Company Announcements

VMUK FY22 Financial Results

Source: RNS
RNS Number : 9855G
Virgin Money UK PLC
21 November 2022
 

Virgin Money UK PLC

Full Year 2022

Financial Results

Announcement

 



 


 

BASIS OF PRESENTATION

Virgin Money UK PLC ('Virgin Money', 'VMUK' or 'the Company'), together with its subsidiary undertakings (which together comprise 'the Group'), operate under the Clydesdale Bank, Yorkshire Bank and Virgin Money brands. This results announcement covers the results of the Group for the year ended 30 September 2022.

Statutory basis

Statutory information is set out on page 16 and within the financial statements.

Underlying basis

Management exclude certain items from the Group's statutory position to arrive at an underlying performance basis. A reconciliation from the underlying results to the statutory basis is shown on page 16 to 17 and rationale for the adjustments is shown on page 134.

Alternative performance measures (APMs)

The KPIs and performance metrics used in monitoring the Group's performance and reflected throughout this results announcement are determined on a combination of bases (including statutory, regulatory and alternative performance measures), as detailed at 'Measuring the Group's performance' on pages 124 to 133. APMs are closely scrutinised to ensure that they provide genuine insights into the Group's progress; however statutory measures are the key determinant of dividend paying capability.

Certain figures contained in this document, including financial information, may have been subject to rounding adjustments and foreign exchange conversions. Accordingly, in certain instances, the sum or percentage change of the numbers contained in this document may not conform exactly to the total figure given.

 

FORWARD-LOOKING STATEMENTS

The information in this document may include forward-looking statements, which are based on assumptions, expectations, valuations, targets, estimates, forecasts and projections about future events. These can be identified by the use of words such as 'expects', 'aims', 'targets', 'seeks', 'anticipates', 'plans', 'intends', 'prospects', 'outlooks', 'projects', 'forecasts', 'believes', 'estimates', 'potential', 'possible', and similar words or phrases. These forward-looking statements, as well as those included in any other material discussed at any presentation, are subject to risks, uncertainties and assumptions about the Group and its securities, investments and the environment in which it operates, including, among other things, the development of its business and strategy, any acquisitions, combinations, disposals or other corporate activity undertaken by the Group, trends in its operating industry, changes to customer behaviours and covenant, macroeconomic and/or geo-political factors, the repercussions of the outbreak of coronaviruses (including but not limited to the COVID-19 outbreak), changes to its Board and/or employee composition, exposures to terrorist activity, IT system failures, cybercrime, fraud and pension scheme liabilities, changes to law and/or the policies and practices of the Bank of England (BoE), the Financial Conduct Authority (FCA) and/or other regulatory and governmental bodies, inflation, deflation, interest rates, exchange rates, tax and national insurance rates, changes in the liquidity, capital, funding and/or asset position and/or credit ratings of the Group, future capital expenditures and acquisitions, the repercussions of the UK's exit from the European Union (EU) (including any change to the UK's currency and the terms of any trade agreements (or lack thereof) between the UK and the EU), Eurozone instability, Russia's invasion of Ukraine, any referendum on Scottish independence, and any UK or global cost of living crisis or recession.

In light of these risks, uncertainties and assumptions, the events in the forward-looking statements may not occur. Forward-looking statements involve inherent risks and uncertainties. Other events not taken into account may occur and may significantly affect the analysis of the forward-looking statements. No member of the Group or their respective directors, officers, employees, agents, advisers or affiliates gives any assurance that any such projections or estimates will be realised or that actual returns or other results will not be materially lower than those set out in this document and/or discussed at any presentation. All forward-looking statements should be viewed as hypothetical. No representation or warranty is made that any forward-looking statement will come to pass. While every effort has been made to ensure the accuracy of the information in this document, the Group and its directors, officers, employees, agents, advisers and affiliates do not take any responsibility for the information in this document or to update or revise it. They will not be liable for any loss or damages incurred through the reliance on or use of it. No representation or warranty, express or implied, as to the truth, fullness, fairness, merchantability, accuracy, sufficiency or completeness of the information in this document or the materials used in and/or discussed at, any presentation is given.

Certain industry, market and competitive position data contained in this document and the materials used in and/or discussed at, any presentation, comes from official or third-party sources. There is no guarantee of the accuracy or completeness of such data. While the Group reasonably believes that each of these publications, studies and surveys has been prepared by a reputable source, no member of the Group or their respective directors, officers, employees, agents, advisers or affiliates have independently verified the data.

In addition, certain industry, market and competitive position data contained in this document and the materials used in and/or discussed at, any presentation, comes from the Group's own internal research and estimates based on the knowledge and experience of the Group's management in the markets in which the Group operates. While the Group reasonably believes that such research and estimates are reasonable and reliable, they, and their underlying methodology and assumptions, have not been verified by any independent source for accuracy or completeness, and are subject to change. Accordingly, undue reliance should not be placed on any of the industry, market or competitive position data contained in this document and the materials used in and/or discussed at, any presentation.

The information, statements and opinions contained in this document do not constitute or form part of, and should not be construed as, any public offer under any applicable legislation or an offer to sell or solicitation of any offer to buy any securities or financial instruments or any advice or recommendation with respect to such securities or other financial instruments. The distribution of this document in certain jurisdictions may be restricted by law. Recipients are required by the Group to inform themselves about and to observe any such restrictions. No liability to any person is accepted in relation to the distribution or possession of this document in any jurisdiction. The information, statements and opinions contained in this document and the materials used in and/or discussed at, any presentation are subject to change.


 

Virgin Money UK PLC Full Year Results 2022

David Duffy, Chief Executive Officer:

 

"2022 has been a milestone year for Virgin Money. We have good momentum while delivering a strong performance and improved returns for our shareholders. We've changed the game in purpose-led flexible working to create an engaged, high-performing organisation that's cost-efficient and agile, which will underpin targeted growth through further digital innovation."

 

"While we have solid credit quality across our lending, we are aware that some customers will have to make difficult decisions in this environment, and we are proactively offering them help and support."

 

Summary financials



 

12 months to

12 months to



 



 

30 Sep 2022

30 Sep 2021

Change


 




£m


£m

%


 




 





 



 




 





 



 

Underlying net interest income (NII)



1,592


1,412

13


 

Underlying non-interest income



163


160

2

 

Total underlying operating income


 

1,755


1,572

12


 

Underlying operating and administrative expenses



(914)


(902)

1


 

Impairment (losses)/credit on credit exposures



(52)


131

n.m.


 

Underlying profit on ordinary activities before tax



789


801

(1)


 

Adjusting items



(194)


(384)

(49)


 

Statutory profit on ordinary activities before tax



595


417

43


 

 



 





 

Performance measures(1)



 





 

Total customer lending (£m)



72,565


71,996

0.8%


 

Net interest margin (NIM)



1.85%


1.62%

0.23%pts


 

Underlying cost: income ratio (CIR)



52%


57%

(5)%pts


 

Statutory return on tangible equity (RoTE)



10.3%


10.2%

0.1%pts


 

Dividends and share buybacks announced (£m)



267


14

n.m.


 

Common equity tier 1 (CET1) ratio (IFRS 9 transitional)



15.0%


14.9%

0.1%pts


 

(1)    Refer to pages 124 to 133 for a range of metrics that are used to measure and track the Group's performance.

 

 

Strong financial performance in 2022

·      NIM expanded further to 1.85% (2021: 1.62%), supported by higher rates and further mix optimisation (Q4: 1.86%)

·      Underlying non-interest income up 2% YoY, reflecting higher activity levels offsetting fair value movements

·      Underlying costs of £914m were broadly stable YoY, in line with guidance, while CIR reduced 5%pts to 52%

·      Pre-Provision Operating Profit of £841m, up 26% on 2021, reflecting stronger income and well-controlled costs

·      Minor impairment charge of £52m (7bps cost of risk) reflecting updated macroeconomics, but with lower post model adjustments

·      Underlying profit 1% lower YoY given £131m impairment release in 2021

·      Statutory profit increased 43% YoY, reflecting higher income and lower adjusting items; statutory RoTE of 10.3% (2021: 10.2%)

·      Credit quality remains robust with low and stable arrears; provision coverage of 62bps above pre-pandemic levels

·      CET1 ratio remains strong at 15.0% (2021: 14.9%); announced further £50m buyback, taking 2022 buybacks to £125m; 7.5p final dividend (2022: 10p) means total 2022 shareholder distributions of £267m, equivalent to c.57% payout

 

Returning to net lending growth supported by continued strong relationship deposit inflows  

·      Strong relationship deposits growth, increasing 13% YoY to £34.6bn; continue to optimise overall deposits, down 2.3% to £65.4bn

·      Overall lending growth (0.8%) in 2022 to £72.6bn; Unsecured +13.8% to £6.2bn driven by credit cards; Business lending (2.7%) to £8.2bn as lower Government lending offset 1.7% growth in BAU; Mortgages stable at £58.2bn but returned to growth in H2 

·      AIEAs were £86.3bn in FY22; Sep-22 spot balances were c£90bn, expect higher liquidity-related AIEAs through FY23

 

Strong Purpose-led delivery in first year of our accelerated digital strategy

·      Launched cost of living hub to support customers with money saving suggestions, budgeting tools and links to external resources

·      Strong reception for new digital products with 7% YoY growth in current account sales; record new credit card origination of c.630k (+49% YoY); c.650k cashback users; launched new Business M-Track and Marketplace; c.40k waitlist for Slyce

·      A Life More Virgin supporting higher colleague engagement (+11%pt YoY); launched Agile change framework, increasing the speed of change at c.25% lower costs; property and branch footprint reduced c.50% YoY

·      Delivered c.£69m of annualised gross savings this year; further progress on digitisation with 43% of key customer journeys automated (2021: 27%); mobilising cloud migration and removing legacy applications

·      Delivering further propositions in 2023 including refreshed Wealth proposition, mortgage end-to-end digitisation and fully refreshed new digital home and travel insurance

·      Anticipating the initial launch of our digital wallet early in 2023 with additional functionality to be added through the year

 

Outlook upgraded               

·      Expect NIM to be 185-190bps in FY23, based on current rate expectations, and including higher AIEAs; in the medium term, expect mix-driven NIM expansion and OOI to grow from digital proposition enhancements

·      Cost:income ratio expected to improve further to c.50% in FY23; continue to target less than 50% in FY24

·      Cost of risk anticipated to normalise around through the cycle level of 30-35bps in FY23

·      Targeting growth in Unsecured & BAU Business, moderating in 2023; maintain mortgage market share in the medium term

·      Will maintain CET1 above 14% in FY23 during period of macroeconomic uncertainty; expect to return to target 13-13.5% CET1 range by the end of FY24, after growth, distributions and RWA headwinds, including hybrid model implementation

·      In line with the Group's updated capital framework, shareholder distributions to reflect 30% full year dividend pay-out, supplemented by buybacks, subject to ongoing assessment of surplus capital, market conditions and regulatory approval

·      Expect c.11% statutory RoTE in FY24, consistent with target of greater than 10%

Contact details

 

 

For further information, please contact:

 

 

Investors and Analysts


Richard Smith

Head of Investor Relations

+44 7483 399 303

richard.smith@virginmoneyukplc.com

 


Amil Nathwani

Senior Manager, Investor Relations

+44 7702 100 398

amil.nathwani@virginmoneyukplc.com



Martin Pollard

Senior Manager, Investor Relations

+44 7894 814 195

martin.pollard@virginmoneyukplc.com



Media (UK)


Matt Magee

+44 7411 299477

Head of Media Relations

matthew.magee@virginmoneyukplc.com



Simon Hall

+44 7855 257 081

Senior Media Relations Manager

simon.hall@virginmoney.com



Press Office

+44 800 066 5998


press.office@virginmoneyukplc.com

 




Media (Australia)


P&L Communications


Ian Pemberton

Sue Frost

+61 402 256 576

+61 409 718 572



 

Virgin Money UK PLC will today be hosting a presentation for analysts and investors covering the 2022 full year financial results starting at 08:30 GMT (19:30 AEDT) and this will be webcast live and is available at:

 

https://webcast.openbriefing.com/virgin-fy22/

 

A recording of the webcast and conference call will be made available on our website shortly after the meeting at:

 

https://www.virginmoneyukplc.com/investor-relations/results-and-reporting/financial-results/

 

A call for fixed income investors will be held at 09:00 GMT (20:00 AEDT) on Tuesday 22nd November 2022: Dial-in details: UK 0800 640 6441; All other locations: +44 20 3936 2999; Access code: 647668

 

Announcement authorised for release by Lorna McMillan, Group Company Secretary.

LEI: 213800ZK9VGCYYR6O495



 

Business and financial review

Chief Executive Officer's introduction

Delivering against our strategy

In 2022, the Group continued to deliver on its digital strategy, launching exciting new customer propositions
and laying the platform for profitable growth and sustainable returns through our digital investment.

David Duffy

Chief Executive Officer

 

We performed strongly in FY22, delivering higher statutory profit, positive financial momentum and increased capital returns, benefitting from higher rates in a more uncertain environment.

Dear stakeholder,

In the first year of delivering our accelerated digital strategy, I'm pleased with how the Group has performed. Virgin Money has made good strategic and financial progress as we drive towards our ambition of becoming the UK's best digital bank. I'd like to thank all our colleagues for their hard work, and customers for their loyalty, as we execute our Purpose-led strategy.

Since we set our targets a year ago, the economic backdrop has changed significantly, with a lower GDP outlook, higher unemployment expectations, and higher cost of living set to impact the economy, although higher interest rates have supported our financial performance. Despite the more difficult near-term backdrop for customers, our strategy remains the right one and I'm confident we are well placed to adapt to recent changes, while we continue to support customers and deliver for all our stakeholders.

Delivering for our stakeholders

While there remains more to deliver, FY22 saw a good start against the strategic agenda we set out a year ago. Our financial performance benefitted from stronger income and resilient asset quality given the higher interest rate trajectory and benign credit environment to date. Alongside this backdrop, the Group continued to execute against our strategic agenda, which combined with the environment, delivered robust returns as statutory RoTE remained stable at 10.3% (FY21: 10.2%). As a reflection of this performance, including high levels of capital generation, and after setting out our capital framework alongside our Interim results, the Board has announced the distribution of £267m of capital to shareholders through dividends and buybacks.

Our innovative propositions and rewards have been well received in our target segments of Unsecured and BAU Business lending (excluding Government scheme lending). The overall lending book returned to growth this year, with improved momentum in mortgages in H2 as we traded nimbly through a continuing competitive environment. I'm also particularly pleased with the continued growth in our low-cost relationship deposit base which is now 53% of total Group deposits, up from 33% at FY19.

Important digitisation initiatives, which will drive improvements in our customer service and complaints performance through automation of our core customer journeys, have been launched and will continue to deliver greater efficiency into FY23 and beyond. We continue to expand our loyalty and reward programmes, leveraging the unique potential of the Virgin brand and Virgin Red as we prepare to launch our new digital wallet.

We have continued to support colleagues at this more challenging time, with a £1,000 cost of living allowance provided to the majority of colleagues in August. Our A Life More Virgin flexible working model has also continued to be well received, attracting significant positive commentary, and supporting improved colleague engagement scores and a simplified office estate.

Our work to deliver a sustainable future took a significant step forward over the course of the year as we set net zero roadmaps and targets for Mortgages and priority Business sectors. We continue to embed climate and community considerations in everything we do, ensuring we support customers and wider society in the years ahead.

Strong financial momentum

The higher interest rate backdrop, continued benign credit conditions and the execution of our strategy, has seen statutory profit before tax for FY22 strengthen to £595m (FY21: £417m). This has benefited from increased pre-provision profit, continued low impairment charges and lower exceptional costs. Underlying income increased 12% with NIM expanding to 1.85% (FY21: 1.62%) supported by higher interest rates over the course of the year, and strategic actions to grow in higher-yielding product lines, while continuing to optimise our funding mix with higher relationship deposits. Underlying operating costs of £914m increased 1% on the prior year, reflecting inflationary pressures and higher investment, offset in part by efficiency savings.

While not directly exposed to Ukraine, we have seen second-order impacts on the broader UK economy from higher costs, higher interest rates and potential pressure on our customers and asset quality. At present, credit quality indicators remain benign but we remain cautious on the outlook, and stand ready to support customers further if needed. Against this backdrop, impairment charges were muted as provisions taken for COVID-19 impacts were unwound. Despite a modest reduction, we have retained above pre-COVID levels of coverage with a potentially challenging economic outlook in mind, and to reflect worsening macroeconomic forecasts.

Overall lending balances returned to growth in the year finishing up 1% at £72.6bn. We achieved strong growth in our target segments of Unsecured and BAU Business lending and returned the mortgage book to growth in the second half of the year. Deposit balances reduced 2% to £65.4bn but with relationship deposits increasing by 13%, as we continued to improve the mix of our deposit base and optimise our cost of funds.



 

Business and financial review

Chief Executive Officer's introduction

 

The capital generative financial performance of the business, and strong outcomes from our inaugural participation in the BoE's stress testing regime, allowed us to set out our capital framework alongside our Interim results in May. We committed to a sustainable 30% dividend payout level and are recommending a 10p total dividend in respect of FY22, subject to shareholder approval. We also committed to supplementing dividends with buybacks, subject to the Board's assessment of surplus capital, market conditions and regulatory approval.

It was pleasing therefore to commence our inaugural share buyback programme during the year, with a £75m buyback announced in June, which we are delighted to be adding to today, with a £50m extension. Our transitional CET1 ratio at FY22 remains robust at 15.0%, leaving the Group well placed as we enter FY23.

Delivering against our strategic pillars

At FY21 we announced plans to accelerate our digital strategy and have made a good start against this during FY22.

Pioneering Growth

Throughout FY22 we have launched important new propositions that will support our future growth ambitions. These include M-Track and Marketplace in Business, Slyce, new digital travel insurance, and improved cashback and reward offerings for personal customers.

As we continue to focus on digital-led growth in key target segments, we've reported growth in current accounts, underpinned by strong new account sales, record credit card sales and strong customer usage of cashback offers.

Digitally-enabled personal current account (PCA) sales were 131k (FY21: 134k) benefiting from a strong value proposition, with attractive interest rates on offer. Competitive switching propositions from peers impacted on our ability to attract switchers at the levels we had hoped, but we were still able to deliver book growth during the year. Business current account (BCA) sales reported a record year at 33k (FY21: 19k) benefitting from a new fee-free proposition and improved digital onboarding and servicing, along with the roll-out of our innovative M-Track and Marketplace propositions. These strong performances underpinned our 13% growth in relationship deposits.

Unsecured balances recorded strong growth of 14% as we maintained our existing competitive proposition, albeit with tighter underwriting to reflect potential customer affordability challenges from the higher cost of living. We also broadened our customer offerings, developing Slyce to challenge and innovate, with a responsible BNPL proposition aimed at Gen-Z customers. In Business, while we continued to see government scheme lending being repaid as expected, with very limited fraud, we also began to grow lending in our BAU franchise (up 2% year-on-year), without relaxing our rigorous underwriting standards.

Mortgage balances were broadly stable during the year, as competition has remained intense. Against this backdrop, we have continued with our strategy to optimise for long-term value, and maintain credit quality. We were pleased to increase our participation in the second half of the year, at improved margins, prior to the pricing volatility that took place towards the end of the financial year.

Delighting our customers and colleagues

For customers, we have seen expectations around service rise rapidly through the pandemic. During the last year, external factors have had an impact on our service levels, such as the changing rate environment, which has driven higher demand, with more customers requiring support. As a consequence, we recognise that there have been challenges impacting customer service this year, and our metrics for complaints and Smile scores aren't where we want them to be. In the second half of the year, the Group has taken action to address this, adding resources despite a tight labour market. We have a significant opportunity to improve service and we remain convinced that our strategy to invest in our digital model is the right one to deliver a lasting improvement for customers.

During the year the Group has continued to make progress in the end-to-end digitisation of customer journeys, including improved digital on-boarding and servicing experience across Personal and Business, to support better customer outcomes. Following delivery of a suite of chatbots earlier in the year, the Group has now surpassed 1m chatbot conversations with retail customers, with the year to date resolution rate within the chatbot at around two-thirds. As a result, the percentage of customer interactions through calls has reduced from c.70% at FY21 to c.50% as at the end of FY22.

