ANNUAL REPORT
AND ACCOUNTS 2010
CREATING THE UK’S
BEST FINANCIAL
SERVICES PROVIDER
Lloyds Banking Group
Annual Report
and Accounts 2010
View this report online
A full version of our Annual Report and
Accounts and information relating to
Lloyds Banking Group is available at:
www.lloydsbankinggroup.com
FORWARD LOOKING STATEMENTS
This annual report includes certain forward looking statements within the meaning of the US Private Securities Litigation Reform Act
of 1995 with respect to the business, strategy and plans of Lloyds Banking Group and its current goals and expectations relating to
its future financial condition and performance. Statements that are not historical facts, including statements about Lloyds Banking
Group or its directors’ and/or management’s beliefs and expectations, are forward looking statements. Words such as ‘believes’,
‘anticipates’, ‘estimates’, ‘expects’, ‘intends’, ‘aims’, ‘potential’, ’will’, ‘would’, ‘could’, ‘considered’, ‘likely’, ‘estimate’ and variations of
these words and similar future or conditional expressions are intended to identify forward looking statements but are not the exclusive
means of identifying such statements. By their nature, forward looking statements involve risk and uncertainty because they relate to
events and depend upon circumstances that will occur in the future.
Examples of such forward looking statements include, but are not limited to, projections or expectations of the Group’s future financial
position including profit attributable to shareholders, provisions, economic profit, dividends, capital structure, expenditures or any
other financial items or ratios; statements of plans, objectives or goals of the Group or its management including in respect of certain
synergy targets; statements about the future business and economic environments in the United Kingdom (UK) and elsewhere
including future trends in interest rates, foreign exchange rates, credit and equity market levels and demographic developments;
statements about competition, regulation, disposals and consolidation or technological developments in the financial services
industry; and statements of assumptions underlying such statements.
Factors that could cause actual business, strategy, plans and/or results to differ materially from the plans, objectives, expectations,
estimates and intentions expressed in such forward looking statements made by the Group or on its behalf include, but are not limited
to: general economic and business conditions in the UK and internationally; inflation, deflation, interest rates and policies of the
Bank of England, the European Central Bank and other G8 central banks; fluctuations in exchange rates, stock markets and currencies;
the ability to access sufficient funding to meet the Group’s liquidity needs; changes to the Group’s credit ratings; the ability to derive
cost savings and other benefits as well as the ability to integrate successfully the acquisition of HBOS; changing demographic
developments including mortality and changing customer behaviour including consumer spending, saving and borrowing habits;
changes to borrower or counterparty credit quality; technological changes; natural and other disasters, adverse weather and similar
contingencies outside the Group’s control; inadequate or failed internal or external processes, people and systems; terrorist acts and
other acts of war or hostility and responses to those acts, geopolitical, pandemic or other such events; changes in laws, regulations,
taxation, accounting standards or practices; regulatory capital or liquidity requirements and similar contingencies outside the Group’s
control; the policies and actions of governmental or regulatory authorities in the UK, the European Union (EU), the US or
elsewhere; the ability to attract and retain senior management and other employees; requirements or limitations imposed on
the Group as a result of HM Treasury’s investment in the Group; the ability to complete satisfactorily the disposal of certain
assets as part of the Group’s EU State Aid obligations; the extent of any future impairment charges or write-downs caused by
depressed asset valuations; market related trends and developments; exposure to regulatory scrutiny, legal proceedings or
complaints; changes in competition and pricing environments; the inability to hedge certain risks economically; the adequacy
of loss reserves; the actions of competitors; and the success of the Group in managing the risks of the foregoing.
Lloyds Banking Group may also make or disclose written and/or oral forward looking statements in reports filed with or furnished
to the US Securities and Exchange Commission, Lloyds Banking Group annual reviews, half-year announcements, proxy statements,
offering circulars, prospectuses, press releases and other written materials and in oral statements made by the directors, officers or
employees of Lloyds Banking Group to third parties, including financial analysts. Except as required by any applicable law or
regulation, the forward looking statements contained in this annual report are made as of the date hereof, and Lloyds Banking Group
expressly disclaims any obligation or undertaking to release publicly any updates or revisions to any forward looking statements
contained in this annual report to reflect any change in Lloyds Banking Group’s expectations with regard thereto or any change in
events, conditions or circumstances on which any such statement is based.
CONTENTS
Overview
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
Business review
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
Governance
Board of Directors
Directors’ report
Corporate governance report
Directors’ remuneration report
Financial statements
1
2
3
4
6
8
10
12
13
14
26
52
56
57
60
65
109
110
112
114
124
143
Report of the independent auditors
on the consolidated financial statements 144
Consolidated financial statements
Notes to the consolidated
financial statements
146
153
Report of the independent auditors on
the parent company financial statements 272
Parent company financial statements
273
Notes to the parent company
financial statements
Other information
Shareholder information
Glossary
Abbreviations
Index to annual report
276
283
284
285
290
291
Overview
Business review
Governance
Financial statements
Other information
1
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
GROUP PROFILE
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Lloyds Banking Group
Annual Report
and Accounts 2010
OUR VISION IS TO BE RECOGNISED
AS THE BEST FINANCIAL SERVICES
COMPANY IN THE UK BY SHAREHOLDERS,
CUSTOMERS AND COLLEAGUES.
Lloyds Banking Group is a leading UK based financial services group providing a
wide range of banking and financial services, primarily in the UK, to personal and
corporate customers.
Lloyds Banking Group was formed in January 2009 following the acquisition of HBOS and
our main business activities are retail, commercial and corporate banking, general insurance,
and life, pensions and investment provision. The new Group also operates an international
banking business with a global footprint in over 30 countries.
The Group is the UK’s largest retail bank and has a large and diversified customer base.
Services are offered through a number of well recognised brands including Lloyds TSB,
Halifax, Bank of Scotland, Scottish Widows, Clerical Medical and Cheltenham & Gloucester,
and a range of distribution channels including the largest branch network in the UK.
Lloyds Banking Group is quoted on both the London Stock Exchange and the New York
Stock Exchange and is one of the largest companies within the FTSE 100.
Chairman’s statement
We have a great platform for the future and
have established a strong financial and
operational trajectory.
Group Chief Executive’s review
We achieved a step change in our financial
performance, returning the Group to
profitability while absorbing the substantial
costs of reducing risk in the business.
Addressing the key issues
An overview of the key issues currently
affecting the Group.
➜6
➜8
➜10
Divisional results
Details of our operating divisions, their
strategy, achievements, financial results
and progress.
Our people
A summary of our key people initiatives
and how we are recruiting, retaining and
rewarding our most valuable resource.
➜26
➜57
2
Lloyds Banking Group
Annual Report
and Accounts 2010
GROUP STRUCTURE
There are four primary operating divisions within the Group: Retail, Wholesale, Wealth and International, and Insurance. The key product
markets in which they participate and relative contribution to the Group’s total income are presented below and a more detailed analysis of
their strategy, business and performance is outlined within the Business Review. All the divisions are focused on delivering the Group Strategy
and offering an integrated professional service to customers.
RETAIL
46% of total Group income1
Retail operates the largest retail bank in
the UK and is the leading provider of
current accounts, savings, personal loans,
credit cards and mortgages. It serves
over 30 million customers through one of
the largest branch and fee free ATM
networks in the UK. Retail is also a major
general insurance and bancassurance
distributor, offering a wide range of
long-term savings, investment and
general insurance products.
Key product markets:
Secured lending – mortgages
Unsecured lending – credit cards,
loans and overdrafts
Internet and telephone banking
Current accounts
Savings accounts
➜26
WEALTH AND
INTERNATIONAL
10% of total Group income1
Wealth and International focuses
on the private banking and asset
management businesses of the
Group and also operates the Group’s
international business.
Key product markets:
Wealth management
Asset management
International Banking
➜36
1
Excludes Group Operations, Central items and insurance claims.
OUR MULTI-BRAND APPROACH
The Group operates a range of well recognised
brands across our four divisions with different
brands utilised for different customer
segments, geographies and markets.
The main four brands operated by the Group
are Lloyds TSB, Halifax, Bank of Scotland and
Scottish Widows though a number of other
brands are used in specialist markets.
WHOLESALE
36% of total Group income1
The Wholesale division serves in excess
of a million businesses, ranging from
start-ups and small enterprises to
global corporations, with a range of
propositions fully segmented according
to customer need.
Key product markets:
Corporate Banking Services
Treasury and Trading
Asset Finance
➜30
INSURANCE
8% of total Group income1
The Life, Pensions and Investments business
is the leading bancassurance provider in
the UK and is also a leading player in the
intermediary channel. The general insurance
business is a leading distributor of home
insurance in the UK and also offers a
range of other general insurance products.
Key product markets:
Life assurance, pensions and
investments
General Insurance
➜42
Overview
Business review
Governance
Financial statements
Other information
3
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
GROUP PERFORMANCE
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Lloyds Banking Group
Annual Report
and Accounts 2010
COMBINED BUSINESSES – RESULTS SUMMARY
Net interest income
Other income
Total income
Insurance claims
Total income, net of insurance claims
Costs:
Operating expenses
Impairment of tangible fixed assets
Trading surplus
Impairment
Share of results of joint ventures and associates
Loss before tax and fair value unwind
Fair value unwind
Profit (loss) before tax – combined businesses
2010
£m
13,822
10,164
23,986
(542)
23,444
(10,928)
(150)
(11,078)
12,366
(13,181)
(91)
(906)
3,118
2,212
2009
£m
12,726
11,875
24,601
(637)
23,964
(11,609)
–
(11,609)
12,355
(23,988)
(767)
(12,400)
6,100
(6,300)
RECONCILIATION OF COMBINED BUSINESSES PROFIT (LOSS)
BEFORE TAX TO STATUTORY PROFIT BEFORE TAX
2,212
Profit (loss) before tax – combined businesses
(6,300)
Integration costs
Volatility arising in insurance businesses
Government Asset Protection Scheme fee
Negative goodwill credit
Amortisation of purchased intangibles and
goodwill impairment
Pension curtailment gain
Pre-acquisition results of HBOS plc
Customer goodwill payments provision
Loss on disposal of businesses
Profit before tax – statutory
(1,653)
306
–
–
(629)
910
–
(500)
(365)
281
(1,096)
478
(2,500)
11,173
(993)
–
280
–
–
1,042
KEY HIGHLIGHTS OVERVIEW
The Group returned to profitability on
a combined businesses basis with profit
before tax of £2,212 million
Statutory profit before tax of £281 million
Loss attributable to equity shareholders
was £320 million; equivalent to a loss per
share of 0.5 pence
Good trading performance against the
backdrop of modest growth in the UK
Continued active support for the UK’s
economic recovery by providing
£30 billion of gross mortgage lending
(including remortgages) and £49 billion of
committed gross lending to businesses,
of which £11 billion was for SMEs
Strong cost performance with a 6 per cent
reduction in operating expenses
Significant reduction in the
impairment charge
Continued strong progress with the
integration programme
Good progress on balance sheet reduction
with cumulative non-core asset reduction
of £105 billion
Capital position significantly improved with
core tier 1 ratio increased to 10.2 per cent
Excellent progress against term funding
objectives with £50 billion of wholesale
term issuance in the year
£61 billion reduction in liquidity support
from government and central bank facilities
PRESENTATION OF INFORMATION
In order to reflect the impact of the acquisition of HBOS, provide more relevant and meaningful comparatives and better present the underlying business performance, the results of the
Group and divisions are presented on a combined businesses basis. The key principles adopted in the preparation of the combined businesses basis of reporting are described below.
In order to reflect the impact of the acquisition of HBOS, the following adjustments have been made:
– the 2009 results assume HBOS had been owned throughout the year;
– the gain on acquisition of HBOS (in 2009) and amortisation of purchased intangible assets have been excluded; and
– the unwind of acquisition-related fair value adjustments is shown as one line in the combined businesses income statement.
In order to better present the underlying business performance the following items, not related to acquisition accounting, have also been excluded:
– integration costs;
– insurance and policyholder interests volatility;
– the Government Asset Protection Scheme (GAPS) fee paid in 2009;
– goodwill impairment;
– the curtailment gain in respect of the Group’s defined benefit pension schemes;
– the customer goodwill payments provision; and
– loss on disposal of businesses.
Further, to enable a better understanding of the Group’s core business trends and outlook, certain income statement and balance sheet information is analysed between core and non-core
portfolios. Non-core portfolios consist of non-relationship assets and liabilities, together with assets and liabilities which are outside the Group’s current appetite. The EU mandated retail
business disposal is not included in non-core portfolios.
A full reconciliation of the combined businesses basis to the statutory basis is given in note 4 on page 170. Unless otherwise stated, the commentaries on pages 13 to 55 are on a combined
businesses basis.
4
Lloyds Banking Group
Annual Report
and Accounts 2010
STRATEGY AND PROGRESS
OUR CORPORATE
STRATEGY
The Group’s business model is focused on the
development of customer relationships, which
are central to the strategy. We are constantly
striving to build deep, lasting customer
relationships, that will create value for our
customers and subsequently value for us as
a business. Customer leadership driven by
superior customer insight, tailored products,
better service and relationship focus,
supported by industry leading efficiency and
effectiveness and a prudent ‘through the
cycle’ approach to risk is core to our strategy.
It is this that will enable us to deliver on our
vision of being recognised as the best financial
services company in the UK by customers,
colleagues and shareholders.
Our corporate strategy identifies the key
strategic deliverables required to implement
the business model effectively and deliver
our Group vision.
The strategy is focused on being a more
conservative, ‘through the cycle’ relationship
based business. The key objectives of our
strategy are:
– Building a high performance
organisation
– Developing strong customer franchises
that are based on deep customer
relationships
– Managing our most valuable resource,
our people
The main focus for the Group remains the
financial services markets in the UK and our
strategic position was strengthened through the
acquisition of HBOS in January 2009. We are a
well diversified UK financial services group and
the largest retail financial services provider in the
UK. We have leading positions in many of the
markets in which we participate, a comprehensive
distribution capability, well recognised brands
and a large customer base. We continue to
invest in products and services, systems and
training that combined offer unparalleled
choice and service to our customers.
We see corporate responsibility as being
integral to our business strategy. We need to
demonstrate that we are running our business
in a responsible way; and are making a
sustained, positive contribution to the
economy and to society; by playing our part in
the UK’s economic recovery and by investing
in the communities of which we are a part.
Building a high performance organisation
In delivering a high performance organisation the Group is focused on improving our
cost efficiency and utilising our capital more effectively whilst maintaining a prudent
approach to risk.
– The Group aspires to have one of the lowest cost to income ratios amongst UK financial
institutions and further improving our processing efficiency and effectiveness will remain
a priority. The effective integration of the HBOS business and the anticipated synergies
arising from the acquisition will be key to further improving our efficiency.
– Utilising capital more effectively is increasingly important in the current environment
and capital will continue to be rigorously allocated across our portfolio of businesses
to support core business growth.
– The prudent Lloyds TSB ‘through the cycle’ approach to risk has been applied to the
enlarged Group. Our conservative and prudent approach to risk is core to the business
model and the ‘through the cycle’ approach means we will continue to support our
customers throughout the economic cycle. The risk structures and frameworks that
have been implemented are the foundation for good business management.
Developing strong customer franchises that
are based on deep customer relationships
All our core businesses are focused on extending our customer relationships, whilst
enhancing product capabilities to build competitive advantage. Ensuring we understand
and effectively meet the needs of our customers from basic banking products to the more
specialist services such as insurance, wealth management or corporate banking is at the
heart of our business. It is also fundamental to ensuring we are developing long lasting
customer relationships.
➜26
Managing our most valuable resource, our people
Executing our strategy effectively will only be possible if we ensure deliverables are effectively
aligned with our corporate strategy and we manage our most valuable resource, our people, well.
Our people have the skills and capabilities to deliver the strategy but in driving performance it
is important to ensure we encourage, manage and develop our staff whilst creating a great
place to work.
➜57
Overview
Business review
Governance
Financial statements
Other information
5
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Lloyds Banking Group
Annual Report
and Accounts 2010
Performance measures
Underlying cost:income ratio
%
Integration cost synergies (run-rate) £bn
2008
2009
2010
57
Target for end of 2011: £2bn
51
46
2009
2010
0.8
1.4
Good progress continues to be made in reducing
the cost:income ratio, which fell to 46 per cent in
2010. This was driven by both higher underlying
income and lower operating expenses. The Group
continues to expect the cost:income ratio to reduce
to approximately 40 per cent in the medium term
excluding the Bank Levy.
The delivery of cost synergies from the integration
programme is ahead of schedule and we remain
on track to deliver a run rate of more than £2 billion
per annum of cost synergies and other operating
efficiencies by the end of 2011.
OUTPUT MEASURES
Significant progress has been made against
our strategic goals and objectives
during 2010, and the key performance
indicators below highlight the overall
progress being made by the Group. Further
detail on these measures is contained within
the business review.
Profit (loss) before tax
(Combined businesses basis)
£m
(6,713)
2008
(6,300)
2008
61.8
2009
Balance sheet reduction
(Cumulative)
£bn
Lending commitments
(1 March to 28 February)
£bn
2010
2,212
Target: £200bn
Target for 2010/11: £67bn
Statutory profit before tax
£m
2008
2008
2009
2010
281
760
1,042
Earnings per share
pence
2008
2009
(0.5)
2010
6.7
7.5
Core tier 1 ratio
%
2008
2008
2009
2010
5.6
8.1
10.2
2009
60
2009/10
2010
105
2010/11 achievement (to 31 Dec)
63
63
We previously outlined our strategy to reduce
non relationship assets, including business which is
outside our current risk appetite by some £200 billion.
Excellent progress continues to be made against this
target with a £105 billion reduction achieved to date.
The Group continues to actively support our customers
and the UK economy by lending to UK households
and businesses. Under the terms of our lending
commitments to the UK Government we agreed to
make available gross new lending of £67 billion in the
12 months to 28 February 2011 and we remain on track
to deliver this having extended £63 billion of qualifying
lending by the end of December 2010.
Performance measures
Customer relationships are key to our strategy and important
for all our businesses. The significant differences across the
divisions/businesses means financial and non-financial strategic
indicators for the development of customer relationships are
tracked at a divisional level and commentary is included in the
specific divisional commentaries.
Performance measures
In delivering a high performance
organisation, we need to have high levels
of staff engagement. Every quarter we
run a comprehensive confidential survey
across the Group to gauge staff views on
key issues and assess overall staff
engagement.
Staff engagement score
2009
2010
72
80
In 2010, we achieved a record response rate of
83 per cent (up from 81 per cent in 2009) which is
regarded as ‘best in class’ and the overall engagement
score increased from 72 to 80 showing the progress
being made in this area.
6
Lloyds Banking Group
Annual Report
and Accounts 2010
CHAIRMAN’S STATEMENT
“ We have a great platform for the
future and have established a strong
financial and operational trajectory.
I am confident that we will be able
to grow the business further over
the coming years.”
My second annual statement as Chairman
of Lloyds Banking Group comes to you
at the end of another challenging year, a
year in which we have turned the corner to
profitability. In doing so, we made substantial
progress towards creating a strong and stable
bank, one better able to serve our customers.
Only by focusing on their needs and offering
them products and services that address those
needs, can we expect to be successful and
deliver benefit to you our shareholders and
to our stakeholders at large.
Supporting the UK’s economic recovery
Although 2010 brought some increase in
global confidence and stability, the banking
industry continued to operate amidst
challenging conditions.
As we emerge from the financial crisis and
the economic downturn, we recognise the
public concern surrounding the banking
industry and know we have much work
to do as an industry to rebuild trust and
understanding. We also acknowledge the
role that we at Lloyds Banking Group must
play in that process. We can only earn that
trust by addressing the fundamentals, for
all our stakeholders, and by being open,
transparent and engaged in the broader
debate about the role of banking in the UK.
We need to demonstrate that we are meeting
our obligations to customers and society by
proactively – and responsibly – channelling the
deposits we gather into productive enterprises
and households.
Banks have a central role in promoting and
fuelling the economic recovery. We will
continue to play our part in supporting UK
growth by extending a significant amount of
new lending to businesses and households.
We have provided nearly £80 billion of gross
lending to UK homeowners and businesses
in 2010 and, as part of our SME charter, the
Group is committed to helping 300,000
new start-up businesses by the end of 2012.
We have already helped over 100,000 such
enterprises during 2010. For the year ended
28 February 2011 we will exceed the mortgage
and business lending commitments made by
the Group to the UK Government.
We have also recently announced, along
with four other major UK banks (and in
the context of an agreement with the UK
Government), our intent to help support the
UK economic recovery by jointly providing
the capacity to support gross new lending
of £190 billion to creditworthy UK businesses
(including £76 billion to small and medium
sized businesses). As the largest UK focused
bank, we are determined to play a full role
in supporting investment by UK businesses
and households. Lending is one of our core
business functions and it is in our interest and
that of our shareholders that we make access
to responsible credit as easy as possible.
At the same time, as a responsible lender, we
will seek to ensure that we lend to customers
who can afford to repay their borrowing and to
businesses that have a fundamentally sound
business model. These are principles to which
we must adhere.
Regulation
The level of industry regulation and its
speed of change has never been greater.
Shareholders will be aware of a number of
strategic initiatives which are likely to change
the shape of our industry, including the
changes to capital requirements arising from
Basel III and the fundamental changes to the
regulatory environment in the UK, to highlight
just a couple. Robust and stable regulation
will be an important component in rebuilding
confidence and trust and creating a healthy
and sound financial system. However, we need
to ensure that banks are allowed to fulfil their
core purpose in delivering a smooth flow of
credit to the economy. That means meeting
banks’ obligations to businesses, by helping
them to invest, expand, export, innovate,
up-skill their workforce, win new contracts and
diversify their business models. For individuals,
it means supporting their financial needs over
their lifetime.
In 2010, the UK Government appointed The
Independent Commission on Banking (ICB)
to review structural measures to reform the
banking system and promote stability and
competition. The ICB is not expected to
publish its final report until September 2011
although an important precursor of that will be
the interim report expected to be published in
April. It would be premature for me to seek to
predict the outcome of the enquiry; however,
discussions between ourselves and the ICB
have been collaborative and constructive and
we will welcome the increased certainty that
the report’s recommendations should bring.
Our community
Through the financial services we provide to
our customers and the support we give to
the businesses that people work for, Lloyds
Banking Group plays a role in the lives of
nearly everyone in the UK.
Our main contribution to society is the direct
economic impact on the economy we have
as a major employer and purchaser of goods
and services. This economic contribution
is supported by our active investment in
communities across the country and our
community giving programme. We invested
£148 million in communities across the
UK in 2010 including support for financial
inclusion, sponsorship of sports for young
people and donations through the Group’s
charitable foundations.
Our partnership of the London 2012 Olympic
and Paralympic Games will bring the Games
to life in the heart of communities all over
Britain and 2011 will be an exciting year in the
countdown to 2012. Since the launch of our
Local Heroes programme we have supported
600 athletes. We have also pledged £1 billion
of funding to help businesses benefit from
London 2012 Games associated opportunities.
In this way we have supported one in three
of all businesses who have won London 2012
Olympic Games related contracts.
Overview
Business review
Governance
Financial statements
Other information
7
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
CHAIRMAN’S STATEMENT
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Lloyds Banking Group
Annual Report
and Accounts 2010
Performance
Remuneration
As an organisation, we have made considerable
progress in 2010, delivering good growth in
our core business, returning to profitability
and reducing the risk in the business. The
integration of the HBOS business continues
to progress well and we remain confident of
achieving our target of run-rate synergy benefits
of £2 billion per annum by the end of 2011,
a substantial achievement.
In working diligently to create long term
sustainable shareholder value we aim to
restore our ability to pay dividends on ordinary
shares as soon as market conditions and the
financial performance of the Group permit. As
you know this intention is subject to the expiry
in 2012 of the restrictions arising from the
European Commission’s remedies.
Following the recapitalisation of the banking
sector, HM Treasury now holds approximately
40.6 per cent of the equity capital of the
Group. We are grateful and appreciative for
the valuable support we have received from
Government and through it the taxpayer, but
our objective remains for the Group over time
to operate as a wholly privately owned self-
supporting commercial enterprise.
People
I have enjoyed meeting many colleagues
in various visits to our operations all over
the country over the past year. Gaining an
on-the-spot insight into how they work to
serve our stakeholders by building long term
relationships with our customers and by
supporting businesses has been invaluable.
I must tell you that I have been impressed by
their desire to work together to ensure the
success of our integration, by their discipline
and focus and by their commitment to their
customers. It is clear that in our large and
occasionally complex Group, teamwork
combined with commitment, professionalism
and hard work is the key to realising our
promises to stakeholders.
Our people have faced a difficult year with
great commitment and purpose. It is not
easy or pleasant to work for a group which is
continuously in the media headlines. All the
more so when the delivery of our day-to-day
banking and personal financial services are, in
numerous surveys of our customers, judged to
be at the very top or near it. On behalf of the
Board I thank our colleagues for their significant
achievements in 2010, which from letters and
emails I receive, are as much appreciated by
our shareholders as our customers.
Following on from the unprecedented
turmoil across the sector in 2008 and 2009,
the increased focus on remuneration has
continued into 2010. In the context of
the evolving economic environment and
regulatory changes, the Remuneration
Committee undertook a further review of
executive remuneration in 2010. We firmly
believe that remuneration policy needs to
incentivise executives to continue strong,
sustainable growth and delivery of value to
shareholders, in light of one of the biggest
integrations ever undertaken in the sector.
The Committee equally however is mindful
of the continued heightened awareness
in the public domain around executive
remuneration. Both these considerations
informed the Committee’s decisions on
remuneration this year and that for António
Horta-Osório, our new Group Chief Executive.
The Group is primarily a retail and commercial
bank. This means that the payout under our
Group bonus schemes for 2010 is a small
percentage of overall revenues. Though
profitability increased substantially our total
compensation for 2010 is lower than that for 2009.
Group Chief Executive
On 28 February 2011, Eric Daniels will retire
as Group Chief Executive and Director of
Lloyds Banking Group plc and, in line with his
contractual commitments, will retire from the
Group in September 2011. His knowledge
of the Group and our customers will, I am
pleased to say, remain available to the Board
and myself as required until then.
The Board and I are grateful to Eric Daniels for
his leadership since June 2003, particularly since
the announcement of the acquisition of HBOS
in September 2008. The successful integration
of the two companies and the sooner than
expected return to profitability of the enlarged
Lloyds Banking Group are testament to his
leadership during a time of unprecedented
financial turmoil. It is to Eric’s credit that the
Group is in a strong position for the next
phase of its development. I personally have
valued greatly the considerable management,
banking and organisational expertise Eric
has brought to Lloyds Banking Group as
Group Chief Executive.
In November we announced the appointment
of António Horta-Osório as the next Group
Chief Executive. He brings with him deep
experience in, and understanding of, the
UK retail and commercial banking industry,
as well as a track record of integrating three
well respected UK retail banking franchises.
António joined us in January 2011 and
took over as Group Chief Executive on
1 March 2011. The Board and I look forward
to working with him to ensure the success of
the next stage of development of the Group,
and I hope many of you will be able personally
to meet him at our annual general meeting in
Glasgow on Wednesday 18 May 2011.
Changes to the Board
In addition to the changes previously
outlined during the year we have continued
to strengthen the Board both in terms of
in-depth banking experience and broader
business perspectives. On 1 March 2010, two
new Non-Executive Directors were appointed,
Glen Moreno and David Roberts, and Anita
Frew joined the Board on 1 December 2010.
We are delighted that these three outstanding
individuals have agreed to contribute their
judgement and varied expertise to our Board.
On a personal front I am also pleased that
we have expanded the proportion of women
on the Board and I expect that process
to continue.
Dr Wolfgang Berndt retired at the annual
general meeting in May 2010, having joined
the Board in 2003. I would like to thank him for
his significant contribution to the Group.
Our most senior management including our
Executive Directors, have made extraordinary
efforts both in terms of their time, involvement
and personal contribution in achieving these
results. I thank all of them for their loyalty in
difficult circumstances.
The full particulars and background of all our
Directors are set out on pages 110 and 111.
Outlook
The successful execution of our strategy
demands from us focus on core markets, on
customer engagement, on cost leadership,
on capital efficiency and on a prudent risk
and funding profile. Carried out well these
attributes should enable the Group to deliver
earnings growth and shareholder value whilst
achieving our aim of becoming recognised as
the best financial services company in the UK.
We have a great platform for the future
and have established a strong financial and
operational trajectory. I am confident that we
will be able to grow the business further over
the coming years with António Horta-Osório
at the helm leading our 112,000 colleagues
– a dedicated workforce and an experienced
management team.
Sir Winfried Bischoff
Chairman
8
Lloyds Banking Group
Annual Report
and Accounts 2010
GROUP CHIEF EXECUTIVE’S REVIEW
“ We achieved a step change in our
financial performance despite slow
economic growth, returning the
Group to profitability while
absorbing the substantial costs of
reducing risk in the business.”
Summary
Results overview
Good franchise momentum in 2010
2010 was a good year for the Group,
in which we made significant progress,
delivering a strong operating performance,
while strengthening the business
for the future.
We achieved a step change in our financial
performance despite modest economic
growth, returning the Group to profitability
while absorbing the substantial costs of
reducing risk in the business. While the
significant decrease in impairments was a
key driver in our return to profitability, we
also saw a good performance in the core
business where underlying income grew
7 per cent.
We delivered good momentum across our
core businesses through the continued
development of our customer relationship
strategy, attracting new customers to the
Group and broadening and deepening our
relationships with existing customers.
We also realised substantial cost savings,
and we are on track to deliver our target of
£2 billion of run-rate cost synergies from the
integration of HBOS by the end of 2011.
We made considerable progress during
the year in reducing the Group’s risk. The
application of our prudent approach to
restructuring of the existing book and
our risk standards to all new business is
being reflected in the more predictable
performance of these portfolios. We also
made good progress in reducing the size
of our balance sheet and substantially
strengthened both our capital and
funding positions.
As a result of the significant progress we
have made in 2010, Lloyds Banking Group
is now a much stronger business and is well
positioned to realise the potential within
its franchise.
On a combined businesses basis, the
Group reported a £2.2 billion profit in 2010,
compared to a £6.3 billion loss before
tax in 2009. Underlying income grew by
3 per cent to £23.6 billion, reflecting good
underlying income growth of 7 per cent
in our core business, partially offset by a
reduction of 9 per cent in our non-core
business as a result of planned asset
reductions. Operating expenses fell by
6 per cent, resulting in an improvement
in our underlying cost:income ratio of
4.5 percentage points to 46.2 per cent.
On a statutory basis, the Group delivered
a profit before tax of £0.3 billion in 2010.
This compared to a profit of £1 billion in
2009, which benefited from an £11.2 billion
negative goodwill gain associated with the
purchase of HBOS.
A significant reduction in the
impairment charge
We achieved a significant reduction in the
impairment charge, which fell 45 per cent,
with the deterioration in some of our
International businesses more than offset by
a substantial improvement in the rest of the
Group, notably in the Wholesale division.
The considerable reductions in the Retail
and Wholesale impairment charges reflect
the benefit of the actions we have taken
over the past two years and our ongoing
effective risk management, as well as the
slowly improving economic environment.
While we were disappointed by the
increases in the International portfolios,
these reflect specific economic challenges
facing Ireland, and to some degree
Australia, which we are managing closely.
We have seen good momentum across our
core business franchise in 2010, supported
by the extension of our relationship strategy
across the Group, in what remain highly
competitive markets.
In Retail, our strategy is to develop deep
and enduring customer relationships
through offering a broad range of products
addressing customers’ needs, alongside
superior service and advice. We opened
1.9 million current accounts, and over
5 million new savings accounts, and
increased customer deposits by 5 per cent
in the year.
In Wholesale, our commitment to
supporting our customers through the
cycle was equally successful, and we
attracted over 100,000 new start-up
customers and our achievements were
recognised in the marketplace by the
receipt of a number of awards.
We see strong growth opportunities in
Wealth, through deepening relationships
with existing Group customers and through
the targeted acquisition of new customers.
In 2010, we saw encouraging early results
from the development of our customer
offerings, and we grew our UK relationship
customer base by 12 per cent.
In Insurance our focus on sustainable and
profitable growth led to a 13 per cent
increase in profit before tax. While this
strategy led to a reduction in overall sales
volumes in our UK Life, Pensions and
Investments business, as we stopped selling
a number of low return heritage HBOS
products, this resulted in a substantial
increase in new business margin.
Overview
Business review
Governance
Financial statements
Other information
9
Group profile
Group structure
Group performance
Strategy and progress
1
2
3
4
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Chairman’s statement
6
Group Chief Executive’s review 8
Addressing the key issues
Marketplace trends
10
12
Our people
Corporate responsibility
Risk management
57
60
65
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
GROUP CHIEF EXECUTIVE’S REVIEW
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Lloyds Banking Group
Annual Report
and Accounts 2010
Supporting the UK’s economic recovery
During 2010 the Group continued to
support the UK’s economic recovery through
new lending to our mortgage and business
customers. The Group extended £30 billion
of gross mortgage lending (including
remortgages) to UK homeowners and
supported over 50,000 first time buyers.
We also provided £49 billion of committed
gross lending to UK businesses in 2010, of
which £11 billion was for SMEs. As part of our
SME Charter, the Group has committed to
helping 300,000 new start-up businesses by the
end of 2012, and has already helped in excess
of 100,000 such enterprises during 2010. We
continue to approve over 80 per cent of lending
applications from SME customers. Despite
the uncertain economic environment, the
Group has successfully grown net lending to
its core SME customers by 2.1 per cent, which
compares favourably with the industry-wide
reduction in SME lending reported in the
latest available market statistics.
As a result of our focus, we will exceed the
mortgage and business lending commitments
made by the Group to the UK government
for the year ended 28 February 2011.
We have recently announced, along
with four other major UK banks and in
the context of an agreement with the
UK Government, our intent to help support
the UK economic recovery by jointly
providing the capacity to support gross
new lending of £190 billion to creditworthy
UK businesses (including £76 billion to
small and medium sized businesses).
We are determined to play a full role in
supporting investment by UK businesses
and households.
Integration programme on track
We continued to make good progress on the
integration of Lloyds TSB and HBOS, one of
the largest and most complex programmes
undertaken in the UK, exiting the year with
run-rate cost synergies of £1.4 billion, as
expected. We achieved savings across a
wide range of Group activities, including
implementing improved processes which are
now being used on a harmonised basis across
the Group, and driving savings in property and
procurement. As part of the integration, we
have also commenced the implementation
of a number of major systems changes,
which will complete in 2011.
Our progress in 2010 underpins our
confidence that we will deliver our target of
£2 billion of annual run-rate cost synergies
by the end of 2011.
Further progress in balance sheet
reductions
We are pleased with the progress we have
made in reducing the size of the Group’s
balance sheet, with over half of our five year
reduction plan achieved in the first two years.
Although this has had an adverse effect on
income, it has resulted in a material reduction
in the Group’s risk profile, and a smaller
balance sheet which brings associated
funding benefits.
We have now achieved asset reductions
totalling £105 billion in the two years since
the inception of the programme, against
our target of a £200 billion reduction.
Excellent progress on funding and
liquidity
We made excellent progress in enhancing
our funding and liquidity position in 2010,
thereby further reducing the Group’s risk,
albeit at some incremental cost.
We increased our deposit base by
3 per cent, which, together with the
reduction in the size of our balance sheet,
resulted in an improvement in our loan to
deposit ratio to 154 per cent at the end of
2010 from 169 per cent at the 2009 year end.
In addition, we substantially exceeded
our guidance for term wholesale funding
issuance, achieving £50 billion of issuance
in the year. We also continued to broaden
the range of our funding sources, and
maintained the proportion of our wholesale
funding with a maturity of more than one
year at 50 per cent.
Term issuance during the year enabled us
to materially reduce the liquidity we receive
from government and central bank sources,
by £61 billion to £97 billion at the year
end and we have made further progress
since then.
Capital position further strengthened
We considerably strengthened our capital
position in the year, positioning us well
ahead of the implementation of the Basel
Committee on Banking Supervision’s so
called ‘Basel III’ capital reforms, and
changes expected to a number of
accounting practices.
Our core tier 1 ratio increased to
10.2 per cent, from 8.1 per cent at the end
of 2009, substantially in excess of regulatory
requirements. We also restructured the
capital within our insurance subsidiaries,
which will deliver substantial benefits under
the Basel III reforms. At the year end, our
tier 1 ratio was 11.6 per cent, and our total
capital ratio was 15.2 per cent.
Regulatory environment
We operate in a demanding and evolving
regulatory environment, and have continued
to engage actively with our regulators
during the year on a number of proposed
reforms, ensuring we have a strong and
stable banking system, which will also be
able to support and serve its customers and
the wider economy.
Following extensive scrutiny of the Payment
Protection Insurance (PPI) market in recent
years, the Financial Services Authority issued
its final policy statement on PPI complaints
handling in August 2010. The application of
this policy, which has been challenged by
the British Bankers’ Association in a judicial
review, could in extremis have a material
effect on the Group’s financial position.
Our people
I am proud of the high levels of support and
service our staff have continued to deliver
to our customers over the past year, in what
remains a challenging environment, and in
the context of the considerable changes to
the Group arising from the integration. Their
dedication is reflected in our significant
achievements in 2010, and the Board and
I are very appreciative of their contribution.
Well positioned for future success
It has been a tremendous honour and a
privilege to lead our many talented and
dedicated people over the last eight years,
and I would like to thank my colleagues
and the Board for their support over this
time. I am grateful to have been given the
opportunity to create the new Group. The
significant progress we have made in 2010
positions the Group well for the future to
meet our objective of becoming the best
bank for all our stakeholders, including our
customers, shareholders and employees.
J Eric Daniels
Group Chief Executive
10
Lloyds Banking Group
Annual Report
and Accounts 2010
ADDRESSING THE KEY ISSUES
The Government’s shareholding
As a result of the recapitalisation of the
banking sector which included the capital
raisings, the Government now holds a
significant stake in Lloyds Banking Group.
As at the date these accounts were
approved the Government’s shareholding
in Lloyds Banking Group was approximately
40.6 per cent. This holding is managed
by United Kingdom Financial Investments
(UKFI) on behalf of HM Treasury.
Information on key areas such as when
the Government may reduce their
holding, how the relationship with UKFI
operates and the impact of the holding
on our strategy is outlined below.
Share disposal
The timing of any share disposal will be at the
Government’s discretion, acting on the advice
of UKFI.
However, within the publication ‘An Introduction:
Who We Are, What We Do and the Framework
Document Which Governs the Relationship
Between UKFI and HM Treasury’, it is stated that
UKFI is to ‘develop and execute an investment
strategy for disposing of the investments in the
banks in an orderly and active way through sale,
redemption, buy-back or other means within
the context of an overarching objective of
protecting and creating value for the taxpayer
as shareholder, paying due regard to the
maintenance of financial stability and to acting
in a way that promotes competition’.
Working relationship with UKFI
We have a very good working relationship
with UKFI who act like any value orientated
shareholder with regard to the strategic
development and financial performance of
the Group, providing significant constructive
challenge where they see fit.
The Government has made it very clear that
UK financial institutions in which it holds
substantial stakes will continue to operate as
separate economic units with independent
powers of decision and will continue to
have their own independent Boards and
management teams, determining their own
strategies and commercial policies (including
business plans and budgets).
The future
Going forward the Group is focused on
delivering strategy and subsequently value
to all our shareholders. The Government
holding does not affect this management
focus and we remain committed to operating
as a wholly privately owned, self supporting,
dividend paying, commercial enterprise
over time.
State aid
The European Commission required the
Group to agree a restructuring plan as
a result of the investment in the Group
by HM Treasury. The final approval
of the UK Government’s state aid
measures, including the terms of the final
restructuring plan, was agreed by the
College of Commissioners in November
2009. The plan consists of the following
principal elements:
– The disposal of a retail banking business
with at least 600 branches, a 4.6 per cent
share of the personal current accounts
market in the UK and approximately
19 per cent of the Group’s mortgage
assets. The business consists of: the TSB
brand; the branches, savings accounts and
branch based mortgages of Cheltenham &
Gloucester; the branches and branch
based customers of Lloyds TSB Scotland
and a related banking licence; additional
Lloyds TSB branches in England and
Wales, with branch based customers; and,
Intelligent Finance. These disposals need
to be made within four years of the date of
State Aid approval, so by November 2013.
– An asset reduction programme to achieve
a £181 billion reduction in a specified pool
of end 2008 assets by 31 December 2014;
and
– Behavioural commitments, including
commitments; not to make certain
acquisitions for approximately three to
four years; and not to make discretionary
payments of coupons or to exercise
voluntary call options on hybrid securities
from 31 January 2010 until 31 January 2012,
which will also prevent the Group from
paying dividends on its ordinary shares for
the same duration.
We are making good progress against
the agreed asset reduction programme
and continue to make good progress in
preparing for the disposal of the agreed retail
banking business. The final cost of disposal
will depend on the buyer and the extent to
which substantial IT system and infrastructure
development will be necessary. Therefore
the total cost is hard to predict but is likely to
be substantial.
The assets and liabilities, and associated
income and expenses, of the business to
be divested (referred to above) cannot be
determined with precision until nearer the
date of sale.
Lending to aid the
economic recovery
During 2010 the Group continued its
policy of actively supporting the UK’s
economic recovery through gross
new lending to our mortgage and
business customers.
During the year, the Group extended
£30 billion of gross mortgage lending
(including remortgages) to UK homeowners
(including £5 billion in new lending to first-
time buyers) and £49 billion of committed
gross lending to UK businesses (of which
£11 billion was for SMEs). As part of our
SME Charter, the Group has committed to
helping 300,000 start-ups by 2012, and has
already helped in excess of 100,000 new start
up businesses during 2010. We continue
to approve over 80 per cent of lending
applications from SME customers.
As a result of our focus, these actions have
allowed us to remain ahead of the mortgage
and business lending commitments made by
the Group to the Government for the year
ended 28 February 2011.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
11
Lloyds Banking Group
Annual Report
and Accounts 2010
ADDRESSING THE KEY ISSUES
Group integration
Independent Commission on Banking
As previously outlined within the
Strategy and Progress section (pages
4 and 5) the integration of the HBOS
business is a key deliverable for the Group.
We have now completed the second
year of our three year integration
programme and remain on target
to deliver annualised cost savings
from synergies and other operating
efficiencies of £2 billion by the end
of 2011. Substantial wide-ranging
progress has been made during 2010,
including:
Rollout of the Lloyds TSB branch counter
system and processes to the Halifax and
Bank of Scotland branches – completes
March 2011.
Migration of 3,700 Halifax and
Bank of Scotland ATMs to the Lloyds TSB
platform – completes April 2011.
Implementation of a single mortgage sales
platform across core mortgage brands
underway.
Development and implementation of a
fully scaled single IT platform which will
support the Group.
Single bancassurance sales system
and unified set of products delivered.
Bank of Scotland and Lloyds TSB
wealth management functions
brought together to form one
wealth management team.
Contract Hire fleet businesses are being
brought together onto a single platform.
Following a review of the business, we
completed our strategic exit from Ireland
by the end of 2010, including the closure
of 44 Bank of Scotland Ireland branches.
Completion of the legal transfer of
our businesses in Spain to form one
integrated business serving both local
and international communities.
Wholesale Markets Corporate business
now trading under the Lloyds Bank brand.
Procurement benefits of £236 million
achieved in year. Over 90 per cent of
Group expenditure consolidated within
our top 1,000 suppliers.
79 non-branch properties exited,
bringing the total to 162 since the
start of the programme.
The Independent Commission on
Banking (ICB) was established by the
Government in June 2010 to examine
the banking sector and to make
recommendations on structural and
related non-structural measures to
promote stability and competition in
the banking sector.
The Commission will make recommendations
covering both:
– Structural measures to reform the
banking system and promote stability and
competition, including the complex issue
of separating retail and investment banking
functions; and
– Related non-structural measures to
promote stability and competition in
banking for the benefit of consumers
and businesses.
In considering these measures the
Commission will have regard to the legal and
operational requirements of implementing
the options under consideration, and
the importance of generating practical
recommendations. It will also take into account
the findings of ongoing EU and international
work, and inform the UK Government’s
approach to international discussions on
the financial system.
The Commission will also have regard to
the Government’s wider goals of financial
stability and creating an efficient, open,
robust and diverse banking sector, with
specific attention paid to the potential
impact of its recommendations on:
– Financial stability;
– Lending to UK consumers and businesses
and the pace of economic recovery;
– Consumer choice;
– The competitiveness of the UK financial
and professional services sectors and the
wider UK economy; and
– Risks to the fiscal position of the Government
The Commission will produce a final report
for the Cabinet Committee on Banking,
by the end of September 2011, having
completed its evidence gathering phase
at the end of January 2011. The written
responses which the ICB have received at this
stage have been published on its website.
The Group’s response can also be found on
our website, www.lloydsbankinggroup.com.
We believe the Group’s ‘through the cycle’
relationship based strategy is consistent with
the aims of the Commission but at this time
it is not possible to gauge the impact of the
review on the Group. We have cooperated
fully with the ICB to date and are expecting
their ‘options paper’, which will set out their
initial thoughts on potential reform, during
April 2011. Following its publication, there
will be a further period of consultation during
which the Group will continue to be at the
forefront of the debate with the ICB.
Dividend payments to shareholders
The recent financial position of the Group along with the behavioural commitments
we entered into as part of the State Aid Restructuring Plan have prevented us paying
dividends on our ordinary shares.
We fully understand the hardship that the lack of dividend has caused many of our shareholders,
and we are working diligently to restore the ability to pay dividends and create shareholder value.
The Board intends to resume dividend payments on ordinary shares as soon as market
conditions and the financial performance of the Group permit, subject to the expiry, in 2012,
of the restrictions on paying dividends arising from the European Commission’s remedies.
12
Lloyds Banking Group
Annual Report
and Accounts 2010
MARKETPLACE TRENDS
The Economy
The global economy has continued to
recover from the deep recession of 2009, but
the recovery is fairly weak by past standards
and its continuation is not assured. Remaining
vulnerabilities in the sustainability of public
finances and the robustness of banking
sectors across the US and Europe have
meant that growth there has faltered during
2010 and required monetary policy to be
kept highly accommodative for longer than
expected at the start of the year. Ireland has
required support from the IMF and EU, and
other high deficit countries in the Eurozone
may do so during 2011. The US has extended
the Bush-era tax cuts, although it is unclear
how much stimulus this will provide given the
need to tighten fiscal policy significantly in
the medium term.
First estimates suggest that the UK economy
grew by 1.4 per cent in 2010, below the long
term average of 2.25 per cent. Growth
peaked in the first half due to the initial boost
from companies beginning to rebuild stocks,
and has slowed during the second half.
Consumer confidence has fallen back and
house prices have recently reversed some of
their 2009 rise. Nevertheless, employment
has held up relatively well, falling by much
less than in previous recessions and
beginning to rise much earlier, although the
recent trend is broadly flat. UK corporate
liquidations have been on a gradually falling
trend since Q3 2009, much earlier than in
previous recoveries, and are now almost back
to the level at the start of the recession.
Related to that, commercial property prices
have now risen by 16 per cent from the
trough reached in July 2009. Even though
house price rises have fallen back slightly
recently, average prices are still 6 per cent
above their trough of April 2009.
The Group’s central scenario is for the
modest recovery in the UK to continue – the
projection of slightly less than 2 per cent
Gross Domestic Product (GDP) growth in 2011
and slightly less than 2.5 per cent in 2012 is
close to consensus and slightly below the
November 2010 forecasts from the Office for
Budget Responsibility. Private and public
sector deleveraging, which is expected to
suppress economic growth, should be more
than offset by a positive contribution from
net external trade (reflecting the weakness of
sterling), by further rebuilding of stocks by
companies and by increased investment.
Public spending cuts may increase
unemployment slightly in 2011, but if the
economy continues to grow, the private
sector should be able to more than offset
that impact from 2012. Similarly, further
declines in corporate insolvencies are likely to
be very slow, limited by the public spending
cuts and the weakness of consumer
spending. House prices and commercial
property prices are expected to dip slightly in
2011 and then rise slowly. The US recovery is
assumed to continue in 2011, and in the
Eurozone there is expected to be a wide
divergence in 2011 between recovery in the
stronger low-deficit countries and the higher
deficit countries that will struggle to grow at
all. The Irish economy, to which we have
exposure, is not expected to grow materially
in 2011. House prices there are expected to
fall a little further in 2011 before flattening in
2012; commercial property prices are
expected to be flat over 2011 and 2012.
Downside risks around this scenario remain
significant. Business and consumer
confidence remains fragile, and the extent to
which simultaneous fiscal tightening across
Europe might undermine global and UK
growth is unclear. Contagion from the Irish
bail-out to other Eurozone economies could
drive further fiscal tightening and worsen the
outlook further. Rising commodity prices
driven by strong recovery in Asia might fuel a
further increase in inflation in the West,
prompting short-term interest rates to rise
more quickly than anticipated. Since any
shock to growth would also worsen the
outlook for both public finances and bank
capital and funding, a relatively small initial
shock could throw economies onto a much
weaker path as governments are forced to
tighten fiscal policy even further or financial
institutions are constrained in their ability to
lend. A ‘double-dip’ scenario – a second
shallower recession following closely the one
that the economy is just emerging from –
would result in further significant increases in
corporate failures and unemployment during
2011-12. In addition, residential and
commercial property would suffer a second
period of falling prices, tenant defaults would
increase and central banks would have
limited ability to cushion the downturn.
Impact on our markets
The weak economic recovery has kept
growth in our markets subdued.
On the retail side, net new mortgage
lending (all new lending minus repayments)
continued to weaken slightly after a
72 per cent fall in 2009, so outstanding
market balances grew by just 0.4 per cent.
Net new unsecured consumer lending
improved in 2010 after turning negative in the
second half of 2010, but at £1.4 billion was
less than 11 per cent of the 2007 level. Part of
the weakness in lending is the natural result
of some lenders having left the market,
particularly in the higher risk segments of
mortgages and personal loans, but we have
also seen a continued desire from customers
to repay debt early where they are able.
Deposit market growth has also remained
weak, with balances rising by 3 per cent
through 2010, as deteriorating disposable
incomes have squeezed savings flows.
Businesses also continue to reduce their
indebtedness. Non-financial corporations
shrunk their borrowings from banks and
building societies by 3.9 per cent in 2010 after
a 2.2 per cent reduction in 2009. Rising profits
and weak investment spending boosted
deposit growth in the latter part of 2009 and
the first half of 2010, but deposit growth has
since weakened to 1.6 per cent over 2010 as
a whole, after 4.5 per cent in 2009.
Low interest rates have, however, been a
key benefit to consumers and businesses
throughout 2010. Arrears and defaults rose
by much less during the recession than in
previous recessions, and began to improve
in 2010 despite the weakness of the recovery
in the economy. The number of company
liquidations in England and Wales fell by
nearly 16 per cent in 2010 after a 23 per cent
rise in 2009, reducing the rate of failure of
active companies to 0.7 per cent from
0.9 per cent in 2009. The number of individual
insolvencies rose by a further 0.7 per cent in
2010 after a 26 per cent rise in 2009, but
insolvencies during the second half of 2010
were 8.7 per cent lower than a year earlier.
The number of mortgages in arrears across
the market fell by 10 per cent in 2010, and the
share in arrears by more than 3 months fell to
its lowest in two years by Q4 2010.
Our customer data shows that a combination
of low interest rates and declining
indebtedness is beginning to strengthen
households’ cashflow. This is positive news
for both impairments’ and the near-term
general economic outlook. Nevertheless, we
expect that a continuation of weak economic
recovery will be accompanied by a sustained
period of weak growth in our markets.
Consumers and businesses will continue to
deleverage slowly. Deposit growth will be
limited by the pressure on consumers’
disposable incomes from wage growth
below inflation and cuts in welfare benefits,
and from rising investment spend by
companies. Arrears trends should continue
to improve, but less quickly in the coming
year than the experience through 2010.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
13
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
BUSINESS REVIEW
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
14
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
KEY HIGHLIGHTS
The Group returned to profitability on a combined
businesses basis with profit before tax of £2,212 million
(2009: £6,300 million loss).
Statutory profit before tax was £281 million (2009: £1,042 million,
including an £11,173 million gain on the acquisition of HBOS); after charging
integration costs of £1,653 million and other adjusting net charges of
£278 million including a loss on disposal of businesses of £365 million.
Loss attributable to equity shareholders was £320 million (2009:
profit of £2,827 million); equivalent to a loss per share of 0.5 pence
(2009: earnings per share of 7.5 pence), after a charge for taxation of
£539 million (2009: credit of £1,911 million) and a charge for profit
attributable to non-controlling interests of £62 million (2009: £126 million).
Good trading performance against the backdrop of modest
growth in UK economy.
Continued active support for the UK’s economic recovery
by providing £30 billion of gross mortgage lending (including
remortgages) and £49 billion of committed gross lending to
businesses, of which £11 billion for SMEs.
Underlying total income increased by 3 per cent to £23,641 million,
including core business income growth of 7 per cent.
Banking net interest margin improved to 2.10 per cent
(2009: 1.77 per cent) with the majority of the gain achieved in the
first half of the year.
Significant reduction in the impairment charge. Impairment
charge was 45 per cent lower at £13,181 million (2009: £23,988 million).
Strong cost performance with a 6 per cent reduction in operating
expenses to £10,928 million. Further improvement in the underlying
cost:income ratio to 46.2 per cent (2009: 50.7 per cent).
Continued strong progress with the integration programme
delivering annual run-rate savings of £1,379 million. Confident of
delivering a run-rate of £2 billion per annum by the end of 2011.
Good progress on balance sheet reduction with cumulative
non-core asset reduction of £105 billion. On track to meet target of
£200 billion over the next three years.
Capital position significantly improved with core tier 1 ratio
increased to 10.2 per cent, primarily reflecting a reduction in risk
weighted assets by 18 per cent to £406.4 billion.
Excellent progress against term funding objectives
with £50 billion of wholesale term issuance in the year.
Customer relationship deposits increased by 3 per cent
reflecting good growth in Retail and in Wealth and International.
Reduction in liquidity support from government and central
bank facilities of £61 billion to £97 billion.
Given the flexibility and capacity we have for core business
growth, we continue to believe that the Group has strong
medium-term prospects, notwithstanding the economic and
regulatory headwinds that we face in 2011.
2010 performance – a return to profitability and a further
reduction in risk
The Group delivered a good operating performance in 2010 against
the backdrop of modest growth in the UK economy, with good revenue
growth in the core business, an improved net interest margin, a further
reduction in costs, and continued strong progress on the integration of
HBOS. The impairment charge reduced significantly, with deterioration
in impairments in Ireland more than offset by substantial improvements
elsewhere in the Group, particularly in the Wholesale division. As a
result the Group returned to profitability in 2010 on a combined
businesses basis, reporting a profit before tax of £2,212 million in 2010,
compared to a loss before tax of £6,300 million in 2009.
The increase in profit before tax was primarily generated by
Wholesale and Retail. Wholesale returned to profitability in 2010
delivering profit before tax of £3,257 million compared to a loss
before tax of £4,703 million in 2009 reflecting a significant reduction
in the impairment charge. Retail profit before tax also increased
significantly to £4,716 million from £1,382 million in 2009 driven by
good income growth and a significantly lower impairment charge.
Insurance delivered a 13 per cent increase in profit before tax to
£1,102 million as our focus on improved profitability of the product set
delivered higher new business profits, despite lower sales. However,
these increases were partially offset by a significant increase in loss
before tax in Wealth and International to £4,824 million from
£2,356 million in 2009, driven by a higher impairment charge,
predominantly due to the material deterioration of the economic
environment in Ireland in the last quarter of 2010.
While the majority of the Group’s 2010 profit was earned in the first half,
when liability management gains in the first half and losses in the
second half arising from the equity conversion feature of the Enhanced
Capital Notes (ECNs) are excluded, the second half saw a significant
improvement in profitability when compared to the first half, driven
by a significant increase in Wholesale profit, partially offset by an
increased loss in Wealth and International.
Statutory profit before tax was £281 million in 2010. While this was a
reduction from £1,042 million in 2009, the 2009 result had benefited
from an £11,173 million credit from the gain arising on the HBOS
acquisition (negative goodwill). In 2010, statutory profit included a
charge for integration costs of £1,653 million (2009: £1,096 million),
a provision of £500 million for customer goodwill payments, and a
loss on disposal of businesses (acquired from a previous lending
relationship) of £365 million; these items were partially offset by a
£910 million pension curtailment gain and positive insurance volatility
of £306 million. After a taxation charge of £539 million (see note 16
on page 181 and 182) and a charge for profit attributable to
non-controlling interests of £62 million, loss attributable to equity
shareholders was £320 million and loss per share amounted to
0.5 pence.
We further reduced risk in the business, through the reduction in
the size of the Group’s balance sheet in line with our strategy and
through the significant improvements in our capital, funding and
liquidity achieved during the year. Our core tier 1 ratio now stands
at 10.2 per cent (2009: 8.1 per cent), and our loan to deposit ratio,
excluding repos, improved to 154 per cent, and to 119 per cent in our
core business. Through strong term wholesale funding issuance
during the year, which totalled £50 billion, we maintained the maturity
profile of the Group’s wholesale funding, with 50 per cent having a
maturity of more than one year. We also made excellent progress in
reducing liquidity support from government and central bank
facilities, which reduced by £60.6 billion to £96.6 billion.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
15
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
Combined businesses results summary – income
2010
£m
2009
£m
Change
%
Net interest income
Other income:
13,822
12,726
Underlying other income
10,361
10,804
Liability management gains
423
1,498
Outlook – strong medium-term prospects
Given the flexibility and capacity we have for core business growth,
we continue to believe that the Group has strong medium-term
prospects, notwithstanding the headwinds that we face in 2011. We
give detailed comments on our prospects in the following sections.
Our medium-term targets remain unchanged. However, having joined
the Group in January, António Horta-Osório will be appointed Group
Chief Executive on 1 March and will be reviewing the business to further
develop the strategy and actions needed to realise its full potential.
He expects to report to the Board and subsequently to shareholders
on the outcome of his strategic review and his plans at the end of the
first half of 2011.
With the Group having returned to profitability in 2010, the risk in the
business further reduced, and our improved capital, funding and
liquidity positions, we now have a stronger business, which is well
positioned for the future.
Reduction in fair value of equity
conversion feature of ECNs
Total income
Insurance claims
Total income, net of
insurance claims
Note on presentation of results
To enable meaningful comparisons to be made with prior periods,
and in line with previous results announcements, the income
statement commentaries below are on a combined businesses basis
(see ‘basis of presentation’ – page 153). Certain commentaries also
exclude the unwind of fair value adjustments.
Underlying income
Net interest income
Underlying other income
Insurance claims
Underlying income
Further, to enable a better understanding of the Group’s core
business trends and outlook, certain income statement and balance
sheet information is analysed between core and non-core portfolios.
Non-core portfolios consist of non-relationship assets and liabilities,
and assets and liabilities which are outside the Group’s current
appetite. The EU mandated retail business disposal is not included
in non-core portfolios.
Core and non-core income
Core
Non-core
Underlying income
9
(4)
(14)
(2)
(2)
9
(4)
3
7
(9)
3
(620)
10,164
23,986
(542)
(427)
11,875
24,601
(637)
23,444
23,964
13,822
10,361
(542)
12,726
10,804
(637)
23,641
22,893
19,371
4,270
23,641
18,188
4,705
22,893
A good revenue performance
Total income, net of insurance claims, decreased by 2 per cent to
£23,444 million, which included a reduction of £1,075 million in gains
from the Group’s liability management exercises and a £193 million
increase in the mark-to-market losses arising from the equity
conversion feature of the Group’s Enhanced Capital Notes. The total
mark-to-market loss relating to the ECNs in 2010 was £620 million, and
comprised a gain of £192 million in the first half of the year and a loss
of £812 million in the second half.
Underlying income, excluding these items, increased by 3 per cent.
The Group delivered a good revenue performance in its core business
in 2010 despite subdued growth in lending markets. Core business
underlying income growth of 7 per cent was, however, partially offset
by a reduction in non-core income of 9 per cent, in line with progress
against the Group’s strategy to reduce the size of its balance sheet.
Group net interest income increased by £1,096 million, or 9 per cent,
to £13,822 million. The net interest margin from our banking
businesses was 33 basis points higher at 2.10 per cent, as higher asset
pricing and reductions in the average spread between base rate and
LIBOR more than offset lower deposit margins in Retail and increasing
wholesale funding spreads. The incremental costs of wholesale
funding have been recorded within Central items. The banking asset
margin increased by 45 basis points to 1.56 per cent, and the banking
liability margin decreased by 31 basis points to 0.97 per cent.
The majority of the net interest margin increase was achieved in the first
half of the year, with only modest improvement in the second half, as
previously guided, given rising wholesale market funding costs, a slowing
migration of mortgages to standard variable rates, continued liability
16
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
margin pressures, and modest additional costs reflecting the successful
increase in term issuance compared to our initial expectations.
Wealth businesses, partially offset by a decline in the banking net
interest margin.
