfrig John retired as an independent Non-Executive Director and as a member of the Committee on 11 May 2016.
HOW COMMITTEE MEETINGS ARE RUN
The management of the Committee is in keeping with the basis on which meetings of the Board are managed, as detailed on page 155, with a structure which facilitates open discussion and debate, with steps taken to ensure adequate time for members of the Committee to consider proposals which are put forward.
During 2016, the Committee met its key objectives and carried out its responsibilities effectively, as confirmed by the annual effectiveness review.
MATTERS CONSIDERED BY THE COMMITTEE
The Committee had seven scheduled meetings during 2016 to consider the following principal matters:
In addition to the scheduled meetings, the Committee met on a number of other occasions to allow the Directors greater time to discuss their views and for an in-depth review of key areas including this year the review of the Directors’ Remuneration Policy.
COMPENSATION
The Committee appoints independent consultants to provide advice on specific matters according to their particular expertise. In May 2016, the Committee conducted a review of their independent advisers and appointed Kepler to advise the Committee following a competitive tendering process. Kepler has voluntarily signed up to the Remuneration Consultants’ Code of Conduct and is judged by the Committee to be independent. Kepler is not connected with the Group. Kepler’s fees for services to the Committee in 2016 were on a time and materials basis and amounted to £175,400. Kepler did not provide any other services to the Group. Mercer provides unrelated advice regarding pensions and investments to the Group.
The Committee has not formally evaluated Kepler’s performance since their appointment in mid-2016. A review is due to be undertaken in early 2017. Deloitte LLP, independent consultants to the Committee since 2010, provided advice for the first five months of the year. Deloitte LLP is not connected with the Group. Deloitte’s fees for services to the Committee in 2016 were on a time and materials basis and amounted to £240,800. In addition, Deloitte LLP provided the Group with advice on taxation and other consulting services, and assurance services.
António Horta-Osório (Group Chief Executive), Simon Davies (Chief People, Legal and Strategy Officer), Paul Hucknall (People Director, Centres of Excellence), Chris Evans (Director, Reward Policy and Partnering), Stuart Woodward (Head of Reward Regulation and Governance) and Matthew Elderfield (Group Director, Conduct, Compliance and Operational Risk) (until September 2016) and Letitia Smith thereafter provided guidance to the Committee (other than for their own remuneration).
Juan Colombás (Chief Risk Officer) and George Culmer (Chief Financial Officer) also attended the Committee to advise as and when necessary on risk and financial matters.
STATEMENT OF VOTING AT ANNUAL GENERAL MEETING
The Group’s remuneration policy, which was effective during 2016, was detailed withintable below sets out the Directors’ remuneration report for 2013 and voted onvoting outcome at the 2014 AGM. The remuneration awardedAnnual General Meeting in May 2019 in relation to the Executive Directors in 2015 was disclosed in last year’s annual report on remuneration and wasthe Remuneration Policy, last voted on in 2017.
Votes cast in favour | Votes cast against | Votes withheld | ||||||||
Number of shares (millions) | Percentage of votes cast | Number of shares (millions) | Percentage of votes cast | Number of shares (millions) | ||||||
2018 annual report on remuneration (advisory vote) | 43,322 | 91.95% | 3,790 | 8.05% | 1,006 | |||||
Directors’ remuneration policy (binding vote in 2017) | 47,673 | 98.03% | 959 | 1.97% | 535 |
133 |
COMPENSATION
2020 Remuneration policy
Approval for this Remuneration Policy will be sought at the 2016 AGM. The shareholder votes submitted a t the meetings, either directly, by mail or by proxy, were as follows:AGM on 21 May 2020 and, if approved, will take effect from that date.
Votes | ||||||||||||||||||||
Votes cast in favour | Votes cast against | withheld | ||||||||||||||||||
Number of shares | Percentage of | Number of shares | Percentage of | Number of shares | ||||||||||||||||
(millions) | votes cast | (millions) | votes cast | (millions) | ||||||||||||||||
Remuneration policy (2014 vote) | 48,261 | 97.97% | 999 | 2.03% | 1,391 | |||||||||||||||
Annual report on remuneration (2016 vote) | 48,674 | 97.67% | 1,163 | 2.33% | 176 |
It is intended that approval of the Remuneration Policy will be sought at three-year intervals, unless amendments to the Policy are required, in which case further shareholder approval will be sought. Information on how the Policy will be implemented in 2020 is included in the annual report on remuneration.
The objective of the Policy is to align individual reward with the Group’s performance, the interests of its shareholders and a prudent approach to risk management. In this way, the requirements of the major stakeholders are balanced: customers, shareholders, employees, and regulators.
The policy is based on principles which are applicable to all employees within the Group and, in particular, the principle that the reward package should support the delivery of the Group’s purpose of Helping Britain Prosper and the strategic aim of becoming the best bank for customers whilst delivering long-term superior and sustainable returns to shareholders. It fosters performance in line with the Group’s values and behaviours, encourages effective risk disciplines and is in line with relevant regulations and codes of best practice.
DECISION MAKING PROCESS FOR DETERMINING THE POLICY AND CONSIDERATION OF STAKEHOLDER VIEWS
In formulating the Policy, the Remuneration Committee has consulted extensively with a number of stakeholders including institutional shareholders and the Group’s main regulators, the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA). A formal consultation on the remuneration of Executive Directors was not undertaken with colleagues. However, constructive engagement with the Group’s recognised Unions took place on key elements of the reward package and the unions continue to play a valuable role in representing colleagues across the Group. The Committee also increased its level of oversight on remuneration matters for colleagues and the wider workforce in 2019, receiving overviews and analysis on key reward matters on a quarterly basis to support decisions in relation to executive remuneration.
The Chairman of the Remuneration Committee alongside senior management consulted with shareholders extensively and the proposed amendments to the Policy were deliberated by the Remuneration Committee at three separate committee meetings. Throughout the process, the Committee Chair kept an open dialogue with key stakeholders to provide updates on amendments and additional points of consideration within the Policy following their feedback. The final Policy is proposed on the basis that it has been widely consulted on with stakeholders and has been designed to align to the Group’s culture, values and purpose whilst also remaining aligned to wider stakeholder interests.
No Executive Director has been involved in the determination of their own remuneration but has remained well informed to ensure alignment between executive and wider colleague remuneration structures. To manage conflicts of interests effectively, Executive Directors were asked to step out of committee meetings and relevant paperwork was also redacted for individuals if required. The Committee has also considered gender pay and CEO pay ratio analysis when finalising policy proposals.
DIRECTORS’ REMUNERATION POLICY AND GROUP REMUNERATION POLICY ALIGNMENT
There is no significant difference between the Policy for Executive Directors and that for other colleagues. If a significant difference for any individual were proposed, this would be subject to approval by the Remuneration Committee (within regulatory requirements). The table below summarises how the Policy applies across the Group.
Executive Directors | Group Executive Committee | Other Material Risk Takers | Other Employees | ||
Fixed | Base salary | ü | ü | ü | ü |
Fixed share award1 | ü | ü | ü | ü | |
Pension and benefits | ü | ü | ü | ü | |
Variable | Short-term incentive | ü | ü | ü | ü |
Long term incentive1 | ü | ü | ü | ü |
1 | Eligibility based on seniority and/or role. |
BASE SALARY | ||
Purpose and link to strategy | To support the recruitment and retention of Executive Directors of the calibre required to develop and deliver theGroup’s strategic priorities. Base salary reflects the role of the individual, taking account of market competitiveness,responsibilities and experience, and pay in the Group as a whole. | |
Operation | Base salaries are typically reviewed annually with any increases normally taking effect from 1 January for existingExecutive Directors and 1 April for future appointments. When determining and reviewing base salary levels,the Committee takes into account base salary increases for employees throughout the Group and ensures thatdecisions are made within the following two parameters: – An objective assessment of the individual’s responsibilities and the size and scope of their role, using objectivejob-sizing methodologies. – Pay for comparable roles in comparable publicly listed financial services groups of a similar size. Salary may be paid in sterling or other currency and at an exchange rate determined by the Committee. | |
Maximum potential | The Committee will make no increase which it believes is inconsistent with the two parameters above. Increaseswill normally be in line with the increase awarded to the overall employee population. However, a greater salaryincrease may be appropriate in certain circumstances, such as a new appointment made on a salary below a marketcompetitive level, where phased increases are planned, or where there has been an increase in the responsibilitiesof an individual. Where increases are awarded in excess of the wider employee population, the Committee willprovide an explanation in the relevant annual report on remuneration. | |
Performance measures | N/A | |
Changes | The effective date will change from January to April each year for future Executive Directors to align delivery with the rest of the workforce. |
COMPENSATION
Fixed share award | ||
Purpose and link to strategy | To ensure that total fixed remuneration is commensurate with role and to provide a competitive reward packagefor Executive Directors with an appropriate balance of fixed and variable remuneration, in line with regulatoryrequirements. | |
Operation | The fixed share award will be delivered entirely in Lloyds Banking Group shares, released over three years with33 per cent being released each year following the year of award. The Committee can, however, decide to deliversome or all of it in the form of cash. | |
Maximum potential | The maximum award is 100 per cent of base salary. | |
Performance measures | N/A | |
Changes | Delivery of vested shares will change from five to three years to align the delivery schedule with other colleagueseligible to receive a Fixed Share Award. | |
Pension | ||
Purpose and link to strategy | To provide cost effective and market competitive retirement benefits, supporting Executive Directors in buildinglong-term retirement savings. | |
Operation | Executive Directors are entitled to participate in the Group’s defined contribution scheme with companycontributions set as a percentage of salary. An individual may elect to receive some or all of their pension allowance as cash in lieu of pension contribution. | |
Maximum potential | The maximum allowance for all Executive Directors is 15 per cent of base salary. All future appointments asExecutive Directors will also attract a maximum allowance of 15 per cent of base salary in line with the majority of theworkforce. Maximum allowance may be increased or decreased in order to remain aligned. | |
Performance measures | N/A | |
Changes | Maximum employer pension contribution available has been reduced to 15 per cent of cash salary with nocompensation for the reduction to align to the maximum employer pension contribution available to colleagues onthe defined contribution pension scheme. | |
Benefits | ||
Purpose and link to strategy | To provide flexible benefits as part of a competitive remuneration package. | |
Operation | Benefits may include those currently provided and disclosed in the annual report on remuneration.Core benefits include a company car or car allowance, private medical insurance, life insurance and other benefitsthat may be selected through the Group’s flexible benefits plan. Additional benefits may be provided to individuals in certain circumstances such as relocation. This may includebenefits such as accommodation, relocation, and travel. The Committee retains the right to provide additionalbenefits depending on individual circumstances. When determining and reviewing the level of benefits provided, the Committee ensures that decisions are madewithin the following two parameters: – An objective assessment of the individual’s responsibilities and the size and scope of their role, using objectivejob-sizing methodologies. – Benefits for comparable roles in comparable publicly listed financial services groups of a similar size. | |
Maximum potential | The Committee will only make increases in the benefits currently provided which it believes are consistent with thetwo parameters above. Executive Directors receive a flexible benefits allowance, in line with all other colleagues. The flexible benefits allowance does not currently exceed 4 per cent of base salary. | |
Performance measures | N/A | |
Changes | No change to Policy | |
All-employee plans | ||
Purpose and link to strategy | Executive Directors are eligible to participate in HMRC-approved share plans which promote share ownershipby giving employees an opportunity to invest in Group shares. | |
Operation | Executive Directors may participate in these plans in line with HMRC guidelines currently prevailing (where relevant),on the same basis as other eligible employees. | |
Maximum potential | Participation levels may be increased up to HMRC limits as amended from time to time. The monthly savings limitsfor Save As You Earn (SAYE) is currently £500. The maximum value of shares that may be purchased under theShare Incentive Plan (SIP) in any year is currently £1,800 with a two-for-one match. Currently a three-for-two match is operated up to a maximum colleague investment of £30 per month. The maximum value of free shares that may be awarded in any year is £3,600. | |
Performance measures | N/A | |
Changes | No change to policy |