We will further improve our service proposition in FY23, and seek to mitigate the impacts of digitisation on customers who prefer traditional banking channels. Significant investment is underway to enhance, modernise and digitise our customer service offering, which will support an improvement in customer experience and ultimately Smile scores. Furthermore, we have a comprehensive plan to deliver better outcomes for customers as we adopt the FCA's consumer duty.

For colleagues, the launch of our A Life More Virgin colleague proposition and our flexible working model has been very positively received, with colleague engagement scores improving to 79% at FY22 from 68% a year ago. The model has also removed geographical constraints on recruitment, enabling us to recruit more diverse talent. We have also repurposed some of our stores and offices during the year to create Collaboration Hubs which support the transition to a truly flexible approach to work.

Across the organisation we continue to focus on building an inclusive workforce and culture. The initiatives launched during the year are already having an impact as we focus on engaging with communities where we're currently under-represented to developing more diverse talent within Virgin Money. We have delivered improved diversity metrics but have ambitious targets to go further in the coming years.



 

Business and financial review

Chief Executive Officer's introduction

Targeting Super Straightforward Efficiency

Our investment continues to focus on driving our three-year transformation programme to deliver a scalable, more efficient digital growth platform. This features the deployment of Agile methodology and tools to increase the pace and delivery of change, at lower cost (see more on this on p.24). Our migration to Cloud-based infrastructure in partnership with Microsoft is set to commence in FY23, enabling us to begin exiting physical data centres. We are now starting to de-commission legacy applications, while building the new applications required to support the Cloud infrastructure. We are deploying Microsoft tools, such as AI and robotics, and rolling out Agile methodology across our new change programmes, launching new Agile tribes and training colleagues. This is delivering new functionality for customers at greater speed, and at an average of c.25% lower unit costs. As we continue to embed A Life More Virgin ways of working, we have continued to rationalise our property footprint, reducing it by 50% to c450k sq ft to align with the simpler needs of a digital bank.

Delivering Discipline and Sustainability

During the year, we have remained resolutely focused on asset quality and supporting our customers. Across key portfolios, there are currently limited signs of credit concerns and overall arrears remained low during the period.

However, the Group recognises the potential affordability issues that higher living costs will cause for households and is ready to continue to support customers, as was the case throughout the pandemic. The Group has tightened its affordability and underwriting criteria for new customers across all lending categories to account for higher levels of inflation.

Sustainability remained high on our agenda throughout FY22 and we've developed net-zero targets and roadmaps for our priority business sectors. We've continued to support our customers' decarbonisation journeys by providing information through the Sustainable Business Coach and supporting Carbon Audits, as well as providing greener finance through Sustainability-Linked Loans, Greener Mortgages and our new Agri E-Fund. We've received upgrades in ratings from both Sustainalytics and MSCI and have updated our TCFD disclosure in line with regulatory requirements. Our Community strategy has also continued to drive positive outcomes, including on the Poverty Premium where we've promoted the Turn2Us Benefits Calculator, our cost of living hub, and set up our Customer Care team who will proactively support our most vulnerable customers. Our partnership with the Macmillan cancer charity has also continued to provide practical support for customers in financial difficulty.

Developing our leadership for a digital world

I have continued to evolve and simplify the Group's Executive Leadership Team this year, ensuring we have the digital skills to deliver our strategy.

Syreeta Brown joined the Group from Citi in November 2021 as Group Chief People and Communications Officer and brings a wealth of experience in cultural transformation, talent development and in building a workforce that is fit for the future. Susan Poot joined the Group from ING bank in January 2022 as Group Chief Risk Officer. Susan has significant experience across a range of risk disciplines covering both retail and wholesale banking.

Finally, Sarah Wilkinson will join the Group in early 2023 from Thomson Reuters, where she is currently Chief Information Officer, and has recently held roles as Chief Executive Officer of NHS Digital and Chief Information Officer of the Home Office. Sarah brings global leadership experience and extensive expertise of delivering change, innovation and digital customer experience, with a strong track record of digital transformation and a prior background in financial services. I would like to take this opportunity to thank Kate Guthrie, Mark Thundercliffe, Helen Page, Fraser Ingram and Fergus Murphy for their contributions to my Leadership Team during their time with the Group, which spanned the acquisition of Virgin Money Holdings and the significant integration and rebrand activity that has laid the platform for our exciting future.

Outlook

Virgin Money is well positioned to deliver a digital-led future of profitable growth, greater cost-efficiency, improved customer service and sustainable shareholder returns as we target our ambition of becoming the UK's best digital bank. It is encouraging to see our strategy, and an improving rate environment, combining to drive stronger financial performance as we now target a c.11% statutory RoTE in FY24. Having set out our capital framework earlier in the year, we look forward to continuing deliver robust shareholder returns.

Looking forward, we will continue to focus our efforts on improving customer experience and driving digitisation through the Bank, as we embed an Agile approach. We are excited about the upcoming launch of our digital wallet, bringing together many of the elements we've worked on, which over time will also enable us to deliver a single, unified app. We have a unique brand, and access to a complementary set of partner companies in the Virgin Group. The potential to deepen the relationship with Virgin Red offers exciting possibilities for our customers to earn and spend Virgin points.

We will continue to develop our digital wallet during FY23, combining many of these unique features with instalment credit, loyalty and payment capabilities.

The macroeconomic outlook has become more uncertain over the course of the year. Following a positive recovery in expectations post-COVID, recent events have seen forecasts deteriorate. As we enter a more volatile environment, with higher inflation and rates, we are carefully monitoring for any impacts. We enter this phase with a prudently underwritten loan book, robust coverage, and a defensive asset mix. We are ready and able to continue supporting the customers, colleagues and communities we serve.

Overall, we have the right strategy and are executing on the key components that will underpin our delivery of improved returns and profitable growth over the coming years, as we fulfil our Purpose of Making you happier about money.

 

Shape, arrow Description automatically generated

David Duffy

Chief Executive Officer
20 November 2022



 

Business and financial review

Chief Financial Officer's review

Building momentum in strategic and financial delivery

 

I'm pleased to report a positive operating performance in FY22 and ongoing strategic delivery, leaving us well placed to target profitable growth in an uncertain economic environment.

 

Clifford Abrahams

Chief Financial Officer

 

2022 has been an important year as we returned to balance sheet growth and delivered improved momentum in financial performance, aided by the higher interest rate environment.

Review of the year

The Group has made good progress during FY22 as we've launched new and innovative digital propositions and continued to digitise the Bank. A stronger rate environment and benign credit backdrop, combined with our strategic delivery has driven good financial momentum, enabling a statutory RoTE of 10.3%, in line with FY21.

The combination of our resilient balance sheet, digital transformation and customer propositions leave us well placed to drive profitable growth, despite the uncertain economic outlook.

Pre-provision profit was significantly stronger at £841m (2021: £670m), with a strong improvement in income and broadly stable costs. NIM improved to 1.85% (2021: 1.62%), supported by rising base rates and a strong deposit performance, while non-interest income improved 2% to £163m as improving underlying momentum offset adverse one-off and fair value movements. Taken together, total income improved 12% compared to a year ago. Underlying operating costs were 1% higher compared to FY21 reflecting ongoing cost reduction offset by digital development costs, inflation, as well as the one-off cost of living allowance paid during the year.

The Group recognised an impairment charge of £52m (2021: £131m credit) or 7bps for FY22, below through the cycle levels, driven by prudent IFRS 9 scenario weightings that incorporate a conservative economic outlook and updated PMAs. There are currently limited signs of credit concerns across our key portfolios and our arrears performance remains low and stable. We continue to monitor our customers closely for signs of financial difficulty and remain on hand to support customers.

During the second half of the year, we tightened affordability and underwriting criteria to account for the more uncertain economic outlook and rising living costs. Provision coverage levels remain robust at 62bps (2021: 70bps), above pre-pandemic levels.

Given the more normalised impairment charge during the year, underlying RoTE was down relative to last year at 13.5% (2021: 17.8%), while statutory RoTE was stable at 10.3% (2021: 10.2%) after adjusting for items including restructuring spend, relating to the Group's digital investment, and intangible asset write-offs.

We were pleased to deliver lending growth during the year, as overall customer lending finished c.1% higher relative to FY21 at £72.6bn. Unsecured balances performed strongly throughout the year growing 14% as the combination of the resilience of our book and strong digital propositions allowed us to continue to take market share. Mortgage balances were broadly stable during the period at £58.2bn as we continued to prioritise margin over volume. Business lending balances reduced c.3% overall, as growth in BAU balances was offset by expected reductions in government-backed lending.




 

Business and financial review

Chief Financial Officer's review

Financial highlights

Statutory profit before tax


Underlying profit before tax


Statutory RoTE

£595m


£789m


10.3%

2021: £417m


2021: £801m


2021: 10.2%

NIM


Underlying CIR


Cost of risk

1.85%


52%


7bps

2021: 1.62%


2021: 57%


2021: (18)bps

CET1 ratio


Loan growth


Relationship deposit growth

15.0%


0.8%


+13.2%

2021: 14.9%


2021: (0.6)%


2021: +19.2%

Deposit balances reduced c.2% to £65.4bn as we continued to focus on improving the mix of our deposit base. Over the course of FY22, there was a 13% increase in lower-cost relationship deposits, now comprising 53% of overall deposits (2021: 46%), helping to underpin the Group's NIM performance.

Capital remained strong in the period, with the transitional CET1 ratio of 15.0% (2021: 14.9%), with significant tangible net asset value (TNAV) accretion over the year, to 383p (2021: 290p). We were pleased to outline our capital framework alongside our Interim results following our strong performance in the SST.

In line with our capital framework, the Board has declared a 10p dividend for the year and has announced a £50m share buyback, adding to the £75m share buyback that commenced in June.

I am confident that we will continue to demonstrate strategic and financial momentum during FY23, following a strong performance this year. We recognise the economic environment is uncertain and the potential affordability issues that will cause for households and we will continue to prioritise our customers as we did during the pandemic.

Underlying income


2022

£m

2021

£m

Change

Underlying net interest income

1,592

1,412

13%

Underlying non-interest income

163

160

2%

Total underlying operating income

1,755

1,572

12%

NIM

1.85%

1.62%

23bps

Average interest-earning assets

86,275

86,947

(1)%



 

Business and financial review

Chief Financial Officer's review

 

NII and NIM

Net interest income (NII) increased by £180m or 13% relative to FY21, driven by an expansion of the Group's NIM as it continued to benefit from higher rates and optimisation of the deposit base. Asset yields increased 34bps compared to FY21 with higher swap income the primary contributor, reflecting the rising base rate environment through the year. Given the ongoing competitive pressure on new and retained mortgage spreads, average balances reduced over the course of the year, as the Group remained selective in terms of its participation, while the average yield also declined c.9bps; together, this contributed to lower mortgage interest income. In Business, interest income increased by £33m in the year, despite lower average balances, as the yield of the book improved, given the lower mix of lower-yielding government-backed lending. In Unsecured, interest income increased by £24m in the year, driven by significant growth in average balances, owing mainly to growth in the credit card book. Elsewhere, the average yield on the Group's liquid assets increased 70bps reflecting the higher rate environment across the financial year.

The balance of the Group's structural hedge was maintained at c.£32bn throughout the year. This represents an increase from c.£26bn at the end of FY21, following a review of deposit behaviour.

During the year, the Group generated £286m of total gross income from the structural hedge, benefitting from ongoing hedge re-investment at higher prevailing interest rates.

Liability rates increased at a slower rate than asset yields, increasing 14bps relative to FY21. During the year, the Group continued to optimise its mix of deposits, reducing traditionally more expensive term deposits and increasing current account balances. This growth was driven by a strong performance in new PCA sales through the Brighter Money Bundles campaign, the relaunch of our BCA, and further supported by higher average balances as customers saved more during the period of COVID-19 restrictions. Wholesale funding costs increased in the year, driven by an increase in average balances following issuance throughout the year.

Non-interest income

Non-interest income increased by £3m or 2% relative to FY21, to £163m, as growth in other operating income offset fair value and one-off movements. The key drivers of the improvement in other operating income included increased Unsecured and Business fee income from higher customer transaction levels following the removal of COVID-19 restrictions during the year. Mortgage fee income was broadly stable during the period. One-off movements in the year were driven by the non-repeat of equity valuation gains in the debt restructuring unit recognised in FY21 (£16m) and fair value volatility due to hedge ineffectiveness movements.

Average balance sheet

2022

2021

Average

 balance

£m

Interest

 income/

(expense)

£m

Average

yield/(rate)

%

Average

 balance

£m

Interest

 income/

(expense)

£m

Average

yield/(rate)

%

Interest earning assets

 

 

 




Mortgages

57,996

1,272

2.19

58,426

1,332

2.28

Unsecured lending

6,100

407

6.67

5,407

383

7.09

Business lending(1)

8,263

331

4.00

8,801

298

3.38

Liquid assets

13,059

117

0.90

12,827

26

0.20

Due from other banks

853

2

0.22

1,482

-

(0.02)

Swap income/other

-

104

n/a

-

(87)

n/a

Other interest earning assets

4

-

n/a

4

-

n/a

Total average interest earning assets

86,275

2,233

2.59

86,947

1,952

2.25

Total average non-interest earning assets

3,229

 

 

3,590



Total average assets

89,504

 

 

90,537




 

 

 




Interest bearing liabilities

 

 

 




Current accounts

15,829

(46)

(0.29)

14,516

(14)

(0.09)

Savings accounts

30,895

(147)

(0.48)

30,242

(123)

(0.41)

Term deposits

12,894

(149)

(1.16)

18,259

(223)

(1.22)

Wholesale funding

16,169

(296)

(1.83)

13,591

(176)

(1.30)

Other interest bearing liabilities

145

(3)

n/a

164

(4)

n/a

Total average interest bearing liabilities

75,932

(641)

(0.84)

76,772

(540)

(0.70)

Total average non-interest bearing liabilities

7,903

 

 

8,414



Total average liabilities

83,835

 

 

85,186



Total average equity

5,669

 

 

5,351



Total average liabilities and average equity

89,504

 

 

90,537



Net interest income

 

1,592

1.85


1,412

1.62

 

(1)   Includes loans designated at fair value through profit or loss (FVTPL).



 

Business and financial review

Chief Financial Officer's review

 

Underlying costs

For the year ended 30 September

2022

£m

2021

£m

Change

Staff costs

375

348

8%

Property and infrastructure

42

43

(2)%

Technology and communications

116

113

3%

Corporate and professional services

114

101

13%

Depreciation, amortisation and impairment

116

155

(25)%

Other expenses

151

142

6%

Total underlying operating and administrative expenses

914

902

1%

Underlying CIR

52%

57%

(5)%pts

 

Underlying operating expenses increased 1% relative to FY21 to £914m, while the underlying CIR improved 5%pts to 52%. This performance was driven by the continued delivery of savings from the Group's digitisation programme, which were more than offset by additional costs from higher inflation and targeted growth, ongoing digital development spend, and one-off costs relating to our colleague cost of living allowance, which was paid during the year.

Staff costs increased during the period by 8%, as the impact of wage increases, bonuses, the employee cost of living allowance and higher resources working on digital initiatives offset savings from a lower average headcount and a pension credit. Depreciation and amortisation reduced by 25% in the year, primarily as a result of changes to D&A practices made at the end of the last financial year, reflecting costs that are no longer capitalised and additional changes made in FY22 as the Group adopts Agile methodology. The increase in Corporate and professional services spend reflects the impact of higher change investment, while the increase in Other expenses primarily reflects higher digital development and growth related spend.

Impairments

As at 30 September 2022

Credit

provisions

£m

Gross

 lending

£bn

Coverage

ratio

bps

Net cost

of risk

bps

% of

loans in

Stage 2

% of

loans in

Stage 3

Mortgages

56

58.5

9

(5)

5.3

1.0

Unsecured:

284

6.5

466

322

17.3

1.2

of which credit cards

246

5.5

481

347

13.9

1.3

of which personal loans and overdrafts

38

1.0

388

161

34.9

0.9

Business

117

8.1

159(1)

(112)

18.7

4.6

Total

457

73.1

62

7

7.8

1.4

of which stage 2

268

5.7

472

 

 

 

of which stage 3

104

1.0

1,124

 

 

 

 

(1)   Government-guaranteed element of loan balances excluded for the purpose of calculating the Business and total coverage ratio.

As at 30 September 2021

Credit

provisions

£m

Gross

 lending

£bn

Coverage

ratio

bps

Net cost

of risk

bps

% of

loans in

Stage 2

% of

loans in

Stage 3

Mortgages

87

58.5

15

(7)

12.3%

1.1%

Unsecured:

194

5.8

380

(64)

9.7%

1.2%

of which credit cards

160

4.7

379

5

10.7%

1.3%

of which personal loans and overdrafts

34

1.1

386

(386)

5.0%

1.1%

Business

223

8.3

306(1)

(62)

29.2%

2.8%

Total

504

72.6

70

(18)

14.1%

1.3%

of which stage 2

302

10.2

302




of which stage 3

91

1.0

 959




 

(1)   Government-guaranteed element of loan balances excluded for the purpose of calculating the Business and total coverage ratio.

During the year, the Group maintained robust credit quality across its portfolios, with very few significant provisions given low volume of borrowers flowing into default. Following an ECL credit in the income statement in 2021, there was a charge of £52m during the year, equivalent to a cost of risk of 7bps. Overall credit provisions remain robust at £457m (2021: £504m) with the aggregate coverage level at 62bps (2021: 70bps).



 

Business and financial review

Chief Financial Officer's review

 

During the fourth quarter of the financial year, the Group refreshed the macroeconomic scenarios used for IFRS 9 modelling, provided by Oxford Economics in early September, incorporating a weaker UK economic outlook. The weighted economic scenarios used at Q4 were prudently selected and incorporated a 10% weighting to the upside scenario, 55% to the base scenario and 35% to the downside scenario. The weighted economic scenario includes a contraction in GDP in 2023 of 1.5%, peak average unemployment of 5.3% in 2024 and a 7.4%/5.9% annual HPI contraction in 2023/2024, followed by a recovery in the outer years.

The Group applied expert credit risk judgement through PMAs to supplement the modelled provision to account for factors that the models cannot incorporate. The overall size of the PMAs at FY22 was £85m, reflecting a significant reduction from FY21 (£207m). The movement in PMAs during the year was primarily driven by the release of COVID-19 related judgemental PMAs across the portfolios, offset slightly by the introduction of a c.£27m cost of living PMA for Mortgage and Unsecured customers and a £30m economic resilience PMA for Business customers, recognising that the Business portfolio continues to face into an uncertain economic environment.

Credit quality has remained robust with loans classified as stage 2 reducing from 14% of the portfolio at FY21 to 8% at FY22, primarily as the removal of COVID-19-linked PMAs in the retail portfolio saw customers return to stage 1. In line with the overall reduction in provisions outlined above, the provision coverage level has reduced but remains appropriate for the underlying level of risk.

In Mortgages, the coverage ratio of 9bps (2021: 15bps) is deemed appropriate for the conservative loan book and remains ahead of pre-pandemic levels. Our Unsecured lending book coverage ratio of 466bps (2021: 380bps) includes 481bps of coverage for our highquality credit card portfolio and 388bps of coverage for our smaller personal loans and overdrafts book. Arrears levels remain modest across the portfolio, with c.99% in each of the personal loans and cards portfolios in either stage 1 or stage 2 not past due. The increase in the percentage of balances in stage 2 to 17.3% (2021: 9.7%) is primarily due to the movement of all personal loans made via the Salary Finance JV into Stage 2, following an increased number of customers entering into financial difficulty during the year.

In Business, the coverage ratio of 159bps (2021: 306bps) reflects a 147bps reduction in the year. There has been little evidence of deterioration in asset quality to date, with the level of specific provisions continuing to be low. Total balances in either stage 1 or stage 2 not past due represents c.95% of the portfolio. The reduction in the percentage of balances in stage 2 to 18.7% (2021: 29.2%) is primarily as a result of changes applied to the significant increase in credit risk (SICR) criteria, which resulted in these customers migrating back to stage 1.