In 2011, we see limited scope to increase asset pricing, with any gains
likely to be offset by elevated wholesale funding costs, while liability
margins will remain under pressure as a result of competitive markets
and low base rates. Given these factors and the margin expansion
since 2009, which we have achieved earlier than expected, we do not
expect further progression in our net interest margin in 2011
compared to 2010 as a whole.
Other income decreased by 14 per cent to £10,164 million. Excluding
liability management gains and movements in the fair value of the
ECNs, underlying other income decreased 4 per cent. This reflected
lower payment protection insurance (PPI) income as a result of the
Group’s decision to withdraw from writing PPI business during the
year, lower overdraft charges following changes to fee structures, and
loss on sale of assets arising from targeted balance sheet reductions,
as well as other elements principally related to changes in financial
market conditions during the year.
Core business income growth was primarily driven by a strong
performance in Retail, where net interest income benefited from an
increase in asset margins, the majority of which occurred in the first
half of the year. This increase was partially offset however by lower
savings margins. Mortgage margins reflected a continued increase
in the proportion of mortgages on standard variable rates (now
representing 48 per cent of outstanding balances), lower LIBOR to
base rate spreads, and higher new business margins as assets were
priced to appropriately reflect risk and changes in funding costs. The
Group achieved a 22.1 per cent share of gross mortgage lending
(2009: 24.1 per cent), in markets which remained generally subdued.
Unsecured lending balances were lower, continuing the recent trend
and reflecting lower customer demand and continuing customer
deleveraging. During the year, we continued to build our current
account and savings customer franchises in what remains a
competitive market for customer deposits, and reduced the
proportion of more expensive term deposits while maintaining good
overall deposit growth of 5 per cent.
In Wholesale, core income grew by 4 per cent, driven by an increase in
the banking net interest margin, principally from asset margin growth,
which largely reflected the repricing of lending business. This was
partially offset by lower net interest income in Treasury and Trading,
reflecting the more stable interest rate environment. Non-core
income decreased by 15 per cent, given lower interest earning asset
balances resulting from the excellent progress in targeted balance
sheet reductions.
In Wealth and International, core income increased by 5 per cent,
driven by the positive effect of foreign exchange movements in the
International business and of higher global stock markets in the
Divisional underlying income performance
The present value of new business premiums in our life, pensions
and investments businesses decreased by 20 per cent, largely
reflecting the focus on improving the profitability of the product
set and the withdrawal of certain HBOS legacy products with lower
returns. However, as a result of the repositioning of the product set,
the benefits of cost savings and a reduction in initial commission on
OEICs in 2010, UK new business profit increased by £135 million to
£267 million. This improved performance shows through the
Insurance division’s UK margins on an EEV basis increasing to
3.7 per cent in 2010, compared to 2.6 per cent in 2009. General
Insurance delivered a robust performance after taking account of
the impact of the 2010 freeze events and the Group’s decision to
cease writing new payment protection business during the year.
Within Group Operations and Central Items, underlying income
decreased by £126 million primarily due to a reduction in the fair value
of derivatives not mitigated through hedge accounting. Net interest
expense was broadly unchanged at £823 million, but included capital
and wholesale liquidity funding costs of £601 million (2009: £260 million)
not recovered from the divisions, with the increase primarily due to
higher wholesale market funding spreads and the Group’s decision to
accelerate its wholesale funding in 2010. These increased costs were
offset by improved net interest from interest rate risk management
activities.
Outlook – income
Core assets accounted for approximately 82 per cent of income in
2010 (2009: 79 per cent), with core income growing 7 per cent. In 2011,
however, we expect income trends will reflect continued customer
deleveraging and subdued new lending demand which, with further
non-core asset reductions, will result in a continued reduction in the
overall size of the Group’s balance sheet. As already stated, we do not
expect to see further net interest margin progression in 2011.
Over time, however, we continue to target core businesses income
growth of between 6 and 7 per cent per year and believe that our
margin is likely to return to more than 2.5 per cent in the medium-term
(approximately 2014) reflecting the effect of modest further
improvements in asset pricing, higher liability margins facilitated by
higher base rates, and greater stability in wholesale funding markets.
We also anticipate reducing our wholesale funding requirements over
this period. This margin outlook reflects, inter alia, our core economic
assumptions for the medium-term, including base rates increasing to
3.75 per cent by the end of this period and no deterioration in consumer
spending, the Group’s asset reduction programme, the assumed costs of
refinancing as wholesale funding matures, and a narrowing of wholesale
market credit spreads over the medium-term. At the same time however,
it is not possible to predict what effect current regulatory discussions
could have on funding costs and therefore margin.
Retail
Wholesale
Wealth and International
Insurance
Group Operations and Central
items
Underlying income
Core
£m
10,394
5,540
1,679
2,009
(251)
19,371
2010
Non-core
£m
591
3,022
657
–
–
4,270
Total
£m
10,985
8,562
2,336
2,009
(251)
23,641
Core
£m
9,386
5,336
1,601
1,990
(125)
18,188
2009
Non-core
£m
388
3,573
744
–
–
4,705
Total
£m
9,774
8,909
2,345
1,990
(125)
22,893
Change
Core
%
11
4
5
1
7
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
17
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
Combined businesses results summary – expenses
2010
£m
2009
£m
Change
%
Operating expenses
(10,928)
(11,609)
Impairment of tangible fixed assets1
(150)
–
Integration synergies run rate at
31 December
Underlying cost:income ratio
1
Further detail is given in note 15, page 181.
(11,078)
(11,609)
1,379
46.2%
766
50.7%
6
5
Strong cost management delivering benefits
The Group has an excellent track record in managing its cost base,
and has delivered a strong cost performance in 2010. During 2010,
operating expenses decreased by 6 per cent to £10,928 million, as
substantial integration related savings were captured, together with
lower levels of operating lease depreciation. After investment,
ongoing business as usual expenses were held within inflationary
levels. Our underlying cost:income ratio also saw further
improvement to 46.2 per cent.
We have already made significant progress in capturing savings from
the integration programme with annual run-rate savings totalling
£1,379 million achieved as at 31 December 2010. The Group is on
track to deliver a run-rate of £2 billion per annum of cost synergies
and other operating efficiencies by the end of 2011.
To date, costs of preparing for the EU mandated disposal of at least
600 UK branches, associated customer assets and liabilities and a
proportion of our mortgage assets, have been modest. However with
integration nearing completion, activity preparing for this divestment
will accelerate significantly. The final cost will depend on the buyer
and the extent to which substantial IT system and infrastructure
development will be necessary. Therefore the total cost is hard to
predict but is likely to be substantial. These costs will be excluded
from combined businesses profits.
With income growth in the short term dependent, inter alia, upon
economic conditions, strong cost management will continue to be an
important focus for management.
Outlook – expenses
We expect that our costs will be broadly flat in 2011, with further
absolute cost savings likely to be partially offset by increased
investment proposed to support the growth of the core business,
increasing regulatory costs, costs resulting from the introduction of
the Bank Levy (which is expected to cost around £260 million in 2011),
and the combined cost in the region of £100 million of the recent rise
in VAT and employers’ National Insurance contributions. Excluding
the cost of the Bank Levy, the Group continues to target a
cost:income ratio of approximately 40 per cent in the medium term.
18
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
Impairment charge significantly lower
The Group achieved a significant reduction in the impairment charge
in 2010, in both the core and non-core businesses. The impairment
charge of £13,181 million was 45 per cent lower than the £23,988 million
charge in 2009, with deterioration in Ireland more than offset by
substantial improvements elsewhere in the Group, particularly in
the Wholesale division.
Impaired loans increased by 10 per cent to £64,606 million, representing
10.3 per cent of closing advances, driven by an increase in impaired
loans in International, partially offset by decreases in Retail and
Wholesale facilitated by improving economic conditions and, in
Wholesale, also as a result of write-offs of irrecoverable assets and the
sale of previously impaired assets. The Group’s coverage ratio
increased by 1.7 per cent to 45.9 per cent, primarily as
a result of an increase in provisions in International, predominantly
in Ireland. Non-core loans and advances to customers generated
approximately 70 per cent of the Group’s impaired loans reflecting
their higher risk profile, with a coverage ratio of around 50 per cent at
31 December 2010. The coverage ratio of the Group’s impaired core
loans and advances to customers was approximately 37 per cent.
In Retail, the improvement in credit performance was faster than
expected a year ago, with the impairment charge as a percentage of
average loans and advances to customers decreasing to 0.74 per cent
in 2010, significantly lower than 1.11 per cent in 2009. The core
business impairment charge decreased by 34 per cent, reflecting the
improved quality of new business and effective portfolio
management and the continuing slow recovery of the economy.
The lower secured impairment charge reflected reduced impaired
loan levels and improved arrears in the first half of 2010, although in
the second half, and particularly in the last quarter, we saw some signs
of strain, with fewer customers returning their accounts to order than
was the case six months ago. House prices fell slightly in the year and
the proportion of the mortgage portfolio with an indexed loan-to-
value of greater than 100 per cent was broadly stable at 13 per cent.
The value of the portfolio with an indexed loan-to-value greater than
100 per cent and more than three months in arrears has increased
slightly by £0.2 billion and is now £3.2 billion, representing 0.9 per cent
of the portfolio. The number of mortgage customers new to arrears
has also remained relatively stable in the last twelve months, and is
now well below the peak experienced in the second half of 2008.
However, as a result of the early signs of strain we saw in the second
half of the year and the subdued economic environment, we expect
to see an increase in the secured impairment charge in 2011.
The unsecured impairment charge decreased by 29 per cent,
reflecting continued improving portfolio trends resulting from the
Group’s prudent risk appetite, management actions taken over the
past two years, and stable unemployment. Unsecured impaired loans
decreased by £0.8 billion to £3.0 billion as a result of fewer cases going
into arrears, improved quality of new business and increased write off
of impaired loans. Impairment provisions as a percentage of impaired
loans decreased to 50.6 per cent from 55.3 per cent, driven largely by
relatively highly provided assets being written off combined with
more stringent criteria for unsecured collections repayment plans.
The Wholesale impairment charge fell significantly from
£15,683 million in 2009 to £4,446 million in 2010. There was a
significant reduction in both the core and non-core businesses
impairment charge. The impairment charge as a percentage of
average loans and advances to customers improved significantly to
2.08 per cent in 2010 compared to 5.92 per cent in 2009.
The decrease in this period generally reflects the significant actions
which were taken in the first half of 2009 on the heritage HBOS
portfolios (including the identification of large impairments post
the HBOS acquisition, especially in corporate real estate, real estate
related and Corporate (UK and US) portfolios), together with the
stabilising UK and US economic environment in 2010, a low interest
rate environment helping to maintain defaults at a lower level and a
number of write backs due to asset disposals.
In Wealth and International, impairment charges totalled £5,988 million,
up 47 per cent on £4,078 million in 2009, reflecting increasing
impairment charges in corporate and real estate in Ireland and
Australia. The majority of the increase was in the non-core portfolio.
The level of losses continues to be dominated by the economic
environment in Ireland, and to a lesser extent has also been influenced
by the performance of specific areas of the Australian economy.
After the release of the Interim Management Statement on
2 November 2010, the Group saw a further significant deterioration in
market conditions in Ireland, with concerns over the country’s fiscal
position leading ultimately to the approval of its application for
EU-IMF financial support on 21 November 2010. Market sentiment
continued to be negatively affected by uncertainty about the political
situation and about the economic effect of the austerity measures
introduced in the Irish Budget of 7 December 2010. As a result, in a
statement dated 17 December 2010, we noted that any economic
recovery in Ireland may take longer to achieve, that asset prices will
remain depressed for longer than previously anticipated and
therefore that we believed that the significant deterioration in the
Combined businesses results summary – impairment charge
2010
Non-core
£m
Core
£m
Retail
Secured
Unsecured
Wholesale
Wealth and International
Ireland
Other
Impairment charge
251
2,372
2,623
1,276
–
221
221
4,120
Total
£m
292
Core
£m
656
2,455
3,318
2,747
4,446
41
83
124
3,170
4,264
4,264
1,503
1,724
5,767
9,061
5,988
13,181
3,974
2,187
–
189
189
6,350
2009
Non-core
£m
133
120
253
13,496
2,949
940
3,889
17,638
Total
£m
789
3,438
4,227
15,683
2,949
1,129
4,078
23,988
Change
Core
%
62
29
34
42
–
(17)
(17)
35
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
19
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
Irish market would affect the timing and level of value realisation from
this portfolio.
Capital resources
Risk-weighted assets
Core tier 1 ratio
Tier 1 capital ratio
Total capital ratio
2010
2009
£406.4bn
£493.3bn
10.2%
11.6%
15.2%
8.1%
9.6%
12.4%
Strong capital ratios
Our capital ratios improved significantly during the year, primarily
reflecting a reduction in risk weighted assets, and balance sheet liability
management transactions. Total capital also increased through further
subordinated debt issuance and through a repatriation of capital held
within our insurance subsidiaries, although this increase was partially
reduced by a revised approach to private equity investments which
have now been deducted from total capital.
Risk weighted assets reduced by 18 per cent to £406.4 billion, driven
by strong management of risk, reduced asset levels and tighter risk
criteria for new business. Reductions were also achieved through
changes to our credit risk measurement methodology in certain
portfolios, including migrating a number of our Wholesale portfolios,
which had previously been modelled on an Advanced Internal
Ratings-Based Approach, to the Foundation Internal Ratings-Based
Approach (FIRB) which will facilitate integration work.
Effects of Basel III on capital
During 2010 the Basel Committee on Banking Supervision has
substantially refined the details of the so called ‘Basel III’ reforms for
an enhanced global capital accord. These include increased minimum
levels of, and quality standards for, capital, increased risk weighting of
assets, and the introduction of a minimum leverage ratio, as well as
the timing and transitional arrangements for implementation. The
final details are still to be clarified, particularly as the reforms are
implemented within the European and UK regulations, which may
include a countercyclical buffer, requiring higher levels of capital to
be held at certain points of the economic cycle, and higher capital
requirements for systemically important financial institutions.
One of the key reforms impacting the Group arises from a revised
treatment of the capital held within our insurance subsidiaries. During
2010, following a strategic review of our capital structure, £0.8 billion
of equity was exchanged for subordinated debt within the insurance
group and £1.5 billion was repatriated from the insurance group.
Whilst this has no overall effect on the Group’s core tier 1 capital
under current Basel regulations, it does deliver a material core tier 1
capital benefit under the proposed Basel III reforms.
At the year end, compared to 30 June 2010, given the deterioration in
market conditions noted above, a further approximately 10 per cent
of the £27 billion Irish portfolio had become impaired, and we have
increased the level of provisions against the portfolio, increasing the
impairment charge relating to Irish exposures for the full year 2010 to
£4.3 billion on a combined businesses basis. This has resulted in an
increase in provisions as a percentage of impaired Irish loans to
53.7 per cent at the 2010 year end, in line with our expectations in our
statement of 17 December 2010.
In Australia, although economic performance has been robust overall,
there are significant geographical and sector variations, and property
assets situated outside the principal metropolitan areas have been
particularly weak. Our exposure to these areas within our Australian
portfolio drove increased impairments in 2010.
Outlook – impairment
Overall, and based on our current economic assumptions for the UK
and Ireland, including unemployment and property valuations, we
expect to see further reductions in impairment losses in 2011 and
beyond. We continue to target an improvement in the overall Group
impairment charge as a percentage of average loans and advances
to customers towards an expected 50-60 basis points by around 2014,
as economic conditions improve.
In Retail, given our expectations for a modest improvement in the
UK economic environment, and a further 2 per cent reduction in
house prices in 2011, we currently expect that there will be a modest
reduction in the overall Retail impairment charge in 2011. The rate of
improvement is, however, expected to be significantly slower than in
2010, with the improving performance of the unsecured book more
than offsetting additional secured charges.
In Wholesale, depending upon UK economic conditions, notably
consumer spending, future commercial real estate price stability, the
continuation of low interest rates, and the performance of individually
large exposures, we would expect to see a further modest reduction
in 2011 as a whole, although the timing of the trend is inherently
hard to predict. As previously guided, we expect the overall net
impairment charge in our traditional lending businesses (especially
in the trading and manufacturing sectors) to increase in 2011, driven in
part by lower write backs on asset disposals compared to 2010
and the effect of the UK government austerity measures on the
wider economy. However, we also expect our impairment charges in
corporate real estate and real estate related sectors to be lower than
2010 as a result of a continuing stabilisation of the existing portfolio.
We remain vigilant in monitoring changes in economic conditions and
to individual lending positions and we continue to invest heavily in
expert resource to work with customers to restructure their businesses
on to sustainable bases, thus protecting employment where possible.
Despite the worsening trend during 2010, we expect to see a
reduction in the Wealth and International impairment charge in 2011,
although we anticipate that conditions will remain difficult, and we will
therefore continue to monitor international markets closely.
20
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
Outlook – capital resources
The effect of the Basel III reforms is uncertain as much will depend on
business performance and mitigating actions that can be completed,
even before the transition period comes in to effect. Analysis suggests
that with no mitigating actions the reforms will reduce the Group’s core
tier 1 ratio by approximately 1.2 per cent in 2013, although lower risk
weighted assets are expected from the planned reduction in the
non-core balance sheet. The additional impact in 2014 of deducting the
equity investment in insurance in excess of 10 per cent, transitioning
in at 20 per cent per annum from 1 January 2014, would be around
0.3 per cent were the Group to take no further action to mitigate this.
The Group is confident that it is well positioned to maintain a strong
capital position, meeting all regulatory requirements as currently
formulated.
Based on our economic outlook, we continue to target returns on
equity of more than 15 per cent over the medium to longer term.
However, there continue to be material uncertainties as to future
capital requirements and therefore we cannot be more specific at
this stage.
Balance sheet
As at 31 December
Funded assets1
Non-core assets2
1
2
Further analysis is set out on page 95.
Further analysis is set out on page 55.
2010
£bn
655.0
194.7
2009
£bn
715.1
236.1
Rightsizing the balance sheet
Total Group funded assets decreased to £655.0 billion from
£715.1 billion at 31 December 2009, substantially driven by reductions
in non-core lending portfolios across the three banking divisions,
continued customer deleveraging and de-risking and subdued
demand in lending markets. We are pleased with the progress made
on our balance sheet reduction plans in the period, given challenging
market conditions, particularly in the latter part of 2010.
Previously, we set out our strategy to reduce non-core assets,
including non-relationship assets and businesses which are outside
our current appetite, by some £200 billion from a non-relationship
pool of £300 billion. It continues to be our intention to manage these
assets for value and, given the current economic climate, our primary
focus remains on running these assets down over time. This strategy
has been very effective and so far reductions of £105 billion have
been achieved.
Outlook – balance sheet
We are confident of achieving our targeted further reductions in
non-core assets of approximately £100 billion over the next three years.
In addition, we continue to progress plans to execute the divestment of
retail assets and liabilities in line with our state aid obligations.
The balance sheet reduction over time is providing the Group with
increased optionality and flexibility from the resultant releases in both
funding and capital. Together with initiatives to increase customer
deposits in line with market growth, we expect to reduce the
proportion of the Group’s funding that is derived from wholesale
markets and eliminate our use of government and central bank
facilities by the end of 2012. This will provide capacity for core
business growth in line with our relationship strategy. In 2011,
however, we expect to see a continuation in the trend of customer
deleveraging and generally subdued demand for new lending.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
21
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
The Group made excellent progress on reducing its liquidity support
from governmental and central bank sources, achieving reductions of
£60.6 billion in 2010 leaving £96.6 billion outstanding at the year end.
The Group currently receives no liquidity support from either the
US Federal Reserve or the European Central Bank. The drawings from
the UK Special Liquidity Scheme facilities and the issuance under the
UK Credit Guarantee Scheme have various maturity dates, the last of
which is in the fourth quarter of 2012. The Group is confident that all
maturities can be met, and a further £13 billion of government and
central bank facilities have been repaid since the year end.
Outlook – liquidity and funding
We expect the combination of continued increases in customer
deposits and reductions in assets (primarily from non-core asset
reduction plans) over the next three years to deliver further
improvements in the Group’s liquidity and funding position. As a
consequence, we expect steady improvement in the overall loan to
deposit ratio (which is expected to fall to below 140 per cent within
three years), a reduction in wholesale funding requirements and
therefore levels of ongoing term issuance, and liquidity levels to be
maintained in excess of regulatory requirements.
Liquidity and funding
As at 31 December
Wholesale funding
Loan to deposit ratio1
Core business loan to deposit ratio1
2010
2009
£298.0bn
£325.5bn
154%
119%
169%
128%
Government and central bank funding
£96.6bn
£157.2bn
Proportion of wholesale funding with maturity
of greater than one year
50%
50%
1
Excluding repos and reverse repos.
A strengthened liquidity and funding position
The Group made excellent progress against its funding objectives in
2010 and further enhanced its liquidity position which is supported by
a robust and stable customer deposit base. While total customer
deposits fell 3 per cent, deposits excluding repurchase agreements
increased by 3 per cent, reflecting good growth in relationship
deposits in Retail and in Wealth and International.
The Group has continued to reduce its reliance on short-term
wholesale funding. During the year the absolute level of Group
wholesale funding fell to £298.0 billion, from £325.5 billion at the end
of 2009, reflecting a reduction in balance sheet assets. By the end of
2010, our loan to deposit ratio, excluding repos and reverse repos, had
improved to 154 per cent. Strong term issuance in 2010 also allowed
the Group to maintain its maturity profile of wholesale funding with
50 per cent of wholesale funding having a maturity date greater than
one year at 31 December 2010.
As previously guided, over the next couple of years the Group expects
its public capital and senior funding issuance to be £20 billion to
£25 billion per annum. We made excellent progress in 2010 on our term
funding issuance plans, achieving £30 billion of publicly placed term
issuance in the year. In addition, the Group issued a further £20 billion of
term funding during the year via a series of privately placed funding
transactions, a level which we do not expect to repeat in 2011. The
Group continues to benefit from a diversity of funding sources. For
example, during the year, we established a new funding programme in
the US with our SEC Registered Shelf, issued inaugural Japanese Yen
Samurai, Swiss Franc and Canadian Dollar bonds, and publicly
launched the Lloyds TSB Bank plc Covered Bond Programme. We
continue to look for opportunities to diversify our funding sources.
We welcome the proposals on minimum standards for funding
liquidity published by the Basel Committee on Banking Supervision in
December 2010. The introduction of the Liquidity Coverage Ratio and
Net Stable Funding Ratio will raise the resilience of banks to potential
liquidity shocks and provide the basis for a harmonised approach
to liquidity risk management. These proposals are subject to ongoing
refinement and have not yet been enacted into UK and European law.
However, the Group monitors compliance against these internal
metrics, and as at 31 December 2010, the Group’s Liquidity Coverage
Ratio was estimated at 71 per cent and the Net Stable Funding Ratio
at 88 per cent. The actions already in place to reduce the size of the
balance sheet are expected to ensure compliance with the future
minimum standards, which are expected to be 100 per cent for both
ratios, by their respective effective dates.
22
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
Reconciliation of combined businesses results to statutory results
Profit (loss) before tax –
combined businesses
Integration costs
Volatility arising in insurance businesses
Amortisation of purchased intangibles and
goodwill impairment
Pension curtailment gain
Customer goodwill payments provision
Loss on disposal of businesses
Government Asset Protection Scheme fee
Negative goodwill credit
Pre-acquisition results of HBOS plc
Profit before tax – statutory
Taxation
Profit (loss) for the year
Earnings per share
2010
£ million
2009
£ million
2,212
(1,653)
306
(629)
910
(500)
(365)
–
–
–
281
(539)
(258)
(0.5)
p
(6,300)
(1,096)
478
(993)
–
–
–
(2,500)
11,173
280
1,042
1,911
2,953
7.5p
Integration costs
One-off integration costs of £1,653 million were incurred in 2010,
bringing the total integration costs since the HBOS acquisition to
£2,749 million. The integration costs relate to severance, IT and
business costs of implementation.
Volatility arising in insurance businesses
A large proportion of the funds held by the Group’s insurance
businesses are invested in assets which are expected to be held
on a long-term basis and which are inherently subject to short-term
investment market fluctuations. Whilst it is expected that these
investments will provide enhanced returns over the longer term, the
short-term effect of investment market volatility can be significant.
In 2010, higher equity market returns compared to our long-term
assumptions have contributed to positive insurance and policyholder
volatility totalling £306 million.
Pension curtailment gain
A net curtailment gain of £910 million was recognised in 2010
following changes to the Group’s UK defined benefit pension
schemes. In the first half of 2010 the Group implemented changes to
the terms of its UK defined benefit pension schemes. As a result of
these changes, the amount of any future salary increases that will be
deemed pensionable will be capped each year at the lower of Retail
Price Index inflation; each employee’s actual percentage increase in
pay; and 2 per cent of pensionable pay. This resulted in a curtailment
gain of £1,019 million, but was partially offset in the second half of 2010
from a change in the commutation factors in certain defined
benefit schemes.
Customer goodwill payments provision
On 21 February, 2011, we announced that we had reached a voluntary
agreement with the Financial Services Authority (FSA) to initiate a
customer review and contact programme regarding outstanding
concerns relating to the variation of limits on some Retail mortgage
contracts. These specifically related to some Halifax standard variable
rate mortgage customers, where the wording in the mortgage offer
documents received by these customers had the potential to cause
confusion. Under the contact programme, goodwill payments will be
made to affected customers.
We have made a customer goodwill payments provision in 2010 of
£500 million in relation to the contact programme. This provision,
which has been excluded from combined businesses profits, is
expected to fully cover the costs of the programme. Further detail
is given in note 45 on page 216.
Loss on disposal of businesses
During 2010, the Group recorded a loss of £365 million on the
disposal of two wholly-owned subsidiary companies, acquired from
a previous lending relationship, each of which owned an oil drilling rig
under construction. Consistent with the Group’s previous treatment,
this loss has been reported outside of the Group’s combined
businesses results.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
23
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
Taxation
Bank of Scotland (Ireland) Limited
In February 2010, we announced that we would close our retail and
intermediary business in the Republic of Ireland, and in August 2010
we announced that we would transfer, subject to the necessary
approvals, the Bank of Scotland (Ireland) Limited (BOSI) business to
Bank of Scotland plc. The business was transferred to Bank of
Scotland plc on 31 December 2010, including all of the strategic
management and decision making activities, at which point BOSI
ceased to exist. As a result the Group no longer has any regulated
banking business in the Republic of Ireland. Bank of Scotland plc will
utilise its extensive operational and management capability, including
general and credit management, oversight and control, within the UK
in relation to the Irish portfolio, aiding the efficient run-down of the
existing lending portfolio.
UK economic outlook
We continue to believe that a slow recovery over the next couple
of years remains the most likely outcome for the UK economy. Our
central planning scenario reflects a number of economic assumptions
including that GDP growth will recover to approximately 1.9 per cent
in 2011 with a further increase to 2.4 per cent in 2012. We expect a
decrease of 2 per cent in UK house prices in 2011, with a 2 per cent
increase in 2012. We also expect a decrease of 2 per cent in commercial
property prices in 2011 and a recovery of 3 per cent in 2012. Finally,
we believe that unemployment will peak at 8.1 per cent in 2011.
Outlook – strong medium-term prospects
Given the flexibility and capacity we have for core business growth,
we continue to believe that the Group has strong medium-term
prospects, notwithstanding the headwinds that we face in 2011.
Our medium-term targets remain unchanged. However, having joined
the Group in January, António Horta-Osório will be appointed Group
Chief Executive on 1 March, and will be reviewing the business to
further develop the strategy and actions needed to realise its full
potential. He expects to report to the Board and subsequently to
shareholders on the outcome of his strategic review and his plans
at the end of the first half of 2011.
With the Group having returned to profitability in 2010, the risk in
the business further reduced, and our improved capital, funding and
liquidity positions, we now have a stronger business, which is well
positioned for the future.
Tim J W Tookey
Group Finance Director
The tax charge for the year to 31 December 2010 was £539 million.
This reflects a higher effective tax rate than the UK statutory rate
primarily due to the effect of partially unrelieved losses in Ireland and
Australia, policyholder tax, and the effect on deferred tax of the
reduction in the UK corporation tax rate from 28 per cent to
27 per cent with effect from 1 April 2011.
Acquisition related balance sheet adjustments
Profit before tax includes the unwind of £3,118 million of acquisition
related fair value adjustments, of which £2,229 million relates to
impairments. This is ahead of our previous expectation of approximately
£2,500 million due to the acceleration of amounts held against the
Group’s securities portfolios as expectations of future credit losses
have improved. In 2011, we expect a further benefit of some £2 billion
broadly in line with previous guidance. Thereafter, over the medium
term, declining annual benefits are expected to accrue.
Legal and regulatory
There has been extensive scrutiny of the Payment Protection
Insurance market in recent years, and the Financial Services Authority
issued its final Policy Statement on PPI complaints handling in August
2010. The application of this Policy Statement could in extremis have
a material impact on the Group’s financial position. In October 2010,
an application for judicial review was issued by the British Bankers’
Association challenging the FSA’s new standards for PPI complaints
handling and the Financial Ombudsman Service’s approach to such
complaints. The hearing was held in late January 2011, and the
judgement (which may be subject to appeal) is expected shortly.
Further detail is given in note 54 on page 237.
The UK Government has appointed an Independent Commission on
Banking (ICB) to review structural measures to reform the banking
system and promote stability and competition. The ICB is not
expected to publish its final report until September 2011 and it is
too early to quantify any possible effect on the Group.
Financial Services Compensation Scheme (FSCS) costs in respect of
certain investment company failures have now started to emerge and,
although relevant costs cannot be predicted, we expect that during
the course of 2011 the Group will be required to make contributions
towards such costs as required by the FSCS.
Lending to homeowners and businesses
The Group continues to actively support the UK economy by lending
to UK households and businesses. In 2010, we have extended
£30 billion of gross mortgage lending (including remortgages)
and £49 billion of committed gross lending to businesses, of which
£11 billion was for SMEs.
Under the terms of our lending commitments to the UK Government,
we agreed to make available gross new lending of £67 billion in the
12 months to 28 February 2011, of which £23 billion would be extended
to homeowners and £44 billion to UK businesses. In the ten months
from 1 March to 31 December 2010, we have extended lending that
qualifies under the programme totalling over £20 billion to UK
homeowners and over £42 billion to UK businesses, of which £10 billion
has been extended to SMEs and we are on track to meet our lending
commitments in full.
24
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
Combined businesses segmental analysis
2010
Net interest income
Other income
Total income
Insurance claims
Total income, net of insurance claims
Costs:
Operating expenses
Impairment of tangible fixed assets
Trading surplus
Impairment
Share of results of joint ventures and associates
Profit (loss) before tax and fair value unwind
Fair value unwind1
Profit (loss) before tax
Banking net interest margin2
Cost:income ratio3
Impairment as a percentage of
average advances4
Key balance sheet and other items
31 December 2010
Loans and advances to customers
Customer deposits
Risk-weighted assets
Wholesale
£m
Wealth and
International
£m
Group
Operations and
Central items
£m
Insurance
£m
Retail
£m
9,378
1,607
10,985
–
10,985
(4,644)
–
(4,644)
6,341
(2,747)
17
3,611
1,105
4,716
2.46%
42.3%
4,426
4,136
8,562
–
8,562
(3,744)
(150)
(3,894)
4,668
(4,446)
(95)
127
3,130
3,257
1.88%
43.5%
1,176
1,160
2,336
–
2,336
(1,536)
–
(1,536)
800
(5,988)
(8)
(5,196)
372
(4,824)
1.63%
65.8%
0.74%
2.08%
8.90%
£bn
363.7
235.6
109.3
£bn
173.2
124.3
222.7
£bn
55.3
32.8
58.7
(263)
2,814
2,551
(542)
2,009
(854)
–
(854)
1,155
–
(10)
1,145
(43)
1,102
42.5%
£bn
(895)
447
(448)
–
(448)
(150)
–
(150)
(598)
–
5
(593)
(1,446)
(2,039)
£bn
0.4
0.9
15.7
Group
£m
13,822
10,164
23,986
(542)
23,444
(10,928)
(150)
(11,078)
12,366
(13,181)
(91)
(906)
3,118
2,212
2.10%
46.6%
2.01%
£bn
592.6
393.6
406.4
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
25
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
Combined businesses segmental analysis continued
2009
Net interest income
Other income
Total income
Insurance claims
Total income, net of insurance claims
Operating expenses
Trading surplus
Impairment
Share of results of joint ventures and associates
Profit (loss) before tax and fair value unwind
Fair value unwind1
Profit (loss) before tax
Banking net interest margin2
Cost:income ratio3
Impairment as a percentage of
average advances4
Key balance sheet and other items
31 December 2009
Loans and advances to customers
Customer deposits
Risk-weighted assets
Wholesale
£m
Wealth and
International
£m
Group
Operations and
Central items
£m
Insurance
£m
Retail
£m
7,970
1,804
9,774
–
9,774
(4,566)
5,208
(4,227)
(6)
975
407
1,382
1.97%
46.7%
4,710
4,199
8,909
–
8,909
(4,106)
4,803
(15,683)
(720)
(11,600)
6,897
(4,703)
1.52%
46.1%
1,217
1,128
2,345
–
2,345
(1,544)
801
(4,078)
(21)
(3,298)
942
(2,356)
1.71%
65.8%
1.11%
5.92%
6.04%
£bn
371.1
224.1
128.6
£bn
191.8
153.4
286.0
£bn
63.5
29.0
63.2
(287)
2,944
2,657
(637)
2,020
(974)
1,046
–
(22)
1,024
(49)
975
48.2%
£bn
(884)
1,800
916
–
916
(419)
497
–
2
499
(2,097)
(1,598)
£bn
0.6
0.2
15.5
Group
£m
12,726
11,875
24,601
(637)
23,964
(11,609)
12,355
(23,988)
(767)
(12,400)
6,100
(6,300)
1.77%
48.4%
3.25%
£bn
627.0
406.7
493.3
1
2
3
4
The net credit in 2010 of £3,118 million is mainly attributable to a reduction in the impairment charge of £2,229 million and an increase in other income of £1,195 million, as losses reflected in the
acquisition balance sheet valuations of the lending and securities portfolios have been incurred, together with other hedging adjustments. This has been partly offset by a charge to net interest
income of £301 million. The impact of the fair value unwind on net interest income is lower than in 2009 because the liability management exercises undertaken by the Group have had the effect of
crystallising a proportion of the gains reflected in the opening balance sheet valuation of HBOS’s own debt; there has also been a benefit from revised expectations of future impairment losses likely
to emerge from certain retail lending portfolios.
The calculation basis for banking net interest margins is set out on page 54.
Operating expenses divided by total income net of insurance claims.
Impairment on loans and advances to customers divided by average loans and advances to customers, excluding reverse repo transactions, gross of allowance for impairment losses.
26
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
RETAIL
KEY OPERATING BRANDS
PROFILE
Retail operates the largest retail bank
in the UK and is the leading provider
of current accounts, savings, personal
loans, credit cards and mortgages. With
its strong stable of brands including
Lloyds TSB, Halifax, Bank of Scotland
and Cheltenham & Gloucester, it serves
over 30 million customers through
one of the largest branch and fee free
ATM networks in the UK.
Retail is focused on effectively meeting the
needs of its customers. The division has
over 22 million current account customers
and provides social banking to over four
million people through basic banking or
social banking accounts. It is also the largest
provider of personal loans in the UK, as
well as being the UK’s leading credit card
issuer. Retail provides over one in five new
residential mortgages making it one of the
leading UK mortgage lenders and provided
over 50,000 mortgages to help first time
buyers in 2010. Retail is the largest private
sector savings provider in the UK. It is also a
major general insurance and bancassurance
distributor, offering a wide range of
long-term savings, investment and general
insurance products.
2010 HIGHLIGHTS
Profit before tax increased to £4,716 million, compared to £1,382 million in 2009.
Profit before tax and fair value unwind increased to £3,611 million, a strong increase
of £2,636 million compared to 2009, driven by good income growth, tight cost control and
a significantly lower impairment charge.
Net interest income increased by £1,408 million or 18 per cent to £9,378 million,
largely as a result of the continuing re-pricing of risk, mortgage customers moving onto
standard variable rates and a decrease in the LIBOR to Base Rate spread.
Other income decreased by £197 million or 11 per cent to £1,607 million, relating
particularly to changes to current account overdraft structures.
Operating expenses remain tightly controlled, increasing by only 2 per cent to
£4,644 million, which combined with strong income growth led to a significant reduction in
the cost:income ratio to 42.3 per cent. Operating expenses benefited from continuing cost
control as well as cost synergies.
The impairment charge reduced significantly to £2,747 million, down by 35 per cent,
supported by prudent risk management, a stabilising economy, broadly stable house prices
and low interest rates. The improvement in credit performance was faster than expected
a year ago.
Loans and advances to customers decreased by £7.4 billion, or 2 per cent to
£363.7 billion, as customers continued to reduce their personal indebtedness, particularly
unsecured debt. While mortgage balances declined by £3.8 billion, Retail continued to
support first time buyers and home movers with gross mortgage lending of £30 billion.
Customer deposits increased by £11.5 billion, or 5 per cent, to £235.6 billion,
predominantly from instant access and tax free ISA accounts rather than more expensive
term deposits.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
27
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
PERFORMANCE SUMMARY
Net interest income
Other income
Total income
Operating expenses
Trading surplus
Impairment
Share of results of joint ventures and associates
Profit before tax and fair value unwind
Fair value unwind
Profit before tax
Banking net interest margin
Banking asset margin
Banking liability margin
Cost:income ratio
Impairment as a % of average advances
As at 31 December
Key balance sheet and other items
Loans and advances to customers:
Secured
Unsecured
Customer deposits:
Savings
Current accounts
Risk-weighted assets
2010
£m
9,378
1,607
10,985
(4,644)
6,341
(2,747)
17
3,611
1,105
4,716
2.46%
1.93%
0.87%
42.3%
0.74%
2010
£bn
337.3
26.4
363.7
195.3
40.3
235.6
109.3
2009
£m
7,970
1,804
9,774
(4,566)
5,208
(4,227)
(6)
975
407
1,382
1.97%
1.18%
1.41%
46.7%
1.11%
2009
£bn
341.1
30.0
371.1
185.6
38.5
224.1
128.6
Change
%
18
(11)
12
(2)
22
35
PERFORMANCE INDICATORS
Profit before tax
£m
2008
2,542
2009
1,382
2010
4,716
Income and operating expenses
growth
%
Income
2
000.0
12
Operating expenses
Customer deposits
£bn
Change
%
2008
2009
2010
216.3
224.1
235.6
(1)
(12)
(2)
5
5
5
(15)
Loans and advances to customers
£bn
2008
2009
2010
377.1
371.1
363.7
28
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
RETAIL
Strategic vision
Retail’s goal is to be recognised by customers as the UK’s best bank.
This will be achieved by building deep and enduring customer
relationships which deliver real value to customers. Retail believes this
strategy will drive sustainable long term value for all stakeholders.
A deep understanding of customers and their needs combined with
highly efficient and effective processes will allow more investment in
products and services that customers really value. Retail is increasing
its capabilities through the integration of Lloyds TSB and HBOS which
presents a great opportunity to use the best from each heritage and
significantly improve systems and processes. This includes extending
Lloyds TSB’s strong customer insight capabilities to Halifax and Bank
of Scotland. Success for Retail will be reflected in enhanced customer
service resulting in strong customer advocacy which in turn leads to
lower customer acquisition costs, increased share of wallet and
improved customer retention.
Progress against strategic initiatives
Deep and enduring customer relationships
The Retail strategy is to build deep and enduring relationships so that
customers choose Retail’s relationship brands (Lloyds TSB, Halifax and
Bank of Scotland) for more of their financial needs. This is being
achieved through offering a broad range of products that address
customer needs, alongside superior customer service and advice.
Retail also continues to work to ensure customers are the focus of
business development including instituting a number of programmes
to ensure key customer needs underpin ongoing product and service
development.
During 2010, Retail successfully delivered a number of elements of the
strategy, with a focus on rebuilding trust with customers. A primary
focus was the development of products that are simple, transparent
and easy for customers to understand. Customer demand for these
products has been very positive. For example, the customer response
to the Halifax’s Clarity card has been strong with 145,000 new cards
issued since its launch in July 2010. This card leads the market in terms
of transparency and simplicity with a single customer interest rate and
no usage fees for balance transfers, cash withdrawals and
international usage.
Retail has also continued to develop its current account switching facility,
which plays a key role in building a strong relationship with new
customers, by making it easy for customers to switch. Experience has
shown that after customers use the current account switching facility, they
are over 70 per cent more likely to transfer their primary current account.
Creating products and services that customers value
A focus on customers, including active use of Retail’s strong customer
insight capability, ensures that products and services are customer-
led in a highly competitive market. Retail has a strong record of
award-winning products and services.
Retail is committed to supporting the housing market and working with
customers to find solutions to their changing situations. An example of
this is the recently launched Equity Support Scheme that enables
customers with low or negative equity to move home. This scheme
recognises that there are significant numbers of customers who are
making payments on their mortgage and have a desire to move but
due to lack of equity have been unable to do so. Retail has also
extended its popular first time buyer ‘Lend a Hand’ mortgage to all
home movers. This product helps customers through allowing friends
and family to contribute to a savings account supporting a mortgage.
Retail continues to work to deliver products and services that address
customer needs. An example of this is the recently launched Halifax
Cash ISA Promise. In the month following the launch in October 2010
the ISA business performed significantly ahead of expectations with
44,000 accounts transferred, despite the launch being outside of the
traditional ISA season. This industry leading promise addresses the
poor transfer times between ISA providers, by promising to pay
interest on new cash ISAs from the completed application date rather
than when funds are transferred into the account, often weeks later.
The other parts of the promise are increased information on cash ISA
interest rates and an assurance that all cash ISAs are open to both
new and existing customers.
Continually improving customer service
Retail continues to benefit from the opportunities afforded by its
heritage businesses and is taking the best from the Lloyds TSB and
HBOS franchises to create ‘one best way’ of doing things. Integration,
together with changes in working practices, will deliver significant
increases in efficiency which will allow further investment in the
products and services that customers really value and will deliver a
better customer experience.
Internet banking continues to grow in popularity amongst Retail’s
customers. To support the development and broaden the potential
of this format Retail has introduced a new internet platform which was
rolled out to Lloyds TSB customers during 2010. One example of the
new services being delivered on this platform is Money Manager
which provides an innovative tool for customers to better manage
their finances.
Retail has been implementing new sales and customer service
technology for mortgages and bancassurance across the network.
These are being delivered to improve the quality of customer advice
and increase the speed of decision making. The Mortgage Sales
Platform offers customers a more comprehensive interview
experience, a faster mortgage decision and ‘one best way’ of selling
mortgages across its brands. In the bancassurance business a new
platform has been rolled out to advisors, with tools which better
identify customer’s needs. This innovative platform also brings
portfolio modelling tools to the Retail market.
Mobile banking is another key growth area and Retail is investing to
make financial services more accessible and to increase the range of
options available to customers. Lloyds TSB has launched a mobile
banking application that allows customers to manage their money
on the move, including transferring funds between accounts via their
mobiles. Lloyds TSB now also offers a range of free text alerts,
including balance updates and near limit alerts, thereby helping
customers to better control their finances.
Integration
Retail has made good progress with integration, delivering significant
cost savings and increased productivity as well as optimising
performance across the business. The division has delivered run-rate
synergies of £529 million at the end of 2010 and is on track to achieve
run-rate synergies of £867 million by the end of 2011.
In 2010, Retail commenced the roll-out of a single counter system
across all its branches providing a strong and efficient platform with
increased functionality to further improve customer service. This is
being supported by a ‘one best way’ programme that ensures there
is a single efficient and effective approach to all major processes.
As part of the integration Lloyds TSB’s Protection for Life
bancassurance product range was extended into Halifax and Bank of
Scotland. The impact of these changes has already been significant
with close to 50 per cent uplift in protection new business premiums
in Halifax and Bank of Scotland.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
29
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
Financial performance
Profit before tax increased to £4,716 million compared to
£1,382 million in 2009, an increase of £3,334 million. This included
an increase of £698 million in respect of the fair value unwind.
Profit before tax and fair value unwind increased to £3,611 million,
a significant improvement compared to £975 million in 2009. This
increase in profit was driven by strong income growth, tight cost
control and a significant reduction in the impairment charge in the
context of a stabilising economy.
Total income increased by £1,211 million, or 12 per cent, to
£10,985 million. This was driven by a strong increase in net interest
income of £1,408 million, partially offset by a reduction in other
income of £197 million.
Net interest income increased by 18 per cent, with a significant
increase in the net interest margin to 2.46 per cent, from 1.97 per cent
in 2009. The asset margins expanded significantly during 2010 from
1.18 per cent to 1.93 per cent as a result of decreases in LIBOR to base
rate spread and stable customer interest rates. The asset margin also
widened partly as a result of mortgage customers continuing to move
onto, and staying on, standard variable rates and assets being priced
to more appropriately reflect risk and rising funding costs. The liability
margin, on the other hand, has reduced from 1.41 per cent to
0.87 per cent as the effect of lower LIBOR to base rate spreads was
partially offset by the reduction of expensive deposit balances.
Other income decreased by 11 per cent in 2010 to £1,607 million from
£1,804 million largely as a result of changes to current account
overdraft charges. Retail continues to focus on having fees and rates
that customers understand. It is believed that this will result in
stronger customer relationships as well as supporting the deepening
of these relationships. An example of this focus is the changes to the
overdraft charging structure for Halifax and Bank of Scotland personal
current accounts at the end of 2009, which delivers a more suitable
product proposition and an improved customer experience and
resulted in a reduction in other income of approximately £90 million.
Similarly, the changes to the Lloyds TSB current account pricing
model, which became effective at the end of 2010, provide a simpler,
more sustainable proposition for customers, resulting in an overall
reduction in the cost of overdraft usage.
Total income is analysed as follows and reflects the trends discussed
above:
Mortgages and Savings
Consumer Banking
Total income
2010
£m
4,739
6,246
10,985
2009
£m
3,667
6,107
9,774
Change
%
29
2
12
Operating expenses remained well controlled and increased by
2 per cent, against an increase in total income of 12 per cent,
reflecting ongoing cost control and synergies from the integration.
The cost:income ratio for the year improved to 42.3 per cent
compared to 46.7 per cent in 2009.
The impairment charge on loans and advances decreased by
£1,480 million, or 35 per cent, to £2,747 million reflecting the stabilising
economy, more stable house prices, low interest rates and prudent
lending criteria. As a percentage of average advances, the impairment
charge decreased to 0.74 per cent, significantly lower than 1.11 per cent
in 2009. The secured impairment charge reduced to £292 million from
£789 million in 2009 while the unsecured impairment charge reduced
to £2,455 million from £3,438 million in 2009.
The fair value unwind net credit of £1,105 million compares with
£407 million in 2009. The net fair value unwind credit was larger than
in 2009 which reflected a smaller charge related to the fixed rate
mortgage portfolios as mortgages reached the end of their fixed
term and borrowers moved to standard variable products. This was
partially offset by a reduction in the credit attributed to the fixed rate
savings portfolio as fixed rate term deposits, existing prior to
acquisition, matured.
Balance sheet progress
Total loans and advances to customers decreased by £7.4 billion, or
2 per cent, to £363.7 billion, compared to 31 December 2009. This
resulted from reduced customer demand for credit and customers
continuing to reduce their personal indebtedness. The reduction
in lending to customers was partly the result of the repayment of
unsecured debt where balances reduced by £3.6 billion, or
12 per cent.
Secured balances were broadly stable as Retail maintained its strong
commitment to the housing market and first time buyers. The
proportion of mortgages on standard variable rate or equivalent
products now stands at 48 per cent and is expected to rise only
modestly during 2011.
The UK mortgage market for both house purchase and
re-mortgaging was slightly lower in 2010, with gross market lending
of £136.1 billion compared to £143.3 billion in 2009. Retail’s gross
mortgage lending (including remortgages) was £30 billion in 2010.
This lending included full delivery on agreed lending commitments.
New mortgage lending continued to be focused on supporting the
housing market with more than 70 per cent of the lending being for
house purchase rather than re-mortgaging. Retail remains the largest
lender to first time buyers in the market helping over 50,000
customers buy their first home. It also continues to be an industry
leader in its support for shared equity and shared ownership
schemes.
Risk-weighted assets decreased by £19.3 billion, or 15 per cent, to
£109.3 billion in 2010. This reduction was driven by lower lending
balances, recalibrated downturn loss given default rates and the lower
risk mix of the loan portfolio with reduced exposure to unsecured
lending.
Total customer deposits increased by £11.5 billion, or 5 per cent, to
£235.6 billion in the year. The growth was predominantly from instant
access and tax free cash ISA accounts, rather than more expensive
term deposits. This approach has helped support the net interest
margin. Retail continues to perform well in the savings market, with
a strong stable of savings brands which can be tailored to customer
demands.
Non-core operations
Non-core operations consist of specialist mortgages (self-certified
and sub-prime), selected third-party branded loans and selected
third-party branded credit cards. As at 31 December 2010, these
operations included loans and advances to customers of £30.6 billion
(31 December 2009: £33.5 billion) and risk weighted assets of £11.2 billion
(31 December 2009: £13.2 billion). In 2010 they also contributed income
of £591 million (compared to £388 million in 2009) and an impairment
charge of £124 million (compared to £253 million in 2009). In addition
to the non-core assets, Retail continues to progress plans to divest
other retail assets and liabilities in line with the state aid obligations.
30
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
WHOLESALE
KEY OPERATING BRANDS
PROFILE
The Wholesale division serves in excess of
a million businesses, ranging from start-ups
and small enterprises to global corporations,
with a range of propositions fully segmented
according to customer need. The division
comprises Corporate Markets, Treasury
and Trading and Asset Finance.
Corporate Markets comprises Commercial,
Corporate, Wholesale Markets, Wholesale
Equity and Corporate Real Estate Business
Support Unit. Commercial and Corporate
provide relationship-based banking, risk
management and advisory services to business
customers, principally in the UK. Wholesale
Markets provides risk management solutions,
specialised lending, access to capital markets
and multi-product financing solutions to its
customers, whilst managing the Group’s own
portfolio of structured credit investments and
treasury assets. Wholesale Equity manages
the division’s equity investment holdings
(including Lloyds Development Capital).
Corporate Real Estate Business Support Unit
manages relationships with commercial real
estate customers facing financial difficulties.
Treasury and Trading’s role is to provide access
to financial markets in order to meet the Group’s
balance sheet management requirements,
and provides trading infrastructure to support
execution of customer-driven risk management
transactions, whilst operating within a well
controlled and conservative risk appetite.
Asset Finance consists of a number of
leasing and speciality lending businesses
including Contract Hire (Lex Autolease and
Hill Hire) and Consumer Finance (Black Horse
Motor and Personal Finance).
2010 HIGHLIGHTS
Profit before tax was £3,257 million compared to a loss before tax of £4,703 million
in 2009.
Profit before tax and fair value unwind was £127 million, a £11,727 million improvement
on the loss of £11,600 million in 2009, primarily reflecting the significant decrease in the level of
impairment charge.
Net interest income decreased by 6 per cent to £4,426 million. This decrease reflected the
lower interest earning asset balances, in-line with targeted balance sheet reductions and lower
net interest income in Treasury and Trading, partially offset by a 36 basis point increase in the
banking net interest margin.
Other income decreased marginally to £4,136 million, primarily reflecting a reduction from
the higher market volatility in 2009 in Wholesale Markets and lower operating lease income in
Asset Finance, partially offset by investment gains in Wholesale Equity.
Operating expenses decreased 9 per cent, reflecting reduced levels of operating lease
depreciation and further cost savings achieved from the integration programme, partially offset
by additional staff related costs in the Business Support Unit and continued investment in
customer facing resource and systems.
Impairment charges on financial assets decreased significantly to £4,446 million,
compared to £15,683 million in the previous year. The total impairment charge is 72 per cent
lower than last year and continues to be primarily driven by the HBOS heritage corporate real
estate and real estate related asset portfolios.
Assets decreased by 14 per cent to £240.9 billion continuing on from a 28 per cent reduction
in 2009. This reflects the targeted reduction in the balance sheet, mainly in loans and advances
to customers and banks in non-core business and through reductions in debt securities and
available-for-sale positions.
Customer deposits excluding repos decreased 3 per cent to £114.1 billion, due to a
reduction in short-term deposits in Treasury and Trading partially offset by higher deposits in
Corporate Markets in line with the Group’s funding strategy.
Continued progress in deepening customer relationships. Cross-selling has increased by
9 per cent, reflecting increased product capabilities and opportunities arising from applying a
single sales force model on the combined customer base.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
31
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
PERFORMANCE SUMMARY
Net interest income
Other income
Total income
Costs:
Operating expenses
Impairment of tangible fixed assets
Trading surplus
Impairment
Share of results of joint ventures and associates
Profit (loss) before tax and fair value unwind
Fair value unwind
Profit (loss) before tax
Banking net interest margin
Banking asset margin
Banking liability margin
Cost:income ratio (excl. impairment of
tangible fixed assets)
Impairment losses as a % of average advances
As at 31 December
Key balance sheet and other items
Loans and advances to customers
Loans and advances to banks
Debt securities
Available-for-sale financial assets
Customer deposits
Customer deposits excluding repos
Repos
Risk-weighted assets
2010
£m
4,426
4,136
8,562
(3,744)
(150)
(3,894)
4,668
(4,446)
(95)
127
3,130
3,257
1.88%
1.28%
1.29%
43.7%
2.08%
2010
£bn
173.2
12.4
25.8
29.5
240.9
114.1
10.2
124.3
222.7
2009
£m
4,710
4,199
8,909
(4,106)
–
(4,106)
4,803
(15,683)
(720)
(11,600)
6,897
(4,703)
1.52%
1.02%
1.16%
46.1%
5.92%
2009
£bn
191.8
18.9
31.7
36.9
279.3
117.9
35.5
153.4
286.0
PERFORMANCE INDICATORS
Profit (loss) before tax
£m
Change
%
(6)
(2)
(4)
(10,479)
2008
9
5
(3)
72
87
(55)
(4,703)
2009
2010 3,257
Income and operating expenses
growth
%
(4)
Income
(9)
Operating expenses
Growth in cross-selling income
%
Change
%
2009
26
2010
9
Committed gross lending
£bn
2009
2010
c 35
c 49
(10)
(34)
(19)
(20)
(14)
(3)
(71)
(19)
(22)
32
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
WHOLESALE
Strategic vision
Wholesale’s strategic goal is to be recognised as the UK’s leading,
through-the-cycle, relationship-focused wholesale bank. The mission is
to retain and deepen recurring, multi-product customer relationships
building on deep insight into customer needs to provide a broad range
of banking, risk management and capital market products.
Progress against strategic initiatives
Supporting customers through the cycle
Wholesale’s through-the-cycle commitment to businesses is
evidenced by key initiatives such as the SME Business Charter which
was awarded the prize for innovation in SME finance by Business
Moneyfacts in March 2010. In 2010, over 100,000 new Commercial
start-up customers were attracted and over 200 regional customer
events were held across the country, demonstrating our commitment
to this segment. Wholesale’s focus on deepening customer
relationships and continued commitment to businesses was again
recognised by Finance Directors of commercial and corporate
companies who voted Lloyds TSB as Bank of the Year in the CBI/Real
FD awards for the sixth year running in May 2010. In September 2010,
our Commercial Finance business was voted as winner in the
InterContinental Finance Magazine’s global awards for Alternative
Finance Provider of the year – United Kingdom.
Continued investment in Wholesale Markets capabilities has helped
customers to diversify their funding sources and manage their interest
rate and currency risks. This successful investment provides the
foundations for deeper customer relationships and is earning external
recognition which includes the Group being named ‘The most
improved European Debt Capital Markets and Syndicate team’ by
Euroweek in May 2010 and awarded ‘Best Arranger of UK Loans’ and
‘Best Arranger Mid-Corporate Loans’ at the 2010 Euroweek
Syndicated Loan & Leveraged Finance Awards.
Integrating the businesses
Progress towards creating a single Wholesale Bank by the end of 2011
continues on track, with several notable milestones passed in 2010.
Internal business structures are in place across Wholesale, and around
30 customer and data migrations successfully took place in 2010,
representing assets of approximately £50 billion. The new Lloyds Bank
Corporate Markets brand was launched in December, providing a
single, comprehensive and consistent corporate banking and financial
markets service for our customers. In the Asset Finance business, the
successful integration of Lex and Autolease brands has created one
of the UK’s leading car leasing firms.
The focus for 2011 remains on the planning and execution of the
remaining 40 migrations and strengthening risk systems, whilst
ensuring that we continue to deliver our high levels of customer
service. The division achieved run-rate synergies of £359 million at
the end of 2010 and is on track to deliver run-rate synergies of
£532 million by the end of 2011.
Prioritising businesses
In 2009, Wholesale systematically reviewed its assets, portfolios and
businesses to identify those that would add most value to its
relationship-focused strategic vision. In 2010, Wholesale ensured that
investment in product and service capability was directed towards
these core growth areas, and explored divestment opportunities for
the remaining non-core assets.
Investment and change in the core growth areas continues to be
embedded, with new talent joining the Group and new processes
introduced to our client facing businesses. Cross-selling from
deepening relationships increased by 9 per cent reflecting these
enhanced product capabilities.
A number of disposals of non-core assets were completed during
2010 in line with the planned reduction of Wholesale’s total assets,
which includes part of the Group’s commitment under the state aid
restructuring plan. Wholesale continues to operate under an
oversight and governance framework with the intention always of
maximising long-term shareholder value from any asset sale.
Financial performance
Profit before tax was £3,257 million compared to a loss before tax
of £4,703 million in 2009. The improvement of £7,960 million is after
taking into account fair value unwind of £3,130 million, which
decreased by £3,767 million compared to 2009.
Profit before tax and fair value unwind of £127 million was an £11,727
million improvement on the loss of £11,600 million in 2009, driven by
a significant decrease in the impairment charge reflecting the
stabilising economic climate, continuing to support previous
guidance that the impairment charge peaked in first half of 2009.
Total income decreased by £347 million, or 4 per cent to £8,562 million
mainly driven by a 6 per cent decrease in net interest income.
The decline in net interest income primarily reflects lower interest
earning asset balances across loans and receivables in line with
the Group’s targeted balance sheet reduction, mainly in loans and
advances to customers, debt securities and available for-sale-positions.
Income was affected by higher funding costs and lower lending
volumes, although this was partly offset by higher customer margins
on new business and from re-pricing on renewals.
Banking net interest income, which excludes trading activity,
increased by £330 million, to £3,683 million as lending business
continued to be re-priced to reflect customer risk profiles, with
lending margins increasing by 26 basis points. Deposit margins
increased moderately, by 13 basis points, reflecting favourable
internal liquidity rates, which was partially offset by the impact of
lower LIBOR to base rate spreads. As a result, the banking net interest
margin increased by 36 basis points to 1.88 per cent in 2010. The
impact of re-pricing was only partially offset by a decrease in average
interest earning assets and liability balances.
Other income decreased by £63 million, or 2 per cent, to £4,136
million, primarily reflecting higher levels of market volatility in 2009
which resulted in mark to market gains in Wholesale Markets, whilst
2010 experienced losses on sale of assets in targeted balance sheet
reductions and lower operating lease income. Other income in 2010
benefited from investment gains in Wholesale Equity as a result of
stabilisation in market conditions and improved fund investment
performance, strong fee income across structuring and capital
markets and more favourable performance in Treasury and Trading.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
33
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
Risk-weighted assets decreased by £63.3 billion, or 22 per cent to
£222.7 billion, primarily reflecting the balance sheet reductions and the
move to Foundation IRB from Advanced IRB for all HBOS non-retail
portfolios.
Non-core operations
Non-core consists of businesses and/or business lines that are
inconsistent with Wholesale’s relationship-focused strategic vision
of capital and liquidity efficient growth, driven by broad and deep
customer relationships and within a prudent risk framework.
As at 31 December 2010, operations and portfolios considered
to be non-core included assets of £126.9 billion (2009: £158.3 billion)
which included £71.2 billion (2009: £83.1 billion) of loans and advances
to customers, £25.4 billion (2009: £31.5 billion) of debt securities,
£22.2 billion (2009: £32.0 billion) of available-for-sale financial assets
and other assets of £8.1 billion (2009: £11.7 billion). Non-core
risk-weighted assets were £94.8 billion (2009: £135.4 billion). Non-core
portfolios and businesses include £4.9 billion (2009: £4.9 billion) of
customer deposits.
In 2010, non-core businesses generated income of £3,022 million
and impairment of £3,170 million, compared to 2009 income of
£3,573 million and impairment of £13,496 million.
Operating expenses decreased by £362 million, or 9 per cent, to
£3,744 million primarily from a further reduction in the level of
operating lease depreciation in Asset Finance and a continued focus
on cost management including savings attributable to the integration
programme. This was partially offset by additional costs in the
Business Support Unit and continued investment in customer facing
resource and systems.
The impairment charge decreased by £11,237 million to £4,446 million
in December 2010. As a percentage of average loans and advances to
customers, impairment charge improved to 2.08 per cent in 2010
compared to 5.92 per cent in 2009. The decrease reflects reductions,
notably in the heritage HBOS corporate real estate and real estate
related portfolios and heritage HBOS Corporate (UK and US)
portfolios and write backs from asset disposals, due to the stabilising
economic environment, low interest rates which helped to maintain
defaults at reduced levels, the stabilisation of UK real estate prices
and provisioning against base case assumptions undertaken on the
acquired heritage HBOS portfolios in the first half of 2009. The
decrease further confirms the Group’s belief that the impairment
charge peaked in the first half of 2009 under base case assumptions.