135 |
COMPENSATION
Group Performance Share plan | ||
Purpose and link to strategy | To incentivise and reward the achievement of the Group’s annual financial and strategic targets whilst supportingthe delivery of long-term superior and sustainable returns. | |
Operation | Measures and targets are set annually and awards are determined by the Committee after the year end basedon performance against the targets set. The Group Performance Share may be delivered partly in cash, shares,notes or other debt instruments including contingent convertible bonds. Where all or part of any award is deferred,the Committee may adjust these deferred awards in the event of any variation of share capital, demerger, specialdividend or distribution or amend the terms of the plan in accordance with the plan rules. Where an award or a deferred award is in shares or other share-linked instrument, the number of shares tobe awarded may be calculated using a fair value or based on discount to market value, as appropriate. The Committee applies its judgement to determine the payout level commensurate with business and/orindividual performance or other factors as determined by the Committee. The Committee may reduce the levelof award (including to zero), apply additional conditions to the vesting, or delay the vesting of deferred awards to aspecified date or until conditions set by the Committee are satisfied, where it considers it appropriate. Awards maybe subject to malus and clawback for a period of up to seven years after the date of award which may be extendedto 10 years where there is an ongoing internal or regulatory investigation. | |
Maximum potential | The maximum Group Performance Share opportunities are 140 per cent of base salary for the GCE and 100 per centof base salary for other Executive Directors. | |
Performance measures | Measures and targets are set annually by the Committee in line with the Group’s strategic business plan and furtherdetails are set out in the annual report on remuneration for the relevant year. | |
Measures consist of both financial and non-financial measures and the weighting of these measures will bedetermined annually by the Committee. The weightings of the performance measures for the 2020 financialyear are set out for 2019 on page 129. All assessments of performance are ultimately subject to the Committee’sjudgement, but no award will be made if threshold performance (as determined by the Committee) is not met forfinancial measures or the individual receives a score of 2.6 out of 5 or below. The normal ‘target’ level of the GroupPerformance Share is 50 per cent of maximum opportunity. The Committee is committed to providing transparency in its decision making in respect of Group PerformanceShare awards and will disclose historic measures and target information together with information relating to howthe Group has performed against those targets in the annual report on remuneration for the relevant year exceptto the extent that this information is deemed to be commercially sensitive, in which case it will be disclosed once itis deemed not to be sensitive. | ||
Changes | The normal ‘target’ level of the Group Performance Share has changed to 50 per cent of maximum opportunityfrom 30 per cent. | |
Long Term Share plan | ||
Purpose and link to strategy | Long term variable reward opportunity to align executive management incentives and behaviours to the Group’sobjectives of delivering long-term superior and sustainable returns. The Long Term Share Plan will incentivestewardship over a long time horizon and promote good governance through a simple alignment with the interestof shareholders. | |
Operation | From 2021, awards will be granted under the rules of the 2020 Long-Term Share Plan, subject to shareholderapproval at the AGM on 21 May 2020. Awards are made in the form of conditional shares and award levels are set atthe time of grant, in compliance with regulatory requirements, and may be subject to a discount in determining totalvariable remuneration under the rules set by the European Banking Authority. The number of shares to be awardedmay be calculated using a fair value or based on a discount to market value, as appropriate. Vesting will be subject to an assessment of underpin thresholds being maintained measured over a period of threeyears, or such longer period, as determined by the Committee. The Committee retains full discretion to amend the payout levels should the award not reflect business and/orindividual performance. The Committee may reduce (including to zero) the level of the award, apply additionalconditions to the vesting, or delay the vesting of awards to a specified date or until conditions set by the Committeeare satisfied, where it considers it appropriate. Awards may be subject to malus and clawback for a period of up to seven years after the date of award which maybe extended to 10 years where there is an ongoing internal or regulatory investigation. | |
Maximum potential | The maximum Long Term Share Plan opportunity is 200 per cent of base salary for all Executive Directors includingthe GCE. | |
Performance measures | An award may be granted by the Remuneration Committee taking into account an assessment of performance ofthe Company, any Member of the Group or business unit or team, and/or the performance, conduct or capability ofthe Participant, on such basis as the Committee determine. The normal ‘target’ level of the Long Term Share award is 150 per cent of base salary. No further performance conditions will apply. However vesting will be subject to the underpins and RemunerationCommittee discretion as described above. | |
Changes | The Long Term Share Plan replaces the Executive Group Ownership Share Plan. |
136 |
COMPENSATION
Deferral of variable remuneration and holding periods | |
Operation | The Group Performance Share and Long Term Share plans are both considered variable remuneration for the purpose of regulatory payment and deferral requirements. The payment of variable remuneration and deferral levels are determined at the time of award and in compliance with regulatory requirements (which currently require that at least 60 per cent of total variable remuneration is deferred for seven years with pro rata vesting between the third and seventh year, and at least 50 per cent of total variable remuneration is paid in shares or other equity linked instruments subject to a holding period in line with current regulatory requirements). A proportion of the aggregate variable remuneration may vest immediately on award. The remaining proportion of the variable remuneration is then deferred in line with regulatory requirements. |
Changes | No change in deferral requirements. |
Further information on which performance measures were chosen and how performance targets and underpin thresholds are set are disclosed in the relevant sections throughout the report.
DISCRETION IN RELATION TO VARIABLE REWARDS
The Committee retains discretion with regards to these plans. This relates to:
the timing, size and type of awards and holding periods, subject to policy maxima, and the annual setting of targets; | |
where qualitative performance measures or underpins are used and performance against those measures or underpins is not commensurate with the Group’s overall financial or strategic performance over the performance period; | |
where qualitative underpin thresholds are used and performance against those underpins is not commensurate with the Group’s overall financial performance over the underpin period; | |
adjustment of targets and measures if events occur which cause it to determine that it is appropriate to do so. The Committee also retains the right to change performance measures and the weighting of measures, including following feedback from regulators, shareholders and/or other stakeholders; and amending the plan rules in accordance with their terms and or amending the basis of operation (including but not limited to the approach in respect of dividend equivalents) including in light of any change to regulatory requirements or guidance or feedback from regulators; | |
to exercise discretion in accordance with the rules, including in relation to whether or not malus or clawback provisions would apply, in connection with recruitment, or terminations of employment, or corporate events affecting the Company; | |
adjustments required in certain circumstances (e.g. rights issues, corporate restructuring events and special dividends); | |
the exercise of the Committee’s discretion will be disclosed in accordance with regulatory requirements. |
LEGACY AWARDS AND RESTRICTIONS ON PAYMENTS
Awards in respect of the Group Performance Share and under the long-term incentive Group Ownership share will be granted in 2020 under the terms of the Directors’ remuneration policy approved by shareholders on 11 May 2017 (the “2017 Policy”). No further awards would be made under the long-term incentive Group Ownership share (or the terms of the 2017 Policy) unless the new Long Term Share Plan 2020 was not approved by shareholders. The Committee reserves the right to make any remuneration payments/awards and any payments/awards for loss of office, notwithstanding that they are not in line with the policy set out above where the terms of the payment/award were agreed (i) before the 2017 policy came into effect; (ii) pursuant to the 2017 policy; or (iii) at a time when the relevant individual was not a Director of the Group and, in the opinion of the Committee, the payment/award was not in consideration for the individual becoming a Director of the Group. Such payments/awards will have been set out in the annual report on remuneration for the relevant year. They include awards and payments made under previous approved remuneration policy and payments in relation to deferred Group Performance Share awards and long-term incentive’ Group Ownership share awards granted in 2018, 2019 and, as referred to above, 2020.
137 |
COMPENSATION
ILLUSTRATION OF APPLICATION OF REMUNERATION POLICY
The charts below illustrate possible remuneration outcomes under the following three scenarios:
1. | The maximum that may be paid, assuming full Group Performance Share payout and full vesting under the new Long Term Share plan. For the Long Term Share Plan, an indication of the maximum remuneration receivable assumes a share price appreciation of 50 per cent during the period in which the award is subject to underpins. The basis of the calculation of the share price appreciation is that the share price embedded in the calculation for the ‘maximum’ bar chart is assumed to increase by 50 per cent across the performance period. |
2. | The expected value of remuneration for performance midway between threshold and maximum, assuming 50 per cent of maximum Group Performance Share opportunity and a Long Term Share award granted at 150 per cent of salary. It is also assumed that the Long Term Share Award will vest in full. |
3. | The minimum that may be paid, where only the fixed element is paid (base salary, benefits, pension and the fixed share award). |
Amounts are based on based salaries as at 1 January 2020 for the Group Chief Executive and Chief Operating Officer and 1 April 2020 for the Chief Financial Officer. Implementation of the Policy in 2020 is set out in the annual report on remuneration.
1 | Maximum values of reward package take into account the assumed 50 per cent share price appreciation. Maximum total compensation (£000) without share price appreciation is £7,005 for António Horta-Osório, £3,840 for Juan Colombás and £3,913 for William Chalmers. |
APPROACH TO RECRUITMENT AND APPOINTMENT TO THE BOARD
In determining appropriate remuneration arrangements on hiring a new Executive Director, the Committee will take into account all relevant factors. This may include the experience and calibre of the individual, local market practice, the existing remuneration arrangements for other executives and the business circumstances. The Committee will seek to ensure that arrangements are in the best interests of both the Group and its shareholders and will seek not to pay more than is necessary.
The Committee may make awards on hiring an external candidate to ‘buy-out’ remuneration arrangements forfeited on leaving a previous employer. In doing so the Committee will take account of relevant factors including any performance conditions attached to these awards, the form in which they were granted (e.g. cash or shares), the currency of the awards, and the timeframe of awards. Any such award made will be made in accordance with the PRA’s Rulebook and made on a comparable basis to those forfeited and subject to malus and clawback at the request of the previous employer as required by the PRA rules.
The package will normally be aligned with the remuneration policy as described in the policy report. However, the Committee retains the discretion to make appropriate remuneration decisions outside the standard policy to facilitate the recruitment of an individual of the calibre required and in exceptional cases.
This may, for example, include the following circumstances:
An interim recruit, appointed to fill an Executive Director role on a short-term basis. | |
Exceptional circumstances requiring the Chairman to take on an executive function on a short-term basis. | |
An Executive Director recruited at a time in the year when it would be inappropriate to provide a Group Performance Share or Long Term Share award for that year, for example, where there may be insufficient time to assess performance. In this situation the Committee may feel it appropriate to transfer the quantum in respect of the months employed during the year to the subsequent year so that reward is provided on a fair basis. | |
An Executive Director recruited from a business or location where benefits are provided that do not fall into the definition of ‘variable remuneration forfeited’ but where the Committee considers it reasonable to buy-out these benefits. | |
Transitional arrangements for overseas hires, which might include relocation expenses and accommodation. |
The maximum level of variable remuneration (excluding buy-out awards) that may be awarded to new Executive Directors is equal to 200 per cent of fixed remuneration, including any discount permitted by the European Banking Authority. In making any such remuneration decisions, the Committee will apply any appropriate performance measures in line with those applied to other Executive Directors.
A full explanation will be provided of any buy-out award or discretionary payment.
138 |
COMPENSATION
SERVICE AGREEMENTS
The service contracts of all current Executive Directors are terminable on 12 months’ notice from the Group and six months’ notice from the individual.
