– Substantial non-core asset reduction of £53 billion to £141 billion
Banking net interest margin reduced by 14 basis points to 2.07 per cent, in line with expectations, with increased funding costs partially offset by the benefits of asset repricing and funding mix; core net interest margin declined only 6 basis points to 2.42 per cent given the better funding mix in the core business
Integration, simplification and EC mandated retail business disposal costs (1,452) (1,653)
An integrated platform In 2011, the Group successfully completed the majority of its integration activity, the largest financial services IT integration ever undertaken. This has not only resulted in significant cost savings but has provided us with a single banking platform which we can leverage off to simplify the business further and invest in areas which provide value for both customers and shareholders. Aligning branch counter systems, ATMs and Intelligent Deposit Machines, both reduces training costs and improves the quality of training received, increasing returns and enhancing the customer experience.
Subdued markets in the core business and the effect of non-core asset reductions resulted in a reduction in income (excluding volatile items, liability management effects and asset sales, and net of insurance claims) of 10 per cent to £21,197 million. This was partly offset by a 6 per cent reduction in operating expenses, despite the headwinds of inflation and higher taxes, as a result of the management actions we took during the year, and a 26 per cent reduction in the impairment charge, reflecting improving credit quality in our portfolios.
Greater clarity emerging on UK regulatory framework The publication of the ICB’s final report in September and the Government’s response to the report in December are significant steps in providing greater clarity on changes to the regulatory framework for the UK banking industry to secure greater financial stability.
The ICB also recommended that ring-fenced banks should hold a capital base of at least 10 per cent to absorb the impact of potential losses or financial crises. The Government’s proposals on capital are consistent with the capital targets we set in our strategic review in 2011 and, although much work remains to be done on the detail of the implementation capital requirements, we are on track to achieve the capital levels the ICB recommends.
On 19 December 2011 the Chancellor delivered the Government’s first formal response to the ICB’s Final Report of 12 September. The response endorsed many of the key recommendations contained in the ICB’s Final Report, including the ring-fencing of commercial and retail operations, higher capital requirements and a 7-day current account switching service. Importantly for the Group, the Government also supported the principle of a ‘flexible’ ring fence, which allows banks to choose where to place some (but not all) services.
The financial services market remains competitive. We are seeing a number of new entrants including Virgin Money and Metro Bank looking to make inroads into the market and the disposal of the Verde branches along with the improved switching process will further enhance competition.
The Bank of Scotland was founded in 1695 and over the years has developed long lasting, strong relationships with its customers.
Invest to be the best through-the-cycle partner for our business customers Our goal is to be the best through-the-cycle partner for our business customers, both through our Commercial Banking operations, which serve Small and Medium-sized Enterprises (SMEs), and our Wholesale Banking business, which addresses the needs of UK companies and institutions thereby taking a leading role in supporting the UK economy.
Priorities for 2012 Further improvements to the core tier 1 capital ratio
Delivering Innovative products and services our strategy recognises our customers needs for product simplicity and transparency, access through multiple channels and value for money products and services. We have worked hard to ensure we are offering products and services that respond to customers evolving needs and as a result a number of new and innovative products have been launched in 2011 such as the halifax savers prize draw. in addition, customers told us they wanted better ways of managing their money, so we launched lloyds tsb Money Manager, an easy-to-use internet banking service that helps customers understand how they are spending their money and using their account. We also understand that people want to be able to access their accounts and balances on the move – our new mobile banking applications have been downloaded 1.5 million times and reached the number one spot in the Apple App store free apps.
in developing innovative and quality products and services the bank liaises closely with internal and external suppliers to access and best use their expertise. external suppliers are very important in a number of areas and enable the Group to provide the best products & services to our customers. engaging with them, and the wider supply market, in a way that adds mutual value is a key part of our sourcing strategy to ensure we gain the best value for our customers across price, quality & social impacts.
Colleague engagement in 2011, we launched a new Colleague survey across the Group. the new survey supports our ambition to drive simplification across the business and will reduce the time colleagues spend giving feedback and will provide them with more time to focus on the activities which will help us to achieve our vision.