The share of losses from joint ventures and associates comprises a
small loss of £95 million, a decrease of £625 million. This represents
a net reduction in both the value and size of the portfolio compared
to the prior year. The majority of the portfolio is now valued at nil with
a remaining portfolio carrying value of approximately £128 million.
Fair value unwind decreased £3,767 million to £3,130 million, mainly
due to lower impairments in 2010 relating to the HBOS assets that
were fair valued on acquisition. The decrease was partially offset by
charges relating to the expected losses on acquired debt securities
and by fair value releases on sales.
Balance sheet progress
The division’s asset balances (comprising loans and advances to
customers and banks, debt securities and available-for-sale financial
assets) reduced by £38.4 billion, or 14 per cent to £240.9 billion, primarily
reflecting deleveraging by customers and continuing active de-risking of
the balance sheet by either selling down or reducing holdings in debt
securities and available-for-sale positions.
Loans and advances to customers decreased £18.6 billion, or 10 per cent
to £173.2 billion. In Corporate Markets, balances decreased by
£17.5 billion or 10 per cent, as demand for new corporate lending and
refinancing of existing facilities were more than offset by the level of
maturities, reflecting a continued trend of subdued corporate lending,
customer deleveraging and asset sales in non-core sectors. Despite this
overall reduction, net lending to core customers in the SME sector
increased by 2.1 per cent. In Asset Finance, the decrease of £2.7 billion, or
23 per cent, reflected the targeted reduction in this asset class. Available
for sale financial assets balances reduced by £7.4 billion, or 20 per cent, to
£29.5 billion and debt securities decreased by £5.9 billion, or 19 per cent,
to £25.8 billion, as Corporate Markets reduced the non-core balance
sheet by either selling down or not replenishing total holdings after
amortisations or maturities. Loans and advances to banks decreased
£6.5 billion, or 34 per cent as the division refocused the balance sheet.
Customer deposits excluding repos decreased by £3.8 billion, or
3 per cent to £114.1 billion, due to a reduction in short-term deposits in
Treasury and Trading, which was partially offset by higher deposits in
Corporate Markets in line with Group’s funding strategy.
The impairment charge decreased by £10,673 million to £4,182 million
reflecting a sustained decrease since the peak in first half 2009. As
well as reflecting stabilising economic conditions, a significant
amount of the decrease was also due to the application in 2009 of
Lloyds Banking Group provisioning policy and risk review processes
which were applied to the heritage HBOS corporate real estate
and real estate related portfolios and heritage HBOS Corporate
(UK & US) portfolio.
Impairment of tangible fixed assets of £150 million was incurred on
assets held on the balance sheet as a result of the consolidation of
certain entities over which the Group exercised control. A £365 million
loss was recorded in 2010 on the disposal of these entities which is
excluded from the Group’s combined businesses profit before tax.
Change
%
(2)
(3)
(2)
2
(4)
(7)
72
87
94
34
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
WHOLESALE
Corporate Markets
Net interest income
Other income
Total income
Costs:
2010
£m
3,669
2,471
6,140
2009
£m
3,756
2,541
6,297
Operating expenses
(2,410)
(2,461)
Impairment of tangible
fixed assets
Trading surplus
Impairment
Share of results of joint ventures
and associates
Loss before tax and
fair value unwind
Cost:income ratio
(excl. impairment of tangible
fixed assets)
Impairment as a % of average
advances
As at 31 December
(150)
(2,560)
3,580
–
(2,461)
3,836
(4,182)
(14,855)
(95)
(717)
(697)
(11,736)
39.3%
39.1%
2.08%
6.09%
2010
£bn
2009
£bn
Change
%
Key balance sheet and other items
Loans and advances to customers
Risk-weighted assets
160.2
202.1
177.7
263.8
(10)
(23)
Loss before tax and fair value unwind decreased by £11,039 million to
£697 million, due to a significant decrease in the impairment charge.
Net interest income decreased by £87 million or 2 per cent. This
reflected lower interest earning asset balances as a result of the
ongoing focus on reducing the balance sheet. Despite increased
funding costs net interest income benefited from improved margins
from customer re-pricing.
Other income was £70 million or 3 per cent lower, primarily due to
increased market volatility in 2009 which resulted in mark to market
gains in Wholesale Markets which did not reoccur in 2010.
Additionally other income benefited from investment gains in
Wholesale Equity as a result of stabilising market conditions, and
strong fee income across structuring and capital markets.
Operating expenses decreased by £51 million to £2,410 million due
to continued synergy benefits, partially offset by investment in the
Business Support Unit as well as customer facing resource and
systems.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
35
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
Treasury and Trading
Asset Finance
Net interest income
Other income
Total income
Operating expenses
Profit before tax and
fair value unwind
Cost:income ratio
As at 31 December
Key balance sheet and other items
Loans and advances to customers
Risk-weighted assets
2010
£m
324
322
646
(218)
428
33.7%
2010
£bn
4.1
8.6
2009
£m
544
238
782
(187)
595
23.9%
2009
£bn
2.5
8.4
Change
%
(40)
Net interest income
35
(17)
(17)
(28)
Other income
Total income
Operating expenses
Trading surplus
Impairment
Change
%
64
2
Share of results of joint ventures
and associates
Profit (loss) before tax and
fair value unwind
Cost:income ratio
Impairment as a % of average
advances
As at 31 December
2010
£m
433
1,343
1,776
(1,116)
660
(264)
2009
£m
410
1,420
1,830
(1,458)
372
(828)
Change
%
6
(5)
(3)
23
77
68
–
(3)
396
62.8%
(459)
79.7%
2.34%
5.86%
2010
£bn
2009
£bn
Change
%
Profit before tax and fair value unwind decreased by £167 million to
£428 million due to lower net interest income.
Total income decreased by £136 million, or 17 per cent. Interest
income reduced as the highly volatile interest rate market evident in
early 2009 was not repeated in 2010. Other income performance
benefited from strong customer demand for interest rate, foreign
exchange and risk management products in 2010. Trading flows are
managed with the overriding aim of providing a service to customers,
whilst maintaining Treasury and Trading’s conservative risk appetite.
Operating expenses increased by £31 million to £218 million reflecting
the investment in people and systems, in particular back office
infrastructure, to support internal risk management and the customer
franchise.
Key balance sheet and other items
Loans and advances to customers
Operating lease assets
Risk-weighted assets
8.9
3.0
12.0
11.6
3.4
13.8
(23)
(12)
(13)
Profit before tax and fair value unwind was £396 million compared to a
loss before tax and fair value unwind of £459 million in December
2009. The £855 million improvement was due to a lower impairment
charge and lower operating expenses.
Total income decreased by £54 million, or 3 per cent, to £1,776 million
as a result of lower business volumes on assets held under operating
leases. The lower business volumes are in-line with a targeted
reduction in this asset class and were partly offset by stronger margins.
Operating expenses decreased by £342 million, or 23 per cent, to
£1,116 million, reflecting reduced depreciation charges on assets held
under operating leases due to lower fleet size and a year on year
improvement in used car values, and strong cost management and
savings achieved from integration.
The impairment charge decreased by £564 million to £264 million,
reflecting a stabilising economic environment and an improvement in
market conditions for both the retail and non-retail consumer finance
businesses. The lower impairment charge has been driven by a
reduction in new cases entering arrears, the reduced book size and a
better mix in the credit quality of new business being written over the
last two years.
36
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
WEALTH AND INTERNATIONAL
KEY OPERATING BRANDS
Lloyds TSB
PROFILE
Wealth and International was
formed in 2009 to give increased
focus and momentum to the private
banking and asset management
businesses and to manage the Group’s
international businesses.
The Wealth business comprises private banking,
wealth management and asset management.
Wealth’s global private banking and wealth
management operations cater to the full range
of wealth clients from affluent to Ultra High Net
Worth within the UK, Channel Islands and Isle
of Man, and internationally. Our private banking
and wealth management business operates
under the Lloyds TSB and Bank of Scotland
brands. Our asset management business,
Scottish Widows Investment Partnership,
has a broad client base, managing assets
for Lloyds Banking Group customers as well
as a wide range of clients including pension
funds, charities, local authorities, Discretionary
Managers and Financial Advisers. In addition,
the Group holds a 60 per cent stake in
St James’s Place, the UK’s largest independent
listed wealth manager and a 55 per cent stake in
Invista Real Estate.
The International business comprises the
Group’s other international banking businesses
outside the UK, with the exception of corporate
business in North America which is managed
through the Group’s Wholesale division. These
largely comprise corporate, commercial and
asset finance business in Australia, Ireland and
Continental Europe and retail businesses in
Germany and the Netherlands.
2010 HIGHLIGHTS
Loss before tax increased to £4,824 million compared to £2,356 million in 2009.
Loss before tax and fair value unwind increased by £1,898 million to £5,196 million,
compared to £3,298 million in 2009, due to a higher impairment charge, predominantly
in Ireland.
In Wealth, profit before tax increased by 36 per cent to £269 million. However, this
was more than offset by the International loss before tax which increased by 56 per cent to
£5,465 million.
Net interest income decreased by 3 per cent to £1,176 million, as an 8 basis points
decline in the banking net interest margin more than offset the favourable impact of foreign
currency movements, particularly the Australian dollar, and the income on the £7 billion
European loan portfolio transferred in from the Wholesale division in the second half of 2009.
Operating expenses decreased by 1 per cent to £1,536 million, with cost savings
achieved from integration, particularly in the asset management businesses in Wealth, partly
offset by investment in International’s German deposit taking operation, increased resources
in business support functions and the effect of stronger foreign currency rates.
The impairment charge amounted to £5,988 million, compared to £4,078 million in
2009, reflecting the material deterioration in the economic environment in Ireland in the last
quarter of 2010 that resulted in EU-IMF financial support in late November 2010 and the
tightening of liquidity in the second half of 2010 in regional Australian property markets to
which the Group is exposed.
Loans and advances to customers decreased by £8.2 billion, or 13 per cent, to
£55.3 billion, reflecting net repayments of £4.1 billion, and additional impairment provisions
in the International businesses, partly offset by foreign exchange movements of £1.1 billion.
Customer deposits increased by £3.8 billion, or 13 per cent, to £32.8 billion, due to
strong inflows in UK Private Banking and Bank of Scotland Germany, partly offset by outflows
in Ireland following the closure of the Irish retail branch network.
Against its strategic objectives, Wealth has demonstrated continuing strength in client
acquisition through the UK franchise with a 12 per cent increase in customer numbers. In
International, resources have been deployed to manage arrears, and the balance sheet
reduction strategy resulted in underlying local currency advances decreasing by £4.1 billion,
or 7 per cent.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
37
Lloyds Banking Group
Annual Report
and Accounts 2010
PERFORMANCE SUMMARY
Net interest income
Other income
Total income
Operating expenses
Trading surplus
Impairment
Share of results of joint ventures and associates
Loss before tax and fair value unwind
Fair value unwind
Loss before tax
Banking net interest margin
Banking asset margin
Banking liability margin
Cost:income ratio
Impairment as a % of average advances
As at 31 December
Key balance sheet and other items
Loans and advances to customers
Customer deposits
Risk-weighted assets
2010
£m
1,176
1,160
2,336
(1,536)
800
(5,988)
(8)
(5,196)
372
(4,824)
1.63%
1.22%
0.83%
65.8%
8.90%
2010
£bn
55.3
32.8
58.7
2009
£m
1,217
1,128
2,345
(1,544)
801
(4,078)
(21)
(3,298)
942
(2,356)
1.71%
1.26%
0.82%
65.8%
6.04%
2009
£bn
63.5
29.0
63.2
Change
%
(3)
3
1
(47)
62
(58)
(61)
PERFORMANCE INDICATORS
Profit (loss) before tax
£m
2008 277
(2,356)
2009
(4,824)
2010
Income and operating expenses
growth
%
2008
(1)
000.0
Income
0
Operating expenses
Customer deposits
2008
2009
2010
Change
%
(13)
13
(7)
Wealth relationship clients
2008
2009
2010
£bn
34.1
29.0
32.8
285,000
307,000
328,000
38
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
WEALTH AND INTERNATIONAL
Strategic vision
Wealth provides strong growth opportunities for the Group and,
through deepening the relationships with existing Group clients
alongside targeted external customer acquisition, Wealth’s goal is
to be recognised as the trusted adviser to expatriate and private
banking clients both in the UK and selected international markets.
Wealth’s initial focus in the UK is to increase the penetration of its
offering into the Group’s existing customer base by the referral of
wealthier customers to its private banking businesses where their wider
financial needs can be more effectively met. Outside the UK, Wealth
will be building on the strengths of its brand portfolio and existing
expatriate, wealth management and private banking propositions.
In the International businesses, the priority is to maximise value in
the medium term. International’s immediate focus is on close
management of the lending portfolio, particularly in the Irish
business, and re-pricing assets where appropriate. At the same
time International is delivering operational efficiencies, reshaping
its business models and rightsizing the balance sheet to reflect the
ongoing environment.
Progress against strategic initiatives
Deep and enduring customer relationships
In Wealth, the focus has been on driving additional income growth
from the Group’s affluent and high net worth client base through
more effective use of the opportunities afforded by the Retail and
Wholesale franchises to cross sell Wealth products to these
customers. During 2010, customer segmentation across the Wealth
businesses has been implemented and businesses transferred as
appropriate to align to this segmentation, the customer referrals
model has been formalised, and a new UK investment proposition
launched. Continuing progress was demonstrated through a
7 per cent increase in Wealth relationship customers in 2010,
including a 12 per cent increase in UK Wealth, and a 16 per cent
increase in Wealth’s customer deposits.
Maximising value in the short to medium term
In International, the focus remains on managing the impaired asset
portfolio and continued strengthening of the control environment.
Redeployment of resource from front line activity and the wider
Group to manage arrears and collections is now complete and
business support units are fully operational. The business aims to
de-risk and reduce the balance sheet where possible, with net
repayments in the International portfolio contributing £4.1 billion to
the reduction in underlying local currency customer advances.
As previously announced, the Group completed a strategic review
of Bank of Scotland (Ireland) Limited (BOSI) during the year,
concluding that there was little opportunity for scalable growth in the
future and that the business currently carried on by BOSI would
merge, pursuant to a court process, into Bank of Scotland plc. This
announcement followed the closure earlier in the year of BOSI’s retail
and intermediary business in Ireland, including all 44 Halifax retail
branches.
The merger completed on 31 December 2010 at which point BOSI
ceased to exist and its banking licence was relinquished. Bank of
Scotland plc will utilise its extensive operational and management
capability, including general and credit management, oversight and
control, within the UK in relation to the Irish portfolio. This will support
the efficient rundown of the remaining Irish lending portfolio.
In order to retain local administrative capability, historic knowledge
and continuity of customer relationships, Bank of Scotland plc has
entered into an agreement with an independent service company
which will perform various administrative functions relating to the Irish
business. Under this proposal the majority of BOSI employees have
transferred to the service company.
Integration
Wealth and International is making excellent progress with the
integration of its businesses with an annual synergies run-rate as at
31 December 2010 of £240 million, substantially achieving the end of
2011 run rate target of £242 million. The transfer of £50 billion of funds
under management from Insight Investment to Scottish Widows
Investment Partnership was successfully completed in the first half of
2010 along with the sale of Employee Equity Solutions and Bank of
Scotland Portfolio Management Service. In the second half of 2010
the division successfully completed the integration of its Spanish
businesses, while the UK Private Banking, Channel Islands and
Wholesale Europe integration programmes are progressing well
ensuring Wealth and International is on track to deliver targeted cost
savings by the end of 2011.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
39
Lloyds Banking Group
Annual Report
and Accounts 2010
Financial performance by business unit
Wealth
Funds under management
As at 31 December
2010
£bn
2009
£bn
Net interest income
Other income
Total income
Operating expenses
Trading surplus
Impairment
Share of results of joint ventures
and associates
Profit before tax and
fair value unwind
Cost:income ratio
Impairment as a % of
average advances
As at 31 December
Key balance sheet and other items
Loans and advances to customers
Customer deposits
Risk-weighted assets
2010
£m
345
1,018
1,363
2009
£m
383
1,003
1,386
(1,047)
(1,119)
316
(46)
(1)
267
(71)
2
269
76.8%
198
80.7%
Change
%
(10)
1
(2)
6
18
35
36
SWIP:
Internal
External
Other Wealth:
St James’s Place
Invista Real Estate
Private and International Banking
Closing funds under management
Year ended 31 December
Opening funds under management
Inflows:
0.48%
0.70%
SWIP and Insight – internal
2010
£bn
2009
£bn
Change
%
9.1
26.8
10.4
9.2
23.2
10.0
(1)
16
4
– external
Other
Outflows:
SWIP and Insight – internal
– external
Profit before tax and fair value unwind increased by 36 per cent to
£269 million due to lower costs and lower impairment charges.
Other
Total income decreased by 2 per cent to £1,363 million. Net interest
income decreased by 10 per cent, reflecting continued margin
pressure driven by low base rates and a competitive deposit market.
Other income increased by 1 per cent, as growth was constrained by
lower asset management fee income following the sale of the external
fund management business of Insight Investment in November 2009.
Operating expenses decreased by 6 per cent, driven by cost savings
from integration, particularly in the Asset Management business and
also include the effect of the sale of Insight Investment. On a like for
like basis, excluding the costs of Insight Investment operating
expenses decreased by 1 per cent.
The impairment charge decreased by 35 per cent reflecting strong
credit management and improved collections and recoveries
processes in 2010.
Customer deposits have increased by £3.6 billion, or 16 per cent,
reflecting strong growth in the UK Private Banking business driven
by the success of the Reserve savings account.
Investment return, expenses
and commission
Net operating increase in funds1
Sale of Insight and Bank of Scotland Portfolio
Management Service2
Closing funds under management
1
Includes Insight Investment’s external fund management business up to disposal on
2 November 2009.
2
Insight Investment was sold on 2 November 2009. The Bank of Scotland Portfolio Management
Service business was transferred to Rathbone Brothers Plc over the course of 2010.
Funds under management of £192.0 billion increased by £7.9 billion.
Net outflows of £6.4 billion reflect an exceptional withdrawal from a
single institutional investor in Scottish Widows Investment Partnership
(SWIP), partially offset by strong net inflows in St. James’s Place plc.
Increases in global equity values, particularly in the second half of
2010, increased funds under management by a further £15.1 billion.
In October 2010, Invista Real Estate announced that its contracts to
manage the Group’s funds had been terminated on 12 months notice
and that these contracts, representing £2.4 billion of Invista’s total
funds under management, will be managed in future by SWIP. Invista
Real Estate has commenced an orderly realisation of its assets,
including the remaining investment management business, and plans
to return the proceeds of these realisations to shareholders.
118.2
28.0
146.2
27.0
5.3
13.5
192.0
2010
£bn
184.1
2.0
8.9
6.7
17.6
(5.6)
(13.3)
(5.1)
(24.0)
15.1
8.7
(0.8)
192.0
111.7
30.0
141.7
21.4
5.4
15.6
184.1
2009
£bn
244.9
7.1
33.1
4.1
44.3
(6.8)
(26.4)
(4.0)
(37.2)
16.4
23.5
(84.3)
184.1
40
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
WEALTH AND INTERNATIONAL
International
Net interest income
Other income
Total income
Operating expenses
Trading surplus
Impairment
Share of results of joint ventures
and associates
Loss before tax and
fair value unwind
Cost:income ratio
Impairment as a % of
average advances
As at 31 December
2010
£m
831
142
973
(489)
484
2009
£m
834
125
959
(425)
534
(5,942)
(4,007)
(7)
(23)
(5,465)
50.3%
(3,496)
44.3%
Change
%
14
1
(15)
(9)
(48)
70
(56)
10.30%
6.99%
2010
£bn
2009
£bn
Change
%
Key balance sheet and other items
Loans and advances to customers
Customer deposits
Risk-weighted assets
46.2
6.0
48.3
54.3
5.8
53.2
(15)
3
(9)
Loss before tax and fair value unwind increased by £1,969 million to
£5,465 million due to a higher impairment charge, reflecting an
increase of £1,315 million in Ireland and £513 million in Australia.
Total income increased by 1 per cent, but was 7 per cent lower in
constant currency. This reflects lower interest earning assets and the
increased strain of higher impaired assets, partly offset by additional
income on the £7 billion European loan portfolio transferred from
Wholesale division in the second half of 2009.
Operating expenses increased by 15 per cent, partially due to foreign
exchange movements. In constant currency, operating expenses
increased by 12 per cent reflecting the development of International’s
deposit taking operation in Germany, increased risk management
resources to manage impaired asset portfolios in Ireland and Australia
and costs associated with the closure of the Irish business.
The impairment charge and loans and advances to customers are
summarised by key geography in the following table.
Ireland
Australia
Wholesale Europe
Latin America/Middle East
Netherlands
Impairment charge
Loans and advances
to customers
as at 31 December
2010
£m
4,264
1,362
210
97
9
2009
£m
2,949
849
129
69
11
2010
£bn
19.6
12.3
6.9
0.6
6.8
5,942
4,007
46.2
2009
£bn
25.0
13.0
8.5
0.6
7.2
54.3
The impairment charge increased by £1,935 million, or 48 per cent, to
£5,942 million due to increased impairment charges in Ireland,
particularly in the last quarter of 2010 as a result of downward revisions
in the Group’s Irish economic assumptions, and increased impairment
charges in Australia as a result of significant contractions in liquidity in
regional property markets to which the Group has exposure in the
second half of 2010.
The lower credit in respect of the fair value unwind reflects the unwind
profile of the original fair value adjustment which anticipated a peak in
the impairment charge in 2009 based on a faster economic recovery
in Ireland than is now being experienced.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
41
Lloyds Banking Group
Annual Report
and Accounts 2010
Balance sheet progress
Loans and advances to customers decreased by £8.1 billion or
15 per cent, to £46.2 billion due to net repayments of £4.1 billion
across all businesses and higher impairment provisions, partly
offset by an increase due to foreign exchange movements of
£1.1 billion. The division is focused on de-risking and right-sizing
the balance sheet, focusing on key Group relationships, as well
as reducing concentrations in Commercial Real Estate. In the
International businesses, drawn exposures in local currency have
decreased with limited new business written within a tightened risk
appetite that has been applied across the division since early 2009.
Customer deposits increased by £0.2 billion, or 3 per cent, to £6 billion
with a strong performance in Bank of Scotland Germany, which has
now raised over €4 billion of deposits since its launch in January 2009,
offset by a fall in customer deposits in Ireland following the closure of
the division’s Irish retail business.
Non-core operations
Consistent with the division’s strategic approach to maximising value
in the medium term, a number of businesses are considered to be
non-core, predominately the remaining Irish lending portfolio.
As at 31 December 2010, non-core businesses included loans and
advances to customers of £37.2 billion (2009: £44.3 billion), risk
weighted assets of £35.0 billion (2009: £40.1 billion) and customer
deposits of £0.3 billion (2009: £3.7 billion). In 2010, these non-core
operations contributed income of £657 million (2009: £744 million)
and an impairment charge of £5,767 million (2009: £3,889 million).
42
Lloyds Banking Group
Annual Report
and Accounts 2010
DivisionAl Results
Insurance
key OperatInG BranDs
Overview
Business review
Governance
Financial statements
Other information
summary of Group results
Divisional results
Board of Directors
Directors’ report
other financial information
Corporate governance report
Five year financial summary
56
Directors’ remuneration report 124
110
112
114
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
shareholder information
Glossary
Abbreviations
index to annual report
284
285
290
291
Group profile
Group structure
Group performance
strategy and progress
Chairman’s statement
our people
Group Chief executive’s review
Corporate responsibility
Addressing the key issues
Risk management
Marketplace trends
1
2
3
4
6
8
10
12
14
26
52
57
60
65
43
Lloyds Banking Group
Annual Report
and Accounts 2010
notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
notes to the parent company
financial statements
144
146
153
272
273
276
prOFILe
the Insurance division provides
long term savings, protection and
investment products and general
insurance products to customers in
the uk and europe and consists of
three business units:
life, Pensions and investments uK (lP&i uK):
the uK life, Pensions and investments
business is the leading bancassurance
provider in the uK and has one of the
largest intermediary channels in the industry.
the business provides long-term savings,
protection and investment products
distributed through the bancassurance,
intermediary and direct channels through
the lloyds tsB, Halifax, Bank of scotland
and scottish Widows brands.
life, Pensions and investments
europe: the european life, Pensions
and investments business distributes
products primarily in the German market
under the Heidelberger leben and
Clerical Medical brands.
General insurance: the General insurance
business is a leading distributor of home
insurance in the uK, with products sold
through the branch network, direct
channels and strategic corporate
partners. the business also has significant
brokerage operations for personal and
commercial insurances. it operates
primarily under the lloyds tsB, Halifax and
Bank of scotland brands.
2010 hIGhLIGhts
profit before tax increased by 13 per cent to £1,102 million, compared to £975 million
in 2009.
profit before tax and fair value unwind increased by 19 per cent, to £1,215 million,
before a non-recurring charge of £70 million in respect of the Group’s decision to cease
writing new payment protection insurance (PPi) business.
Other income decreased 4 per cent to £2,814 million largely resulting from the
decrease in PPi income as a result of the Group’s decision to cease writing payment
protection business, partially off-set by improved new business income and the higher than
expected return from improved investment markets.
total income, net of insurance claims decreased by £11 million to £2,009 million,
primarily reflecting lower PPi income and claims arising from the freeze events in 2010,
which are offset by reduced payment protection insurance claims and improved investment
markets.
Operating expenses decreased by 12 per cent or £120 million to £854 million due to
a continued focus on cost management and delivery of integration synergies.
Good progress continues to be made on integration, including the launch of a single
bancassurance proposition in June 2010.
Lp&I uk sales of £10,316 million (pVnBp) reduced by 20 per cent. the reduction in sales is
largely due to the withdrawal of certain lower return HBos legacy products in the second half of 2009
as the business continued to focus on value over volume and a change in mix towards protection
products which, although more profitable, result in relatively lower PvnBP. An improvement in
investment market conditions resulted in a reduction in sales of capital protected products.
Lp&I uk margins increased to 3.7 per cent from 2.6 per cent in 2009. the improved
margin reflects strategic choices made in respect of product and channel propositions as
the legacy businesses are integrated in order to focus on value. the iRR on new business
continues to improve and was in excess of 15 per cent in the year.
General Insurance profits increased by 1 per cent to £372 million primarily due to
improved unemployment claims experience and integration synergies after taking account
of continuing lower income resulting from ceasing to write new PPi business and claims
related to the freeze events in 2010.
capital management initiatives resulted in £2.3 billion mitigation of the potential
impact of Basel iii.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
43
Lloyds Banking Group
Annual Report
and Accounts 2010
PERFORMANCE SUMMARY
PERFORMANCE INDICATORS
Net interest income
Other income
Total income
Insurance claims
Total income, net of insurance claims
Operating expenses
Share of results of joint ventures and associates
Profit before tax and fair value unwind
Fair value unwind
Profit before tax
Profit before tax and fair value unwind – before
impact of PPI new business closure
Other income – impact of PPI new business closure
Profit before tax and fair value unwind
Profit before tax and fair value unwind by
business unit
Life, Pensions and Investments:
Before impact of PPI new business closure
PPI new business closure
UK business
European business
General insurance
Other1
Profit before tax and fair value unwind
EEV new business margin
2010
£m
(263)
2,814
2,551
(542)
2,009
(854)
(10)
1,145
(43)
1,102
1,215
(70)
1,145
753
(70)
683
110
372
(20)
1,145
3.5%
2009
£m
(287)
2,944
2,657
(637)
2,020
(974)
(22)
1,024
(49)
975
1,024
–
1,024
617
–
617
75
367
(35)
1,024
2.5%
Change
%
Profit before tax
2008
2009
2010
975
1,102
£m
1,540
Income and operating expenses
growth
%
(12)
Operating expenses
(1)
Income
New business margin (EEV) LP&I UK %
2008
2009
2010
3.1
2.52.5
3.5
LP&I UK bancassurance sales
£m
2008
2009
8,356
6,997
8
(4)
(4)
15
(1)
12
55
12
12
13
19
12
22
11
47
1
43
12
1
The above result includes certain Group and divisional costs and income not allocated to business units, as well as the division’s
share of results of joint ventures and associates. The year ended 31 December 2010 includes an accounting gain on disposal of
£13 million from the sale of the Group’s joint venture investment in esure.
2010
4,432
44
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
INSURANCE
Strategic vision
The insurance division’s strategic vision is to be recognised as the
leading insurance business by its customers, the Group’s shareholders
and staff. The division has four strategic objectives to achieve its
vision:
– complete the integration of the businesses;
– continue to strengthen its leading brands and grow sales profitably in
its targeted markets;
– enhance the capital management and operational efficiency of existing
and future business; and
– utilise the Group’s strengths in distribution and asset management.
Progress against strategic initiatives
Integrating the business
The integrations of the legacy Life, Pensions and Investments
businesses and the legacy General Insurance businesses have
continued to progress well. The division achieved run-rate synergies
of £197 million by the end of 2010 and is on track to deliver run-rate
synergies of £239 million by the end of 2011.
In the Life, Pensions and Investments UK business good progress was
made in integrating the legacy distribution functions in both the
Intermediary and bancassurance channels. Following the integration
of the Scottish Widows and Clerical Medical intermediary sales forces
in July 2009, a single bancassurance proposition was launched in
June 2010.
In the General Insurance business an integrated supply chain model
was implemented and includes the introduction of personal claims
consultants, across all brands, since July 2010.
Sustainable growth
The UK Life, Pensions and Investments business continues to make
excellent progress in improving the profitability of the combined
product set. Certain low returning products sold through the HBOS
heritage channels have been discontinued and replaced with products
providing an improved customer proposition, and enhanced
shareholder value. The decision to change the mix of business from
investment to protection products, while resulting in higher margins
has contributed relatively lower PVNBP due to the premium size, with
PVNBP in the UK business decreasing by 20 per cent. However the
focus on value has resulted in strong increases in new business profits,
new business margins and internal rates of return.
This focus on value over volume will continue, establishing a realistic
base from which to continue to grow a business that is both profitable
and focused on meeting customer needs.
In General Insurance, the combined ratio improved from 83 per cent
to 79 per cent. Home insurance delivered a resilient underwriting
performance in the year. Adverse weather conditions at the beginning
and end of the year impacted the performance of the home book,
however this was partially mitigated by improvements made to the
efficiency of the claims processes.
Capital management and operational efficiency
Managing the use of the Group’s capital remains a key objective of
the business. Significant work has been undertaken to optimise the
Insurance division’s contribution to Group capital and in 2010 this
resulted in £2.3 billion mitigation of the potential impact of Basel III.
The Insurance division remains well capitalised as assessed via the
Insurance Groups Directive regulatory measure of surplus capital.
The division is progressing its plans to achieve Solvency II compliance.
The Insurance division continues to focus on cost reduction with costs
decreasing by 12 per cent in 2010. Efficiencies have been achieved
without compromising the quality of customer service and customer
satisfaction scores have remained robust across the division.
Leveraging distribution and asset management
An integrated Life, Pensions and Investments UK bancassurance
proposition was launched in June 2010. The proposition draws on
product design and customer service expertise from the two
heritages in order to establish a consistent base from which to further
leverage the scale of the Group’s bancassurance operation.
Life, Pensions and Investments
UK Business
Net interest income
Other income
Total income
Operating expenses
Profit before tax and
fair value unwind
Profit before tax and fair value
unwind – before impact of
PPI new business closure
Other income – impact of PPI new
business closure
Profit before tax and
fair value unwind
Profit before tax and fair value
unwind by business unit
New business profit:
Insurance business1
Investment business1
Total new business profit
Existing business profit
Experience and
assumption changes
Profit before tax and fair value
unwind – before impact of
PPI new business closure
Other income –
PPI new business closure
Profit before tax and
fair value unwind
EEV new business margin (UK)
Life, Pensions and Investments
sales (PVNBP)
2010
£m
(227)
1,408
1,181
(498)
2009
£m
(273)
1,474
1,201
(584)
683
617
753
617
(70)
–
683
617
Change
%
17
(4)
(2)
15
11
22
–
11
332
(65)
267
464
22
328
(196)
132
431
1
67
102
8
54
(59)
753
617
22
(70)
–
683
3.7%
617
2.6%
11
10,316
12,973
(20)
1
As required under IFRS, products are split between insurance and investment contracts
depending on the level of insurance risk contained. For insurance contracts, the new business
profit includes the net present value of profits expected to emerge over the lifetime of the
contract, including profits anticipated in periods after the year of sale; for investment contracts
the figure reflects the profit in the year of sale only, after allowing for the deferral of income and
expenses. Consequently the recognition of profit from investment contracts is deferred relative
to insurance contracts.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
45
Lloyds Banking Group
Annual Report
and Accounts 2010
Life, Pensions and Investments UK delivered profit growth, before tax
and fair value unwind, of £136 million, or 22 per cent, before taking
into account the non-recurring £70 million charge from the Group’s
decision to cease writing new payment protection business. After this
charge, profit before tax and fair value unwind was £683 million, an
increase of 11 per cent compared to 2009.
Total new business profit increased by £135 million, or 102 per cent,
to £267 million. The increase primarily reflects a reduction in initial
commission on OEICs sold through the branch network and cost
reductions through integration across our sales channels in addition
to progress made on product participation choices.
LP&I UK margins on an EEV basis increased to 3.7 per cent in 2010
from 2.6 per cent in 2009. The improved margin reflects the strategic
choices made in respect of product and channel propositions as the
legacy businesses have been integrated in order to focus on value.
The IRR on new business was in excess of 15 per cent in the year.
Existing business profit increased by £33 million, or 8 per cent, to
£464 million. This predominantly reflects higher asset values and a
higher assumed rate of return following improved market conditions
in the second half of 2009.
Profits arising from experience and assumption changes decreased
by £32 million to £22 million mainly reflecting the non-recurrence of
benefits recognised in 2009, including a liability management gain of
£30 million. During 2010 a review was undertaken into the charging
between the funds of Clerical Medical prior to the acquisition
of HBOS, giving rise to a charge of £132 million. Additionally
assumptions regarding future maintenance expenses within the
Clerical Medical business were aligned to reflect the heritage Lloyds
TSB approach, giving rise to a charge of £119 million. These charges
relate to pre-acquisition matters and were largely offset by the release
of fair value provisions.
The capital positions of the UK life insurance companies within the
Insurance division remain robust. The estimated Insurance Groups
Directive capital surplus for both the Scottish Widows and HBOS
Insurance groups remained consistent with last year at £1.3 billion and
£1.6 billion, respectively.
European business
Profit before tax increased by 47 per cent to £110 million driven largely
by experience and assumption changes. New business sales reflect
difficult economic and market conditions in Germany, our main
European market.
New business
An analysis of the present value of new business premiums for
business written by the Insurance division, split between the UK and
European Life, Pensions and Investments Businesses is given below:
UK
£m
Europe
£m
Analysis by product
Protection
Payment protection
Savings and investments
Individual pensions
Corporate and other pensions
Retirement income
Managed fund business
Life and pensions
OEICs
Total
Analysis by channel
Bancassurance
Intermediary
Direct
Total
574
70
1,617
1,606
2,750
889
177
7,683
2,633
10,316
4,432
5,365
519
10,316
56
–
315
141
–
–
–
512
–
512
–
512
–
512
2010
Total
£m
630
70
1,932
1,747
2,750
889
177
8,195
2,633
10,828
4,432
5,877
519
10,828
UK
£m
Europe
£m
519
153
2,689
2,275
2,600
887
146
9,269
3,704
12,973
6,997
5,639
337
12,973
49
–
312
185
–
–
–
546
–
546
–
546
–
546
2009
Total
£m
568
153
3,001
2,460
2,600
887
146
9,815
3,704
13,519
6,997
6,185
337
13,519
Change
%
11
(54)
(36)
(29)
6
21
(17)
(29)
(20)
(37)
(5)
54
(20)
46
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
INSURANCE
The present value of new business premiums reduced by 20 per cent,
to £10,828 million. This largely reflects the withdrawal in 2009 of
certain HBOS legacy products with lower returns.
In the bancassurance channel the reduction reflects the removal from
sale of an HBOS guaranteed investment plan sold in 2009 and, since
the integrated bancassurance proposition was launched in June 2010,
a change in mix away from savings products towards more profitable
protection business in line with the legacy Lloyds TSB strategy. Sales
of OEICs have been further adversely affected by a reduction in the
volume of capital protected products given improved investment
markets. However, sales of protection products have increased by
11 per cent and the aggregate new business margin has increased.
Within the intermediary channel the reduction in volumes primarily
reflects the withdrawal of low returning HBOS individual pension
products, partly offset by an increase in sales of the on-going
Retirement Account pension product and strong sales of
corporate pensions.
Funds under management
The table below shows the funds of the Life, Pensions and Investment
companies within the Insurance division. These funds are
predominantly managed within the Group by the Wealth and
International division.
Opening funds under management
UK business
Premiums
Claims and surrenders
Transfers related to the sale
of Insight Investment
Net outflow of business
Investment return, expenses and commission
Other movements1
Net movement
European business
Net movement
Dividends and capital repatriation
2010
£bn
122.1
11.2
(14.9)
–
(3.7)
10.5
4.3
11.1
0.4
(0.5)
2009
£bn
113.7
12.2
(13.2)
(3.3)
(4.3)
12.3
–
8.0
0.6
(0.2)
Closing funds under management
133.1
122.1
Managed by the Group
Managed by third parties
Closing funds under management
109.3
23.8
133.1
102.4
19.7
122.1
1
Other movements in funds under management incorporates alignment changes and the
inclusion of managed pension funds.
Supplementary European Embedded Value (EEV) disclosures
In addition to reporting under IFRS, the Insurance division provides
supplementary financial reporting for its Life, Pensions and
Investments business on an EEV basis. For the purpose of EEV
reporting, covered business is defined as all life, pensions and
investments business written in the Insurance division. This definition
therefore excludes the results of St. James’s Place and the results of
the business sold through the Wealth and International division which
is not manufactured by the Insurance division.
New business profit
Expected return on
existing business
Expected return on shareholders’
net assets
Profit before tax, before
experience variances and
assumption changes
Experience variances
Assumption changes
Profit before tax, volatility and
other items
Volatility
Other items1
Profit before tax
Taxation2
Profit after tax
EEV new business margin
2010
£m
381
347
184
912
(15)
155
1,052
236
(231)
1,057
(7)
1,050
3.5%
2009
£m
341
268
219
828
139
(1)
966
228
53
1,247
(349)
898
2.5%
Change
%
12
29
(16)
10
9
4
(15)
98
17
1
2
Other items represent amounts not considered attributable to the underlying performance of
the business. In 2010 this includes a charge of £70 million following the Group’s decision to cease
writing new payment protection insurance business and a charge of £132 million arising from the
review of charging between the funds of Clerical Medical prior to the acquisition of HBOS.
The figure for taxation in 2010 reflects the actual shareholder tax charged. This approach differs
from 2009 where the tax charge was estimated based on the standard rate of corporation tax.
The prior year figures have not been adjusted to reflect this change as the adjustment is between
the volatility and taxation lines.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
47
Lloyds Banking Group
Annual Report
and Accounts 2010
Total profit before tax, before volatility and other items, increased by
£86 million, or 9 per cent, to £1,052 million. Excluding the impact of
experience variances and assumption changes, the profit before tax
increased by £84 million or 10 per cent to £912 million.
New business profit has increased by 12 per cent to £381 million,
reflecting an improved mix of business and cost reductions through
integration across our sales channels. The improved margin reflects
the strategic choices made in respect of product and channel
propositions as the legacy businesses have been integrated in order
to focus on value.
Expected return on existing business has increased by 29 per cent
to £347 million, reflecting an increase in the value of the opening
balance sheet, driven by higher asset values due to higher investment
markets in 2009, and an increase in the assumed rate of return. The
expected return on shareholders’ net assets has reduced by
16 per cent to £184 million primarily reflecting hedging initiatives.
The net impact of experience variances is not significant, with the
reduction from the prior year reflecting the non-recurrence of benefits
in 2009. Assumption changes in 2010 are predominantly driven by
benefits in the European business and lower assumed investment
management costs in the UK business, partly offset by a charge from
aligning future maintenance expense assumptions within the Clerical
Medical business to reflect the heritage Lloyds TSB approach.
Composition of EEV balance sheet
2010
£m
Value of in-force business (certainty equivalent)
6,315
Value of financial options and guarantees
Cost of capital
Non-market risk
Total value of in-force business
Shareholders’ net assets
Total EEV of covered business
(194)
(131)
(137)
5,853
3,748
9,601
Reconciliation of opening EEV balance sheet to closing
EEV balance sheet on covered business
As at 31 December 2008
Total profit (loss) after tax
Other capital movements
Dividends paid to
Group companies
As at 31 December 2009
Total profit (loss) after tax
Other capital movements
Dividends received from
Group companies
Dividends paid to
Group companies
As at 31 December 2010
Shareholders’
net assets
£m
3,948
(112)
191
(187)
3,840
337
(4)
70
(495)
3,748
Value of
in-force
business
£m
4,155
1,010
–
–
5,165
713
(25)
–
–
5,853
Analysis of shareholders’ net assets on an EEV basis on
covered business
2009
£m
5,623
(176)
(150)
(132)
5,165
3,840
9,005
Total
£m
8,103
898
191
(187)
9,005
1,050
(29)
70
(495)
9,601
As at 31 December 2008
Total profit (loss) after tax
Other capital movements
Dividends paid to
Group companies
As at 31 December 2009
Total profit (loss) after tax
Other capital movements
Dividends received from
Group companies
Dividends paid to
Group companies
As at 31 December 2010
1,224
Required
capital
£m
Free
surplus
£m
Shareholders’
net assets
£m
1,401
2,547
3,948
1
106
–
1,508
(98)
(186)
–
–
(113)
85
(187)
2,332
435
182
70
(112)
191
(187)
3,840
337
(4)
70
(495)
2,524
(495)
3,748
48
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
INSURANCE
Economic assumptions
A bottom-up approach is used to determine the economic
assumptions for valuing the business in order to determine a market
consistent valuation.
The liabilities in respect of the Group’s UK annuity business are
matched by a portfolio of fixed interest securities, including a large
proportion of corporate bonds. The value of the in-force business
asset for annuity business has been calculated after taking into
account an estimate of the market premium for illiquidity in respect
of these corporate bond holdings.
The risk-free rate assumed in valuing the non-annuity in-force
business is the 15 year government bond yield for the appropriate
territory. The risk-free rate assumed in valuing the in-force asset for
the UK annuity business is presented as a single risk-free rate to allow
a better comparison to the rate used for other business. That single
risk-free rate has been derived to give the equivalent value to the UK
annuity book, had that book been valued using the UK gilt yield curve
increased to reflect the illiquidity premium described above. The
risk-free rate used in valuing financial options and guarantees is
defined as the spot yield derived from the yield curve for the relevant
government bond. The table below shows the range of resulting
yields and other key assumptions.
United Kingdom (Sterling)
Risk-free rate (value of in-force
non-annuity business)
Risk-free rate (value of in-force annuity
business)
Risk-free rate (financial options and
guarantees)
Retail price inflation
Expense inflation
2010
%
3.99
4.66
2009
%
4.45
5.05
0.63 to 4.50 0.87 to 4.76
3.56
4.20
3.64
4.42
Non-economic assumptions
Future mortality, morbidity, lapse and paid-up rate assumptions are
reviewed each year and are based on an analysis of past experience
and on management’s view of future experience. These assumptions
are intended to represent a best estimate of future experience.
Non-market risk
An allowance for non-market risk is made through the choice of best
estimate assumptions based upon experience, which generally will
give the mean expected financial outcome for shareholders and
hence no further allowance for non-market risk is required. However,
in the case of operational risk, reinsurer default and with profit funds,
these can be asymmetric in the range of potential outcomes for
which an explicit allowance is made.
Sensitivity analysis
The table below shows the sensitivity of the EEV and the new
business profit before tax to movements in some of the key
assumptions. The impact of a change in the assumption has only
been shown in one direction as the impact can be assumed to
be reasonably symmetrical.
2010 EEV/new business profit before tax
100 basis points reduction in risk-free rate1
10 per cent reduction in market values of
equity assets2
10 per cent reduction in market values of
property assets3
10 per cent reduction in expenses4
10 per cent reduction in lapses5
5 per cent reduction in annuitant mortality 6
5 per cent reduction in mortality and morbidity
(excluding annuitants)7
100 basis points increase in equity and
property returns8
25 basis points increase in corporate
bond spreads9
10 basis points increase in illiquidity premium10
Impact on
new business
profit before
tax
£m
Impact
on EEV
£m
240
(269)
(15)
222
204
(97)
50
Nil
(115)
56
11
n/a
n/a
40
23
(3)
5
Nil
(5)
n/a
1
2
3
4
5
6
7
8
9
In this sensitivity the impact takes into account the change in the value of in-force business,
financial options and guarantee costs, statutory reserves and asset values.
The reduction in market values is assumed to have no corresponding impact on dividend yields.
The reduction in market values is assumed to have no corresponding impact on rental yields.
This sensitivity shows the impact of reducing new business, maintenance expenses and
investment expenses to 90 per cent of the expected rate.
This sensitivity shows the impact of reducing lapse and surrender rates to 90 per cent of the
expected rate.
This sensitivity shows the impact on the Group’s annuity and deferred annuity business of
reducing mortality rates to 95 per cent of the expected rate.
This sensitivity shows the impact of reducing mortality and morbidity rates on non-annuity
business to 95 per cent of the expected rate.
Under a market consistent valuation, changes in assumed equity and property returns have no
impact on the EEV.
This sensitivity shows the impact of a 25 basis point increase in corporate bond yields and the
corresponding reduction in market values. Government bond yields, the risk-free rate and
illiquidity premia are all assumed to be unchanged.
10
This sensitivity shows the impact of a 10 basis point increase in the allowance for illiquidity
premium. It assumes that the overall corporate bond spreads are unchanged and hence market
values are unchanged. Government bond yields and the non-annuity risk-free rate are both
assumed to be unchanged. The increased illiquidity premium increases the annuity risk-free rate.
In sensitivities 4 to 7 and 9 assumptions have been flexed on the basis
used to calculate the value of in-force business and the realistic and
statutory reserving bases. A change in risk discount rates is not
relevant as the risk discount rate is not an input to a market
consistent valuation.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
49
Lloyds Banking Group
Annual Report
and Accounts 2010
Profit before tax and fair value unwind from General Insurance
increased by 1 per cent to £372 million, due primarily to improved
unemployment claims experience plus integration synergies after
taking account of lower income resulting from ceasing to write new
PPI business and freeze related claims.
Underwriting income for home insurance showed modest growth of
3 per cent to £922 million. Home commission payable was adversely
affected by the alignment of commission arrangements between the
legacy businesses during the year.
PPI underwriting income decreased by £187 million, or 26 per cent, to
£544 million reflecting the continued impact on new business
volumes from the market wide move to monthly premiums in 2009
and the Group’s withdrawal from the payment protection market on
23 July 2010. Changes in commission payable reflect lower volumes
of PPI written during the year.
Claims were 15 per cent lower than 2009 at £542 million reflecting
lower unemployment claims experience. The home book has been
particularly affected by the freeze events experienced in January and
December 2010. This has been partly offset by the benefits of
ongoing claims processing improvements and integration.
Operating expenses decreased by £54 million, or 21 per cent, to
£208 million primarily as a result of the alignment of commission
arrangements on home insurance, the delivery of integration
savings and a continued focus on cost management.
2010
£m
2009
£m
Change
%
General Insurance
Home insurance
Underwriting income
(net of reinsurance)
Commission receivable
Commission payable
Payment protection insurance
Underwriting income
(net of reinsurance)
Commission receivable
Commission payable
Other
Underwriting income
(net of reinsurance)
Commission receivable
Commission payable
Other (including
investment income)
922
75
(135)
862
544
27
(318)
253
6
50
(15)
(34)
7
897
71
(94)
874
731
13
(395)
349
8
69
(28)
(6)
43
Net operating income
1,122
1,266
Claims paid on insurance contracts
(net of reinsurance)
Operating income, net of claims
Operating expenses
Profit before tax and
fair value unwind
Combined ratio
(542)
580
(208)
372
79%
(637)
629
(262)
367
83%
3
6
(44)
(1)
(26)
19
(28)
(25)
(28)
46
(84)
(11)
15
(8)
21
1
50
Lloyds Banking Group
Annual Report
and Accounts 2010
DIVISIONAL RESULTS
GROUP OPERATIONS
PROFILE
Group Operations manages the Group’s technology platforms, property estate, operations, procurement services and security.
Through these areas Group Operations drives efficiencies and supports income growth across multiple brands and channels using
scalable platforms, common processes and leveraging the Group’s purchasing power.
The division operates through four primary business functions; Information Technology; Operations; Procurement and Property.
The Information Technology area provides technological expertise to each area of the Group whilst Operations includes Banking
Operations, Collections and Recoveries and Payments and Business Services. The role of Procurement is to ensure that the Group gets
the best value from its external expenditure and strategic suppliers and Property manages and maintains the Group’s estates portfolio.
STRATEGY
Group Operations aims to be recognised as a world class operations business by colleagues, customers, stakeholders and peers whilst
ensuring value through cost and process efficiency. This will be achieved by providing excellent technology and effective process to
support the businesses; driving simplification, automation and continuous improvement; developing world class operations, leadership
and capability; and maintaining strong controls to protect the Group.
In addition to this the Integration programme is delivering substantial synergy benefits. The focus throughout 2011 will be to complete
the migration of systems and process legacies onto a single platform. This will primarily be achieved by delivering the IT consolidation,
a single and centralised operating model, along with excellent disciplined procurement and rationalisation of the property portfolio.
2010 HIGHLIGHTS
PERFORMANCE SUMMARY
2010 direct costs decreased by £109 million,
or 4 per cent, to £2,973 million reflecting the
continued focus on cost management and
the delivery of integration synergy savings.
Information Technology costs decreased by
4 per cent, with integration savings offsetting
inflationary rises.
Operations costs decreased by 7 per cent,
through the continuing rationalisation of our
major Operations functions and lower
charges in respect of joint ventures.
Group Property costs decreased by
2 per cent, with the continuing consolidation
of the heritage property portfolios delivering
further integration benefits.
Procurement costs decreased by 2 per cent,
reflecting the effect of negotiated lower third
party costs on centrally managed contracts.
In addition, Procurement has helped to
deliver Group wide synergies.
Support function costs decreased by
3 per cent, primarily driven by the completion
of payments filtering investment in 2009.
Underlying support function costs increased
largely as a result of further strengthening of
the Risk function in line with increasing
regulatory requirements.
Net interest expense
Other income
Total income
Direct costs:
2010
£m
(72)
49
(23)
20091
£m
(69)
20
(49)
Information technology
(1,209)
(1,254)
Operations
Property
Procurement
Support functions
Result before recharges to divisions
Total net recharges to divisions
Share of results of joint ventures and associates
Loss before tax and fair value unwind
Fair value unwind
Loss before tax
(628)
(968)
(56)
(112)
(2,973)
(2,996)
2,930
3
(63)
–
(63)
(672)
(983)
(57)
(116)
(3,082)
(3,131)
2,957
3
(171)
22
(149)
Change
%
(4)
53
4
7
2
2
3
4
4
(1)
63
58
1
2009 comparative figures have been amended to reflect the effect of centralising operations across the Group as part of the
integration programme. To ensure a fair comparison of the 2010 performance, 2009 direct costs have been increased with an
equivalent offsetting increase in recharges to divisions.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
51
Lloyds Banking Group
Annual Report
and Accounts 2010
CENTRAL ITEMS
Net interest expense
Other income
Total income
Operating expenses
Trading surplus
Share of results of joint ventures and associates
Profit before tax and fair value unwind
Fair value unwind
Loss before tax
2010
£m
(823)
398
(425)
(107)
(532)
2
(530)
(1,446)
(1,976)
2009
£m
(815)
1,780
965
(294)
671
(1)
670
(2,119)
(1,449)
Central items include income and expenditure not recharged to the
divisions, including the costs of certain central and head office
functions and the financial impact of hedge ineffectiveness.
Total income decreased by £1,390 million to £(425) million primarily
due to a £1,045 million reduction in liability management gains,
together with a £193 million increase in the mark-to-market losses
arising from the equity conversion feature of the Group’s Enhanced
Capital Notes and a £131 million reduction in the gain on other
derivatives which cannot be mitigated through hedge accounting.
Liability management gains arose on transactions undertaken in both
2009 and 2010 as part of the Group’s management of capital which
exchanged certain debt securities for ordinary shares or other debt
instruments. These transactions resulted in a gain of £423 million in
2010 compared to a gain of £1,498 million in 2009 (of which
£1,468 million is reflected in Central items). The fair value of the equity
conversion feature of the Group’s Enhanced Capital Notes decreased
by £620 million in 2010 compared to a decrease of £427 million in 2009.
Net interest expense was broadly unchanged at £823 million, but
included higher capital and wholesale liquidity funding costs of
£601 million (2009: £260 million) not recovered from the divisions, with
the increase primarily due to higher wholesale market funding
spreads and the Group’s decision to accelerate its wholesale funding
in 2010. This has been offset by improved net interest from interest
rate risk management activities compared to 2009.
Operating expenses reduced by £187 million to £107 million due to
lower professional fees and other costs associated with capital
transactions and projects.
Fair value unwind improved by £673 million to £(1,446) million primarily
due to the effect of the liability management transactions leading to
a reduced amortisation rate. Gains on liability management
transactions included accelerated fair value amortisations.
52
Lloyds Banking Group
Annual Report
and Accounts 2010
OTHER FINANCIAL INFORMATION
VOLATILITY ARISING IN INSURANCE BUSINESSES
The Group’s statutory profit before tax is affected by insurance volatility,
caused by movements in financial markets, and policyholder interests
volatility, which primarily reflects the gross up of policyholder tax
included in the Group tax charge.
During 2010, the Group’s statutory profit before tax included positive
insurance and policyholder interests volatility of £306 million compared
to positive volatility of £478 million in 2009 primarily reflecting the more
significant improvements in financial markets in 2009. The volatility in
2010 reflects the strong performance of equity markets, partially offset
by lower than expected returns on cash and fixed interest assets.
Volatility comprises the following:
Insurance volatility
2010
£m
100
2009
£m
237
Policyholder interests volatility1
216
298
Total volatility
Insurance hedging arrangements
Total
316
(10)
306
535
(57)
478
1
Includes volatility relating to the Group’s interest in St James’s Place.
Insurance volatility
The Group’s insurance businesses have liability products that are
supported by substantial holdings of investments, including equities,
property and fixed interest investments, all of which are subject to
variations in their value. The value of the liabilities does not move exactly
in line with changes in the value of the investments, yet IFRS requires
that the changes in both the value of the liabilities and investments
be reflected within the income statement. As these investments are
substantial and movements in their value can have a significant impact
on the profitability of the Group, management believes that it is
appropriate to disclose the division’s results on the basis of an expected
return in addition to results based on the actual return.
The expected sterling investment returns used to determine the
normalised profit of the business, which are based on prevailing
market rates and published research into historical investment return
differentials, are set out below:
United Kingdom (Sterling)
Gilt yields (gross)
Equity returns (gross)
Dividend yield
Property return (gross)
2011
%
3.99
6.99
3.00
6.99
2010
%
4.45
7.45
3.00
7.45
Corporate bonds in unit-linked
and with-profit funds (gross)
Fixed interest investments backing
annuity liabilities (gross)
4.59
5.05
4.78
5.30
2009
%
3.74
6.74
3.00
6.74
4.34
5.72
The impact on the results due to the actual return on these investments
differing from the expected return (based upon economic assumptions
made at the beginning of the year) is included within insurance volatility.
Changes in market variables also affect the realistic valuation of the
guarantees and options embedded within the With Profits Funds, the
value of the in-force business and the value of shareholders’ funds.
The Insurance division experienced positive volatility of £100 million
during 2010. This was primarily driven by strong performance on equity
and property investments relative to the expected return. During 2010,
equity market values increased by 9 per cent and property returns
reached 19 per cent. Partly offsetting this was lower than expected
returns on cash and fixed interest assets. This benefit is lower than
the £237 million positive volatility reported in 2009, as 2009 included
significant benefits from reductions in corporate bond spreads, which
did not occur in 2010, and greater out-performance of equity markets.
Group hedging arrangements
To protect against further deterioration in equity market conditions, and
the consequent negative impact on the value of in-force business on the
Group balance sheet, the Group purchased put option contracts in 2009.
These expired in January 2010. The charge for this option was £7 million.
New protection against significant market falls, using option contracts,
was acquired by the Group, financed by selling some upside potential
from equity market movements. There was no initial cost associated with
these hedging arrangements. On a mark-to-market valuation basis a loss
of £3 million was recognised in relation to these contracts in 2010. The
2010 option contracts were replaced by the Group in January 2011 with
fresh contracts to provide further protection against significant market
falls. Again this was financed, at no initial cost, by selling some upside
potential from equity market movements.
Policyholder interests volatility
The application of accounting standards results in the introduction
of other sources of significant volatility into the pre-tax profits of the
life, pensions and investments business. In order to provide a clearer
representation of the performance of the business, and consistent with
the way in which it is managed, adjustments are made to remove this
volatility from underlying profits. The effect of these adjustments is
separately disclosed as policyholder interests volatility; there is no impact
upon profit attributable to equity shareholders over the long term.
The most significant of these additional sources of volatility is
policyholder tax. Accounting standards require that tax on policyholder
investment returns should be included in the Group’s tax charge rather
than being offset against the related income. The impact is, therefore,
to either increase or decrease profit before tax with a corresponding
change in the tax charge. Over the longer term the charges levied to
policyholders to cover policyholder tax on investment returns and the
related tax provisions are expected to offset. In practice timing and
measurement differences exist between provisions for tax and charges
made to policyholders. Consistent with the normalised approach taken
in respect of insurance volatility, differences in the expected levels of
the policyholder tax provision and policyholder charges are adjusted
through policyholder interests volatility. Other sources of volatility
include the minorities’ share of the profits earned by investment vehicles
which are not wholly owned by the long-term assurance funds.
During the year ended 31 December 2010, the statutory profit before
tax in both the Insurance and Wealth and International divisions included
credits to other income which relate to the policyholder interests
volatility charge of £216 million (2009: policyholder interests volatility
charge of £298 million). Strong market conditions in the latter part
of 2010 resulted in increased policyholder tax liabilities and led to a
policyholder tax charge of £315 million (2009: £410 million) for the year
in the Group’s tax charge.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
53
Lloyds Banking Group
Annual Report
and Accounts 2010
Total cost reductions from synergies of £1,361 million were achieved in
the year against the integration baseline and in line with target include
other operating efficiencies and one-off savings which are excluded
from the reported run rate synergies. The total cost reductions relate
primarily to reductions in colleague numbers, procurement and
IT savings.
One-off integration costs of £1,653 million were incurred in 2010 which
have been excluded from the combined businesses results. This
brings the total integration costs since the HBOS acquisition to
£2,749 million. The integration costs relate to severance, IT and
business costs of implementation. The severance provisions are for
26,000 role reductions announced to the end of 2010, of which 22,000
have been achieved to date.
OTHER FINANCIAL INFORMATION
INTEGRATION
The Group remains on target to deliver annualised cost savings from
synergies and other operating efficiencies of £2 billion by the end
of 2011.
The sustainable run-rate synergies achieved as at 31 December 2010
totalled £1,379 million excluding a number of one-off savings. The
table below analyses the run-rate synergies as at 31 December 2010
by division and the 2011 target run-rate of £2 billion.
Synergy
run-rate
as at
31 December
2010
£m
301
248
233
167
393
37
1,379
2010
Allocation of
Group
Operations
run-rate to
divisions
£m
228
111
7
30
(393)
17
–
2011
Target
run-rate
by market
facing
division
£m
Run-rate
by market
facing
division
£m
529
359
240
197
–
54
867
532
242
239
–
120
1,379
2,000
Retail
Wholesale
Wealth and
International
Insurance
Group Operations
Central items
Total
Savings to date continue to be driven largely from role reductions
resulting from deployment of the new Group organisation design
adopting the Lloyds TSB approach. The overwhelming majority of
role reductions have been achieved through re-deployment, natural
turnover and voluntary redundancy. In addition the Group has exited
79 non-branch properties during 2010, bringing the total to 162 since
the start of the integration programme.
Procurement benefits in 2010 were also significant at £236 million and
supplier negotiations resulted in over 90 per cent of Group
expenditure being consolidated within our top 1,000 suppliers.
The software build of the Integrated IT Platform was completed in the
first half of 2010 and following extensive testing largely implemented
by the end of 2010 and is now live and operational for most
Lloyds TSB processes and transactions. Roll out of the Lloyds TSB
counter system across Halifax and Bank of Scotland branches
commenced in late 2010 and will complete during the first half of 2011.
Similarly HBOS ATMs are being migrated and the Group’s target
mortgage sales platform rolled out to mortgage sales advisers
creating a single platform for mortgage sales.