The Chairman also has a letter of appointment. His engagement may be terminated on six months’ notice by either the Group or him.
Notice to be given by the Group | Date of service agreement | |||
Lord Blackwell | 6 months | 31 March 2014 | ||
António Horta-Osório | 12 months | 3 November 2010 | ||
William Chalmers | 12 months | 3 June 2019 | ||
Juan Colombás | 12 months | 30 November 2010 |
Under his contract (dated 3 November 2010), António Horta-Osório (GCE) is entitled to an amount equivalent to base salary and pension allowance as a payment in lieu of notice if notice to terminate is given by the Group. If notice to terminate is given by the GCE, he is entitled to an amount equivalent to base salary if the Group chooses to make a payment in lieu of notice. Such payments in lieu will be made in monthly instalments subject to mitigation. He is also entitled to six months’ notice from the Group in the event of his long-term incapacity. As part of a buy-out of a pension forfeited on joining from Santander, the GCE is also entitled to the provision of a conditional unfunded pension commitment, subject to performance conditions as described further in the annual report on remuneration. In the event of long-term incapacity, if the GCE does not perform his duties for a period of at least 26 weeks (in aggregate over a 12 month period), the Group shall be entitled to terminate his employment by giving six months’ notice. In all other respects, the terms of the GCE’s contract in relation to payments for loss of office match those set out below for new directors.
Under terms agreed when joining the Group, Juan Colombás is entitled to a conditional lump sum benefit, payable either (i) on reaching normal retirement age unless he voluntarily resigns or is dismissed for cause, or (ii) on leaving due to long-term sickness or death, as described further in the annual report on remuneration.
The service contracts and letters of appointment are available for inspection at the Company’s registered office.
NOTICE PERIODS
Newly-appointed Executive Directors will be employed on contracts that include the following provisions:
The individual will be required to give six months’ notice if they wish to leave and the Group will give 12 months’ notice other than for material misconduct or neglect or other circumstances where the individual may be summarily dismissed by written notice. In exceptional circumstances, new joiners will be offered a longer notice period (typically reducing to 12 months within two years of joining). | |
In the event of long-term incapacity, if the Executive Director does not perform their duties for a period of at least 26 weeks (in aggregate over a 12 month period), the Group shall be entitled to terminate the executive’s employment by giving three months’ notice. | |
At any time after notice to terminate is given by either the Group or the Executive Director, the Group may require the Executive Director to take leave for some or all of the notice period. | |
At any time, at its absolute discretion, the Group may elect to terminate the individual’s employment by paying to the Executive Director, in lieu of the notice period, an amount equivalent to base salary, subject to mitigation as described more fully in the termination payments section of this report. |
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COMPENSATION
TERMINATION PAYMENTS
It is the Group’s policy that where compensation on termination is due, it should be paid on a phased basis, mitigated in the event that alternative employment is secured. Where it is appropriate to make a bonus payment ( known as Group Performance Share) to the individual, this should relate to the period of actual service, rather than the full notice period. Any Group Performance Share payment will be determined on the basis of performance as for all continuing employees and will remain subject to performance adjustment (malus and clawback) and deferral. Generally, on termination of employment, Group Performance Share awards, in flight Group Ownership Share awards, Long Term Share Plan awards and other rights to payments will lapse except where termination falls within one of the reasons set out below. In the event of redundancy, the individual may receive a payment in line with statutory entitlements at that time. If an Executive Director is dismissed for gross misconduct, the Executive Director will receive normal contractual entitlements until the date of termination and all deferred Group Performance Share, Group Ownership Share and Long Term Share Plan awards will lapse.
Base salary | Fixed share award | Pension, benefits and other fixed remuneration | ||||
Resignation | In the case of resignation to take up new employment, paid until date of termination (including any period of leave required by the Group). In the case of resignation for other reasons, base salary will be paid in monthly instalments for the notice period (or any balance of it), offset by earnings from new employment during this period. | Awards continue and are released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination. | Paid until date of termination including any period of leave required by the Group (subject to individual benefit scheme rules). | |||
Redundancy or termination by mutual agreement | Paid until date of termination (including any period of leave required by the Group). In respect of the balance of any notice period, base salary will be paid in monthly instalments, offset by earnings from new employment during this period. | Awards will normally continue and be released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination unless, in the case of mutual agreement, the Committee determines that exceptional circumstances apply in which case shares may be released on termination. | Paid until date of termination including any period of leave required by the Group (subject to individual benefit scheme rules). | |||
Retirement/ill health, injury, permanent disability/death | Paid until date of retirement/death. For ill health, injury or permanent disability which results in the loss of employment, paid for the applicable notice period (including any period of leave required by the Group). | Awards will normally continue and be released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination except for (i) death where shares are released on the date of termination; or (ii) in the case of permanent disability the Committee determines that exceptional circumstances apply in which case shares may be released on the date of termination. | Paid until date of death/ retirement (subject to individual benefit scheme rules). For ill health, injury, permanent disability, paid for the notice period including any period of leave required by the Group (subject to individual benefit scheme rules). | |||
Change of control or merger | N/A | Awards will be payable on the date of the Change of Control and the number of shares subject to the award will be reduced to reflect the shorter accrual period. The Committee may decide that vested awards will be exchanged for (and future awards made over) shares in the acquiring company or other relevant company. | N/A | |||
Other reason where the Committee determines that the executive should be treated as a good leaver | Paid until date of termination (including any period of leave required by the Group). In respect of the balance of any notice period, base salary will be paid in monthly instalments, offset by earnings from new employment during this period. | Awards continue and are released at the normal time and the number of shares subject to the award in the current year will be reduced to reflect the date of termination. | Paid until date of termination including any period of leave required by the Group (subject to individual benefit scheme rules). |
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COMPENSATION
Group Performance Share (Annual bonus plan)1 | Long Term Share Plan (Long term variable reward plan)2 | Chairman and Non-Executive Director fees3 | ||||
Resignation | Unvested deferred Group Performance Share awards are forfeited and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier) unless the Committee determines otherwise (in exceptional circumstances), in which case such awards are subject to deferral, malus and clawback. | Awards lapse on date of leaving (or on notice of leaving) unless the Committee determines otherwise in exceptional circumstances that they will vest on the original vesting date (or exceptionally on the date of leaving). Where award is to vest it will be subject to the underpins and time pro-rating (for months worked in underpin period). Malus and clawback will apply. | Paid until date of leaving Board. | |||
Redundancy or termination by mutual agreement | For cases of redundancy, unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier). Such awards would be subject to deferral, malus and clawback. For termination by mutual agreement, the same approach as for resignation would apply. | Awards vest on the original vesting date (or exceptionally on the date of leaving). Vesting is subject to the underpins and time pro-rating (for months worked in underpin period). Malus and clawback will apply. | Paid until date of leaving Board. | |||
Retirement/ill health, injury, permanent disability | Unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier). Such awards would be subject to deferral, malus and clawback. | Awards vest on the original vesting date (or exceptionally on the date of leaving). Vesting is subject to the underpins and time pro-rating (for months worked in underpin period). Malus and clawback will apply. | Paid until date of leaving Board. | |||
Death | Unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination. Deferred Group Performance Share awards vest on death in cash, unless the Committee determines otherwise. | Awards vest in full on the date of death unless in exceptional circumstances the Remuneration Committee determines that the underpins or pre-vest test do not support full vesting. | Paid until date of leaving Board. | |||
Change of control or merger2 | In-year Group Performance Share accrued up until date of change of control or merger (current year). Where there is a Corporate Event, deferred Group Performance Share awards vest to the extent and timing determined by the Committee in its absolute discretion. | Awards vest on date of event. Vesting is subject to the underpins and time pro-rating (for months worked in underpin period unless determined otherwise). Malus and clawback will normally apply. Instead of vesting, awards may be exchanged for equivalent awards over the shares of the acquiring company or another company or equivalent cash based awards. | Paid until date of leaving Board. | |||
Other reason where the Committee determines that the executive should be treated as a good leaver | Unvested deferred Group Performance Share awards are retained and in-year Group Performance Share awards are accrued until the date of termination (or the commencement of garden leave if earlier). Deferred Group Performance Share awards vest in line with normal timeframes and are subject to malus and clawback. The Committee may allow awards to vest early if it considers it appropriate. | Awards vest on the original vesting date (or exceptionally on the date of leaving). Vesting is subject to the underpins and time pro-rating (for months worked in underpin period). Malus and clawback will apply. | Paid until date of leaving Board. |
1 | If any Group Performance Share is to be paid to the Executive Director for the current year, this will be determined on the basis of performance for the period of actual service, rather than the full notice period (and so excluding any period of leave required by the Group). |
2 | Reference to change of control or merger includes a compromise or arrangement under section 899 of the Companies Act 2006 or equivalent. Fixed share awards may also be released/exchanged in the event of a resolution for the voluntary winding up of the Company; a demerger, delisting, distribution (other than an ordinary dividend) or other transaction, which, in the opinion of the Committee, might affect the current or future value of any award; or a reverse takeover, merger by way of a dual listed company or other significant corporate event, as determined by the Committee. In the event of a demerger, special dividend or other transaction which would in the Committee’s opinion affect the value of awards, the Committee may allow a deferred Group Performance Share award or a long term incentive award to vest to the extent relevant performance conditions are met to that date and if the Committee so determined, on a time pro-rated basis (unless determined otherwise) to reflect the number of months of the underpin period worked. |
3 | The Chairman is entitled to six months’ notice. |
4 | The terms applicable on a cessation of employment to Group Ownership Share Awards are as shown on page 133 of the 2017 Remuneration Policy. |
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COMPENSATION
On termination, the Executive Director will be entitled to payment for any accrued but untaken holiday calculated by reference to base salary and fixed share award.
The cost of legal, tax or other advice incurred by an Executive Director in connection with the termination of their employment and/or the cost of support in seeking alternative employment may be met up to a maximum of £100,000. Additional payments may be made where required to settle legal disputes, or as consideration for new or amended post-employment restrictions.
Where an Executive Director is in receipt of expatriate or relocation expenses at the time of termination (as at the date of the AGM no current Executive Directors are in receipt of such expenses), the cost of actual expenses incurred may continue to be reimbursed for up to 12 months after termination or, at the Group’s discretion, a one-off payment may be made to cover the costs of premature cancellation. The cost of repatriation may also be covered.
REMUNERATION POLICY TABLE FOR CHAIRMAN AND NON-EXECUTIVE DIRECTORS
The table below sets out the remuneration policy for Non-Executive Directors (NEDs).
CHAIRMAN AND NON-EXECUTIVE DIRECTOR FEES AND BENEFITS
Purpose and link to strategy | To provide an appropriate reward to attract and retain a high-calibre individual with the relevant skills, knowledge and experience. |
Operation | The Committee is responsible for evaluating and making recommendations to the Board with regards to the Chairman’s fees. The Chairman does not participate in these discussions. |
The GCE and the Chairman are responsible for evaluating and making recommendations to the Board in relation to the fees of the NEDs. | |
When determining and reviewing fee and benefit levels, the Committee ensures that decisions are made within the following parameters: | |
– The individual’s skills and experience. – An objective assessment of the individual’s responsibilities and the size and scope of their role, using objective sizing methodologies. – Fees and benefits for comparable roles in comparable publicly listed financial services groups of a similar size. | |
The Chairman receives an all-inclusive fee, which is reviewed periodically plus benefits including life insurance, car allowance, medical insurance and transportation. The Committee retains the right to provide additional benefits depending on individual circumstances. | |
NEDs are paid a basic fee plus additional fees for the chairmanship/membership of committees and for membership of Group companies/boards/non-board level committees. | |
Additional fees are also paid to the senior independent director and to the deputy chairman to reflect additional responsibilities. | |
Any increases normally take effect from 1 January of a given year. | |
The Chairman and the NEDs are not entitled to receive any payment for loss of office (other than in the case of the Chairman’s fees for the six month notice period) and are not entitled to participate in the Group’s bonus, share plan or pension arrangements. | |
NEDs are reimbursed for expenses incurred in the course of their duties, such as travel and accommodation expenses, on a grossed-up basis (where applicable). | |
Maximum potential | The Committee will make no increase in fees or benefits currently provided which it believes is inconsistent with the parameters above. |
Performance metrics | N/A |
Changes | No change to policy. |
LETTERS OF APPOINTMENT
The Non-Executive Directors all have letters of appointment and are appointed for an initial term of three years after which their appointment may continue subject to an annual review. Non-Executive Directors may have their appointment terminated, in accordance with statute and the articles of association, at any time with immediate effect and without compensation.
