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UK bank 1Q13 results

by Elizabeth Moran | May 14, 2013

Collectively, the UK banks had a better reporting period with few surprises, no additional Payment Protection Insurance (PPI) provisions and gradual improvements in capital ratios.

All three are focussed on containing and reducing costs and risk weighted assets given the UK regulator has identified an additional capital requirement of ₤25bn, but not yet identified the amounts for each bank.

An uncertain regulatory environment and political pressure on RBS and Lloyds characterise the trio.

Barclays – Cost cutting measures dampen quarterly result

Barclays continues to focus on costs with its Transform program incurring ₤514m in the quarter. In April, Barclays issued a further $1.0bn of Tier 2 contingent capital notes (CCNs) with a full and permanent write-down and a high 7% Core Tier 1 trigger that could possibly bail in bondholders before shareholders. We think this security is not very attractive given the high trigger level and the permanent write-down clause when other CCNs have lower triggers and write-down and write-up features, meaning the write down can be reversed should the fortunes of the bank improve.

Key points to note:

  • Adjusted profit before tax was down 25% (₤609m) to ₤1.79bn
  • Statutory profit before tax improved to ₤1.54bn (₤525m loss 1Q12) reflecting a reduced own credit charge of ₤251m (₤2.60bn 1Q12)
  • Credit impairment charges decreased 10% to £706m, with an annualised loan loss rate of 56bps (1Q12 63bps), principally reflecting improvements in the Investment Bank and Corporate Banking
  • Adjusted operating expenses were up 7% to £5.3bn. This reflected £514m of costs to achieve Transform, restructuring principally in Europe Retail Business Banking (RBB) and the Investment Bank, partially offset by a £183m reduction in other operating expenses. Following the launch of the Transform program, the costs in 1Q13 related to restructuring principally in Europe RBB, with a reduction in staff numbers by nearly 2,000, the distribution network reducing by 30% and in the Corporate and Investment Bank, where staff numbers will be cut by 1,800
  • Adjusted cost to income ratio was 68% (61% 1Q12) with the increase attributable to costs to achieve Transform
  • Risk weighted assets increased 3% to £398bn primarily driven by foreign currency movements
  • The Investment Bank activities are primarily funded through wholesale markets. As at 31 March 2013, total Group wholesale funding outstanding excluding repurchase agreements was £235bn (£240bn FY12), of which £98bn matures in less than one year and £36bn matures within one month. The Group has term funding maturities of £11bn for the remainder of 2013
  • Core Tier 1 ratio strengthened to 11.0% (10.8% FY12), principally reflecting capital generated from earnings and the exercise of warrants
  • Loan to deposit ratio improved to 105% (110% FY12)
  • The liquidity pool was ₤141bn down slightly from ₤150bn FY12. The Group estimated it was compliant with the liquidity coverage ratio of 110% (126% FY12)
  • Adjusted gross leverage was 20 times (19 times FY12)

Lloyds – A good result based on falling loan impairments

Lloyds reported a good result with underlying profit of ₤1.09bn in part due to a 22% improvement in credit impairment charge, a saving of ₤276m over the prior quarter.

Last month Lloyds announced that the Co-Operative Group had withdrawn from the process of acquiring branches as stipulated by the European Commission (EC) as a condition of state aid. The Group will now seek to divest through an IPO at some future point and in the meantime is rebranding the branches.

Key points to note:

  • Substantial increase in Group underlying profit from ₤690m in 4Q12 to ₤1.09bn
  • Banking net interest margin of 1.96% (1.95% 1Q12)
  • Costs declined by 6% to ₤1.5bn, down 7% from the same period a year ago
  • Credit impairment charge was down 22% to ₤1bn ( ₤1.3bn 4Q12) and down 40% from 1Q12
  • Basel 2.5 Core Tier 1 capital ratio increased to 12.5% (12% 4Q12) and on a Basel III basis Common Equity Tier 1 was unchanged at 8.1% with a target of over 9% by year end and over 10% by the end of 2014
  • Risk weighted assets of ₤302.5bn (₤310.3bn FY12)
  • Core loan to deposit ratio of 100% with a Group loan to deposit ratio of 119%
  • Total wholesale funding reduced to ₤162.1bn (₤169.6bn FY12). Wholesale funding due in less than a year increased slightly to ₤50.9bn from ₤50.6bn
  • Group net interest margin increased to 1.96%, on track to meet guidance for 2013

RBS – Slow but steady progress

This quarter was characterised by lower provisions and an absence of large one-offs while the core retail and commercial business results were sound. The Markets division doubled earnings over 4Q12 but operating profit fell 66%, shocking the market and the share price fell 5% the day the results were announced.

During the quarter the Group sold a further tranche of shares in the Direct Line Group (its insurance subsidiary), taking its stake below 50% in line with the EC conditions of state aid. RBS has yet to divest its 316 branches as agreed under state aid conditions. There appears to be no buyer, so the bank will need to consider an IPO at some future point.

Key points to note:

  • Group operating profit of £829m up from £553m for 4Q12, driven by a reduction in Non-Core losses, a good result but down 28% year on year
  • Group pre-tax profit was £826m, £577m excluding own credit adjustments, compared with a loss of £2.23bn in 4Q12
  • Core operating profit of £1.33bn compares with £1.50bn in 4Q12 and £1.64bn in 1Q12. Retail & Commercial profits were up 12% from 1Q12 to £1.0bn with Ulster Bank posting a material improvement
  • Non-Core operating losses of £505m were 46% lower than in 4Q12, driven by a further reduction in impairments
  • Non-Core funded assets were reduced by £6bn at constant exchange rates to £53bn with an aim of £40bn by the end of 2013
  • Impaired loans at the Core bank were unchanged from FY12 at 5% of total loans, a high figure. Non-Core bank impaired loans were 39% of the £53bn still on the books, a growing percentage, up from 37.9% FY12 and an indication that it will take some time to completely unwind the Non-Core bank
  • Liquidity portfolio was £158bn up £11bn from FY12
  • Short term wholesale funding was stable at £43bn
  • Return on equity for Core bank 8.2% (9.6% FY12) and cost to income ratio 64% (60% FY12)
  • Core Tier 1 ratio up 50bps to 10.8%. On a fully loaded Basel III basis the Group’s Core Tier 1 ratio also improved by 50bps to 8.2% with a target for year-end of around 9%
  • Leverage ratio 15 times (15 times FY12)
  • Loan to deposit ratio 99% (100% FY12)
  • Net interest margin Group of 1.95%, unchanged from FY12

UK senior bank debt spreads have contracted considerably and we no longer find them good relative value. While subordinated debt and Tier 1 securities offer better returns they come with much higher risk and the uncertain regulatory environment coupled with the possibility of loss from future capital management activities (e.g. coercive exchanges) mean these securities are generally not recommended.