 

Adjusting items and statutory profit


2022

£m

2021

£m

Underlying profit on ordinary activities before tax

789

801

Adjusting items

 


- Restructuring charges

(82)

(146)

- Acquisition accounting unwinds

(35)

(88)

- Legacy conduct costs

(8)

(76)

- Other items

(69)

(74)

Statutory profit on ordinary activities before tax

595

417

Tax (expense)/credit

(58)

57

Statutory profit for the year

537

474

Underlying RoTE

13.5%

17.8%

Statutory RoTE

10.3%

10.2%

TNAV per share

383.0p

289.8p

 

Overview

The Group made a statutory profit before tax of £595m after deducting £194m of adjusting items (2021: £384m).

TNAV per share increased 93.2p in FY22 to 383.0p. The key drivers of the increase were +38.3p of earnings and +47.7p of positive cash flow hedge reserve movements, given the rate environment.

Restructuring charges

Restructuring charges totalled £82m in the year, driven by charges related to the Group's digital investment. This included c.£60m related to the delivery of IT changes and c.£17m related to closure of stores, changes to the operating model and property footprint. The Group continues to expect to incur a total of c.£275m of restructuring costs to implement its digital strategy across FY22-24, with the majority now expected to be incurred in FY23.

Acquisition accounting unwinds

The Group recognised fair value accounting adjustments at the time of the Virgin Money acquisition that unwind through the income statement over the remaining life of the related assets and liabilities. £35m was reflected in FY22 and the Group expects a further c.£30m of total acquisition accounting unwind charges over the next three years.

Legacy conduct

Charges of £8m were incurred in FY22 relating to legal proceedings and legacy claims arising in the ordinary course of the Group's business.

Other items

Other items include a c.£60m charge recognised in the year following a reassessment of the Group's capitalisation practices, against the backdrop of the move to Agile project delivery and following the completion of the annual impairment review of intangible assets. 

Business and financial review

Chief Financial Officer's review

 

Taxation

On a statutory basis, there was a £58m tax charge during the year. This included an overall deferred tax credit reflecting additional historical losses recognised in the year, which offset a deferred tax charge reflecting the impact of the enactment of the reduction in the banking surcharge from 8% to 3%, and the increase in the threshold below which it is not chargeable, to £100m (previously £25m).

Balance sheet

As at 30 September

2022

2021

Change

Mortgages

 58,155

58,104

0.1%

Unsecured

 6,163

5,415

13.8%

Business(1)

 8,247

8,477

(2.7)%

Total customer lending

72,565

71,996

0.8%


 



Relationship deposits(2)

 34,649

30,596

13.2%

Non-linked savings

 17,048

21,285

(19.9)%

Term deposits

 13,663

14,989

(8.8)%

Total customer deposits

65,360

66,870

(2.3)%


 



Wholesale funding

17,012

13,596

25.1%

of which TFS

-

1,244

(100)%

of which TFSME

7,200

4,650

54.8%

Loan to deposit ratio (LDR)

111%

108%

3%pts

Liquidity coverage ratio (LCR)

138%

151%

(13)%pts

 

(1)   Of which, £963m government lending (2021: £1,318m).

(2)   Current account and linked savings balances.

Customer lending and deposits

At an aggregate level, Group lending increased by 0.8% to £72.6bn. The increase was primarily driven by growth in Unsecured and nongovernment guaranteed Business lending, while Mortgage balances remained stable. Total customer deposits reduced by 2.3% to £65.4bn reflecting changes to the overall mix of customer and wholesale funding balances, with growth in PCA and Relationship deposits offset by lower non-linked term deposits and non-linked savings.

Mortgage balances were broadly stable at £58.2bn as the Group prioritised margin over volume growth in a competitive environment, in line with the longer-term strategy. Overall housing demand remained strong throughout the year, while pricing remained competitive. During the final quarter of the year, mortgage spreads had begun to recover as increases in customer rates outpaced changes in swap rates, however heightened volatility towards the end of the financial year resulted in further pressure on mortgage margins.

Business lending reduced overall by 2.7% during the year to £8.2bn. This was mainly driven by government-guaranteed lending, which reduced by c.27% to £1.0bn following the closure of the schemes last year and as businesses made repayments. Non-government business lending increased by c.2% in the year to £7.3bn, supported by a growing pipeline of new business through the year.

Unsecured balances grew by 13.8% in the year to £6.2bn, driven by a strong performance in the credit cards where balances increased by c.21% in the year to £5.2bn. This performance was supported by strong new credit card sales and a recovery in consumer spending, as the Group increased its market share of balances during the year by 0.9% to 8.3%. During the year, the Group observed customer behavioural activity outperforming assumptions, resulting in the card EIR asset performing as expected.

Personal loans and overdraft balances reduced c.14% during the year to £1.0bn in line with the Group's strategy to reduce its participation in this market.

The Group's strategy to optimise its overall funding mix drove a 2% reduction in customer deposits during the year to £65.4bn. The Group also continued to improve its mix of customer deposits, as relationship balances grew 13%, supported by strong customer propositions, while non-linked savings and non-linked term deposits reduced by 20% and 9% respectively.

Wholesale funding and liquidity

The Group maintains a robust funding and liquidity position. The Group's LDR increased 3%pts in the year to 111% (2021: 108%), primarily as a result of the continued reduction in more expensive term deposits. The Group's LCR of 138% (2021: 151%) continues to comfortably exceed both regulatory requirements and our more prudent internal risk appetite metrics, ensuring a substantial buffer in the event of any outflows.

The Group made further drawings of £2.6bn from the BoE's Term Funding Scheme with additional incentives for small or medium-sized enterprises (TFSME) early in the year ahead of its closure, taking the total outstanding amount to £7.2bn, while at the same time repaying its remaining £1.2bn of TFS drawings. The incremental TFSME drawings, along with successful residential mortgage-backed securities (RMBS) and Covered Bond transactions during the year, meant wholesale funding increased to £17.0bn (FY21: £13.6bn), offsetting the reduction in term deposits.

 

 

Business and financial review

Chief Financial Officer's review

 

Capital


2022

2021

Change

CET1 ratio (IFRS 9 transitional)

15.0%

14.9%

0.1%pts

CET1 ratio (IFRS 9 fully loaded)

14.6%

14.4%

0.2%pts

Total capital ratio

22.0%

22.0%

-%pts

MREL ratio

32.1%

31.9%

0.2%pts

UK leverage ratio

5.1%

5.2%

(0.1)%pts

RWAs (£m)

24,148

24,232

(0.3)%

of which Mortgages (£m)

9,155

10,010

(8.5)%

of which Unsecured (£m)

4,817

4,311

11.7%

of which Business (£m)

6,196

6,040

2.6%

 

Unless where stated, data in the table shows the capital position on a Capital Requirements Directive (CRD) IV 'fully loaded' basis with International Financial Reporting Standard (IFRS) 9 transitional adjustments applied.

Overview

During 2022, the Group maintained a strong capital position with a CET1 ratio (IFRS 9 transitional basis) of 15.0% (2021: 14.9%) and a total capital ratio of 22.0% (2021: 22.0%). During the year, the Group announced its updated capital framework including a 30% full year dividend payout level, supplemented with buybacks subject to ongoing assessment of surplus capital, market conditions and regulatory approval. In line with the updated capital framework, the movement in the CET1 ratio during the year included a 58bps impact from the proposed full year dividend of 10p in line with the dividend policy and 31bps impact from the initial £75m share buyback. Excluding shareholder distributions, capital generation was underpinned by ongoing profitability and lower RWAs.

Capital requirements

As at 30 September 2022, the Group's Pillar 2A requirement had a CET1 element of 1.7%. Overall, the Group's CRD IV minimum CET1 capital requirement (or maximum distributable amount threshold) as at the end of FY22 was 8.7%. The Group's capital framework assumes the Countercyclical buffer returns to 2%.

CET1 capital

The Group's transitional CET1 ratio increased by 12bps over the year. Total underlying capital generation of 195bps was driven by 226bps of underlying profit, offset by 4bps from higher RWAs (excluding the impact to RWAs from intangible asset relief changes) and 27bps of AT1 distributions and related costs. Adjusting items consumed c.40bps while there was 58bps of accrual for expected dividends and 31bps from the £75m share buyback. The removal of the CRR II software benefit consumed a further 53bps. The announcement of an additional £50m share buyback will reduce CET1 resources in Q1 2023.

RWAs

Overall, RWAs reduced by 0.3% during FY22 to £24.1bn. To date, RWA pro-cyclicality has remained low, although the risk still remains, with the timing of any increase uncertain. In Mortgages, RWAs reduced by £0.9bn as probability of default (PD) recalibrations and stronger HPI more than offset growth in balances and other movements. In Business, RWAs increased by £0.2bn mainly as a result of higher customer balances, excluding government-backed balances that carry a 0% risk weight. In Unsecured, RWAs increased by £0.5bn in line with the increase in customer lending during the financial year. Non-credit RWAs were £3.1bn as at FY22 (2021: £2.7bn). In H1 2023, the Group expects a c.£1bn-£1.5bn increase from the implementation of hybrid model changes.

Robust capital position in the face of economic uncertainty

While credit provisions have reduced to £457m (2021: £504m) reflecting the robust credit performance and removal of COVID-19-related PMAs, the Group maintains a strong level of coverage to manage the impact of a weaker economy, and subsequent increase in credit losses. In addition, the Group also retained a significant CET1 management buffer of £1.5bn in excess of its CRD IV regulatory requirement as at FY22, providing further potential loss-absorbing capacity.



 

Business and financial review

Chief Financial Officer's review

 

MREL

The Group's Minimum Requirements for Own Funds and Eligible Liabilities (MREL) ratio increased from 31.9% to 32.1% during the year, comfortably exceeding its 2022 end-state MREL requirement of 24.9% of RWAs.

CET1 capital movements(1)

2022

Opening CET1 ratio

14.9%

Capital generated (bps)

226

RWA growth (bps)

(4)

AT1 distributions (bps)

(27)

Underlying capital generated (bps)

195

Restructuring charges (bps)

(25)

Acquisition accounting unwind (bps)

(10)

Conduct (bps)

(3)

Foreseeable ordinary dividends (bps)

(58)

Share buyback (bps)

(31)

Other (bps)

(3)

Reversal of intangible asset relief (bps)

(53)

Net capital generated (bps)

12

Closing CET1 ratio

15.0%

 

(1)   This table shows the capital position on a CRD IV 'fully loaded' basis with IFRS 9 transitional adjustments applied.

FY23 outlook

In FY23, we anticipate full year NIM to be c.185-190bps, reflecting the benefit of the current rate environment, structural hedge reinvestment and deposit pricing, offset by ongoing competitive pricing pressures, particularly in Mortgages, higher wholesale funding costs and higher liquidity requirements, as a consequence of increased market volatility.

The Group now expects to deliver a CIR of around 50% in FY23. The Group continues to expect to incur c.£275m of restructuring charges between FY22-24, reflecting its ongoing digitisation programme, with the majority of the remaining c.£190m expected to be incurred in FY23.

The Group now expects its cost of risk for FY23 to normalise around its through the cycle average of c.30-35bps.

Consistent with our strategy to diversify the balance sheet, we anticipate growth in overall lending in FY23, with more moderate growth in Unsecured and Business (non-government) relative to FY22, and modest growth in Mortgages.

The Group expects to issue £1.5bn-£2.5bn of secured issuance in FY23 subject to deposit flows and relative cost, while MREL issuance is expected to be broadly limited to maintaining the current surplus to regulatory requirements.

During H122, the Group announced its longterm CET1 target range of 13-13.5%. During FY23, the Group expects to operate above 14%, given the level of macroeconomic uncertainty. This includes the anticipated impact of implementing mortgage hybrid models, which is currently anticipated to increase RWAs by c.£1bn-£1.5bn in H123.

In line with the Company's capital framework and dividend policy, which was outlined alongside H122 results, the Board is today announcing a £50m extension of the Group's existing buyback programme. Given the timing of this year's stress test results, the Group does not expect to announce further buybacks until Q423.



 

Business and financial review

Chief Financial Officer's review

 

Guidance


FY23 outlook




Medium-term outlook


NIM

Statutory RoTE

185-190bps

c.11% in FY24, consistent with target of >10%

Underlying costs

Growth

c.50% CIR

Targeting growth in Unsecured and Business (non-government), maintaining Mortgage market share

Cost of risk

Income

Normalise around the through-the-cycle level of c.30-35bps

Mix-driven NIM expansion

Restructuring costs

Gross savings

c.£275m across FY22-FY24, with the majority in FY23

Gross cost savings of c.£175m by FY24 generate headroom to absorb inflation and re-investment

Dividend

Underlying costs

30% dividend payout supplemented with buybacks

Underlying CIR to be <50%

 



 

Business and financial review

Chief Financial Officer's review

 

Medium-term outlook

In the medium term the Group's digital acceleration will support the delivery of valuable and differentiated propositions to drive profitable growth. The Group will continue to target diversification on both sides of the balance sheet, delivering growth in Unsecured and Business lending, while maintaining our mortgage market share. We continue to target strong growth in new PCA and BCA customer numbers, improving the overall cost of funds.

We continue to expect our strategy to digitise the Bank to deliver around £175m of gross cost savings over the period FY22-24, generating headroom to absorb inflation and reinvestment. We have made good progress to date with savings driven by reductions in headcount and property, third party spend and savings from digitisation. Given the uncertain economic environment that has resulted in persistent high levels of inflation, alongside our strategy to grow the balance sheet, the Group continues to target a CIR rather than a nominal cost target and expects to achieve an underlying CIR of <50% by FY24.

Following the full recognition of historical losses, the Group expects its effective tax rate to be maintained in the mid 20%s from FY23 based on enacted legislation.

Overall, the Group now expects to deliver a c.11% statutory RoTE by FY24 and is well placed to deliver strong, profitable growth through the acceleration of our digital strategy.

In order to support its FY24 RoTE target, the Group anticipates returning to its 13-13.5% CET1 target range by FY24, assuming no material change in the economic outlook. The Group will target a 30% full year dividend payout level and will supplement dividends with buybacks, subject to an ongoing assessment of surplus capital, market conditions and regulatory approval.

  

Clifford Abrahams

Chief Financial Officer

20 November 2022



 

Business and financial review

Chief Financial Officer's review

 

Summary income statement - statutory basis

For the year ended 30 September

2022

£m

2021

£m

Net interest income

1,576

1,357

Non-interest income

140

132

Total operating income

1,716

1,489

Operating and administrative expenses

(1,069)

(1,203)

Operating profit before impairment losses

647

286

Impairment (losses)/credit on credit exposures

(52)

131

Statutory profit on ordinary activities before tax

595

417

Tax (expense)/credit

(58)

57

Statutory profit after tax

537

474

 

The Group has recognised a statutory profit before tax of £595m (2021: £417m). The increase in statutory profit is driven by higher income and lower statutory costs, offset slightly by our impairment performance, given the scale of the writeback recognised last year. The Group continues to expect that the difference between underlying and statutory profit will reduce over time as we deliver our strategy and the exceptional charges reduce.

Performance measures(1)


2022

2021

Change

Profitability

 



RoTE

10.3%

10.2%

0.1%pts

CIR

62%

81%

19%pts

Return on assets

0.60%

0.52%

0.08%pts

Basic earnings per share (EPS)

32.4p

27.3p

5.1p

 

(1)   For a definition of each of the performance measures, refer to 'Measuring the Group's performance' on pages 124 to 133.

Reconciliation of statutory to underlying results

The statutory basis presented within this section reflects the Group's results as reported in the financial statements. The underlying basis reflects the Group's financial performance as presented to the CEO, Executive Leadership Team and Board and excludes certain items that are part of the statutory results. The table below reconciles the statutory results to the underlying results, and full details on the adjusted items to the underlying results are included on page 134.

2022 income statement

Statutory

results

£m

Restructuring

charges

£m

Acquisition

accounting

unwinds

£m

Legacy

conduct

£m

Other

£m

Underlying

basis

£m

Net interest income

1,576

-

16

-

-

1,592

Non-interest income

140

-

16

-

7

163

Total operating income

1,716

-

32

-

7

1,755

Total operating and administrative expenses before impairment losses

(1,069)

82

3

8

62

(914)

Operating profit before impairment losses

647

82

35

8

69

841

Impairment losses on credit exposures

(52)

-

-

-

-

(52)

Profit on ordinary activities before tax

595

82

35

8

69

789

Financial performance measures

 

 

 

 

 

 

RoTE

10.3%

1.4%

0.6%

0.1%

1.1%

13.5%

CIR

62.3%

(4.4)%

(1.8)%

(0.4)%

(3.6)%

52.1%

Basic EPS

32.4p

4.2p

1.8p

0.4p

3.6p

42.4p

 



 

Business and financial review

Chief Financial Officer's review

 

2021 income statement

Statutory

results

£m

Restructuring

charges

£m

Acquisition

accounting

unwinds

£m

Legacy

conduct

£m

Other

£m

Underlying

basis

£m

Net interest income

1,357

-

55

-

-

1,412

Non-interest income

132

-

23

-

5

160

Total operating income

1,489

-

78

-

5

1,572

Total operating and administrative expenses before impairment losses

(1,203)

146

10

76

69

(902)

Operating profit before impairment losses

286

146

88

76

74

670

Impairment credit on credit exposures

131

-

-

-

-

131

Profit on ordinary activities before tax

417

146

88

76

74

801

Financial performance measures







RoTE

10.2%

2.9%

1.7%

1.5%

1.5%

17.8%

CIR

80.8%

(8.9)%

(5.4)%

(4.6)%

(4.5)%

57.4%

Basic EPS

27.3p

7.8p

4.7p

4.1p

4.0p

47.9p

 



 

Risk Management

Credit risk

 

At a time of ongoing challenge for the UK economy, our lending portfolios remain well positioned.

A disciplined approach to credit risk management supports the Group's operations and has underpinned its resilience in recently challenging times.

 

Credit risk is the risk that a borrower or counterparty fails to pay the interest or capital due on a loan, or other financial instrument. Credit risk manifests itself in the financial instruments and products that the Group offers, and in which it invests, and can arise in respect of both on- and offbalance sheet exposures.

Close monitoring, clear policies and a disciplined approach to credit risk management support the Group's operations, and have underpinned its resilience in recently challenging times. The emergence of the significant inflationary headwinds and cost of living pressures have the potential to affect customer resilience and debt affordability. The Group has taken a number of steps to support customers through this period of heightened affordability pressure, and ensure that its credit risk framework and associated policies remain effective and appropriate.

Managing credit risk within our asset portfolios

Risk appetite

The Group controls its levels of credit risk by placing limits on the amount of risk it is willing to take in order to achieve its strategic objectives. This approach involves a defined set of qualitative and quantitative limits in relation to its credit risk concentrations to one borrower, or group of borrowers, and to geographical, product and industry segments. The management of credit risk within the Group is achieved through ongoing approval and monitoring of individual transactions, timely changes to application scorecards and credit strategies, regular asset quality reviews and the independent oversight of credit decisions and portfolios.

The Group maintained a controlled approach to portfolio management and appetite for new lending origination as it continued to recognise some of the delayed impacts of COVID 19, with updates to underwriting criteria to reflect the uncertain economic environment and emerging inflationary headwinds. The FY23 RAS continues to consider the impact of those inflationary headwinds and cost of living pressures, and is focussed on supporting customers through this challenging period. Climate risk is an increasingly important component of the broader RMF and we have recognised this risk through the inclusion of climate-related risk factors within the FY22 RAS. The framework has been updated to embed climate risk considerations across various aspects of customer lending and credit risk management practices.

Measurement

The Group uses a range of statistical models, supported by both internal and external data, to measure credit risk exposures. These models underpin the IRB capital calculation for the Mortgage and Business portfolios, and account management activity for all portfolios. Further information on the measurement and calculation of ECL and the Group's approach to the impairment of financial assets can be found on page 20.