DATE OF LETTER OF APPOINTMENT
NED | Date of letter of appointment | Date of appointment | ||
Alan Dickinson | 26 June 2014 | 8 September 2014 | ||
Anita Frew | 17 November 2010 | 1 December 2010 | ||
Simon Henry | 1 May 2014 | 26 June 2014 | ||
Nick Prettejohn | 1 April 2014 | 23 June 2014 | ||
Stuart Sinclair | 26 November 2015 | 04 January 2016 | ||
Sara Weller | 31 January 2012 | 01 February 2012 | ||
Lord Lupton | 2 March 2017 | 01 June 2017 | ||
Amanda Mackenzie | 17 April 2018 | 01 October 2018 | ||
Sarah Legg | 21 October 2019 | 01 December 2019 |
All Directors are subject to annual re-election by shareholders.
The service contracts and letters of appointments are available for inspection at the Company’s registered office.
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STATEMENT ON US CORPORATE GOVERNANCE STANDARDS
The Board is committed to the delivery of the Group’s strategy to becomewhich will transform the best bankGroup for customers, whilst delivering long-term, superior and sustainable returns to shareholders.success in a digital world. The Board’s strategy is underpinned by high standards of corporate governance designed to ensure consistency and rigour in its decision making. This report explains how those standards, in particular, those laid down in the Financial Reporting Council’s 2014 UK Corporate Governance Code 2018 (the UK Code), apply in practice to ensure that the Board and management work together for the long-term benefit of the Company and its shareholders. The UK Code can be accessed at www.frc.org.uk.
To assist the Board in carrying out its functions and to provide independent oversight of internal control and risk management, certain responsibilities are delegated to the Board’s Committees. The Board is kept up to date on the activities of the Committees through reports from each of the Committee Chairmen. Terms of Reference for each of the Committees are available on the website at www.lloydsbankinggroup.com. Information on the membership, role and activities of the Nomination and Governance Committee, the Audit Committee, the Board Risk Committee and the Responsible Business Committee can be found on pages 164157 to 175.168.
Further information about the work of the Remuneration Committee is included on pages 150117 to 118 and 151.132 to 133.
As a non-US company listed on the New York Stock Exchange (NYSE) Lloyds Banking Group plc is required to disclose any significant ways in which its corporate governance practices differ from those followed by domestic US companies listed on the NYSE.NYSE, key differences are set out in the paragraphs below. As Lloyds Banking Group plc’s main listing is on the London Stock Exchange, it follows the principles contained in the UK Code. The Group hasconfirms that it applied the principles and complied with all the provisions of the Code throughout 2019 except in relation to that part of provision 36 that provides that the remuneration committee should develop a formal policy for post-employment shareholding requirements encompassing both unvested and vested shares. Compliance with the UK Code and has done so throughout 2016 regarding the provisions where the requirements are of a continuing nature. Key differences are set out below.is discussed further on page 155.
The NYSE corporate governance listing standards require domestic US companies to adopt and disclose corporate governance policies. For Lloyds Banking Group plc, consistent with the principles of the UK Code, the Nomination and Governance Committee sets the corporate governance principles applicable to the Company and oversees the annual evaluation of the performance of the Board, its Committees and its individual members.
Under the NYSE corporate governance listing standards, the remuneration, nomination and governance committees of domestic US companies must be comprised of entirely independent directors. However for Lloyds Banking Group plc, again consistent with the principles of the UK Code, the Remuneration Committee and the Nomination and Governance Committee include the Chairman, with all other members being independent non-executive directors.Non-Executive Directors.
CORPORATE GOVERNANCE
This report sets out our approach to governance in practice,A letter from the work of the Board and its committees and explains how the Group applied the principles of the UK Corporate Governance Code (the Code) during 2016Chairman
LEADERSHIP
THE BOARD
The Group is led by an effective, committed and unitary Board, which is collectively responsible for the long-term success of the Company. The Board comprises a Chairman (who was independentDelivering on appointment), independent Non-Executive Directors and Executive Directors. The names and biographies of current Directors are set out on pages 117 to 120.
There is a clear division of responsibility at the head of the Company, which is documented in the Group’s Corporate Governance Framework. The Chairman has overall responsibility for the leadership of the Board and for ensuring its effectiveness while the Group Chief Executive manages and leads the business.
The Corporate Governance Framework, which is reviewed annually by the Board, sets out a number of key decisions and matters that are reserved for the Board’s approval.
The Board sets the strategy, oversees its delivery and establishes the culture, values and standards of the Group.
The Board ensures that the Group manages risk effectively, monitors financial performance and reporting and ensures that appropriate and effective succession planning arrangements and remuneration policies are in place. It provides and encourages entrepreneurial leadership across the Group within this framework.
KEY ROLES AND RESPONSIBILITIES
ChairmanLord Blackwell
Lord Blackwell leads the Board and promotes the highest standards of corporate governance. He sets the Board’s agenda and builds an effective and complementary Board. The Chairman leads Board succession planning and ensures effective communication with shareholders.
Deputy ChairmanAnita Frew
Anita Frew as Deputy Chairman ensures continuity of Chairmanship during any change of chairmanship. She supports the Chairman in representing the Board and acting as a spokesperson. She deputises for the Chairman and is available to the Board for consultation and advice. The Deputy Chairman represents the Group’s interests to official enquiries and review bodies.
Senior Independent DirectorAnthony Watson
As the Senior Independent Director, Anthony Watson is a sounding board for the Chairman and Group Chief Executive. He acts as a conduit for the views of other Non-Executive Directors and conducts the Chairman’s annual performance appraisal. He is available to help resolve shareholders’ concerns and attend meetings with major shareholders and financial analysts to understand issues and concerns.
Non-Executive DirectorsAlan Dickinson, Simon Henry, Nick Luff, Deborah McWhinney, Nick Prettejohn, Stuart Sinclair, Sara Weller
The Non-Executive Directors challenge constructively and help develop and set the Group’s strategy. They actively participate in Board decision making and scrutinise management performance. The Non-Executive Directors satisfy themselves on the integrity of financial information and review the Group’s risk exposures and controls. The Non-Executive Directors, through the Remuneration Committee, determine the remuneration of Executive Directors.
Group Chief ExecutiveAntónio Horta-Osório
António Horta-Osório manages the Group on a day-to-day basis and makes decisions on matters affecting the operation, performance and strategy of the Group’s business. He delegates aspects of his own authority, as permitted under the Corporate Governance Framework, to members of the Group Executive Committee (GEC). He provides leadership and direction to senior management and coordinates all activities to implement the strategy and for managing the business in accordance with the Group’s risk appetite and business plan set by the Board.
Executive DirectorsJuan Colombás, George Culmer
Under the leadership of the Group Chief Executive, the Executive Directors make and implement decisions in all matters affecting operations, performance and strategy. They provide specialist knowledge and experience to the Board. They are responsible for the successful leadership and management of the Risk and Finance divisions respectively. The Executive Directors design, develop and implement strategic plans and deal with day-to-day operations of the Group.
Company SecretaryMalcolm Wood
The Company Secretary advises the Board and ensures good information flows and comprehensive practical support are provided to Directors. He maintains the Group’s Corporate Governance Framework and organises Directors’ induction and training. The Company Secretary communicates with shareholders as appropriate and ensures due regard is paid to their interests. Both the appointment and removal of the Company Secretary is a matter for the Board as a whole.
CORPORATE GOVERNANCE
BOARD AND GOVERNANCE STRUCTUREpurpose – Helping Britain Prosper
A full schedule of all matters reserved to the Board and Terms of Reference for each of the Board Committees can be found at www.lloydsbankinggroup.com/our-group/corporate-governance
BOARD COMMITTEES
The Board is supported by its Committees which make recommendations on matters delegated to them under the Corporate Governance Framework, in particular in relation to internal control, risk, financial reporting, governance and remuneration matters.
This enables the Board to spend a greater proportion of its time on strategic, forward looking agenda items. Each Committee comprises Non-Executive Directors only and is chaired by an experienced Chairman. The Committee Chairmen report to the Board on the activities of the Committee at each Board meeting.
The Board recognises that governance must be dynamic and evolve to meet current and future demands. Therefore, in 2016 two further sub-committees of the Board Risk Committee were established to focus on Financial Markets and IT Resilience & Cyber, in addition to an existing Stress Testing & Recovery Planning sub-committee. The sub-committees were constituted to enable members of the Board Risk Committee to dedicate additional time and resource to better understand and to enable fuller review and challenge of the risks associated with the topic of the sub-committee. Current direct Board level oversight of these activities through regular updates and annual review continues unchanged.
Additionally, a Cyber Security Advisory Panel was established to bring an industry perspective and allow for discussion of the key cyber related activities and threats.
THE BOARD IN 2016
Non-Executive Directors see attendance at Board and Committee meetings as only one part of their role. In addition to the annual schedule of Board and Committee meetings, the Non-Executive Directors undertake a full programme of activities each year, as set out on page 158 .
Non-Executive Directors regularly meet with senior management and spend time increasing their understanding of the business through site visits, formal briefing sessions or more informal events including breakfast meetings with senior staff, which the Chief People, Legal and Strategy Officer also attends. Board dinners are held prior to each scheduled Board meeting. This allows the Directors greater time to discuss their views, ensuring that there is sufficient time for the Board to discuss matters of a material nature at Board meetings. Some of these pre meetings are for Non-Executive Directors only, some also include the Group Chief Executive and others the full Board and GEC members. At least once a year, a meeting is held without the Chairman in attendance.
Prior to the annual general meeting (AGM) in Scotland the Board held a joint discussion with the Board of Scottish Widows Group Limited allowing in-depth focus on insurance matters.
The Board has agreed the following changes to our Board composition since the year end. Anthony Watson, Senior Independent Director, will retire at the 2017 AGM after serving more than eight years on the Board. Anita Frew will succeed Anthony as Senior Independent Director. Anita will combine the role of Senior Independent Director with the role of Deputy Chairman, which she has held since May 2014. Anita’s significant board, financial and investment management experience, including as a Senior Independent Director, make her ideally suited to take on this role. Nick Luff, an independent Non-Executive Director, has notified the Board that in light of his other commitments he does not intend to seek re-election at the 2017 AGM. Nick will be succeeded as Chairman of the Audit Committee by Simon Henry. Simon has significant financial experience in the UK listed environment, retiring as Chief Financial Officer of Royal Dutch Shell plc in March 2017. His background and experience enable him to fulfil the role of Audit Committee Chairman and for SEC purposes the role of Audit Committee financial expert.