Product and channel systems are being integrated and harmonised
where required and this will continue through the first half of 2011 in
parallel with a detailed and rigorous programme of testing in
preparation for customer data migration from HBOS systems to the
single IT platform by the end of 2011.
Integration activities have continued at pace over 2010 with delivery
being wide ranging and spanning Group activities. Examples include
the rollout of the Lloyds TSB model of day time cash deliveries to
Halifax and Bank of Scotland branches; implementation of an improved
online mortgage application process for mortgage brokers; delivery of
a single scalable secure Internet Banking platform; launch of an
integrated product proposition for our market leading bancassurance
business; migration of Asset Finance Lex customer and Bank of Scotland
dealer finance books onto a single platform; and harmonisation of our
loss notification and loss adjusting service processes for household
insurance within our General Insurance business.
54
Lloyds Banking Group
Annual Report
and Accounts 2010
OTHER FINANCIAL INFORMATION
BANKING NET INTEREST MARGIN
Banking net interest margin
Banking net interest income
Average interest-earning assets
Average interest-bearing liabilities
Banking net interest margin
Banking asset margin
Banking liability margin
2010
£m
2009
£m
13,386
637,386
352,701
2.10%
1.56%
0.97%
11,953
674,246
347,180
1.77%
1.11%
1.28%
Banking net interest income is analysed for asset and liability margins based on interest earned and paid on average assets and average liabilities
respectively, adjusted for Funds Transfer Pricing, which prices intra-group funding and liquidity. Centrally held wholesale funding costs and related
items are included in the Group banking asset margin.
Average interest-earning assets and average interest-bearing liabilities relate solely to customer and product balances in the banking businesses
on which interest is earned or paid. Funding and capital balances including debt securities in issue, subordinated debt, repurchase agreements and
shareholders’ equity are excluded from the calculation of average interest-bearing liabilities. However, the cost of funding these balances allocated
to the banking businesses is included in banking net interest income.
A reconciliation of banking net interest income to Group net interest income which shows the items excluded in determining banking net interest
income follows:
Banking net interest income – combined businesses
Insurance division
Other net interest income (including trading activity)
Group net interest income – combined businesses
Fair value unwind
Insurance gross up
Volatility arising in insurance businesses
Pre-acquisition results of HBOS plc
Group net interest income – statutory
2010
£m
13,386
(263)
699
13,822
(301)
(949)
(26)
–
12,546
2009
£m
11,953
(287)
1,060
12,726
(2,166)
(1,280)
(11)
(243)
9,026
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
55
Lloyds Banking Group
Annual Report
and Accounts 2010
OTHER FINANCIAL INFORMATION
CORE AND NON-CORE BUSINESS
Non-core portfolios consist of non-relationship assets and liabilities together with assets and liabilities which are outside the Group’s current appetite.
An analysis of non-core assets and liabilities and the associated income and impairment charge is shown in the table below.
2010
Core portfolios
Retail
Wholesale
Wealth and International
Insurance
Group Operations and Central items
Non-core portfolios
Retail
Wholesale
Wealth and International
Total Group
Core portfolios
Non-core portfolios
Total Group
2009
Core portfolios
Retail
Wholesale
Wealth and International
Insurance
Group Operations and Central items
Non-core portfolios
Retail
Wholesale
Wealth and International
Total Group
Core portfolios
Non-core portfolios
Total Group
Underlying
income1
£m
Impairment
charge
£m
Loans and
advances to
customers
£bn
Risk weighted
assets
£bn
Customer
deposits
£bn
10,394
5,540
1,679
2,009
(251)
19,371
591
3,022
657
4,270
23,641
%
82
18
100
£m
9,386
5,336
1,601
1,990
(125)
18,188
388
3,573
744
4,705
22,893
%
79
21
100
(2,623)
(1,276)
(221)
–
–
(4,120)
(124)
(3,170)
(5,767)
(9,061)
(13,181)
%
31
69
100
£m
(3,974)
(2,187)
(189)
–
–
(6,350)
(253)
(13,496)
(3,889)
(17,638)
(23,988)
%
26
74
100
333.1
102.0
18.1
–
0.4
453.6
30.6
71.2
37.2
139.0
592.6
%
77
23
100
£bn
337.6
108.7
19.2
–
0.6
466.1
33.5
83.1
44.3
160.9
627.0
%
74
26
100
98.1
127.9
23.7
–
15.7
265.4
11.2
94.8
35.0
141.0
406.4
%
65
35
100
£bn
115.4
150.6
23.1
–
15.5
304.6
13.2
135.4
40.1
188.7
493.3
%
62
38
100
235.6
119.4
32.5
–
0.9
388.4
–
4.9
0.3
5.2
393.6
%
99
1
100
£bn
224.1
148.5
25.3
–
0.2
398.1
–
4.9
3.7
8.6
406.7
%
98
2
100
1
Net of insurance claims. Excluding liability management gains and the reduction in the fair value of the equity conversion feature of the Group’s Enhanced Capital Notes.
Non-core assets
Non-core portfolios primarily comprise loans and advances to customers. However, certain portfolios of debt securities, available for sale financial
assets and other assets in Wholesale are also considered to be non-core. The Group’s total non-core assets are shown in the table below.
As at 31 December
Non-core assets
Loans and advances to customers
Debt securities
Available for sale financial assets
Other assets
Total non-core assets
2010
£bn
139.0
25.4
22.2
8.1
194.7
20091
£bn
Change
%
160.9
31.5
32.0
11.7
236.1
(14)
(19)
(31)
(31)
(18)
1
Total non-core assets at 31 December 2009 have been reduced by £3.9 billion from the previously presented figure of £240 billion following a reclassification between core and non-core.
56
Lloyds Banking Group
Annual Report
and Accounts 2010
FIVE YEAR FINANCIAL SUMMARY
The statutory financial information set out in the table below has been derived from the annual report and accounts of Lloyds Banking Group plc for
each of the past five years.
The financial statements for each of the years presented have been audited by PricewaterhouseCoopers LLP, independent auditors.
Income statement data for the year ended 31 December (£m)
Total income, net of insurance claims
Operating expenses
Trading surplus
Impairment
Gain on acquisition
Profit before tax
(Loss) profit for the year
(Loss) profit for the year attributable to equity shareholders
Total dividend for the year1
Balance sheet data (£m)
Share capital
Shareholders’ equity
Net asset value per ordinary share
Customer deposits
Subordinated liabilities
Loans and advances to customers
Total assets
Share information
Basic earnings per ordinary share
Diluted earnings per ordinary share
Total dividend per ordinary share1
Market price (year end)
Number of shareholders (thousands)
Number of ordinary shares in issue (millions)2
Financial ratios (%)3
Dividend payout ratio
Post-tax return on average shareholders’ equity
Cost:income ratio4
Capital ratios (%)5
Total capital
Tier 1 capital
2010
2009
20086
20076
20066
24,956
(13,270)
11,686
(10,952)
–
281
(258)
(320)
–
23,278
(15,984)
7,294
(16,673)
11,173
1,042
2,953
2,827
–
9,868
(6,100)
3,768
(3,012)
–
760
798
772
648
10,696
(5,568)
5,128
(1,796)
–
3,999
3,320
3,288
2,026
11,098
(5,300)
5,798
(1,555)
–
4,249
2,908
2,804
1,927
31 December
2010
31 December
2009
31 December
2008
31 December
2007
31 December
2006
6,815
46,061
68p
393,633
36,232
592,597
991,574
2010
(0.5)
p
(0.5)
p
–
65.7p
2,798
68,074
2010
–
(0.7)
53.2
10,472
43,278
68p
406,741
34,727
626,969
1,027,255
2009
7.5p
7.5p
–
50.7p
2,834
63,775
2009
–
8.8
68.7
1,513
9,393
155p
170,938
17,256
240,344
436,033
2008
6.7p
6.6p
11.4p
126.0p
824
5,973
2008
83.9
7.0
61.8
1,432
12,141
212p
156,555
11,958
209,814
353,346
2007
28.9p
28.7p
35.9p
472.0p
814
5,648
2007
61.6
28.1
52.1
1,429
11,155
195p
139,342
12,072
188,285
343,598
2006
24.8p
24.5p
34.2p
571.5p
870
5,638
2006
68.7
26.6
47.8
31 December
2010
31 December
20097
31 December
20087
31 December
2007
31 December
2006
15.2
11.6
12.4
9.6
11.1
7.9
11.0
8.1
10.7
8.2
1
2
3
4
5
6
7
Annual dividends comprise both interim and estimated final dividend payments. Under IFRS, the total dividend for the year represents the interim dividend paid during the year and the final dividend
which will be paid and accounted for during the following year.
This figure excludes 81 million (2006 to 2008: 79 million) limited voting ordinary shares.
Averages are calculated on a monthly basis from the consolidated financial data of Lloyds Banking Group.
The cost:income ratio is calculated as total operating expenses as a percentage of total income (net of insurance claims).
Capital ratios are in accordance with Basel II requirements; other than the ratios for 2007 and 2006 which reflect Basel I.
Restated in 2009 for IFRS 2 (Revised) and to separate the share of results of joint ventures and associates from total income.
Restated in 2010 to reflect a prior year adjustment to available-for-sale revaluation reserves.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Directors’ remuneration report 124
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
57
Lloyds Banking Group
Annual Report
and Accounts 2010
OUR PEOPLE
Building long lasting relationships through people
Lloyds Banking Group’s continued success depends on people.
Banking is about helping people to reach their goals in life by
getting the most from their money. Lloyds Banking Group makes
business sense but we also need it to make sense for people – for
our employees and customers. Our employees are focused on
providing our customers with great service every day. They know
that successful relationships are at the heart of how we do business
and how we support our customers through the cycle.
To make this happen, we are creating an organisation that attracts,
retains and develops the best talent in the industry and one that
embraces diversity too. We want to be recognised as a great place
to work.
At Lloyds Banking Group, we are committed to making a significant
investment in our people. Life here is fast-moving and full of
challenges as we strive to be the best. It’s also incredibly rewarding.
In 2010 we recorded our highest ever employee engagement score.
Engaged employees are more motivated to understand customer
needs and deliver outstanding service, time and time again. This is
one of the ways in which we will rebuild trust in our industry. Our
rewards and benefits packages, which go beyond salary and bonus,
are designed to keep our employees motivated to do this.
This year we delivered a significant milestone in our integration when
we harmonised Terms and Conditions for most employees in the
Group. In addition, over 87,000 employees selected benefits available
through our Flexible Benefits plan. Over 52,000 people showed their
confidence in the Group by electing to take part in Sharesave, our
employee share ownership plan that offers everyone the opportunity to
buy shares over a three year period and have a long term investment
in the Group’s success. We made some changes to our pension
schemes in April and our new scheme, ‘Your Tomorrow’, was awarded
the Pension Quality Mark Plus – the highest quality mark available
from the National Association of Pension Funds.
As a leader in financial services, we are committed to professional
development and creating outstanding learning opportunities that
allow people to reach their full potential. We invest in our people,
offering the best coaching and training. Learning @ Lloyds Banking
Group is one of the largest corporate learning facilities in Europe.
We also provide our people with the opportunity to contribute to
our leading corporate and social responsibility practices, a strong
part of our culture. Employees celebrated raising £3.4 million for the
British Heart Foundation in just two and a half years at the end
of 2010. They also demonstrated their continued commitment and
enthusiasm for good causes when 21,500 voted for the 2011 Charity
of the Year, Save the Children.
Our new Diversity and Inclusion strategy was launched in January
2010 and our sponsorship of London 2012 offers employees a
unique opportunity to be involved both in the Games and the
legacy they leave.
Integration
2010 was significant in relation to people integration. Shaping our
new business for the future means having the very best people in every
single role and being as efficient as possible. We have successfully
managed the impact of change on our people by working at pace to
establish controls and embed risk management practices, by defining
and implementing the new organisational structure and selecting for it.
We continue to move toward establishing a single organisation and
by 1 December 85 per cent of eligible colleagues were on the newly
harmonised Terms and Conditions. This is a significant step forward
on our journey towards becoming ‘One Bank’.
Inevitably in bringing the two organisations together, there has been
an opportunity to rationalise and this has led to a reduction
in roles. Where possible we have either redeployed colleagues to
other areas of the Group or reduced numbers through natural
attrition. Where it has been necessary for colleagues to leave the
organisation, this has been achieved by offering voluntary severance
and by making less use of contractors and agency colleagues.
Compulsory redundancies are always a last resort.
The focus has been on enabling the business to integrate, while also
building foundations for the future to ensure the organisation can
attract, retain and develop the best talent. People have been at the
heart of the change programme, and a robust communications
process has been followed to ensure that colleagues are aware of the
changes before they happen. We have four recognised Unions who
have been consulted on all proposed changes.
We have focused on bringing the majority of colleagues on to one
core colleague system which involved the migration of over 63,000
colleagues on to a new platform which is now accessible to colleagues
from both heritages.
We also implemented a number of new Lloyds Banking Group
platforms for colleagues. In 2010 we built an integrated colleague
proposition for the future with a focus on recruiting, performance
management, learning, and reward and improving the direct links
between these factors.
The implementation of the Resourcing Candidate Management
System in 2010 provides us with one integrated Lloyds Banking Group
internal role recruitment tool and also one external
Lloyds Banking Group careers website. Combined, they enable
integration, simplification and improvement of key elements of the
recruitment process.
‘Your Performance’ was launched early in 2010 providing a Group
wide on-line approach for managing performance with 96 per cent
colleague coverage. ‘Your Learning’ was launched providing one
integrated learning tool helping colleagues develop learning plans
and record training and accreditation. ‘Your Tomorrow’, the first
Lloyds Banking Group Defined Contribution pension scheme
launched in 2010 and we auto-enrolled over 8,000 colleagues. We
also completed development of an integrated Pay and Bonus tool
for managing Pay 2011 and Bonus 2010 aligned directly with
Performance Management.
These changes have been made with Group wide engagement,
with line managers and colleagues embracing the changes.
Colleague engagement
Although 2010 has been a period of considerable change, we are
proud of our continuously high levels of colleague engagement. This
is vital in creating a high commitment, high performance organisation.
Every quarter we run a comprehensive and confidential colleague
survey to gauge colleagues’ views on key issues. The scope of the
colleague survey includes all UK and International colleagues across
the Group. In 2010, we achieved record response rates of 83 per cent
(up from 79 per cent in 2009) which is regarded as ‘best in class’. The
overall Engagement Index finished the year at 80 index points, which
is an increase of 8 index points from 2009. The results to individual
58
Lloyds Banking Group
Annual Report
and Accounts 2010
OUR PEOPLE
questions continued to improve compared with 2010, most notably in
areas such as Performance Management, Learning, Customer and
Leadership. The level of engagement now exceeds all of the external
benchmarks, including the UK Financial Services and UK High
Performance norms for the first time.
Talent, recruitment and retention
One of our highest priorities is recruiting, retaining and developing
talented people. Developing colleagues and succession planning are
vital in supporting our strategy and have been a major focus in 2010.
During the year we have undertaken detailed talent reviews and
succession planning for our most senior leaders. Through internal
promotion and attracting new talent to the Group in 2010 we have
improved the talent profile and succession pipeline, while mitigating
the retention risks of our senior leaders.
In 2010 we recruited 147 people into the Lloyds Banking Group
Graduate Leadership Programme. The strength of our Graduate
Programme has been externally acknowledged with The Times rating
us in the Top 30 UK organisations for graduate recruitment.
Performance and reward
Effective performance management is at the heart of our work to
build a high performance culture across Lloyds Banking Group. It
also plays a critical role in helping us to develop our colleagues to
build long term partnerships with customers and strong relationships
with each other. Every colleague has a Balanced Scorecard
comprising of five areas (building the business, customer, risk, people
and finance) with objectives that are aligned to our broader strategy.
At the end of every year colleagues are given a performance rating
based on their overall contribution during the year assessed against
both what they have done (performance against their objectives) and
how they have gone about doing it (performance against our values
and behaviours). This performance rating is then linked to how each
colleague is rewarded.
Throughout the year, line managers provide colleagues with regular
open and honest feedback to help them develop the right skills and
behaviours and to help them address any challenges they may face in
meeting performance standards. In 2010 we launched a single
approach to performance management across Lloyds Banking Group,
the success of which was acknowledged at the 2010 Personnel Today
Awards where it was one of the reasons why we received the top
award for Managing Change.
In 2010 we introduced a cap on our Defined Benefit pension schemes
that will help us to manage the significant long-term cost inherent in
the scheme and continue to meet our obligations to all members
in future years. Alongside this we introduced a new Defined
Contribution pension scheme that gives considerable flexibility
to employees to plan for retirement.
Learning and development
In 2010 we have continued to invest in the development of our
colleagues across the organisation providing an average of 5.4 days
formal learning per full time equivalent.
Retail Customer Service Training
A key focus for training across Retail has been the transformation of our approach in handling
customer complaints. This has resulted in over 30,000 customer facing colleagues receiving
training across Lloyds TSB, Halifax and Bank of Scotland Branch Networks. The key purpose of
this training was to improve the experience for customers when advising us of a complaint – this
included colleagues taking ownership of each complaint at first point of contact, accurate
recording and effective and timely resolution. A blend of training approaches was adopted
including e-learning, testing, validation and face to face sessions supported by comprehensive
Senior Manager engagement. This programme has resulted in a significant improvement in the
number of complaints resolved at first point of contact and is having a positive impact on our
Customer Service measures.
Business focus
Our learning strategy is aligned to our goal of outperformance
through cost and customer leadership. It aims to help drive high
performance, greater productivity and deep lasting customer
relationships by supporting the development of highly engaged,
skilled colleagues and capable leaders.
To further simplify access to business aligned learning we have
continued to deploy our Academies approach supported by a
redesigned Learning @ Lloyds Banking Group website, which attracts
around 1.7 million visits per month.
We remain committed to supporting a range of programmes linked
to professional qualifications or relevant external certification. These
programmes enable us to develop our colleagues in line with
recognised industry standards and provide confidence to customers
and other stakeholders.
Technical capabilities
Our colleagues need appropriate technical capabilities to enable
them to support our customers effectively. Our business-focused
learning programmes cover critical business skills such as risk,
relationship management and financial management. A key focus has
been supporting colleagues through the changes needed to
successfully progress our integration programme.
Significant activity has taken place to support the implementation of
common enhanced IT platforms designed to deliver improved
customer service through our branches. Colleagues in our Telephone
Banking teams also received significant investments in customer
service training.
Leadership and management capability
Leaders throughout the organisation play a critical role in bringing
our values to life for colleagues. The Group has continued its focus
on developing and strengthening leadership and management
skills with the launch of new Group wide Executive Development
and Leadership and Management programmes. Using a shared
Leadership language these have placed a particular emphasis on
Performance Management and leading during a period of sustained
rapid change.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Directors’ remuneration report 124
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
59
Lloyds Banking Group
Annual Report
and Accounts 2010
Diversity and inclusion
During 2010, we have continued to make strong progress in all areas
of Diversity & Inclusion. With a broad strategy, significant focus has
come through the appointment of five Executive Director level
sponsors who cover gender and work life balance, ethnic diversity,
sexual orientation, disability and generational diversity.
Our leading edge diversity and inclusion strategy, developed through
active consultation across the organisation, will enhance the Group’s
ability to build deep and lasting relationship with colleagues,
customers and suppliers.
We have also achieved excellent colleague network growth under our
sexual orientation strand, with membership tripling in 2010. Externally,
we continue to be active and prominent members of Stonewall3,
participating in their annual Workplace Equality Index. The Group
has also achieved some firsts; our Home Loan advert featuring a
gay couple was the first gay imagery from a UK financial services
organisation in national press. And our sponsorship of the largest
ever lesbian, gay, bisexual and transgender consumer survey –
covering 23 countries and with over 8,000 UK respondents, will
yield deep insights into the opportunities to strengthen our
customer relationships.
Lloyds Banking Group Ethnic Minority Network
HR people risk
Mark Swyny
Lloyds Banking Group
During 2010 the GEM Network for ethnic minority colleagues marked its launch across the
enlarged Group with an inspirational event held in Leeds. Themed ‘Your Time to Shine’ almost
300 colleagues from across the Group came together to hear from the Group’s Executive
Sponsor for Ethnic Diversity, Angie Risley, fellow ethnic minority colleagues’ inspirational
career success stories and celebrity guest speaker Tim Campbell, first winner of BBC’s
‘The Apprentice’.
Delegates came away from the event feeling motivated, inspired and equipped to make their
career with the Group all they want it to be. Following the launch event, by the end of the year
GEM Network membership increased to almost 1,500 members.
”I came away inspired and feeling that Lloyds Banking Group is the place to be for ethnic
minorities. It was a life changing event for me.”
Source: GEM conference feedback form.
Through reviewing our resourcing, work life balance and leadership
development practices, we have continued to ensure we are able to
attract, recruit and retain talented colleagues from diverse
backgrounds. With diversity and inclusion integrated into the
organisation’s mainstream management development we are
equipping our leaders to embrace inclusion and leverage the
opportunities of diverse thinking. All colleagues have had the
opportunity to learn more about our progress, to give their views and
to participate through the Group’s first national Diversity & Inclusion
Week, a campaign to be repeated on an annual basis.
A new area of focus for the Group has been the establishment of a
People Risk function within Group Human Resources. This function
aims to ensure the management of people risks are central to the
development and delivery of the Group’s business strategy.
People Risk is fundamental to our ongoing success as an organisation.
Consequently we have built people risk management into our overall
accountability framework including our Group Risk Appetite and
incorporating it into our Group People Strategy.
We have created a team to lead on the development and delivery of
a people risk strategy. The team will also support the establishment
of people risk management across the Group. This will be achieved
through effective support, challenge and oversight of risk
management across Human Resources; managing and co-ordinating
the Group’s regulatory relationship on Human Resource issues and
through strategic people risk management.
Strengthening the Group’s focus in this way, the People Risk function’s
early priorities have included: reviewing and enhancing the
co-ordination and management of the Group’s Approved Persons
arrangements for Significant Influence Functions, providing guidance
on moderation of pay and bonuses to comply with the FSA’s
Remuneration Code and increasing the integration of risk into our
reward and performance framework.
As we enter the final year of our integration programme, we continue
to make excellent progress towards becoming ‘One Bank’. We will
go on building a diverse, talented and engaged workforce and
equipping it with the skills it needs to provide the best customer
service. By rewarding great service and strong performance
appropriately, we will embed the values needed to build deep and
enduring customer relationships that are at the heart of our business.
We also continue to make great progress on matters of disability,
ethnicity and sexual orientation.
1 2 3
With regards to disability, we have implemented new development
programmes, grown our colleague network by over 100 per cent and
conducted research to better understand our disabled customer
experience. In addition, we launched and sponsor the Radiate
Network1, the UK’s first national network of senior disabled leaders.
Our ethnic diversity colleague network has also grown in numbers,
with over 1500 colleagues participating. Alongside our internal
activity, our external presence has grown through our sponsorship of
the Runnymede Trust’s2 ‘Snowy Peaks’ report which researched ethnic
minority success at senior management and executive levels.
1
Radiate is the network of high-fliers with disabilities or health conditions. It is supported by
RADAR (the UK’s largest disability campaigning organisation) and Lloyds Banking Group
2
The Runnymede Trust is an independent race equality think tank
3
Stonewall is a lesbian, gay and bisexual rights charity in the United Kingdom and the largest gay
equality organisation in Europe
60
Lloyds Banking Group
Annual Report
and Accounts 2010
CORPORATE RESPONSIBILITY
Supporting our business strategy
Our business strategy is to be recognised as the UK’s best financial
services company. We want to be recognised and recommended as
a trusted brand by customers, a good employer by colleagues and an
active, valued participant in our communities.
Trust in the banking industry has been eroded over the past few years.
Rebuilding stakeholders’ trust in financial institutions will be central to
us achieving our corporate goal.
Corporate responsibility is integral to our business strategy. We need
to ensure that we are running our business in a responsible way. We
need to demonstrate that we are making a sustained, positive
contribution to the economy and to society; by playing our part in the
UK’s economic recovery and by investing in the communities of which
we are a part. Finally, as a relationship-led business, we need to work
on building deep and lasting relationships with our customers,
employees and suppliers; by engaging with them, listening to their
needs and, if appropriate, making changes to the way we do business.
The following pages set out how we are delivering on our
responsibilities to all of our stakeholders. We report under three
headings, Responsible Business Management; our Economic and
Social Impact; and, Building Relationships.
Responsible business management
We believe that we can make our greatest contribution to society by
being good at what we do, and by doing it in a responsible way. Our
approach to responsible business management is founded on robust
corporate governance practices and a risk management culture which
guides the way all employees approach their work, the way they
behave and the decisions they make. This helps us focus on building
and sustaining long-term relationships with customers. Over time, we
believe that this will enable us to deliver superior, more sustainable
shareholder value.
Corporate responsibility governance
We strengthened our governance framework in 2010, establishing
Board representatives for key strands of our Corporate Responsibility
agenda. Sir Winfried Bischoff, Chairman of Lloyds Banking Group,
has overall Board responsibility for Corporate Responsibility.
Truett Tate, Group Executive Director, Wholesale, is Executive
Sponsor for Climate Change and Environmental Issues and
Helen Weir, Group Executive Director, Retail, is Executive Sponsor
for Financial Inclusion.
We also established a new Environmental Steering Group, chaired by
our Group Property Director. With senior representation from across
the Group, this drives our environmental strategy, targets and
performance. This year, we have established a Financial Inclusion
Steering Group.
The Board considers corporate responsibilty issues throughout the
year, and reviews our performance on an ongoing basis. The
Corporate Responsibility Steering Group, chaired by Group HR
Director Angie Risley, meets on a regular basis to drive corporate
responsibility strategy. Most of our activity, however, takes place in the
business itself, driven by a network of senior managers who act as
Corporate Responsibility champions.
Risk management
We have rolled out Lloyds TSB’s conservative approach to risk across
the entire Group. This prudent attitude to risk is core to the Group’s
business model. It is the foundation for responsible business
management. The Group’s risk management framework is set out
on pages 69 to 70.
Reflecting the importance that we place on risk management, risk
is included as one of the five principal criteria within the Group’s
balanced scorecard on which individual staff performance is judged.
We work very closely with the FSA and UK Financial Investments to
ensure that our remuneration structure is aligned to prudent risk
management. Business Executives have specific risk management
objectives and incentive schemes take account of performance
against these. Full disclosure on Executive remuneration is on
pages 124 to 141 of this report.
Responsible lending, advice and support
As a responsible lender, we wish to ensure customers only borrow
what they can afford to repay. We have a responsible lending
programme with internal management reporting and accountability.
Our customer-facing employees are trained to offer the necessary
advice and support to help customers manage their borrowing.
Each customer’s circumstances are different so we use an affordability
model, to better assess a customer’s ability to repay. We take into
account customers’ current and past management of financial
products. We also consider their ability to make repayments both at
the time the account is opened, and throughout the duration of the
loan, to ensure that the borrowing remains suitable to
their circumstances.
Lloyds TSB, Halifax and Bank of Scotland all have dedicated Customer
Support and Money Management units to provide specialist help to
customers who are concerned about their financial situation. They are
there to help customers who actively seek help with their finances,
and proactively contact those who we believe are at the highest risk of
missing repayments. We speak with more than 300,000 customers a
month to assess their financial health and find ways in which we
can help.
We have an ongoing programme to train colleagues to provide
guidance and support to customers on managing their borrowing.
We help them find an appropriate solution, whether through more
effective budgeting, or by rescheduling their borrowing with us. We
have trained over 7,000 financial health specialists available to help
our customers in branches. Where appropriate, we refer customers to
free and independent money advice charities. In 2010, we contributed
£12.5 million to money advice and debt charities, including the Money
Advice Trust and the Consumer Credit Counselling Service.
Protecting customers against financial crime
We take protecting our customers and their assets extremely
seriously. We invest in activities to deter, detect and prevent fraud
and we operate systems designed to ensure that our products and
services are not abused for the purposes of laundering the proceeds
of crime or for facilitating terrorism. We have processes in place to
check the identity of customers and use various tools to monitor the
validity of transactions that they make and receive.
We also want to help our customers to protect themselves from
financial crime. Our various brand websites contain information to
help customers to understand how to protect against the risks of
common types of internet fraud. We run regular financial crime
awareness campaigns, support industry education initiatives and
sponsor the charity Crimestoppers.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
61
Lloyds Banking Group
Annual Report
and Accounts 2010
Environmental management
We believe that we have an important role to play in facilitating and
financing the transition to a low carbon, resource efficient economy.
Our vision is to be recognised by our stakeholders as a leading
environmentally responsible organisation.
We are already one of the leading global financers of renewable energy
(by debt underwriting capability). In 2010, Lloyds Banking Group
was rated the top UK bank in the new FTSE CDP Carbon Strategy
Index Series, recognising our performance in managing climate risks
and grasping the emerging opportunities.
Managing environmental risks in lending
We have introduced policies and procedures to reduce the
environmental impact of our lending activities. Our groupwide
Environmental Risk Policy requires all business loans to be assessed
for material environmental risks as part of the credit sanctioning
process. Our policy is supported by a robust process which ensures
that there is a consistent approach to identifying, assessing,
mitigating and reporting environmental risks. Lending officers are
responsible for ensuring that environmental risks are assessed and
that action is taken where a risk is identified. Employees are trained in
environmental risk management as part of our standard credit risk
training course and have access to relevant guidance documents. In
2011, we will further strengthen our risk management process with the
implementation of an online environmental risk screening tool.
Project finance: Equator Principles
Lloyds Banking Group is a signatory to the Equator Principles to
support our approach to assessing and managing environmental and
social issues in project finance. Lending officers are responsible for
undertaking initial classification of transactions that qualify under the
Equator Principles. Their assessments are subject to further review by
our Equator Principles Review Group, comprising experts from both
our Risk and Project Finance teams, to ensure that each transaction is
compliant and is consistent with our Environmental Risk Policy. We
trained over 100 employees in our Equator Principle Procedures
in 2010.
Resource efficiency
Reducing our own use of resources helps us minimise our impact on the
environment as well as keeping our costs under control. In 2010, we
launched Smart & Responsible, our new targeted environmental action
plan. It aims to deliver significant environmental and cost savings, as well
as improving colleagues’ work-life balance.
We also registered for the Carbon Reduction Commitment Energy
Efficiency Scheme in 2010 and will now be required to purchase
allowances for each tonne of energy-related CO2 we emit. It has
significant cost implications for the Group which provides a further
incentive to reduce our carbon emissions. We are already working
towards achieving the Carbon Trust Standard for the Group – this
standard recognises organisations that are genuinely measuring
and reducing CO2 emissions. Our goal is to reduce our energy
consumption by 30 per cent by 2020.
Engaging our employees
Employees play a key role in delivering our environmental agenda.
One of the main areas where colleagues can have a real impact is in
business travel. We have a common travel policy in place across the
Group which supports a focus on reducing travel. This has helped
us increase the volume of teleconferences by 73 per cent in 2010
compared with 2009.
We strengthened our approach in 2010 with the introduction of
TRAVELwise, part of the Smart & Responsible programme. We have
set a TRAVELwise target to avoid 1 in 5 business flights by 2015.
CO2 Emissions (tonnes)
Total UK CO2 emissions
Scope 1 emissions
Scope 2 emissions
Scope 3 emissions
2010
2009
442,535
449,207
73,182
76,387
333,315
343,693
36,038
29,127
For 2009, we have reported emissions for January to December. For 2010 and future years,
we will report annual emissions from October to September. Our CO2 emissions have been
independently verified by environmental consultants by RPS Group.
The Equator Principles reporting January to December 2010 are
as follows.
Our economic and social impact
Deals
Completed
In progress
Not completed
Total
A
–
–
–
–
Geography of completed transactions
US
Europe
Rest of world
Total
–
–
–
–
Industry of completed transactions
B
8
4
5
17
3
5
–
8
Renewables
Infrastructure
Energy & ulilities
Total
C
10
–
2
12
2
8
–
10
Number
8
8
2
18
We have a presence in almost every community in the UK and touch
many millions of lives. Our significant role in the financial services
sector is a privilege, and one that comes with important obligations.
As a UK-focused bank, we have an important role to play in
supporting the UK’s economic recovery. We need to demonstrate
that we are meeting our obligations to our customers by continuing to
give them access to the finance they need. Whilst our main
contribution to society is our direct economic impact, we strongly
believe that this must also be supported by our active investment in
the communities in which we operate.
Supporting the UK’s economic recovery
We know that there are those who believe that the banks are not
lending enough, and that it is difficult for people to obtain loans. We
believe that at Lloyds Banking Group we are playing a very active part
in the economic recovery. Indeed, as a UK-focused bank, we have a
vital interest in supporting its recovery.
In 2010, we extended over £79 billion of new lending to homeowners
and businesses. As a predominantly UK bank, the vast majority of this
lending was conducted in this country. We remain ahead of the
mortgage and business lending commitments made by the Group to
the Government for the year ending February 2011.
Total
18
4
7
29
5
13
–
18
£m
391
699
78
1,168
62
Lloyds Banking Group
Annual Report
and Accounts 2010
CORPORATE RESPONSIBILITY
During 2010 we extended £30 billion of gross mortgage lending
(including remortgages) to UK homeowners, representing around
1 in 5 of all new mortgages in the UK. We extended more than
£5 billion in new lending to first time buyers, helping over 50,000
customers buy their first homes in 2010. We also support various
schemes which help first time buyers, including Right to Buy, Shared
Equity and Shared Ownership.
We made available £49 billion of committed gross lending to UK
businesses in 2010, of which £11 billion was for SMEs. We continue to
approve over 80 per cent of lending applications from SMEs. As the
UK’s biggest provider of start up finance, we play an active part in
developing the entrepreneurial culture of the UK. We helped more
than 100,000 new business start ups last year.
We also actively participate in all the main Government lending
programmes designed to help small businesses access the finance
that they need. We are one of the most active lenders under the
Government’s Enterprise Finance Guarantee Scheme. To date we
have offered more than 4,000 loans, nearly 30 per cent of total loans
granted under the scheme, totalling around £300 million of funding
being made available to SMEs across the UK.
Financial inclusion
Our approach to financial inclusion is aligned with the Government’s
aims to increase access to banking and credit, while, at the same time,
developing consumers’ financial literacy and understanding. We aim
to lead the banking sector in reaching those that are financially
excluded and equip them with the confidence and capability to
manage their money effectively. We also have a strong commercial
interest in helping to create a nation of consumers who are both
comfortable and confident in dealing with the financial services
sector.
In 2010, we published our first standalone Financial Inclusion Report,
setting out our financial inclusion strategy and our future agenda. We
have established a Financial Inclusion Steering Group to oversee our
activities and strengthen our strategic approach.
We have developed dedicated products and services that address
financial exclusion. With over four million accounts, we are the biggest
provider of social bank accounts in the UK. Social bank accounts –
often known as basic bank accounts – are a simple form of current
account that are open to anyone, regardless of credit rating, as long
as they have not been convicted of fraud or are an un-discharged
bankrupt. They enable customers to pay household bills by direct
debit, which can save them money when compared with other
methods of payment. We also are the only bank to offer social
banking customers a bespoke Christmas savings account, the Halifax
Christmas Saver. This is an important part of our work to help close
the savings gap.
We are currently providing the Government’s Financial Inclusion
Taskforce with insights and data we gain from our significant market
share of social bank accounts, to help them understand the behaviour
of vulnerable social banking customers.
Financial capability
We recognise that we are one of the most important sources of
financial information and guidance for consumers. We take seriously
our responsibility to raise levels of general financial understanding
across the communities we serve and work closely with the
Government, the FSA and other stakeholders to deliver this.
In 2010, we launched ‘Money for Life’, our new £4 million financial
capability programme for the further education sector. We are
partnering with the Consumer Financial Education Body and skills
agencies in each of the four nations of the UK to promote and deliver
the programme. Money for Life aims to develop the capacity of the
further education sector to improve the financial capability and
personal money management skills of the three million people they
serve. Over the next two years we will also aim to train 500 of our
employees through the programme. This training will provide them
with the skills they need to support our financial education agenda in
their local communities.
Money for life – supporting financial capability in the UK’s
further education sector
In Scotland, Money for Life is funding the creation of a DVD, scripted and produced by drama
students at James Watt college, to raise awareness of financial issues amongst young offenders
and those at risk of offending. A second focus group will bring together six adult learning
colleges to create specially tailored interactive budgeting DVDs for learners. Stakeholders in the
Highlands, Dundee and Stirling will also partner to create coaching and mentoring programmes
designed to help further education tutors and facilitators gain the skills to provide financial
capability support to their diverse learning groups.
Community investment
Our economic contribution to society is supported by active
investment in communities and our community giving programme.
We invested £148 million in communities across the UK in 2010,
including support for financial inclusion and social banking,
sponsorship of sports for young people and donations through
the Group’s charitable Foundations.
Funding grassroots charities
Much of the Group’s charitable giving is channelled through the
Lloyds TSB Foundations and Bank of Scotland Foundation – five
independent charitable Foundations funded solely by the Group. In
the last 25 years, more than £450 million has been distributed to small,
grassroots charities across the UK through the Lloyds TSB
Foundations. In 2010, we established the Bank of Scotland
Foundation to take forward our long term community investment
in Scotland.
Last year, we donated more than £29 million to the Foundations. This
enabled the Foundations to distribute 1,278 grants to charities across
the UK. These grants often cover charities’ core costs, such as wages
for key employees. In the current economic climate, when many
charities are finding it difficult to attract funding, the Foundations’
grants are helping many charities to survive.
Our Charity of the Year programme
Our Charity of the Year programme is our flagship fundraising
initiative. It is one of the largest corporate fundraising programmes in
the UK. The British Heart Foundation (BHF) was our Charity of the
Year from July 2008 to December 2010. We raised £3.4 million in total
for the BHF through a wide range of employee, customer and
shareholder fundraising projects. The money we raised funds
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
63
Lloyds Banking Group
Annual Report
and Accounts 2010
15 specialist BHF Heart Nurses and 12 healthcare assistants, nurses,
psychologists and health educators, who will support 14,400 patients
and their families across the UK.
In October 2010, colleagues voted for Save the Children as our
Charity of the Year for 2011.
Save the Children – our Charity of the Year in 2011
Lloyds Banking Group’s Charity of the Year for 2011 is Save the Children. Working together we
aim to raise at least £1 million to fund 52 Save the Children Families and Schools Together
(FAST) projects in some of the UK’s most disadvantaged communities. FAST is a unique
programme that works with three- to five-year-olds and their families to ensure that children
get the best possible start to their school life. It brings together children and their parents,
schools and community volunteers to help coach parents on how to support their children’s
development, ultimately helping them to break out of the cycle of poverty.
Employee volunteering
Our employees are our strongest link with the local communities in
which we operate. We are committed to enabling employees to make
a contribution to communities.
As one of the UK’s biggest employers, our colleague volunteering
initiatives can make a real difference. In 2010, we launched our Day
to Make a Difference volunteering programme. This enables all
Lloyds Banking Group employees to spend one day a year during
work time volunteering for a charity or local community project of
their choice. Over 7,300 employees volunteered during 2010 in their
local communities.
Matched giving
Through our Matched Giving scheme, operated by our charitable
Foundations, we enable employees to maximise their contributions
to the charities and causes that are important to them. In 2010,
employees could claim up to £500 from the Foundations to match
funds they raised for charity, including our Charity of the Year, or time
given in volunteering. This has been raised to £1,000 per employee
in 2011.
In 2010, our colleagues claimed £1.3 million in matched funding,
raising £3.2 million for charities in the process.
Community sponsorship
As the Official Banking and Insurance Partner of the London 2012
Olympic and Paralympic Games, we are using the power of the
London 2012 Games to inspire young people to take part in more
sport through Lloyds TSB and Bank of Scotland National School Sport
Week, delivered in partnership with the charity Youth Sport Trust in
England and Wales and Sport Scotland in Scotland. In 2010, almost
50 per cent of UK schools, and five million young people, took part.
We also support the future stars of Team GB and ParalympicsGB
through our Local Heroes programme which will have provided
funding to more than 1,000 emerging young athletes across Britain
by 2012. Athletes receive £1,000 to help towards their training,
equipment and travel costs.
Building relationships
We know we have much work to do as an industry to rebuild trust and
relationships with our stakeholders. Our starting point is with our
customers. As a bank, we have long term, sometimes lifelong,
relationships with our customers. We are entrusted with peoples’
money – their savings, their mortgages, their business bank accounts.
Ensuring we maintain and build customers’ trust is core to the
sustainability of our business.
Only by focusing on customers’ needs, and addressing those needs,
can we expect to deliver benefit to all our stakeholders.
As a relationship-led business, our people are our most valuable
resource. They are the Group’s ambassadors. Building strong
relationships with our people, and helping them to develop, is
therefore fundamental to the success of the business and achieving
our vision of being the UK’s best financial services organisation. Our
approach to building relationships with our people is covered
separately on pages 57 to 59 of this report.
Treating customers fairly
Treating customers fairly, and ensuring that we are transparent in
all our dealings with them, is central to our aim of building deep and
lasting relationships with customers.
Our customer treatment standards are aligned to the FSA’s best
practice standards. We conduct regular testing and monitoring to
check adherence with our customer treatment policies and have
systems in place, such as our Whistleblowing helpline, which allow
colleagues to identify and report behaviours which do not meet our
high standards.
Listening to our customers
Every month we contact 75,000 customers as part of a systematic
customer feedback process. We listen carefully to what our customers
tell us, both good and bad, and use this to make changes where
necessary. Often, we learn about the small things that cause irritation
to customers. By listening to our customers, we can quickly put
things right.
Addressing customers’ complaints
The vast majority of our customers are happy with the service we
provide. When we do receive complaints, we take them seriously,
and ensure that they are dealt with quickly, fairly and consistently.
Our 40,000 customer-facing and call-centre employees have also
received extra, in-depth training on handling of customer complaints.
We now resolve 90 per cent of complaints at first touch in a branch
or over the phone with the support of our new ‘Phone a Friend’
complaints resolution team. Overall, we improved our customers’
view of complaint handling by 10 points in 2010. However, we know
we have to work hard to reduce the number of complaints we receive
in the first place if we are to achieve our goal of becoming the UK’s
best and most recommended bank.
Delivering innovative products and services
We work hard to introduce new and innovative products that respond
to customers’ evolving needs, underlining our commitment to
building long-term relationships with our customers.
In 2010, Halifax launched the Cash ISA Promise, an industry leading
move to help drive a fairer deal for customers when transferring their
cash ISA. The Cash ISA Promise enables all customers switching their
existing cash ISA to Halifax, to earn interest from the first day that we
receive their completed transfer form. It was launched in response to
64
Lloyds Banking Group
Annual Report
and Accounts 2010
CORPORATE RESPONSIBILITY
industry-wide complaints that ISA transfers take too long, costing
consumers millions in lost interest. Lloyds TSB and Bank of Scotland
have also committed to paying customers interest upon receipt of
their ISA applications.
for the next three years, providing expert guidance and support for
up to 90,000 SMEs on starting up, employment, exporting, bidding
for London 2012 Olympic and Paralympic Games contracts, finance
and sustainability.
Halifax also launched a ‘No Fees’ First Time Buyer Mortgage early in
2011 – a first among mainstream lenders. The mortgage offers Halifax
current account customers a 90 per cent loan-to-value mortgage at a
two year fixed-rate of 5.79 per cent. It has been specifically designed
to help first time buyers by paying the fees on their mortgage.
Lloyds TSB’s unique ‘Lend a Hand’ mortgage enables buyers to take
out a mortgage with a deposit of as little as 5% at an equivalent rate
to borrowers with a significantly bigger deposit. The mortgage is
linked to the savings of a helper, such as a family member, to ‘top up’
the deposit to 25% of a property’s value.
Research published by Lloyds TSB shows that, ‘Second Steppers’ – those
still living in their first home, but looking to take their next step up the
housing ladder – are the segment of the market most likely to have
their equity levels affected by a reduction in house prices. Second
Steppers typically bought their first homes at the height of the market
and, due to market conditions, have not benefited from any increase
in their equity. Originally launched for first time buyers, in 2010
‘Lend a Hand’ was extended to all home movers, in recognition of the
challenges faced by Second Steppers of securing a larger deposit. No
other major lender offers deals for customers moving house unless
they have a deposit of at least 10%.
Increasing transparency
We took a number of industry leading steps in 2010 to improve
transparency for savers. Lloyds TSB and Halifax have taken steps to:
– Ensure current interest rate information is clearly visible online and on
paper statements.
– Offer existing savings customers access to all savings deals ensuring
that no barriers exist for those wishing to switch to a better-paying
savings account.
– Ensure that an online calculator is available to help customers work
out exactly how much interest they can earn in different accounts.
During 2011, all of the Group’s main savings brands, including
Lloyds TSB, Halifax, Bank of Scotland, Cheltenham & Gloucester and
Birmingham Midshires will publish savings interest rates on customer
statements.
We are also investing in tools to help customers have greater control
of their money. Lloyds TSB’s cutting edge online ‘Money Manager’
service helps customers track spending patterns and manage their
finances. It provides a combined view of spending across Lloyds TSB
personal current accounts and credit cards, and can break down
customers’ expenditure under categories such as bills and shopping,
helping them to budget.
Supporting Britain’s businesses
We support corporate and commercial customers throughout the
economic cycle to ensure their financial health, stability and growth.
Through this approach we are able to build deep and lasting
relationships with customers, and support their ongoing contributions
to the UK economy.
As part of our award winning 2012 SME Charter, we have pledged to
support 300,000 new start-ups across the country by 2012. The
Charter sets out a series of commitments that form a three year
programme of support for SMEs to help them grow as the recovery
gains momentum. We are running 200 business seminars every year
Our dedicated Business Support Unit provides bespoke help to
business customers that are facing difficulty. Wherever possible,
we work to turn these businesses around and restore their financial
stability so that they are able to return to mainstream banking.
By focusing on helping these businesses recover, we have an
opportunity to deepen relationships and retain loyal customers.
Building relationships with our suppliers
Our suppliers are important to us. We actively encourage our
employees to build strong working relationships with them. We are
a signatory to the Prompt Payment Code, committing to paying
suppliers on time and not changing the payment terms agreed at
the outset of the contract. This Code requires that we provide clear
guidance on payment procedures, including redress for any disputes,
and encourage similar good practice amongst our suppliers and
other businesses.
Payment of suppliers
Number of payments
576,940
763,917
335,713
320,579
2010
2009
2008
2007
Value (£bn)
Average time to pay (days)
Number/amount of
compensation payments for
late settlement
5.82
27.21
5.22
28.33
2.67
26.03
2.20
28.78
Nil
Nil
Nil
Nil
2010 and 2009 data represents Lloyds Banking Group. Historical data is Lloyds TSB only.
Independent assessment of our performance
In 2010, we were re-selected for the Dow Jones Sustainability Index.
This comprises the top 10 per cent most sustainable companies
globally, based on long-term economic, environmental and social
criteria. We are the top UK bank in the new FTSE CDP Carbon
Strategy Index Series launched in 2010 and a component of the
Carbon Disclosure Leadership Index. We are also Platinum
performers in Business in the Community’s Corporate Responsibility
Index and are included in the FTSE4Good Index.
Summary
Looking ahead, we need to continue to engage in open conversations
with our key stakeholders and demonstrate how we are listening to
their needs. We realise that it will take time to rebuild trust and
understanding in the sector and we are committed to leading the
way. By listening to our stakeholders, and by acting in their best
interests, we will support our strategic aim of being recognised by
them as the UK’s best financial services organisation. Over time, we
believe that this will enable us to deliver superior, more sustainable
shareholder value.
CC
Comprehensive CR resource online:
www.lloydsbankinggroup-cr.com
h
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
65
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
The Group’s approach to risk
Risk as a strategic differentiator
State funding and state aid
Risk governance
Principal risks and uncertainties
Business risk
Credit risk
Market risk
Insurance risk
Operational risk
Liquidity and funding risk
Capital risk
Financial and prudental regulatory reporting,
disclosure and tax risk
Life insurance businesses
66
66
66
67
70
74
75
88
91
91
93
97
102
102
66
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
UNAUDITED INFORMATION
This section contains both audited and non audited information.
The audited information is that required to comply with the
requirements of relevant International Financial Reporting Standards. All
other information is unaudited. Each page in this section identifies which
information is audited and which is not audited.
THE GROUP’S APPROACH TO RISK
The Group’s approach to risk is founded on robust corporate
governance practices and a risk management culture which guides the
way all employees approach their work, the way they behave and the
decisions they make. The Board takes the lead by establishing the ‘tone
at the top’ and approving professional standards and corporate values
for itself, senior management and other colleagues. The Board ensures
that senior management implements strategic policies and procedures
designed to promote professional behaviour and integrity. The Board
also ensures that senior management implements risk policies and
risk appetites that either limit, or where appropriate, prohibit activities,
relationships, and situations that could diminish the quality of corporate
governance. All colleagues including the Group Chief Executive are
assessed against a balanced scorecard that explicitly includes their
risk performance, as a component of overall performance.
This Board-level engagement, coupled with the direct involvement
of senior management in group-wide risk issues at Group Executive
Committee level, ensures that issues are escalated on a timely basis
and appropriate remediation plans are initiated. The interaction of
the executive and non-executive governance structures relies upon
a culture of transparency and openness that is encouraged by senior
management. Key decisions are always taken by more than one person.
The Group uses an enterprise-wide risk management framework
for the identification, assessment, measurement and management
of risk. It seeks to maximise value for shareholders over time by
aligning risk management with the corporate strategy, assessing the
impact of emerging risks from legislation, new technologies or the
market, and developing risk tolerances and mitigating strategies. The
framework seeks to: strengthen the Group’s ability to identify and
assess risks, aggregate group-wide risks and define the corporate risk
appetite, develop solutions for reducing or transferring risk, and where
appropriate, exploit risks to gain competitive advantage, thereby
seeking to increase shareholder value.
The Group has a conservative business model embodied by a risk
culture founded on prudence and accountability, where everyone
understands that they are accountable for the risks they take and that
the needs of customers are paramount. The focus has been and
remains on building and sustaining long-term relationships with
customers, through good and bad economic times. The approach is
supported by a ‘through the cycle’ approach to risk with strong control
and monitoring.
The Group Business Risk Committee and the Group Asset and Liability
Committee are chaired by the Group Chief Executive and include all
members of the Group Executive Committee. The aggregate group wide
risk profile and portfolio appetite are discussed at these monthly
meetings. The Risk Committee, chaired by a Non-Executive Director,
comprises other Non-Executive Directors and oversees the Group’s
risk exposures. This Second-Line-Of-Defence Committee is supported
by the Chief Risk Officer, who is independent of the front line business
units, is a full member of the Group Executive Committee and reports
to the Group Chief Executive. The Chief Risk Officer regularly informs the
Risk Committee of the aggregate risk profile and has direct access to the
Chairman and members of the Risk Committee.
RISK AS A STRATEGIC DIFFERENTIATOR
The maintenance of a strong control framework remains a priority
for the Group and is the foundation for the delivery of effective risk
management. The Group optimises performance by allowing divisions
and business units to operate within approved capital, liquidity and
risk parameters and within the Group’s policy framework. The Group’s
approach to risk management ensures that business units remain
accountable for risk whilst undertaking individual strategies to meet
business performance targets. The combination of divisional and group
risk management maintains effective independent oversight.
The Group continues to enhance its capabilities by providing to the
Board both qualitative and quantitative data including stress testing
analysis on risks associated with strategic objectives to facilitate more
informed and effective decision making. The Group‘s ability to take
risks which are well understood, consistent with its strategy and plans
and which are appropriately remunerated, is a key driver
of shareholder return.
As part of its integration initiative, the Group has rolled out the
methodology and financial control framework that was used by the
heritage Lloyds TSB Group; including compliance with the requirements
of the US Sarbanes Oxley Act.
Risk analysis and reporting capabilities support the identification of
opportunities as well as risks and it provides an aggregate view of the
overall risk portfolio. Risk mitigation strategies clearly aligned with
responsibilities and timescales are monitored at group and
divisional level.
Reflecting the importance the Group places on risk management, risk is
included as one of the five principal criteria within the Group’s balanced
scorecard on which individual staff performance is judged. Business
executives have specified risk management objectives, and incentive
schemes take account of performance against these.
STATE FUNDING AND STATE AID
HM Treasury currently holds approximately 40.6 per cent of the Group’s
ordinary share capital. United Kingdom Financial Investments Limited
(UKFI) as manager of HM Treasury’s shareholding continues to operate
in line with the framework document between UKFI and HM Treasury
managing the investment in the Group on a commercial basis without
interference in day-to-day management decisions. There is a risk that
a change in Government priorities could result in the framework
agreement currently in place being replaced leading to interference in
the operations of the Group, although there have been no indications that
the Government intends to change the existing operating arrangements.
The Group has made a number of undertakings to HM Treasury
arising from the capital and funding support, including the provision
of additional lending to certain mortgage and business sectors until
28 February 2011, and other matters relating to corporate governance
and colleague remuneration. However the commitments in respect
of lending are subject to normal prudent commercial lending criteria
and pricing, the availability of funding to support such lending and
the availability of sufficient demand from creditworthy customers and
potential customers. The new agreement between the leading UK banks
and the Government in relation to gross business lending in the 2011
calendar year is subject to a similar set of criteria.
In addition, the Group is subject to European state aid obligations in line
with the restructuring plan agreed with HM Treasury and the EU College
of Commissioners in November 2009, which is designed to support the
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
67
Lloyds Banking Group
Annual Report
and Accounts 2010
long-term viability of the Group and address any competition distortions
arising from the benefits of state aid. This has placed a number of
requirements on the Group including asset reductions in certain parts of
its balance sheet by the end of 2014 and the disposal of certain portions
of its business by the end of November 2013, including in particular the
disposal of some parts of its retail banking business. The Group is
working closely with the EU Commission, HM Treasury and the
Monitoring Trustee appointed by the EU Commission.
RISK GOVERNANCE (audited)
The embedding of an integrated governance and risk management
framework throughout the Group has continued, through a
consistent approach to risk appetite, policies, delegations and Risk
Committee structures.
The risk governance structure is intended to strengthen risk evaluation
and management, whilst also positioning the Group to manage the
changing regulatory environment in an efficient and effective manner.
The risk governance structure for Lloyds Banking Group is shown in
table 1.1.
BOARD AND COMMITTEES
The Board, assisted by its key Risk Committees (Risk Committee and
Audit Committee), approves the Group’s overall risk management
framework. The Board also reviews the Group’s aggregate risk exposures
and concentrations of risk to ensure that these are consistent with the
Board’s appetite for risk. The role of the Board, Audit Committee and
Risk Committee are shown in the corporate governance section on
pages 120 to 121, and further key risk oversight roles are described below.
In particular, the Risk Committee, (formerly Risk Oversight Committee)
which comprises non-executive directors, oversees the development,
implementation and maintenance of the Group’s overall risk
management framework and its risk appetite, strategy, principles and
policies, to ensure that these are in line with emerging regulatory,
corporate governance and industry best practice. The Risk Committee
regularly reviews the Group’s risk exposures across the primary risk
drivers and the detailed risk types.
The Group Executive Committee assisted by the Group Business Risk
Committee and the Group Asset and Liability Committee, supports the
Group Chief Executive in ensuring the effectiveness of the Group’s risk
management framework and the clear articulation of the Group’s risk
policies, whilst also reviewing the Group’s aggregate risk exposures and
concentrations of risk.
The Group Asset and Liability Committee is responsible for the
strategic management of the Group’s assets and liabilities and the
profit and loss implications of balance sheet management actions. It
is also responsible for the risk management framework for market risk,
liquidity risk, capital risk and earnings volatility. The Group Asset and
Liability Committee is supported by the Senior Asset and Liability
Committee. This Senior Level Committee is responsible for the review
of documentation relating to the management of assets and liabilities
in the Group’s balance sheet and the escalation of issues of group-level
significance to the Group Asset and Liability Committee. It is also
supported by the Group Market Risk Forum which escalates matters
relating to the strategic management of the Group’s structural market
risks, including market risks held in the Group’s insurance companies.
The Group Business Risk Committee reviews and recommends the
Group’s risk appetite and risk management framework, high-level
group policies and the allocation of risk appetite. Group Business Risk
Committee periodically reviews risk exposures and risk/reward returns
and monitors the development, implementation and effectiveness of
the Group’s Risk Governance Framework. Within the scope of its work
the committee also considers reputational risk and any issues which
could have a materially adverse impact on the Group.
The Group Business Risk Committee is supported by the
following Committees:
– The Group Operational and Regulatory Risk Committee, which is
responsible for identifying current and emerging significant regulatory
and operational risks or accumulation of risks and control deficiencies
across the Group and reviewing associated oversight plans to ensure
pre-emptive risk management action. The Committee also seeks to
ensure that adequate divisional engagement occurs to develop,
implement and maintain the Group’s compliance and operational risk
management framework.
– The Group Credit Risk Committee, which is responsible for the
development and effectiveness of the Group’s credit risk management
framework, clear description of the Group’s credit risk appetite, setting
of high-level Group credit policy, and compliance with regulatory
credit requirements. On behalf of the Group Business Risk Committee,
the Group Credit Risk Committee monitors and reviews the Group’s
aggregate credit risk exposures and concentrations of risk.
– The Group Model Governance and Approvals Committee, which
is responsible for setting the control framework and standards for
models across the Group, including establishing appropriate levels
of delegated authority, the approval of models that are considered to
be material to the Group (including credit risk rating systems), and the
principles underlying the Group’s economic capital framework.
– The Group Insurance Risk Committee, which is responsible for the
development and effectiveness of the Group’s insurance risk
management framework, clear articulation of the Group’s insurance
risk appetite, setting of high-level insurance risk policy, and ensuring
compliance with regulatory insurance requirements. On behalf of the
Group Business Risk Committee, the Group Insurance Risk Committee
monitors and reviews the Group’s aggregate insurance risk exposures
and provides proactive and robust challenge around insurance risk
and business activities giving rise to insurance risk.
– The Group Financial Crime Committee serves as the principal
Group forum for reviewing and challenging the management of
financial crime risk including the overall strategy and performance.
The Committee is accountable for ensuring that, at Group level,
financial crime risks are effectively identified and managed within
risk appetite and that strategies for financial crime prevention are
effectively co-ordinated and implemented across the Group.
– The Divisional Financial Control Committees, which provide
governance over financial statements. The meetings provide review
and challenge as to the veracity of the results, press releases and
supporting analyst information with oversight over the processes
that have been followed in drawing them up. Items of focus are key
assumptions and areas of subjectivity in the results and ensuring
proper remediation of control issues that impact internal controls over
financial reporting. The Group’s auditors also report findings from their
audit work.
The Group Risk Directors and Divisional Risk Officers meet on a regular
basis under the Chairmanship of the Chief Risk Officer to review and
challenge the risk profile of the Group and to ensure that mitigating
actions are appropriate. Aggregate risk reports are reviewed by this
group before submission to Group Business Risk Committees and then
to Risk Committee.
68
68
Lloyds Banking Group
Lloyds Banking Group
Annual Report
Annual Report
and Accounts 2010
and Accounts 2010
RISK MANAGEMENT
RISK MANAGEMENT
AUDITED INFORMATION
TABLE 1.1: RISK GOVERNANCE STRUCTURES
The Lloyds Banking Group Board
1st line of defence
Business Management
Group
Chief Executive
Group Asset
and Liability
Committee
Group
Executive
Committee
Group
Business Risk
Committee
2nd line of defence
Group and Divisional
Oversight Functions
3rd line of defence
Group Audit
Nomination
& Governance
Committee
Remuneration
Committee
Audit
Committee
Risk
Committee
Group
Market Risk
Forum
Senior Asset
and Liability
Committee
Group
Operational
and Regulatory
Risk Committee
Group
Financial
Crime
Committee
Group
Credit Risk
Committee
Group Model
Governance
and Approvals
Committee
Group
Insurance Risk
Committee
Divisional
Financial Control
Committees
Group
Executive
Director
Retail
Group
Executive
Director
Wholesale
Group Executive
Director
Wealth and
International
Group
Executive
Director
Insurance
Group
Operations
Director
Group
Finance
Director
Group
HR
Director
Chief Risk
Officer
Director of
Group Audit
Divisional
Risk Officer
Divisional
Risk Officer
Divisional
Risk Officer
Divisional
Risk Officer
Divisional
Risk Officer
Divisional
Risk Officer
Divisional
Risk Officer
Group Risk
Directors
BU Risk
BU Risk
BU Risk
BU Risk
BU Risk
BU Risk
BU Risk
BU Risk
BU Risk
Governance
Committees
Oversight
Business
functions
Reporting line
Functional reporting line from BU Risk Officer or function to Divisional Risk Officers
Functional reporting line to support the Committees
Group Executive Directors have primary responsibility for measuring,
monitoring and controlling risks within their areas of accountability
and are required to establish control frameworks for their businesses
that are consistent with the Group’s high level policies and within the
parameters set by the Board, Group Executive Committee and Group
Risk. Compliance with policies and parameters is overseen by the Risk
Committee, the Group Business Risk Committee, the Group Asset and
Liability Committee, Group Risk and the Divisional Risk Officers.