Political and economic risk is an emerging risk for the Group and includes the future impact on macroeconomic variables, which are used in the calculation of the Group's modelled ECL output. Further detail on the Group's use of macroeconomic variables in the year can be found on pages 39 to 41.

Mitigation

The Group maintains a dynamic approach to credit management and takes appropriate steps if individual issues are identified, or if credit performance has, or is expected to, deteriorate due to borrower, economic or sector-specific weaknesses.

The mitigation of credit risk within the Group is achieved through approval and monitoring of automated credit strategies, individual transactions, asset quality, analysis of the performance of the various credit portfolios, and oversight of credit portfolios across the Group. Portfolio monitoring techniques include product, industry, geographic concentrations and delinquency trends, as well as considering layered risks where customers may have more than one higher risk characteristic.

There is regular analysis of borrower ability to meet interest and capital repayment obligations, with early support and mitigating steps taken where required. The Group has taken additional steps to update affordability assessments in response to the inflationary and cost of living pressures facing customers. Credit risk mitigation is also supported, in part, by obtaining collateral, and corporate and personal guarantees where appropriate.

The key mitigating measures are described below.

Credit assessment and mitigation

Credit risk is managed in accordance with lending policies, the Group's risk appetite and the RMF. Lending policies and performance against risk appetite are reviewed regularly.

The Group uses a variety of lending criteria when assessing applications for Mortgage and Unsecured customers. The approval process uses credit scorecards, credit strategies and affordability assessments, and involves a review of an applicant's previous credit history using information held by credit reference agencies. Manual underwriting assessments are also used as and when required. The Group also utilises quantitative thresholds, for example debt to income ratios, as well as the ratio of borrowing to collateral. Some of these limits relate to internal approval levels and others are hard limits above which the Group will reject the application.

For residential mortgages, the Group's policy is to accept only standard applications within Board approved risk appetite limits. Included within these is the maximum percentage LTV limit that is offered subject to loan size and customer income. Product availability may be altered depending on market conditions and outlook. Product types such as BTL and residential interest-only mortgages are controlled by transactional limits covering both LTV and value.



 

Risk Management

Credit risk

 

For business customers, credit risk is further mitigated by focusing on business sectors where the Group has specific expertise, and through limiting exposures on higher value loans and to certain sectors. When making credit decisions for business customers the Group will routinely assess the primary source of repayment, most typically the cash generated by the customer through its normal trading cycle. Secondary sources of repayment are also considered and while not the focus of the lending decision, collateral will be taken when appropriate. The Group seeks to obtain security cover and, where relevant, guarantees from borrowers.

Specialist expertise

Credit quality is managed and monitored by skilled teams including, where required, specialists that provide dedicated support for vulnerable customers experiencing financial or other types of difficulties. These specialists act within agreed delegated authority levels set in accordance with experience and capabilities.

Credit strategy and policy

Credit risks associated with lending are managed through the application of detailed lending policies and standards that outline the approach to lending, underwriting criteria, credit mandates, concentration limits and product terms.

Significant credit risk strategies and policies are reviewed and approved annually by the Credit Risk Committee. For complex credit products and services, the Chief Credit Officer and Credit Risk Committee provide a policy framework that identifies, quantifies and mitigates risks. These policies and frameworks are delegated to, and disseminated under, the guidance and control of the Board and senior management, with appropriate oversight through governance committees.

Specialist credit teams provide oversight of credit portfolio performance as well as adherence to credit risk policies and standards. Activities include targeted risk-based reviews, providing an assessment of the effectiveness of internal controls and risk management practices. Bespoke assignments are also undertaken in response to emerging risks and regulatory requirements. Independent assurance reviews are regularly undertaken by Internal Audit.

Portfolio oversight

The Group's credit portfolios, and the key benchmarks, behaviours and characteristics that are used to manage portfolios, are regularly monitored, with portfolio monitoring reports provided for review by senior management.

Controls over rating systems

The Group has a Model Risk Oversight team that sets common minimum standards for risk models and associated rating systems to ensure these are developed and monitored consistently, and are of sufficient quality to support business decisions and meet regulatory requirements. The Group performs an annual self-assessment of its rating systems to ensure ongoing CRR compliance.

The Group also utilises other instruments and techniques across its wider balance sheet. These are summarised below:

Derivatives

The Group maintains control limits on net open derivative positions. At any one time, the amount subject to credit risk is limited to the current fair value of instruments that are favourable to the Group (i.e. assets where the fair value is positive) and in relation to derivatives, may only be a small fraction of the contract, or notional values associated with instruments outstanding. This credit risk is managed as part of the customer's overall exposure together with potential exposures from market movements.

Master netting agreements

The Group further restricts its exposure to credit losses by entering into master netting arrangements with counterparties whom it undertakes a significant volume of transactions. Master netting arrangements do not generally result in an offset of balance sheet assets and liabilities, as transactions are usually settled on a gross basis. However, credit risk associated with the favourable contracts is reduced by a master netting arrangement to the extent that, if any counterparty failed to meet its obligations in accordance with the agreed terms, all amounts with the counterparty are terminated and settled on a net basis. Derivative financial instrument contracts are typically subject to the International Swaps and Derivatives Association (ISDA) master netting agreements, as well as Credit Support Annexes, where relevant, around collateral arrangements attached to those ISDA agreements. Derivative exchange or clearing counterparty agreements exist where contracts are settled via an exchange or clearing house.

Collateral

The Group evaluates each customer's creditworthiness on a case by case basis. The amount of collateral obtained, if deemed necessary by the Group upon extension of credit, is based on management's credit evaluation of the counterparty. Collateral held as security, and other credit enhancements includes the following:

Residential mortgages

Residential property is the Group's main source of collateral on mortgage lending, and means of mitigating loss in the event of the default risk inherent in its residential mortgage portfolios. All lending activities are supported by an appropriate form of valuation. This valuation is applied using either a physical valuation, or another method that is not reliant on a physical inspection, but utilises data and modelled information, such as desktop, automated valuation model or indexed valuations (subject to policy rules and confidence levels).

It is the Group's policy to dispose of repossessed properties, with the proceeds used to reduce or repay the outstanding balance. The Group does not occupy repossessed properties for its own business use.

Commercial property

Commercial property is a source of collateral on business lending, and means of mitigating loss in the event of default (within the Stage 3 Business balance of £376m, £106m is collateralised on property), (2021: Stage 3 Business balance of £235m, with £117m collateralised on property). For commercial loans, collateral comprises first legal charges over freehold, or long leasehold property (including formal Companies House registration where appropriate). All commercial property collateral is subject to an independent, professional valuation when taken and thereafter subject to periodic review in accordance with policy requirements.

 



 

Risk Management

Credit risk

 

Non-property related collateral

In addition to residential and commercial property based security, the Group also takes other forms of collateral when lending. This collateral can involve obtaining security against the underlying loan through the use of cash collateral and/or netting agreements, both of which reduce the original exposure by the amount of collateral held, subject to volatility and maturity adjustments where applicable. It can also include specific or interlocking guarantees, and loan agreements, which include affirmative and negative covenants and, in some instances, guarantees of counterparty obligations.

The Group also provides asset-backed lending in the form of asset and invoice finance. Security for these exposures is held in the form of direct recourse to the underlying asset financed.

Generally, the Group does not take possession of collateral it holds as security, or call on other credit enhancements, that would result in recognition of an asset on its balance sheet.

Monitoring

Credit policies and procedures, which are subject to ongoing review, are documented and disseminated in a form that supports the credit operations of the Group.

·   Credit Risk Committee: The Credit Risk Committee ensures that the credit RMF and associated policies remain effective. The Committee has oversight of the quality, composition and concentrations of the credit risk portfolio. It also determines and approves strategies to adjust the portfolio for changes in market conditions.

·   RAS measures: Measures are reported monthly to ensure adherence to appetite. A formal annual review is carried out to ensure that the measures accurately reflect the Group's risk appetite, strategy and concerns relative to the wider macro environment. All measures are subject to extensive engagement with the Executive Leadership Team and the Board, and are subject to endorsement from executive governance committees prior to Board approval. Regulatory engagement is also scheduled as appropriate.

·   Risk concentration: Concentration of risk is managed by counterparty, product, geographical region and industry sector. In addition, single name exposure limits exist to control exposures to a single counterparty. Concentrations are also considered through the RAS process, focusing particularly on the external environment, outlook and comparison against market benchmarks, as well as considering layered risks where customers may have more than one higher risk characteristic.

·   Single large exposure excesses: Excesses on exposures under the delegated commitment authority of the Transactional Credit Committee are reported to the committee when above defined limits. All excess reports include a proposed route to remediation. Exposures are also managed in accordance with the large exposure reporting requirements of the CRR.

·   Portfolio Monitoring: Continuous monitoring of the portfolio composition and performance is undertaken through weekly and monthly reviews.

Forbearance

Forbearance is considered to exist where customers are experiencing, or about to experience, financial difficulty and the Group grants a concession on a non-commercial basis. The Group's forbearance policies and definitions comply with the guidance established by the EBA for financial reporting. Forbearance concessions include the granting of more favourable terms and conditions than those provided at drawdown of the facility, or conditions that would not ordinarily be available to other customers with a similar risk profile. Forbearance parameters are regularly reviewed and refined as necessary to ensure they are consistent with the latest industry guidance and prevailing practice, as well as ensuring that any assessment adequately captures and reflects the most recent customer behaviours and market conditions. 

Measuring credit risk within asset portfolios

At each reporting date, the Group assesses financial assets measured at amortised cost, as well as loan commitments and financial guarantees, for impairment. The impairment loss allowance is calculated using an ECL methodology and reflects: (i) an unbiased and probability weighted amount; (ii) the time value of money, which discounts the impairment loss; and (iii) reasonable and supportable information that is available without undue cost or effort about past events, current conditions and forecasts of future economic conditions.

The Group adopts two approaches in the measurement of credit risk under IFRS 9:

Individually assessed

A charge is taken to the income statement when an individually assessed provision (IA) has been recognised, or a direct write-off has been applied to an asset balance. These will be classified as Stage 3.

Collectively assessed

The Group uses a combination of strategies and statistical models that utilise internal and external data to measure the exposure to credit risk within the portfolios, and to calculate the level of ECL. This approach is supplemented by management judgement in the form of PMAs where necessary.

ECL methodology

ECL methodology is based upon the combination of probability of default (PD), loss given default (LGD) and exposure at default (EAD) estimates that consider a range of factors that impact on credit risk and the level of impairment loss provisioning. The Group uses reasonable and supportable forecasts of future economic conditions in estimating the ECL allowance. The methodology and assumptions used in the ECL calculation are reviewed regularly and updated as necessary.



 

Risk Management

Credit risk

 

The calculated model ECL is determined using the following classifications:

Classification

ECL calculation period

Description

Stage 1

12 months

An exposure that is not credit-impaired on initial recognition and has not experienced a SICR since initial recognition.

Stage 2

Lifetime

An exposure that has experienced a SICR since initial recognition, but is not yet deemed to be credit impaired.

Stage 3

Lifetime

An exposure that is credit-impaired.

 

In addition, purchased or originated credit-impaired (POCI) financial assets are those that are assessed as being credit-impaired upon initial recognition. Once a financial asset is classified as POCI, it remains there until derecognition irrespective of any changes to its credit quality. POCI financial assets are included in Stage 3 with corresponding values disclosed by way of footnote to the relevant tables. The Group regards the date of acquisition as the origination date for purchased portfolios.

A Stage 2 ECL is required where a SICR has been identified, such as a deterioration in the PD since origination. Absent any specific SICR factors, the Group operates a 30 DPD backstop for classification as Stage 2, and 90 DPD for Stage 3. Forborne exposures can be classed as either Stage 2 or Stage 3 depending on the type of forbearance programme that has been applied to the customer.

The SICR criteria and triggers are parameters within the ECL calculation process and, as such, are considered under the same governance pathway as the Group's IFRS 9 models. This approach means that any changes to the triggers are initially submitted to and endorsed by the Credit Model Technical Forum, with formal approval provided by the MGC.

During the year, refinements were made to the SICR criteria within the Group's Business portfolio to more closely reflect the level of credit risk. On adoption of IFRS 9 from 1 October 2018, the Group had selected eCRS based SICR triggers as one of the tools for monitoring the credit risk on Business customers. The effectiveness of all triggers were reviewed during the year, including overlaps with other causes of stage migration, and the Group concluded that its hard triggers based on internal credit risk rating were ineffective when used in conjunction with the PD deterioration threshold. In addition, the threshold definition has been simplified and is now set at a 50% increase in the annualised PD since origination, subject to a 100bps floor in the movement. The overall impact of this refinement has resulted in more of the Business portfolio remaining in Stage 1 in the current year. As this change represents a revision to model parameters rather than a change of policy, comparatives have not been restated.

The Credit Risk Committee provides oversight on the adequacy of ECL provisioning with reviews and robust challenge of the calculation and management judgement recommendations. This includes the rationale behind the inclusion of PMAs, the basis on which these are calculated and the proposed timeline for their release.

The Boards' Audit Committee provides oversight to the ECL calculation and measurement of ECL, with reviews and robust challenge of all calculated outcomes and management judgements.

Further detail on the accounting policy applied to ECLs can be found in note 3.2 to the financial statements.

Accounting and regulatory credit loss frameworks

The approach to calculating credit losses differs between the accounting and regulatory frameworks applicable to the Group, with the most significant difference being that the concept of SICR, which moves exposures from a 12-month to a lifetime ECL calculation in the accounting framework, does not exist under the regulatory framework. The approach to staging under IFRS 9 is also not applicable under regulatory credit loss reporting.

Both frameworks calculate credit losses under a PD x LGD x EAD approach, with the regulatory IRB approach assessing these in the next 12 months, whereas the accounting framework under IFRS 9 requires these losses assessed on a forward-looking view, with a lifetime loss calculated where appropriate. Credit losses are supplemented by management judgements in the form of PMAs, where required, under the accounting framework.

Both the accounting and regulatory definitions of default are materially aligned, with default being triggered at 90 DPD, with the exception of the heritage Virgin Money mortgage models, that apply a 180 DPD regulatory default trigger under existing approved permissions. The definition of default will be fully aligned to 90 DPD when the regulatory models are updated in line with the hybrid model adoption, which is anticipated in 2023.

Cure periods

The Group aligns the regulatory cure periods for forborne exposures in its IFRS 9 staging criteria at a minimum period of either 24, or 36 months, depending on the forbearance programme utilised. Where exposures are classified as Stages 2 or 3 as a result of not being in a forbearance programme, these can cure when the relevant staging trigger is removed and no longer applicable.



 

Risk Management

Credit risk

 

Group credit risk exposures

The Group is exposed to credit risk across all of its financial asset classes, however, its principal exposure to credit risk arises on customer lending balances. Given the relative significance of customer lending exposures to the Group's overall credit risk position, the disclosures that follow are focused principally on customer lending.

The Group is also exposed to credit risk on its other banking and treasury-related activities, and holds £12.2bn (2021: £9.7bn) of cash and balances with central banks and £0.7bn (2021: £0.8bn) due from other banks at amortised cost, with a further £5.1bn (2021: £4.4bn) of financial assets at fair value through other comprehensive income (FVOCI). Additionally £11.0bn of cash is held with the BoE (2021: £8.3bn), and balances with other banks and financial assets at FVOCI are primarily held with senior investment grade counterparties. All other banking and treasury related financial assets are classed as Stage 1 with no material ECL provision held.

Maximum exposure to credit risk on financial assets and credit-related commitments

The following tables show the levels of concentration of the Group's financial assets and credit-related commitments:


2022

2021

Gross loans and

 advances to

 customers

£m

Credit-related

 commitments

£m

Total

£m

Gross loans and

 advances to

 customers

£m

Credit-related

commitments

£m

Total

£m

Mortgages

 58,464

 4,200

62,664

58,441

2,845

61,286

Unsecured

 6,513

 11,057

 17,570

5,770

10,507

16,277

Business

 8,169

 4,102

 12,271

8,340

3,769

12,109

Total

 73,146

 19,359

 92,505

72,551

17,121

89,672

Impairment provisions on credit exposures(1)

 (454)

 (3)

 (457)

(496)

(8)

(504)

Fair value hedge adjustment

 (941)

 -

 (941)

(179)

-

(179)

Maximum credit risk exposure on lending assets

 71,751

 19,356

 91,107

71,876

17,113

88,989

Cash and balances with central banks

 

 

 12,221



9,711

Financial instruments at FVOCI

 

 

 5,064



4,352

Due from other banks

 

 

 656



800

Other financial assets at fair value

 

 

 78



153

Derivative financial assets

 

 

 342



140

Maximum credit risk exposure on all financial assets(2)

 

 

 109,468



104,145

 

(1)   The total ECL provision covers both on and off-balance sheet exposures, which are reflected in notes 3.2 and 3.13 respectively. All tables and ratios that follow are calculated using the combined on- and off-balance sheet ECL, which is consistent for all periods reported.

(2)   Unless otherwise noted, the amount that best represents the maximum credit exposure at the reporting date is the carrying value of the financial asset.

Group credit highlights

In addition to the balance sheet position above, key metrics of relevance are as follows:

Group credit highlights

2022

£m

2021

£m

Impairment charge/(credit) on credit exposures



Mortgage lending

(30)

(44)

Unsecured lending

178

(32)

Business lending

(96)

(55)

Total Group impairment (credit)/charge

52

(131)

Underlying impairment (credit)/charge(1) to average customer loans (cost of risk)

0.07%

(0.18%)




Key asset quality ratios



% Loans in Stage 2

7.76%

14.09%

Loans in Stage 3

1.41%

1.32%

Total book coverage(2)

0.62%

0.70%

Stage 2 coverage(2)

4.72%

3.02%

Stage 3 coverage(2)

11.24%

9.59%

 

(1)   Inclusive of gains/losses on assets held at fair value and elements of fraud loss.

(2)   Excludes the guaranteed element of government-backed loan schemes.

Risk Management

Credit risk

The Group has continued to maintain a stable lending book, with gross lending to customers of £73.1bn at 30 September 2022 (2021: £72.6bn). While the Mortgage book remained relatively stable, a small 1.2% reduction in Business lending was more than offset by 12.9% growth in the Unsecured lending book, mainly driven by credit card growth of £0.9bn in FY22 despite having tightened underwriting criteria in the second half of the year in response to rising living costs.

Asset quality was robust in the period and most of the key asset quality ratios remained broadly stable. However, other significant economic and geopolitical factors have the potential to impact the short to medium term performance of the portfolio, with the most significant of these anticipated to be cost of living pressures. The Group continues to support customers through this challenging period, with a controlled risk appetite and focus on responsible lending decisions.

The selection of appropriate PMAs is a major component in determining the Group's ECL, with the following considered to be key factors for the Group's portfolio at that date:

·   All PMAs relating to the COVID-19 pandemic, including the move of balances to Stage 2 for customers taking a payment holiday, have been fully released from Stages 1 and 2 as the risk of potential default within the portfolio is no longer considered to be directly attributable to specifically pandemic effects.

·   Application of a £27m adjustment for the cost of living crisis and the impact it may have on customers' ability to absorb higher day-to-day costs within available finances. This adjustment impacts both the Mortgage (£6m) and Unsecured (£21m) portfolios and is held in Stage 1.

·   Recognising that the Business portfolio continues to face an uncertain economic environment, with an economic resilience PMA of £30m being recognised and is primarily held in Stage 2.

As such, the Group has recorded a total impairment provision of £457m at 30 September 2022, reflecting a 9% reduction from £504m at 30 September 2021, and a corresponding reduction in coverage from 70bps to 62bps. Within this, the modelled and IA provision has increased to £372m (2021: £297m) driven by the updated macroeconomic inputs and growth in Unsecured lending. PMAs have reduced in the period to £85m (2021: £207m).

The net reduction in provision has been offset by the individually assessed impairment charge of £106m in the year (2021: £79m), resulting in a net charge to the income statement of £52m (2021: net credit of £131m), and an associated cost of risk of 7bps (2021: (18)bps).