CORPORATE GOVERNANCE
ATTENDANCE AT BOARD MEETINGS IN 2016
Eligible to attend1 | Attended | |||||||
Directors who served during 2016 | ||||||||
António Horta-Osório | 9 | 9 | ||||||
Lord Blackwell | 9 | 9 | ||||||
Juan Colombás | 9 | 9 | ||||||
George Culmer | 9 | 9 | ||||||
Alan Dickinson | 9 | 9 | ||||||
Anita Frew | 9 | 9 | ||||||
Simon Henry2 | 9 | 8 | ||||||
Nick Luff | 9 | 9 | ||||||
Deborah McWhinney | 9 | 9 | ||||||
Nick Prettejohn3 | 9 | 8 | ||||||
Stuart Sinclair4 | 9 | 9 | ||||||
Anthony Watson | 9 | 9 | ||||||
Sara Weller | 9 | 9 | ||||||
Former directors who served during 2016 | ||||||||
Dyfrig John5 | 4 | 4 |
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Group serves across the | |
HOW BOARD MEETINGS ARE RUN
The Chairman ensures Board meetings are structured to facilitate open discussion, debate and challenge. Through his opening remarks, the Chairman sets the focus of each meeting.
In the rare event of a Director being unable to attend a meeting, the Chairman discusses the matters proposed with the Director concerned, seeking their support and or feedback accordingly. The Chairman subsequently represents those views at the meeting.
Directors are sent papers for the Board meeting typically seven days in advance of the meeting in order that they may have the time to consider the proposals put forward and seek clarification or further information as required. The Board makes full use of technology such as video conferencing, teleconferencing, a Board portal and tablets in its meeting arrangements. This leads to greater flexibility, security and efficiency in Board paper distribution.
ENSURING THE RIGHT FOCUS TO DELIVER THE GROUP’S STRATEGY
The Board recognises the need to be adaptable and flexible to respond to changing circumstances and emerging business priorities, whilst ensuring the continuing monitoring and oversight of core issues.
The Group has a comprehensive and continuous agenda setting and escalation process in place for ensuring the Board has the right information at the right time and in the right format to enable the Directors to make the right decisions. The Chairman leads the process, assisted by the Group Chief Executive and Company Secretary. The process ensures that sufficient time is being set aside for strategic discussions and business critical items.
The process of escalating issues and agenda setting is reviewed at least annually as part of the Board Effectiveness Review with enhancements made to the process, where necessary, to ensure it remains effective.
The Non-Executive Directors also receive regular updates from the Group Chief Executive’s office including a weekly email which gives context to current issues. In-depth and background materials are regularly provided via a reading room on the Board portal.
SENIOR MANAGERS AND CERTIFICATION REGIME
Last year, the Corporate Governance Framework was reviewed in preparation for the introduction in March 2016 of the Senior Managers and Certification Regime (SM&CR) and, as relevant to the Scottish Widows Group, the Senior Insurance Managers Regime.
The review, which was part of a wider range of initiatives undertaken to prepare the Group for the introduction of SM&CR, found that the framework was generally aligned with the requirements of the SM&CR but a number of changes were recommended.
These included amendments to the statements of responsibilities of the Directors and members of the GEC and minor amendments to the terms of reference of a number of Board and Group Chief Executive Committees.
CORPORATE GOVERNANCE
CORPORATE GOVERNANCE
BOARD FOCUS IN 2016UK.
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BOARD MEETINGS AND ACTIVITY IN 2016
CORPORATE GOVERNANCE
BOARD ACTIVITIES IN 2016 – SUPPORTING DELIVERY OF THE GROUP’S STRATEGIC PRIORITIES
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SHOWING SUPPORT FOR CUSTOMERS AND THE COMMUNITY
In September, Lord Blackwell spent two days in Aberdeen where he met with more than 100 business customers. During his visit, he delivered the keynote speech at a dinner for customers and local influencers, emphasising the Group’s vital role in helping Britain prosper and the importance of building long-term customer relationships. At a breakfast for Mid Markets clients and local business leaders, he outlined his views
announced that I plan to retire as Group Chairman at or before the AGM in 2021 as I will by then have served some nine years on the economy and the importance of supporting local businesses.
Lord Blackwell also found time to host a Town Hall and Q&A session for colleagues at the Group’s Albyn Place office. His final stop was an inspiring visit to Fly Cup Catering in Inverurie, a charity funded by the Bank of Scotland Foundation which provides catering training, employment experience and placements for adults with learning difficulties.
Speaking about the visit, he said: ‘I came away enthused by the commitment and enthusiasm of everyone I met, and by the general sense of cautious optimism from our commercial clients and relationship managers. It is extremely helpful to me to hear these perspectives first hand and to meet more of our tremendous colleagues.’
CORPORATE GOVERNANCE
EFFECTIVENESS
BOARD INDUCTION
The Chairman personally ensures that on appointment each Director receives a full, formal and tailored induction. The emphasis is on ensuring the induction brings the business and its issues alive for the new Director, taking account of the specific role they have been appointed to fulfil and the skills/experience of the Director to date.
Directors who take on or change roles during the year attend induction meetings in respect of those new roles.
An outline of the induction programme is set out on page 160 and Deborah McWhinney and Stuart Sinclair share their experiences on joining the Board on page 166.
PROFESSIONAL DEVELOPMENT AND TRAINING
The Chairman leads the learning and development of Directors and the Board generally and regularly reviews and agrees with each Director their training and development needs.
Ample opportunities, support and resources for learning are provided through a comprehensive programme, which is in place throughout the year comprising both formal and informal training and information sessions.
The Company Secretary maintains a training and development log for each Director.
TIME COMMITMENTS
Non-Executive Directors are required to devote such time as is necessary for the effective discharge of their duties. The estimated minimum time commitment set out in the terms of appointment is 35-40 days per annum including attendance at Committee meetings. For Committee Chairmen and the Senior Independent Director, this increases to a minimum of 45 to 50 days. As described elsewhere , the time devoted on the Group’s business by the Non-Executive Directors is in reality considerably more than the minimum requirements.
Executive Directors are restricted to taking no more than one non-executive director role in a FTSE 100 company and may not take on the chairmanship of such a company. The Chairman is committed to this being his primary role, limiting his other commitments to ensure he can spend as much time as the role requires. In February 2016, the Chairman retired as Chairman of Interserve plc. The Chairman’s biography can be found on page 117.
CONFLICTS OF INTEREST
The Board has a comprehensive procedure for reviewing and, as permitted by the Companies Act 2016 and the Company’s articles of association, approving actual and potential conflicts of interests.
Directors have a continuing duty to notify the Chairman and Company Secretary as soon as they become aware of actual or potential conflict situations. Changes to the commitments of all Directors are reported to the Nomination and Governance Committee and the Board and a register of potential conflicts and time commitments is regularly reviewed and authorised by the Board to ensure the authorisation status remains appropriate.
If any potential conflict arises, the articles of association permit the Board to authorise the conflict, subject to such conditions or limitations as the Board may determine. Decisions regarding these conflicts of interest could be and are only taken by Directors who have no interest in the matter. In taking the decision, the Directors act in a way they consider, in good faith, would be most likely to promote the Company’s success. Any authorities given are reviewed periodically, and as considered appropriate, and at least every 15 months. No Director is permitted to vote on any resolution or matter where he or she has an actual or potential conflict of interest. The Board confirms that no material conflicts were reported to it during the year.
Stuart Sinclair is Senior Independent Director at both QBE Insurance (Europe) Limited, a general insurance and reinsurance company, and Swinton Group Limited, an insurance broker for home and motor insurance. The Board has recognised that potential conflicts may arise in relation to his position at QBE Insurance and in relation to Swinton Group. The Board has authorised the potential conflicts and requires Mr Sinclair to recuse himself from discussions, should the need arise.
ACCESS TO ADVICE
The Group provides access, at its expense, to the services of independent professional advisers in order to assist Directors in their role. Board Committees are also provided with sufficient resources to undertake their duties. All Directors, including Non-Executive Directors, have access to the services of the Company Secretary in relation to the discharge of their duties.
CORPORATE GOVERNANCE
BOARD INDUCTION PROGRAMME
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approved the Group moving to the payment of quarterly dividends in 2020, with the first quarterly dividend in respect of the first quarter of 2020 payable in June 2020. The Group has around 2.4 million shareholders, the vast majority of whom are retail shareholders, and this approach will provide a more regular flow of dividend income to all shareholders whilst accelerating the receipt of payments. Further information on quarterly dividends can be found on page F-76.
PROFESSIONAL DEVELOPMENT ANDTRAINING PROGRAMME AT A GLANCE
BOARD EFFECTIVENESS
The Board carried out an annual evaluation of its effectiveness during the year. This was an internal evaluation, which ran between October 2019 and January 2020 and was overseen by the Nomination and Governance Committee. The process which was undertaken and the findings of the review can be found on pages 152 to 153, together with information about the Board’s progress against the 2018 review actions.
CORPORATE GOVERNANCE CODE
The year under review was the first year that the Code has applied to the Group. The Group’s statement of compliance with the Code and a summary of the requirements of the Code can be found on pages 155 to 156. The Group also implemented its approach to workforce engagement.
Lord Blackwell
Chairman
This Corporate Governance Report details the Group’s approach to governance in practice, how the Board operates and the key activities of the Board during the year, together with information on the annual Board evaluation process. It also includes the reports from each of the Board’s principal Committees.
The Board recognises the importance of meeting the Group’s responsibilities and duties both to shareholders and the communities the Group serves across the UK. These are embedded into the Group’s processes and thinking. The Group’s commitment to good governance and the directors’ duties, including under s.172 of the Companies Act 2006, make sure that the Group continually challenges its assumptions and risks. The Group’s purpose to Help Britain Prosper reflects the understanding that a sustainable business organisation needs to continuously demonstrate its value as a responsible corporate citizen.
A major focus over the last year has been the continued implementation of the Group’s strategic transformation programme. This has required a substantial investment in colleague skills and culture to support the re-shaping of roles around the new ways of working. The Board has devoted considerable time to reviewing the way this is being implemented, including a two day joint Board and Executive offsite. The Group has paid particular attention to the management of the risks arising from the implementation of new technologies, the new ways of working and the overall pace of change. 2019 has also been the first year in which the Group has operated under the new ring-fencing governance requirements. Further details of the Group’s ring-fencing governance structure and the Board’s oversight of the strategic transformation programme are set out on pages 151 and 150 respectively.
Succession planning and the composition of the Board and its committees are important components of good governance. There were a number of changes to the Board and Committees during the year. George Culmer retired as Chief Financial Officer and Executive Director of the Group on 1 August 2019 and was succeeded by William Chalmers, who brought a wealth of experience to the Group. George was a crucial member of the team that helped turn Lloyds around and left with our thanks and best wishes for the future.
Following a recruitment process led by the Nomination and Governance Committee, Sarah Legg was appointed to the Board in December 2019 as a new independent Non-Executive Director and Catherine Woods will join the Board on 1 March 2020 as a new independent Non-Executive Director. While selected on merit, these appointments help meet the Group’s commitments to both gender and BAME diversity. Sarah became a member of the Audit and Board Risk Committees and Catherine will join the Board Risk and Remuneration Committees.
Anita Frew stepped down as Senior Independent Director on 1 December 2019 and will retire as Deputy Chairman and Non-Executive Director at the AGM in May 2020. Anita has been an extremely valuable Board member, and will be much missed. Alan Dickinson succeeded Anita as Senior Independent Director on 1 December 2019 and will also take on the role of Deputy Chairman following Anita’s retirement from the Board. Alan’s significant board, financial and regulatory experience, including as a chairman, make him ideally suited to this role.