We are committed to ensuring that we offer clear career paths to retain our most able senior leaders. in 2011 we made significant progress and 60 per cent of all senior leader vacancies were filled internally.
in 2011, we completed our second annual diversity & inclusion Week, themed: Pride Through Inclusion. this awareness raising campaign featured each member of the Group executive Committee, our Chief executive and our Chairman. Colleagues were able to download a range of articles and tools including a guide to action planning.
We are investing in financial inclusion and projects to improve consumers’ financial capability; access to higher education for students from lower income families; sports for young people; and almost £30 million a year to the Group’s Charitable Foundations to support grassroots charities working with disadvantaged communities. We are also working to reduce our environmental impact by reducing our use of resources such as energy, water and paper and by investing in new sources of renewable energy. We are encouraging the companies we bank, and invest in, to do the same, using our influence as a large financial services organisation to deliver a positive impact for communities.
over the last year we have been the UK’s most active provider of finance to renewable energy projects, having lent over £413 million across 13 renewable energy projects in the UK, Germany and the Us. our approach to environmental risk management is covered on pages 162 and 163.
We developed the Lloyds TSB London 2012 Olympic Torch Tour, which travelled the UK during the summer of 2011. The Tour gave people the chance to get up close to the new Olympic Torch and learn more about the history and excitement of the Relay. The Tour visited 76 communities over 84 days, directly engaging 56,000 people with our London 2012 activity.
Retail operates the largest retail bank in the UK and is a leading provider of current accounts, savings, personal loans, credit cards and mortgages. With its strong stable of brands including Lloyds TSB, Halifax, Bank of Scotland and Cheltenham & Gloucester, it serves over 30 million customers through one of the largest branch and fee free ATM networks in the UK.
Operating expenses decreased by £102 million, or 6 per cent, to £1,534 million. The reduction in operating expenses from integration savings, lower bonus accruals and the continued focus on cost management have been offset by reinvestment into customer facing resources and systems
The impairment charge decreased by £64 million to £200 million, reflecting an improvement in market conditions for both the retail and non-retail consumer finance businesses. The lower impairment charge has been driven by a reduction in new cases entering arrears, the reduced book size and the improved credit quality of new business.
LP&I UK EEV new business margin increased to 4.2 per cent from 3.7 per cent in 2010
the success of the integration programme in delivering a platform and single set of processes now enables the group to commence its simplification programme as part of the group strategic transformational journey. the simplification programme is well underway and is now targeting cost savings of £1.7 billion in 2014 as well as improving service and the customer experience. group operations will play a major part in the whole programme but particularly through sourcing, end to end processes, and property initiatives.
the Director of group Audit provides independent assurance to the Audit Committee and the Board that risks within the group are recognised, monitored and managed within acceptable parameters. group Audit is fully independent of Risk, seeking to ensure objective challenge to the effectiveness of the risk governance framework.
Mitigating Actions the group takes many mitigating actions with respect to this principal risk, key examples include: – strong focus on leadership and colleague engagement, through delivery of strategies to attract, retain and develop high calibre staff together with implementation of rigorous succession planning.
the group’s stress testing framework considers these factors, including the impact of a range of economic and liquidity stress scenarios over both short and longer term horizons. internal stress testing results at 31 December 2011 show that the group has liquidity resources representing more than 130 per cent of modelled outflows from all wholesale funding sources, corporate deposits and rating dependent contracts under the group’s severe liquidity stress scenario. in 2011, the group has maintained its liquidity levels in excess of the iLg regulatory minimum (FsA’s individual Liquidity Adequacy standards) at all times. Funding projections show the group will achieve the proposed Basel iii liquidity and funding requirements in advance of expected implementation dates.
the impact of the reforms will gradually phase in as they are subject to a long transition period through to 2022. that allows time for the group to further strengthen its capital position as necessary through business performance and mitigating actions.
Available capital resources for With Profit Funds are presented in the table on a ‘realistic’ basis as this is more onerous than on a regulatory basis.