Gross loans and advances(1) ECL and coverage

2022

Mortgages

Unsecured

Business(2)

Total(4)

Cards

Loans and Overdrafts

Combined

£m

%

£m

%

£m

%

£m

%

£m

%

£m

%

Stage 1

54,791

93.7%

4,712

84.8%

612

64.1%

5,324

81.8%

6,270

76.7%

66,385

90.8%

Stage 2 - total

3,090

5.3%

774

13.9%

335

35.1%

1,109

17.0%

1,526

18.7%

5,725

7.8%

 Stage 2: 0 DPD

2,763

4.7%

723

13.0%

327

34.3%

1,050

16.1%

1,499

18.4%

5,312

7.2%

 Stage 2: < 30 DPD

158

0.3%

27

0.5%

3

0.3%

30

0.5%

9

0.1%

197

0.3%

 Stage 2: > 30 DPD

169

0.3%

24

0.4%

5

0.5%

29

0.4%

18

0.2%

216

0.3%

Stage 3(3)

583

1.0%

72

1.3%

8

0.8%

80

1.2%

373

4.6%

1,036

1.4%


58,464

100.0%

5,558

100.0%

955

100.0%

6,513

100.0%

8,169

100.0%

73,146

100.0%

ECLs

 

 

 

 

 

 

 

 

 

 

 

 

Stage 1

10

17.9%

57

23.2%

6

15.8%

63

22.2%

12

10.3%

85

18.6%

Stage 2 - total

32

57.1%

156

63.4%

25

65.8%

181

63.7%

55

47.0%

268

58.6%

 Stage 2: 0 DPD

28

49.9%

129

52.4%

22

57.9%

151

53.1%

55

47.0%

234

51.2%

 Stage 2: < 30 DPD

2

3.6%

14

5.7%

1

2.6%

15

5.3%

 -

0.0%

17

3.7%

 Stage 2: > 30 DPD

2

3.6%

13

5.3%

2

5.3%

15

5.3%

 -

0.0%

17

3.7%

Stage 3(3)

14

25.0%

33

13.4%

7

18.4%

40

14.1%

50

42.7%

104

22.8%


56

100.0%

246

100.0%

38

100.0%

284

100.0%

117

100.0%

457

100.0%

Coverage

 

 

 

 

 

 

 

 

 

 

 

 

Stage 1

 

0.02%

 

1.29%

 

1.06%

 

1.26%

 

0.22%

 

0.13%

Stage 2 - total

 

1.02%

 

21.94%

 

7.29%

 

17.22%

 

3.75%

 

4.72%

 Stage 2: 0 DPD

 

1.02%

 

19.41%

 

6.41%

 

15.09%

 

3.76%

 

4.43%

 Stage 2: < 30 DPD

 

0.81%

 

57.37%

 

33.67%

 

54.48%

 

3.57%

 

8.53%

 Stage 2: > 30 DPD

 

1.25%

 

59.03%

 

52.92%

 

58.01%

 

1.47%

 

8.57%

Stage 3(3)

 

2.28%

 

50.96%

 

73.14%

 

53.51%

 

19.96%

 

11.24%


 

0.09%

 

4.81%

 

3.88%

 

4.66%

 

1.59%

 

0.62%

(1)   Excludes loans designated at FVTPL, balances due from customers on acceptances, accrued interest and deferred and unamortised fee income.

(2)   Business and total coverage ratio excludes the guaranteed element of government-backed loans.

(3)   Stage 3 includes POCI for gross loans and advances of £56m for Mortgages and £1m for Unsecured (2021: £67m and £2m respectively); and ECL of (£1m) for Mortgages and (£2m) for Unsecured (2021: £Nil and (£2m) respectively).

(4)   The COVID related PMAs held in 2021 were allocated across Stages 1 and 2 and have now been fully released. The cost of living PMAs are held in Stage 1 and the economic resilience PMA is primarily held in Stage 2.

Risk Management

Credit risk

 

2021

Mortgages

Unsecured

Business(2)

Total(4)

Cards

Loans and Overdrafts

Combined

£m

%

£m

%

£m

%

£m

%

£m

%

£m

%

Stage 1

50,596

86.6%

4,100

88.1%

1,048

94.0%

5,148

89.2%

5,672

68.0%

61,416

84.7%

Stage 2 - total

7,192

12.3%

497

10.7%

56

5.0%

553

9.6%

2,433

29.2%

10,178

14.0%

 Stage 2: 0 DPD

6,918

11.9%

466

10.1%

46

4.2%

512

8.9%

2,390

28.7%

9,820

13.5%

 Stage 2: < 30 DPD

128

0.2%

16

0.3%

5

0.4%

21

0.4%

25

0.3%

174

0.2%

 Stage 2: > 30 DPD

146

0.2%

15

0.3%

5

0.4%

20

0.3%

18

0.2%

184

0.3%

Stage 3(3)

653

1.1%

58

1.2%

11

1.0%

69

1.2%

235

2.8%

957

1.3%


58,441

100.0%

4,655

100.0%

1,115

100.0%

5,770

100.0%

8,340

100.0%

72,551

100.0%

ECLs













Stage 1

4

4.6%

32

20.0%

9

26.5%

41

21.1%

66

29.6%

111

22.0%

Stage 2 - total

64

73.6%

99

61.9%

19

55.9%

118

60.9%

120

53.8%

302

59.9%

 Stage 2: 0 DPD

61

70.2%

82

51.3%

13

38.2%

95

49.0%

120

53.8%

276

54.8%

 Stage 2: < 30 DPD

1

1.1%

8

5.0%

2

5.9%

10

5.2%

-

-

11

2.1%

 Stage 2: > 30 DPD

2

2.3%

9

5.6%

4

11.8%

13

6.7%

-

-

15

3.0%

Stage 3(3)

19

21.8%

29

18.1%

6

17.6%

35

18.0%

37

16.6%

91

18.1%


87

100.0%

160

100.0%

34

100.0%

194

100.0%

223

100.0%

504

100.0%

Coverage













Stage 1


0.01%


0.85%


1.13%


0.91%


1.35%


0.18%

Stage 2 - total


0.88%


22.12%


42.01%


23.92%


5.43%


3.02%

 Stage 2: 0 DPD


0.87%


19.51%


33.66%


20.64%


5.48%


2.84%

 Stage 2: < 30 DPD


0.85%


58.36%


52.88%


57.27%


1.51%


6.90%

 Stage 2: > 30 DPD


1.36%


64.46%


99.65%


73.48%


2.85%


8.99%

Stage 3(3)


2.81%


54.13%


64.02%


55.65%


17.31%


9.59%



0.15%


3.79%


3.86%


3.80%


3.06%


0.70%

 

(1)   Excludes loans designated at FVTPL, balances due from customers on acceptances, accrued interest and deferred and unamortised fee income.

(2)   Business and total coverage ratio excludes the guaranteed element of government-backed loans.

(3)   Stage 3 includes POCI for gross loans and advances of £56m for Mortgages and £1m for Unsecured (2021: £67m and £2m respectively); and ECL of (£1m) for Mortgages and (£2m) for Unsecured (2021: £Nil and (£2m) respectively).

(4)   The COVID related PMAs held in 2021 were allocated across Stages 1 and 2 and have now been fully released. The cost of living PMAs are held in Stage 1 and the economic resilience PMA is primarily held in Stage 2.

 



 

Risk Management

Credit risk

 

Stage 2 balances

There can be a number of reasons that require a financial asset to be subject to a Stage 2 lifetime ECL calculation other than reaching the 30 DPD backstop. The following table highlights the relevant trigger point leading to a financial asset being classed as Stage 2:

2022

Mortgages

Personal

Business

Total(3)

Cards

Loans and Overdrafts

Combined

£m

%

£m

%

£m

%

£m

%

£m

%

£m

%

PD deterioration

 2,084

69%

 401

52%

 329

99%

 730

66%

826

55%

 3,640

64%

Forbearance

 106

3%

 9

1%

 1

0%

 10

1%

 235

15%

 351

6%

AFD or Watch List(1)

 6

0%

 -

0%

 -

0%

 -

0%

 447

29%

 453

8%

> 30 DPD

 169

5%

 24

3%

 5

1%

 29

3%

18

1%

 216

4%

Other(2)

725

23%

 340

44%

 -

0%

 340

30%

-

0%

 1,065

18%


 3,090

100%

 774

100%

 335

100%

 1,109

100%

 1,526

100%

 5,725

100%

ECLs

 

 

 

 

 

 

 

 

 

 

 

 

PD deterioration

 18

55%

 73

47%

 23

92%

 96

53%

 26

47%

 140

53%

Forbearance

 5

16%

 3

2%

 -

0%

 3

2%

 12

22%

 20

7%

AFD or Watch List(1)

 -

0%

 -

0%

 -

0%

 -

0%

 17

31%

 17

6%

> 30 DPD

 2

6%

 13

8%

 2

8%

 15

8%

 -

0%

 17

6%

Other(2)

 7

23%

 67

43%

 -

0%

 67

37%

 -

0%

 74

28%


 32

100%

 156

100%

 25

100%

 181

100%

 55

100%

 268

100%

 

2021

Mortgages

Personal

Business

Total(3)

Cards

Loans and Overdrafts

Combined

£m

%

£m

%

£m

%

£m

%

£m

%

£m

%

PD deterioration

6,100

85%

300

60%

48

86%

348

63%

1,445

59%

7,893

78%

Forbearance

176

2%

11

2%

3

5%

14

3%

374

15%

564

6%

AFD or Watch List(1)

11

-

-

-

-

-

-

-

584

24%

595

6%

> 30 DPD

146

2%

15

3%

5

9%

20

4%

18

1%

184

2%

Other(2)

759

11%

171

35%

-

-

171

30%

12

1%

942

8%


7,192

100%

497

100%

56

100%

553

100%

2,433

100%

10,178

100%

ECLs













PD deterioration

43

67%

51

52%

14

74%

65

55%

52

43%

160

53%

Forbearance

4

6%

2

2%

1

5%

3

3%

24

20%

31

10%

AFD or Watch List(1)

-

-

-

-

-

-

-

-

32

27%

32

11%

> 30 DPD

2

3%

9

9%

4

21%

13

11%

-

-

15

5%

Other(2)

15

24%

37

37%

-

-

37

31%

12

10%

64

21%


64

100%

99

100%

19

100%

118

100%

120

100%

302

100%

 

(1)   Approaching Financial Difficulty (AFD) and Watch markers are early warning indicators of Business customers who may be approaching financial difficulties. If these indicators are not reversed, they may lead to a requirement for more proactive management by the Group.

(2)   Other includes high indebtedness, county court judgments and previous arrears, as well as a number of smaller value drivers.

(3)   The COVID related PMAs held in 2021 were allocated to Stage 2 have now been fully released. The economic resilience PMA is primarily held in Stage 2.



 

Risk Management

Credit risk

 

Credit risk exposure and ECL, by internal PD rating, by IFRS 9 stage allocation

The distribution of the Group's credit exposures and ECL by internal PD rating is analysed below:

2022

Stage 1

Stage 2

Stage 3(1)

Total(2)

Lending

£m

ECL

£m

Lending

£m

ECL

£m

Lending

£m

ECL

£m

Lending

£m

ECL

£m

Mortgages

PD range

 

 

 

 

 

 

 

 

Strong

0 - 0.74

 52,184

 6

 1,864

 10

-

 -

 54,048

 16

Good

0.75 - 2.49

 2,302

 2

 641

 5

 -

 -

 2,943

 7

Satisfactory

2.50 - 99.99

 305

 2

 585

 17

 -

-

 890

 19

Default

100

-

 -

-

-

 583

 14

 583

 14

Total


 54,791

 10

 3,090

 32

 583

 14

 58,464

 56

Unsecured


 

 

 

 

 

 

 

 

Strong

0 - 2.49

 4,795

 42

 413

 26

 -

 -

 5,208

 68

Good

2.50 - 9.99

 524

 20

 459

 72

 -

 -

 983

 92

Satisfactory

10.00 - 99.99

 5

 1

 237

 83

 -

 -

 242

 84

Default

100

 -

 -

 -

 -

 80

 40

 80

 40

Total


 5,324

 63

 1,109

 181

 80

 40

 6,513

 284

Business


 

 

 

 

 

 

 

 

Strong

0 - 0.74

 4,808

 5

719

17

-

-

5,527

22

Good

0.75 - 9.99

 1,455

 7

751

31

-

-

2,206

38

Satisfactory

10.00 - 99.99

 7

-

 56

 7

-

-

 63

 7

Default

100

-

 -

 -

-

 373

 50

 373

 50

Total


 6,270

 12

 1,526

 55

 373

 50

 8,169

 117

 

2021

Stage 1

Stage 2

Stage 3(1)

Total(2)

Lending

£m

ECL

£m

Lending

£m

ECL

£m

Lending

£m

ECL

£m

Lending

£m

ECL

£m

Mortgages

PD range









Strong

0 - 0.74

46,984

3

4,555

19

-

-

51,539

22

Good

0.75 - 2.49

3,313

1

1,888

21

-

-

5,201

22

Satisfactory

2.50 - 99.99

299

-

749

24

-

-

1,048

24

Default

100

-

-

-

-

653

19

653

19

Total


50,596

4

7,192

64

653

19

58,441

87

Unsecured










Strong

0 - 2.49

4,730

28

85

9

-

-

4,815

37

Good

2.50 - 9.99

411

12

325

54

-

-

736

66

Satisfactory

10.00 - 99.99

7

1

143

55

-

-

150

56

Default

100

-

-

-

-

69

35

69

35

Total


5,148

41

553

118

69

35

5,770

194

Business










Strong

0 - 0.74

3,298

13

505

53

-

-

3,803

66

Good

0.75 - 9.99

2,374

53

1,823

40

-

-

4,197

93

Satisfactory

10.00 - 99.99

-

-

105

27

-

-

105

27

Default

100

-

-

-

-

235

37

235

37

Total


5,672

66

2,433

120

235

37

8,340

223

 

(1)   Stage 3 includes POCI for gross loans and advances of £56m for Mortgages and £1m for Unsecured (2021: £67m and £2m respectively); and ECL of (£1m) for Mortgages and (£2m) for Unsecured (2021: £Nil and (£2m) respectively).

(2)   The COVID related PMAs held in 2021 were allocated across Stages 1 and 2 and have now been fully released. The cost of living PMAs are held in Stage 1 and the economic resilience PMA is primarily held in Stage 2.

Risk Management

Credit risk

 

In terms of credit quality, 97% (2021: 97%) of the loan commitments and financial guarantee contracts were classed as either 'Good' or 'Strong' under the Group's internal PD rating scale.

Movement in gross lending balances and impairment loss allowance

The following table shows the changes in the loss allowance and gross carrying value of the portfolios. Values are calculated using the individual customer account balances, and the stage allocation is taken as at the end of each month. The monthly position of each account is aggregated to report a net closing position for the period, thereby incorporating all movements an account has made during the year.

 

2022

Stage 1

Stage 2

Stage 3(1)

Total gross

loans

£m

Total

provisions(4)

£m

Gross loans

£m

ECL

 £m

Gross loans

 £m

ECL

£m

Gross loans

£m

ECL

£m

Opening balance at 1 October 2021

61,416

111

10,178

302

957

91

72,551

504

Transfers from Stage 1 to Stage 2

(8,287)

(45)

8,227

294

-

-

(60)

249

Transfers from Stage 2 to Stage 1

10,218

27

(10,282)

(145)

-

-

(64)

(118)

Transfers to Stage 3

(91)

-

(562)

(84)

650

101

(3)

17

Transfers from Stage 3

42

-

137

8

(187)

(12)

(8)

(4)

Changes to model methodology

443

1

(442)

(8)

-

-

1

(7)

New assets originated or purchased(2)

22,162

187

2,055

159

187

32

24,404

378

Repayments and other movements(3)

(3,434)

(42)

(155)

(65)

56

(15)

(3,533)

(122)

Repaid or derecognised(3)

(16,084)

(154)

(3,431)

(193)

(498)

(101)

(20,013)

(448)

Write-offs

-

-

-

-

(129)

(129)

(129)

(129)

Recoveries

-

-

-

-

-

30

-

30

Individually assessed impairment charge

-

-

-

-

-

107

-

107

Closing balance at 30 September 2022

66,385

85

5,725

268

1,036

104

73,146

457

 

2021

Stage 1

Stage 2

Stage 3(1)

Total gross

loans

£m

Total

provisions(4)

£m

Gross loans

£m

ECL

 £m

Gross loans

 £m

ECL

£m

Gross loans

£m

ECL

£m

Opening balance at 1 October 2020

59,219

136

12,844

465

862

134

72,925

735

Transfers from Stage 1 to Stage 2

(11,131)

(62)

11,076

389

-

-

(55)

327

Transfers from Stage 2 to Stage 1

10,397

58

(10,484)

(284)

-

-

(87)

(226)

Transfers to Stage 3

(115)

(1)

(623)

(91)

734

108

(4)

16

Transfers from Stage 3

33

-

217

23

(253)

(25)

(3)

(2)

Changes to model methodology

-

-

-

-

-

-

-

-

New assets originated or purchased(2)

19,276

206

1,621

158

132

22

21,029

386

Repayments and other movements(3)

(2,955)

(59)

(933)

(140)

(16)

(72)

(3,904)

(271)

Repaid or derecognised(3)

(13,308)

(167)

(3,540)

(218)

(376)

(55)

(17,224)

(440)

Write-offs

-

-

-

-

(126)

(126)

(126)

(126)

Recoveries

-

-

-

-

-

26

-

26

Individually assessed impairment charge

-

-

-

-

-

79

-

79

Closing balance at 30 September 2021

61,416

111

10,178

302

957

91

72,551

504

 

(1)   Stage 3 includes POCI for gross loans and advances of £56m for Mortgages and £1m for Unsecured (2021: £67m and £2m respectively), and ECL of (£1m) for Mortgages and (£2m) for Unsecured (2021: £Nil and (£2m) respectively). Nil for Business in both periods.

(2)   Includes assets where the term has ended, and a new facility has been provided.

(3)   'Repayments' comprises payments made on customer lending which are not yet fully paid at the reporting date and the customer arrangement remains live at that date. 'Repaid' refers to payments made on customer lending which is either fully repaid or derecognised by the reporting date and the customer arrangement is therefore closed at that date.

(4)   The COVID related PMAs held in 2021 were allocated across Stages 1 and 2 and have now been fully released. The cost of living PMAs are held in Stage 1 and the economic resilience PMA is primarily held in Stage 2.

In addition to the above on-balance sheet position, the Group also has £19,359m of loan commitments and financial guarantee contracts (2021: £17,121m) of which £18,454m (95.3%) are held under Stage 1, £865m in Stage 2 and £40m in Stage 3 (2021: £16,001m (93.5%) held under Stage 1, £1,090m in Stage 2 and £30m in Stage 3). ECLs of £3m (2021: £8m) are included in the table above, of which £1m (2021: £2m) is held under Stage 1 and £2m (2021: £6m) under Stage 2.



 

Risk Management

Credit risk

 

Against the backdrop of a deteriorating UK economy, credit quality has remained solid throughout the year, with the overall portfolio performing well and no significant individually assessed provisions raised.

During the second half of 2022, refinements to the staging criteria in the Business portfolio were implemented to further enhance the calculation and align it more closely to the underlying level of credit risk inherent within the Business portfolio. The impact moved c. £443m of loans from Stage 2 to Stage 1, leading to a modelled ECL release of c. £7m, and an approx. 22% reduction in the balance of business loans in Stage 2.

The contractual amount outstanding on loans and advances that were written off during the reporting period, or still subject to enforcement activity was £4.3m (2021: £2.6m). The Group has not purchased any lending assets in the year (2021: none). Further information on staging profile is provided at a portfolio level in the respective portfolio performance section on the following pages.

Mortgage credit performance

The table below presents key information on the asset quality of the Group's Mortgage portfolio and should be read in conjunction with the supplementary data presented in the following pages of this section.

