Corporate
continued
Operating Expenses
Cost efficiency continues to be a key differentiator for our Corporate business. In 2006, underlying expenses increased by 9% to £783m (2005 £717m), with the cost:income ratio moving to 28.9% (2005 28.7%). Excluding the impact of Lex, which became a wholly owned subsidiary from 31 May 2006, underlying expenses would have increased by just 5% and the cost:income ratio would have fallen to 28.3%.
Credit Quality and Provisions
Impairment losses remained stable at £424m (2005 £428m), comparing favourably to lending growth of 8%. As a percentage of average advances, impairment losses improved to 0.52% (2005 0.56%) and impairment provisions as a percentage of closing advances improved to 0.83% (2005 0.89%). This reflects the prudent balance struck between our market share ambitions and our natural caution at this stage of a benign credit cycle.
Associates and Jointly Controlled Entities
Associates and joint ventures, most of which form part of our Corporate investment portfolio, continue to be a key source of profitable activity. Strong markets have resulted in sustained uplifts to the valuation of assets held within these entities, contributing to profits of £157m in 2006 (2005 £65m).
Lex Vehicle Finance (‘Lex’)
On 31 May 2006, we acquired the remaining 50% of shares in Lex. As a wholly owned subsidiary from that date, it has subsequently been fully consolidated within the Corporate income statement. Prior to 31 May 2006, our share of profits from Lex was reported as a jointly controlled entity. The table below shows the results of Lex included in the Corporate income statement.
| Year ended 31.12.2006 £m |
Year ended 31.12.2005 £m |
|
|---|---|---|
| Net operating income | 293 | |
| Operating lease depreciation | (235) | |
| Underlying operating expenses | (31) | |
| Operating profit | 27 | |
| Share of profits of associates and jointly controlled entities | 8 | 19 |
| Underlying profit before tax | 35 | 19 |
The acquisition of Lex makes HBOS number one in the contract hire market with added reach into brokers, the public sector, SMEs and large corporates. This emphasises our commitment to creating a world class contract hire business and builds on the strong position we have already established for our Vehicle, Asset and Motor businesses.
| As at 31.12.2006 | As at 31.12.2005 | |
|---|---|---|
| Loans and advances to customers | £85.3bn | £79.2bn |
| Impairment provisions on advances | £709m | £704m |
| Impairment provisions as a % of closing advances | 0.83% | 0.89% |
| Classification of advances* | % | % |
| Agriculture, forestry and fishing | 1 | 1 |
| Energy | 2 | 1 |
| Manufacturing industry | 5 | 7 |
| Construction and property: | ||
| Property investment | 18 | 20 |
| Property development | 6 | 6 |
| Housing associations | 3 | 4 |
| Housebuilders | 2 | 3 |
| Other property | 6 | 3 |
| Hotels, restaurants and wholesale and retail trade | 10 | 11 |
| Transport, storage and communication | 7 | 6 |
| Financial | 5 | 7 |
| Other services | 19 | 19 |
| Individuals | 3 | 2 |
| Overseas residents | 13 | 10 |
| 100 | 100 | |
| Impaired loans | £1,124m | £1,114m |
| Impaired loans as a % of closing advances | 1.32% | 1.41% |
| Impairment provisions as a % of impaired loans | 63% | 63% |
| Risk weighted assets | £100.7bn | £92.5bn |
| Customer deposits | £38.7bn | £41.7bn |
* Before impairment provisions.
Operational Performance
Lending
The strength of our franchise and our move to an asset class management strategy, which is driving best in class behaviours in our chosen markets, has enabled us to maintain strong growth in originations. During 2006, we maintained our stringent lending criteria, focusing on sectors, partners and returns rather than volume, and continued our rigorous approach to portfolio management through active participation in the sell down market. Lending increased by 16% before sell downs and by 8% after sell downs in 2006 to £85.3bn (2005 £79.2bn).
Property continues to be the largest concentration within our lending book, representing 35% of the portfolio. The property portfolio consists of property investment 18%, property development 6%, housing associations 3%, housebuilders 2% and other property 6%. We have extensive knowledge of the UK property sector and our specialist property lending models, along with considered lending criteria, ensure that our portfolio risk is well diversified, both in asset type and tenant concentration.
The other sectors within our lending book have also performed in line with our expectations. The service sectors (financial and others) have performed consistently and together represent 24% of our portfolio. We have also experienced a satisfactory performance from sectors associated with the slowdown in the retail sector such as retail, hotels, restaurants and manufacturing. These sectors represent 15% of our portfolio.
Some 7% of our lending book supports individual transactions in the private equity market. This market again saw strong growth in 2006, with an overall increase in leverage levels. Our approach has continued to be very selective, with a focus on supporting transactions by private equity houses with good track records across varying economic environments. The UK portfolio management team maintain very close contact with our origination teams, monitoring the performance of individual customers and private equity houses. We have also taken advantage of high liquidity in the market to sell down debt positions to hold levels with which we are comfortable, with the average hold level across the portfolio being below £25m.
We continue to be one of the largest and most efficient players in the motor finance market, with 16% of our portfolio representing our Asset Finance and Motor business. This covers the whole range of secured debt and leasing from high value aircraft, rail and marine financing to high volume office equipment financing.
As at 31 December 2006, the book value of our portfolio of investments (i.e. equity, preference shares and loan stock held in companies, funds, joint ventures and associates) was £2.5bn (2005 £1.9bn) and the number of holdings was in excess of 500. Of this portfolio, less than half of the book value was invested in private equity.
Deposits
As a consequence of our decision to price away unattractive deposits, customer deposits decreased by 7% to £38.7bn (2005 £41.7bn). As a corollary, we now move forward with a higher quality deposit book more suited to our longer term funding requirements.
