February 21, 2018 / 2:18 PM / 10 months ago

Breakingviews - Thrift can steer Lloyds to profitable banality

A sign is seen outside a branch of Lloyds Bank in central London February 3, 2014. Lloyds Banking Group dashed investors' hopes of receiving a dividend for 2013 after it took a further 1.8 billion pound ($3 billion) mis-selling charge that will blunt its ability to make shareholder payouts until next year. REUTERS/Luke MacGregor (BRITAIN - Tags: BUSINESS) - RTX186JJ

LONDON (Reuters Breakingviews) - António Horta-Osório wants the UK’s largest retail bank to be simple and safe. His new plan needs conduct charges, which grew by a fifth last year, to abate, and the economy to behave. Still, a plan to cut costs could help double earnings even if revenues stay flat.

The new three-year strategy is less about transformation than plodding evolution. Rather than expanding into new countries or businesses, Horta-Osório wants to invest 3 billion pounds in technology and customer service, and buy back 1 billion pounds of shares. The bank can afford to splash some cash: even after the buyback its common equity Tier 1 capital ratio will be a healthy 13.9 percent in 2018. He is targeting a return on tangible equity of between 14 and 15 percent from 2019.

As this year’s results show however, reality is more complex. The single most important factor in whether Horta-Osório hits his targets will be Lloyds’ employees’ behaviour. Compensation for missold payment protection insurance cost the bank 1.6 billion pounds last year, helping to cut the bank’s return on tangible equity to just 8.6 percent. PPI payments should ease after next August, but the bank also needs other misconduct charges to fall. In 2017 they totalled 865 million pounds.

Then there’s the British consumer. Horta-Osório expects annual loan losses to roughly double to a still low 0.3 percent of loans. But a violent rupture with the European Union or sharp rise in interest rates could hit indebted borrowers.

With much out of Lloyds’ control, thrift becomes the main lever to boost earnings. Despite the extra investment, Horta-Osório is targeting total operating costs of less than 8 billion pounds by 2020, a 15 percent cut from 2017.

Assume Lloyds hits its operating costs target and revenues plateau at 18.5 billion pounds. Taking away 1.5 billion pounds in loan impairments – nearly double the 2017 total – and applying a 30 percent tax rate would yield net income of 6.3 billion pounds, almost twice last year’s figure, and a return on tangible equity of about 15 percent.

Lloyds’ shares have underperformed the STOXX Europe 600 Banks Index by 2 percent over the past year. But it still trades at 1.3 times tangible book value, above peers. If Horta-Osório can reconcile the bank’s low-risk, high-return ambitions with reality, then that premium should persist. 


Reuters Breakingviews is the world's leading source of agenda-setting financial insight. As the Reuters brand for financial commentary, we dissect the big business and economic stories as they break around the world every day. A global team of about 30 correspondents in New York, London, Hong Kong and other major cities provides expert analysis in real time.

Sign up for a free trial of our full service at https://www.breakingviews.com/trial and follow us on Twitter @Breakingviews and at www.breakingviews.com. All opinions expressed are those of the authors.

0 : 0
  • narrow-browser-and-phone
  • medium-browser-and-portrait-tablet
  • landscape-tablet
  • medium-wide-browser
  • wide-browser-and-larger
  • medium-browser-and-landscape-tablet
  • medium-wide-browser-and-larger
  • above-phone
  • portrait-tablet-and-above
  • above-portrait-tablet
  • landscape-tablet-and-above
  • landscape-tablet-and-medium-wide-browser
  • portrait-tablet-and-below
  • landscape-tablet-and-below