Requirement to maintain a Support Account: the scheme requires the maintenance of a ‘support Account’ within the non-Participating Fund. the quantum of the support Account is calculated with reference to the value of assets backing current with-profits policies which also existed at the date of demutualisation. Under the scheme assets can only be transferred from the non-Participating Fund if the value of the remaining assets in the fund exceeds the value of the support Account. scottish Widows has obtained from the FsA permission to include the value of the support Account or, if greater, the excess of realistic liabilities for business written before demutualisation over the relevant assets (subject to the non-Participating Fund being able to cover this amount by its surplus admissible assets) in assessing the realistic value of assets
With Profit Funds the with-profit realistic liabilities and the available capital for the With Profit Funds are sensitive to both market conditions and changes to a number of non-economic assumptions that affect the valuation of the liabilities of the fund. the available capital resources (and capital requirements) are sensitive to the level of the stock market, with the position worsening at low stock market levels as a result of the guarantees to policyholders increasing in value. However, the exposure to guaranteed annuity options increases under rising stock market levels. An increase in the level of equity volatility implied by the market cost of equity put options also increases the market consistent value of the options given to policyholders and worsens the capital position. Various hedging strategies are used to manage these exposures.
Options and guarantees the group has sold insurance products that contain options and guarantees, both within the With Profit Funds and in other funds.
Credit scoring: in its principal retail portfolios, the group uses statistically based decisioning techniques (primarily credit scoring models). the Risk Division reviews model effectiveness, while new models and model changes are referred by them to the appropriate model governance Committees for approval. the most material changes are approved in accordance with the governance framework set by the group model governance Committee.
the performance of all rating models 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 accordance with the governance framework set by the group model governance Committee.
to assist customers in financial distress, the group also participates in, or benefits from, the following Uk government (government) sponsored programmes for households: – income support for mortgage interest: this is a government medium-term initiative that provides certain defined categories of customers, principally those who are unemployed, access to a benefit scheme, paid for by the government, which covers all or part of the interest on the mortgage. Qualifying customers are able to claim for mortgage interest on up to £200,000 of the mortgage. 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 appropriate government department.
the stock of repossession was stable with 3,043 cases at 31 December 2010 and 3,054 at 31 December 2011, and is broadly consistent with prior years and below the Council of mortgage Lender’s average.
Greece Ireland Italy Portugal Spain Total £m £m £m £m £m £m
the group’s insurance activities also expose it to market risk, encompassing interest rate, exchange rate, property, credit spreads and equity risk: – With Profit Funds are managed with the aim of generating rates of return consistent with policyholders’ expectations and this involves the mismatch of assets and liabilities.
Risk appetite the group has developed an impact on earnings approach to operational risk appetite. this involves looking at how much the group could lose due to operational risk losses at various levels of certainty.
– the development of key Risk indicators for management reporting, including the monitoring of risk appetite.
the overall insurance risk is mitigated through pooling and through diversification across large numbers of individuals, geographical areas, and different types of risk exposure.
Directors Biographical details of directors are shown on pages 172 and 173. Particulars of their emoluments and interests in shares in the Company are given on pages 187 to 203. Changes to the composition of the Board since 1 January 2011 up to the date of this report are shown below: Joined the Board Retired from the Board
Ms S V Weller has been appointed to the Board since the annual general meeting held in 2011 and will therefore stand for election at the forthcoming annual general meeting.
The Long Term Incentive Plan remains a core part of our reward strategy. We have changed the performance conditions to better ensure alignment with the objectives and timeline of the Strategic Plan as well as to link to retaining our key employees and align with other elements of reward.
For example, in good times, when default rates on loans are low, we adjust the economic profit measure downwards based on a higher average expected default experience over the economic cycle. This encourages us to avoid business and funding strategies that are only profitable during boom times but turn bad in a recession. Economic profit plays a prominent role in our incentive plans for executives, with its inclusion in both the annual and LTIP performance measures.
Other share plans The Executive Directors are also eligible to participate in the Group’s ‘sharesave’ and ‘share incentive’ plans. These are ‘all-employee’ share plans.