Breakdown of Mortgage portfolio

2022

Gross lending

£m

Modelled & IA ECL

£m

PMA

£m

Total ECL

£m

Net lending

£m

Coverage

%

Average LTV

%

Residential - capital repayment

 36,417

 13

 5

 18

 36,399

0.05%

54.2%

Residential - interest only

 7,041

 3

 1

 4

 7,037

0.05%

45.4%

BTL

 15,006

 6

 28

 34

 14,972

0.22%

52.4%

Total Mortgage portfolio

 58,464

 22

 34

 56

 58,408

0.09%

52.7%

2021








Residential - capital repayment

35,192

19

21

40

35,152

0.10%

57.2%

Residential - interest only

8,341

6

2

8

8,333

0.10%

47.2%

BTL

14,908

8

31

39

14,869

0.24%

54.8%

Total Mortgage portfolio

58,441

33

54

87

58,354

0.15%

55.3%

 

Mortgage lending has remained flat on a net basis at £58.5bn (2021: £58.4bn) as the Group continued to prioritise margin in an increasingly competitive environment.

The portfolio continues to evidence solid underlying credit performance, with the majority (98%) of lending not yet past due at the balance sheet date (2021: 98%), and 94% of loans held in Stage 1 (2021: 87%). The successful return to normal payment patterns of customers taking advantage of COVID-19 payment holiday arrangements last year, drove the migration in balances from Stage 2 to Stage 1. A significant proportion of the portfolio is rated Strong at the balance sheet date (92% compared to 88% at 30 September 2021), and the volume and value of loans in forbearance has reduced to 4,636/£640m from 6,743/£830m, primarily due to customers successfully completing the forbearance reporting probation period and returning to fully performing status.

Stage 3 balances have remained low at 1.0% (2021: 1.1%) and 93% of the portfolio has an LTV of less than 75% (2021: 87%), with the weighted average LTV further reducing in the year to 52.7% (2021: 55.3%). All of these key metrics evidence a high quality mortgage portfolio, with relatively low risk of default, driven by sound lending decisions and underwriting criteria. Further detail on LTV bandings and forbearance measures is provided on the following pages.

The stability in the Mortgage portfolio metrics together with the improvement in the economic assumptions, such as house prices, have contributed to a release of £9m in the modelled ECL, taking the total modelled and IA ECL provision to £22m (2021: £33m). Total PMAs have similarly reduced in the period, as detailed below, from £54m to £34m. The total Mortgage portfolio impairment provision is £56m (2021: £87m).

The Group had previously introduced a PMA for payment holidays in 2020 at the outset of the COVID-19 pandemic; this PMA, which was £22m at 30 September 2021, has now been fully released as customers have successfully exited payment holiday arrangements and returned to normal repayment patterns. Due to the uncertain macroeconomic environment, however, a new PMA of £6m has been introduced in response to the cost of living crisis, to reflect the potential impact on debt affordability from rising base rates and other inflationary impacts. The PMA reflects the potential impact on ECL in the event of a monthly payment shock to household finances, applied to customers in Stage 1 that are not currently, or otherwise showing signs of financial difficulty.

Asset quality metrics for the BTL mortgage book remain robust, but the Group continues to hold a prudent level of provisioning for this customer cohort, with the related PMA held broadly stable at £25m (2021: £28m). Other small PMAs totalling £4m (2021: £4m) have been retained, taking total PMA's held to £34m, down from £54m at 30 September 2021.

The release of modelled provisions and PMAs has resulted in an impairment credit of £30m in the income statement (2021: credit of £44m) and associated cost of risk of (4)bps (2021: (7)bps). While the total book coverage has reduced in the year to 9bps, it remains higher than the pre-pandemic level of 7bps.



 

Risk Management

Credit risk

 

Collateral

The quality of the Group's Mortgage portfolio can be considered in terms of the average LTV of the portfolio and the staging of the portfolio, as set out in the following tables:

Average LTV of Mortgage portfolio by staging

2022

LTV(1)

Stage 1

Stage 2

Stage 3(2)

Total(3)

Loans

£m

%

ECL

£m

Loans

 £m

%

ECL

 £m

Loans

 £m

%

ECL

 £m

Loans

 £m

%

ECL

£m

Less than 50%

 23,069

43%

 2

 1,659

54%

 3

 288

49%

 2

 25,016

43%

 7

50% to 75%

 27,452

50%

 5

 1,270

41%

 19

 242

42%

 2

 28,964

50%

 26

76% to 80%

 2,412

4%

 1

 103

3%

 3

 17

3%

 1

 2,532

4%

 5

81% to 85%

 1,108

2%

 1

 26

1%

 1

 11

2%

 1

 1,145

2%

 3

86% to 90%

 547

1%

 1

 25

1%

 1

 6

1%

-

 578

1%

 2

91% to 95%

 154

-

-

 4

-

 1

 8

1%

 1

 166

-

 2

96% to 100%

 16

-

-

-

-

-

 3

1%

-

 19

-

-

Greater than 100%

 33

-

-

 3

-

 4

 8

1%

 7

 44

-

 11


54,791

100%

 10

 3,090

100%

 32

 583

100%

 14

 58,464

100%

 56

 

2021

LTV(1)

Stage 1

Stage 2

Stage 3(2)

Total(3)

Loans

£m

%

ECL

£m

Loans

 £m

%

ECL

 £m

Loans

 £m

%

ECL

 £m

Loans

 £m

%

ECL

£m

Less than 50%

19,907

39%

1

2,268

32%

6

274

41%

2

22,449

38%

9

50% to 75%

24,383

49%

1

3,648

51%

37

256

39%

3

28,287

49%

41

76% to 80%

3,123

6%

1

729

10%

9

49

8%

1

3,901

7%

11

81% to 85%

2,346

5%

1

426

6%

6

30

5%

1

2,802

5%

8

86% to 90%

715

1%

-

102

1%

3

17

3%

1

834

1%

4

91% to 95%

79

-

-

7

-

-

8

1%

1

94

-

1

96% to 100%

8

-

-

2

-

-

5

1%

-

15

-

-

Greater than 100%

35

-

-

10

-

3

14

2%

10

59

-

13


50,596

100%

4

7,192

100%

64

653

100%

19

58,441

100%

87

 

(1)   LTV of the Mortgage portfolio is defined as Mortgage portfolio weighted by balance. The portfolio is indexed using the MIAC Acadametrics indices at a given date.

(2)   Stage 3 includes £56m (2021: £67m) of POCI gross loans and advances and (£1m) ECL (2021: £Nil).

(3)   The payment holiday PMA held in 2021 was allocated to Stage 2 and has now been fully released. The cost of living PMA is held in Stage 1.

The Mortgage portfolio remains highly secured with 92.3% of mortgages, by loan value, having an indexed LTV of less than 75% (2021: 86.8%), and an average portfolio LTV of 52.7% (2021: 55.3%). New lending has increased the value of loans in Stage 1 with an LTV between 91% to 95%.

Forbearance

A key indicator of underlying Mortgage portfolio health is the level of loans subject to forbearance measures. Forbearance can occur when a customer experiences longer-term financial difficulty. In such circumstances, the Group considers the customer's individual circumstances, uses judgement in assessing whether there has been a SICR, or if an impairment or default event has occurred, and then applies tailored forbearance measures in order to support the customer in a route to stability. Customers may potentially be subject to more than one forbearance strategy at any one time where this is considered to be the most appropriate course of action.



 

Risk Management

Credit risk

 

The table below summarises the level of forbearance in respect of the Group's Mortgage portfolio at each balance sheet date. All balances subject to forbearance are classed as either Stage 2 or Stage 3 for ECL purposes.

2022

Total loans and advances subject

to forbearance measures

Impairment allowance on loans and advances subject to forbearance measures

Number of loans

Gross carrying

 amount

 £m

% of total

portfolio

Impairment

allowance

 £m

Coverage

%

Formal arrangements

1,145

137

0.23%

8.6

6.23%

Temporary arrangements

518

82

0.14%

4.4

5.38%

Payment arrangement

1,211

133

0.23%

0.6

0.49%

Payment holiday

381

47

0.08%

0.1

0.27%

Interest only conversion

1,193

225

0.39%

0.8

0.35%

Term extension

66

5

0.01%

-

0.45%

Other

14

1

-

-

0.92%

Legal

108

10

0.02%

0.3

2.42%

Total mortgage forbearance

4,636

640

1.10%

14.8

2.31%

2021






Formal arrangements

1,115

133

0.23

4.9

3.66

Temporary arrangements

675

100

0.17

6.8

6.81

Payment arrangement

1,865

176

0.30

2.3

1.30

Payment holiday

1,436

123

0.21

0.5

0.41

Interest only conversion

1,390

273

0.47

1.3

0.47

Term extension

127

12

0.02

0.1

0.57

Other

19

2

0.01

-

0.68

Legal

116

11

0.02

0.3

3.09

Total mortgage forbearance

6,743

830

1.43

16.2

1.95

 

As at 30 September 2022, forbearance totalled £640m (4,636 customers), a decrease from the 30 September 2021 position of £830m (6,743 customers). This level represents 1.10% of total mortgage balances (2021: 1.43%), with the decrease primarily driven by customers successfully completing the forbearance reporting probation period and returning to fully performing status.

When all other avenues of resolution, including forbearance, have been explored, the Group will take steps to repossess and sell underlying collateral. In 2022, there were 73 repossessions of which 7 were voluntary (2021: 33 including 13 voluntary). The number of repossessions has increased as court proceedings resume following the suspension during the COVID-19 pandemic. The Group remains committed to supporting the customer, and places the right outcome for them at the centre of this strategy.



 

Risk Management

Credit risk

 

IFRS 9 staging

The Group closely monitors the staging profile of the Mortgage portfolio over time, which can be indicative of general trends in book health. Movements in the staging profile of the portfolio are presented in the tables below.

2022

Stage 1

Stage 2

Stage 3(1)

Total

gross loans

£m

Total

provisions(4)

 £m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Opening balance at 1 October 2021

50,596

4

7,192

64

653

19

58,441

87

Transfers from Stage 1 to Stage 2

(5,854)

(1)

5,821

55

-

-

(33)

54

Transfers from Stage 2 to Stage 1

8,820

3

(8,851)

(55)

-

-

(31)

(52)

Transfers to Stage 3

(49)

-

(191)

(5)

238

4

(2)

(1)

Transfers from Stage 3

29

-

108

5

(140)

(3)

(3)

2

Changes to model methodology

-

-

-

-

-

-

-

-

New assets originated or purchased(2)

9,971

1

7

-

1

-

9,979

1

Repayments and other movements(3)

(2,484)

4

(154)

(23)

(26)

(3)

(2,664)

(22)

Repaid or derecognised(3)

(6,238)

(1)

(842)

(9)

(142)

(2)

(7,222)

(12)

Write-offs

-

-

-

-

(1)

(1)

(1)

(1)

Recoveries

-

-

-

-

-

-

-

-

Individually assessed impairment charge

-

-

-

-

-

-

-

-

Closing balance at 30 September 2022

54,791

10

3,090

32

583

14

58,464

56

 

2021

Stage 1

Stage 2

Stage 3(1)

Total

gross loans

£m

Total

provisions(4)

 £m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Opening balance at 1 October 2020

49,970

14

8,166

95

516

22

58,652

131

Transfers from Stage 1 to Stage 2

(8,172)

(4)

8,140

113

-

-

(32)

109

Transfers from Stage 2 to Stage 1

7,479

5

(7,522)

(101)

-

-

(43)

(96)

Transfers to Stage 3

(64)

-

(367)

(9)

429

7

(2)

(2)

Transfers from Stage 3

24

-

108

13

(137)

(4)

(5)

9

Changes to model methodology

-

-

-

-

-

-

-

-

New assets originated or purchased(2)

9,662

2

76

2

2

-

9,740

4

Repayments and other movements(3)

(2,141)

(11)

(405)

(36)

(38)

(3)

(2,584)

(50)

Repaid or derecognised(3)

(6,162)

(2)

(1,004)

(13)

(118)

(2)

(7,284)

(17)

Write-offs

-

-

-

-

(1)

(1)

(1)

(1)

Recoveries

-

-

-

-

-

1

-

1

Individually assessed impairment charge

-

-

-

-

-

(1)

-

(1)

Closing balance at 30 September 2021

50,596

4

7,192

64

653

19

58,441

87

 

(1)   Stage 3 includes POCI for gross loans and advances of £56m (2021: £67m) and ECL of (£1m) (2021: £Nil).

(2)   Includes assets where the term has ended, and a new facility has been provided.

(3)   'Repayments' comprises payments made on customer lending that are not yet fully paid at the reporting date and the customer arrangement remains live at that date. 'Repaid' refers to payments made on customer lending, which is either fully repaid or derecognised by the reporting date and the customer arrangement is therefore closed at that date.

(4)   The payment holiday PMA held in 2021 was allocated to Stage 2 and has now been fully released. The cost of living PMA is held in Stage 1.

Despite economic uncertainty, the Mortgage portfolio continues to evidence strong performance and has benefited from positive house price movements. Coupled with the successful exit from payment holiday arrangements for those customers that took advantage of those measures during the pandemic, there has been a shift in balances from Stage 2 to Stage 1. The level of mortgage lending classed as Stage 1 increased from 86.6% in 2021 to 93.7%, with a corresponding decrease of assets in Stage 2 from 12.3% to 5.3%. Within the Stage 2 category, 4.7% of balances are not yet past due at the balance sheet date (2021: 11.9%), but falls within the Stage 2 classification predominantly due to PD deterioration. The proportion of mortgages classified as Stage 3 remains modest at 1.0% (2021: 1.1%).

These conditions have also contributed to an increase in assets classed as 'Strong' from 88% at 30 September 2021 to 92.4% at 30 September 2022, with over 97% (2021: 97%) of the Mortgage portfolio classed as 'Good' or 'Strong'.

The sustained quality in the internal PD ratings and high quality of collateral underpinning the book are key factors supporting the lower level of provision coverage.



 

Risk Management

Credit risk

 

Unsecured credit performance

The table below presents key information important for understanding the asset quality of the Group's Unsecured lending portfolio and should be read in conjunction with the supplementary data presented in the following pages of this section.

Breakdown of Unsecured credit portfolio

2022

Gross

lending

£m

Modelled

ECL

£m

PMA

£m

Total

ECL

£m

Net

lending

£m

Coverage

%

Credit cards

 5,558

 216

 30

 246

 5,312

4.81%

Personal loans

 925

 32

 2

 34

 891

3.57%

Overdrafts

 30

 4

-

 4

 26

12.57%

Total Unsecured lending portfolio

 6,513

 252

 32

 284

 6,229

4.66%

2021







Credit cards

4,655

142

18

160

4,495

3.79%

Personal loans

1,082

14

17

31

1,051

3.57%

Overdrafts

33

3

-

3

30

11.14%

Total Unsecured lending portfolio

5,770

159

35

194

5,576

3.80%

 

Unsecured gross lending balances increased to £6.5bn (2021: £5.8bn) predominantly due to growth in credit card portfolio, while the personal loan portfolio continued to contract. The credit quality of the Unsecured portfolio remains high overall, with 97.9% of the portfolio in Stage 1 or Stage 2 not past due (2021: 98.1%) and a 1.2% in Stage 3 (2021: 1.2%). The level of customers in forbearance similarly remains low at 1.12% of the portfolio (2021: 1.30%).

Credit cards

Growth in the number of credit card accounts in the year of 20% has driven an increase in the lending balance of £0.9bn (21%). Average balances have remained fairly static throughout the year, as has the average level of facility utilisation. The credit quality of the cards portfolio remains high with 97.8% (2021: 98.2%) in stage 1 and stage 2 not past due, and a modest 1.3% in Stage 3 (2021: 1.2%).

While there has been minimal evidence of a deterioration in credit quality across the portfolio, as evidenced by these key metrics, the downturn in the broader UK economy has been reflected through the economic scenarios, resulting in an increase of £74m in the modelled ECL. Coverage of 481bps is consequently up 102bps from FY21, and is 139bps higher than pre-pandemic levels of 342bps.

The payment holiday PMAs introduced in response to COVID-19, which amounted to £4m for the cards book at 30 September 2021, have now been fully released. A new PMA has been established for cost-of-living shocks that are not yet fully observed and incorporated in the modelled ECL. This has been applied to a cohort of credit card customers who are susceptible to a payment shock, and has resulted in a £20m PMA. This has been allocated to Stage 1. A small number of previously held PMAs totalling £10m (2021: £14m) have also been retained.

Personal loans

While the personal loan portfolio represents only a small portion of our Unsecured and total Group portfolio, staging has shifted during the year with a reduction in Stage 1 balances from 94.0% to 64.1%, and a corresponding increase in Stage 2 not past due balances from 5.0% to 35.1%. This movement has had an impact on the staging profile for the whole Unsecured portfolio. This movement relates to personal lending made via the Group's JV arrangement with Salary Finance which has a cohort of customers who can be more susceptible to being impacted earlier, and harder, by cost of living shocks. During the year, the JV experienced an increased number of customers not maintaining scheduled loan repayments. Consequently, the Group has assessed the credit risk for this specific cohort of customers, and has now classified all lending with the JV (£318m) in Stage 2 (2021: £223m within Stage 1), together with an associated ECL of £19m (2021: £Nil).

Loan payment holiday PMAs, which were £8m at 30 September 2021, were fully released in the year. A new PMA of £1m has been established for cost-of-living shocks. Other PMAs have fallen from £9m in the prior year to £1m at the balance sheet date.

Taking the modelled provisions and PMAs together for the full Unsecured portfolio, the total ECL provision increased to £284m at 30 September 2022 (2021: £194m), resulting in a charge to the income statement in the year of £178m (2021: credit of £32m) and an increase in coverage ratio of 86bps to 466bps (2021: 380bps).



 

Risk Management

Credit risk

 

Forbearance

The table below summarises the level of forbearance in respect of the Group's Unsecured lending portfolios at each balance sheet date. All balances subject to forbearance are classed as either Stage 2 or Stage 3 for ECL purposes.

2022

Total loans and advances subject

to forbearance measures

Impairment allowance on loans and advances subject to forbearance measures

Number of loans

Gross carrying

 amount

 £m

% of total

portfolio

Impairment

allowance

 £m

Coverage

%

Credit card arrangements

15,872

62

1.19%

24.3

39.47%

Personal loan arrangements

638

3

0.56%

1.4

40.33%

Overdraft arrangements

56

-

0.04%

-

30.76%

Total Unsecured lending forbearance

16,566

65

1.12%

25.7

39.51%

2021






Credit card arrangements

14,151

60

1.39%

23.9

39.88%

Personal loan arrangements

1,174

6

0.78%

3.3

49.61%

Overdraft arrangements

280

1

2.55%

0.4

51.89%

Total Unsecured lending forbearance

15,605

67

1.30%

27.6

40.98%

 

At 30 September 2022, credit cards forbearance totalled £62m (15,872 accounts), an increase from the 30 September 2021 position of £60m (14,151 accounts). This represents 1.19% of total credit cards balances (2021: 1.39%). The level of impairment coverage on forborne credit cards is stable at 39.5% (2021: 39.9%). Limited forbearance is exercised in relation to personal loans and overdrafts, with a reduction to £3m (0.54%) in the personal loans and overdrafts portfolio from £7m (0.85%) at 30 September 2021.



 

Risk Management

Credit risk

 

IFRS 9 staging

The Group closely monitors the staging profile of its Unsecured lending portfolio over time, which can be indicative of general trends in book health. Movements in the staging profile of the portfolio are presented in the tables below.