Juan Colombás, Executive Director and Chief Operating Officer, announced that he plans to retire in July 2020 after many years as a senior executive in which he has made a major contribution to the transformation of the Group. In line with the UK Corporate Governance Code 2018 (the ‘Code’), I also
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Corporate governance report
The Group’s Board in 20191
Board and Committee composition and attendance at scheduled meetings in 20196
Nomination and | Audit | Board Risk | Remuneration | Responsible | ||||||||
Board member | Board | Governance Committee | Committee | Committee | Committee | Business Committee | ||||||
Lord Blackwell (C) | 11/11 | 7/7 | – | 8/8 | 6/6 | 4/4 | ||||||
António Horta-Osório | 11/11 | – | – | – | – | – | ||||||
William Chalmers1 | 3/3 | – | – | – | – | – | ||||||
Juan Colombás | 11/11 | – | – | – | – | – | ||||||
George Culmer1 | 8/8 | – | – | – | – | – | ||||||
Alan Dickinson2 | 11/11 | 7/7 | 6/6 | 8/8 | 6/6 | – | ||||||
Anita Frew2 | 11/11 | 7/7 | 6/6 | 8/8 | 6/6 | 3/44 | ||||||
Simon Henry | 10/114 | – | 6/6 | 7/84 | – | – | ||||||
Sarah Legg3 | – | – | – | – | – | – | ||||||
Lord Lupton | 11/11 | – | 3/3 | 8/8 | – | 1/25 | ||||||
Amanda Mackenzie | 11/11 | – | – | 8/8 | 3/3 | 4/4 | ||||||
Nick Prettejohn | 11/11 | 5/5 | 6/6 | 8/8 | – | – | ||||||
Stuart Sinclair | 11/11 | – | – | 8/8 | 6/6 | 4/4 | ||||||
Sara Weller | 11/11 | 7/7 | – | 7/84 | 6/6 | 4/4 |
1 | George Culmer retired from, and William Chalmers was appointed to, the Board on 1 August 2019. |
2 | Alan Dickinson succeeded Anita Frew as Senior Independent Director on 1 December 2019. |
3 | Sarah Legg joined the Board and respective Committees on 1 December 2019. There were no meetings in December 2019. |
4 | Unable to attend due to a scheduling clash with a prior business commitment. |
5 | Unable to attend due to a scheduling clash with another Group business commitment. |
6 | Where a Director is unable to attend a meeting s/he receives papers in advance and has the opportunity to provide comments to the Chairman of the Board or to the relevant Committee Chairman. |
Chairman |
BEYOND BOARD MEETINGS Non-Executive Directors regularly meet with senior management and spend time increasing their understanding of the business through site visits, formal briefing sessions or more informal events including breakfast meetings with senior colleagues. These informal meetings allow Directors greater time to discuss business in an informal setting, ensuring that there is sufficient time for the Board to discuss matters of a material nature at Board meetings. | Non-Executive Directors see attendance at Board and Committee meetings as only one part of their role. In addition to the annual schedule of Board and Committee meetings, the Non-Executive Directors undertake a full programme of activities and engagements each year. Where further training or awareness is identified, such as new technology, regulations or sector advances, deep dives are held with the relevant field expert to provide overviews, chances to raise questions, and debate the impacts on business in an informal setting. | The Board held joint discussions with Scottish Widows Group Limited in April and Lloyds Bank Corporate Markets plc in September. These meetings are important in respect of both governance and the sharing of best practice. They also provide the opportunity for in-depth focus on both insurance and corporate markets matters. Performance and business updates are also provided, and, in the case of Lloyds Bank Corporate Markets plc, updates on key milestones in respect of the development of this new bank. |
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How the Board works
Meetings, activities and processes
THE RIGHT PROCESSES IN PLACE TO DELIVER ON THE GROUP’S STRATEGY During the year, there were 11 scheduled Board meetings, with details of attendance shown on page 145. In addition to formal meetings, the Board meets as necessary to consider matters of a time-sensitive nature. The Chairman and the Chairmen of each Committee ensure Board and Committee meetings are structured to facilitate open discussion, debate and challenge. The Board is supported by its Committees which make recommendations on matters delegated to them under the Corporate Governance Framework, in particular in relation to Board appointments, internal control risk, financial reporting, governance and remuneration issues. The management of all Committees is in keeping with the basis on which meetings of the Board are managed. Each of the Committees’ structures facilitates open discussion and debate, with steps taken to ensure adequate time for members of the Committees to consider proposals which are put forward. | The Executive Directors make decisions within clearly defined parameters which are documented within the Corporate Governance Framework. However, where appropriate, any activities outside the ordinary course of business are brought to the full Board for their consideration, even if the matters fall within the agreed parameters. The Corporate Governance Framework helps to ensure that decisions are made by management with the correct authority. In the rare event of a Director being unable to attend a meeting, the Chairman of the respective meeting discusses the matters proposed with the Director concerned wherever possible, seeking their support and feedback accordingly. The Chairman subsequently represents those views at the meeting. The Board recognises the need to be adaptable and flexible to respond to changing circumstances and emerging business priorities, whilst ensuring the continuing monitoring and oversight of core issues. The Group has a comprehensive and continuous agenda setting and escalation process in place to ensure that the Board has the right information at the right time and in the right format to enable the Directors | to make the right decisions. The Chairman leads the process, assisted by the Group Chief Executive and Company Secretary. The process ensures that sufficient time is being set aside for strategic discussions and business critical items. The process of escalating issues and agenda setting is reviewed at least annually as part of the Board effectiveness review with enhancements made to the process, where necessary, to ensure it remains effective. Details of the meeting process are provided below. The Non-Executive Directors also receive regular updates from the Group Chief Executive’s office including a weekly email which gives context to current issues. In-depth and background materials are regularly provided via a designated area on the secure electronic Board portal. A full schedule of matters reserved for the Board and Terms of Reference for each of the principal Committees can be found at www.lloydsbankinggroup.com/our-group/ corporate-governance |
BOARD MEETINGS |
A yearly planner is prepared by the Company Secretary to map out the flow of key items of business to the Board. Board venues are agreed and colleagues in the areas that the Board will visit are engaged at both senior management and operational level. | |
The Chairman holds monthly meetings to review the draft agenda and planner with the Company Secretary and Chief of Staff, as well as quarterly meetings with a wider group of central functions, to identify emerging issues. The draft Board agenda is discussed with the Chairman and the Group Chief Executive and reviewed at GEC meetings. Matters may be added to agendas in response to external events, Non-Executive Director requests, regulatory initiatives and the quarterly Board topic review meetings. | |
Templates and guidelines are included within targeted training for authors of papers to ensure consistency and high quality of information. Meeting packs are uploaded and communicated to all Directors via a secure electronic Board portal typically a week in advance of the meeting to ensure sufficient time to review the matters which are to be discussed and seek clarification or any additional information. | |
Executive meetings are held ahead of all Board and Committee meetings to ensure matters being presented to the Board have been through a thorough discussion and escalation process. Committee meetings are generally held prior to Board meetings, with the Chairman of each Committee then reporting matters discussed to the Board. Non-Executive discussions and informal dinners are held prior to most Board meetings, some of which also include the Group Chief Executive. | |
Board meetings have certain standing items, such as a report from the Group Chief Executive and Chief Financial Officer on Group performance, reports from the Chairmen of Committees and principal subsidiaries and updates from certain GEC members. The agenda includes free agenda discussion time. Topics for deep dives or additional items are discussed when required and include business, governance and regulatory updates. The Board makes full use of technology such as video conferencing, teleconferencing, a Board portal and tablets/devices in its meeting arrangements. This leads to greater flexibility, security and efficiency in Board paper distribution and meeting arrangements. | |
The Board has the chance to meet colleagues within the business and, if any additional meetings are required to provide more details, these are arranged. Minutes and matters arising from the Board meeting are produced and circulated to the Directors for review and feedback. Those responsible for matters arising are asked to provide updates to a subsequent meeting. |
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How the Board workscontinued
Key focus areas
The Board sets the strategy, oversees its delivery and establishes the culture, values and standards of the Group. The Board ensures that the Group manages risk effectively, monitors financial performance and reporting and ensures that appropriate and effective succession planning arrangements and remuneration policies are in place. It provides and encourages entrepreneurial leadership across the Group within this framework. This page 147 and page 148 show the key focus areas of the Board during the year and highlight the link between those focus areas and the Group’s strategic objectives. Also listed are stakeholder groups central to the matters considered and decisions taken. The agenda for each Board meeting is discussed in advance with the Chairman and Chief Executive Officer and reviewed at Group Executive Committee meetings and includes 30 minutes ‘free agenda’ discussion time. Regular updates are provided to the Board by the Chairmen of the Audit, Nomination and Governance, Remuneration, Responsible Business and Board Risk Committees as well as by the Chief Executive Officer, the Chief Financial Officer, the Chief Operating Officer and the Chairman and the chairmen of the Lloyds Bank Corporate Markets plc and Scottish Widows Group Limited boards. | |
LEADING CUSTOMER EXPERIENCE | |
DIGITISING THE GROUP | |
MAXIMISING GROUP CAPABILITIES | |
TRANSFORMING WAYS OF WORKING |
REVIEWED AND APPROVED THE | |
HELPING BRITAIN PROSPER PLAN | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Community and Environment; Suppliers | |
DISCUSSED CONDUCT, CULTURE AND | |
VALUES – CULTURE DASHBOARD AND | |
CHANGE MANAGEMENT | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Colleagues; Regulatory and Government; Suppliers | |
RECEIVED REPORTS ON RESPONSIBLEBUSINESS INCLUDING ONCLIMATE CHANGE MATTERS ANDSUSTAINABILITY | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Colleagues; Community and Environment; Shareholders; Suppliers; Regulatory and Government | |
REVIEWED AND APPROVED THE GROUP’S DIVERSITY POLICY | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Colleagues | |
CONSIDERED UPDATES ON WORKFORCE ENGAGEMENT | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Colleagues | |
CONSIDERED UPDATES ON PROPOSED NEW REMUNERATION POLICY | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Colleagues; Regulatory and Government; | |
Shareholders | |
DISCUSSED THE GROUP’S | |
PERFORMANCE AGAINST CUSTOMER DASHBOARD | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers | |
DISCUSSED IMPROVEMENTS IN CUSTOMER OUTCOMES FROM STRATEGIC TRANSFORMATION PLAN (GSR3) | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Regulatory and Government | |
DISCUSSED HOW THE GROUPSUPPORTS VULNERABLE CUSTOMERSAND CUSTOMERS IN FINANCIALDIFFICULTY | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Regulatory and Government | |
DISCUSSED THE ANNUAL REVIEW OFCUSTOMER CONDUCT FRAMEWORKAND RISK | |
Link to stakeholder groups: | |
Customers; Regulatory and Government | |
DEEP DIVE ON STRONG CUSTOMERAUTHENTICATION | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Regulatory and Government | |
DEEP DIVE ON OPEN BANKING | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Regulatory and Government | |
DISCUSSED PROCESSES ANDOUTCOMES FOR THE FAIR TREATMENTOF CUSTOMER COMPLAINTS ANDREMEDIATION | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Regulatory and Government | |
DEEP DIVE ON DATA ETHICS | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Regulatory and Government | |
APPROVED THE 2019 BUDGET | |
DISCUSSED THE REGULAR FINANCEREPORT, FORECASTS AND CAPITALAND LIQUIDITY POSITIONS | |
REVIEWED AND APPROVED INCOMESTATEMENT, DRAFT RESULTS ANDPRESENTATIONS TO ANALYSTS | |
Link to stakeholder groups: | |
Colleagues; Shareholders | |
REVIEWED AND APPROVED FUNDINGAND LIQUIDITY PLANS AND CAPITALPLAN | |
Link to stakeholder groups: | |
