Financial Review & Risk Management

Financial Review
Group profit before tax increased by £885m to £4,770m before charging exceptional costs of £48m relating to the merger of the Bank of Scotland and Halifax plc to create HBOS and £130m in respect of mortgage endowment compensation.

							Year ended 31.12.2004 £m	Year ended 31.12.2003 £m
Group profit before tax							4,592	3,766
Add back:
Merger integration costs							48	119
Mortgage endowment compensation							130
Group profit before tax and exceptional items							4,770	3,885
Divisional financial performance can be summarised as follows:
Year ended 31 December 2004	Retail	Corporate	Treasury	Insurance & Investment	International	Group Items	Year ended 31.12.2004	Year ended 31.12.2003
	£m	£m	£m	£m	£m	£m	£m	£m
Net interest income	3,719	1,520	165	86	450		5,940	5,459
Non-interest income	1,029	1,396	206	1,460	196		4,287	3,487
Net operating income	4,748	2,916	371	1,546	646		10,227	8,946
Operating expenses*	(2,093)	(1,071)	(112)	(256)	(306)	(306)	(4,144)	(3,968)
General insurance claims				(214)	(1)		(215)	(99)
Amounts written off fixed asset investments		(27)	3	1	2		(21)	(29)
Operating profit before provisions*	2,655	1,818	262	1,077	341	(306)	5,847	4,850
Provisions for bad & doubtful debts
Specific	(610)	(518)			(30)		(1,158)	(944)
General	(43)						(43)	(81)
Share of profits/(losses) of associates and joint ventures	34	76		(10)	1		101	60
Profit on sale of fixed assets	23						23
Profit before tax and exceptional items	2,059	1,376	262	1,067	312	(306)	4,770	3,885
Year ended 31 December 2003
Profit before tax and exceptional items	1,687	1,101	242	887	257	(289)	3,885
Increase / (decrease) in profit before tax and exceptional items	22%	25%	8%	20%	21%	(6%)	23%

* Excluding exceptional items.

Group profit before tax and exceptional items at £4,770m is 23% higher than a year ago. Non-interest income, 23% higher than a year ago, together with tight cost control are the key drivers for profit growth.

Basic earnings per share increased by 23% to 78.1p (2003 63.6p). Underlying earnings per share before exceptional items and goodwill amortisation rose 23% to 84.3p (2003 68.5p) and the proposed final dividend is 22.15p, which is 8% higher than the previous financial year. The basic dividend cover is 2.4 times and 2.6 times on an underlying basis up from 2.1 times and 2.2 times respectively in 2003. If approved at the Annual General Meeting, the final dividend will be paid on 13 May 2005 to shareholders on the register on 18 March 2005.

With effect from the 2004 final ordinary dividend, we intend to offer ordinary shareholders the facility to use the proceeds of their ordinary dividend to purchase HBOS plc ordinary shares through a Dividend Reinvestment Plan. Shareholders will be sent full details of the Plan, including a mandate to elect to join the Plan, in the Annual General Meeting mailing in March 2005.

Post Tax Return on Mean Equity
Group post tax return on mean equity (‘ROE’) increased from 17.7% for the year ended 31 December 2003 to 19.7%. Group post tax ROE is calculated by dividing profit attributable to ordinary shareholders before exceptional items by the monthly average of equity shareholders’ funds.

	Year ended 31.12.2004 £m	Year ended 31.12.2003 £m
Post tax return
Profit attributable to ordinary shareholders	3,020	2,415
Exceptional items	125	84
	3,145	2,499
Mean equity	16,004	14,087
	%	%
Post tax return on mean equity	19.7	17.7
Short term fluctuations in investment returns and changes in economic assumptions	(0.2)
Group Target post tax return on mean equity	19.5	17.7
Adjustment for household insurance underwriting	0.3
Group Adjusted Target return on mean equity	19.8	17.7

The Group’s Target ROE, which excludes the impact of short term fluctuations on investment returns and changes to economic assumptions in our investment businesses was 19.5% compared to 17.7% for the same period last year.

After allowing for the reduction in profit arising from the commencement of household insurance underwriting from the start of 2004, Group Adjusted Target ROE for 2004 is 19.8%.