2022

Stage 1

Stage 2

Stage 3(1)

Total

gross loans

£m

Total

provisions(4)

 £m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Opening balance at 1 October 2021

5,148

41

553

118

69

35

5,770

194

Transfers from Stage 1 to Stage 2

(1,051)

(31)

1,059

210

-

-

8

179

Transfers from Stage 2 to Stage 1

504

16

(523)

(62)

-

-

(19)

(46)

Transfers to Stage 3

(19)

-

(116)

(69)

139

83

4

14

Transfers from Stage 3

1

-

2

1

(8)

(7)

(5)

(6)

Changes to model methodology

-

-

-

-

-

-

-

-

New assets originated or purchased(2)

1,708

20

11

4

7

5

1,726

29

Repayments and other movements(3)

(508)

26

166

(8)

104

(4)

(238)

14

Repaid or derecognised(3)

(459)

(9)

(43)

(13)

(117)

(72)

(619)

(94)

Write-offs

-

-

-

-

(114)

(114)

(114)

(114)

Recoveries

-

-

-

-

-

26

-

26

Individually assessed impairment charge

-

-

-

-

-

88

-

88

Closing balance at 30 September 2022

5,324

63

1,109

181

80

40

6,513

284

 

2021

Stage 1

Stage 2

Stage 3(1)

Total

gross loans

£m

Total

provisions(4)

 £m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Opening balance at 1 October 2020

4,660

70

823

194

67

37

5,550

301

Transfers from Stage 1 to Stage 2

(954)

(32)

951

209

-

-

(3)

177

Transfers from Stage 2 to Stage 1

859

21

(890)

(113)

-

-

(31)

(92)

Transfers to Stage 3

(19)

(1)

(100)

(68)

119

80

-

11

Transfers from Stage 3

2

-

3

2

(5)

(5)

-

(3)

Changes to model methodology

-

-

-

-

-

-

-

-

New assets originated or purchased(2)

1,319

17

38

6

1

-

1,358

23

Repayments and other movements(3)

(493)

(28)

(217)

(98)

15

(52)

(695)

(178)

Repaid or derecognised(3)

(226)

(6)

(55)

(14)

(29)

(25)

(310)

(45)

Write-offs

-

-

-

-

(99)

(99)

(99)

(99)

Recoveries

-

-

-

-

-

24

-

24

Individually assessed impairment charge

-

-

-

-

-

75

-

75

Closing balance at 30 September 2021

5,148

41

553

118

69

35

5,770

194

 

(1)   Stage 3 includes POCI for gross loans and advances of £1m (2021: £2m) and ECL of (£2m) (2021: (£2m).

(2)   Includes assets where the term has ended, and a new facility has been provided.

(3)   'Repayments' comprises payments made on customer lending, which are not yet fully paid at the reporting date and the customer arrangement remains live at that date. 'Repaid' refers to payments made on customer lending, which is either fully repaid or derecognised by the reporting date and the customer arrangement is therefore closed at that date.

(4)   The payment holiday PMA held in 2021 was allocated to Stage 2 and has now been fully released. The cost of living PMA is held in Stage 1.

The balance of unsecured lending in Stage 2 increased by 7.4% to 17.0% (2021: 9.6%), driven primarily by the observed deterioration of the Salary Finance lending. Of the Stage 2 category, 16.1% is not yet past due at the balance sheet date, but falls into the Stage 2 classification predominantly due to PD deterioration.

There has been a corresponding reduction in Stage 1 from 89.1% to 81.7%, while Stage 3 remains stable at 1.2% (2021: 1.2%).



 

Risk Management

Credit risk

 

Business credit performance

The table below presents key information on the asset quality of the Group's Business lending portfolio and should be read in conjunction with the supplementary data presented in the following pages of this section.

Breakdown of Business credit portfolio

2022

Gross lending

£m

Government(1)

£m

Total gross

£m

Modelled & IA ECL

£m

PMA

£m

Total ECL

£m

Net lending

£m

Coverage(2)

%

Agriculture

 1,392

 66

 1,458

 5

 1

 6

 1,452

0.45%

Business services

 980

 286

 1,266

 22

 4

 26

 1,240

2.53%

Commercial Real Estate

 597

 10

 607

 3

-

 3

 604

0.54%

Government, health and education

 1,008

 54

 1,062

 8

 2

 10

 1,052

0.95%

Hospitality

 652

 78

 730

 4

 1

 5

 725

0.80%

Manufacturing

 640

 109

 749

 23

 3

 26

 723

3.96%

Resources

 133

 8

 141

 3

 1

 4

 137

2.37%

Retail and wholesale trade

 330

 128

 458

 7

 1

 8

 450

2.51%

Transport and storage

 291

 56

 347

 4

 1

 5

 342

1.44%

Other

 1,089

 262

 1,351

 20

 4

 24

 1,327

2.11%

Total Business portfolio

 7,112

 1,057

 8,169

 99

 18

 117

 8,052

1.59%

2021









Agriculture

1,361

80

1,441

7

5

12

1,429

0.89%

Business services

943

337

1,280

21

27

48

1,232

4.82%

Commercial Real Estate

667

13

680

4

3

7

673

1.00%

Government, health and education

1,031

73

1,104

7

10

17

1,087

1.62%

Hospitality

563

105

668

6

7

13

655

2.29%

Manufacturing

556

144

700

22

21

43

657

6.93%

Resources

95

8

103

3

4

7

96

6.85%

Retail and wholesale trade

623

248

871

14

14

28

843

4.13%

Transport and storage

300

80

380

4

4

8

372

2.50%

Other

883

230

1,113

17

23

40

1,073

4.42%

Total Business portfolio

7,022

1,318

8,340

105

118

223

8,117

3.06%

 

(1)   Government includes all lending provided to business customers under UK Government schemes including Bounce back loan scheme, Coronavirus business interruption loan scheme, Coronavirus large business interruption loan scheme and Recovery loan scheme (RLS). This excludes £66m (2021: £Nil) of guarantee claim funds received from British Business Bank.

(2)   Coverage ratio excludes the guaranteed element of government-backed loan schemes.

Gross Business lending reduced to £8.1bn (2021: £8.3bn) driven by reductions in government-guaranteed lending schemes as borrowers continued to repay balances, which more than offset underlying portfolio growth in the year. Excluding the government lending, core lending balances grew slightly as business activity, which had been generally subdued during the pandemic, grew in line with broader economic activity and improved business confidence. Growth is targeted to sectors and sub sectors where the Group has a well established expertise. Book mix remained fairly constant year on year as sector focused strategy was maintained, with lending to the agriculture, business services and government, health and education sectors continuing to account for almost half of the total book, at 46% in both years.

Business lending credit performance remained resilient, with balances in Stage 1 and Stage 2 not past due representing 95.1% of the portfolio (2021: 96.7%). The percentage of loans in Stage 1 increased to 76.8% (2021: 68.0%) largely due to changes applied to the SICR criteria (outlined on page 21) which, resulted in these customers migrating back to Stage 1. Across the portfolio 95% of lending was rated 'Strong' or 'Good' (2021: 96%). The previous Government interventions, including the ongoing loan schemes, continue to result in fewer customers entering forbearance; low levels were maintained with only 5.16% of the total portfolio being forborne at 30 September 2022 (2021: 5.82%).

Notwithstanding the strength of the portfolio, ongoing economic and political upheaval creates uncertainty over the potential for default occurring in the future. Key asset quality metrics continue to be monitored closely and a cautious approach to provisioning is being maintained. Stage 3 loans have increased to 4.6% driven primarily by bounce back loans (2021: 2.8%).

Despite these uncertainties, the refreshed macroeconomic scenarios have resulted in a small reduction of £6m in the modelled and IA provisions to £99m. At 30 September 2021, the Group recognised PMAs for sector stress (£80m) and PD neutralisation (£34m) together with other minor factors (£4m); each of these PMAs has been reviewed in the current year. While the removal of all COVID-19 restrictions is seen as a move away from the downside impact of the pandemic and is a rationale for a reduction in some sector stress, more recent geopolitical events in Ukraine and the cost of living crisis in the UK contribute to ongoing uncertainty over the impact that these broader economic conditions could have on UK businesses.



 

Risk Management

Credit risk

 

The models used to estimate ECL have been built and tested on the past two recessions, neither of which included the combination of historically high price inflation nor the significant shock to primary commodities and energy which are leading to economic stagnation at a time of modest interest rates and unemployment. Therefore, a new economic resilience PMA of £30m has been introduced. A small negative PMA of £12m is also held pending introduction of the Business LGD model which will be implemented in the coming year and other technical adjustments.

The above results in an overall provision of £117m (2021: £223m) and an impairment credit in the income statement of £96m for the year (2021: credit of £55m). Portfolio coverage has reduced to 159bps (2021: 306bps), reflecting the quality of the portfolio and little evidence of deterioration in asset quality to date.

Forbearance

Forbearance is considered to exist where customers are experiencing, or are about to experience financial difficulty, and the Group grants a concession on a non-commercial basis. The Group reports business forbearance at a customer level and at a value which incorporates all facilities and the related impairment allowance, irrespective of whether each individual facility is subject to forbearance. Authority to grant forbearance measures for business customers is held by the Group's Strategic Business Services unit and is exercised, where appropriate, based on detailed consideration of the customer's financial position and prospects.

Where a customer is part of a larger group, forbearance is exercised and reported across the Group at the individual entity level. Where modification of the terms and conditions of an exposure meeting the criteria for classification as forbearance results in derecognition of loans and advances from the balance sheet and the recognition of a new exposure, the new exposure shall be treated as forborne.

The tables below summarise the total number of arrangements in place and the loan balances and impairment provisions associated with those arrangements. All balances subject to forbearance are classed as either Stage 2 or Stage 3 for ECL purposes.

2022

Total loans and advances subject

to forbearance measures

Impairment allowance on loans and advances subject to forbearance measures

Number of loans

Gross carrying

 amount

 £m

% of total

portfolio

Impairment

allowance

 £m

Coverage

%

Term extension

154

118

1.36%

4.9

4.18%

Payment holiday(1)

81

193

2.23%

32.6

16.86%

Reduction in contracted interest rate

2

1

0.01%

0.0

1.33%

Alternative forms of payment

0

0

0.00%

0.0

0.00%

Debt forgiveness

2

1

0.01%

0.5

97.05%

Refinancing

9

2

0.02%

0.1

5.14%

Covenant breach/reset/waiver

41

133

1.53%

5.4

4.03%

Total Business forbearance

289

448

5.16%

43.5

9.71%

2021






Term extension

188

196

2.27%

10.2

5.19%

Payment holiday(1)

86

130

1.51%

17.6

13.48%

Reduction in contracted interest rate

1

1

0.01%

-

0.02%

Alternative forms of payment

1

13

0.15%

5.6

43.14%

Debt forgiveness

2

4

0.04%

-

0.67%

Refinancing

10

3

0.04%

0.2

7.21%

Covenant breach/reset/waiver

44

155

1.80%

8.2

5.27%

Total Business forbearance

332

502

5.82%

41.8

8.31%

 

(1)   In the prior year, payment holidays granted in line with regulation were not classified as forbearance due to the extenuating circumstances arising from COVID-19. The standard approach of classifying payment holidays as forbearance resumed in August 2021.

Business portfolio forbearance has reduced from £502m (332 customers) at 30 September 2021 to £448m (289 customers) at 30 September 2022. Forbearance remains an important metric, reflecting the volume and value of concessions granted to customers on a non-commercial basis. Changes to forbearance levels reflect the proportion of business customers requiring support on non-standard terms and evidencing financial difficulty. As a percentage of the Business portfolio, forborne balances have reduced to 5.16% (2021: 5.82%) with impairment coverage slightly increasing to 9.71% (2021: 8.31%). Most forbearance arrangements relate to term extensions allowing customers a longer term to repay obligations in full than initially contracted.

Customers within the forbearance portfolio have received £26m of COVID-19 related support loans: £13m CBIL, £4m BBL and £9m RLS.

The table includes a portfolio of financial assets at fair value. The gross value of fair value loans subject to forbearance as at 30 September 2022 is £4.7m (2021: £5.3m), representing 0.05% of the total business portfolio (2021: 0.06%). The credit risk adjustment on these amounts totalled £0.1m (2021: £0.1m). Coverage is 2.99% (2021: 2.32%).



 

Risk Management

Credit risk

 

IFRS 9 staging

The Group closely monitors the staging profile of its Business lending portfolio over time, which can be indicative of general trends in book health. Movements in the staging profile of the portfolio in the current and prior year are presented in the tables below.

 

2022

Stage 1

Stage 2

Stage 3(3)

Total

gross loans

£m

Total

provisions(4)

 £m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Opening balance at 1 October 2021

5,672

66

2,433

120

235

37

8,340

223

Transfers from Stage 1 to Stage 2

(1,382)

(13)

1,347

29

-

-

(35)

16

Transfers from Stage 2 to Stage 1

894

8

(908)

(28)

-

-

(14)

(20)

Transfers to Stage 3

(23)

-

(255)

(10)

273

14

(5)

4

Transfers from Stage 3

12

-

28

2

(39)

(2)

1

-

Changes to model methodology

443

1

(443)

(8)

-

-

-

(7)

New assets originated or purchased(1)

10,483

166

2,037

155

179

27

12,699

348

Repayments and other movements(2)

(442)

(72)

(167)

(34)

(22)

(8)

(631)

(114)

Repaid or derecognised(2)

(9,387)

(144)

(2,546)

(171)

(239)

(27)

(12,172)

(342)

Write-offs

-

-

-

-

(14)

(14)

(14)

(14)

Recoveries

-

-

-

-

-

4

-

4

Individually assessed impairment charge

-

-

-

-

-

19

-

19

Closing balance at 30 September 2022

6,270

12

1,526

55

373

50

8,169

117

 

2021

Stage 1

Stage 2

Stage 3

Total

gross loans

£m

Total

provisions(4)

 £m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Gross loans

£m

ECL

£m

Opening balance at 1 October 2020

4,589

52

3,855

176

279

75

8,723

303

Transfers from Stage 1 to Stage 2

(2,005)

(26)

1,985

67

-

-

(20)

41

Transfers from Stage 2 to Stage 1

2,059

32

(2,072)

(70)

-

-

(13)

(38)

Transfers to Stage 3

(32)

-

(156)

(14)

186

21

(2)

7

Transfers from Stage 3

7

-

106

8

(111)

(16)

2

(8)

Changes to model methodology

-

-

-

-

-

-

-

-

New assets originated or purchased(1)

8,295

187

1,507

150

129

22

9,931

359

Repayments and other movements(2)

(321)

(20)

(311)

(6)

7

(17)

(625)

(43)

Repaid or derecognised(2)

(6,920)

(159)

(2,481)

(191)

(229)

(28)

(9,630)

(378)

Write-offs

-

-

-

-

(26)

(26)

(26)

(26)

Recoveries

-

-

-

-

-

1

-

1

Individually assessed impairment charge

-

-

-

-

-

5

-

5

Closing balance at 30 September 2021

5,672

66

2,433

120

235

37

8,340

223

 

(1)   Includes assets where the term has ended, and a new facility has been provided.

(2)   'Repayments' comprises payments made on customer lending which are not yet fully paid at the reporting date and the customer arrangement remains live at that date. 'Repaid' refers to payments made on customer lending which is either fully repaid or derecognised by the reporting date and the customer arrangement is therefore closed at that date.

(3)   This excludes £66m (2021: £Nil) of guarantee claim funds received from British Business Bank.

(4)   The COVID related PMAs held in 2021 were allocated across Stages 1 and 2 and have now been fully released, the remaining Business PMAs are predominantly held in Stage 2.

The level of Business lending classed as Stage 1 has increased to 76.8% (2021: 68.0%), with a corresponding decrease of 10.5% in Stage 2 to 18.7% (2021: 29.2%), primarily driven by the revisions to the SICR triggers.

The majority (98%) of the portfolio in Stage 2 is not past due and is primarily in Stage 2 due to PD deterioration, in addition to proactive management measures such as early intervention, heightened monitoring and forbearance concessions. Stage 3 loans have increased to 4.6% driven primarily by bounce back loans (2021: 2.8%).

The proportion of assets classed as 'Strong' has increased to 68% (2021: 46%), with assets classed as 'Strong' or 'Good' now 95% (2021: 96%).



 

Risk Management

Credit risk

 

Other credit risks

Non-property related collateral

The following table shows the total non-property collateral held at 30 September 2022 in terms of cash, guarantees (guarantees are predominantly in relation to government-backed COVID-19 loans) and netting. The exposure amount shown below is the total gross exposure (net of credit provisions) for arrangements that have some form of associated collateral and is not the total exposure for each asset class, as this balance is disclosed elsewhere in this section.

2022

Cash

£m

Guarantee

 £m

Netting

£m

Debt securities

£m

Other physical

 collateral

£m

Receivables

£m

Total

£m

Exposure

£m

Financial assets at amortised cost

 

 

 

 

 

 

 

 

Loans and advances to customers

 

 

 

 

 

 

 

 

Business

 7

 970

 237

 -

 464

 501

 2,179

 2,397

Cash and balances with central banks

 -

 -

 -

 -

 -

 -

 -

 -

Due from other banks

 -

 -

 -

 -

 -

 -

 -

 -

Total

 7

 970

 237

 -

 464

 501

 2,179

 2,397

Of which: Stage 3

 

 

 

 

 

 

 

 

Loans and advances to customers

 

 

 

 

 

 

 

 

Business

 -

 127

 -

 -

 1

 11

 139

 140

 

2021

Cash

£m

Guarantee

 £m

Netting

£m

Debt securities

£m

Other physical

 collateral

£m

Receivables

£m

Total

£m

Exposure

£m

Financial assets at amortised cost









Loans and advances to customers









Business

9

1,235

202

-

442

507

2,395

2,621

Cash and balances with central banks

5,894

-

-

-

-

-

5,894

8,093

Due from other banks

-

-

-

287

-

-

287

331

Total

5,903

1,235

202

287

442

507

8,576

11,045

Of which: Stage 3









Loans and advances to customers









Business

-

34

-

-

4

9

47

46

 

The removal of cash collateral reflected within central governments or central banks is due to a change in reporting following CRR II implementation, where the Term Funding Scheme is now reported under CCR rules. The debt securities collateral previously reported within due from other banks was in relation to a sale and repurchase agreement (repo) which is no longer held by the Group.

Lending backed by government guarantees in response to COVID-19 are detailed within the Guarantee column.

Following PRA approval in 2020, the Group moved to recognise asset finance and invoice finance collateral, being other physical collateral and receivables respectively, as eligible collateral from a credit risk mitigation perspective in relation to the foundation internal ratings based (FIRB) approach.

Corporates is the largest sector utilising other risk mitigation techniques, with all five methods utilised dependent on credit quality. The extent to which these will be used is dependent on the specific circumstances of the customer.

The Group is exposed to credit risk on its other banking and Treasury-related activities, which are subject to mitigation and monitoring. No material ECL provisions are held for these exposures.



 

Risk Management

Credit risk

 

Offsetting of financial assets and liabilities

The Group reduces exposure to credit risk through central clearing for eligible derivatives, and daily posting of cash collateral on such transactions as detailed in note 3.6 to the financial statements. The amounts offset on the balance sheet, as shown below, represent derivatives and variation margin collateral with central clearing houses, which meet the criteria for offsetting under IAS 32. The table excludes financial instruments not subject to offset and that are formally subject to collateral arrangements (e.g. loans and advances).

The Group enters into derivatives and repurchase agreements with various counterparties, which are governed by industry-standard master netting agreements. The Group holds and provides collateral in respect of transactions covered by these agreements. The right to offset balances under these master netting agreements only arises in the event of non-payment or default and, as a result, these arrangements do not qualify for offsetting under IAS 32.

The net amounts presented in the table are not intended to represent the Group's exposure to credit risk, as the Group will use a wide range of strategies to mitigate credit risk in addition to netting and collateral.

2022

Gross

amounts

£m

Gross amounts

 offset on

balance sheet(1)

 £m

Net amounts

 presented on

 balance sheet

 £m

Net amounts not offset
on balance sheet

Net amount (3)

£m

Subject to

master netting

agreements

 £m

Cash collateral

pledged/received(2)

£m

Assets

 

 

 

 

 

 

Derivative financial instruments(4)

 3,340

 (2,998)

 342

 (46)

 (182)

 114

Liabilities

 

 

 

 

 

 

Derivative financial instruments(4)

 1,797

 (1,469)

328

(46)

(32)

250

Securities sold under repurchase agreement

 703

 -

703

(703)

 -

 -

2021







Assets







Derivative financial instruments(4)

413

(273)

140

(76)

(1)

63

Liabilities







Derivative financial instruments(4)

678

(469)

209

(76)

(50)

83

 

(1)   The net balance of £1,529m (2021: £196m) relates to variation margin offset under IAS 32 and reflected on other balance sheet lines.

(2)   Cash collateral amounts not offset under IAS 32 in respect of derivatives with other banks are included within due from and due to other banks. Cash collateral amounts not offset under IAS 32 in respect of derivative with central clearing houses is included within other assets and other liabilities.