Regulatory and Government | |
APPROVED THE PAYMENT OF FINALAND INTERIM DIVIDENDS | |
Link to stakeholder groups: | |
Shareholders | |
APPROVED THE LAUNCH OF A SHAREBUYBACK PROGRAMME AND ITSSUBSEQUENT CURTAILMENT ASCONDITIONS CHANGED | |
Link to stakeholder groups: | |
Shareholders | |
APPROVED THE PAYMENT OFQUARTERLY DIVIDENDS | |
Link to stakeholder groups: | |
Shareholders | |
CONSIDERED UPDATES ONSTRUCTURAL HEDGING STRATEGY& GROUP CORPORATE TREASURY’SREGULAR MANAGEMENTINFORMATION REPORT | |
Link to stakeholder groups: | |
Regulatory and Government | |
RECEIVED AN ANNUAL UPDATE ONPENSION SCHEME VALUATIONS | |
Link to stakeholder groups: | |
Customers | |
DISCUSSED GSR3 AND FOUR YEAROPERATING PLAN | |
Link to strategic priorities: | |
REVIEWED AND APPROVED BASELPILLAR 3 DISCLOSURES | |
Link to stakeholder groups: | |
Regulatory and Government | |
REVIEWED AND APPROVED ANNUALREPORT AND FORM 20-F | |
Link to stakeholder groups: | |
Regulatory and Government; Shareholders |
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CORPORATE GOVERNANCE
REVIEWED AND APPROVED GROUP TREASURY PLAN 2020 |
Link to stakeholder groups: Regulatory and Government |
CONSIDERED AN UPDATE ON THE IMPLEMENTATION OF THE GROUP’S RING-FENCING MODEL |
Link to stakeholder groups: Customers; Regulatory and Government |
DISCUSSED OUTCOME OF BOARD EFFECTIVENESS REVIEW AND AGREED ACTIONS ARISING FROM IT |
Link to stakeholder groups: Shareholders |
DISCUSSED CHAIRMAN’S PERFORMANCE REVIEW |
Link to stakeholder groups: Shareholders |
APPROVED AGM DOCUMENTATION AND RECEIVED UPDATE ON VOTING |
Link to stakeholder groups: Shareholders |
REVIEWED AND APPROVED THE CORPORATE GOVERNANCE FRAMEWORK |
Link to stakeholder groups: Shareholders |
REVIEWED AND APPROVED VARIOUS GROUP POLICIES INCLUDING THE SIGNING AUTHORITIES, AND BOARD AND GEC DEALING POLICY |
Link to stakeholder groups: Colleagues; Regulatory and Government |
CONSIDERED UPDATED BOARD SKILLS MATRIX |
Link to stakeholder groups: Shareholders |
CONSIDERED REVIEWS OF CHAIRMAN’S FEE (WITHOUT CHAIRMAN PRESENT) AND NON-EXECUTIVE DIRECTORS’ FEES (WITH NON-EXECUTIVE DIRECTORS ABSTAINING) |
REVIEWED AND APPROVED GOING CONCERN STATEMENT |
DISCUSSED UPDATE ON BANKING STANDARDS BOARD 2018 SURVEY |
Link to stakeholder groups: Colleagues; Regulatory and Government |
APPROVED BOARD AND BOARD COMMITTEE APPOINTMENTS |
CONSIDERED BOARD, BOARD COMMITTEE AND EXECUTIVE SUCCESSION PLANS |
Link to stakeholder groups: Colleagues; Shareholders |
APPROVED ATTESTATION OF RING-FENCING COMPLIANCE |
Link to stakeholder groups: Customers; Regulatory and Government |
CONSIDERED WHISTLEBLOWING UPDATES |
Link to stakeholder groups: Colleagues; Customers; Regulatory and Government |
CONSIDERED REGULATORY UPDATES |
Link to stakeholder groups: Regulatory and Government |
RECEIVED UPDATES ON THE SENIOR MANAGER AND CERTIFICATION REGIME |
Link to stakeholder groups: Regulatory and Government |
DISCUSSED THE FCA FIRM EVALUATION LETTER |
Link to stakeholder groups: Regulatory and Government |
HELD DISCUSSIONS WITH THE PRA |
Link to stakeholder groups: Regulatory and Government |
APPROVED GROUP RISK APPETITE |
Link to stakeholder groups: Customers; Shareholders; Colleagues; Community and Environment; Regulatory and Government; Suppliers |
CONSIDERED CYBER SECURITY UPDATES |
Link to stakeholder groups: Colleagues; Customers; Suppliers |
CONSIDERED KEY AREAS OF CONDUCT RISK |
Link to stakeholder groups: Colleagues; Customers; Regulatory and Government |
REVIEWED AND APPROVED PRA STRESS TESTING RESULTS |
Link to stakeholder groups: |
Customers; Shareholders; Regulatory and Government |
REVIEWED AND APPROVED THE RISK MANAGEMENT FRAMEWORK |
Link to stakeholder groups: Customers; Shareholders; Colleagues; Regulatory and Government; Suppliers |
APPROVED ANNUAL REVIEW OF GROUP RING-FENCING POLICY |
Link to stakeholder groups: Customers; Regulatory and Government |
TWO STRATEGY AWAY DAYS TO REVIEWTHE PROGRESS IN IMPLEMENTING THEGROUP’S STRATEGY | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Shareholders; Colleagues; | |
Community and Environment; Regulatory andGovernment; Suppliers | |
DEEP DIVE ON DATA AND MACHINEINTELLIGENCE PROGRAMME | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Colleagues; Regulatoryand Government | |
DEEP DIVE ON OPEN BANKINGAND ON STRONG CUSTOMERIDENTIFICATION | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Regulatory and Government | |
DEEP DIVE ON FINTECH | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Colleagues | |
CONSIDERED AND APPROVED LARGETRANSACTIONS AND CONTRACTS | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Shareholders; Suppliers | |
CONSIDERED THE GROUP’S EU EXITPREPARATIONS | |
Link to strategic priorities: | |
Link to stakeholder groups: | |
Customers; Shareholders; Colleagues; | |
Community and Environment; Regulatory andGovernment; Suppliers | |
Deep dive sessions The Board regularly takes the opportunity to hold deep dive sessions with senior management outside formal Board meetings. The purpose of the sessions is to provide the Board with deeper insight into key areas of strategic focus, whilst providing Directors with a greater understanding and appreciation for the subject matter to help drive better quality of debate and enhance knowledge. The sessions are structured to allow plenty of opportunity for discussion and include presentations and videos. Details of the deep dive sessions that were held in 2019 are set out in the key focus areas section on pages 147 and 148. In addition, detailed updates were received from, and joint discussions held with, Scottish Widows Group Limited and Lloyds Bank Corporate Markets plc. |
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How the Board workscontinued
Governance in action
BOARD OVERSIGHT: CULTURE The Group aims to continually develop a values-led culture with the Board providing sponsorship of this approach. The Group’s values and behaviours are the foundation of the Group’s culture, providing a clear framework to ensure everyone in the Group understands what is expected of each other every day. Despite many strengths, the Board recognises that the Group’s culture needs to continually change to ensure the business can adapt rapidly to a changing environment while delivering the best outcomes for customers. The Group’s culture plan is driven by the Group’s three core values; putting customers first, keeping it simple and making a difference together and these are underpinned by the Group’s six drivers of culture: Vision and Values, Leaders and Line Managers, Communication and Colleague Voice, Enabling and Developing Colleagues, Reward and Recognition and Accountability and Empowerment. These are also reflected in divisional plans and align to the FCA’s four key drivers of culture. Culture initiatives are designed and delivered collaboratively, with input from colleagues and various teams across the Group, including divisional culture leads, Inclusion and Diversity, Responsible Business and Group Corporate Affairs. | The Board provides oversight and direction of culture activities and believes that establishing the right culture is important to ensure the Group builds an environment where all colleagues feel included, empowered and inspired to do the right things for customers. During 2019, the Board assessed and monitored the Group’s progress on culture through regular updates at Board meetings, which included: regular updates on the Group strategic review, which incorporates the biggest ever investment in colleagues, with a significant focus on transforming the way the Group works and its culture quarterly workforce engagement reports, which provide an update on culture initiatives and colleague feedback specific bi-annual updates on culture initiatives An understanding of the impact of the management initiatives is developed by reviewing a wide range of data and metrics, including the outputs from the Group’s colleague engagement survey, the Banking Standards Board assessment and other business metrics. As a result of this oversight, the Group’s culture plan and associated activities are regularly refined and tailored to incorporate insight into the Group’s progress. By doing this, the Group | is able to recognise areas of positive progress and understand where it still has more work to do so that the Group can focus on areas for improvement. Culture highlights from 2019 include: Continued roll out and embedding of Your Best, the Group’s transformational approach to performance management and career development. As part of the roll out the Group undertook the biggest capability uplift for line managers ever seen across the Group Simplifying and improving the Group’s ways of working, through focusing on key colleague journeys Continued focus on developing the skills required for the future, with significant progress made towards achieving the Group’s commitment to deliver 4.4 million additional learning and development hours during 2018 to 2020 Building resilience through a range of interventions for colleagues throughout the organisation, including the launch of an online portal providing access to a wide range of resources The Group has a number of initiatives planned for 2020 to accelerate cultural change, in particular in relation to empathy and promoting simplicity. |
Q&A WITH SARA WELLER |
The Group is Sara Weller Non-Executive Director and | HOW DOES THE BOARD OVERSEE THE GROUP’S SUSTAINABILITY STRATEGY? Given the strategic importance of the Group’s sustainability ambitions, the Group’s governance structure provides clear oversight and ownership of the sustainability strategy. The Board of Directors as a whole is responsible for sustainability and has oversight via the Responsible Business Committee, a sub-committee of the Board, chaired by me and which includes the Chairman, Lord Blackwell, and Deputy Chairman, Anita Frew, as members. The Responsible Business Committee regularly reports to the Board to enable the Board to discuss pertinent issues as whole. Day to day accountability for sustainability rests with executive management, in particular the Group Chief Executive. HOW IMPORTANT IS SUSTAINABILITY AND THE MANAGEMENT OF CLIMATE CHANGE RISK TO THE GROUP? Sustainability and climate change has become a pressing priority for the country and beyond. Over the past year the Group has been working, right across the business, on the best ways to respond to these challenges, and has developed a sustainability strategy which is committed to supporting the UK’s transition to a sustainable, low-carbon economy, and | is fully aligned to the Paris Agreement and the UK’s commitment to a net zero future by 2050. From the Group’s position at the heart of the UK economy, the Group is committed to supporting the UK successfully to engage with the challenges and opportunities presented by climate change and the carbon economy. The Group has identified and will manage material sustainability related risks across the Group, disclosing these in line with the Task Force on Climate-related Financial Disclosures (TCFD) recommendations. The Group has created a detailed implementation plan for the TCFD and the PRA supervisory expectations related to climate change. The Group has appointed Senior Management Function positions responsible for Climate Change risk, covering the three main legal entities, for example, for Lloyds Bank and Bank of Scotland this is the Chief Risk Officer. CAN YOU TELL US ABOUT YOUR PERSONAL HIGHLIGHTS IN 2019? There are so many matters on which great progress has been made in 2019. However, if I had to pick a couple of areas, I would choose highlights where colleagues have gone the extra mile and more to support individuals at the risk of disadvantage. Firstly the Group’s Digital Skills Academy, piloted in Manchester and now rolling out to other cities, starting with Bristol. Secondly, the Group’s work to provide support to Mental Health UK to allow them to set up the UK’s first Money and Mental Health Advice line. |
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Q&A WITH STUART SINCLAIR