Service agreements The Group’s policy is for Executive Directors to have service agreements with notice periods of no more than one year. All current Executive Directors are entitled to receive 12 months’ notice from the Group, but would be required to give at least six months’ notice.
Share of balance sheet amounts: Share of net assets at 31 December 309 326 370 25 103 109 334 429 479
These assumptions are intended to represent a best estimate of future experience, and further information about the effect of changes in key assumptions is given in note 39.
Included in the amounts reported above are deposits held as collateral for facilities granted, with a carrying value of £13,933 million (2010: £22,420 million) and a fair value of £14,258 million (2010: £25,626 million).
Annuities – The policyholder is entitled to payments for the duration of their life and is therefore insured against surviving longer than expected.
Maintenance expenses Allowance is made for future policy costs explicitly. Expenses are determined by reference to an internal analysis of current and expected future costs plus a margin for adverse deviation. Explicit allowance is made for future expense inflation. For German business appropriate cost assumptions have been set in accordance with the rules of the local regulatory body.
Increase (decrease) in liabilities: Arising from current year claims 470 – 470
c The fixed rate on this security was reset from 8.117 per cent to 6.059 per cent with effect from 31 May 2010.
Floating Rate Undated Subordinated Step‑up Notes (e300 million) b, e 10 63 6.05% Fixed to Floating Rate Undated Subordinated Notes (e500 million) b, d, e 4 57 5.375% Undated Fixed to Floating Rate Subordinated Notes (US$1,000 million) a 12 12 8.625% Perpetual Subordinated Notes (£200 million) a 24 21 4.875% Undated Subordinated Fixed to Floating Rate Instruments (e750 million) a 75 65
In addition, the trustees of the following holdings of Lloyds Banking Group plc shares in relation to employee share schemes retain the right to receive dividends but chose to waive their entitlement to the dividends on those shares as indicated: the Lloyds Banking Group Share Incentive Plan (holding at 31 December 2011: 8,091,460 shares, at 31 December 2010: 5,744,722 shares, waived right to all dividends), the Lloyds TSB Group Employee Share Ownership Trust (holding at 31 December 2011: 120,085,543 shares, at 31 December 2010: 283,109,984 shares, on which it waived right to all dividends and holding at 31 December 2011: 253,052 shares, at 31 December 2010: nil shares, on which it waived right to all but a nominal amount of one penny in total), Lloyds TSB Group Holdings (Jersey) Limited (holding at 31 December 2011: 42,846 shares, at 31 December 2010: 42,846 shares, waived right to all but a nominal amount of one penny in total) and the Lloyds TSB Qualifying Employee Share Ownership Trust (holding at 31 December 2011: 1,398 shares, at 31 December 2010: 1,398 shares, waived right to all but a nominal amount of one penny in total).
Other commitments 56,527 60,528 1 year or over original maturity 40,972 47,515
From held for trading to loans and receivables (3) (34) 208 (347)
From held for trading to loans and receivables: £m £m £m £m
Items in course of transmission to banks The fair value approximates carrying value due to their short‑term nature.
Own credit adjustments The carrying amount of issued notes that are designated under the IAS 39 fair value option is adjusted to reflect the effect of changes in own credit spreads. The resulting gain or loss is recognised in the income statement.
Derivative assets: Derivative assets, before offsetting under master netting arrangements 66,013 50,777
Total loans and advances which are neither past due nor impaired 32,494 330,727 41,448 146,655 518,830 11,121
Other assets held at fair value through profit or loss: Bank and building society certificates of deposit – 330 55 – – – 385
Treasury bills and other bills 219 8 – – – – 227
These transactions were generally conducted under terms that are usual and customary for standard secured lending activities.
IAS 19 Employee Benefits Prescribes the accounting and disclosure by employers for employee benefits. Actuarial gains and losses (remeasurements) in respect of defined benefit pension schemes can no longer be deferred using the corridor approach and must be recognised immediately in other comprehensive income. At 31 December 2011, unrecognised actuarial losses were £539 million. The income statement charge for 2011 would have been approximately £200 million higher under the revised standard.