RISK MANAGEMENT OVERSIGHT
The Chief Risk Officer oversees and promotes the development and
implementation of a consistent Group-wide risk management
framework. The Chief Risk Officer, supported by the Group Risk Directors
and the Divisional Risk Officers, provides objective challenge to the
Group’s senior management. The Group Executive Committee and the
Board receive regular briefings and guidance from the Chief Risk Officer
to ensure awareness of the overarching risk management framework and
a clear understanding of their accountabilities for risk
and internal control.
Group Risk Directors who report directly to the Chief Risk Officer, are
allocated responsibility for specific risk types and are responsible for
ensuring the adequacy of the framework for their risk types as well
as the oversight of the risk profile across the Group. Divisional Risk
Officers have dual reporting lines to their own divisional executive
and also to the Chief Risk Officer and are responsible for the risk
profile within their own divisions. This matrix approach enables the
Group Executive Committee members to fulfil their risk management
accountabilities.
Divisional Risk Officers provide oversight of risk management activity
for all risks within each of the Group’s divisions. Reporting directly to
the Group Executive Directors responsible for the divisions and to the
Chief Risk Officer, their day-to-day contact with business management,
business operations and risk initiatives provides an effective risk
oversight mechanism.
The Director of Group Audit provides independent assurance to
the Audit Committee and the Board that risks within the Group are
recognised, monitored and managed within acceptable parameters.
Group Audit is fully independent of Group Risk, seeking to ensure
objective challenge to the effectiveness of the risk governance
framework.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
69
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
TABLE 1.2: RISK MANAGEMENT FRAMEWORK
The Lloyds Banking Group business strategy and objectives
Policy framework and accountabilities
Risk
Identification
Control
Activities
Risk and Control
Assessment
Risk
Measurement
Independent
Reviews
Monitoring
Risk
Reporting
Action plans and tracking
People
Systems and tools
RISK MANAGEMENT IN THE BUSINESS
Line management are directly accountable for the management of
risks arising in their individual businesses. A key objective is to ensure
that business decisions strike an appropriate balance between risk and
reward, consistent with the Group’s risk appetite.
All business units, divisions and group functions complete a control
self assessment annually (see page 122), reviewing the effectiveness
of their internal controls and putting in place a programme of
enhancements where appropriate. Managing directors of each business
and each Group Executive Committee member certify the accuracy of
their assessment.
Risk management in the business forms part of a tiered risk management
model, as shown above, with the Divisional Risk Officers and Group Risk
providing oversight and challenge, as described above, and the Chief Risk
Officer and group committees establishing the group-wide perspective.
This approach seeks to provide the Group with an effective mechanism
for developing and embedding risk policies and risk management
strategies which are aligned with the risks faced by its businesses.
It also seeks to facilitate effective communication on these matters
across the Group.
RISK MANAGEMENT FRAMEWORK
The Group’s risk management principles and risk management
framework cover the full spectrum of risks that a group, which
encompasses both banking and insurance businesses, would encounter.
The Group uses an enterprise-wide risk management framework for
the identification, assessment, measurement and management of
risk. It seeks to maximise value for shareholders over time by aligning
risk management with the corporate strategy, assessing the impact of
emerging risks from legislation, new technologies or the market, and
developing risk tolerances and mitigating strategies. The framework
seeks to: strengthen the Group’s ability to identify and assess risks,
aggregate group-wide risks and define the group risk appetite, develop
solutions for reducing or transferring risk, and where appropriate,
exploit risks to gain competitive advantage, thereby seeking to increase
shareholder value. The principal elements of the risk management
framework are shown in table 1.2. The framework above comprises 11
interdependent activities which map to the components of the internal
control integrated framework issued by the Committee of Sponsoring
Organisations of the Treadway Commission.
The framework is dynamic and allows for proportionate adjustment
of policies and controls where business strategy and risk appetite is
amended in response to changes in market conditions.
The Lloyds Banking Group business strategy and objectives are
used to determine the Group’s high level risk principles and risk appetite
measures and metrics for the primary risk drivers (see table 1.3). The risk
appetite is proposed by the Group Chief Executive and reviewed by
various governance bodies including the Group Executive Committee
and the Risk Committee. Responsibility for the approval of risk appetite
rests with the Board. The approved high level appetite and limits are
delegated to individual Group Executive Committee members by the
Group Chief Executive.
The more detailed description of the risk principles and distribution
of the risk appetite measures amongst the divisions and businesses
are determined by the Group Chief Executive, in consultation with
the Group Business Risk Committee and the Group Asset and
Liability Committee.
The risk principles are executed through the Policy Framework
and Accountabilities. These principles are supported by the policy
levels below:
Principles – high level principles for the six primary risk drivers
High level group policy – policy statements for each of the main risk
types aligned to the risk drivers
Detailed group policy – detailed policy that applies across the Group
Divisional policy – local policy that specifically applies to a division
Business unit policy – local policy that specifically applies to a
business unit
Divisional and business unit policy is only produced by exception and is
not necessary unless there is a specific area for which a particular division
or business unit requires a greater level of detail than is appropriate for
group level policy. The governance arrangements for development of,
and compliance with, group, divisional and business unit policy and
the associated accountabilities are clearly outlined to all colleagues.
70
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
Colleagues are expected to be aware of policies and procedures which
apply to them and their work and to observe the relevant policies
and procedures. Line management in each business area has primary
responsibility for ensuring that group policies and the relevant local
policies and procedures are known and observed by all colleagues within
that area.
Group and divisional risk functions have responsibility for overseeing
effective implementation of policy. Group Audit provides independent
assurance to the Board about the effectiveness of the Group’s control
framework and adherence to policy. Policies are reviewed annually to
ensure they remain fit for purpose.
Execution of the Group’s risk management framework is dependent
upon a clear and consistent risk identification using a common
language to define risks and to categorise them (see table 1.3 below).
Proportionate control activities are in place to design mitigating
controls, to transfer risk where appropriate and seeks to ensure
executives are content with the residual level of risk accepted.
Risk and control assessments are undertaken to assess the
effectiveness of current mitigations and whether risks taken are
consistent with the Group’s risk appetite (this includes the annual control
self-assessment exercise).
The impact of risks and issues (including financial, reputational and
regulatory capital) are determined through effective risk measurement
including modelling, stress testing and scenario analysis.
The outcomes of independent reviews (including internal and external
audit and regulatory reviews) are integrated into risk management
activities and action plans.
Risk reporting is standardised through the use of standard definitions
to enable risk aggregation. Divisions monitor their risk levels against their
risk appetite, seeking to ensure effective mitigating action is being taken
where appropriate. Divisional risk reports are reviewed by each divisional
executive committee to ensure that respective senior management are
satisfied with the overall risk profile, risk accountabilities and progress
on any necessary action plans and tracking. Reporting, including
that of performance against relevant limits or policies, is in place to
provide a level of detail appropriate to the exposures concerned and
regular information is provided to Group Risk for review and aggregate
reporting. The monitoring process requires that significant issues are
appropriately reported, and an escalation process is in place to report
significant losses to appropriate levels of management. Regular reports
are prepared by Group Risk on risk exposures and material issues to the
Group Asset and Liability Committee, Group Business Risk Committee,
Group Executive Committee, Risk Committee and the Board.
At group level, a consolidated risk report is produced which is reviewed
and debated by the Group Business Risk Committee, Group Executive
Committee, Risk Committee and the Board to ensure that they are
satisfied with the overall risk profile, risk accountabilities and mitigating
actions. The consolidated risk report provides a quarterly assessment of
the aggregate residual risk for the primary risk drivers, comparing the
assessment with the previous quarter and providing a forecast for the
next six months.
PRINCIPAL RISKS AND UNCERTAINTIES
At present the most significant risks faced by the Group, which are derived from the primary risk drivers detailed in table 1.3 below, are:
Risk: Definition
Features
Credit: The risk of reductions in
earnings and/or value, through
financial loss, as a result of the
failure of the party with whom the
Group has contracted to meet
its obligations (both on and off
balance sheet).
Arising in the Retail, Wholesale and Wealth and International divisions, reflecting the risks inherent in the
Group’s lending activities and, to a much lesser extent in the Insurance division in respect of investment
of own funds. Adverse changes in the credit quality of the Group’s UK and/or international borrowers and
counterparties, or in their behaviour, would be expected to reduce the value of the Group’s assets and
materially increase the Group’s write-downs and allowances for impairment losses. Credit risk can be affected
by a range of factors, including, inter alia, increased unemployment, reduced asset values, increased personal
or corporate insolvency levels, reduced corporate profits, increased interest rates or higher tenant defaults.
Over the last three years, the global banking crisis and economic downturn has driven cyclically high bad debt
charges. These have arisen from the Group’s lending to:
– Wholesale customers (including those in Wealth and International): where companies continue to face
difficult business conditions, resulting in elevated corporate default levels, illiquid commercial property
markets and heightened impairment charges. The Group has high levels of exposure in both the UK
and internationally, including Ireland, USA and Australia. There are particular concentrations to financial
institutions and commercial real estate, including secondary and tertiary locations.
– Retail customers (including those in Wealth and International). UK bad debts have reduced materially in
2010 as a result of risk management activity and more stable, low interest rate UK economic conditions.
This portfolio will remain strongly linked to the economic environment, with inter alia house prices fall,
unemployment increases, consumer over-indebtedness and rising interest rates all likely to impact both
secured and unsecured retail exposures.
The Group follows a through the economic cycle, relationship based, business model with risk management
processes, appetites and experienced staff in place.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
71
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
Risk: Definition
Features
Legal and regulatory: Legal
and regulatory risk is the risk
of reductions in earnings and/
or value, through financial or
reputational loss, from failing to
comply with the laws, regulations
or codes applicable.
Legal and regulatory exposure is driven by the significant volume of current legislation and regulation within
the UK and overseas with which the Group has to comply, along with new or proposed legislation and
regulation which needs to be reviewed, assessed and embedded into day-to-day operational and business
practices across the Group as a whole. This is particularly the case in the current market environment, which
is witnessing increased levels of government and regulatory intervention in the banking sector.
The Group continues to face political and regulatory scrutiny as a result of the Group’s perceived systemic
importance following the acquisition of HBOS. At the time of the acquisition, the Office of Fair Trading (OFT)
identified some competition concerns in the UK personal current accounts and mortgages markets and for
SME banking in Scotland. The OFT reiterated that it would keep these under review and consider whether
to refer any banking markets to the Competition Commission if it identifies any prevention, restriction or
distortion of competition.
The UK Government appointed an Independent Commission on Banking to review possible structural
measures to reform the banking system and promote stability and competition. That commission will publish
its final report by the end of September 2011. The Treasury Select Committee is conducting an examination
of competition in retail banking. It is too early to quantify the potential impact of these developments on
the Group.
From April 2011, lead regulation and supervision of the Group’s activities will begin transitioning from the FSA
to the new Financial Conduct Authority for conduct of business supervision and the Prudential Regulatory
Authority for capital and liquidity supervision. In addition, from 2011, the European Banking Authority, the
European Insurance and Occupational Pensions Authority and the European Securities and Markets Authority
as new EU Supervisory Authorities are likely to have greater influence on regulatory approaches across the EU.
These could lead to changes in how the Group is regulated and supervised on a day-to-day basis.
Evolving capital and liquidity requirements continue to be a priority for the Group. In September 2010 and
further clarified in December 2010, the Basel Committee on Banking Supervision put forward proposals for
a reform package which changes the regulatory capital and liquidity standards, the definition of ‘capital’,
introduces new definitions for the calculation of counterparty credit risk and leverage ratios, additional capital
buffers and development of a global liquidity standard. Implementation of these changes is expected to be
phased in between 2012 and 2018.
The Group is currently assessing the impacts of these regulatory developments and will participate in the
consultation and calibration processes to be undertaken by the various regulatory bodies during 2011. The
insurance division is progressing its plans to achieve Solvency II compliance. The Group continues to work
closely with the regulatory authorities and industry associations to ensure that it is able to identify and respond
to proposed regulatory changes and mitigate against risks to the Group and its stakeholders.
There is a risk that certain aspects of the Group’s business may be determined by the authorities or the courts
as not being conducted in accordance with applicable laws or regulations, or with what is fair and reasonable in
their opinion. The Group may also be liable for damages to third parties harmed by the conduct of its business.
72
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
Risk: Definition
Features
Liquidity and funding: Liquidity
risk is defined as the risk that
the Group has insufficient
financial resources to meet its
commitments as they fall due,
or can only secure them at
excessive cost.
Funding risk is defined as the risk
that the Group does not have
sufficiently stable and diverse
sources of funding or the funding
structure is inefficient.
Market Risk: The risk of reductions
in earnings and/or value, through
financial or reputational loss,
from unfavourable market
moves; including changes in, and
increased volatility of, interest
rates, market-implied inflation
rates, credit spreads, foreign
exchange rates, equity, property
and commodity prices.
Insurance Risk: The risk of
reductions in earnings and/or
value, through financial or
reputational loss, due to
fluctuations in the timing,
frequency and severity of insured/
underwritten events and to
fluctuations in the timing and
amount of claims settlements.
Arising in the banking business of the Group through the Retail, Wholesale and Wealth and International
divisions reflecting the risk that the Group is unable to attract and retain either retail, wholesale or corporate
deposits or issue debt securities. Like all major banks, the Group is dependent on confidence in the short and
longer term wholesale funding markets; should the Group, due to exceptional circumstances, be unable to
continue to source sustainable funding and provide liquidity when necessary, the Group’s ability to fund its
financial obligations could be impacted.
The key dependencies for successfully funding the Group’s balance sheet include the continued functioning
of the money and capital markets; successful right sizing of the Group’s balance sheet; the continuation of
HM Treasury and Bank of England facilities in accordance with the terms agreed; limited further deterioration
in the UK’s and the Group’s credit rating and no significant or sudden withdrawal of deposits resulting in
increased reliance on wholesale funding markets. A return to the extreme market conditions of 2008 would
place a strain on the Group’s ability to meet its financial commitments.
Liquidity and funding risks are managed within a Board approved framework using a range of metrics to
monitor the Group’s profile against its stated appetite and potential market conditions.
Market risk is managed within a Board approved framework using a range of metrics to monitor the Group’s
profile against its stated appetite and potential market conditions.
The principal market risks are as follows:
There is a risk to the Group’s banking income arising from the level of interest rates and the margin of interbank
rates over central bank rates. A further banking risk arises from competitive pressures on product terms in
existing loans and deposits, which sometimes restrict the Group in its ability to change interest rates applying
to customers in response to changes in interbank and central bank rates.
The main equity market risks arise in the life assurance companies and staff pension schemes. Credit
spread risk arises in the life assurance companies, pension schemes and banking businesses. Equity market
movements and changes in credit spreads impact the Group’s results.
Continuing concerns about the scale of deficits in Ireland and southern European countries resulted in
increased credit spreads in the areas affected, and fears of contagion affected the Euro and widened spreads
between central bank and interbank rates.
The Group’s trading activity is small relative to its peers and is not considered to be a principal risk. The average
95 per cent 1-day trading Value at Risk (VaR) was £7.4 million for 2010.
The major sources of insurance risk are within the insurance businesses and the staff defined benefit pension
schemes.
Insurance risk is inherent in the insurance business and can be affected by customer behaviour. Insurance risks
accepted relate primarily to mortality, longevity, morbidity, persistency, expenses, property and unemployment.
The primary insurance risk carried by the Group’s defined benefit pension schemes is related to longevity.
Insurance risks typically, and longevity in particular, crystallise gradually over time. Actuarial assumption
setting for financial reporting and liability management requires expert judgement as to when evidence of an
emerging trend is sufficient to require an alteration to long-run assumptions.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
73
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
Risk: Definition
Features
Customer treatment: The risk
of regulatory censure and/or
a reduction in earnings/value,
through financial or reputational
loss, from inappropriate or poor
customer treatment.
People: The risk of reductions in
earnings and/or value, through
financial or reputational loss,
from inappropriate colleague
actions and behaviour, industrial
action, legal action in relation
to people, or health and safety
issues. Loss can also be incurred
through failure to recruit, retain,
train, reward and incentivise
appropriately skilled staff to
achieve business objectives and
through failure to take appropriate
action as a result of staff
underperformance.
Integration: The risk that
Lloyds Banking Group fails to
realise the business growth
opportunities, revenue benefits,
cost synergies, operational
efficiencies and other benefits
anticipated from, or incurs
unanticipated costs and losses
associated with, the acquisition
of HBOS plc.
Customer treatment and how the Group manages its customer relationships affects all aspects of the Group’s
operations and is closely aligned with achievement of the Group’s strategic aim – to create deep long lasting
relationships with its customers. There is currently a high level of scrutiny regarding the treatment of customers
by financial institutions from the press, politicians and regulatory bodies.
The FSA continues to drive focus on conduct of business activities and has established a new approach to
supervision of Conduct Risk, replacing the previous ‘Treating Customers Fairly’ initiative for retail customers.
Under this new regime the FSA has indicated that it will seek to place greater emphasis on product
governance and contract terms in general, and will seek to intervene much earlier in the product lifecycle to
prevent customer detriment. The FSA also continues to carry out thematic reviews on a variety of issues across
the industry as a whole, for example complaints handling. The Group actively engages with the regulatory
authorities and other stakeholders on these key customer treatment challenges, which includes for example,
PPI (see note 54 to the financial statements on page 237 ‘Contingent liabilities and commitments’).
The Group has policies, procedures and governance arrangements in place to facilitate the fair treatment
of customers. Since the acquisition of HBOS, the Group has made significant progress in aligning its
approach to Treating Customers Fairly across both heritages. In addition the Group has aligned its
Treating Customers Fairly governance and management information arrangements, with customer impact
being a key factor in assessing every integration proposition. The Group regularly reviews its product range
to ensure that it meets regulatory requirements and is competitive in the market place.
The Group aims to attract, retain, and develop high calibre talent. Failure to do so would present a significant
risk to delivering the Group’s overall strategy and is affected by a range of factors including:
– Ongoing regulatory and public interest in remuneration practices
– Delivery of the Group’s integration commitments, and
– Uncertainty about EU state aid requirements and the Independent Commission on Banking’s proposals for
banking reform.
The Group’s remuneration arrangements encourage compliant and appropriate behaviour from colleagues,
in line with group policies, values and short and long term people risk priorities. The Group has continued to
work closely with regulators, to seek to ensure compliance with our obligations. However, there is recognition
that international consensus must be achieved to avoid UK institutions being significantly disadvantaged in
attracting and retaining the highest calibre talent.
The Group continues to manage union relationships actively and the majority of colleagues are now on
harmonised Terms and Conditions. There is strong ongoing commitment to support and retain colleagues
throughout a period of significant integration and organisational change. Active monitoring of the Colleague
Engagement Survey, allows the Group to understand engagement levels. These continue to increase and are
now exceeding industry benchmarking for high performing organisations.
Lloyds Banking Group is closely engaged with the UK Government and regulators on reform proposals, and
with the EU on disposal arrangements, to influence and manage colleague uncertainty.
The integration of the two heritage organisations continues to be one of the largest integration challenges
that has been seen in the UK financial services industry. The Group’s Integration Execution Board, chaired by
the Group Operations Director, continues to oversee the integration process and progress is being regularly
reviewed by the Group Executive Committee and Group Board. While there continue to be delivery risks to
the programme, not least the risk of new regulatory requirements which may have an effect on resourcing, the
Group is now two years into the integration programme and has a fully developed and functioning governance
framework to manage these risks. There is a clear understanding of the phased deliverables to ensure effective
delivery through to 2012.
74
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
UNAUDITED INFORMATION
TABLE 1.3: RISK DRIVERS
Primary
risk drivers
Business
Risk
Credit
Risk
Market
Risk
Insurance
Risk
Operational
Risk
Financial
Soundness
Detailed
risk types
Execution of
strategy
Retail
Wholesale
Wealth and
International
Interest rate
Foreign
exchange
Equity
Credit spread
Mortality
Longevity
Morbidity
Persistency
Property
Expenses
Unemployment
Legal and regulatory
Customer
treatment
People
Supplier management
Customer processes
Financial crime
Money laundering
and sanctions
Security
IT systems
Change
Organisational
infrastructure
Capital
Liquidity
and funding
Financial and
prudential
regulatory
reporting
Disclosure
Tax
RISK DRIVERS
The Group’s risk language is designed to capture the Group’s ‘primary
risk drivers’. A description of each ‘primary risk driver’, including
definition, appetite, control and exposures, is included below. These
are further sub divided into 31 more granular risk types to enable more
detailed review and facilitate appropriate reporting and monitoring, as
set out in table 1.3.
Through the Group’s risk management processes, these risks are
assessed on an ongoing basis and seek to ensure optimisation of risk
and reward and that, where required, appropriate mitigation is in place.
Both quantitative and qualitative factors are considered in assessing
the Group’s current and potential future risks.
BUSINESS RISK
DEFINITION
Business risk is defined as the risk that the Group’s earnings are adversely
impacted by a sub optimal business strategy or the sub optimal
implementation of the strategy. In assessing business risk, consideration
is given to internal and external factors.
RISK APPETITE
Business risk appetite is encapsulated in the Group’s budget and
medium-term plan, which are sanctioned by the Board on an annual
basis. Divisions’ and business units’ plans are aligned to the Group’s
overall business risk appetite.
EXPOSURES
The Group’s portfolio of businesses exposes it to a number of internal
and external factors:
– internal factors: resource capability and availability, customer
treatment, service level agreements, products and funding and the risk
appetite of other risk categories; and
– external factors: economic, technological, political, social and ethical,
environmental, legal and regulatory, market expectations, reputation
and competitive behaviour.
MEASUREMENT
An annual business planning process is conducted at group, divisional
and business unit level which includes a quantitative and qualitative
assessment of the risks that could impact the Group’s plans. Within the
planning round, the Group conducts both scenario analysis and stress
tests to assess risks to future earning streams. Stress testing and scenario
analysis are fully embedded in the Group’s risk management practice.
The Group assesses a wide array of scenarios including economic
recessions, regulatory action scenarios, scenarios specific to the
operations of each part of the business, as well as reverse stress tests.
MITIGATION
As part of the annual business planning process, the Group develops
a set of management actions to prevent or mitigate the impact on
earnings in the event that business risks materialise. Additionally,
business risk monitoring, through regular reports and oversight, results
in corrective actions to plans and reductions in exposures where
necessary.
Revenue and capital investment decisions require additional formal
assessment and approval. Formal risk assessment is conducted as part
of the financial approval process. Significant mergers and acquisitions by
business units require specific approval by the Board. In addition to the
standard due diligence conducted during a merger or acquisition, group
risk conducts, where appropriate, an independent risk assessment of the
target company.
MONITORING
The Group’s strategy is reviewed and approved by the Board.
Reputational risk is covered at a number of levels throughout the
organisation, which includes the Group Executive Committee and
the Group Business Risk Committee. Regular reports are provided
to the Group Executive Committee and the Board on the progress
of the Group’s key strategies and plans. Group Risk conducts oversight
to seek to ensure that business plans remain consistent with the
Group’s strategy.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
75
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
CREDIT RISK
DEFINITION
The risk of reductions in earnings and/or value, through financial
or reputational loss, as a result of the failure of the party with whom
the Group has contracted to meet its obligations (both on and off
balance sheet).
RISK APPETITE
Credit risk appetite is set by the Board and is described and reported
through a suite of metrics derived from a combination of accounting
and credit portfolio performance measures, which in turn use the various
credit risk rating systems as inputs. These metrics are supported by
a comprehensive suite of policies, sector caps, product and country
limits to manage concentration risk and exposures within the Group’s
approved risk appetite.
This statement of the Group’s overall appetite for credit risk is reviewed
and approved annually by the Board. With the support of the Group
Credit Risk Committee and Group Business Risk Committee, the Group
Chief Executive allocates this risk appetite across the Group. Individual
members of the Group Executive Committee ensure that credit risk
appetite is further delegated to an appropriate level within their areas
of responsibility.
EXPOSURES
The principal sources of credit risk within the Group arise from loans
and advances to retail customers, financial institutions and corporate
clients. The credit risk exposures of the Group are set out in note 56
to the financial statements on page 251. Credit risk exposures are
categorised as ‘retail’ arising in the Retail and Wealth and International
Divisions and ‘wholesale’ arising in the Wholesale and Wealth and
International Divisions.
In terms of loans and advances, credit risk arises both from amounts
lent and commitments to extend credit to a customer as required.
These commitments can take the form of loans and overdrafts, or
credit instruments such as guarantees and standby, documentary and
commercial letters of credit. With respect to commitments to extend
credit, the Group is potentially exposed to loss in an amount equal to
the total unused commitments. However, the likely amount of loss is
less than the total unused commitments, as most retail commitments to
extend credit can be cancelled and the creditworthiness of customers
is monitored frequently. In addition, most wholesale commitments to
extend credit are contingent upon customers maintaining specific credit
standards, which are regularly monitored.
Credit risk can also arise from debt securities, private equity investments,
derivatives and foreign exchange activities. Note 19 to the financial
statements on page 184 shows the total notional principal amount
of interest rate, exchange rate, credit derivative and equity and other
contracts outstanding at 31 December 2010. The notional principal
amount does not, however, represent the Group’s credit risk exposure,
which is limited to the current cost of replacing contracts with a positive
value to the Group. Such amounts are reflected in note 56 on page 251.
Credit risk exposures in the insurance businesses arise primarily from
holding investments and from exposure to reinsurers. A significant
proportion of the investments are held in unit-linked and with-profits
funds where the shareholder risk is limited, subject to any
guarantees given.
MEASUREMENT
In measuring the credit risk of loans and advances to customers and
to banks at a counterparty level, the Group reflects three components:
(i) the ‘probability of default’ by the counterparty on its contractual
obligations; (ii) current exposures to the counterparty and their likely
future development, from which the Group derives the ‘exposure at
default’; and (iii) the likely loss ratio on the defaulted obligations (the
‘loss given default’).
The Group’s rating systems assess probability of default and if
Advanced, exposure at default and loss given default, in order to derive
an expected loss. (If not Advanced, regulatory prescribed exposure
at default and loss given default values are used in order to derive an
expected loss). In contrast, impairment allowances are recognised for
financial reporting purposes only for loss events that have occurred at
the balance sheet date, based on objective evidence of impairment (see
note 2(H) to the financial statements on page 158). Due to the different
methodologies applied, the amount of incurred credit losses provided
for in the financial statements differs from the amount determined
from the expected loss models that are used for internal operational
management and banking regulation purposes.
The Group assesses the probability of default of individual
counterparties using internal rating models tailored to the various
categories of counterparty. In its principal retail portfolios and a number
of wholesale lending portfolios, exposure at default and loss given
default models are also in use. They have been developed internally
and use statistical analysis, combined, where appropriate, with external
data and subject matter expert judgement. Each rating model is subject
to a validation process, undertaken by independent risk teams, which
includes benchmarking to externally available data, where possible.
The most material rating models are approved by the Group Model
Governance Committee.
Each probability of default model segments counterparties into
a number of rating grades, each representing a defined range of
default probabilities. Exposures migrate between rating grades if the
assessment of the counterparty probability of default changes. Each
rating system is required to map to a master scale, which supports the
consolidation of credit risk information across portfolios through the
adoption of a common rating scale. Given the differing risk profiles and
credit rating considerations, the underlying risk reporting has been split
into two distinct master scales, a retail master scale and a wholesale
master scale.
(Note 56 to the financial statements provides an analysis of the portfolio
and pages 79 to 88 provide details of our Credit risk portfolio.)
76
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
MITIGATION
The Group uses a range of approaches to mitigate credit risk.
Internal control
The Group follows a through the economic cycle, relationship based,
business model with risk management processes, appetites and
experienced staff in place. These policies and procedures define chosen
target market and risk acceptance criteria. These have been, and will
continue to be fine-tuned as appropriate and include the use of early
warning indicators to help anticipate future areas of concern and allow
us to take early and proactive mitigating actions.
Credit principles and policy: Group Risk sets out the Group credit
principles and policy according to which credit risk is managed, which
in turn is the basis for divisional and business unit credit policy. Principles
and policies are reviewed at least annually, and any changes are subject
to a review and approval process. Divisional and business unit policies
include lending guidelines, which define the responsibilities of lending
officers and provide a disciplined and focused benchmark for credit
decisions.
Counterparty limits: Limits are set against all types of exposure in a
counterparty name, in accordance with an agreed methodology for each
exposure type. This includes credit risk exposure on individual derivative
transactions, which incorporates potential future exposures from market
movements. Aggregate facility levels by counterparty are set and limit
breaches are subject to escalation procedures.
Credit scoring: In its principal retail portfolios, the Group uses statistically
based decisioning techniques (primarily credit scoring models).
Divisional risk departments review model effectiveness, while new
models and model changes are referred by them to divisional model
governance committees for approval. The most material changes are
referred to the Group Model Governance Committee.
Individual credit assessment and sanction: Credit risk in wholesale
portfolios is subject to individual credit assessments, which consider the
strengths and weaknesses of individual transactions and the balance of
risk and reward. Exposure to individual counterparties, groups of
counterparties or customer risk segments is controlled through a tiered
hierarchy of delegated sanctioning authorities. Approval requirements
for each decision are based on the transaction amount, the customer’s
aggregate facilities, credit risk ratings and the nature and term of the
risk. The Group’s credit risk appetite criteria for counterparty
underwriting are the same as that for assets intended to be held over
the period to maturity.
Controls over rating systems: The Group has established an
independent team in Group Risk that sets common minimum standards,
designed to ensure risk models and associated rating systems are
developed consistently, and are of sufficient quality to support business
decisions and meet regulatory requirements. Internal rating systems are
developed by risk functions either in the business units or divisions, with
the business unit managing directors having ownership of the systems.
Line management takes responsibility for ensuring the validation of the
rating systems, supported and challenged by independent specialist
functions in their respective division.
Cross-border and cross-currency exposures: Country limits are
authorised by the country limits panel, taking into account economic,
financial, political and social factors. Group policies stipulate that these
limits must be consistent with, and support the approved business and
strategic plans of the Group.
Concentration risk: Credit risk management includes portfolio controls
on certain industries, sectors and product lines to reflect risk appetite.
Credit policy is aligned to the Group’s risk appetite and restricts
exposure to certain high risk countries and more vulnerable sectors
and segments. Note 21 to the financial statements on page 188,
provides an analysis of loans and advances to customers by industry
(for wholesale customers) and product (for retail customers). Exposures
are monitored to prevent an excessive concentration of risk. These
concentration risk controls are not necessarily in the form of a maximum
limit on lending, but may instead require new business in concentrated
sectors to fulfil additional hurdle requirements. The Group’s large
exposures are reported in accordance with regulatory reporting
requirements.
Stress testing and scenario analysis: The credit portfolio is also subjected
to stress testing and scenario analysis, to simulate outcomes and
calculate their associated impact. Events are modelled at a group-wide
level, at divisional and business unit level and by rating model and
portfolio, for example, within a specific industry sector.
Specialist expertise: Credit quality is maintained by specialist units
providing, for example: intensive management and control (see Intensive
Care section); security perfection, maintenance and retention; expertise
in documentation for lending and associated products; sector specific
expertise; and legal services applicable to the particular market place
and product range offered by the business.
Daily settlement limits: Settlement risk arises in any situation where a
payment in cash, securities or equities is made in the expectation of a
corresponding receipt in cash, securities or equities. Daily settlement
limits are established for each counterparty to cover the aggregate of
all settlement risk arising from the Group’s market transactions on any
single day.
Risk assurance and oversight: Divisional and group level oversight teams
monitor credit performance trends, review and challenge exceptions to
planned outcomes, and test the adequacy of credit risk infrastructure
and governance processes throughout the Group. This includes tracking
portfolio performance against an agreed set of key risk indicators.
Group credit risk assurance, a group level function comprising forty
seven experienced credit professionals, is also in place. In conjunction
with divisional and group risk senior management, this team carries out
independent risk based credit reviews, providing individual business
unit assessment of the effectiveness of risk management practices
and adherence to risk controls across the diverse range of the Group’s
wholesale and retail businesses and activities, facilitating a wide range
of audit, assurance and review work. These include cyclical (‘standard’)
credit reviews, non-standard reviews, project reviews, credit risk rating
model reviews and bespoke assignments, including impairment reviews
as required. The work of group credit risk assurance continues to provide
executive and senior management with assurance and guidance on credit
quality, effectiveness of credit risk controls and accuracy of impairments.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
77
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
Collateral
The principal collateral types for loans and advances are:
– mortgages over residential and commercial real estate;
– charges over business assets such as premises, inventory and accounts
receivables;
– charges over financial instruments such as debt securities and equities;
and
– guarantees received from third parties.
The Group maintains guidelines on the acceptability of specific classes
of collateral.
Collateral held as security for financial assets other than loans and
advances is determined by the nature of the instrument. Debt securities,
treasury and other eligible bills are generally unsecured, with the
exception of asset-backed securities and similar instruments, which
are secured by portfolios of financial assets. Collateral is generally not
held against loans and advances to financial institutions, except where
securities are held as part of reverse repurchase or securities borrowing
transactions or where a collateral agreement has been entered into
under a master netting agreement. Collateral or other security is also
not usually obtained for credit risk exposures on derivative instruments,
except where the Group requires margin deposits from counterparties.
It is the Group’s policy that collateral should always be realistically valued
by an appropriately qualified source, independent of the customer,
at the time of borrowing. Collateral is reviewed on a regular basis in
accordance with business unit credit policy, which will vary according
to the type of lending and collateral involved. In order to minimise
the credit loss, the Group may seek additional collateral from the
counterparty as soon as impairment indicators are identified for the
relevant individual loans and advances.
The Group considers risk concentrations by collateral providers and
collateral type, as appropriate, with a view to ensuring that any potential
undue concentrations of risk are identified and suitably managed by
changes to strategy, policy and/or business plans.
Master netting agreements
Where it is efficient and likely to be effective (generally with
counterparties with which it undertakes a significant volume of
transactions), the Group enters into master netting agreements.
Although master netting agreements do not generally result in an offset
of balance sheet assets and liabilities, as transactions are usually settled
on a gross basis, they do reduce the credit risk to the extent that, if an
event of default occurs, all amounts with the counterparty are terminated
and settled on a net basis. The Group’s overall exposure to credit risk on
derivative instruments subject to master netting agreements can change
substantially within a short period, since it is affected by each transaction
subject to the agreement.
Other credit risk transfers
The Group also undertakes asset sales, securitisations and credit
derivative based transactions as a means of mitigating or reducing
credit risk, taking into account the nature of assets and the prevailing
market conditions.
MONITORING
In conjunction with Group Risk, businesses and divisions identify and
define portfolios of credit and related risk exposures and the key
benchmarks, behaviours and characteristics by which those portfolios
are managed in terms of credit risk exposure. This entails the production
and analysis of regular portfolio monitoring reports for review by senior
management. Group Risk in turn produces an aggregated review of
credit risk throughout the Group, including reports on significant credit
exposures, which are presented to the Group Credit Risk Committee,
Group Business Risk Committee and Risk Committee.
The performance of all rating models is monitored on a regular
basis, in order to seek to ensure that models provide appropriate risk
differentiation capability, the generated ratings remain as accurate and
robust as practical, and the models assign appropriate risk estimates to
grades/pools. All models are monitored against a series of agreed key
performance indicators. In the event that monthly monitoring identifies
material exceptions or deviations from expected outcomes, these will
be escalated to the appropriate Model Governance Committee.
78
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
UNAUDITED INFORMATION
– Homeowner Mortgage Support Scheme: This is a medium-term
Government initiative that enables borrowers affected by temporary
reductions in income to access reduced payments for a period of
up to two years. The Government provides a partial guarantee to
the Group whilst a customer participates in the plan. Decisions on
eligibility, principally whether the Group expects the borrower’s
earnings to recover fully, initially rest with the Group and must be made
on the basis of detailed information received from an independent
fee-free advisor. After a year, the customer must undergo a further
full assessment made by the advice agency. The customer must pay
at least 30 per cent of the interest due. Any shortfall in payments
made during the period covered by the scheme is collected through
increased payments over the remaining term.
– Mortgage Rescue Scheme: This is a short-term Government initiative
for borrowers in difficulty and facing repossession, who would have
priority for re-housing by a local authority (e.g. the elderly, disabled,
single parents). Eligible customers can have their property bought in
full or part by the social rented sector and then remain in their home
as a tenant or shared equity partner. If the property is sold outright the
mortgage is redeemed in full.
– ‘Breathing space’ initiative: This is a Government led initiative which
requires the banking industry to allow a ‘breathing space’ of up to sixty
days to allow borrowers in difficulty to agree a repayment plan with
a debt advice charity prior to any action being taken by the bank to
recover the outstanding debt.
– Delay Repossession: Under this initiative lenders will not begin
repossession proceedings for at least three months when a customer
is in arrears. This does not apply to fraud cases. The undertaking
comes alongside an existing agreement under which mortgage
providers are obliged to explore a range of options, such as payment
holidays and altering the terms of a mortgage, before resorting to
repossession.
– HomeBuy Direct: The HomeBuy Direct scheme covers certain newly
built homes on specific housing developments across England. The
scheme is provided through ‘HomeBuy agents’. HomeBuy agents are
housing associations that have been authorised to run schemes for
people who have difficulty buying a home. Customers can only buy
a home through HomeBuy Direct if their household earnings are no
more than £60,000 per annum, and they cannot otherwise afford to buy
a home in their area. The HomeBuy Direct scheme is open to people
who rent council or housing association properties; ‘key workers’ in the
public sector (e.g. teachers) and first-time buyers. The scheme provides
up to 30 per cent of the purchase price through an equity loan that has
no repayments for the first five years. After this there is an annual fee of
1.75 per cent, which will increase annually with inflation. The customer
can increase their share of ownership at any time.
INTENSIVE CARE OF CUSTOMERS IN DIFFICULTY
To support corporate customers that encounter difficulties during the
current economic downturn, the Group has continued to expand its
dedicated business support unit (BSU) model and established a central
team managing this activity globally. Teams have been strengthened
in both Wholesale and especially Wealth and International to deal with
the rise in workloads experienced during the year as the recessionary
conditions took hold both in the UK and overseas. In Wholesale
three teams operate to support customers experiencing difficulties
in Corporate Real Estate, Corporate and Commercial, and Specialist
Finance. In Wealth and International, teams have been created in Ireland
and Australia. Under this model, relationship management passes early
and fully to BSU; because the BSU specialists receive the customers at
an early stage in the process they have more time to develop effective
solutions. The strategy is to work alongside management teams and key
stakeholders to turn around businesses in distress and re-establish these
as viable entities.
These specialist support teams utilise a range of techniques (including
debt for equity swaps, sale of business and restructuring options) to
preserve viable companies wherever possible and undertake regular
reviews so that the customer receives the appropriate level of support.
The reviews are also designed to ensure that support strategies continue
to be relevant and are being executed.
Where a turnaround is not feasible, exposure is minimised through
a combination of appropriate asset sales, restructuring and
work-out strategies.
To support UK retail customers who are encountering financial
difficulties, the Group has launched a cross-channel support
programme. The Group provides support to customers in difficulty via
trained colleagues in branches and dedicated telephony units, and via
online guidance material. For those customers requiring more intensive
help, assistance is provided through dedicated support units where
tailored repayment programmes can be agreed. Customers are actively
supported and referred to free money advice agencies where they have
multiple credit facilities including those external to the Group, that
require restructuring.
Within collections and recoveries, the sharing of best practice and
alignment of policies across the Group has helped to drive more
effective customer outcomes and achieve operational efficiencies. The
Group has strengthened resources in collections and recoveries to help
customers in distress by offering advice and access to a wider range of
options such as short-term repayment plans or the government backed
Homeowners Mortgage Support and Mortgage Rescue schemes.
A core element of our relationship management approach is to contact
customers showing signs of financial distress, discussing with them their
circumstances and offering solutions to prevent their accounts falling
into arrears.
In addition, the Group participates in the following UK Government
(‘Government’) sponsored programmes for households:
– Income Support for Mortgage Interest: This is a medium-term
Government initiative that provides certain defined categories of
customers, principally those who are unemployed, access to a benefit
scheme, paid for by the Government, which covers all or part of the
interest on the mortgage. Qualifying customers are able to claim for
mortgage interest on up to £200,000 of the mortgage, and the benefit
is payable for a maximum of two years. All decisions regarding an
individual’s eligibility and any amounts payable under the scheme rest
solely with the Government. Payments are made directly to the Group
by the appropriate Government department.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
79
Lloyds Banking Group
Annual Report
and Accounts 2010
UNAUDITED INFORMATION
OUR CREDIT RISK PORTFOLIO IN 2010
OVERVIEW
– The Group achieved a significant reduction in the impairment charge
in 2010 to £13,181 million (from £23,988 million in 2009), due to the
stabilisation of the wholesale portfolios and good retail affordability
and performance. Improvements in Wholesale and Retail more than
offset increased impairment charges in Ireland and Australia, caused
by difficult market conditions.
– Prudent, ‘through the cycle’ credit policies and procedures are in
place throughout the Group, focusing on development of enduring
client relationships. This resulted in higher quality new business being
originated across the UK. Very little new origination took place outside
the UK.
– The Group’s level of impairment is being managed successfully in the
current challenging economic environment by the Wholesale business
support units and Retail collection and recovery units. The business
support model has been expanded from Wholesale across Wealth and
International division, with a central team established to manage its
business support activity globally. The Group has also strengthened
resources within Retail collections and recoveries to enable more
timely engagement with customers experiencing difficulties to drive
more effective customer outcomes.
– The Group actively reduced limits to Portugal, Ireland, Italy, Greece
and Spain over the last two years, with the associated country risk
profile modest in the context of the Group’s asset base. Except for
Ireland, the 2011 base case impairment forecast for these countries is
de-minimis in the context of the Group.
– The closure of our Bank of Scotland (Ireland) Limited business was
completed on the 31 December 2010 and a new operating structure
came into existence, focused on intensive management of the closed
book to optimise the winding up of our lending.
As well as these Government-sponsored initiatives, the Group, through
its banking businesses, also operates a number of its own schemes to
assist households. These include:
– Short-term reduced or nil arrangements: This is an arrangement
whereby customers who are experiencing short-term difficulties may
be granted a reduced (including nil) payment arrangement. This is
agreed with the customer based on their individual circumstances; nil
payment arrangements can be granted for up to three months and
reduced payment arrangements for up to six months. There is no
reduction in contractual terms for customers on these arrangements.
– Term extensions: This allows customers to extend their mortgage term
in order to reduce their contractual monthly payment. The maximum
term is aligned to the overall standard term limits for mortgages and
there is no forbearance of any debt.
– Transfer to interest only: This allows customers who are currently on a
capital and interest repayment basis to transfer to an interest only basis
for a period of time (up to three years maximum) in order to reduce
their contractual monthly payment.
– Contractual repayment: This scheme allows customers in arrears, but
who have made sufficient payments in a six month period, to capitalise
their arrears. The contractual repayment is then adjusted to provide full
repayment of the loan and full interest within the agreed original term.
The Group’s accounting policy for loan renegotiations and forbearance
is set out on page 159.
In addition to these household-related initiatives, the Group, through its
banking businesses, participates in a number of initiatives designed to
assist small and medium-sized enterprises. These include:
– The Lending Code: Introduced by the British Bankers’ Association in
November 2009, the Lending Code is a voluntary set of commitments
and standards of good practice to ensure that lenders act fairly and
reasonably in all dealings with customers.
– Statement of Principles: The Group through a number of its businesses
has signed up to the Statement of Principles outlining an agreed
approach to working with micro-enterprises (entities with fewer
than 10 employees and having a turnover of less than €2 million).
The principles include how to ensure that the right relationship is
established from the start, how to help if the business faces difficulties
and how businesses can work most effectively with their bank.
– As part of the Group’s commitment to the Statement of Principles, it
issues a Letter of Concern to customers when it has concerns about
their business or the Group’s relationship with them. This ensures that
the customer understands the Group’s concerns; the approach aims to
generate early dialogue between the customer and the Group, so that
a joint approach to the situation can be developed.
– Business Lending Taskforce: The Group through its banking businesses
is actively involved in the recently set up Business Lending Taskforce,
which has committed to 17 actions in three broad areas: (i) improving
customer relationships; (ii) ensuring better access to finance; and
(iii) providing better information and promoting understanding.
80
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
TABLE 1.4: IMPAIRMENTS ON GROUP LOANS AND ADVANCES
(audited)
As at 31 December 2010
Retail
Wholesale
Wealth and
International
Hedging and
other items
Loans and
advances
£m
Impaired
loans
£m
Impaired
loans as
a % of
closing
advances
%
Impair-
ment
provisions1
£m
368,981
9,750
2.6
3,096
187,651 34,514
18.4 15,855
Impair-
ment
provisions
as a % of
impaired
loans
%
31.8
45.9
66,368 20,342
30.7 10,684
52.5
3,378
–
–
–
–
626,378 64,606
10.3 29,635
45.9
Impairment provisions (29,635)
Fair value adjustments
(4,146)
592,597
As at 31 December 2009
Retail
Wholesale
Wealth and
International
Hedging and
other items
378,005
11,015
2.9
3,806
210,934
35,114
16.6
17,179
34.6
48.9
69,402
12,704
18.3
5,003
39.4
1,663
660,004
58,833
8.9
25,988
44.2
Impairment provisions
(25,988)
Fair value adjustments
(7,047)
626,969
1
Impairment provisions include collective unimpaired provisions.
TABLE 1.5: IMPAIRMENT CHARGE BY DIVISION (audited)
Retail
Wholesale
Wealth and International
Total impairment charge
2009
£m
Change
%
2010
£m
2,747
4,446
5,988
4,227
15,683
4,078
13,181
23,988
35
72
(47)
45
EUROPEAN SOVEREIGN EXPOSURES (unaudited)
As at 31 December 2010, the Group had in aggregate, minimal direct
exposure to the national and local governments of Portugal, Ireland,
Italy, Greece and Spain.
OUTLOOK – GROUP (unaudited)
Based on its latest economic assumptions, as set out on page 12,
the Group expects an improved impairment charge in 2011 compared
with 2010.
While the second half of 2010 has seen most countries exiting from
recession, forecasts are that the UK recovery will continue to be at
a modest pace and is likely to be protracted. The risks to the impairment
charge remain skewed to the downside across all lending businesses. In
the UK, business and consumer confidence remain fragile and the extent
to which simultaneous fiscal tightening might undermine global and UK
growth is unclear. Contagion from the Irish bail-out to other Eurozone
economies could drive further fiscal tightening and worsen the outlook
further. Rising commodity prices driven by strong recovery in Asia might
fuel a further increase in inflation, prompting short-term interest rates
to rise more quickly than anticipated. Potential interest rate rises, public
spending cuts and reduced consumer spending could cause cashflow
stress and higher levels of default amongst mid-market corporates and
Commercial customers in particular. In addition, in our commercial real
estate book, any deterioration in the economy could increase the level
of tenant defaults and reduce capital values further from an already
depressed level, particularly in the regions. Further significant falls in
house prices, real disposable household income or increasing interest
rates, would result in a higher secured retail impairment charge relative
to current expectations.
A ‘double-dip’ scenario – a second recession following closely the one
from which the economy is just emerging – remains a key downside
risk to UK impairment charges. This is because it would result in
further significant increases in corporate failures and unemployment
during 2011-12, as well as causing a second period of falling prices for
residential and commercial property, tenant defaults would increase
and central banks would have limited ability to cushion the downturn.
Together, these factors could lead to increased impairments across the
Group’s UK portfolios.
The Group’s exposure to Ireland and Australia is being closely managed.
In post bail-out Ireland, the fragility of the economy and political system
could cause further credit quality deterioration within our closed book.
Australia, while benefiting from a commodities export boom, continues
to be affected by deteriorating property markets in the geographic areas
and property classes where the Group is exposed. Base rate increases
are an additional threat to affordability in our Australian property and
acquisition finance books.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
81
Lloyds Banking Group
Annual Report
and Accounts 2010
RETAIL
OVERVIEW (unaudited)
– The Retail impairment charge was £2,747 million in 2010, a decrease
of £1,480 million, or 35 per cent, from 2009.
– The decrease in the Retail impairment charge was driven primarily
by the improved quality of new business and effective portfolio
management, coupled with a continuing slow recovery of the
economy. The Retail impairment charge for loans and advances
to customers, as an annualised percentage of average loans and
advances to customers, decreased to 0.74 per cent from 1.11 per cent
in 2009.
– New lending quality continues to be good with subsequent early
arrears at pre-recessionary levels.
– Average loan-to-value on new mortgage lending in the year was
60.9 per cent (59.3 per cent for 2009) while the average indexed
loan-to-value on the mortgage portfolio was 55.6 per cent
(54.8 per cent at 31 December 2009) consistent with a net fall in house
prices since December 2009.
TABLE 1.7: IMPAIRMENTS ON RETAIL LOANS AND ADVANCES
(audited)
As at 31 December 2010
Loans and
advances
£m
Impaired
loans
£m
341,069
6,769
27,912
2,981
Secured
Unsecured
Total gross lending
368,981
9,750
Impairment provisions
(3,096)
Fair value adjustments
(2,154)
363,731
As at 31 December 2009
Loans and
advances
£m
Impaired
loans
£m
345,900
32,105
7,196
3,819
Impaired
loans as
a % of
closing
advances
%
Impair-
ment
provisions1
£m
Impair-
ment
provisions
as a % of
impaired
loans
%
2.0
10.7
2.6
1,589
1,507
3,096
23.5
50.6
31.8
Impaired
loans as
a % of
closing
advances
%
Impairment
provisions
as a % of
impaired
loans
%
Impairment
provisions1
£m
2.1
11.9
2.9
1,693
2,113
3,806
23.5
55.3
34.6
– Overall volume of customers entering arrears in 2010 compared to
2009 was lower for unsecured lending and flat for secured lending.
Secured early arrears balances increased in the second half of 2010.
Secured
Unsecured
TABLE 1.6: RETAIL IMPAIRMENT CHARGE (audited)
Secured
Unsecured
Total impairment charge
2010
£m
292
2,455
2,747
2009
£m
789
3,438
4,227
Total gross lending
378,005
11,015
Change
%
Impairment provisions
(3,806)
Fair value adjustments
(3,141)
63
29
35
1
Impairment provisions include collective unimpaired provisions.
371,058
The Retail division’s loans and advances to customers are analysed in the
following table:
Retail’s impairment charge decreased by £1,480 million to £2,747 million
in 2010 compared with 2009 and was lower in both secured and
unsecured portfolios. This improvement was driven primarily by the
improved quality of new business and effective portfolio management,
coupled with the continuing slow recovery of the economy. The lower
secured impairment charge reflected a reduction in impaired loans and
improved arrears in the first half of 2010. Across Retail in 2010, there
were fewer cases going into arrears. The impairment charge on loans
and advances to customers, as an annualised percentage of average
loans and advances to customers, decreased to 0.74 per cent from
1.11 per cent in 2009.
IMPAIRED LOANS AND PROVISIONS (audited)
Retail impaired loans decreased by £1.2 billion to £9.8 billion compared
with 31 December 2009 and, as a percentage of closing loans and
advances to customers, decreased to 2.6 per cent from 2.9 per cent
at 31 December 2009. The reduction in the value of impaired loans
reflected the continuing low interest rate environment for mortgages
and fewer unsecured loans going into arrears. Impairment provisions,
as a percentage of impaired loans, reduced to 31.8 per cent from
34.6 per cent at 31 December 2009 largely driven by more stringent
criteria for new and existing unsecured collections repayment plans
resulting in highly provided assets being written-off.
TABLE 1.8: RETAIL LOANS AND ADVANCES TO CUSTOMERS (audited)
As at 31 December
2010
£m
2009
£m
Secured:
Mainstream
Buy to let
Specialist
Unsecured:
Credit cards
Personal loans
Bank accounts
Others, including joint ventures
Total Retail gross lending
265,368
270,069
46,356
44,236
29,345 31,595
341,069
345,900
11,207
13,881
2,624
200
12,301
16,940
2,629
235
27,912
32,105
368,981
378,005
OUTLOOK – RETAIL (unaudited)
The Group remains cautious about the pace and consistency of economic
recovery and how this may impact our customers. The outlook assumes
a slow economic recovery resulting in an improvement in the unsecured
impairment charge. In the secured portfolio however, there are a mixture
of signals from lead indicators, including falling house prices and an
increase in secured arrears in the second half of 2010, which lead Retail to
expect a higher secured impairment charge in 2011. Overall the Group
anticipates a modest reduction in Retail’s 2011 impairment charge based
on the current outlook of a modestly improving economic environment.
82
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
SECURED
SECURED IMPAIRMENT CHARGE (unaudited)
The impairment charge decreased by £497 million, to £292 million in
2010 compared to the previous year. The main drivers of the reduction
were continued benefits from internal activities (risk and collections
policies), maintained affordability and the continuing slow recovery
of the economy. However, for the second half of 2010 the impairment
charge was greater than the first half due to falling house prices
combined with a worsening house price outlook towards the end of
the period. The impairment charge for loans and advances to customers,
as a percentage of average loans and advances to customers, decreased
to 0.09 per cent from 0.23 per cent in 2009.
Provisions held against secured assets reflect adequate allowance for
incurred losses including customers currently on repayment plans or in
financial difficulties who are maintaining their repayments whilst interest
rates are very low.
SECURED IMPAIRED LOANS (unaudited)
Impaired loans decreased by £0.4 billion to £6.8 billion at 31 December
2010 and, as a percentage of closing loans and advances to customers,
reduced to 2.0 per cent from 2.1 per cent at 31 December 2009. The
reduction in the value of impaired loans reflects the continued ability
of customers to afford their mortgage payments in a low interest rate
environment.
The number of customers going into arrears remained stable throughout
2010. In the second half of 2010 fewer accounts in arrears returned to
order resulting in higher early arrears balances for 31 December 2010
compared to 30 June 2010. As reported at the 2009 year end, Specialist
lending remains closed to new business and this book is in run-off.
SECURED ARREARS (unaudited)
The percentage of mortgage cases greater than three months in
arrears (excluding repossessions) remained stable at 2.3 per cent
at 31 December 2010 compared to 31 December 2009.
TABLE 1.9: MORTGAGES GREATER THAN THREE MONTHS IN
ARREARS (EXCLUDING POSSESSIONS) (audited)
Greater than
three months in arrears
(excluding repossessions)
Mainstream
Buy to let
Specialist
Total
Greater than
three months in arrears
(excluding repossessions)
Mainstream
Buy to let
Specialist
Total
Number of cases
Total mortgage
accounts %
31 Dec
2010
Cases
31 Dec
2009
Cases
31 Dec
2010
%
31 Dec
2009
%
55,675
57,837
7,577
7,557
12,582
13,848
75,834
79,242
2.1
1.8
6.4
2.3
2.1
1.9
6.6
2.3
Value of debt1
31 Dec
2010
£m
6,247
1,157
2,262
9,666
31 Dec
2009
£m
6,407
1,159
2,498
10,064
Total mortgage
balances %
31 Dec
2010
%
31 Dec
2009
%
2.4
2.5
7.7
2.8
2.4
2.6
7.9
2.9
1
Value of debt represents total book value of mortgages in arrears but not repossessed.
The stock of repossession cases rose from 2,720 at 31 December 2009
to 3,043 at 31 December 2010. This still represents a relatively low
proportion of the portfolio and was broadly consistent with prior years.
Secured loan to value analysis (unaudited)
Management actions have resulted in new lending quality remaining
strong. The average loan-to-value ratio (LTV) for new mortgages and
further advances written in 2010 was 60.9 per cent compared with
59.3 per cent for 2009. This is primarily driven by a greater proportion
of new lending to first-time buyers and home movers delivering on
the Group’s commitment to support new home owners. The average
indexed LTV on the mortgage portfolio at 31 December 2010 was
55.6 per cent compared with 54.8 per cent at 31 December 2009. House
prices, having initially increased, fell in the second half of 2010 resulting
in the indexed LTV in excess of 100 per cent ending 2010 at 13.2 per cent
of the mortgage portfolio (£44.9 billion), compared with 13.0 per cent
(£44.8 billion) at 31 December 2009. The tables below show LTVs across
the principal mortgage portfolios.
The increased average LTVs for impaired Buy to let mortgages, is driven
by the modest net fall in house prices and the seasoning of higher risk
lending that was closed at the start of 2009.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
83
Lloyds Banking Group
Annual Report
and Accounts 2010
100.0
100.0
100.0
100.0
from £15,683 million for 2009.
TABLE 1.10: ACTUAL AND AVERAGE LTVS ACROSS THE PRINCIPAL
MORTGAGE PORTFOLIOS (audited)
As at 31 December 2010
Mainstream Buy to let
%
%
Specialist1
%
Total
%
Stock of residential mortgages
New residential lending
Impaired mortgages
As at 31 December 2009
51.9
60.0
72.3
75.6
66.5
97.8
72.9
n/a
87.3
Mainstream Buy to let
%
%
Specialist1
%
Less than 60%
60% to 70%
70% to 80%
80% to 90%
90% to 100%
Greater than 100%
Total
Average loan-to-value:
Less than 60%
60% to 70%
70% to 80%
80% to 90%
90% to 100%
Greater than 100%
Total
Average loan-to-value:
Stock of residential
mortgages
New residential lending
Impaired mortgages
33.0
12.1
16.1
15.3
11.9
11.6
11.4
11.1
21.9
18.0
19.1
18.5
14.0
9.4
15.9
21.3
20.0
19.4
28.5
11.7
16.8
16.2
13.6
13.2
55.6
60.9
78.0
Total
%
29.7
11.6
16.0
15.6
14.1
13.0
34.4
11.9
15.2
14.3
12.2
12.0
12.0
11.3
20.2
19.1
21.4
16.0
14.3
9.7
17.0
21.5
20.3
17.2
100.0
100.0
100.0
100.0
51.0
58.3
71.1
75.2
65.6
91.5
72.3
73.7
85.6
54.8
59.3
76.5
1
Specialist lending is closed to new business and is in run-off.
UNSECURED (unaudited)
In 2010 the impairment charge on loans and advances to customers
reduced by £983 million to £2,455 million compared with 2009. This
reflected a continuation of the improving portfolio trends resulting
from the Group’s prudent risk appetite, with a focus on lending towards
existing customers, combined with stable unemployment.
A combination of reduced demand from customers for personal
unsecured borrowing and the Group’s prudent risk policy contributed to
loans and advances to customers reducing by £4.2 billion to £27.9 billion
at 31 December 2010.
Impaired loans decreased by £0.8 billion to £3.0 billion which represented
10.7 per cent of closing loans and advances to customers at
31 December 2010, compared with 11.9 per cent at 31 December 2009. The
movement in impaired loans is consistent with the trends seen in both the
flow of accounts to arrears and arrears balances, both of which have fallen
across all unsecured products during 2010. This is a result of tightening
credit policy across the credit lifecycle, including stronger controls on
customer affordability, set against a stable economic environment. Retail’s
exposure to revolving credit products has been actively managed to ensure
that it is appropriate to customers’ changing financial circumstances.
The portfolios’ results are supported by pre-recessionary levels of early
arrears for accounts acquired in the last two years, highlighting an
underlying improvement in the risk profile of the business.
Impairment provisions decreased by £0.6 billion, compared with
31 December 2009, to £1.5 billion. Impairment provisions, as a percentage
of impaired loans, decreased to 50.6 per cent at 31 December 2010 from
55.3 per cent at 31 December 2009, largely driven by more stringent
criteria for new and existing unsecured collections repayment plans
resulting in highly provided assets being written-off.
WHOLESALE
OVERVIEW (unaudited)
– Impairment charge for 2010 decreased significantly to £4,446 million,
– Impairment experience in 2010 was better than guided a year ago
as stabilising economic conditions led to lower impairment charges
especially in the corporate real estate, real estate related and
Corporate (UK and US) portfolios.
– A robust credit risk management and control framework is in place
across the combined portfolios and a prudent risk appetite approach
(largely based on Lloyds TSB’s model) continues to be embedded
across the division. Significant resources have been deployed into the
business support units focused on key and vulnerable obligors and
asset classes.
TABLE 1.11: WHOLESALE IMPAIRMENT CHARGE (audited)
2009
£m
2010
£m
Change
%
Corporate Markets
Asset Finance
Total impairment charge
4,182
14,855
264
828
4,446
15,683
72
68
72
Wholesale’s impairment charge decreased by £11,237 million, or
72 per cent, compared to £15,683 million for 2009. Impairment
charges as an annualised percentage of average loans and advances
to customers reduced to 2.08 per cent from 5.92 per cent in 2009.
Significant actions were taken in the first half of 2009 on the heritage
HBOS portfolios, including the identification of large impairments
post the HBOS acquisition especially in corporate real estate, real
estate related and Corporate (UK and US) portfolios. Together with the
stabilising UK and US economic environment in 2010, a low interest
rate environment helping to maintain defaults at a lower level and a
number of write backs due to asset disposals, impairment charges have
decreased substantially compared with 2009.
IMPAIRED LOANS AND PROVISIONS (audited)
Wholesale’s impaired loans reduced by £600 million to £34,514 million
compared with 31 December 2009. The reduction is due to new impaired
assets (mainly in the Corporate Real Estate Business Support Unit) being
offset by write-offs on irrecoverable assets and the sale of previously
impaired assets. Impairment provisions also reduced as a result of the
write-offs and a lower impairment rate on recently impaired assets. As a
result, impairment provisions as a percentage of impaired loans reduced to
45.9 per cent from 48.9 per cent at 31 December 2009. As a percentage of
closing loans and advances to customers, impaired loans increased to
18.4 per cent from 16.6 per cent at 31 December 2009. This increase
is essentially a factor of the reducing level of total loans and advances to
customers as at 31 December 2010 compared with 31 December 2009.