2020 marks the Stuart Sinclair Non-Executive Director and | HOW DOES THE BOARD OVERSEE THE GROUP’S REMUNERATION POLICY AND GET ASSURANCE THAT IT HAS BEEN DESIGNED TO ALIGN TO THE GROUP’S PURPOSE AND VALUES AND IS CLEARLY LINKED TO THE SUCCESSFUL DELIVERY OF THE COMPANY’S LONG-TERM STRATEGY? This year, the Group was given an opportunity to take a step back and think about the remuneration philosophy for the Group and focus on what the Group’s main stakeholders would like the Group to consider. I personally have spent considerable time listening to a wide cross-section of the Group’s investor base, as well as receiving the input of stakeholders such as recognised unions, regulators and the Work and Pensions Select Committee. With the insights from these discussions in mind, the Remuneration Committee has been able to discuss a great deal of material with management and independent advisers to gain comfort that the final proposals the Remuneration Committee recommended to the Board are suitable and align to the Group’s culture and values. WHAT HAS BEEN YOUR GREATEST CHALLENGE SINCE BECOMING REMUNERATION COMMITTEE CHAIRMAN? The greatest challenge lay in crafting a new Remuneration Policy for the Group that would remain relevant for three years, while also being commercially sensible. To achieve this, Committee members spent time with a large cross section of investors and others (as noted in the Directors’ Remuneration Report), while, as ever, being mindful of the need to set pay at a level which will continue to attract candidates who can run large, complex | organisations. In this remuneration period, the task is made all the more challenging by the need to find senior people who have appreciation for technology and innovation generally and how it can improve customer experience while helping the cost structure. It was also important, in this round, to build in as much optionality as possible, so that change in society’s expectations or regulation or indeed the market for top talent could be accommodated within the new Policy. The various tests which have been engineered into the Policy, along with the continued expectation of Committee override and discretion, give the Committee some reassurance that a degree of future proofing has been built in. IN YOUR OPINION, WHAT MAKES AN EFFECTIVE REMUNERATION COMMITTEE TO SUPPORT THE BOARD? The Remuneration Committee’s role is to ask the right questions, get comfortable the Committee has engaged with the right stakeholders and listened to them properly to give the Board assurance that the proposals the Committee put forward are right for the Group. Composition of the Committee is important and it has a mix of male and female Non-Executive Directors with a wealth of financial and non-financial, executive and non-executive experience to bring to the table. Importantly, all Committee members also have a good understanding of what factors, both internal and external, have an impact on remuneration. |
BOARD OVERSIGHT: OPERATIONAL RESILIENCE The Board believes that operational resilience has become ever more important: maintaining the Group’s most important services for the Group’s customers and the market in which the Group operates is critical and requires ongoing focus as the Group becomes more reliant on technology against a changing threat landscape. Operational Resilience receives significant attention from the Board, primarily through the Board Risk Committee. The Board approves the list of the Group’s most important business services annually, reviews a suite of operational resilience Board Risk Appetite Metrics on at least a quarterly basis and the operational resilience risk profile monthly, as it represents one of the Group’s most important non-financial risks. Please see page 166 for a summary of operational resilience matters considered by the Board Risk Committee. The Board also approved, and receives regular updates from the Group Chief Operating Officer, on progress against the Group’s Operational Resilience strategy, and the operational resilience investment programmes that are delivering the strategy. | BOARD OVERSIGHT: TRANSFORMATION The Board is responsible for the overall strategic direction of the Group and has been engaged with the Group’s strategy to transform its business for success in a digital world through multiple touchpoints throughout the year. These have included: the annual cycle of two strategy away days to debate priorities and agree implementation plans a suite of formal Board metrics and qualitative reporting to monitor progress and risks Deep dives sessions on key areas (see pages 147 and 148 for more information); Customer insight sessions with workstream teams in research labs and other locations (see page 154 for more information) a range of informal interactions to feel the pulse. These touchpoints enable the Board to oversee the Group’s transformation strategy, continually challenge and develop that strategy and take informed decisions on the critical issues relating to the Group’s strategy. |
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CORPORATE GOVERNANCE
How the Board workscontinued
GROUP STRUCTURE AND From 1 January 2019 UK legislation requires large UK banks to separate personal banking services such as current and savings accounts from riskier activities, such as investment banking, in other parts of their business. This is called ring-fencing. The Group has established a Group structure and governance arrangements which are appropriate for the Group and meet the regulatory requirements. Lloyds Bank plc and Bank of Scotland plc are the banks, within the Group, which have been included within the ring-fence (together, the ‘Ring-Fenced Banks’). The governance structure focuses on ensuring: Independent decision making by the Ring-Fenced Bank Boards – on any matters where there might be a conflict between the interests of the Ring-Fenced Banks and the interests of another part of the Group Risks affecting the Ring-Fenced Banks are considered and managed from the Ring-Fenced Banks’ perspective – including maintenance of the capital adequacy and liquidity of the Ring-Fenced Banks Clear and effective governance at both Ring-Fenced Bank and Lloyds Banking Group plc level – including second and third lines of defence in respect of risk management | GROUP STRUCTURE The subsidiaries of the Group are structured into the following sub-groups under Lloyds Banking Group plc providing effective governance for the business undertaken in each sub group: ‘Ring-Fenced Banks sub-group’ containing Lloyds Bank plc and Bank of Scotland plc (including the Halifax and MBNA businesses), serving both their UK personal and commercial customers ‘Non Ring-Fenced bank sub-group’ - Lloyds Bank Corporate Markets plc (LBCM) - which provides products and services to Group customers that are not allowed within the ring-fence as well as serving Financial Service customers and holding the Group’s subsidiaries and branches outside the UK ‘Insurance sub-group’ under Scottish Widows Group Limited (including Scottish Widows Limited) ‘Equity sub-group’ under LBG Equity Investments Limited, for which the principal subsidiary is Lloyds Development Capital Limited | BOARD STRUCTURES Since the Ring-Fenced Banks represent the core banking activity of the Group, all of the Directors of Lloyds Banking Group plc also sit on the Boards of the Ring-Fenced Banks, which are chaired by the Group Chairman. The ring-fencing governance structures have been operating since 1 January 2019. The Group Chief Executive is also Chief Executive of the Ring Fenced Banks. In addition, the Ring-Fenced Bank Boards have three additional independent Non-Executive Directors. These Ring-Fenced Bank only directors are independent of the management and the rest of the Group and play a critical role in the governance structure, with an enhanced role in managing any potential conflicts between the Ring-Fenced Banks and the Group. One of the Directors, Nigel Hinshelwood, acts as Senior Independent Director of the Ring-Fenced Banks and also chairs the cross-Group Information Technology and Cyber Security Advisory Forum. Lloyds Bank Corporate Markets has its own Board as a separately constituted and regulated banking subsidiary, chaired by a Non-Executive Group Board Member – Lord Lupton – and with its own independent non-executive directors. Scottish Widows Group, which is regulated as an insurance group, similarly has its own Board with independent Non-Executive Directors, and is chaired by a Group Non-Executive Director – Nick Prettejohn. The Chief Executives and Functional Heads of these businesses have reporting lines to the Group executives, and the Group Board receives regular updates on their strategic development and performance. |
ANTÓNIO HORTA-OSÓRIO VISITS GLASGOW |
Group Chief Executive António Horta-Osório undertook a number of visits throughout the UK in 2019. During his regional visit to Glasgow in October 2019, António took the opportunity to spend time with Group teams and customers, including holding a town hall, a recognition dinner to celebrate colleagues and all they are doing to Help Britain Prosper and embody the Group’s values and a business breakfast with local Small and Medium-sized Enterprise and Corporate clients. Across the two days António heard directly from colleagues about their work and their successes, passion, drive and commitment to improve the business for the benefit of customers and the Group. Whilst meeting the Connect and Resolve teams in the Group’s Atlantic Quay building, António listened in to customer calls with the teams who support Schroders Personal Wealth and handle credit disputes. He also watched mobile messaging interactions with customers, seeing and hearing first-hand how | the Group is meeting its customers’ needs through a range of channels and products. This experience was part of the Reconnecting with Customers pilot programme, launched in July 2019 to bring senior leaders across the Group closer to customers and customer-facing teams. The Credit Disputes team shared with António the success it has had in improving the customer journey for credit card disputes. António was able to see the difference this transformation has made for customers by dialling into a live credit dispute call. |
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CORPORATE GOVERNANCE
Assessing the Board’s effectiveness
BOARD EVALUATION HOW THE BOARD PERFORMS AND IS EVALUATED The annual evaluation, which is facilitated externally at least once every three years, provides an opportunity to consider ways of identifying greater efficiencies, maximising strengths and highlighting areas of further development to enable the Board continuously to improve its own performance and the performance of the Group.
The Chairman of the Board, | account the views of the Executive Directors.
2019 EVALUATION OF THE BOARD’S PERFORMANCE The
The | experience and
If Directors have concerns about the Company or a proposed action which cannot be resolved,
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INTERNAL EVALUATION PROCESS | ||||
Detailed questionnaire issued to all Directors by the Company Secretary OCTOBER 2019 TO JANUARY 2020 Individual meetings held between each Director | DECEMBER 2019 TO JANUARY 2020 Report prepared by the Company Secretary based on the questionnaire results and matters raised in individual meetings. JANUARY 2020 Draft report discussed by the Company Secretary with the Chairman. Final report discussed at | APRIL 2020 Actions to be recommended to the Board
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HIGHLIGHTS FROM THE 2019 REVIEW | ||||||
The
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Findings | Areas for consideration | |||||
Ring-fencing governance requirements, with an increased number of participants at the Board, require individual Directors and the Chairman and Committee Chairmen to manage meetings, to ensure all Directors are able to contribute fully and effectively. | Whilst ring-fencing governance has been embedded successfully, it is important to streamline governance processes further and ensure the Board’s and its Committees’ time is used to best effect. | |||||
The Board’s detailed engagement in the formulation of strategy is seen as a | Continue to increase time allowed in Board meetings for expansive discussion of broader strategic issues and | |||||
Board deep dives into particular topics and the continued use of Whilst the | Board and Committee papers to be shorter in length and the amount of time spent in Board meetings on presentations to be reduced, to allow more time for open discussion and debate. |
1 | At the time of the 2018 review EgonZehnder provided certain Board |
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CORPORATE GOVERNANCE
How the Board workscontinued
PROGRESS AGAINST THE 2018 EXTERNAL BOARD EFFECTIVENESS REVIEW | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
During the year, work focused particularly on the
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Recommendations from the 2018 evaluation | Actions taken during 2019 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Board agenda to become less rooted in regulatory compliance and risk mitigation.
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CORPORATE GOVERNANCE Internal control
CORPORATE GOVERNANCE Complying with the UK Corporate Governance Code 2018 The UK Corporate Governance Code 2018 (the ‘Code’) applied to the financial year ended 31 December 2019. The Group confirms that it applied the main principles and complied with all the provisions of the Code throughout the year except in relation to that part of provision 36 that provides that the remuneration committee should develop a formal policy for post-employment shareholding requirements encompassing both unvested and vested shares. Whilst the Remuneration Committee has not introduced a formal post-employment shareholding policy, the existing reward structure ensures that Executive Directors will continue to meet the Group’s shareholding requirements for a minimum of two years after leaving the Group. On this basis, the Group believes that it already complies with best practice and with the spirit of provision 36 notwithstanding the fact that a specific formal policy has not been introduced. Please refer to pages 119 and 127 for a more detailed explanation of the Group’s approach to post-employment shareholding requirements. The Code is publicly available at www.frc.org.uk. This page and the following page explain how the Group has applied the principles and related provisions of the Code during the year. The alphabetical references in the paragraphs below correspond to the principles, and related provisions, of the Code. The Group has adopted the UK Finance Code for Financial Reporting Disclosure and its 2019 financial statements have been prepared in compliance with its principles.
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