(3)   Cash collateral amounts are limited to the net balance sheet exposure in order to exclude any over collateralisation. In addition to cash collateral, the Group has pledged securities collateral in respect of derivative transactions subject to master netting agreements of £594m (2021: £274m). This is not offset under IAS 32 or presented as collateral on the balance sheet.

(4)   Derivative financial instruments comprise both trading and hedging derivative assets and liabilities.

Macroeconomic assumptions, scenarios, and weightings

The Group's ECL allowance at 30 September 2022 was £457m (2021: £504m).

Macroeconomic assumptions

The Group engages Oxford Economics to provide a wide range of future macroeconomic assumptions, which are used in the scenarios over the five-year forecast period, reflecting the best estimate of future conditions under each scenario outcome. The macroeconomic assumptions were provided by Oxford Economics on 1 September 2022 and changes in macroeconomic assumptions between 1 September 2022 and 30 September 2022 have been considered as part of the PMAs. The Group has identified the following key macroeconomic drivers as the most significant inputs for IFRS 9 modelling purposes: UK GDP growth, inflation, house prices, base rates, and unemployment rates. The external data provided is assessed and reviewed on a quarterly basis to ensure appropriateness and relevance to the ECL calculation, with more frequent updates provided as and when the circumstances require them. Further adjustments supplement the modelled output when it is considered that not all the risks identified in a product segment have been accurately reflected within the models, or for other situations where it is not possible to provide a modelled outcome.

As the UK economy gradually recovered from the impact of COVID-19, the outlook continues to be as uncertain than it was at this point in 2021. Recent (and further anticipated) bank base rate rises, concerns over rising energy prices (despite recent UK Government announcements on the assistance it will provide customers), the increase in national insurance contributions, and the headwinds from higher inflation have all had an impact on household incomes in 2022. The potential impact on the UK economy of the Russian invasion of Ukraine remains uncertain, but as the Group has no direct lending in that region, it is hoped that any impact will be modest and short term. Against this fast moving and evolving environment, the Group has continued to assess the possible IFRS 9 economic scenarios to select appropriate forecasts and weightings. The selection of scenarios and the appropriate weighting to apply are considered and debated by an internal review panel quarterly with final proposed recommendations for use in the IFRS 9 models made to ALCO for formal approval. The three scenarios selected, together with the weightings applied, have been updated to reflect the current economic environment and are:

Scenario

30 Sept 2022

(%)

30 Sept 2021

(%)

Upside

10

15

Base

55

50

Downside

35

35

Risk Management

Credit risk

 

The Group continue to select three scenarios, with the largest weighting applied to the base scenario. In the current year, there is a 5% shift in the weightings from the Upside scenario towards the Base scenario, reflecting a lesser degree of confidence in the Upside scenario over the short to medium term as a result of the updated macroeconomic assumptions. The Group's current weighting applied to the Downside scenario is appropriate when considered in the context of the overall scenario weightings applied and remains unchanged from the previous year.

Upside (10%)(1)

·   GDP increased sharply by 8.7% in the first quarter of 2022 (Q1 2022 v Q1 2021), before slowing down to a c.2.0%-3.0% increase in each of the remaining quarters in 2022 against the 2021 positions. Overall year-on-year growth in 2022 is forecast at 3.9%, with a slight decrease to 2.8% in 2023, before rising slightly in 2024 and 2025 and reverting to a more modest increase in 2026.

·   Inflation rises steeply and peaks at 12.9% in Q4 2022 (and lasting into Q1 2023) from a low base of 0.6% at Q1 2021. Inflation reverts back but remains high for the remainder of 2023, falling to 2.0% in Q2 2024 and sub 2.0% from the following quarter for the remaining forecast period.

·   BoE base rate rises are anticipated throughout 2022 and are expected to continue into 2023, peaking at 3.0% in Q2 2023 and remaining there for the rest of 2023. Slight declines are expected throughout 2024, reaching 2.3% in Q4 2024 and continue at that rate for the remainder of the forecast period.

·   HPI Q4 annual growth of 8.3% in 2022, declining to (2.3%) in 2023, before rising again over the next three years finishing in 2026 with a year on year growth of 6.5%.

·   Unemployment peaks in Q3 2023, at 4.3%, and drops gradually to 3.8% by Q4 2024. From then, there is no significant movement over the remaining forecast period, reaching 3.6% in Q1 2026 where it remains until the end of 2026.

(1) The time periods referenced in this section relate to calendar years unless otherwise stated.

Base (55%)

·   GDP increased sharply by 8.7% in the first quarter of 2022 (Q1 2022 v Q1 2021) before contracting in Q2 2022, with overall year-on-year growth in 2022 forecast at 3.6%, and falling to 0.3% in 2023. GDP recovers over the remaining forecast period at between 2.1% and 2.7%.

·   Inflation peaks at 12.7% in Q4 2022 before recovering and reverting to under 1% by Q1 2024. Inflation rises slightly but remains under 2% from Q1 2026 for the remaining forecast period.

·   BoE base rate hits a high of 2.5% in Q1 2023 and steadily declines over the forecast period reaching 1.8% in Q4 2023 and remaining there until the end of 2025. A further reduction to 1.7% is anticipated in Q1 2026 and remains at that level for the remainder of the year.

·   HPI steadily rises to Q4 2022 before modestly reverting from then until Q4 2024 when it rebounds slowly each quarter thereafter until the end of the forecast period. Overall, HPI Q4 2022 annual growth of 6.8%, which regresses to (4.6%) in 2023 and remains negative into 2024, before reverting to positive growth in 2025 and finishing 2026 back up at 6.7%.

·   Unemployment peaks at 4.7% in Q3 2023 and drops to 4.1% by Q4 2024. From then, there is no significant movement with unemployment averaging just under 4% in 2025, and steadily declining and reaching 3.7% for the final two quarters of 2026.

Downside (35%)

·   GDP increased sharply to 8.7% (Q1 2022 v Q1 2021) before turning negative for the final quarter of 2022 to (2.8%) (Q4 2022 v Q4 2021), and remains sluggish over the remaining forecast period. The overall year-on-year growth is 2.6% in 2022, falling to (8.9%) in 2023, before reverting to sluggish growth of 0.8% in 2024, rising to 2.1% for the remaining forecast period.

·   Inflation hits 11.9% in Q4 2022 before declining and turning negative by Q4 2023, and remains negative for the first three quarters of 2024. From there, inflation rises steadily each quarter reaching 1.7% in Q3 2026 and remains at this level for Q4 2026.

·   The BoE base rate reaches 2.3% in Q4 2022 before steadily falling back to 0.5% by Q3 2024 where it stays for the remaining forecast period.

·   HPI falls steadily and deeply from Q4 2022 to Q3 2025, but then experiences modest increases in each quarter until the end of the forecast period, but finishes well below the levels experienced in 2021. Overall, HPI in Q4 2023 is forecast decline annually (13.3%), with a slight improvement to (11.6%) in 2024, and not turning positive until 2026.

·   Unemployment rises steadily and peaks at 7.4% in Q3 2025 and improves slightly over remainder of the forecast period. Overall, unemployment averages at 4.0% in 2022, rising to 7.3% by 2025, before improving modestly to finish at 7.1% in 2026.

Base case-2022 v 2021(1)

The following table shows how the Group's base case assumptions in the current year have changed from those used at 30 September 2021:

Year

Assumption

2021

%

2022

%

2023

%

2024

%

2025

 %

2026

%

30 September 2022

Base rate


1.4

2.2

1.8

1.8

1.7

Unemployment


3.9

4.6

4.4

3.8

3.8

GDP


3.6

0.3

2.1

2.7

2.1

Inflation


9.4

7.5

0.6

0.7

1.5

HPI


6.8

(4.6)

(3.0)

4.4

6.7

30 September 2021

Base rate

0.1

0.1

0.1

0.3

0.5


Unemployment

4.8

4.6

4.3

4.0

3.9


GDP

7.3

6.7

2.1

1.5

1.5


Inflation

2.1

2.7

1.9

1.8

1.8


HPI

5.0

(1.6)

0.6

2.7

3.9


 

(1)   Macroeconomic assumptions provided by Oxford Economics on 1 September 2022 and reported on a calendar year basis unless otherwise stated. The changes in macroeconomic assumptions between 1 September 2022 and 30 September 2022 have been considered as part of the PMAs.



 

Risk Management

Credit risk

 

The base case macroeconomic estimates and assumptions used at 30 September 2021 reflected the forward-looking view at that time, which recognised the impact of the further lockdown measures introduced in Q4 2020, together with the successful vaccine roll-out programme which resulted in much more positive base case assumptions. The headwinds of inflation and cost of living crisis, and the resultant actions of the BoE to curb inflation dominated much of 2022 and resulted in the significant changes to assumptions over the relatively short term.

Five-year simple averages for the most sensitive inputs of unemployment, GDP and HPI

2022

Unemployment

%

GDP

%

HPI

%

Upside

3.9

3.1

3.3

Base

4.1

2.1

2.0

Downside

6.3

0.4

(3.4)





2021




Upside

3.9

4.6

4.6

Base

4.3

3.8

2.1

Downside

6.5

2.1

(5.8)

 

 

Graphical illustrations of the above key inputs over the five-year forecast period are:

Unemployment - simple average


HPI - year-on-year movement





GDP - year-on-year movement


While there are inflationary pressures at present that are impacting the Group's ECL calculations, the following graph demonstrates the expected relatively short-term nature of these over the forecast period (year-on-year movement):


The full range of the key macroeconomic assumptions is included in the table on page 45.



 

Risk Management

Credit risk

 

The use of estimates, judgements and sensitivity analysis

The following are the main areas where estimates and judgements are applied to the ECL calculation:

The use of estimates

Asset lifetimes

The calculation of the ECL allowance is dependent on the expected life of the Group's portfolios. The Group assumes the remaining contract term as the maximum period to consider credit losses wherever possible. For the Group's credit card and overdraft portfolios, behavioural factors such as observed retention rates and other portfolio level assumptions are taken into consideration in determining the estimated asset life.

Economic scenarios

The calculation of the Group's impairment provision is sensitive to changes in the chosen weightings as highlighted above. The effect on the closing modelled provision of each portfolio as a result of applying a 100% weighting to each of the selected scenarios is shown below:

2022

Probability

Weighted(1)

£m

Upside

£m

Base

£m

 Downside

£m

Mortgages

15

12

13

23

Unsecured of which:

251

236

237

279

Cards

216

209(4)

208

233

Personal loans and overdrafts(3)

35

27

29

46

Business(2)

53

39

43

97

Total

319

287

293

399

 

(1)   In addition to the probability weighted modelled provision shown in the table, the Group holds £85m relative to PMAs (2021: £207m) and £38m of individually assessed provision (2021: £31m).

(2)   Business and total ECLs in the above table have been calculated using the new LGD model and while not fully implemented in the year, the impact of this was incorporated into the total Business ECLs via the use of PMAs. Consequently, the probability weighted Business and total ECLs reported in the above table are £15m lower than the actual figures for the year.

(3)   Salary Finance contributes more that 50% of the combined Personal Loans and overdrafts ECL.

(4)   Due to a minor model interaction effect, the 100% ECL for Upside is marginally higher than the Base case.

2021

Probability

Weighted

£m

Upside

£m

Base

£m

 Downside

£m

Mortgages

24

16

19

37

Unsecured of which:

159

155

155

167

Cards

142

139

139

147

Personal loans and overdrafts

17

16

16

20

Business

83

47

61

127

Total

266

218

235

331

 

One of the criteria for moving exposures between stages is the lifetime PD which incorporates macroeconomic factors. As a result, the stage allocation will be different in each scenario and so the probability weighted ECL cannot be recalculated using the scenario ECL provided and the scenario weightings.

Certain asset classes are less sensitive to specific macroeconomic factors, showing lower relative levels of sensitivity. To ensure appropriate levels of ECL, the relative lack of sensitivity is compensated for through the application of PMAs, further detail of which can be found on page 44.

Within each portfolio, the following are the macroeconomic inputs that are more sensitive, and therefore more likely to drive the move from Stage 1 to Stage 2 under a stress scenario:

Mortgages: Unemployment and HPI

Unsecured: Unemployment

Business: Unemployment and HPI

In addition to assessing the ECL impact of applying a 100% weighting to each of the three chosen scenarios, the Group has also considered the effect changes to key economic inputs would make to the modelled ECL output.

The Group considers the unemployment rate and HPI as the inputs that would have the most significant impact on ECL, and has assessed how these metrics would change ECL across the relevant portfolios, with the reported output assessed against the base case. All changes have been implemented as immediate effects within the first year of the base case scenario, persisting throughout the scenario.



 

Risk Management

Credit risk

 

The following table discloses the ECL impact of HPI changes on the Group's Mortgage and Business lending:

 


2022

£m

2021

£m

Mortgages +10%

(1)

(2)

Business +10%

(1)

(2)

Mortgages -10%

2

3

Business -10%

2

3

 

Unemployment is a key input that affects all of the Group's lending categories and the following table highlights the ECL impact of a one percent change in the unemployment rate:


2022

£m

2021

 £m

Mortgages +1%

1

1

Unsecured +1%

15

4

Business +1%

4

6

Mortgages -1%

(1)

(1)

Unsecured -1%

(15)

(4)

Business -1%

(3)

(4)

 

While the above sensitivities provide a view of how the ECL would be impacted based on these single changes, such changes would not ordinarily occur in isolation and the economic inputs used are linked within each chosen scenario.

The use of judgement

SICR

Judgement is required in determining the point at which a SICR has occurred, as it is the point at which a 12-month ECL is replaced by a lifetime ECL. The Group has developed a series of triggers that indicate where a SICR has occurred when assessing exposures for the risk of default occurring at each reporting date compared to the risk at origination. There is no single factor that influences this decision, rather a combination of different criteria that enables the Group to make an assessment based on the quantitative and qualitative information available. This assessment includes the impact of forward-looking macroeconomic factors, but excludes the existence of any collateral implications.

Indicators of a SICR include, deterioration of the residual lifetime PD by set thresholds that are unique to each product portfolio, non-default forbearance programmes, and watch list status. The Group adopts the backstop position that a SICR will have taken place when the financial asset reaches 30 DPD.

Refinements were made to the application of SICR on the Group's Business portfolio in the year. Please refer to pages 21 and 35 for further detail.

The Group does not have a set absolute threshold by which the PD would have to increase by in establishing that a SICR has occurred, and has implemented an approach with the required SICR threshold trigger varying on a portfolio and product basis according to the origination PD.

The table below illustrates this approach with reference to the Group's Mortgage, Unsecured (credit cards) and Business portfolios. In each case the illustration is of the PD threshold based on a 5-year full lifetime PD (not the annualised equivalent). The business example reflects the thresholds appropriate for term lending.



Origination PD

SICR Trigger

Mortgages

Low origination lifetime PD

2.00%

5.69%


High origination lifetime PD

10.00%

17.69%

Unsecured (credit cards)

Low origination lifetime PD

2.00%

22.34%


High origination lifetime PD

10.00%

25.52%

Business

Low origination lifetime PD

2.00%

6.03%


High origination lifetime PD

10.00%

16.70%

 



 

Risk Management

Credit risk

 

Changes to the overall SICR thresholds can also impact staging, driving accounts into higher stages with the resultant impact on the ECL allowance:


2022

£m

2021

 £m

A 10% movement in the mortgage portfolio from Stage 1 to Stage 2(1)

+9

+6

A 10% movement in the credit card portfolio from Stage 1 to Stage 2(1)

+87

+69

A 10% movement in the business portfolio from Stage 1 to Stage 2(1)

+18

+13

A PD stress which increases PDs upwards by 20% for all portfolios

+106

+94

 

(1)   The comparative has been restated in line with the current year presentation.

Definition of default

The PD of a credit exposure is a key input to the measurement of the ECL allowance. Default under Stage 3 occurs when there is evidence that a customer is experiencing significant financial difficulty, which is likely to affect the ability to repay amounts due. The Group utilises the 90 DPD backstop for default purposes.

PMAs

PMAs were £85m in 2022 (2021: £207m) and are included within the total ECL provision of £457m (2021: £504m).

These are management judgements that impact the ECL provision by increasing (or decreasing) the collectively assessed modelled output, where not all the known risks identified in a particular product segment have been necessarily reflected within the models. This also takes into account any time lag between the date the macroeconomic assumptions were received and the reporting date. Key PMAs described below:

Mortgages: the Group continue to monitor the level of ECL held on BTL mortgages due to uncertainty of the impact on landlords and tenants and have maintained the PMA for this cohort of customers. A new PMA was introduced to reflect an impact on debt affordability as a result of rising energy prices and other inflationary effects.

Unsecured: a new PMA was introduced for debt affordability as a reaction to the reduction in customers' reduced disposable incomes. Other PMAs are also held with the most material being £10m for the potential impact on the sale or future recovery value of Unsecured written-off debt, which can fluctuate in the current environment.

Business: the current uncertain economic environment is also impacting the Business portfolio, where higher prices, wage inflation pressure and rising interest rates are all headwinds faced by customers. The Group has recognised these pressures and introduced an economic resilience PMA accordingly.

The impact of PMAs on the Group's ECL allowance and coverage ratios is as follows:


Mortgages

Unsecured

Business

Total

2022

£34m

£33m(1)

£18m

£85m

% of total ECL

70%

11%

21%

20%

Coverage - total

0.09%

4.66%

1.59%

0.62%

Coverage - total ex PMAs

0.02%

4.13%

0.93%

0.45%






2021

£54m

£35m

£118m

£207m

% of total ECL

62%

18%

53%

41%

Coverage - total

0.15%

3.80%

3.06%

0.70%

Coverage - total ex PMAs

0.06%

3.11%

1.44%

0.41%

 

(1)   The actual value £32.47m has been rounded up to ensure the table casts.

The reduction in PMAs in the year of £122m predominantly reflects the removal of (i) sector specific PMAs in the Business portfolio (£80m) that were necessary as the UK economy continued to feel the effects of Covid-19 and the outlook for businesses remained uncertain, and (ii) the impact of payment holidays on the Mortgage portfolio (£20m) as Covid-19 related support was withdrawn.

PMAs are primarily held in Stages 1 and 2 and are discussed in more detail in the divisional commentary on pages 28 to 37.

The Group assesses and reviews the need for and quantification of PMAs on a quarterly basis, with the CFO recommending the level of PMAs on a portfolio basis to the Board Audit Committee twice a year at each external reporting period. The Group has strengthened the governance around PMAs in the year, with the Model Risk Oversight and Group Credit Oversight teams reviewing the methodology supporting material PMAs and presenting their findings to the Board Audit Committee.

In the absence of significant events that might impact ECLs going forward, the Group expects the current level of PMAs to materially reduce over the next 18-24 months.



 

Risk Management

Credit risk

 

Macroeconomic assumptions

Annual macroeconomic assumptions used over the five-year forecast period in the scenarios and their weighted averages are as follows:(1)

2022

Scenario

VMUK weighting

Economic measure(2)

2022

%

2023

%

2024

%

2025

%

2026

%

Upside

10%

Base rate

1.4

3.0

2.5

2.3

2.3

Unemployment

3.8

4.2

4.0

3.7

3.6

GDP

3.9

2.8

3.2

3.4

2.1

Inflation

9.5

8.5

1.8

0.7

1.3

HPI

8.3

(2.3)

(1.8)

5.7

6.5

Base

55%

Base rate

1.4

2.2

1.8

1.8

1.7

Unemployment

3.9

4.6

4.4

3.8

3.8

GDP

3.6

0.3

2.1

2.7

2.1

Inflation

9.4

7.5

0.6

0.7

1.5

HPI

6.8

(4.6)

(3.0)

4.4

6.7

Downside

35%

Base rate

1.3

1.7

0.6

0.5

0.5

Unemployment

4.0

6.0

7.1

7.3

7.1

GDP

2.6

(5.6)

0.8

2.1

2.1

Inflation

9.3

5.0

(1.0)

0.7

1.5

HPI

3.5

(13.3)

(11.6)

(2.7)

7.4