We continue to monitor our vulnerable portfolios within Wholesale
and, where appropriate, remedial risk mitigating actions are
being undertaken.
84
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
OUTLOOK – WHOLESALE (unaudited)
The potential effects of the UK Government’s austerity measures
on portfolios vulnerable to Government spending cuts are currently
unknown. Although appropriate early warning indicators and action
plans are in place to help mitigate against this, we would expect some
negative effect on the portfolio. This is especially so in the traditional
customer lending businesses, which are vulnerable to reduced consumer
spending as a result of tax rises, and other UK Government austerity
measures. As previously guided, we expect the overall net impairment
charges in our traditional lending businesses (especially in the trading
and manufacturing sectors) to increase in 2011, driven in part by a
lower benefit from write backs on asset disposals and the effect of
the UK Government austerity measures on the wider economy.
Wholesale retains some material single obligor concentrations on
weaker credits, especially from the heritage HBOS real estate and
real estate related portfolios. These portfolios (especially the secondary
and tertiary assets which comprise a large part of the heritage HBOS
corporate real estate and real estate related portfolio) remain vulnerable
to an increase in tenancy defaults and reduced capital values from an
already depressed level, particularly in the regions. However, against our
base case assumptions, we expect our impairment charges in corporate
real estate to be lower than 2010 as a result of a continuing stabilisation
of the existing portfolio and actions taken in 2009 and 2010. Whilst we
therefore remain cautious in respect of the outlook for 2011, we do
expect a modest reduction in the total impairment charge for 2011
as a whole.
TABLE 1.12: IMPAIRMENTS ON WHOLESALE LOANS
AND ADVANCES (audited)
As at 31 December 2010
Corporate Markets:
Corporate
Commercial
Corporate Real
Estate BSU
Impaired
loans as a
% of
closing
advances
%
Impair-
ment
provisions1
£m
Balance
£m
Impaired
loans
£m
81,171
29,148
6,635
2,856
8.2
9.8
3,629
993
Impair-
ment
provisions
as a % of
impaired
loans
%
54.7
34.8
46.2
99.1
Wholesale Equity
140
108
26,151 17,518
67.0
77.1
8,091
107
Wholesale Markets
40,042 5,718
14.3 1,992
34.8
Total Corporate
Markets
176,652 32,835
18.6 14,812
45.1
Treasury and Trading
1,050
–
–
–
Asset Finance
9,949
1,679
16.9
1,043
Total Wholesale
187,651 34,514
18.4 15,855
–
62.1
45.9
Reverse repos
3,096
Impairment provisions (15,855)
Fair value adjustments
(1,665)
Loans and advances
to customers
173,227
Loans and advances
to banks
Debt securities2
Available-for-sale
financial assets3
12,409
25,781
29,458
1
2
3
Impairment provisions include collective unimpaired provisions.
Of which Wholesale Markets is £25,120 million, Wholesale Equity £487 million, Treasury and
Trading £163 million, Asset Finance £7 million, Corporate £2 million and Commercial £2 million.
Of which Wholesale Markets is £21,279 million, Wholesale Equity £2,109 million, Treasury and
Trading £6,011 million and Corporate £59 million.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
85
Lloyds Banking Group
Annual Report
and Accounts 2010
As at 31 December 2009
Corporate Markets:
Corporate
Commercial
Corporate Real
Estate BSU
Impaired
loans as a
% of
closing
advances
%
Impairment
provisions1
£m
Impairment
provisions
as a % of
impaired
loans
%
Balance
£m
Impaired
loans
£m
96,865
9,362
29,223
2,695
9.7
9.2
4,698
956
50.2
35.5
49.9
93.2
Wholesale Equity
505
413
25,509
16,505
64.7
81.8
8,234
385
Wholesale Markets
44,606
4,170
9.3
1,675
40.2
Total Corporate
Markets
196,708
33,145
16.8
15,948
48.1
Treasury and Trading
1,394
–
–
–
Asset Finance
12,832
1,969
15.3
1,231
Total Wholesale
210,934
35,114
16.6
17,179
–
62.5
48.9
Reverse repos
1,108
Impairment provisions
(17,179)
Fair value adjustments
(3,055)
Loans and advances
to customers
Loans and advances
to banks
Debt securities
Available-for-sale
financial assets
191,808
18,862
31,736
36,867
1
Impairment provisions include collective unimpaired provisions.
CORPORATE (unaudited)
The £81,171 million of loans and advances to customers in the Corporate
portfolio is structured across a number of different portfolios and sectors
as discussed below:
UK and US Corporate – Showed resilience during 2010 with the
impairment charge significantly lower than 2009 levels and modest
recoveries as asset prices improved during the first half of the year.
Sentiment among UK corporates during the second half of the year
changed as the scale of the Government austerity measures became
clearer although most effects are not expected to be felt until 2011.
Major corporate balance sheets are relatively strong with adequate
levels of undrawn committed bank facilities available and continued
access to the capital markets. In the Corporate North American portfolio
significant reductions were achieved in the non-core portfolio, mostly in
the first half when secondary markets were fairly buoyant. Impairments
were significantly lower than in 2009 albeit the overall position is
improved by some write backs.
Mid-market Corporate – As anticipated, the slightly more benign
conditions experienced in the first half of 2010 were not sustained
in the second half in the corporate mid-market. Impairments rose
during the second half of the year, albeit to levels still significantly below
those experienced in 2009, with legacy issues in the heritage HBOS
portfolio continuing to be a significant driver of impairments in 2010.
Although a number of exporters have been able to take advantage of
a beneficial exchange rate, the corporate middle market is dominated
by domestically focused businesses and the prospect of public sector
spending cuts, tax increases and continuing high commodity and import
prices is likely to see confidence remain fragile in 2011.
Corporate Real Estate – The focus is to continue to improve and
re-balance the risk profile of the existing portfolio and apply conservative
and prudent lending policies in relation to new business. A significant
percentage concentration of customer lending is in real estate and
real estate related investment lending, especially heritage HBOS
and sustainability of its cashflow in 2010 has been key to the relative
resilience seen in the investment market to date. The portfolio remains
vulnerable to tenant default and asset price falls due to a significant
element of investment lending in the portfolio, a large element of which
is supported by secondary or tertiary assets. Refinancing risk remains an
emerging issue with significant maturities due in the next few years.
Financial Institutions – As part of the Group’s funding, liquidity and
general hedging requirements, Corporate maintains relationships with
many major financial institutions throughout the world. During the
second half of 2010, concerns about sovereign fiscal deficits and public
sector debt levels increased our scrutiny of the European banking
sector, in particular the weaker Eurozone countries. Trading exposures
are in large part collateralised and interbank activity is mainly with high
investment grade counterparties.
COMMERCIAL (unaudited)
The Commercial portfolio’s impairment experience has remained steady
throughout the year, although a slightly higher run rate was observed
in the second half, but overall was materially below that incurred in
2009. Portfolio metrics including delinquencies and assets under close
monitoring, while improving through supportive management actions,
remain above benign levels.
CORPORATE REAL ESTATE BUSINESS SUPPORT UNIT (unaudited)
The Corporate Real Estate Business Support Unit portfolios have
endured a significant level of stress as a consequence of the
unprecedented scale and pace of deterioration in the property sector
since the peak in 2007, coupled with the previous aggressive lending
appetite in the heritage HBOS business. Against significant impairments
taken in 2009, experience in 2010 is materially lower. This reflects
the stabilising economic environment and the prudent provisioning
undertaken on the HBOS corporate real estate and real estate related
portfolio in 2009. The Group continues to remain cautious regarding the
short to medium term prospects for the sector.
The management of the distressed portfolio remains key not only to
mitigating loss for the Group, but also for the Group as a major lender
within the property sector to ensure that the strategies adopted do
not adversely impact on a market that remains fragile. During 2010, a
number of restructurings, good level of asset reduction, and continued
active management led to a fall in impairments compared to the
previous year.
86
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
UNAUDITED INFORMATION
The portfolio comprises £10.7 billion of loans and advances to banks,
£6.0 billion of Available-for-Sale debt securities and £1.1 billion of loans
and advances to customers (excluding reverse repos).
The majority of Treasury and Trading’s funding and risk management
activity is transacted with investment grade counterparties and much
of it is on a secured basis, such as repos. Derivative transactions with
wholesale counterparties are typically collateralised under a Credit
Support Annex in conjunction with the ISDA Master Agreement.
Treasury and Trading has reduced the government bond portfolio in
response to growing concern over market conditions in Europe. The
credit quality of the government bond portfolio is almost solely AAA
rated sovereign debt.
ASSET FINANCE
The credit quality of the retail portfolios continues to be relatively
stable with key risk indicators continuing to show signs of improvement.
Impairments in 2010 were lower than anticipated, particularly in the
second charge secured portfolio and the retail motor loans portfolio.
Asset quality also continues to improve in response to the continuing
strategy to enhance the quality of new business written and following
the closure of new business by the Personal Financial Services business.
The credit quality profile across the non-retail portfolios also continues
to be relatively stable, and impairment levels significantly less than
2009, reflecting a material slow down in new default cases. Exposures
to the Fleet Operator sector, particularly a small number of daily/flexi
rental operators, continue to require intensive management to support
customers through their financial difficulties, but have not affected
impairment levels to the extent seen in 2009.
On the property investment side there have been signs of recovery in
capital values, specifically at the prime end of the commercial market
and in London generally. Since the half year, this recovery has slowed
as investor activity and sentiment cooled. Rental values remain fragile
across most property sectors.
WHOLESALE EQUITY
The Wholesale Equity portfolio (assets representing ‘Equity Risk’
including ordinary equity, preference shares and debt securities) totals
£5.6 billion (split £4.2 billion on balance sheet commitments and
£1.4 billion as yet undrawn, the majority of which relates to the Funds
Investment business). The portfolio comprises the two core businesses,
Lloyds Development Capital and Project Finance with the remaining
businesses (Joint Ventures Equity, BSU Investment portfolios and Fund
Investments) all now categorised as non-core.
In terms of market sentiment, the second half of 2010 saw a gradual
uptick in main share indices (UK, Europe and USA) which, despite
episodic volatility has contributed to a relatively stable valuation position
combined with some indication that there may be a slow recovery in
market activity. While signs are on balance currently positive, we remain
cautious on prospects for value recovery looking into 2011.
WHOLESALE MARKETS
Loans and advances to customers of £40.0 billion largely comprise
balances in the Structured Corporate Finance portfolio, which includes
Acquisition Finance (leveraged lending – £11.6 billion), Project Finance
and asset based finance. The Acquisition Finance portfolio continues
to be significantly affected by the economic environment, with a
relatively high proportion of deals being restructured. The rate of new
problem loans started to abate in the second half of 2009 and this
trend continued during 2010. Refinancing risk is an issue for Acquisition
Finance, with significant loan maturities due in the next few years.
In Ship Finance, global markets, especially the dry bulk and container
sectors, experienced considerable pressure during 2009, leading to
higher impairment levels. The container sector strengthened during
2010, but the Group expects the shipping sector to remain challenging
into 2011.
Wholesale Markets is also responsible for the Treasury Assets portfolio
which mainly encompasses a portfolio of Asset-Backed Securities (ABS)
and financial institution Floating Rate Note positions. Further details of
Wholesale Division’s Asset-Backed Securities is provided in note 18 to
the financial statements on page 183. The size of the Treasury Assets
portfolio has reduced through asset sales and amortisation.
TREASURY AND TRADING
Treasury and Trading acts as the link between the wholesale markets and
the Group’s balance sheet management activities and provides pricing
and risk management solutions to both internal and external clients.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
87
Lloyds Banking Group
Annual Report
and Accounts 2010
WEALTH AND INTERNATIONAL
OVERVIEW (unaudited)
– Increased impairment charges in commercial real estate portfolios in
Ireland and Australia were the primary drivers of a divisional increase
in impairment of 47 per cent in 2010 compared with 2009.
– Impairment charges in Ireland increased significantly in the last quarter
of 2010 reflecting a material deterioration in market conditions that
resulted in EU-IMF financial support in late November 2010.
– As part of the closure of Bank of Scotland (Ireland) Limited, a dedicated
UK based business support unit credit team has been put in place to
manage the wind down of the Irish book.
– Increased impairment charges in Australia are primarily due to real
estate concentrations in specific geographical and industry sectors
where liquidity has significantly contracted in 2010.
TABLE 1.13: WEALTH AND INTERNATIONAL IMPAIRMENT CHARGE
(audited)
Wealth
International:
Ireland
Australia
Wholesale Europe
Other
Total impairment charge
2010
£m
46
2009
£m
71
Change
%
35
4,264
1,362
210
106
5,942
5,988
2,949
849
129
80
4,007
4,078
(45)
(60)
(63)
(33)
(48)
(47)
Wealth and International’s impairment charge increased by £1,910 million
to £5,988 million in 2010 compared with 2009. Impairment charges as a
percentage of average loans and advances to customers increased to
8.90 per cent from 6.04 per cent in 2009.
IMPAIRED LOANS AND PROVISIONS (audited)
Total impaired loans increased by £7,638 million to £20,342 million
compared with £12,704 million at 31 December 2009 and as a
percentage of closing loans and advances to customers increased to
30.7 per cent from 18.3 per cent at 31 December 2009. The level of
impaired loans in the International business is supported by detailed
portfolio reviews conducted during 2010.
In December 2010, responsibility for impaired assets in Ireland was
transferred from the local BSU team to a dedicated UK based BSU credit
team to manage the wind down of the lending book. In Australia, this
activity continues to be managed locally and strengthened through
deployment of additional staff. Responsibility for these areas has
been consolidated within a new central team, which has considerable
experience in work-out strategies and will manage this activity globally
for the Group.
Impairment provisions as a percentage of impaired loans increased
to 52.5 per cent from 39.4 per cent at 31 December 2009. In the
International business the increase in impairment provisions is due
to a higher level of impaired loans and an increased coverage level,
particularly in Ireland.
OUTLOOK – WEALTH AND INTERNATIONAL (unaudited)
Impairment charges in the division are expected to reduce in 2011
compared to the current year charge, although economic conditions
in Ireland continue to be monitored closely. The outlook also remains
cautious for the Group’s Australian exposures, where there continues
to be limited liquidity in regional property markets to which the Group
is exposed.
TABLE 1.14: IMPAIRMENTS ON WEALTH AND INTERNATIONAL
LOANS AND ADVANCES (audited)
As at 31 December 2010
Loans and
advances
£m
Impaired
loans
£m
Impaired
loans as
a % of
closing
advances
%
Impair-
ment
provisions1
£m
Impair-
ment
provisions
as a % of
impaired
loans
%
9,472
353
3.7
116
32.9
Wealth
International:
Ireland
Australia
27,428 14,445
52.7
7,763
14,587
4,187
28.7
2,208
53.7
52.7
41.7
Wholesale Europe
7,322
1,007
13.8
420
Other
7,559
350
4.6
177
50.6
56,896 19,989
35.1 10,568
52.9
Wealth and
International
66,368 20,342
30.7 10,684
52.5
Impairment provisions (10,684)
Fair value adjustments
(327)
55,357
As at 31 December 2009
Loans and
advances
£m
Impaired
loans
£m
Impaired
loans as
a % of
closing
advances
%
Impairment
provisions
as a % of
impaired
loans
%
Impairment
provisions1
£
9,523
281
3.0
100
35.6
Wealth
International:
Ireland
Australia
Wholesale Europe
8,781
Other
7,937
29,104
14,057
9,712
2,030
537
144
59,879
12,423
33.4
14.4
6.1
1.8
20.7
3,601
966
243
93
4,903
37.1
47.6
45.3
64.6
39.5
Wealth and
International
69,402
12,704
18.3
5,003
39.4
Impairment provisions
(5,003)
Fair value adjustments
(851)
63,548
1
Impairment provisions include collective unimpaired provisions.
88
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
WEALTH
Total impaired loans increased by £72 million, or 26 per cent to
£353 million compared with £281 million at 31 December 2009 and as a
percentage of closing loans and advances increased to 3.7 per cent from
3.0 per cent at 31 December 2009. Impairment charges decreased by
£25 million to £46 million compared to £71 million in 2009. This reduction
is primarily due to the mortgage lending business in Spain where there
has been improved credit management of the book during 2010.
IRELAND
Total impaired loans increased by £4,733 million, or 49 per cent to
£14,445 million compared with £9,712 million at 31 December 2009 and
as a percentage of closing loans and advances increased to 52.7 per cent
from 33.4 per cent at 31 December 2009. Impairment charges increased
by £1,315 million to £4,264 million compared to £2,949 million in 2009.
Impairment charges as a percentage of average loans and advances to
customers increased to 15.4 per cent from 9.9 per cent in 2009.
Further deterioration in the Irish economy resulted in increased impaired
loans in 2010 and coverage levels significantly increased in the last
quarter of 2010 reflecting downward revisions in the Group’s Irish
economic assumptions.
TABLE 1.15: IMPAIRMENTS ON IRELAND LOANS AND ADVANCES
As at 31 December 2010
Impaired
WHOLESALE EUROPE
Total impaired loans increased by £470 million, or 88 per cent to
£1,007 million compared with £537 million at 31 December 2009 and as
a percentage of closing loans and advances increased to 13.8 per cent
from 6.1 per cent at 31 December 2009. Impairment charges increased
by £81 million to £210 million compared to £129 million in 2009.
Impairment charges as a percentage of average loans and advances
to customers increased to 2.8 per cent from 2.3 per cent in 2009.
Commercial real estate is the primary driver of the impairment charge
in Wholesale Europe reflecting a small number of specific transactions.
OTHER INTERNATIONAL
Total impaired loans increased by £206 million, or 143 per cent to
£350 million compared with £144 million at 31 December 2009 and as a
percentage of closing loans and advances increased to 4.6 per cent from
1.8 per cent at 31 December 2009. Impairment charges increased by
£26 million to £106 million compared to £80 million in 2009. Impairment
charges as a percentage of average loans and advances to customers
increased to 1.3 per cent from 1.0 per cent in 2009. The most significant
contribution to the impairment charge is from a limited number of
corporate exposures which at the year end comprised 82 per cent of
impaired lending and 92 per cent of the impairment charge in 2010.
Commercial Real Estate
Corporate
Retail
Total
As at 31 December 2009
Commercial Real Estate
Corporate
Retail
Total
Gross loans
£m
loans Provisions
£m
£m
11,685
8,070
7,673
9,232
4,343
870
4,791
2,356
616
27,428 14,445
7,763
Gross loans
£m
Impaired
loans
£m
Provisions
£m
11,738
9,094
8,272
6,114
3,002
596
2,154
1,159
288
29,104
9,712
3,601
The most significant contribution to impairment in Ireland is the commercial
real estate portfolio. Impairment provisions provide 52 per cent coverage
on impaired commercial real estate loans – reflecting peak to trough falls
in commercial property and house prices widening to 60 per cent and
38 per cent respectively. Mortgage lending at the year end comprised
96 per cent of the retail portfolio with impaired loans of £0.8 billion and
impairment coverage of 65 per cent.
Following the closure of the Irish business, the portfolio is in run-off
although current levels of redemptions and recoveries are low due
to a severe lack of liquidity.
AUSTRALIA
Total impaired loans increased by £2,157 million, or 106 per cent to
£4,187 million compared with £2,030 million at 31 December 2009 and
as a percentage of closing loans and advances increased to 28.7 per cent
from 14.4 per cent at 31 December 2009. Impairment charges increased
by £513 million to £1,362 million compared to £849 million in 2009.
Impairment charges as a percentage of average loans and advances
to customers increased to 9.3 per cent from 6.3 per cent in 2009.
MARKET RISK
DEFINITION
The risk of reductions in earnings, value and/or reserves, through
financial or reputational loss, arising from unexpected changes in
financial prices, including interest rates, inflation rates, exchange rates,
credit spreads and prices for bonds, commodities, equities, property
and other instruments. It arises in all areas of the Group’s activities and
is managed by a variety of different techniques.
RISK APPETITE
Market risk appetite is defined with regard to the quantum and
composition of market risk that exists currently in the Group and the
direction in which the Group wishes to manage this.
This statement of the Group’s overall appetite for market risk is reviewed
and approved annually by the Board. With the support of the Group
Asset and Liability Committee, the Group Chief Executive allocates
this risk appetite across the Group. Individual members of the Group
Executive Committee ensure that market risk appetite is further
delegated to an appropriate level within their areas of responsibility.
EXPOSURES
The Group’s banking activities expose it to the risk of adverse
movements in interest rates, credit spreads, exchange rates and equity
prices, with little or no exposure to commodity risk. The volatility of
market values can be affected by both the transparency of prices and
the amount of liquidity in the market for the relevant asset.
Most of the Group’s trading activity is undertaken to meet the
requirements of wholesale and retail customers for foreign exchange
and interest rate products. However, some interest rate, exchange
rate and credit spread positions are taken using derivatives and other
on-balance sheet instruments with the objective of earning a profit from
favourable movements in market rates.
Although the economic performance for Australia has been more robust,
exposure to the New Zealand and non-metropolitan Australian commercial
real estate sectors remains a key influence on impairment performance.
These markets have suffered a significant reduction in liquidity in 2010,
driving increased impaired lending and also constraining recoveries.
Market risk in the Group’s retail portfolios and in the Group’s capital
and funding activities arises from the different repricing characteristics
of the Group’s non-trading assets and liabilities. Interest rate risk arises
predominantly from the mismatch between interest rate insensitive
liabilities and interest rate sensitive assets.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
89
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
– Surplus assets are held primarily in four portfolios: (a) in the long term
Credit spread risk
Risk also arises from the margin of interbank rates over central bank
rates. A further banking risk arises from competitive pressures on
product terms in existing loans and deposits, which sometimes restricts
the Group in its ability to change interest rates applying to customers in
response to changes in interbank and central bank rates.
Foreign currency risk also arises from the Group’s investment in its
overseas operations.
The Group’s insurance activities also expose it to market risk,
encompassing interest rate, exchange rate, property, credit spreads
and equity risk:
– With Profit Funds are managed with the aim of generating rates of
return consistent with policyholders’ expectations and this involves
the mismatch of assets and liabilities.
– Unit-linked liabilities are matched with the same assets that are used
to define the liability but future fee income is dependent upon the
performance of those assets. (This forms part of the Value of in Force
see note 30 to the financial statements on page 194.)
– For other insurance liabilities the aim is to invest in assets such that
the cash flows on investments will match those on the projected future
liabilities. It is not possible to eliminate risk completely as the timing
of insured events is uncertain and bonds are not available at all of the
required maturities. As a result, the cash flows cannot be precisely
matched and so sensitivity tests are used to test the extent
of the mismatch.
funds of Scottish Widows plc, Clerical Medical Investment Group
Limited and their subsidiaries; (b) in the shareholder funds of life
assurance companies; (c) investment portfolios within the general
insurance business and (d) within the main fund of Heidelberger
Lebensversicherung AG.
The Group’s defined benefit staff pension schemes are exposed to
significant risks from the constituent parts of their assets and from the
present value of their liabilities, primarily equity and real interest rate risk.
For further information on pension scheme assets and liabilities please
refer to note 43 to the financial statements on page 208.
MEASUREMENT
The following market risk measures are used for risk reporting and
setting risk appetite limits and triggers:
Value at Risk: for short term liquid positions a 1-day 95 per cent VaR
is used; for structural positions a 1-year 95 per cent VaR is used
Standard Stresses: Interest Rates 25bp; Equities 10 per cent; Credit
Spreads relative 30 per cent widening
Bespoke Extreme Stress Scenarios: e.g. stock market crash
Both VaR and standard stress measures are also used in setting
divisional market risk appetite limits and triggers.
Although an important measure of risk, VaR has limitations as a result
of its use of historical data, assumed distribution, holding periods and
frequency of calculation. In addition, the use of confidence levels does
not convey any information about potential loss when the confidence
level is exceeded. Where VaR models are less well suited to the nature
of positions, the Group recognises these limitations and supplements
its use with a variety of other techniques. These reflect the nature of
the business activity, and include interest rate repricing gaps, open
exchange positions and sensitivity analysis. Stress testing and scenario
analysis are also used in certain portfolios and at group level, to simulate
extreme conditions to supplement these core measures. Trading book
VaR (1-day 99 per cent) is back-tested daily against profit and loss.
Banking – trading assets and other treasury positions
Based on the commonly used 95 per cent confidence level, assuming
positions are held overnight and using observation periods of the
preceding 300 business days, the VaR for the years ended 31 December
2010 and 2009 based on the Group’s global trading positions was as
detailed in table 1.16.
The risk of loss measured by the VaR model is the potential loss in
earnings given the confidence level and assumptions noted above.
The total and average trading VaR does not assume any diversification
benefit across the five risk types, which now includes inflation. The
maximum and minimum VaR reported for each risk category did not
necessarily occur on the same day as the maximum and minimum VaR
reported as a whole. The Group internally uses VaR as the primary
measure for all trading book positions arising from short term market
facing activity.
TABLE 1.16: BANKING – TRADING ASSETS AND OTHER
TREASURY POSITIONS
As at 31 December
2010
Interest rate risk
Foreign exchange risk
Equity risk
Inflation risk
Total VaR
Close
£m
3.9
0.4
–
1.6
0.3
6.2
Average Maximum Minimum
£m
£m
£m
4.4
0.4
–
2.4
0.2
7.4
8.0
0.8
0.2
4.3
0.7
13.0
2.3
0.1
–
1.2
–
4.2
2009
Close
restated
£m
7.1
1.1
–
4.1
0.2
12.5
2009 VaR has been restated to reflect trading risk only. Risk relating to the
funding of the lending business is reported in the Banking-Non-Trading
section of the report.
Banking – non-trading
Market risk in non-trading books consists almost entirely of exposure to
changes in interest rates including the margin between interbank and
central bank rates. This is the potential impact on earnings and value
that could occur when, if rates fall, liabilities cannot be re-priced as
quickly or by as much as assets; or when, if rates rise, assets cannot be
re-priced as quickly or by as much as liabilities.
Risk exposure is monitored monthly using, primarily, market value
sensitivity. This methodology considers all re-pricing mismatches in the
current balance sheet and calculates the change in market value that
would result from a set of defined interest rate shocks. Where re-pricing
maturity is based on assumptions about customer behaviour these
assumptions are also reviewed monthly.
A limit structure exists to ensure that risks stemming from residual and
temporary positions or from changes in assumptions about customer
behaviour remain within the Group’s risk appetite.
The following table shows, split by material currency, Lloyds Banking
Group sensitivities as at 31 December 2010 to an immediate up and
down 25 basis points change to all interest rates.
90
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
TABLE 1.17: BANKING – NON-TRADING
Sterling
US Dollar
Euro
Australian Dollar
Other
2010
2009
Up 25bps
£m
Down
25bps
£m
Up 25bps
£m
(86.9)
88.4
11.1
(11.4)
8.9
(1.2)
(3.0)
(9.0)
1.2
3.1
(71.1)
72.3
66.6
(5.5)
4.4
2.2
(0.2)
67.5
Down
25bps
£m
(66.4)
5.6
(4.4)
(2.3)
0.2
(67.3)
Base case market value is calculated on the basis of the Lloyds Banking
Group current balance sheet with re-pricing dates adjusted according
to behavioural assumptions. The above sensitivities show how this
projected market value would change in response to an immediate
parallel shift to all relevant interest rates – market and administered.
This is a risk based disclosure and the amounts shown would be
amortised in the income statement over the duration of the portfolio.
The measure, however, is simplified in that it assumes all interest rates,
for all currencies and maturities, move at the same time and by the
same amount.
Pension schemes
Management of the assets of the Group’s defined benefit pension
schemes is the responsibility of the Scheme Trustees, who also appoint
the Scheme Actuaries to perform the triennial valuations. The Group
monitors its pensions exposure holistically using a variety of metrics
including accounting and economic deficits and contribution rates.
These and other measures are regularly reviewed by the Pensions
Strategy Committee and used in discussions with the Trustees, through
whom any risk management and mitigation activity must be conducted.
The schemes’ main exposures are to equity risk, real rate risk and credit
spread risk. Accounting for the pension schemes under International
Accounting Standard (IAS)19 spreads any adverse impacts of these risks
over time.
Insurance portfolios
The Group’s market risk exposure in respect of insurance activities
described above is measured using EEV as a proxy for economic value.
The pre-tax sensitivity of EEV to standardised stresses is shown below
for the years ended 31 December 2010 and 2009. Foreign exchange risk
arises predominantly from overseas holdings of equities. Impacts have
only been shown in one direction but can be assumed to be reasonably
symmetrical. Opening and closing numbers only have been provided as
this data is not volatile and consequently is not tracked on a daily basis.
TABLE 1.18: INSURANCE PORTFOLIOS
As at 31 December
Equity risk (impact of 10% fall pre-tax)
Interest rate risk (impact of
25 basis point reduction pre-tax)
Credit spread risk (impact of relative
30% widening)
2010
£m
2009
£m
(367.4)
(383.6)
82.1
64.0
(163.0)
(156.4)
MITIGATION
Various mitigation activities are undertaken across the Group to manage
portfolios and seek to ensure they remain within approved limits.
Banking – non-trading activities
Interest rate risk arising from the different repricing characteristics of
the Group’s non-trading assets and liabilities, and from the mismatch
between interest rate insensitive liabilities and interest rate sensitive
assets, is managed centrally. Matching assets and liabilities are offset
against each other and internal interest rate swaps are also used.
The corporate and retail businesses incur foreign exchange risk in the
course of providing services to their customers. All non-structural foreign
exchange exposures in the non-trading book are transferred to the
trading area where they are monitored and controlled.
Insurance activities
Investment holdings are diversified across markets and, within markets,
across sectors. Holdings are diversified to minimise specific risk and
the relative size of large individual exposures is monitored closely. For
assets held outside unit-linked funds, investments are only permitted in
countries and markets which are sufficiently regulated and liquid.
MONITORING
The Senior Asset and Liability Committee and the group market risk
forum regularly review high level market risk exposure including, but not
limited to, the data described above. They also make recommendations
to the Group Chief Executive concerning overall market risk appetite
and market risk policy. Exposures at lower levels of delegation are
monitored at various intervals according to their volatility, from daily in
the case of trading portfolios to monthly or quarterly in the case of less
volatile portfolios. Levels of exposures compared to approved limits are
monitored locally by independent risk functions and at a high level by
Group Risk. Where appropriate, escalation procedures are in place.
Banking activities
Trading is restricted to a number of specialist centres, the most
important centre being the treasury and trading business in London.
These centres also manage market risk in the wholesale non-trading
portfolios, both in the UK and internationally. The level of exposure
is strictly controlled and monitored within approved limits. Active
management of the wholesale portfolios is necessary to meet customer
requirements and changing market circumstances.
Market risk in the Group’s retail portfolios and in the Group’s capital
and funding activities is managed centrally within limits defined in the
detailed Group policy for interest rate risk in the banking book, which
is reviewed and approved annually.
Insurance activities
Market risk exposures from the insurance businesses are controlled via
approved investment policies and triggers set with reference to the
Group’s overall risk appetite and regularly reviewed by the Senior Asset
and Liability Committee and the Group Market Risk Forums:
– The With Profit Funds are managed in accordance with the relevant
fund’s principles and practices of financial management and legal
requirements.
– The investment strategy for other insurance liabilities is determined
by the term and nature of the underlying liabilities and asset/liability
matching positions are actively monitored. Actuarial tools are used
to project and match the cash flows.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
91
Lloyds Banking Group
Annual Report
and Accounts 2010
– Investment strategy for surplus assets held in excess of liabilities takes
account of the legal, regulatory and internal business requirements for
capital to be held to support the business now and in the future.
Insurance risk is primarily controlled via the following processes:
– Underwriting (the process to ensure that new insurance proposals
are properly assessed)
The Group also agrees strategies for the overall mix of pension assets
with the pension scheme trustees.
– Pricing-to-risk (new insurance proposals are priced to cover the
underlying risks inherent within the products)
INSURANCE RISK (audited)
DEFINITION
The risk of reductions in earnings and/or value, through financial or
reputational loss, due to fluctuations in the timing, frequency and
severity of insured/underwritten events and to fluctuations in the timing
and amount of claim settlements. This includes fluctuations
in profits due to customer behaviour.
RISK APPETITE
Insurance risk appetite is defined with regard to the quantum and
composition of insurance risk that exists currently in the Group and the
direction in which the Group wishes to manage this. It takes account
of the need for each entity in the Group to maintain solvency in excess
of the minimum level required by the entity’s jurisdictional legal or
regulatory requirements.
The Group’s appetite for insurance risk is reviewed and approved
annually by the Board.
EXPOSURES
The major sources of insurance risk within the Group are the insurance
businesses and the Group’s defined benefit staff pension schemes. The
nature of insurance business involves the accepting of insurance risks
which relate primarily to mortality, longevity, morbidity, persistency,
expenses, property damage and unemployment. The prime insurance
risk carried by the Group’s staff pension schemes is related to longevity.
MEASUREMENT
Insurance risks are measured using a variety of techniques including
stress and scenario testing; and, where appropriate, stochastic
modelling.
Current and potential future insurance risk exposures are assessed and
aggregated using risk measures based on 1-in-20 year stresses and other
supporting measures where appropriate, for example those set out in
note 39 to the financial statements on page 206.
MITIGATION
A key element of the control framework is the consideration of insurance
risk by a suitable combination of high level Committees/Boards. For
the life assurance businesses the key control bodies are the Board
of Scottish Widows Group Limited and the Board of HBOS Financial
Services Limited with the more significant risks also being subject to
review by the Group Executive Committee and/or Lloyds Banking Group
Board. For the general insurance businesses the key control bodies
are the Boards of the legal entities including Lloyds TSB General
Insurance Limited, St. Andrew’s Insurance plc and the Irish subsidiaries,
with the more significant risks again being subject to Group Executive
Committee and/or Lloyds Banking Group Board review. All Group staff
pension schemes issues are covered by the Group Asset and Liability
Committee and the Group Business Risk Committee.
The overall insurance risk is mitigated through pooling and through
diversification across large numbers of uncorrelated individuals,
geographical areas, and different types of risk exposure.
– Claims management
– Product design
– Policy wording
– Product management
– The use of reinsurance or other risk mitigation techniques.
In addition, limits are used as a control mechanism for insurance risk
at policy level.
At all times, close attention is paid to the adequacy of reserves, solvency
management and regulatory requirements.
The most significant insurance risks in the life assurance companies are
longevity risk and persistency risk. The merits of longevity risk transfer
and hedging solutions are regularly reviewed. By their nature persistency
risks are difficult to hedge.
General insurance exposure to accumulations of risk and possible
catastrophes is mitigated by reinsurance arrangements which are
broadly spread over different reinsurers. Detailed modelling, including
that of the potential losses under various catastrophe scenarios, supports
the choice of reinsurance arrangements. Appropriate reinsurance
arrangements also apply within the life and pensions businesses with
significant mortality risk and morbidity risk being transferred to our
chosen reinsurers.
Options and guarantees are incorporated in new insurance products only
after careful consideration of the risk management issues that they present.
In respect of insurance risks in the staff pension schemes, the Group
ensures that effective communication mechanisms are in place for
consultation with the trustees to assist with the management of risk in
line with the Group’s risk appetite.
MONITORING
Ongoing monitoring is in place to track the progression of insurance
risks. This normally involves monitoring relevant experiences against
expectations (for example claims experience, option take up rates,
persistency experience, expenses, non-disclosure at the point of sale),
as well as evaluating the effectiveness of controls put in place to manage
insurance risk. Reasons for any significant divergence from experience
are investigated and remedial action is taken.
Insurance risk exposures are reported and monitored regularly by the
Group Executive Committee.
OPERATIONAL RISK (unaudited)
DEFINITION
The risk of reductions in earnings and/or value, through financial
or reputational loss, from inadequate or failed internal processes
and systems, operational inefficiencies, or from people related or
external events.
There are a number of categories of operational risk:
Legal and regulatory
Legal and regulatory risk is the risk of reductions in earnings and/or
value, through financial or reputational loss, from failing to comply with
the laws, regulations or codes applicable.
92
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
UNAUDITED INFORMATION
Customer treatment
The risk of reductions in earnings and/or value, through financial or
reputational loss, from inappropriate or poor customer treatment.
People
The risk of reductions in earnings and/or value, through financial or
reputational loss, from inappropriate colleague actions and behaviour,
industrial action, legal action in relation to people, or health and safety
issues. Loss can also be incurred through failure to recruit, retain, train,
reward and incentivise appropriately skilled staff to achieve business
objectives and through failure to take appropriate action as a result of
staff underperformance.
Supplier management
The risk of reductions in earnings and/or value through financial or
reputational loss from services with outsourced partners or third-party
suppliers.
Customer processes
The risk of reductions in earnings and/or value, through financial
or reputational loss, resulting from poor externally facing business
processes. Customer process risk includes customer transaction and
processing errors due to incorrect capturing of customer information
and/or system failure.
Financial crime
The risk of reductions in earnings and/or value, through financial or
reputational loss, associated with financial crime and failure to comply
with related legal and regulatory obligations, these losses may include
censure, fines or the cost of litigation.
Money laundering and sanctions
The risk of reductions in earnings and/or value, through financial or
reputational loss, associated with failure to comply with prevailing legal
and regulatory obligations on activities related to money laundering,
sanctions and counter terrorism, these losses may include censure, fines
or the cost of litigation.
Security
The risk of reductions in earnings and/or value, through financial or
reputational loss, resulting from theft of or damage to the Group’s
assets, the loss, corruption, misuse or theft of the Group’s information
assets or threats or actual harm to the Group’s people. This also includes
risks relating to terrorist acts, other acts of war, geopolitical, pandemic or
other such events.
IT systems
The risk of reductions in earnings and/or value through financial
or reputational loss resulting from the development, delivery and
maintenance of effective IT solutions.
Change
The risk of reductions in earnings and/or value, through financial
or reputational loss, from change initiatives failing to deliver to
requirements, budget or timescale, failing to implement change
effectively or failing to realise desired benefits.
Organisational infrastructure
The risk of reductions in earnings and/or value, through financial or
reputational loss, resulting from poor internally facing business processes
at group, divisional or business unit level. Organisational infrastructure in
this context embraces the structures, systems and processes that provide
direction, control and accountability for the enterprise.
RISK APPETITE
The Group has developed an impact on earnings approach to
operational risk appetite. This involves looking at how much the Group
could lose due to operational risk losses at various levels of certainty.
In setting operational risk appetite, the Group looks at both impact on
solvency and the Group’s reputation.
The Group encourages and maintains an appropriately balanced
legal and regulatory compliance culture and promotes policies and
procedures to enable businesses and their staff to operate in accordance
with the laws, regulations and voluntary codes which impact on the
Group and its activities.
EXPOSURES
By its very nature, operational risks can arise from a wide range of the
Group’s activities that involve people, processes and systems. The
Group’s principal operational risks relate to the Group’s ability to attract,
retain and motivate its people, the rate and scale of change arising
from the Group’s integration programme, the way in which the Group
treats its customers and the legal and regulatory environment in which
it operates.
The Group continues to face risks relating to its ability to attract, retain,
and develop high calibre talent, as a result of challenges arising from
ongoing regulatory and public interest in remuneration practices,
delivery of the Group’s integration commitments; and uncertainty from
EU state aid requirements and Independent Commission on Banking
proposals on banking reform.
The integration programme continues to be one of the largest
integration exercises undertaken by a financial services firm. The breadth
of the integration programme is such that all parts of the Group are
impacted to a large or small degree, with the greatest impact being
on the Retail bank. Although now over two years into the successful
implementation of the programme, there continue to be delivery risks
as the programme moves into its final phase of execution.
Customer treatment and how the Group manages its customer
relationships affects all aspects of the Group’s operations and is closely
aligned with achievement of the Group’s strategic aim – to create
deep long lasting relationships with its customers. There is currently a
high level of scrutiny regarding the treatment of customers by financial
institutions from the press, politicians and regulatory bodies, which
includes, for example PPI (see note 54 to the financial statements on
page 237 ‘Contingent Liabilities and Commitments’).
Legal and regulatory exposure is driven by the significant volume of
current legislation and regulation within the UK and overseas with which
the Group has to comply, along with new or proposed legislation and
regulation which needs to be reviewed, assessed and embedded into
day-to-day operational and business practices across the Group as a
whole. This is particularly the case in the current market environment,
which is witnessing increased levels of government and regulatory
intervention in the banking sector.
MEASUREMENT
Both Lloyds TSB and HBOS had operational risk Advanced
Measurement Approach Waivers, granted by the FSA, enabling the use
of an internal capital model for calculating regulatory capital. As part of
its integration programme, Lloyds Banking Group is in the process of
moving to The Standardised Approach (TSA) and, in anticipation of this,
calculated regulatory capital for the year ended 31 December 2010 on
the basis of TSA.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
93
Lloyds Banking Group
Annual Report
and Accounts 2010
MITIGATION
The Group’s operational risk management framework consists of the
following key components:
– Identification and categorisation of the key operational risks facing
a business area.
– Risk assessment, including impact assessment of financial and
non-financial impacts (e.g. reputational risk) for each of the key risks
to which the business area is exposed.
– Control assessment, evaluating the effectiveness of the control
framework covering each of the key risks to which the business area
is exposed.
– Loss and incident management, capturing actions to manage any
losses facing a business area.
– The development of Key Risk Indicators for management reporting.
– Oversight and assurance of the risk management framework in
divisions and businesses.
– Scenarios for estimation of potential loss exposures for material risks.
The Group purchases insurance to mitigate certain operational
risk events.
MONITORING
Business unit risk exposure is aggregated at divisional level and
reported to Group Risk where a group-wide report is prepared. The
report is discussed at the monthly Group Operational and Regulatory
Risk Committee. This committee can escalate matters to the Chief Risk
Officer, or higher committees if appropriate.
The insurance programme is monitored and reviewed regularly, with
recommendations being made to the Group’s senior management
annually prior to each renewal. Insurers are monitored on an ongoing
basis, to ensure counterparty risk is minimised. A process is in place to
manage any insurer rating changes or insolvencies.
The Group has adopted a formal approach to operational risk event
escalation. This involves the identification of an event, an assessment of
the materiality of the event in accordance with a risk event impact matrix
and appropriate escalation.
FINANCIAL SOUNDNESS (audited)
Financial soundness risk has three key risk components covering liquidity
and funding risk; capital risk; and financial and prudential regulatory
reporting, disclosure and tax risk.
LIQUIDITY AND FUNDING RISK
DEFINITION (audited)
Liquidity risk is defined as the risk that the Group does not have sufficient
financial resources to meet its commitments when they fall due, or can
secure them only at excessive cost. Funding risk is further defined as the
risk that the Group does not have sufficiently stable and diverse sources
of funding or the funding structure is inefficient.
RISK APPETITE (audited)
Liquidity and funding risk appetite for the banking businesses is set
by the Board and reviewed on an annual basis. This statement of the
Group’s overall appetite for liquidity risk is reviewed and approved
annually by the Board. With the support of the Group Asset and
Liability Committee, the Group Chief Executive allocates this risk
appetite across the Group. It is reported through various metrics
that enable the Group to manage liquidity and funding constraints.
The Group Chief Executive, assisted by the Group Asset and Liability
Committee and its sub-committee the Senior Asset and Liability
Committee, regularly reviews performance against risk appetite.
EXPOSURE (audited)
Liquidity exposure represents the amount of potential outflows in any
future period less committed inflows. Liquidity is considered from both
an internal and regulatory perspective.
MEASUREMENT (audited)
A series of measures are used across the Group to monitor both short
and long term liquidity including: ratios, cash outflow triggers, wholesale
funding maturity profile, early warning indicators and stress test survival
period triggers. The Board approved liquidity risk appetite links a
number of these measures to balance sheet progression set out in the
group funding plan, with regular reporting to the Board. Strict criteria
and limits are in place to ensure highly liquid marketable securities are
available as part of the portfolio of liquid assets.
Details of contractual maturities for assets and liabilities form an
important source of information for the management of liquidity risk.
Note 56(4) to the financial statements on page 263 sets out an analysis
of assets and liabilities by relevant maturity grouping. In order to reflect
more accurately the expected behaviour of the Group’s assets and
liabilities, measurement and modelling of the behavioural aspects
of each is constructed. This forms the foundation of the Group’s
liquidity controls.
MITIGATION (audited)
The Group mitigates the risk of a liquidity mismatch in excess of its risk
appetite by managing the liquidity profile of the balance sheet through
both short-term liquidity management and long-term funding strategy.
Short-term liquidity management is considered from two perspectives;
business as usual and liquidity under stressed conditions, both of which
relate to funding in the less than one year time horizon. Longer term
funding is used to manage the Group’s strategic liquidity profile which
is determined by the Group’s balance sheet structure. Longer term is
defined as having an original maturity of more than one year.
The Group’s funding and liquidity position is underpinned by its
significant customer deposit base, and has been supported by stable
funding from the wholesale markets with a reduced dependence on
short-term funding. A substantial proportion of the retail deposit base
is made up of customers’ current and savings accounts which, although
repayable on demand, have traditionally in aggregate provided a stable
source of funding. Additionally, the Group accesses the short-term
wholesale markets to raise interbank deposits and to issue certificates
of deposit and commercial paper to meet short-term obligations. The
Group’s short-term money market funding is based on a qualitative
analysis of the market’s capacity for the Group’s credit. The Group has
developed strong relationships with certain wholesale market segments,
and also has access to corporate customers to supplement its retail
deposit base.
The ability to deploy assets quickly, either through the repo market or
through outright sale, is also an important source of liquidity for the
Group’s banking businesses. The Group holds sizeable balances of high
grade marketable debt securities as set out in Table 1.21 which can be
sold to provide, or used to secure, additional short term funding should
the need arise from either market counterparties or central bank facilities
(European Central Bank, Federal Reserve, Bank of England and Reserve
Bank of Australia).
94
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
MONITORING (audited)
Liquidity is actively monitored at business unit and Group level.
Routine reporting is in place to senior management and through the
Group’s committee structure, in particular the Group Asset and Liability
Committee and the Senior Asset and Liability Committee which meet
monthly. In a stress situation the level of monitoring and reporting is
increased commensurate with the nature of the stress event. Liquidity
policies and procedures are subject to independent oversight.
LIQUIDITY AND FUNDING MANAGEMENT IN 2010
(unaudited)
During 2010 liquidity and funding remained a key area of focus for the
Group and the industry as a whole. Like all major banks, the Group
is dependent on confidence in the short and longer term wholesale
funding markets; should the Group, due to exceptional circumstances,
be unable to continue to source sustainable funding and liquidity where
necessary, its ability to fund its financial obligations could be affected.
Daily monitoring and control processes are in place to address both
statutory and prudential liquidity requirements. In addition, the
framework has two other important components:
– Firstly, the Group stress tests its potential cash flow mismatch position
under various scenarios on an ongoing basis. The cash flow mismatch
position considers on-balance sheet cash flows, commitments
received and granted, and material derivative cash flows. Specifically,
commitments granted include the pipeline of new business awaiting
completion as well as other standby or revolving credit facilities.
Behavioural adjustments are developed, evaluating how the cash flow
position might change under each stress scenario to derive a stressed
cash flow position. Scenarios cover both Lloyds Banking Group name
specific and systemic difficulties. The scenarios and the assumptions
are reviewed at least annually to gain assurance they continue to be
relevant to the nature of the business.
– Secondly, the Group has a contingency funding plan embedded
within the Group Liquidity Policy which has been designed to identify
emerging liquidity concerns at an early stage, so that mitigating
actions can be taken to avoid a more serious crisis developing.
The Group has invested considerable resource to ensure that it satisfies
the governance, reporting and stress testing requirements of the FSA’s
new ILAS liquidity regime. The Group has noted the industry move
towards strategic balance sheet measures of the funding profile and has
started to monitor and forecast the Group’s Net Stable Funding Ratio
(NSFR) and Liquidity Coverage Ratio (LCR). The Group is aware that the
regulatory liquidity landscape is subject to potential change. Specifically,
in relation to the papers issued by the Basel Committee on Banking
Supervision (‘Strengthening the resilience of the banking sector’ and
‘International framework for liquidity risk measurement, standards and
monitoring’) the Group has actively participated in the industry-wide
consultation and calibration exercises which took place through 2010.
During the year, the individual entities within the Group, and the Group,
complied with all of the externally imposed liquidity and funding
requirements to which they are subject.
The Group is reliant on both wholesale funding markets and the
legacy Government and central bank facilities to support its balance
sheet. The liquidity and funding challenges facing the Group over the
medium term continue to be ensuring sustainable access to wholesale
funding markets, and the repayment of Government and central bank
facilities. The combination of a clear focus on right-sizing the balance
sheet, continued development of the Group’s customer deposit base,
and strategic access to the capital markets will enable the Group
to strengthen its funding base while reducing its overall wholesale
funding requirement.
The key dependencies on successfully funding the Group’s balance
sheet include the continued functioning of the money and capital
markets; successful right-sizing of the Group’s balance sheet; the
repayment of Government and central bank facilities in accordance with
the agreed terms; no more than limited further deterioration in the UK’s
and the Group’s credit rating; and no significant or sudden withdrawal of
deposits resulting in increased reliance on wholesale funding markets.
Additionally, the Group has entered into a number of EU state aid
related obligations to achieve reductions in certain parts of its balance
sheet by the end of 2014. The requirement to meet this deadline may
result in the Group having to provide funding to support these asset
reductions and/or disposals and may also result in a lower price being
achieved.
During 2010, the Group further improved the diversification of funding
supporting its balance sheet. Wholesale funding reduced by £27.5 billion
whilst customer deposits increased by £11.3 billion, resulting in a more
stable liability base. The customer loan to deposit ratio improved to
154 per cent compared with 169 per cent at 31 December 2009.
At 31 December 2010, the Group’s further overall support from legacy
Government and central bank facilities totalled £96.6 billion, a reduction
of £60.6 billion compared with 31 December 2009. These facilities have
various maturity dates, the last of which is in the fourth quarter of 2012.
The Group’s plan to right size the balance sheet is expected to avoid the
necessity to refinance much of this. Repayment of the remaining amount
will be achieved by a combination of customer deposit growth and
term wholesale issuance.
TABLE 1.19: ANALYSIS OF GOVERNMENT AND
CENTRAL BANK FACILITIES (audited)
As at 31 December
Credit Guarantee scheme
Other
Total Government and central bank facilities
2010
£bn
45.4
51.2
96.6
2009
£bn
50.0
107.2
157.2
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
95
Lloyds Banking Group
Annual Report
and Accounts 2010
UNAUDITED INFORMATION
The Group’s wholesale term funding ratio (wholesale funding with
a remaining life of over one year as a percentage of total funding)
at 31 December 2010 has been maintained at 50 per cent.
TABLE 1.20: GROUP FUNDING POSITION (audited)
As at 31 December
2010
£bn
2009
£bn
Change
%
Despite the market disruption as a result of European sovereign risk
concerns during 2010, the Group outperformed its term wholesale
issuance plans, allowing an accelerated repayment of Government
and central bank facilities and thus reducing the on-going reliance on
short term funding. The Group continued to fund itself successfully in the
short term money markets, extending the maturity profile of this source
of funding. The Group anticipates that wholesale markets will remain
vulnerable to periods of disruption during 2011. To mitigate the impact
of such events, the Group has been actively diversifying its funding
sources and investor base.
In June 2010, the FSA introduced a new liquidity framework (Individual
Liquidity Adequacy Standards – ILAS) bringing in enhanced systems and
controls, quantitative requirements, reporting requirements and stress testing.
As part of the ILAS framework, the FSA has issued an Individual Liquidity
Guidance (ILG) to the Group, representing a new regulatory requirement,
which was effective from 1 June 2010. The Group has maintained its liquidity
levels above the ILG regulatory minimum since inception.
Late in 2010, the Basel Committee on Banking Supervision refined the
details of the Basel III reforms to ensure the strengthening of global
liquidity standards. This supplemented the 2008 published Principles of
Sound Liquidity Risk Management and Supervision (‘Sound Principles’).
These principles have been strengthened by the development of two
principal liquidity measures.
The first measure promotes short term resilience of the liquidity profile
by ensuring that banks have sufficient high quality liquid assets to meet
potential funding outflows in a stressed environment within a one month
period. This is measured by the LCR. The second promotes resilience
over a longer time horizon by requiring banks to fund their activities
with a more stable source of funding on a going concern basis. This
is measured by NSFR which has a time horizon of one year and has
been developed to ensure a sustainable maturity structure of assets
and liabilities.
The Group welcomes the Basel Committee’s Sound Principles.
The introduction of the LCR (January 2015) and NSFR (January 2018)
will raise the resilience of banks to potential liquidity shocks and provide
the basis for a harmonised approach to liquidity risk management.
At 31 December 2010, the Group’s internal calculation of the LCR was
71 per cent and the NSFR was 88 per cent; the guidance issued by the
Basel Committee is still subject to final ratification by the EU and the
methodology is likely to be refined on the basis of feedback from banks
and regulators during the observation period. The actions already
announced to right size the balance sheet are expected to ensure
compliance with the future minimum standards, which are expected
to be 100 per cent for both ratios by their respective effective dates.
Funding Requirement
Loans and advances to customers1
589.5
625.9
Loans and advances to banks2
Debt securities
Available-for-sale financial assets
– secondary3
Cash balances4
Funded assets
On balance sheet primary
liquidity assets5
Reverse repurchase agreements
Balances at central banks – primary4
Available-for-sale financial assets
– primary
Held to maturity
Other assets6
Total Group assets
Less: Other liabilities6
Funding requirement
Funded by
Customer deposits7
Wholesale funding
Repurchase agreements
Total equity
Total funding
10.5
25.7
25.7
3.6
16.1
32.7
37.7
2.7
655.0
715.1
7.3
34.5
17.3
7.9
67.0
269.6
5.3
36.3
8.9
–
50.5
261.7
991.6
1,027.3
(229.1)
(223.4)
762.5
803.9
382.5
298.0
35.1
46.9
371.2
325.5
63.1
44.1
762.5
803.9
(6)
(35)
(21)
(32)
33
(8)
38
(5)
94
33
3
(3)
3
(5)
3
(8)
(44)
6
(5)
1
2
3
4
5
6
7
Excludes £3.1 billion (31 December 2009: £1.1 billion) of reverse repurchase agreements.
Excludes £15.6 billion (31 December 2009: £15.1 billion) of loans and advances to banks within
the insurance businesses and £4.2 billion (31 December 2009: £4.2 billion) of reverse repurchase
agreements.
Secondary liquidity assets comprise a diversified pool of highly rated unencumbered collateral
(including retained issuance).
Cash balances and Balances at central banks – primary are combined in the Group’s
balance sheet.
Primary liquidity assets are FSA eligible liquid assets including UK Gilts, US Treasuries, Euro AAA
government debt and unencumbered cash balances held at central banks.
Other assets and other liabilities primarily include balances in the Group’s insurance businesses
and the fair value of derivative assets and liabilities.
Excluding repurchase agreements of £11.1 billion (31 December 2009: £35.5 billion).
96
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
TABLE 1.21: GROUP FUNDING BY TYPE
2010
As at 31 December
£bn
Deposits from banks1
Debt securities in issue:1
Certificates of deposit
Commercial paper
Medium-term notes2
Covered bonds
Securitisation
Subordinated liabilities1
Total wholesale funding3
Customer deposits
Total Group funding4
26.4
42.4
32.5
87.7
32.1
39.0
233.7
37.9
298.0
382.5
680.5
5.7
35.8
5.1
34.3
5.6
43.8
56.2
100.0
239.5
37.4
325.5
371.2
696.7
34.3
5.4
46.7
53.3
100.0
1
2
3
4
A reconciliation to the Group’s balance sheet is provided on page 97.
Medium-term notes include £45.4 billion of funding from the Credit Guarantee scheme.
The Group’s definition of wholesale funding aligns with that used by other international market
participants; including interbank deposits, debt securities in issue and subordinated liabilities.
Excluding repos and total equity.
Total wholesale funding is analysed by residual maturity as follows:
TABLE 1.22: WHOLESALE FUNDING BY RESIDUAL MATURITY
As at 31 December
2010
£bn
2010
%
2009
£bn
Less than one year
One to two years
Two to five years
More than five years
148.6
46.8
52.3
50.3
49.9
15.7
17.6
16.8
161.8
48.8
68.7
46.2
2009
%
49.7
15.0
21.1
14.2
Total wholesale funding
298.0
100.0
325.5
100.0
2010
%
3.9
6.2
4.8
12.9
4.7
2009
£bn
48.6
50.9
35.0
89.7
28.1
2009
%
7.0
7.3
5.0
12.9
4.0
TERM ISSUANCE
The stabilisation of the term wholesale markets observed in the
first quarter of 2010 and the continued functioning of these markets
throughout the year, despite the European Sovereign credit concerns,
enabled the Group to outperform its term issuance plan for 2010.
The Group has taken advantage of the improved market sentiment
by successfully accessing a number of markets, both secured
and unsecured. The table below summarises the Group’s term issuance
during 2010. Exceeding term funding plans in 2010 contributed to the
acceleration in repaying Government and central bank facilities during
the year.
TABLE 1.23: ANALYSIS OF 2010 TERM ISSUANCE
Securitisation
Medium-term notes
Covered bonds
Subordinated
liabilities
Private placements¹
Total Issuance
Sterling
£bn
US Dollar
£bn
Euro
£bn
currencies
£bn
Other
3.5
1.1
–
0.7
4.6
9.9
5.2
3.7
–
2.5
4.6
16.0
2.1
2.7
3.7
1.3
10.6
20.4
0.7
2.2
–
–
0.8
3.7
Total
£bn
11.5
9.7
3.7
4.5
20.6
50.0
1
Private placements include structured bonds and term repurchase agreements (repos).
LIQUIDITY PORTFOLIO
The table below illustrates the Group’s holding of highly liquid
unencumbered assets. This liquidity is available for deployment at
immediate notice, subject to complying with regulatory requirements,
and is a key component of the Group’s liquidity management process.
TABLE 1.24: LIQUIDITY PORTFOLIO
As at 31 December
Primary liquidity1
Secondary liquidity2
Total
2010
£bn
97.5
62.4
2009
£bn
88.4
62.4
159.9
150.8
1
2
Primary liquidity is defined as FSA eligible liquid assets (UK Gilts, US Treasuries, Euro AAA
government debt; unencumbered cash balances held at central banks).
Secondary liquidity comprises a diversified pool of highly rated unencumbered collateral
(including retained issuance).
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
97
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
Following the introduction of the FSA’s Individual Liquidity Guidance
under ILAS, the Group now manages its liquidity position as a coverage
ratio (proportion of stressed outflows covered by primary liquid assets)
rather than by reference to a quantum of liquid assets; the liquidity
position reflects a buffer over the regulatory minimum. The Group
receives no recognition under ILAS for assets held for secondary
liquidity purposes.
The following tables reconcile figures reported on page 96.
TABLE 1.25: RECONCILIATION OF GROUP FUNDING FIGURE FROM
TABLE 1.21 TO THE BALANCE SHEET
As at 31 December 2010
Included in
funding
analysis
(above)
£bn
Deposits from banks
Debt securities in issue
Subordinated liabilities
Total wholesale funding
Customer deposits
Total
As at 31 December 2009
Deposits from banks
Debt securities in issue
Subordinated liabilities
Total wholesale funding
Customer deposits
Total
26.4
233.7
37.9
298.0
382.5
680.5
Included in
funding
analysis
(above)
£bn
48.6
239.5
37.4
325.5
371.2
696.7
Fair value
and other
accounting
methods
£bn
–
(4.8)
(1.7)
Balance
Sheet
£bn
50.4
228.9
36.2
–
393.6
Fair value
and other
accounting
methods
£bn
6.3
(6.0)
(2.7)
Balance
Sheet
£bn
82.5
233.5
34.7
406.7
Repos
£bn
24.0
–
–
24.0
11.1
35.1
Repos
£bn
27.6
–
–
27.6
35.5
63.1
CAPITAL RISK
DEFINITION
Capital risk is defined as the risk of the Group having a sub-optimal
amount or quality of capital or that capital is inefficiently deployed across
the Group.
RISK APPETITE
Capital risk appetite is set by the Board and reported through various
metrics that enable the Group to manage capital constraints and market
expectations. The Group Chief Executive, assisted by the Group Asset
and Liability Committee, regularly reviews performance against risk
appetite. A key metric is the Group’s core tier 1 capital ratio. The Group’s
target for this and other aspects of appetite will be reviewed in 2011 in
the light of further clarity of regulatory and accounting reforms.
EXPOSURE
A capital exposure arises where the Group has insufficient regulatory
capital resources to support its strategic objectives and plans, and to
meet external stakeholder requirements and expectations. The Group’s
capital management approach is focused on maintaining sufficient
capital resources to prevent such exposures whilst optimising value
for shareholders.
MEASUREMENT
The Group’s regulatory capital is divided into tiers depending on
level of subordination and ability to absorb losses. Core tier 1 capital
as defined in the FSA letter to the British Bankers’ Association in May 2009,
comprises mainly shareholders’ equity and non-controlling interests,
after deducting goodwill, other intangible assets and 50 per cent of
the net excess of expected loss over accounting provisions and certain
securitisation positions. Accounting equity is adjusted in accordance
with FSA requirements, particularly in respect of pensions and
Available-for-Sale assets. Tier 1 capital, as defined by the European
Community Banking Consolidation Directive as implemented in the
UK by the FSA’s General Prudential Sourcebook (GENPRU), is core
tier 1 capital plus tier 1 capital securities. Tier 2 capital, defined by
GENPRU, comprises qualifying subordinated debt after deducting
50 per cent of the excess of expected loss over accounting provisions,
and certain securitisation positions. Total capital is the sum of tier 1 and
tier 2 capital after deducting investments in subsidiaries and associates
that are not consolidated for regulatory purposes. In the case of
Lloyds Banking Group, this means that the net assets of its life assurance
and general insurance businesses and the non-financial entities that are
held by our private equity (including venture capital) businesses, are
excluded from its total regulatory capital.
A number of limits are imposed by the FSA on the proportion of the
regulatory capital base that can be made up of subordinated debt and
preferred securities; for example the amount of qualifying tier 2 capital
cannot exceed that of tier 1 capital.
The minimum total capital required under pillar 1 of the Basel II
framework is the Capital Resources Requirement (CRR) calculated as
8 per cent of risk weighted assets.
In order to address the requirements of pillar 2 of the Basel II framework,
the FSA currently sets additional minimum requirements through
the issuance of Individual Capital Guidance (ICG) for each UK bank
calibrated by reference to the CRR. A key input into the FSA’s ICG
setting process is each bank’s Internal Capital Adequacy Assessment
Process. The Group has been given an ICG by the FSA and the Group
maintains a buffer in addition to this requirement. The FSA has made
98
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
it clear that ICG remains a confidential matter between each bank and
the FSA.
In addition to the minimum requirements for total capital, the FSA has
made statements to explain it also operates a framework of targets and
expected buffers for core tier 1 and tier 1.
The Group seeks to ensure that the regulatory minimum requirements
are met at all times and undertakes an extensive series of stress
analyses during the year to determine the adequacy of the Group’s
capital resources against the FSA minimum requirements in severe
economic conditions.
During 2010 the Basel Committee on Banking Supervision has
substantially refined the details of the so called ‘Basel III’ reforms for
an enhanced global capital accord. These include increased minimum
levels of and quality standards for capital, increased risk weighting
of assets, and the introduction of a minimum leverage ratio, as well
as the timing and transitional arrangements for implementation.
The final details are still to be clarified, particularly as the reforms are
implemented within the European and UK regulations, which may
include a countercyclical buffer, requiring higher levels of capital to
be held at certain points of the economic cycle, and higher capital
requirements for systemically important financial institutions.
The effect of the Basel III reforms is uncertain as much will depend on
business performance and mitigating actions that can be completed,
even before the transition period comes in to effect. However lower
risk weighted assets are expected from the planned reduction in the
non-core balance sheet. Analysis suggests that with no mitigating
actions the reforms will reduce the Group’s core tier 1 ratio by
approximately 1.2 per cent in 2013. The additional impact in 2014 of
deducting the equity investment in insurance in excess of 10 per cent,
transitioning in at 20 per cent per annum from 1 January 2014, would be
around 0.3 per cent were the Group to take no further action to mitigate
this. The Group is confident that it is well positioned to maintain a
strong capital position, meeting all regulatory requirements as currently
formulated.
MITIGATION
The Group has developed procedures to ensure that compliance with
both current and potential future requirements are understood and that
policies are aligned to its risk appetite.
The Group is able to accumulate additional capital through profit
retention, by raising equity via, for example, a rights issue or debt
exchange and by raising tier 1 and tier 2 capital by issuing subordinated
liabilities. The cost and availability of additional capital is dependent
upon market conditions and perceptions at the time.
The Group has in issue as part of tier 2 capital resources, enhanced
capital notes which will convert to core tier 1 capital in the event that
Group’s published core tier 1 ratio (as defined by the FSA in May 2009)
falls below 5 per cent.
Additional measures which have been used to manage the Group’s
capital position include seeking to strike an appropriate balance of
capital held within its insurance and banking subsidiaries and through
improving the quality of its capital through liability management
exercises. Regulatory requirements are primarily controlled through
the quality and volume of lending but are also affected through the
modelling approaches used to determine risk weighted assets and
expected losses.
MONITORING
Capital is actively managed and regulatory ratios are a key factor in the
Group’s budgeting and planning processes. Capital raised takes account
of expected growth and currency of risk assets. Capital policies and
procedures are subject to independent oversight. Regular reporting
of actual and projected ratios, including those that would occur under
stressed scenarios, is made to the Senior Asset and Liability Committee,
the Group Asset and Liability Committee and the Board.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
99
Lloyds Banking Group
Annual Report
and Accounts 2010
TABLE 1.26: CAPITAL RESOURCES
As at 31 December
Core tier 1
Ordinary share capital and reserves
Regulatory post-retirement benefit adjustments
Available-for-sale revaluation reserve
Cash flow hedging reserve
Other items
Less deductions from core tier 1
Goodwill and other intangible assets
Other deductions
Core tier 1 capital (audited)
Perpetual non-cumulative preference shares
Preference share capital2
Innovative tier 1 capital instruments
Preferred securities2
Deductions from tier 1
Other deductions
Total tier 1 capital (audited)
Tier 2
Available-for-sale revaluation reserve in respect of equities
Undated subordinated debt
Eligible provisions
Dated subordinated debt
Less: deductions from tier 2
Other deductions
Total tier 2 capital (audited)
Supervisory deductions
Unconsolidated investments – life
Unconsolidated investments – general insurance and other
Total supervisory deductions
Total capital resources (audited)
Risk-weighted assets (unaudited)
Ratios (unaudited)
Core tier 1 ratio
Tier 1 capital ratio
Total capital ratio
1
2
Restated to reflect a prior year adjustment to Available-for-Sale revaluation reserves (see note 1 to the financial statements on page 153).
Covered by grandfathering provisions issued by FSA.
2010
£m
20091
£m
46,879
(1,052)
285
391
306
44,275
434
783
305
231
46,809
46,028
(5,224)
(214)
41,371
(5,779)
(445)
39,804
1,507
2,639
4,338
4,956
(69)
47,147
462
1,968
2,468
23,167
(283)
27,782
(10,042)
(3,070)
(13,112)
61,817
406,372
10.2%
11.6%
15.2%
–
47,399
221
2,575
2,694
20,068
(445)
25,113
(10,015)
(1,551)
(11,566)
60,946
493,307
8.1%
9.6%
12.4%
100
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
TIER 2 CAPITAL
Tier 2 capital has increased principally as a result of new issues of tier 2
debt and favourable foreign exchange rate movements partially offset
by the redemption of undated subordinated debt described above,
amortisation for regulatory purposes of dated subordinated debt and
lower eligible provisions.
SUPERVISORY DEDUCTIONS
Supervisory deductions mainly consist of investments in subsidiary
undertakings that are not within the banking group for regulatory
purposes. These investments are primarily the Scottish Widows and
Clerical Medical life and pensions businesses, together with the
general insurance business. Supervisory deductions relating to these
businesses have benefitted from repatriation of capital during the year.
Also included within deductions for other unconsolidated investments
at 31 December 2010 are investments in non-financial entities that are
held by our private equity (including venture capital) businesses. These
investments were previously risk weighted in accordance with industry
wide guidance provided by the FSA. This guidance has now expired.
TIER 1 CAPITAL
Core tier 1 capital increased by £1,567 million largely reflecting the issue
of ordinary shares in exchange for certain preference shares, preferred
securities and undated subordinated debt issued by the Group. This
has been partially offset by a deduction in respect of post-retirement
benefits reflecting the impact of the curtailment gain, which is not
allowed for capital purposes and a commitment to make increased
deficit contributions to the HBOS final salary pension scheme following
the completion of an actuarial valuation.
Tier 1 capital has decreased by £252 million over the year. The increase
in core tier 1 capital was more than offset by the redemption of the
preference shares and preferred securities as part of the liability
management exercises referred to above.
TABLE 1.27: MOVEMENTS IN CORE TIER 1 AND TIER 1 CAPITAL
DURING THE YEAR
At 31 December 2009
Loss attributable to ordinary shareholders
Issue of ordinary shares
Increase in regulatory post-retirement
benefit adjustments
Redemption of preference shares and
preferred securities
Decrease in goodwill, intangible assets and
other deductions
Other movements
At 31 December 2010
Core tier 1
£m
Tier 1
£m
39,804
47,399
(320)
(320)
2,237
2,237
(1,486)
(1,486)
–
(1,869)
786
350
717
469
41,371 47,147
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
101
Lloyds Banking Group
Annual Report
and Accounts 2010
UNAUDITED INFORMATION
The Group has adopted Foundation IRB as the interim capital calculation
approach for all non-retail exposures in Wholesale and Wealth and
International. The Group has adopted the Lloyds TSB relationship
model and risk appetite and many of its risk management models and
methodologies and as such, believe that converging on Foundation IRB
will facilitate integration work. This change has resulted in a reduction in
risk weighted assets of approximately £23 billion.
TABLE 1.29: ANALYSIS OF CAPITAL RATIOS
As at 31 December
Lloyds TSB Bank
Group
BOS Group
Tier 1
Tier 2
2010
£m
20091
£m
2010
£m
20091
£m
49,375
18,153 21,470
23,988
21,073
7,700 15,002
14,112
Supervisory deductions
(13,112)
(5,182)
(1,672)
(1,062)
Total capital
57,336
20,671 34,800
37,038
RWAs
Ratios
Core tier 1
Tier 1
Total capital
406,372 174,472 250,598 322,866
10.5%
7.0%
12.2% 10.4%
8.3%
8.6%
7.0%
7.4%
14.1% 11.8% 13.9% 11.5%
1
Restated to reflect a prior year adjustment to Available-for-Sale revaluation reserves (see note 1
to the financial statements on page 153).
Capital is managed at Group level and surplus capital is retained,
where possible, at Lloyds Banking Group holding company level as this
provides the Group with maximum flexibility on how to deploy its capital.
Capital ratios for Lloyds TSB Bank Group reflect a change in
shareholding completed during the year whereby HBOS plc and its
subsidiaries are now subsidiaries of Lloyds TSB Bank plc. Capital ratios of
both Lloyds TSB Bank Group and BOS Group have improved during the
year primarily due to reductions in risk weighted assets.
RISK WEIGHTED ASSETS
The following table sets out the Group’s risk weighted assets that
primarily arise in its banking businesses.
TABLE 1.28: ANALYSIS OF RISK WEIGHTED ASSETS
As at 31 December
2010
£m
2009
£m
Divisional analysis of risk weighted assets
Retail
Wholesale
Wealth and International
Group Operations and Central items
Risk type analysis of risk weighted assets
Advanced IRB
Foundation IRB
Retail IRB
Other IRB
Advanced Approach
Standardised Approach
Credit risk
Operational risk
Market and counterparty risk
Total risk weighted assets
109,254 128,592
222,716 285,951
58,714
63,249
15,688
15,515
406,372 493,307
–
92,076
114,490
67,621
105,475 124,503
14,483
22,418
234,448 306,618
124,492 145,486
358,940 452,104
31,650
15,782
25,339
15,864
406,372 493,307
Risk weighted assets decreased by £86,935 million to £406,372 million.
This reflects balance sheet reductions across all banking divisions,
a revised assessment of Retail secured lending risk weighted assets
following improvements in the economic outlook and changes
introduced as a result of continuing the process of integrating the
two heritage organisations’ regulatory capital approaches which have
impacted particularly on Wholesale.
The FSA has issued the Group an integrated waiver direction effective
from 31 December 2010. The principal changes resulting from this are
to move the heritage HBOS non-retail Advanced IRB portfolios to a
Foundation IRB approach. All material retail portfolios across the Group
remain on Retail IRB. In anticipation of moving to The Standardised
Approach (TSA) for measurement of operational risk, the Group has
calculated operational risk weighted assets on the basis of TSA.
102
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
LIFE INSURANCE BUSINESSES
The business transacted by the life insurance companies within the
Group comprises unit-linked business, non profit business and
with-profits business. Several companies transact either unit-linked
and/or non-profit business, but Scottish Widows plc (Scottish Widows)
and Clerical Medical Investment Group Limited (Clerical Medical) hold
the only large With Profit Funds managed by the Group.
BASIS OF DETERMINING REGULATORY CAPITAL OF
THE LIFE INSURANCE BUSINESSES
AVAILABLE CAPITAL RESOURCES
Available capital resources represent the excess of assets over liabilities
calculated in accordance with detailed regulatory rules issued by
the FSA.
Statutory basis. Assets are generally valued on a basis consistent with
that used for accounting purposes (with the exception that, in certain
cases, the value attributed to assets is limited) and which follows a
market value approach where possible. If the market is not active,
the Group establishes a fair value by using valuation techniques.
Liabilities are calculated using a projection of future cash flows after
making prudent assumptions about matters such as investment return,
expenses and mortality. Discount rates used to value the liabilities
are set with reference to the risk adjusted yields on the underlying
assets in accordance with the FSA rules. Other assumptions are based
on recent actual experience, supplemented by industry information
where appropriate. The assessment of liabilities does not include
future bonuses for with-profits policies that are at the discretion of
management, but does include a value for policyholder options likely
to be exercised.
FINANCIAL AND PRUDENTIAL REGULATORY
REPORTING, DISCLOSURE AND TAX RISK
DEFINITION
The risk of reputational damage, loss of investor confidence and/or
financial loss arising from the adoption of inappropriate accounting
policies, ineffective controls over financial, prudential regulatory and tax
reporting, failure to manage the associated risks of changes in taxation
rates, law, ownership or corporate structure and the failure to disclose
accurate information about the Group on a timely basis.
RISK APPETITE
The risk appetite is set by the Board and reviewed on an annual basis.
It includes complying with disclosure requirements within prescribed
timescales and avoiding the need for restatement of published financial,
prudential regulatory and tax reporting or publicly disclosed information.
EXPOSURE
Exposure represents the sufficiency of the Group’s policies and
procedures to maintain adequate books and records to support
statutory, prudential and tax reporting, to prevent and detect financial
reporting fraud and to manage the Group’s tax position.
MITIGATION
The Group maintains a system of internal controls, which is designed
to be consistently applied and to enable the preparation and disclosure
of financial, prudential regulatory and tax reporting in accordance with
applicable International Financial Reporting Standards, statutory and
regulatory requirements. The system of internal control is designed to
ensure that accounting policies are consistently applied, transactions are
recorded and undertaken in accordance with delegated authorities, that
assets are safeguarded and liabilities are properly recorded.
MONITORING
The Group has in place a disclosure committee whose responsibility
is to review all significant disclosures made by the Group and to assist
the Group Chief Executive and Group Finance Director fulfil their
responsibilities under the Listing Rules and regulations emanating from
the US Sarbanes Oxley Act of 2002. A programme of work designed to
support an annual assessment of the effectiveness of internal controls
over financial reporting, in accordance with the requirements of section
404 of the US Sarbanes Oxley Act is undertaken. The Group also has in
place an assurance mechanism over its prudential regulatory reporting;
additionally, monitoring activities are designed to identify and maintain
tax liabilities and to assess the impact of emerging regulation and
legislation on financial, prudential regulatory and tax reporting.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
103
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
REGULATORY CAPITAL REQUIREMENTS
Each life insurance company must retain sufficient capital to meet the
regulatory capital requirements mandated by the FSA; the basis of
calculating the regulatory capital requirement is given below. Except
for Scottish Widows and Clerical Medical, the regulatory capital
requirement is a combination of amounts held in respect of actuarial
reserves, sums at risk and maintenance expenses (the Long-Term
Insurance Capital Requirement) and amounts required to cover various
stress tests (the Resilience Capital Requirement). The regulatory capital
requirement is deducted from the available capital resources to give
‘statutory excess capital’.
For Scottish Widows and Clerical Medical, no Resilience Capital
Requirement is required. However, a further test is required in respect
of the With Profit Funds. This involves comparing the statutory basis of
assessment with a realistic basis of assessment as described below.
‘Realistic’ basis. The FSA requires each life insurance company which
contains a With Profit Fund in excess of £500 million to also carry out
a ‘realistic’ valuation of that fund. The Group has two such funds; one
within Scottish Widows and one within Clerical Medical. The word
‘realistic’ in this context reflects the fact that assumptions are best-
estimate as opposed to prudent. This realistic valuation is an
assessment of the financial position of a With Profit Fund calculated
under a methodology prescribed by the FSA.
The valuation of with-profits assets in a With Profit Fund on a realistic basis
differs from the valuation on a statutory basis as, in respect of non-profits
business written in a With Profit Fund (a relatively small amount of business
in the case of Scottish Widows and Clerical Medical), it includes the
present value of the anticipated future release of the prudent margins for
adverse deviation. In addition, the realistic valuation uses the market value
of assets without the limit affecting the statutory basis noted above.
The realistic valuation of liabilities includes an allowance for future
bonuses. Options and guarantees are valued using a stochastic
simulation model which values these liabilities on a basis consistent
with tradable market option contracts (a ‘market-consistent’ basis). The
model takes account of policyholder behaviour on a best-estimate basis
TABLE 1.30: CAPITAL RESOURCES
and includes an adjustment to reflect future uncertainties where the
exercise of options by policyholders might increase liabilities. Further
details regarding the stochastic simulation model are given in the
section entitled ‘Options and guarantees’ on page 107.
The ‘realistic excess capital’ is calculated as the difference between
realistic assets and realistic liabilities of the With Profit Fund with a
further deduction to cover various stress tests (the Risk Capital Margin).
In circumstances where the ‘realistic excess capital’ position is less than
the ‘statutory excess capital’, the company is required to hold additional
capital to cover the shortfall. Any additional capital requirement under
this test is referred to as the With Profit Insurance Capital Component.
The determination of realistic liabilities of the With Profit Funds includes
the value of internal transfers expected to be made from each With
Profit Fund to the Non Profit Fund held within the same life insurance
entity. These internal transfers may include charges on policies where
the associated costs are borne by the Non Profit Fund. The With Profit
Insurance Capital Component may be reduced by the value, calculated
in the stress test scenario, of these internal transfers, but only to the
extent that credit has not been taken for the value of these charges in
deriving actuarial reserves for the relevant Non Profit Fund.
CAPITAL STATEMENT
The following table provides more detail regarding the capital resources
available to meet regulatory capital requirements in the life insurance
businesses. The figures quoted are based on management’s current
expectations pending completion of the annual financial returns to the
FSA. The figures allow for a transfer of £150 million and an anticipated
transfer of £260 million from the UK non-profit funds to the UK life
shareholder funds. They also allow for a transfer of £115 million from the
UK non-profit funds to the Scottish Widows With Profit Fund relating to
closure under the Scottish Widows’ demutualisation scheme of an account
in respect of unclaimed compensation payments. Within the With Profit
Fund the £115 million transfer is fully offset by an increase in liabilities. An
equal liability is released from the holding company of Scottish Widows
plc leading to a broadly neutral impact on the Group’s net assets.
Scottish Widows
With Profit Fund
£m
Clerical Medical
With Profit Fund
£m
UK Non Profit
Funds
£m
UK Life
Shareholder
Funds
£m
Overseas
Life Business
£m
Total
Life Business
£m
As at 31 December 2010 (statutory basis)
Shareholders’ funds:
Held outside the long-term funds
Held within the long-term funds
Total shareholders’ funds
Adjustments onto a regulatory basis:
Unallocated surplus within insurance business
Value of in-force business
Other differences between IFRS and regulatory
valuation of assets and liabilities
Estimated share of ‘realistic’ liabilities consistent
with the FSA reporting treatment
Qualifying loan capital
Support arrangement assets
Available capital resources
–
–
–
322
–
–
(409)
–
344
257
–
–
–
321
–
–
(58)
–
–
263
–
8,029
8,029
–
(6,172)
1,414
–
1,414
–
–
625
(919)
–
–
(344)
2,138
–
1,991
–
2,486
721
401
1,122
2,135
8,430
10,565
–
(843)
111
–
–
–
390
643
(7,015)
(183)
(467)
1,991
–
5,534
104
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
Scottish Widows
With Profit Fund
£m
Clerical Medical
With Profit Fund
£m
UK Non Profit
Funds
£m
UK Life
Shareholder
Funds
£m
Overseas
Life Business
£m
Total
Life Business
£m
As at 31 December 2009 (statutory basis)
Shareholders’ funds:
Held outside the long-term funds
Held within the long-term funds
Total shareholders’ funds
Adjustments onto a regulatory basis:
Unallocated surplus within insurance business
Value of in-force business
Other differences between IFRS and regulatory
valuation of assets and liabilities
Estimated share of ‘realistic’ liabilities consistent
with the FSA reporting treatment
Qualifying loan capital
Support arrangement assets
Available capital resources
–
–
–
310
–
–
(407)
–
354
257
Available capital resources for With-Profit Funds are presented in the table
on a ‘realistic’ basis as this is more onerous than on a regulatory basis.
FORMAL INTRA-GROUP CAPITAL ARRANGEMENTS
Scottish Widows has a formal arrangement with one of its subsidiary
undertakings, Scottish Widows Unit Funds Limited, whereby the
subsidiary company can draw down capital from Scottish Widows to
finance new business which is reinsured from the parent to its subsidiary.
Scottish Widows has also provided subordinated loans to its fellow
group undertaking Scottish Widows Bank plc. No such arrangement
exists for Clerical Medical.
Constraints over available capital resources
SCOTTISH WIDOWS
Scottish Widows was created following the demutualisation of Scottish
Widows Fund and Life Assurance Society in 2000. The terms of the
demutualisation are governed by a Court-approved Scheme of Transfer
(the ‘Scheme’) which, inter alia, created a With Profit Fund and a
Non-Participating Fund and established protected capital support for
the with-profits policyholders in existence at the date of demutualisation.
Much of that capital support is held in the Non-Participating Fund and,
as such, the capital held in that fund is subject to the constraints noted
below.
Requirement to maintain a Support Account: The Scheme requires
the maintenance of a ‘Support Account’ within the Non-Participating
Fund. The quantum of the Support Account is calculated with reference
to the value of assets backing current with-profits policies which also
existed at the date of demutualisation and must be maintained until
the value of these assets reaches a minimum level. Assets can only be
transferred from the Non-Participating Fund if the value of the remaining
assets in the fund exceeds the value of the Support Account. Scottish
Widows has obtained from the FSA permission to include the value of
the Support Account (or,if greater, the excess of realistic liabilities for
business written before demutualisation over the relevant assets) in
assessing the realistic value of assets available to the With Profit Fund. At
31 December 2010, the estimated value of surplus admissible assets
–
–
–
772
–
–
(40)
–
–
732
–
8,011
8,011
–
(5,513)
1,048
–
1,048
–
–
253
(154)
–
–
(354)
2,397
–
1,165
–
2,059
651
405
1,056
–
(793)
108
–
–
–
371
1,699
8,416
10,115
1,082
(6,306)
207
(447)
1,165
–
5,816
in the Non-Participating Fund was £1,693 million (31 December 2009:
£1,627 million) and the estimated value of the Support Account was
£197 million (31 December 2009: £222 million).
Further Support Account: The Further Support Account is an extra
tier of capital support for the with-profits policies in existence at the
date of demutualisation. The Scheme requires that assets can only be
transferred from the Non-Participating Fund if the economic value of
the remaining assets in the fund exceeds the aggregate of the Support
Account and Further Support Account. Unlike the Support Account
test, the economic value used for this test includes both admissible
assets and the present value of future profits of business written in the
Non-Participating Fund or by any subsidiaries of that fund. The balance
of the Further Support Account is expected to reduce to nil by the year
2030. At 31 December 2010, the estimated net economic value of the
Non-Participating Fund and its subsidiaries for the purposes of this test
was £4,322 million (31 December 2009: £3,823 million) and the estimated
combined value of the Support Account and Further Support Account
was £2,446 million (31 December 2009: £2,495 million).
Other restrictions in the Non-Participating Fund: In addition to the
policies which existed at the date of demutualisation, the With Profit
Fund includes policies which have been written since that date.
As a result of statements made to policyholders that investment
policy will usually be the same for both types of business, there is an
implicit requirement to hold additional regulatory assets in respect
of the business written after demutualisation. The estimated amount
required to provide such support at 31 December 2010 is £147 million
(31 December 2009: £132 million). Scottish Widows has obtained from
the FSA permission to include the value of this support in assessing
the realistic value of assets available to the With Profit Fund. There is
a further test requiring that no amounts can be transferred from the
Non-Participating Fund of Scottish Widows unless there are sufficient
assets within the Long Term Fund to meet both policyholders’
reasonable expectations in light of liabilities in force at a year end and
the new business expected to be written over the following year.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
105
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
CLERICAL MEDICAL
The surplus held in the Clerical Medical With Profit Fund can only
be applied to meet the requirements of the fund itself or distributed
according to the prescribed rules of the fund. Shareholders are entitled
to an amount not exceeding one ninth of the amount distributed
to policyholders in the form of bonuses on traditional with-profits
business. The use of capital within the fund is also subject to the terms
of the scheme of demutualisation effected in 1996 and the conditions
contained in the Principles and Practices of Financial Management of
the fund. Capital within the Clerical Medical Non Profit Fund is available
to meet the With Profit Fund requirements.
OTHER LIFE INSURANCE BUSINESSES
Except as described above capital held in UK Non Profit Funds is
potentially transferable to other parts of the Group, subject to meeting
the regulatory requirements of these businesses. There are no prior
arrangements in place to allow capital to move freely between life
insurance entities or other parts of the Group.
Overseas life business includes several life companies outside the UK,
including Germany and Ireland. In all cases the available capital
resources are subject to local regulatory requirements, and transfer to
other parts of the Group is subject to additional complexity surrounding
the transfer of capital from one country to another.
MOVEMENTS IN REGULATORY CAPITAL
The movements in the Group’s available capital resources in the life business can be analysed as follows:
TABLE 1.31: MOVEMENTS IN AVAILABLE CAPITAL RESOURCES
As at 31 December 2009
Changes in estimations and in
demographic assumptions used to
measure life assurance liabilities
Dividends and capital transactions
Change in support arrangements
New business and other factors
As at 31 December 2010
Scottish Widows
With Profit Fund
£m
Clerical Medical
With Profit Fund
£m
UK Non Profit
Funds
£m
UK Life
Shareholder
Funds
£m
Overseas
Life Business
£m
Total
Life Business
£m
257
732
2,397
2,059
371
5,816
(2)
–
(10)
12
257
2
–
–
(471)
263
(40)
(534)
10
305
11
377
–
39
2,138
2,486
64
(44)
–
(1)
390
35
(201)
–
(116)
5,534
WITH PROFITS FUNDS
Available capital in the Scottish Widows With Profit Fund at
31 December 2010 is unchanged from 31 December 2009 at an
estimated £257 million.
Available capital in the Clerical Medical With Profit Fund has decreased
from £732 million at 31 December 2009 to an estimated £263 million at
31 December 2010. The fund commenced a distribution of the excess
estate from 1 February 2010 by enhancing the level of future expected
benefit payments
UK LIFE SHAREHOLDER FUNDS
Available capital in the UK Life Shareholder Funds has increased from
£2,059 million at 31 December 2009 to an estimated £2,486 million
at 31 December 2010. The receipt of £410 million proposed transfers
from the UK Non Profit Fund and the £176 million impact of a capital
restructuring exercise in the Scottish Widows Group to help mitigate
the potential impacts of Basel III have been partially offset by the
payment of coupons on subordinated debt and a dividend of
£210 million from Scottish Widows plc to its parent company.
UK NON PROFIT FUNDS
Available capital in the UK Non Profit Funds has decreased from
£2,397 million at 31 December 2009 to an estimated £2,138 million at
31 December 2010. Increases in available capital from new business were
offset by changes in assumptions and proposed transfers to the UK Life
Shareholder Funds. A transfer to the Scottish Widows With Profit Fund
also resulted in a decrease of £115 million in available capital.
OVERSEAS LIFE BUSINESS
Available capital has increased over 2010 due to profits emerging on
the in force business partially offset by new business strain.
106
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
Analysis of policyholder liabilities reported in the balance sheet in respect of the group’s life insurance business is as follows. With Profit Fund
liabilities are valued in accordance with FRS 27.
TABLE 1.32: ANALYSIS OF POLICYHOLDER LIABILITIES
As at 31 December 2010
With Profit Fund liabilities
Unit-linked business (excluding that accounted for as
non-participating investment contracts)
Other life insurance business
Insurance and participating investment contract liabilities
13,845
10,394
Non-participating investment contract liabilities
Total policyholder liabilities
–
–
13,845
10,394
Scottish Widows
With Profit Fund
£m
Clerical Medical
With Profit Fund
£m
UK Non Profit
Funds
£m
Overseas
Life Business
£m
Total
Life Business
£m
13,845
10,394
5
–
24,244
–
–
–
–
38,641
8,527
47,173
47,058
94,231
8,011
90
8,101
4,304
12,405
Overseas
Life Business
£m
46,652
8,617
79,513
51,362
130,875
Total
Life business
£m
Scottish Widows
With Profit Fund
£m
Clerical Medical
With Profit Fund
£m
UK Non Profit
Funds
£m
As at 31 December 2009
With Profit Fund liabilities
Unit-linked business (excluding that accounted for as
non-participating investment contracts)
Other life insurance business
Insurance and participating investment contract liabilities
Non-participating investment contract liabilities
Total policyholder liabilities
13,347
10,225
5
–
23,577
–
–
13,347
–
13,347
–
–
10,225
–
10,225
32,816
11,449
44,270
45,328
89,598
6,864
183
7,047
1,020
8,067
39,680
11,632
74,889
46,348
121,237
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
107
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
CAPITAL SENSITIVITIES
OPTIONS AND GUARANTEES
SHAREHOLDERS’ FUNDS
Shareholders’ funds outside the long-term business fund, other than
those used to match regulatory requirements, are mainly invested in
assets that are less sensitive to market conditions.
WITH PROFIT FUNDS
The with-profit realistic liabilities and the available capital for the With-
Profit Funds are sensitive to both market conditions and changes to
a number of non-economic assumptions that affect the valuation of
the liabilities of the fund. The available capital resources (and capital
requirements) are sensitive to the level of the stock market, with
the position worsening at low stock market levels as a result of the
guarantees to policyholders increasing in value. However, the exposure
to guaranteed annuity options increases under rising stock market levels.
An increase in the level of equity volatility implied by the market cost
of equity put options also increases the market consistent value of the
options given to policyholders and worsens the capital position. Various
hedging strategies are used to manage these exposures.
The most critical non-economic assumptions are the level of take-up
of options inherent in the contracts (higher take-up rates are more
onerous), mortality rates (lower mortality rates are generally more
onerous) and lapses prior to dates at which a guarantee would apply
(lower lapse rates are generally more onerous where guarantees
are in the money). The sensitivity of the capital position and capital
requirements of the With Profit Funds is partly mitigated by the actions
that can be taken by management.
OTHER LONG-TERM FUNDS
Outside the With Profit Funds, assets backing actuarial reserves
in respect of policyholder liabilities are invested so that the values
of the assets and liabilities are broadly matched. The most critical
non-economic assumptions are mortality rates in respect of annuity
business written (lower mortality rates are more onerous). Reinsurance
arrangements are in place to reduce the Group’s exposure to
deteriorating mortality rates in respect of life insurance contracts. In
addition, poor cost control would gradually reduce the available capital
and lead to an increase in the valuation of the liabilities (through an
increased allowance for future costs).
Assets held in excess of those backing reserves are invested
predominantly in cash and cash like instruments. The investment
strategy is determined in line with the policy of Lloyds Banking Group
to minimise both the profit volatility and the working capital (defined as
available capital less minimum required capital) required to ensure all
capital requirements continue to be met under a range of stress tests.
The Group has sold insurance products that contain options and
guarantees, both within the With Profit Funds and in other funds.
OPTIONS AND GUARANTEES WITHIN THE
WITH PROFIT FUNDS
The most significant options and guarantees provided from within the
With Profit Funds are in respect of guaranteed minimum cash benefits
on death, maturity, retirement or certain policy anniversaries, and
guaranteed annuity options on retirement for certain pension policies.
For those policies written in Scottish Widows pre-demutualisation
containing potentially valuable options and guarantees, under the terms
of the Scheme a separate memorandum account was set up within
the With Profit Fund of Scottish Widows called the Additional Account
which is available, inter alia, to meet any additional costs of providing
guaranteed benefits in respect of those policies. The Additional Account
had a value at 31 December 2010 of £1.8 billion (2009: £1.6 billion). The
eventual cost of providing benefits on policies written both pre and
post demutualisation is dependent upon a large number of variables,
including future interest rates and equity values, demographic factors,
such as mortality, and the proportion of policyholders who seek to
exercise their options. The ultimate cost will therefore not be known for
many years.
As noted above, under the realistic capital regime of the FSA, the
liabilities of both the Clerical Medical and Scottish Widows With Profit
Funds are valued using a market-consistent stochastic simulation
model. This model is used in order to place a value on the options and
guarantees which captures both their intrinsic value and their time value.
The most significant economic assumptions included in the model are:
– Risk-free yield. The risk-free yield is defined as spot yields derived from
the UK gilt yield curve.
– Investment volatility. The calibration of the stochastic simulation
model uses implied volatilities of derivatives where possible, or
historical observed volatility where it is not possible to observe
meaningful prices. For example, as at 31 December 2010, the 10 year
equity-implied at-the-money assumption was set at 26.1 per cent
(31 December 2009: 26.6 per cent). The assumption for property
volatility was 15 per cent (31 December 2009: 15 per cent). The
volatility of interest rates has been calibrated to the implied volatility
of swaptions which was broadly 15 per cent (31 December 2009:
15 per cent).
The model includes a matrix of the correlations between each of the
underlying modelled asset types. The correlations used are consistent
with long-term historical returns. The most significant non-economic
assumptions included in the model are management actions (in respect
of investment policy and bonus rates), guaranteed annuity option
take-up rates and assumptions regarding persistency (both of which are
based on recent actual experience and include an adjustment to reflect
future uncertainties where the exercise of options by policyholders might
increase liabilities), and assumptions regarding mortality (which are
based on recent actual experience and industry tables).
108
Lloyds Banking Group
Annual Report
and Accounts 2010
RISK MANAGEMENT
AUDITED INFORMATION
OPTIONS AND GUARANTEES OUTSIDE THE
WITH PROFIT FUNDS
A number of typical guarantees are provided outside the With Profit
Funds such as guaranteed payments on death (e.g. Term assurance) or
guaranteed income for life (e.g. annuities). In addition, certain personal
pension policyholders in Scottish Widows, for whom reinstatement to
their occupational pension scheme was not an option, have been given
a guarantee that their pension and other benefits will correspond in
value to the benefits of the relevant occupational pension scheme. The
key assumptions affecting the ultimate value of the guarantee are future
salary growth, gilt yields at retirement, annuitant mortality at retirement,
marital status at retirement and future investment returns. There is
currently a provision, calculated on a deterministic basis, of £57 million
(31 December 2009: £64 million) in respect of those guarantees. If future
salary growth were 0.5 per cent per annum greater than assumed, the
liability would increase by some £3 million. If yields were 0.5 per cent
lower than assumed, the liability would increase by some £10 million.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
109
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
GOVERNANCE
Board of Directors
Directors’ report
Corporate governance report
Directors’ remuneration report
110
112
114
124
110
Lloyds Banking Group
Annual Report
and Accounts 2010
BOARD OF DIRECTORS
NON-EXECUTIVE DIRECTORS
Sir Winfried Bischoff
Chairman
NG Re
Ri
Lord Leitch
Deputy Chairman
Independent Director
A NG Re
Anita M Frew
Independent Director
A
Ri
Joined the Board and was appointed Chairman in September
2009. Previously Chairman of Citigroup Inc. from December
2007 to February 2009. He joined J Henry Schroder & Co in
January 1966 and became Managing Director of Schroders Asia
in 1971, Group Chief Executive of Schroders in 1984 and
Chairman in 1995. Following the acquisition of Schroders’
investment banking business by Citigroup in 2000, became
Chairman of Citigroup Europe before being appointed acting
Chief Executive Officer of Citigroup in 2007 and subsequently
as Chairman in the same year. A Non-Executive Director of Eli Lilly
and Company, and The McGraw Hill Companies Inc. in the
United States. He is a member of the National Advisory Board of
UK Career Academy Foundation (Chairman until October 2010)
and a member of the Akbank International Advisory Board.
Chairman of the Advisory Council of TheCityUK. Aged 69.
Joined the Board in 2005 and was appointed Deputy Chairman
in May 2009. Appointed Chairman of Scottish Widows in 2007.
Held a number of senior and general management
appointments in Allied Dunbar, Eagle Star and Threadneedle
Asset Management before the merger of Zurich Group and
British American Tobacco’s financial services businesses in
1998. Subsequently served as Chairman and Chief Executive
Officer of Zurich Financial Services United Kingdom, Ireland,
Southern Africa and Asia Pacific, until his retirement in 2004.
Chairman of the Government’s Review of Skills (published in
December 2006) and Deputy Chairman of the Commonwealth
Education Fund. Chairman of BUPA and Intrinsic Financial
Services. Chancellor of Carnegie College. Former Chairman of
the National Employment Panel and of the ABI. Aged 63.
Joined the Board on 1 December 2010. Chairman of Victrex,
the FTSE 250 global manufacturer of high performance
polymers, having previously been the Senior Independent
Director. Since 2000, she has held a portfolio of Non-Executive
Directorships, currently holding positions as Senior
Non-Executive Director of Aberdeen Asset Management and
as Non-Executive Director of IMI and Northumbrian Water.
Prior to this she was Executive Director of Abbott Mead
Vickers, Director of Corporate Development at WPP Group,
and has held various investment and marketing roles at
Scottish Provident and the Royal Bank of Scotland. Aged 53.
Sir Julian Horn-Smith
Independent Director
NG Re
Ri
Glen R Moreno
Senior Independent Director
NG
David L Roberts
Independent Director
A NG Ri
Re
Joined the Board in 2005. Held a number of senior and general
management appointments in Vodafone from 1984 to 2006
including a directorship of that company from 1996, Group
Chief Operating Officer from 2001 and Deputy Chief Executive
Officer from 2005. Previously held positions in Philips from 1978
to 1982 and Mars GB from 1982 to 1984. A Non-Executive
Director of De La Rue, Digicel Group and Emobile (Japan), a
Director of Sky Malta, a member of the Altimo International
Advisory Board and a senior adviser to UBS and CVC Capital
Partners in relation to the global telecommunications sector.
Deputy Chairman of Vallar plc. Pro Vice-Chancellor of University
of Bath. A former Chairman of The Sage Group. Aged 62.
Joined the Board on 1 March 2010. Chairman of Pearson, the
media group, since October 2005. A Director of Fidelity
International, one of the world’s largest fund management
companies, and Chairman of its Audit Committee. Deputy
Chairman of The Financial Reporting Council. From 1987 to
1991 was Chief Executive of Fidelity International. Until mid
2009, was a Non-Executive Director and Senior Independent
Director of Man Group, the FTSE 100 financial services group,
and acting Chairman of UKFI. Former Group Executive of
Citigroup from 1969 to 1987 and he held a number of senior
positions at the bank in Europe and Asia. Aged 67.
Joined the Board on 1 March 2010. Executive Director, member
of the Group Executive Committee and Chief Executive,
International Retail and Commercial Banking at Barclays until
December 2006. Joined Barclays in 1983 and held various
senior management positions, including Chief Executive,
Personal Financial Services and Chief Executive, Business
Banking. Was also a Non-Executive Director of BAA until
June 2006 and a Non-Executive Director of Absa Group
Limited, one of South Africa’s largest financial services groups,
until October 2006. From 2007 to 2009 he was also the
Chairman and Chief Executive of BAWAG P.S.K. AG, the
second largest retail bank in Austria. Non-Executive Chairman
of The Mind Gym. Aged 48.
T Timothy Ryan, Jr
Independent Director
A
Re
Ri
Martin A Scicluna
Independent Director
A NG Ri
Anthony Watson CBE
Independent Director
A NG Re
Joined the Board in March 2009. President and Chief Executive
of the Securities Industry and Financial Markets Association.
Held a number of senior appointments in JP Morgan Chase
from 1993 to 2008 including Vice Chairman, financial
institutions and governments, from 2005. A Director of the
US-Japan Foundation, Great-West Life Annuity Insurance Co.
and Putnam Investments and a member of the Global Markets
Advisory Committee for the National Intelligence Council.
A former Director in the Office of Thrift Supervison,
US Department of the Treasury and Koram Bank and the
International Foundation of Election Systems. Aged 65.
Joined the Board in 2008. Chairman of Deloitte UK from
1995 to 2007 and a member of the Board from 1991 to 2007.
Joined the firm in 1973 and was a partner from 1982 until he
retired in 2008. A member of the Board of directors of
Deloitte Touche Tohmatsu from 1999 to 2007. Chairman of
Great Portland Estates. A member of the council of Leeds
University and a Governor of Berkhamsted School. Aged 60.
Joined the Board in April 2009. Previously Chief Executive of
Hermes Pensions Management. Held a number of senior
appointments in AMP Asset Management from 1991 to 1998.
A Non-Executive Director of Hammerson, Vodafone and Witan
Investment Trust, a member of the Norges Bank Investment
Management Advisory Board and Chairman of Marks and
Spencer Pension Trust and Lincoln’s Inn Investment
Committee. A former Chairman of MEPC, the Asian
Infrastructure Fund and of the Strategic Investment Board
(Northern Ireland) and a former member of the Financial
Reporting Council. Aged 65.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
111
Lloyds Banking Group
Annual Report
and Accounts 2010
EXECUTIVE DIRECTORS
J Eric Daniels
Group Chief Executive
(Until 28 February 2011)
António Horta-Osório
Group Chief Executive
(From 1 March 2011)
Archie G Kane
Group Executive Director, Insurance
(Board Representative for Scotland)
Joined the Board in 2001 as Group Executive Director, UK retail
banking before his appointment as Group Chief Executive in
June 2003. Served with Citibank from 1975 and held a number
of senior and general management appointments in the USA,
South America and Europe before becoming Chief Operating
Officer of Citibank Consumer Bank in 1998. Following the
Citibank/Travelers merger in 1998, he was Chairman and
Chief Executive Officer of Travelers Life and Annuity until 2000.
A Non-Executive Director of BT Group. Aged 59.
Joined the Board on 17 January 2011 as an Executive
Director and will become Group Chief Executive on 1 March
2011. Started his career at Citibank Portugal where he was
head of capital markets. At the same time, was an assistant
professor at Universidade Catolica Portuguesa. Then worked
for Goldman Sachs in New York and London. In 1993, joined
Grupo Santander as Chief Executive of Banco Santander de
Negocios Portugal and then became Chief Executive Officer
of Banco Santander Brazil. In 2000, became Chief Executive
Officer of Santander Totta, and Chairman from 2006 until 2011,
as well as Executive Vice President of Grupo Santander and a
member of its Management Committee. He joined Santander
UK, as a Non-Executive Director in November 2004 and from
August 2006 until November 2010, was its Chief Executive.
He is also a Non-Executive Director of the Court of the Bank
of England until 28 February 2011. Aged 47.
Joined the Group in 1986 and held a number of senior and
general management appointments before being appointed
to the Board in 2000, as Group Executive Director, IT and
Operations. Appointed Group Executive Director, Insurance
and Investments in October 2003. After some 10 years in the
accountancy profession, joined General Telephone &
Electronics Corporation in 1980, serving as Finance Director in
the UK from 1983 to 1985. ABI Board member (and former
ABI Chairman, 2007-10). Member of TheCityUK Advisory Council
and Scottish Government’s Financial Services Advisory Board.
Aged 58.
G Truett Tate
Group Executive Director, Wholesale
Tim J W Tookey
Group Finance Director
Helen A Weir CBE
Group Executive Director, Retail
Joined the Group in 2003 as Managing Director, Corporate
Banking before being appointed to the Board in 2004. Served
with Citigroup from 1972 to 1999, where he held a number of
senior and general management appointments in the USA,
South America, Asia and Europe. He was President and
Chief Executive Officer of eCharge Corporation from 1999 to
2001 and co-founder and Vice Chairman of the Board of Chase
Cost Management Inc from 1996 to 2003. A Non-Executive
Director of BritishAmerican Business Inc and AFME. Chairman
of Arora Holdings and a Director of Business in the Community
and a Director and Trustee of In Kind Direct. Aged 60.
Joined the Group in 2006 as Deputy Group Finance Director,
before being appointed acting Group Finance Director in
April 2008. Appointed to the Board in October 2008 as Group
Finance Director. Previously Finance Director for the UK and
Europe at Prudential from 2002 to 2006 and Group Finance
Director of Heath Lambert Group from 1996 to 2002. Prior to
that, he spent 11 years at KPMG. A member of the British
Bankers’ Association and Chairman of its Audit Committee and
Remuneration Committee. Fellow of the Institute of Chartered
Accountants in England and Wales. Aged 48.
Joined the Board in 2004 as Group Finance Director.
Appointed as Group Executive Director, UK Retail Banking in
April 2008. Group Finance Director of Kingfisher from 2000 to
2004. Previously Finance Director of B&Q, having joined that
company in 1995, from McKinsey & Co where she was a senior
manager. Began her career at Unilever. Member of the
Financial Services Practitioner Panel and the Said Business
School Advisory Council. Chair of the British Bankers’
Association Retail Committee. A former member of the
Accounting Standards Board. Fellow of the Chartered Institute
of Management Accountants. Aged 48.
Harry F Baines
Company Secretary
COMMITTEE ROLES AND RESPONSIBILITIES
A
NG
Re
Ri
Audit
Committee
To monitor and review the
formal arrangements
established by the Board in
respect of the financial
statements and reporting of
the Group; internal controls
and the Risk Management
Framework; internal audit;
and the Group’s relationship
with its external auditors.
Chairman of Committee
Nomination &
Governance Committee
To keep the Board’s
governance arrangements
under review and make
appropriate
recommendations to the
Board to ensure that the
Company’s arrangements are
consistent with best practice
corporate governance
standards.
Remuneration
Committee
To set the principles and
parameters of remuneration
policy for the Group, and to
oversee remuneration policy
and outcomes for those
colleagues covered by the
scope of the Committee.
Risk
Committee
To review and report its
conclusions to the Board on
the Group’s risk appetite and
Risk Management Framework.
The Committee has a forward
looking perspective,
anticipating changes in
business conditions.
112
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REPORT
RESULTS
The consolidated income statement shows a loss attributable to equity shareholders for the year ended 31 December 2010 of £320 million.
PRINCIPAL ACTIVITIES, BUSINESS REVIEW, FUTURE DEVELOPMENTS AND FINANCIAL RISK MANAGEMENT
OBJECTIVES AND POLICIES
The Company is a holding company and its subsidiary undertakings provide a wide range of banking and financial services through branches and
offices in the UK and overseas. A review of the development and performance of the business during the financial year and an indication of the
likely future developments are given on pages 3 to 108. Key performance indicators are shown on page 5. Information regarding the financial risk
management objectives and internal control policies of the Company and its subsidiary undertakings in relation to the preparation of consolidated
financial statements is given within the risk management report and corporate governance report respectively. Details of the Company’s principal
risks and uncertainties are set out on pages 70 to 108. The financial risk management objectives and internal control policies in relation to the use
of financial instruments is given on pages 65 to 108 and in notes 55 and 56 on pages 240 to 265.
POST BALANCE SHEET EVENTS
Details are given in note 59 on page 270.
DIRECTORS
Biographical details of directors are shown on pages 110 and 111. Particulars of their emoluments and interests in shares in the Company are given
on pages 124 to 141. Changes to the composition of the Board since 1 January 2010 are shown below:
Dr W C G Berndt retired from the Board on 6 May 2010. Mr G R Moreno and Mr D L Roberts joined the Board on 1 March 2010 and Ms A M Frew
joined the Board on 1 December 2010. Mr A Horta-Osório joined the Board on 17 January 2011. Mr J E Daniels will retire from the Board on
28 February 2011 and will be succeeded as Group Chief Executive by Mr A Horta-Osório on 1 March 2011.
Ms A M Frew and Mr A Horta-Osório were appointed to the Board after the annual general meeting held in 2010 and will therefore stand for election
at the forthcoming annual general meeting. Under the articles of association, Sir Julian Horn-Smith and Mr G T Tate are required to retire from the
Board at the annual general meeting. However, in the interests of good corporate governance and in accordance with the provisions of the UK
Corporate Governance Code, effective from 2012, the Board has decided that all of the directors will retire voluntarily and submit themselves for
re-election at the annual general meeting.
DIRECTORS’ CONFLICTS OF INTEREST
The Board, as permitted by the Company’s articles of association, has authorised all potential conflicts of interest declared by individual directors.
Decisions regarding these conflicts of interest could only be taken by directors who had no interest in the matter. In taking the decision, the directors
acted in a way they considered, in good faith, would be most likely to promote the Company’s success. The directors had the ability to impose
conditions, if thought appropriate, when granting authorisation. Any authorities given will be reviewed at least every 15 months. No director is
permitted to vote on any resolution or matter where he or she has an actual or potential conflict of interest. The Board confirms that it did not
authorise any material conflicts during the year.
DIRECTORS’ INDEMNITIES
The directors, including the former director who retired during the year, have entered into individual deeds of indemnity with the Company which
constituted ‘qualifying third party indemnity provisions’ and ‘qualifying pension scheme indemnity provisions’ for the purposes of the Companies
Act 2006. These deeds were in force during the whole of the financial year or from the date of appointment in respect of the directors who joined the
Board in 2010 and 2011. The indemnities remain in force for the duration of a director’s period of office. Deeds for existing directors are available for
inspection at the Company’s registered office.
CORPORATE GOVERNANCE REPORT
The corporate governance report can be found on pages 114 to 123 and forms part of this directors’ report.
SHARE CAPITAL
Information about share capital is shown in note 47 on pages 222 to 224.
CHANGE OF CONTROL
The Company is party to significant contracts that are subject to change of control provisions in the event of a takeover bid.
In addition, the Company is party to a deed of covenant with each of the four Lloyds TSB Foundations (the ‘Foundations’) which hold limited voting
shares in the Company (the limited voting shares are further described in note 47 on page 224). Under the terms of the deeds of covenant, the
Company makes an annual payment to each of the Foundations. In the event of a successful offer for more than 50 per cent of the issued ordinary
share capital of the Company, each limited voting share would convert to an ordinary share under the terms of the Company’s articles of association.
The payment obligation under the deeds of covenant would come to an end one year following the conversion of the limited voting shares.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
113
Lloyds Banking Group
Annual Report
and Accounts 2010
GOING CONCERN
The going concern of the Company and the Group is dependent on successfully funding their respective balance sheets and maintaining adequate
levels of capital. In order to satisfy themselves that the Company and the Group have adequate resources to continue to operate for the foreseeable
future, the directors have considered a number of key dependencies which are set out in the risk management section under Principal Risks: Liquidity
and Funding on page 72 and Financial Soundness on pages 93 to 102 and additionally have considered projections for the Group’s capital and
funding position. Having considered these, the directors consider that it is appropriate to continue to adopt the going concern basis in preparing
the accounts.
EMPLOYEES
Lloyds Banking Group is committed to providing employment practices and policies which recognise the diversity of our workforce and ensure
equality for employees regardless of sex, race, disability, age, sexual orientation or religious belief.
In the UK, Lloyds Banking Group belongs to the major employer groups campaigning for equality for the above groups of staff, including Employers’
Forum on Disability, Employers’ Forum on Age, Stonewall and the Race for Opportunity. Our involvement with these organisations enables us to
identify and implement best practice for our staff.
Employees are kept closely involved in major changes affecting them through such measures as team meetings, briefings, internal communications
and opinion surveys. There are well established procedures, including regular meetings with recognised unions, to ensure that the views of
employees are taken into account in reaching decisions.
Schemes offering share options or the acquisition of shares are available for most staff, to encourage their financial involvement in
Lloyds Banking Group.
Lloyds Banking Group is committed to providing employees with comprehensive coverage of the economic and financial issues affecting the Group.
We have established a full suite of communication channels, including an extensive face-to-face briefing programme which allows us to update our
employees on our performance and any financial issues throughout the year.
DONATIONS
The income statement includes a charge for charitable donations totalling £30,750,000 in 2010 (2009: £33,477,000), including £28,228,000
(2009: £28,228,000) which will be paid under the deeds of covenant to the four Lloyds TSB Foundations during 2011.
POLICY AND PRACTICE ON PAYMENT OF CREDITORS
The Company has signed up to the ‘Prompt Payment Code’ published by the Department for Business Innovation and Skills (BIS), regarding the
making of payments to suppliers. Information about the ‘Prompt Payment Code’ may be obtained by visiting www.promptpaymentcode.org.uk.
The Company’s policy is to agree terms of payment with suppliers and these normally provide for settlement within 30 days after the date of the
invoice, except where other arrangements have been negotiated. It is the policy of the Company to abide by the agreed terms of payment, provided
the supplier performs according to the terms of the contract.
The number of days required to be shown in this report, to comply with the provisions of the Companies Act 2006, is 44. This bears the same
proportion to the number of days in the year as the aggregate of the amounts owed to trade creditors at 31 December 2010 bears to the aggregate
of the amounts invoiced by suppliers during the year.
DIRECTORS’ RESPONSIBILITY STATEMENT
Each of the directors, whose names and functions are listed on pages 110 and 111 of this annual report, confirm that, to the best of his or her knowledge:
– the Group financial statements, which have been prepared in accordance with IFRSs as adopted by the EU, give a true and fair view of the assets,
liabilities, financial position and profit or loss of the Company and Group; and
– the management report contained in the Business Review includes a fair review of the development and performance of the business and the
position of the Company and Group, together with a description of the principal risks and uncertainties that they face.
AUDITORS AND AUDIT INFORMATION
Each person who is a director at the date of approval of this report confirms that, so far as the director is aware, there is no relevant audit information
of which the Company’s auditors are unaware and each director has taken all the steps that he or she ought to have taken as a director to make
himself or herself aware of any relevant audit information and to establish that the Company’s auditors are aware of that information. This
confirmation is given and should be interpreted in accordance with the provisions of the Companies Act 2006.
Resolutions concerning the re-appointment of PricewaterhouseCoopers LLP as auditors and authorising the Audit Committee to set their
remuneration will be proposed at the annual general meeting.
On behalf of the Board
Harry F Baines
Company Secretary
24 February 2011
Company number 95000
114
Lloyds Banking Group
Annual Report
and Accounts 2010
CORPORATE GOVERNANCE REPORT
A PERSONAL STATEMENT FROM SIR WINFRIED BISCHOFF
Rebuilding trust in financial institutions generally is central also to achieving our aim of being recognised as the UK’s best bank. We are judged
on how we do business, and how we respond to our stakeholders’ issues and needs. In particular, we are judged on the effectiveness of our
decision making.
We understand the reliance that investors, customers and other stakeholders place on our corporate governance arrangements and the need to
ensure the integrity of those processes. At the same time, I am aware from discussions with shareholders that there is a strong desire to understand
more about the Board’s thinking in this area, not just the end result. By way of response, I want to use this statement to explain our approach to
corporate governance and how we have ensured compliance with all the principles of the Financial Reporting Council’s Combined Code (the Code),
for our financial year ended 31 December 2010.
LEADERSHIP AND ACCOUNTABILITY
As Chairman of Lloyds Banking Group plc, a role that I am honoured to perform, I am responsible for leadership of the Board and for ensuring
its effectiveness.
We operate a unitary Board with all Directors collectively responsible for the long term success of the Company. The Chairman ensures that Directors
are kept advised of key developments, that they receive timely and relevant information and are involved in relevant decisions. It is expected that all
Directors, but particularly the Non-Executive Directors, constructively challenge proposals that come to the Board for decision.
I meet regularly with the Non-Executive Directors without the Executive Directors being present, either in private sessions held following Board or
Committee meetings or in separately arranged meetings. The Executive Directors are aware of such meetings through our Board calendar. At the
same time, we have provision for the Non-Executive Directors to meet with the Group Chief Executive without the Chairman, so that there can be
feedback both ways.
I have enjoyed a constructive relationship with Eric Daniels, our Group Chief Executive, and with the wider Board over the last 18 months. I look
forward to a similar relationship with António Horta-Osório, our new Group Chief Executive, when he takes over on 1 March 2011.
A sound relationship between the Chairman and Group Chief Executive based on a mutual understanding of our respective responsibilities is
essential to maintaining an open culture with the wider Board. The Group Chief Executive manages the business day to day which in my view is the
number one priority for any company. The Chairman manages the Board. There are in addition many other areas which we in turn share or to which
each one of us contributes in varying degree. Of course, responsibilities are clearly defined both in our terms of appointment and in the Board
Governance Framework which sets out the respective roles and responsibilities of the Chairman, Group Chief Executive, Senior Independent Director
and Non-Executive Directors.
The Board Governance Framework is the Board’s operating manual and sets out the matters that the Board has reserved to itself, including the
development and setting of strategy and long term objectives; approval of the medium term plan and financial budgets; capital and structure of
capital; significant contracts and various statutory and regulatory approvals.
In addition to the matters that it reserves to itself, the Board delegates certain matters to its Committees. This delegation ensures that adequate time
is devoted by Board members to the independent oversight of key controls.
All Committees act under terms of reference which are proposed by the Nomination & Governance Committee and then approved by the Board
and reviewed regularly. During 2010, all terms of reference were reviewed and updated. Copies of the current terms of reference are available on our
website, www.lloydsbankinggroup.com.
Lloyds Banking Group Board
Group
Chief Executive
Remuneration
Committee
Nomination &
Governance
Committee
Risk
Committee
Audit
Committee
Group
Executive
Committee
All Committees report to the Board through reports from Committee Chairmen with respect to each meeting. During 2010, the Chairman’s
Committee was disbanded. Matters previously delegated to the Chairman’s Committee were either transferred to the Nomination & Governance
Committee which reports to the Board, or a Board agenda review meeting. Further information on the membership, role and activities of each of the
Committees during 2010 is detailed on pages 120 and 121.
All other matters, including responsibility for managing the business day to day, are delegated to the Group Chief Executive.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
110
Directors’ report
112
Corporate governance report 114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
115
Lloyds Banking Group
Annual Report
and Accounts 2010
Through the Executive Governance Framework approved by the Board, the Group Chief Executive reserves certain matters to himself and,
subject to financial limits, delegates responsibilities to the Executive Directors and his other direct reports who collectively make up the
Group Executive Committee.
The frameworks are reviewed by the Board at least annually. In 2010, a comprehensive review of both frameworks was undertaken to ensure that they
remained appropriate for the enlarged group. Changes were made to ensure that the Board devotes the right amount of time and attention
to key matters.
In 2010, we held a total of 17 Board meetings of which nine were scheduled at the start of the year. The much larger number of meetings than
anticipated reflects the challenging environment in which we continue to operate and the need to keep the Board informed of developments in
a timely manner.
Details of attendance at meetings are set out on page 119. When meetings are called at short notice, it is not always possible for all Directors to
attend. As Chairman, it is my practice to seek to contact any Directors that are unable to attend to obtain their views before any decision is taken.
All Directors participate in the development of strategy. In addition to discussions at regular Board meetings, we held two strategy development
sessions in 2010, one in April and the other in November. Each lasted two days. The time spent at these meetings not only enables the Board to
devote time to its strategic priorities but also to foster closer working relationships between Board members.
EFFECTIVENESS
Since joining the Board in September 2009, one of my priorities has been to review the composition of the Board to ensure that the overall Board
and Committee structure is appropriate for an organisation of the breadth and scale of Lloyds Banking Group.
I lead the review of the composition of the Board, which is a continuous process, through the Nomination & Governance Committee which I chair.
The Nomination & Governance Committee makes recommendations to the Board on matters relating to Board membership and governance.
Membership of the Nomination & Governance Committee at present comprises the Deputy Chairman, the Senior Independent Director, the
Chairman of the Audit, Remuneration and Risk Committees and one other independent Non-Executive Director. The Group Chief Executive is
normally asked to attend. This provides a broad perspective of views of the Board and its Committees. The role of the Nomination & Governance
Committee is explained on pages 120 and 121 and its key areas of activity in 2010 are explained below.
BOARD COMPOSITION
In 2010, the Nomination & Governance Committee formulated a board composition policy statement which lays down the principles that are applied
when reviewing Board composition. The policy has been adopted by the Board and covers matters such as:
Skills and experience
In reviewing composition, the Board aims to ensure that its membership represents a mix of backgrounds and experience that will enhance the
quality of its deliberations and decisions. As part of our ongoing review, we identify specific skills that we look for in prospective new Directors, having
regard to the skills of the Board overall at the time, and the need to address longer term succession and current business priorities. The annual Board
evaluation is instrumental in identifying any new skills requirements, as well as possible shortcomings, gaps and inefficiencies. We conducted Board
evaluations in 2009 and 2010 with the help of outside consultants.
All Directors are required to have good – and in most cases have deep – experience and understanding of the banking and financial services sector.
The complexity of the Group means that broader skills are also required. Maintaining the right balance is an ongoing priority. The appointments of
Glen Moreno and David Roberts in March 2010 enhanced the Board’s collective banking skills with the majority of the Non-Executives, including
myself, having substantial banking experience. This is complemented by the strong financial, accounting and commercial backgrounds of other
Non-Executive Directors. The changes made to the Board during 2010 are explained in Board Changes below.
Diversity
The Board is keen to ensure that, subject to merit, its membership reflects diversity in the broadest sense including diversity of gender, ethnicity and
background. Appointments made to the Board during 2010 reflect this policy. Further information is provided in Board Changes below.
As one of the founding Chairmen of The 30% Club, I am committed to improving the representation of women on UK corporate boards, including
the goal of ensuring at least 30 per cent representation of women on boards by 2015. Chairmen, I believe, have an obligation to speed up the pace
of change and to influence the board selection process to widen the talent pool for consideration. To do this, we need to champion diversity within
our own organisations, and as part of that, develop our female talent and be prescriptive with search agencies to work towards an aspirational target
for better female representation on boards.
Board size
Our aim is to ensure that the size of the Board is sufficient to reflect a broad range of views and perspectives whilst allowing all Directors to
participate effectively in meetings. At year end, the Board comprised 14 directors which is within the range, albeit at the upper end, set by the
Nomination & Governance Committee.
Mix of Independent and Executive Directors
Our Board’s preference is to ensure a strong majority of independent directors. At year end, our Board comprised five Executive Directors,
eight independent Non-Executive Directors and myself as Chairman. The Code requirement that at least half the Board should be independent
Non-Executive Directors has been met throughout the year.
116
Lloyds Banking Group
Annual Report
and Accounts 2010
CORPORATE GOVERNANCE REPORT
Independence
The Nomination & Governance Committee is responsible for assessing the independence of Non-Executive Directors on appointment and annually.
It is satisfied that throughout the year, all Non-Executive Directors were independent as to both character and judgement.
In assessing independence, the Committee does not rely solely on the Code criteria but considers whether, in fact, the Non-Executive is
demonstrably independent and free of relationships and other circumstances that could affect their judgement. It does this with reference to the
individual performance and conduct in reaching decisions. It also takes account of any relationships that have been disclosed and authorised by the
Board. In the view of the Nomination & Governance Committee, Glen Moreno, who was between January 2009 and August 2009 acting Chairman
of United Kingdom Financial Investments which manages the Government’s shareholding in the Group, continues to exercise his own and robustly
independent judgement at all times.
Succession planning
This is a key aspect of our overall review of Board composition and is explained fully in Succession Planning below.
BOARD CHANGES
The Nomination & Governance Committee has overseen a number of changes to the Board during the year. For new Non-Executive Directors, the
process was conducted by the Nomination & Governance Committee with the support of an executive search firm, JCA Group. The Group Chief
Executive’s succession process was managed by a special sub-committee; details of which are set out in Group Chief Executive Succession.
– Glen Moreno and David Roberts were appointed on 1 March 2010 specifically to enhance the Board’s banking skills and expertise. Glen Moreno
combines strong financial services and commercial experience gained in both an executive and non-executive capacity in the UK and
internationally, while David Roberts’ in-depth commercial and retail banking expertise complements the broader perspectives of other
Non-Executives.
The appointment of Glen Moreno presented an opportunity to separate the roles of Deputy Chairman and Senior Independent Director both
previously carried out by Lord Leitch. With effect from 1 March 2010, Glen Moreno was appointed Senior Independent Director; Lord Leitch
remains Deputy Chairman.
As Senior Independent Director, Glen Moreno acts as the primary sounding board to me as Chairman and as an intermediary for
other Non-Executive Directors. He is supported in this latter task by the Deputy Chairman. The Deputy Chairman is also Chairman of
Scottish Widows Group, the UK’s largest life insurance company and an important component of our Group.
– Anita Frew joined the Board on 1 December 2010. In March 2010, after strengthening the banking experience on the Board, it was agreed that
there was a need for someone with a more diverse financial and commercial background. Anita’s extensive experience of public companies across
a range of sectors, including manufacturing as well as banking and asset management, has enhanced the diversity of perspectives on the Board.
– António Horta-Osório joined the Board as an Executive Director on 17 January 2011 and succeeds Eric Daniels as Group Chief Executive on
1 March 2011. The process leading to his appointment is explained in Group Chief Executive Succession.
In addition to the above appointments, the following retirements were announced in the year:
– Dr Wolfgang Berndt retired from the Board at the annual general meeting in May 2010. Dr Berndt joined the Board in 2003 and during his tenure
made a significant contribution to the Group particularly in the areas of strategy and measurement of results. As Chairman of the Remuneration
Committee, he advocated a constructive and open dialogue with shareholders. He was succeeded as Chairman of the Remuneration Committee
by Anthony Watson.
– In September 2010, consistent with his contractual obligations and entitlements, Eric Daniels gave twelve months notice of his intention to
retire as Group Chief Executive and director of Lloyds Banking Group plc (and principal subsidiaries). Eric Daniels will retire from the Board on
28 February 2011, but in line with his contractual obligations, he will remain an employee of the Company for the remainder of his notice period.
Under this arrangement, I will be able to draw on his knowledge and experience of our operations and customers, and these skills will also be
available to support the Group, where needed.
Biographies for all current directors can be found on pages 110 and 111.
ELECTION AND RE-ELECTION
Anita Frew and António Horta-Osório were appointed to the Board after the annual general meeting held in 2010 and will therefore stand for election
at the forthcoming annual general meeting. Under the articles of association, Sir Julian Horn-Smith and Truett Tate are required to retire from the
Board at the annual general meeting. However, in the interests of good corporate governance and in accordance with provisions of the UK Corporate
Governance Code, effective from 2012, we have decided that all of the directors will retire voluntarily and submit themselves for re-election at the
annual general meeting.
SUCCESSION PLANNING
The Nomination & Governance Committee oversees the Board’s arrangements for the longer term succession of Board and Committee members.
Non-Executive succession planning
Non-Executive succession planning is addressed as part of our ongoing review of Board composition. Our policy takes account of the need regularly
to refresh our intake of Non-Executives to bring new perspectives, to ensure appropriate representation on each of the Board’s Committees and
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
110
Directors’ report
112
Corporate governance report 114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
117
Lloyds Banking Group
Annual Report
and Accounts 2010
to plan for longer term succession. The average tenure of our Non-Executive Directors is nearly three years. Non-Executive Directors are currently
appointed for three year terms. Following the move to annual re-election of Directors, Non-Executive Directors will in future be appointed on a
rolling 12 months basis.
Group Chief Executive Succession
As Chairman, I am responsible for the succession arrangements relating to the Group Chief Executive, including process and the production of a
plan. It is important to maintain a thorough understanding of the market to ensure that the plan is regularly reviewed and refreshed. If not already
known to me, I take the time to get to know potential candidates so that I can assess their suitability for our Board.
In September 2010, immediately following the announcement of Eric Daniels’ retirement, a subcommittee of the Board (the Succession
Committee) was established under my Chairmanship to lead the search for a suitable successor. Other members of the Succession Committee were
Lord Leitch (Deputy Chairman), Glen Moreno (Senior Independent Director) and Anthony Watson (Chairman of the Remuneration Committee),
all independent Non-Executive Directors. The Succession Committee met at least once a week between September and November 2010 and was
supported by the Group HR Director and the Head of Secretariat.
The Succession Committee’s remit was to appoint a successor who would be capable of leading the Group to the next stage of its development. It
was agreed that an extensive search should be conducted encompassing internal, external and international candidates. Given the profile, breadth
and challenges of the role, together with the need to be able successfully to lead the Group in the next phase of its development, it was clear that an
exceptional candidate was required.
The starting point for identification of suitable candidates was our Chief Executive Succession plan which included António Horta-Osório. We also
considered other candidates, including one internal candidate.
In view of our succession plan, we did not appoint an executive search firm to assist with the search and selection process. The executive search firm,
JCA Group, was involved in the process which enabled us to appoint our new Group Chief Executive. However I handled the approach to and the
appointment of, António Horta-Osório in conjunction with the Succession Committee.
António Horta-Osório stood out in an excellent short list. His skills closely match the role specification agreed by the Succession Committee
including:
– strong retail and commercial banking experience gained in the UK and internationally, including experience at chief executive officer level,
of running large scale, multi-product, multi-brand businesses;
– a proven track record of successful integration of retail banks in the UK and in Europe as part of a multi-jurisdictional, multi-brand organisation;
– strong understanding of the operational and regulatory environment in which banks operate both in the UK and globally, including a deep
understanding of capital and liquidity management and the potential impacts of global regulatory change initiatives;
– the ability to foster a culture of fairness for customers, shareholders and colleagues; and
– the ability to provide leadership and strategic direction, to deliver growth in tough market conditions.
Following an intensive interview process and extensive due diligence, António Horta-Osório was named as our new Group Chief Executive in
November 2010.
Executive Directors and senior executives
The Nomination & Governance Committee and the Board are responsible for oversight of the process for succession and management
development of the most senior executives both at and below Board level, including Executive Directors and members of the Group Executive
Committee. The primary responsibility for this, however, rests with the Group Chief Executive. Arrangements are reviewed at least annually with
the latest review taking place in June 2010.
THE WALKER REVIEW
In November 2009, Sir David Walker published his ‘Review of corporate governance in UK banks and other financial industry entities’ (the
Walker Review). The Nomination & Governance Committee was responsible for overseeing the Group’s implementation of the Walker Review
recommendations. Although not yet fully in force, the Group has agreed to adopt those recommendations that did not require further clarification or
regulatory pronouncement including with respect to the annual re-election of all Directors. A review of Board procedures was undertaken including:
Directors’ induction
All Directors are expected to make an informed contribution based on an understanding of the Group’s business model and the key challenges
facing the Group and its businesses. To ensure they can contribute from an early stage, they undergo an extensive induction on appointment.
Early in 2010, the Board reviewed and refreshed its induction programme to meet the Walker Review recommendation of a formal, substantive
and personalised induction. All Directors appointed during 2010 have undertaken a three stage induction process comprising:
– a corporate induction, which provides an overview of the Group, its strategy, operational structures and main business activities;
– governance and Directors’ responsibilities, which explains the role and statutory duties of a Non-Executive Director including the roles and
responsibilities owed by banks and other financial services firms to the FSA and other regulatory bodies; and
– a bespoke induction plan prepared in consultation with me, tailored to the individual needs of the Director, to the specific role that they will carry
out, and their skills/experience to date.
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and Accounts 2010
CORPORATE GOVERNANCE REPORT
Board training
The Board receives regular refresher training and information sessions to address current business or emerging issues. During 2010, Non-Executives
undertook approximately five days of training, including 12 hours of structured training during Board meetings. This is delivered through a variety
of means, including sessions on matters such as liquidity and funding, stress testing, living wills, the Bribery Act and special Board sessions covering
matters such as the Individual Capital Adequacy Assessment Process and training for Approved Persons. In addition, the Audit Committee arranged
a series of ‘deep dives’ to which all Board members were invited, and which provided an in-depth review of the operations of each of the business
divisions and of the latest accounting standards and operating methodologies. Half day sessions were delivered for each division amounting to
three days in total.
Time commitments
The Nomination & Governance Committee reviewed and formalised the expected time commitments for Non-Executive Directors. The review laid
down the expected time commitment for the Board, Committees and special responsibilities, eg Senior Independent Director, based on scheduled
meetings only.
In 2010, as in 2009, the time commitment demanded of all Non-Executive Directors was considerable and substantially in excess of the time
envisaged in their terms of appointment. There has been no adjustment to fees to reflect the increased workload since January 2008. I am grateful to
our Non-Executives for the considerable personal contribution that they make to our Board and for accommodating the additional demands, often
at short notice and at unsociable hours.
BOARD EVALUATION AND PERFORMANCE
The Nomination & Governance Committee recommended to the Board that, as in 2009, the 2010 evaluation should again be facilitated externally.
Given the number of new entrants to this market, we agreed that we should explore the range of services available. Following a tender process and
interviews, Dr Tracy Long of Boardroom Review was appointed to conduct the 2010 process. Boardroom Review has no other relationship with the
Company.
The review was conducted between October 2010 and February 2011 through confidential interviews with all Board directors and the Company
Secretary, observation of a Board meeting and a review of selected papers. The review was designed to be forward looking, assessing the quality of
the Board’s decision making and debate, and its overall contribution to, and impact on, the long term health and success of the business. The review
identified the strengths of the Board and its Committees and highlighted areas for the Board to work on in order to prepare for future challenges.
The Board evaluation also provides feedback on the individual performance of Directors which informs a general assessment and my assessment
which is used for individual feedback.
As Senior Independent Director, Glen Moreno leads the review of my performance with the Board and provides feedback in a face-to-face meeting.
REMUNERATION
The Remuneration Committee, chaired by Anthony Watson, is responsible for overseeing the Group’s remuneration arrangements and compliance
with the FSA’s Remuneration Code. The Remuneration Committee’s terms of reference were amended in 2010 to address the recommendation of
the Walker Review and, more recently, the FSA Remuneration Code, that performance related pay should be more closely aligned to the long term
interests of the Company and its risk management systems. The Remuneration Committee’s terms of reference are available on our
website, www.lloydsbankinggroup.com.
An overview of the Remuneration Committee is set out on pages 120 and 121. The work of the Remuneration Committee is explained in the
Directors’ remuneration report on pages 124 to 141.
SHAREHOLDER ENGAGEMENT
The Board recognises the importance of promoting mutual understanding between the Company and its shareholders through greater
engagement. In 2010, there was regular dialogue with institutional shareholders with more than 300 equity investor meetings undertaken in the year.
Many of these meetings were undertaken by senior management (primarily the Group Chief Executive and Group Finance Director) or Board
members. As Chairman, I have attended a number of meetings with shareholders to discuss governance and strategic direction. Anthony Watson,
as Chairman of the Remuneration Committee, regularly meets our larger shareholders to discuss executive remuneration issues while Glen Moreno,
the Senior Independent Director, separately meets with a range of major shareholders.
The Board is kept advised of the views of major shareholders by means of regular updates at Board and Committee meetings. It also receives
monthly reports on market and investor sentiment and shareholder analysis.
Investor Relations has primary responsibility for managing day-to-day communications with institutional shareholders. Supported by the Group Chief
Executive and Group Finance Director, they achieve this through a combination of briefings to analysts and institutional shareholders (both at results
briefings and throughout the year), as well as site visits and individual discussions with institutional shareholders.
The Company Secretary oversees communications with private shareholders. The Group’s annual general meeting provides an opportunity to meet
the Group’s Directors and to hear more about the strategy of the Group. Shareholders are encouraged to attend the annual general meeting and to
raise any questions at the meeting or in advance, using the email address shown in the pack which will be sent to shareholders in March 2011.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
110
Directors’ report
112
Corporate governance report 114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
119
Lloyds Banking Group
Annual Report
and Accounts 2010
Scottish Widows Investment Partnership, one of Europe’s largest asset managers and a Group company, complies with the principles of the
Financial Reporting Council’s Stewardship Code, published in July 2010. Details of Scottish Widows Investment Partnership’s approach to
stewardship and corporate governance can be found on its website, www.swip.com.
In conclusion, I am pleased to confirm that the Group complied with all relevant provisions of the Code throughout the year ending
31 December 2010. As an early adopter of several of the recommendations contained in the Walker Review, I believe the Group is well placed
to comply with new provisions contained in the UK Corporate Governance Code which will apply to future reports, and to benefit thereby.
Sir Winfried Bischoff
Chairman
ATTENDANCE AT MEETINGS
The attendance of directors at Board meetings and at meetings of the Audit, Nomination & Governance, Remuneration and Risk Committees
of which they were members during 2010 are shown in the table. Some Directors attended relevant Committee meetings as attendees periodically
throughout the year, which are not shown below. In addition, the Audit Committee arranged six half day ‘deep dive’ meetings during 2010 which
were open to and attended by other members of the Board.
Board meetings
Audit Committee
Nomination &
Governance
Committee
Remuneration
Committee
Risk
Committee
Regular
Ad hoc
Number of meetings during the year
Current directors who served
during 2010
Sir Winfried Bischoff
J E Daniels
A M Frew1
Sir Julian Horn-Smith
A G Kane
Lord Leitch2
G R Moreno3
D L Roberts4
T T Ryan5
M A Scicluna6
G T Tate
T J W Tookey
Anthony Watson7
H A Weir
Former directors who served
during 2010
Dr W C G Berndt8
9
9
9
1(1)
9
9
8
7
7
9
9
9
9
9
9
4
Regular
Ad hoc
Regular
Ad hoc
Regular
Ad hoc
Regular
7
1(1)
6
5(5)
7
7
7
1
–
1
1
–
1
1
3
3
1
3
2(2)
1(2)
2(2)
2(2)
2
2
2
1
1(1)
0(1)
–
–
4
4
3
4
–
3(3)
3(3)
11
11
6
11
4(5)
7(8)
6(8)
4
–
4
–
4
2(2)
2(2)
3(3)
4
4
3(3)
7(8)
2(2)
Total
17
16
16
1
13
16
16
13
13
15
16
17
17
15
17
8
7
7
–
4
7
8
6(7)
6(7)
6
7
8
8
6
8
2(3)
6
1(1)
2(2)
2(2)
6(6)
1
2
3
4
5
6
7
8
Appointed to the Board, Audit and Risk Committees on 1 December 2010.
Stood down from the Risk Committee on 14 April 2010.
Appointed to the Board, Nomination & Governance, Remuneration and Risk Committees on 1 March 2010. Stood down from the Remuneration Committee on 17 June 2010 and the
Risk Committee on 1 September 2010.
Appointed to the Board, Audit, Remuneration and Risk Committees on 1 March 2010. Appointed as Chairman of the Risk Committee and to the Nomination & Governance Committee with effect
from 1 September 2010.
Appointed to the Remuneration Committee on 1 March 2010.
Appointed to the Nomination & Governance Committee on 6 May 2010.
Appointed as Chairman of the Remuneration Committe and to the Nomination & Governance Committee, and stood down from the Risk Committee, on 6 May 2010.
Left the Board on 6 May 2010.
Numbers in brackets show the maximum number of possible meetings that each Director could have attended in 2010 including those ad hoc or
called at short notice.
120
Lloyds Banking Group
Annual Report
and Accounts 2010
CORPORATE GOVERNANCE REPORT
BOARD COMMITTEES
The table below sets out a summary of the membership and role of each of the Board Committees, along with the activities they performed during 2010.
There is a standing invitation for all Non-Executive Directors to attend Committee meetings of which they are not members. All Committee terms of
reference are available from the Company Secretary and are displayed on our website, www.lloydsbankinggroup.com.
Committee
Audit
Chairman
Martin Scicluna
Membership
Anita Frew
Lord Leitch
David Roberts
Tim Ryan
Anthony Watson
Nomination &
Governance
Sir Winfried Bischoff
Remuneration
Anthony Watson
Risk
David Roberts
Sir Julian Horn-Smith
Lord Leitch
Glen Moreno
David Roberts
Martin Scicluna
Anthony Watson
Sir Winfried Bischoff
Sir Julian Horn-Smith
Lord Leitch
David Roberts
Tim Ryan
Sir Winfried Bischoff
Anita Frew
Sir Julian Horn-Smith
Anthony Watson
Martin Scicluna
Purpose
To monitor and review the formal
arrangements established by the
Board in respect of:
(a) the financial statements and
reporting of the Group;
(b) internal controls and the risk
management framework;
(c) internal audit; and
(d) the Group’s relationship with
its external auditors.
To keep the Board’s governance
arrangements under review
and make appropriate
recommendations to the Board
to ensure that the Company’s
arrangements are consistent
with best practice corporate
governance standards.
To set the principles and
parameters of remuneration
policy for the Group, and to
oversee remuneration policy and
outcomes for those colleagues
specified in the terms of
reference.
To review and report its
conclusions to the Board on:
(a) the Group’s risk appetite; and
(b) the Group’s risk management
framework,
taking a forward looking
perspective and anticipating
changes in business conditions.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
110
Directors’ report
112
Corporate governance report 114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
121
Lloyds Banking Group
Annual Report
and Accounts 2010
Responsibilities
2010 Activities
– reviews the financial statements
published in the name of the
Board and the quality and
acceptability of the related
accounting policies, practices
and financial reporting
disclosures;
– reviews the scope of the work
of the group audit department,
reports from that department and
the adequacy of its resources;
– reviews the effectiveness of the
systems for internal control, risk
management and compliance
with financial services legislation
and regulations;
– approves the external auditors’
terms of engagement and
remuneration;
– assesses the external auditors’
independence and objectivity;
– recommends the external
auditors’ appointment,
re-appointment and removal;
– reviews the results of the
external audit and its cost
effectiveness;
– reviewed and recommended to
the Board the Group annual and
interim reports and accounts;
– reviewed significant accounting
matters as discussed with
the auditors;
– reviewed the Group’s position as
a going concern;
– reviews reports from the auditors
– reviewed the appointment of
on audit planning and their
findings on accounting and
internal control systems; and
– reviews procedures for
handling complaints regarding
accounting, internal accounting
controls or auditing matters
and for staff to raise concerns in
confidence.
the auditors and approved their
remuneration;
– attended six half day ‘deep
dive’ sessions with each of the
divisions
– reviewed litigation and
regulatory risks;
– received reports from the
Divisional Financial Control
Committees and the Group
Business Risk Committee;
– received reports from the
internal audit department on
internal controls, including SOX
reports;
– reviewed the Group’s key
finance programmes;
– reviewed details of the Group’s
whistle blowing procedures
and incidents;
– discussed the mis-selling of PPI;
and
– discussed the level of
impairments, specifically in
Ireland, amongst other countries.
– reviews the structure, size and
– oversees the annual evaluation
composition of the Board;
of the performance of the Board;
– oversees the selection process
– reviews the Board’s governance
for prospective Directors;
arrangements;
– makes recommendations
to the Board on potential
appointments and re-
appointments of Directors at the
end of their specified term;
– considers Board succession;
– oversees the Group’s
implementation of governance
requirements; and
– oversees the process for
appointments of new
Non-Executive Directors and
makes recommendations to
the Board.
Information about the
Remuneration Committee’s
responsibilities is given in the
Directors’ remuneration report on
pages 124 to 141.
– facilitates the involvement
of Non-Executive Directors
in risk issues and aids their
understanding of these issues;
– oversees adherence to Group
risk policies and standards
and considers any material
amendments to them; and
– reviews the work of the Group
risk division.
– reviewed the Board evaluation
process and results; and
– adopted a board composition
policy statement.
– reviewed and recommended to
the Board the appointment of a
new Group Chief Executive and
three Non-Executive Directors;
– adopted a Board Governance
Framework and Executive
Governance Framework;
– reviewed the time commitment
of Board Directors;
– reviewed updates on corporate
governance at each meeting;
Information about the
Remuneration Committee’s
activities during 2010 is given in
the Directors’ remuneration report
on pages 124 to 141.
– reviewed the Group
consolidated risk report and
received an update
from the Chief Risk Officer at
each meeting;
– reviewed the risk and control
frameworks;
– reviewed the Internal Capital
Adequacy Assessment Process
report;
– reviewed the Group’s funding
plan and stress testing process;
– participated in ‘deep dives’ in
conjunction with each division
and with members of the group
risk team;
– reviewed the Group’s risk
appetite framework; and
– reviewed the Group’s report on
financial crime.
122
Lloyds Banking Group
Annual Report
and Accounts 2010
CORPORATE GOVERNANCE REPORT
STATEMENT OF DIRECTORS’ RESPONSIBILITIES
The directors are responsible for preparing the Annual Report, the Directors’ remuneration report and the financial statements in accordance with
applicable law and regulations.
Company law requires the Directors to prepare financial statements for each financial year. Under that law the Directors have prepared the Group
and parent Company financial statements in accordance with IFRSs as adopted by the European Union. Under company law the Directors must not
approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the Group and the Company and
of the profit or loss of the Company and Group for that period. In preparing these financial statements, the Directors are required to: select suitable
accounting policies and then apply them consistently; make judgements and accounting estimates that are reasonable and prudent; state whether
applicable IFRSs as adopted by the European Union have been followed.
The Directors are responsible for keeping adequate accounting records that are sufficient to show and explain the company’s transactions and
disclose with reasonable accuracy at any time the financial position of the Company and the Group and enable them to ensure that the financial
statements and the Directors’ remuneration report comply with the Companies Act 2006 and, as regards the Group financial statements, Article 4 of
the IAS Regulation. They are also responsible for safeguarding the assets of the Company and the Group and hence for taking reasonable steps for
the prevention and detection of fraud and other irregularities.
A copy of the financial statements is placed on our website www.lloydsbankinggroup.com. The Directors are responsible for the maintenance and
integrity of the Company’s website. Legislation in the United Kingdom governing the preparation and dissemination of financial statements may
differ from legislation in other jurisdictions.
COMPLIANCE WITH THE BRITISH BANKERS’ ASSOCIATION CODE FOR FINANCIAL REPORTING DISCLOSURE
In September 2010, the British Bankers’ Association published a Code for Financial Reporting Disclosure (the ‘Disclosure Code’). The Disclosure
Code sets out five disclosure principles together with supporting guidance. The principles are that UK banks: commit to providing high quality,
meaningful and decision-useful disclosures; commit to ongoing review of, and enhancement to, their financial instrument disclosures for key areas
of interest; will assess the applicability and relevance of good practice recommendations to their disclosures acknowledging the importance of such
guidance; will seek to enhance the comparability of financial statement disclosures across the UK banking sector; and will clearly differentiate in their
annual reports between information that is audited and information that is unaudited.
The Group and other major UK banks have voluntarily adopted the Disclosure Code in their 2010 financial statements. The Group’s 2010 financial
statements have therefore been prepared in compliance with the Disclosure Code’s principles.
INTERNAL CONTROL
The Board of Directors is responsible for the establishment and review of the Group’s system of internal control, which is designed to ensure effective
and efficient operations, quality of internal and external reporting, internal control, and compliance with laws and regulations. It should be noted,
however, that such a system is designed to manage, rather than eliminate, the risk of failure to achieve business objectives. In establishing and
reviewing the system of internal control, the Directors have regard to the nature and extent of relevant risks, the likelihood of a loss being incurred
and the costs of control. It follows, therefore, that the system of internal control can only provide reasonable but not absolute assurance against the
risk of material loss.
The Directors and senior management are committed to maintaining a control-conscious culture across all areas of operation. This is communicated
to all employees by way of published policies and procedures and regular management briefings. A requirement to comply with internal control
risk policies is a key component of individual staff objectives expressed in the balanced scorecard. Key business risks are identified, and these are
controlled by means of procedures such as physical controls, credit, trading and other authorisation limits and segregation of duties. In addition,
there is an annual control self assessment exercise whereby the key businesses and head office functions review specific controls and attest to the
accuracy of their assessments. The assessment covers all enterprise-wide risk management categories and is in accordance with the principles of the
Code. As in previous years, this exercise was completed for the year ended 31 December 2010. All returns have been satisfactorily completed and
appropriately certified.
The effectiveness of the internal control system is reviewed regularly by the Board and the Audit Committee, which also receives reports of
reviews undertaken around the Group by group risk and group audit. The Audit Committee receives reports from the Company’s auditors,
PricewaterhouseCoopers LLP (which include details of significant internal control matters that they have identified), and has a discussion with the
auditors at least once a year without executives present, to ensure that there are no unresolved issues of concern.
There is an ongoing process for identifying, evaluating and managing the significant risks faced by the Company. This process has been in place
for the year under review and up to the date of the approval of the annual report and is regularly reviewed by the Board.
Information regarding the main features of the internal control and risk management systems in relation to the financial reporting process is given
within the risk management report on pages 65 to 108.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
110
Directors’ report
112
Corporate governance report 114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
123
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITOR INDEPENDENCE AND REMUNERATION
Both the Board and the external auditors have safeguards in place to protect the independence and objectivity of the external auditors. The Audit
Committee has a comprehensive policy to regulate the use of auditors for non-audit services. This policy sets out the nature of work the external
auditors may not undertake, which includes work which will ultimately be subject to external audit, internal audit services and secondments to senior
management positions in the Group that involve decision-making. It also includes the Group’s policy on hiring former external audit staff. For those
services that are deemed appropriate for the auditors to carry out, the policy sets out the approval process that must be followed for each type of
assignment. The Chairman of the Audit Committee must be consulted regarding potential instructions in respect of allowable non-audit services with
a value above defined fee limits.
Each year the Audit Committee establishes a limit on the fees that can be paid to the external auditors in respect of non-audit services and monitors
quarterly the amounts paid to the auditors in this regard. The external auditors also report regularly to the Audit Committee on the actions that they
have taken to comply with professional and regulatory requirements and current best practice in order to maintain their independence. This includes
the rotation of key members of the audit team. Total auditor remuneration analysed between audit and other services is shown in note 11 to the
financial statements on page 177.
The Audit Committee evaluated the performance of the external auditors during the year and will periodically continue to do so. The Audit
Committee has not considered it necessary to require an independent tender process.
STATUTORY AND REGULATORY DISCLOSURES
Information that is required to be disclosed in the corporate governance report under the Companies Act 2006 and the FSA’s Disclosure and
Transparency rules can be found in the Directors’ report, on the Shareholder information page and in the share capital note.
124
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REMUNERATION REPORT
STATEMENT BY THE CHAIRMAN OF THE REMUNERATION COMMITTEE
As the new Chairman of the Group’s Remuneration Committee I am pleased to present the Directors’ remuneration report for 2010, for which we will
be seeking approval from shareholders at our annual general meeting in May.
Firstly I would like to extend my thanks to Dr Wolfgang Berndt who chaired the Committee admirably through a challenging period and I am delighted
to be given the opportunity to lead the Committee as we build the trust with all our stakeholders to ensure the best remuneration structure possible.
During the past year the Committee has undertaken a great deal of work to ensure a continued prudent approach to our remuneration policy
while recognising the need to attract, incentivise and retain our key people. Shareholders may care to note that of the six current members of the
Committee, four have joined within the last 18 months.
We have carried out a wide-ranging and considered consultation with shareholders. I have very much enjoyed the opportunity that this has given
me to exchange views on the Group’s remuneration strategy. We have carefully reflected on the feedback from shareholders and this has directly
influenced our approach.
There continues to be a high level of interest in remuneration in both the sector as a whole and Lloyds Banking Group arrangements. Throughout the
year we have sought to take this into account along with shareholders’ views on remuneration, ensuring continued compliance with the FSA Code
of Practice on Remuneration whilst balancing these factors with what is right for our business. We held fifteen Remuneration Committee meetings
during the year, at which a wide range of matters were discussed. This gives an indication of the importance we place on ensuring the effectiveness
of the Group’s remuneration structures.
Our conclusion, following the considerable amount of consultation and an in depth analysis of performance, was that 2010 outcomes should
demonstrate the exercise of restraint rather than fully reflect improved performance and we should retain a broadly similar structural approach
for 2011.
2010 REMUNERATION OUTCOMES
The Group has made significant progress during the year. We have also reduced the level of risk in our business in reaction to the economic events
that had a particularly deep impact on the banking sector and we are endeavouring, as a business, to continue to support the UK’s economic
recovery.
Our decision making has focussed on balancing shareholders’ views on remuneration with the need to attract, incentivise and retain the right
people, in light of improved business performance. In reaching a decision on the size of the bonus pool as a whole and for the Executive Directors
in particular, the Committee took into account the need for adjustments to reflect the Group’s current profitability and current and future risk. The
Committee worked closely with the Group Risk Committee in making its decision. As a result:
– There were no salary increases made to Executive Directors in 2010.
– We have ensured that any bonuses paid in respect of performance in 2010 have been rigorously tested against targets. The use of risk-adjusted and
non-financial measures under this plan has been highly successful in promoting a long-term focus within the senior management team.
– To ensure a prudent approach is applied in practice we have exercised downward discretion on the annual bonuses; the payouts are lower than
if they were calculated on a purely formulaic basis. Exercising its discretion, the Committee has been mindful, amongst other things, of the
appropriate balance of profit between shareholders and staff, key balance sheet metrics, share price performance, the quality of profits and future
risks as well as the competitive environment.
– Furthermore, 100 per cent of any award will be deferred into shares and will not be released until March 2013 at the earliest. In order to increase
alignment with shareholders, this will be subject to malus if performance is not sustained.
– Awards made in March 2010 under the Long Term Incentive Plan (‘LTIP’) were below 2008 levels by up to 100 per cent of salary and lower than the
market practice for long-term incentives in our sector.
The approximate make-up of the main components of our package for Executive Directors on an expected value basis is shown below:
Long-term incentive
Short-term incentive
Salary
40%
30%
30%
Based on a combination of performance targets comprising
earnings per share, economic profit and the achievement of
stretching share price targets
Paid in shares after
three years
Based on financial measures and on a balanced scorecard
of non-financial measures
Deferred into shares until
at least March 2013, subject
to malus
Based on role, market competitiveness, and performance
Paid in cash
(The split in the components in the above chart are for executive directors. Comparable numbers for the Group Chief Executive are: long-term
incentive 40 per cent, short-term incentive 32 per cent and salary 28 per cent)
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
Corporate governance report
Directors’ remuneration
report
110
112
114
124
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
125
Lloyds Banking Group
Annual Report
and Accounts 2010
OUR APPROACH TO REMUNERATION FOR 2011
The changes at Board level, including my appointment as Chairman of this Committee, provided us with an excellent opportunity to review
the structure and quantum of our remuneration. This review included an open and transparent dialogue with shareholders and I intend to maintain
the renewed commitment to shareholder engagement that we have demonstrated.
Our principal focus was to ensure an appropriate alignment between performance and pay in terms of both business strategy and risk profile.
We continue to have concerns that our remuneration framework is uncompetitive and this is an area that will be kept under close and continuous
review by the committee. However, our approach to remuneration in 2011 remains broadly unchanged from last year:
– We are proposing increases to Executive Director base salaries for 2011, in line with those for the wider workforce. This will be our first increase
since 2008.
– The annual incentive opportunity for 2011 will stay the same as in previous years.
– The bonus will continue to be based on a combination of Group financial measures and a balanced scorecard of business financial and
non-financial measures, including customers, people and risk.
– Awards under the LTIP remain below 2008 levels and will be limited to 300 per cent of salary (except for António Horta-Osório).
– The performance measures for the LTIP will include Economic Profit and EPS, as in previous years, together with a measure of delivery to
shareholders using absolute Total Shareholder Return (TSR).
We are also proposing a change to the delivery of remuneration and shareholders will be asked at the annual general meeting to approve a
resolution to use newly issued shares to settle deferred bonus and LTIP awards, rather than market purchased shares. In response to concerns about
the level of risk in the banking sector, we believe that this is an effective way of improving our capital position.
The Board has appointed António Horta-Osório as our new Group Chief Executive who starts on 1 March 2011. He will be undertaking a review of
strategy. When this is complete we will review the remuneration arrangements to ensure they remain consistent with the strategy and if appropriate
will consult with shareholders on any changes needed.
CONCLUSION
During the course of 2010 our consultation with shareholders on executive remuneration has helped ensure that:
– We are rewarding executives for delivery of the most important drivers of the business, improving both the financial and non-financial health of
the business and with a medium and longer term focus on risk, capital and liquidity of the business.
– We have a prudent approach to remuneration with the structure for 2011 designed to reflect corporate and personal performance.
– We strike an appropriate balance by considering both the sensitivity of the current environment and the longer term policy objectives to support
the Group’s business strategy.
– Our approach is fully aligned with the FSA Remuneration Code of Practice.
We therefore recommend this report to shareholders and ask for your support at the forthcoming annual general meeting.
Anthony Watson CBE
Chairman, Remuneration Committee
This is a report made by the Board of Lloyds Banking Group plc, on the recommendation of the Remuneration Committee. It covers the current and
proposed components of the remuneration policy and details the remuneration for each serving Director during 2010.
The Group has complied throughout the period with the requirements of the UK Corporate Governance Code (previously known as the Combined
Code) in relation to Directors’ remuneration. In addition, the report has been prepared in accordance with the Large and Medium sized Companies
and Groups (Accounts and Reports) Regulations 2008.
126
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REMUNERATION REPORT
GOVERNANCE AND RISK MANAGEMENT
An essential component of our approach to remuneration is the governance process that underpins it. This ensures that our policy is robustly applied
and risk is managed appropriately.
The overarching purpose of the Remuneration Committee is to consider, agree and recommend to the board an overall remuneration policy and
philosophy for the Group that is aligned to its long-term business strategy, business objectives, risk appetite and values and recognises the interests
of relevant stakeholders. The Group has a conservative business model characterised by a risk culture founded on prudence and accountability.
The remuneration policy and philosophy covers the whole Group, but the Committee pays particular attention to the top management population,
including the highest paid employees in each division, those colleagues who perform significant influence functions for the Group and those who
could have a material impact on the Group’s risk profile. The Committee’s role is to ensure that these colleagues are provided with appropriate
incentives and reward to encourage them to enhance the performance of the Group and that they are recognised for their individual contribution to
the success of the organisation, whilst ensuring that there is no reward for excessive risk taking.
The Committee determines the pensions policy for the Group and advises on other major changes to employee benefits schemes. It also agrees the
policy for authorising claims for expenses from the Group Chief Executive and the Chairman. It has delegated power for settling remuneration for the
Chairman, the Group Executive Directors, the Company Secretary and any group employee whose salary and bonus exceeds a specified amount,
currently £750,000. To ensure compliance with the FSA Code of Practice, the Committee approves remuneration for remuneration Code Staff and
that of senior risk and compliance officers.
The Committee monitors the application of the authority delegated to the Group Executive Committee and the divisional Remuneration
Committees to ensure that policies and principles are being fairly and consistently applied. The Committee liaises closely with the Risk Committee
and the risk function in relation to risk-adjusted performance measures, including consideration of both current and future risk. Together the
management of remuneration and risk form an integral part of the Board’s determination of Group corporate strategy.
All the independent Non-Executive Directors are invited to attend meetings and have the opportunity to comment on proposals and have their
views taken into account before the Committee’s decisions are implemented.
The Committee’s terms of reference are available from the Company Secretary and are displayed on the Group’s website, www.lloydsbankinggroup.com.
These terms were updated in January 2011 to ensure continued compliance with the FSA Code.
The members of the Committee during 2010 were as follows:
– Dr Wolfgang Berndt (chairman to 6 May 2010)
– Anthony Watson (chairman from 6 May 2010)
– Sir Winfried Bischoff
– Sir Julian Horn-Smith
– Lord Leitch
– Glen Moreno (from 1 March 2010 to 17 June 2010)
– David Roberts (from 1 March 2010)
– Tim Ryan (from 1 March 2010)
During 2010, the Committee met 15 times and considered the following principal matters:
– Review of remuneration arrangements for senior executives. Upon the appointment of the new Group Chief Executive we have deferred the
implementation of this work until the completion of the strategy review and will consult shareholders during 2011
– Determination of the appropriate remuneration packages for the new Group Chief Executive and a number of other senior new hires
– Determination of bonus pools based on Group performance and risk adjustments
– Performance conditions for the Long Term Incentive Plan
– Bonus and salary awards for Executive Directors and key senior managers
– Approval of remuneration and terms of service that fall within the Committee’s terms of reference, including new executive appointments
– Feedback from the Remuneration Committee Chairman on his meetings with the FSA and shareholders
We thank all committee members for their commitment during the last year and attendance at meetings.
The Committee appoints independent consultants to provide advice on specific matters according to their particular expertise. During the year, the
Committee conducted a review of their independent advisors and appointed Deloitte LLP to advise the Committee. Deloitte has voluntarily signed
up to the Remuneration Consultants’ Code of Conduct and are judged by the Committee to be independent. Kepler Associates were also retained
by the Committee during 2010 to advise on various matters relating to executive remuneration.
During 2010, Alithos Limited continued to provide information on behalf of the Committee for the testing of TSR performance conditions for the
Group’s long-term incentive plans (calculated by reference to both dividends and growth in share price).
Eric Daniels, Angie Risley (Group HR Director), Liz Jackson (HR Director, Reward from March 2010) and Harriet Kemp (HR Director, Total Reward until
March 2010) provided guidance to the Committee (other than for their own remuneration). Carol Sergeant (Chief Risk Officer) and Tim Tookey (Group
Finance Director) also attended the Committee to advise as and when necessary on risk and financial matters.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
Corporate governance report
Directors’ remuneration
report
110
112
114
124
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
127
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REMUNERATION POLICY
Following review in 2010, the Group’s remuneration policy continues to support our business values and strategy, based on building long-term
relationships with our customers and employees and managing the financial consequences of our business decisions across the entire
economic cycle.
Our policy is intended to ensure that our remuneration offer is both cost effective and enables us to attract and retain Executive Directors and senior
management of the highest calibre, motivating them to perform to the highest standards.
Our objective is to align individual reward with the Group’s performance, the interests of its shareholders, and a prudent approach to risk management.
In this way we balance the requirements of our various stakeholders: our customers, shareholders, employees, and regulators. This approach is in line
with the Association of British Insurers best practice code on remuneration and the FSA Remuneration Code of Practice, as the policy seeks to reward
long-term value creation whilst not encouraging excessive risk taking.
We summarise below how each of these policy objectives is met by our remuneration offer.
Policy objective
How achieved
Building long-term
relationships
We build relationships with our customers and people. Working for Lloyds Banking Group is about more than pay.
Our relationship with our people means that we want to pay them fairly and competitively, but our pay is positioned
conservatively against the market and we do not seek to align with the highest payers in the sector. In setting pay for
Executive Directors and senior managers, we take account of relative pay positioning and target levels of variable
remuneration opportunity for all levels of employees in the Group.
Our incentive measures are not just financial. Our Balanced scorecards include objectives that cover effective risk
management, lending to Corporates including SMEs and retail customers, performance against targets that measure
how satisfied our customers are and the extent to which our employees feel engaged with and committed to working
for the Lloyds Banking Group.
Managing the financial
consequences of our
business through the
economic cycle
Economic profit is a key measure by which we manage our business. This measure takes into account the level of capital
required to generate profits as well as the risks taken. The same level of profit generated at lower risk results in higher
economic profit. Economic profit also measures risk based on an assessment of how the business will perform through
the economic cycle.
Aligning individual
rewards with Group
performance and
shareholders
For example, in good times, when default rates on loans are low, we adjust the economic profit measure downwards
based on a higher average expected default experience over the economic cycle. This encourages us to avoid business
and funding strategies that are only profitable during boom times but turn bad in a recession. Economic profit plays a
prominent role in our incentive plans for executives, with its inclusion in both the annual and LTIP performance measures.
Our executives’ annual and long-term incentives are based on stretching performance objectives and targets in the
Group Balanced Scorecard. This balanced scorecard is derived from the Medium Term Plan which defines the financial
and non-financial targets within our agreed risk appetite over a three year period.
The annual bonus for Executive Directors is deferred into shares and released over a period of not less than two years,
helping to increase alignment with shareholders. These deferrals are subject to malus in the event of unsustainable
performance.
Executives are also aligned with shareholders through the LTIP, which pays out in shares to improve alignment with
shareholders based on performance against Group financial targets over a three year period.
We operate tough contract provisions relative to market practice, whereby no executive has an entitlement to more
than 12 months’ notice (not taking into account recruitment provisions), pay in lieu of notice is limited to basic salary,
is paid monthly over 12 months and is mitigated if the executive gets another job. This approach avoids the risk
of payment for failure. These requirements are among the toughest in the FTSE 100.
A prudent approach to
risk management
Economic profit measures profit relative to the risk taken to generate that profit. Its use in our incentive plans
encourages executives to take a prudent approach to risk.
We also have non-financial measures of performance against risk objectives in both the annual and long-term plans
for executives.
For the 2010 annual incentive plan we increased the alignment to long-term prudent risk management by deferring
100 per cent of the award subject to malus over two years. If the performance is unsustainable during the deferral
period some or all of the award may be forfeited.
We have a robust governance framework with an independent Remuneration Committee reviewing all compensation
decisions for senior executives. This approach to governance and review is cascaded through the organisation. We
also ensure that all control function employees are assessed and their remuneration determined jointly by the relevant
business Director and the control function Director. Senior risk and compliance officers are also reviewed by the
Remuneration Committee.
128
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REMUNERATION REPORT
Policy objective
How achieved
Cost effective packages
to attract and retain
executives
We aim to ensure that the totality of remuneration for executive directors is competitive against our benchmark groups.
These groups are other major UK banks and the top 20 companies in the FTSE 100, reflecting practices in large UK
companies across all sectors. We aim to be competitively but conservatively positioned against the market, although
for executive directors we have taken the decision to adopt a position that is behind market for 2011 in view of
public concern.
We select incentive plan targets that are directly linked to the business strategy and priorities, ensuring alignment with
company performance, targets that are meaningful to executives and incentive packages that are valued by executives
and cost effective.
SUMMARY
Following extensive consultation with shareholders, the Remuneration Committee is proposing a package for Executive Directors for 2011 that is
closely based on the structure and principles of 2010 as follows:
Element
Base salary
Level/design for 2011
Key purpose
Base pay should be set relative to FTSE 20 and banking
sector competitors
In light of circumstances, there will be increases to base salaries in
line with the wider population of employees resulting in a lower
quartile position
Annual incentive
200 per cent of salary maximum (225 per cent for the
Group Chief Executive)
Long-term
incentive plan
Based on Group financial targets relating to profit before tax and
economic profit as well as balanced scorecard measures covering
divisional financial targets, customers (e.g. SME lending), people,
risk and building the business
Subject to deferral and malus in line with FSA requirements
Annual awards of up to 300 per cent of salary vesting based
on financial measures including Economic Profit and EPS and
alignment with shareholders based on absolute TSR
A higher award will be made to António Horta-Osório as detailed
on page 129
Pension
Defined contribution pension provision for new entrants
From April 2012, any executive director in office at that time with
a legacy final salary pension will move to a defined contribution
pension arrangement
To provide the basis for a competitive package
Alignment with Group performance
Motivation of executives
Pay for performance
Alignment with sound risk management
Motivation and retention of executives
Alignment with sound risk management
Alignment with long-term shareholder interests
Enable executives to build long-term
retirement savings
Retention
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
Corporate governance report
Directors’ remuneration
report
110
112
114
124
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
129
Lloyds Banking Group
Annual Report
and Accounts 2010
GROUP CHIEF EXECUTIVE TRANSITION
Eric Daniels
On 20 September 2010, Eric Daniels announced his intention to retire from Lloyds Banking Group on 30 September 2011. Mr Daniels will stand down
from the Board on 28 February 2011.
He will continue to receive his basic salary, pension contribution and other benefits under the terms of his contract until retirement. 100 per cent of his
bonus received in respect of 2010 will be deferred into shares in two equal tranches, vesting in March 2013 and March 2014 and subject in part to a
holding period on vesting.
His outstanding long-term incentive awards will continue to vest at the end of the relevant three year performance period to the extent the
performance conditions have been met and will be pro-rated for service.
António Horta-Osório
António Horta-Osório was appointed to the Board on 17 January 2011 and succeeds Eric Daniels as Group Chief Executive on 1 March 2011. In
line with the Group’s prudent remuneration policy and the current operating environment, his salary was set on recruitment at the same level as the
outgoing Group Chief Executive’s at £1,035,000. Recognising that this is behind the market, the committee decided to award an increase in line
with the the other Executive Directors, effective from his start date. He also has a ‘reference salary’ of £1,220,000 that will be used to calculate certain
elements of long-term remuneration, including his LTIP from 2012 and pension.
He will participate in the Group’s annual incentive scheme for the calendar year 2011. His annual bonus maximum opportunity for 2011 will be
225 per cent of basic salary. This will be subject to deferral on terms at a minimum in line with the FSA Code and the deferred element will be subject
to malus if the performance that generated the incentive is found to be unsustainable.
The Group agreed, as a condition of his accepting the appointment of Group Chief Executive on 1 March 2011, to grant him an LTIP award over the
Group’s shares with a market value equal to 420 per cent of his base salary as at 7 March.
His award will be made under Listing Rule 9.4(2) of the Listing Rules in order to facilitate his appointment as Group Chief Executive. The Board
considered that it was essential to the success of the recruitment process to make this LTIP award to him. The award is on similar terms to awards
granted under the LTIP including the performance conditions which will apply to LTIP awards granted in 2011 described on page 131.
He will be eligible for a pension allowance in respect of future service of 50 per cent of reference salary per annum including his flexible benefit
allowance. He has the option to take this as a cash allowance or contribution to a pension scheme/vehicle. He has been granted a number of one-off
awards to compensate him for outstanding share and cash awards forfeited on his resignation from the Santander Group. These include:
– Performance shares of 1,707,763 due to vest in 2013 subject to the Group’s TSR performance against sector peer group, broadly equivalent to the
performance conditions of Santander Group
– Restricted shares of 4,348,029 due to vest between 2011 – 2013 subject to remaining in employment
– Cash amounting to £516,000 vesting in three equal tranches in 2011 – 2013
The awards above vest in different proportions at different times to reflect the vesting periods of the Santander Group share awards which the awards
replace. On his resignation from Banco Santander, he suffered significant loss in relation to his previous pension accrual. Lloyds Banking Group will
compensate him in part for the loss of this income through the provision of an unfunded unapproved retirement benefit scheme (UURBS) up to a
maximum of 26.5 per cent of base salary. If he achieves the performance conditions described below at the maximum level, the pension accrued
would still only represent 60 per cent of the pension forfeited by him. This pension is payable from retirement at age 65.
In order to fully promote alignment with shareholders, this pension provision will accrue over the first six years’ of service and is entirely dependent on
the achievement of share price targets as follows:
– At retirement, a percentage of reference salary (or basic salary if higher) for each of the first five calendar years of employment if in the last 90 days
of that year the average share price of Lloyds Banking Group exceeds 75p (‘Average Share Price’). The percentage applicable is 4 per cent in year 1,
3.5 per cent in year 2 and 3 per cent in years 3, 4 and 5.
– Plus an additional 2 per cent for each year if the Average Share Price exceeds:
– Year 1: 90p
– Year 2: 102p
– Years 3-5 inclusive: 114p
– If at the end of the fifth year of employment the aggregate percentage pension accrued is less than 26.5 per cent, he may accrue up to a further
4.5 per cent in the sixth year (to an overall maximum of 26.5 per cent of base salary) if the Average Share Price for that year exceeds 75p and up to
a further 2 per cent if the Average Share Price for that year exceeds 114p.
130
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REMUNERATION REPORT
BASE SALARY
Base salaries are reviewed annually, taking into account individual performance and market information (which is provided by Towers Watson
and supplemented with information from Deloitte LLP) and normally adjusted from 1 January of the relevant year. The remuneration committee
confirmed during the 2010 review that the FTSE 20 was the most appropriate comparator group to use to benchmark overall competitiveness of
the remuneration package whilst taking particular account of the remuneration practice of our direct competitors, namely the major UK banks.
Our review showed that salary levels are significantly below market. However, we have continued to show restraint and made a moderate increase
to base salaries in 2011, in line with the salary increase budget for other employees in the Group.
Name
As at 1 January 2011
As at 1 January 2010
1
With effect from 17 January 2011
J E Daniels
£1,035,000
£1,035,000
António
Horta-Osório
1
£1,061,000
–
A G Kane
£601,800
£590,000
G T Tate
T J W Tookey
H A Weir
£656,000
£640,000
£615,000
£600,000
£641,000
£625,000
ANNUAL INCENTIVE PLAN
The annual incentive scheme for Executive Directors is designed to reflect specific goals linked to the performance of the business.
Incentive awards for Executive Directors are based upon individual contribution and overall corporate results. Incentive opportunity is driven by
corporate performance based on profit before tax and economic profit, together with divisional achievement and individual performance. Individual
targets relevant to improving overall business performance are contained in a balanced scorecard and are grouped under the following headings:
– Financial
– Building the Business
– Customer service
– Risk
– People development
These targets are weighted differently for each of the Executive Directors, reflecting differing strategic priorities. The non-financial measures include
key performance indicators relating to risk management, SME lending, process efficiency, service quality and employee engagement.
The remuneration committee believes that the structure of the incentive – in particular the use of risk-adjusted and non-financial measures – has been
highly successful in promoting a long-term focus within the senior management team.
The maximum annual incentive opportunity is 200 per cent (225 per cent for the Group Chief Executive) of basic salary for the achievement of
exceptional performance targets.
Consistent with the aim of ensuring that short-term financial results are only rewarded if they promote sustainable growth, the 2010 annual incentive
is subject to deferral in shares until at least March 2013. This deferred amount is subject to malus if the performance that generated the incentive is
found to be unsustainable.
The committee reserves the right to exercise its discretion in reducing any payment that otherwise would have been earned, if they deem
this appropriate.
The key achievements of the Group are set out in the Group Chief Executive’s review on pages 8 and 9 of this Annual Report.
The calculation of the annual incentive plan outcomes for Executive Directors, based on the achievement of performance against targets in respect
of performance in 2010, has been vigorously discussed by the Remuneration Committee. The bonuses awarded to directors are shown in the
table below:
Name
Maximum Opportunity
% awarded for 2010
Bonus awarded for 2010
J E Daniels
A G Kane
G T Tate
T J W Tookey
H A Weir
225%
140%
200%
130%
200%
164%
200%
157%
200%
140%
£1,450,000
£767,000
£1,050,000
£942,000
£875,000
130
Lloyds Banking Group
Annual Report
and Accounts 2010
DiRectoRs’ RemuneRAtion RepoRt
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
strategy and progress
chairman’s statement
Group chief executive’s review
Addressing the key issues
marketplace trends
1
2
3
4
6
8
10
12
summary of Group results
Divisional results
other financial information
Five year financial summary
our people
corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
corporate governance report
Directors’ remuneration
report
110
112
114
124
Report of the independent
auditors on the consolidated
financial statements
consolidated
financial statements
notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
parent company financial
statements
notes to the parent company
financial statements
144
146
153
272
273
276
shareholder information
Glossary
Abbreviations
index to annual report
284
285
290
291
131
Lloyds Banking Group
Annual Report
and Accounts 2010
LONG-TERM INCENTIVE AWARD
the current Ltip rules allow for awards to be made of up to 400 per cent of base salary. under normal circumstances, awards can be made of up
to 300 per cent of salary with the additional 100 per cent available for circumstances that the Remuneration committee deems to be exceptional.
in 2010, awards were made of up to 275 per cent of base salary to the executive directors. in 2011, the committee intends to make awards of
300 per cent of salary. As noted, for António Horta-osório his award for 2011 will be 420 per cent of his base salary.
LONG-TERM INCENTIVE PERFORMANCE MEASURES
During the 2010 review, the committee was particularly mindful of driving sustainable performance through the cycle without encouraging excessive
risk taking. the committee has consulted widely with shareholders on the topic of performance measures and sharing the growth in the company
appropriately between shareholders and management. the committee believes that the performance measures for the 2011 Ltip award for the
executive committee should be economic profit (ep), earnings per share (eps) and absolute total shareholder Return. these measures capture risk
measurement, profit growth and shareholder experience and align shareholder experience and management reward.
At this time the committee is not in a position to determine the metrics that will attach to these performance measures as the new Group chief
executive is completing a strategic review of the business. We believe it is critical to ensure that the 2011 Ltip is aligned with the new strategic
direction of the company and the goals we will set for ourselves over the medium term. therefore the committee intends to determine the
appropriately stretching and challenging metrics following the completion of the strategic review and to consult with shareholders on the metrics
during the summer prior to communicating them to participants. the committee recognise this is an unusual approach but given the circumstances
believe it is the best way to align management reward and the strategy over the next three years.
the metrics set by the committee following the strategic review and consultation with major shareholders will be put to the annual general meeting
in 2012 for approval.
Details of current Ltip awards are provided on page 139.
PENSION
executive directors are entitled to participate in the Group’s defined contribution scheme (under which their pension entitlement will be based upon
both employer and employee contributions). company contributions are 25 per cent of salary, with the exception of António Horta-osório who is
eligible for 50 per cent of reference salary, including his flexible benefit allowance. these can be taken as cash or pension contributions.
At the date of this report, two executive directors remain in a defined benefit scheme. pension accruals under the defined benefits scheme
for eric Daniels and Archie Kane will continue until the date of retirement or April 2012 whichever is earlier. thereafter Archie Kane will have
the opportunity to either participate in a defined contribution scheme or to receive a cash supplement with no compensation for ceasing final
salary accrual. there is no entitlement to an immediate and unreduced pension should their employment be terminated before the normal date
of retirement. the defined benefit schemes are closed to new entrants.
Details of pension contributions and accruals are shown on page 135.
OTHER SHARE PLANS
the executive directors are also eligible to participate in the Group’s ‘sharesave’ and ‘share incentive’ plans. these are ‘all-employee’ share plans.
SHAREHOLDING GUIDELINES
executives are required to build up a holding in Lloyds Banking Group shares of value equal to 1.5 times gross salary (2 times gross salary for the
Group chief executive). they are expected to retain 100 per cent of the net-of-tax proceeds of the 2009 Ltip until they reach this target. in addition
they are required to retain any shares vesting from the share price performance element of the 2010 Ltip for a further two years post vesting.
CHAIRMAN’S REMUNERATION
the chairman’s remuneration comprises salary and benefits. He does not participate in the annual bonus and long-term incentive arrangements,
nor is he entitled to pension benefits.
the chairman’s salary was reviewed as part of the remuneration review in 2010. the review took into account market information and also the
significant amount of time the chairman would be expected to focus on the Group’s activities particularly during the current period. Following
this review, it was determined to maintain the chairman’s salary at £700,000 per annum.
132
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REMUNERATION REPORT
INDEPENDENT NON-EXECUTIVE DIRECTORS’ FEES
The fees of the Independent Non-Executive Directors are agreed by the Board within a total amount determined by the shareholders. Non-Executive
Directors may also receive fees, agreed by the Board, for membership of Board Committees. The fees are designed to recognise the various
responsibilities of a Non-Executive Director’s role and to attract individuals with relevant skills, knowledge and experience. The fees are neither
performance related nor pensionable and are comparable with those paid by other companies. The annual fees were reviewed in 2010 and remain
unchanged as listed below.
Non-Executive Director – base fee
Senior Independent Director
Audit Committee Chairmanship
Audit Committee Membership
Remuneration Committee Chairmanship
Remuneration Committee Membership
Risk Committee Chairmanship
Risk Committee Membership
Nomination & Governance Committee Membership
£65,000
£50,000
£50,000
£20,000
£30,000
£15,000
£40,000
£15,000
£5,000
In the case of the Nomination & Governance Committee, membership currently comprises the Deputy Chairman, Senior Independent Director and
chairs of the Board Committees (the fees for which include membership of the Nomination & Governance Committee) and one other Independent
Non-Executive Director. Only this director receives an attendance fee, which is £5,000.
Independent Non-Executive Directors who serve on the Boards of subsidiary companies may also receive fees from the subsidiaries.
2010 NON-EXECUTIVE DIRECTORS’ FEES (£)
W C G Berndt
(until 6 May 2010)
A M Frew
(from 1 December 2010)
Sir Julian Horn-Smith
Lord Leitch2
G R Moreno
(from 1 March 2010)
D L Roberts
(from 1 March 2010)
T T Ryan
M A Scicluna
Anthony Watson3
Scottish Widows Services Limited
Senior
Independent
Director
Board
Audit
Committee
Remunera-
tion
Committee
Nomination &
Governance
Committee
Risk
Oversight
Committee
SW Board
fees1
2010
Total
22,698
5,417
65,000
187,494
10,726
1,497
1,667
1,250
15,000
5,000
15,000
34,921
8,334
100,000
16,666
12,506
90,910
307,576
54,167
50,000
3,333
6,667
20,000
134,167
54,167
65,000
65,000
65,000
16,667
12,500
20,000
12,500
50,000
20,000
22,321
20,833
15,000
15,000
7,500
104,167
112,500
130,000
114,821
Lord Leitch’s composite fee of £300,000 was amended to a fee of £200,000 from 1 March plus a £60,000 fee for Scottish Widows Services Ltd. The Scottish Widows fee was increased to £120,000 from
27 April 2010. Lord Leitch stood down as Senior Independent Director on 28 February 2010.
Appointed Chairman of the Remuneration Committee in May 2010.
DILUTION LIMITS
The following charts illustrate the shares available for the Group’s share plans.
ALL PLANS (10% OF THE ISSUED ORDINARY SHARE CAPITAL OF THE GROUP IN ANY CONSECUTIVE 10 YEARS)
489.2
2009
2010
1,255.1
5,888.3
5,552.3
Shares used (million)
Shares available (million)
EXECUTIVE PLANS (5% OF THE ISSUED ORDINARY SHARE CAPITAL OF THE GROUP IN ANY CONSECUTIVE 10 YEARS)
2009
0.000000
244.0
2010
481.0
2,944.7
2944.699951
2,922.7
Shares used (million)
Shares available (million)
1
2
3
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
Corporate governance report
Directors’ remuneration
report
110
112
114
124
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
133
Lloyds Banking Group
Annual Report
and Accounts 2010
SERVICE AGREEMENTS
The Group’s policy is for Executive Directors to have service agreements with notice periods of no more than one year. All current Executive Directors
are entitled to receive 12 months’ notice from the Group, but would be required to give six months’ notice if they wished to leave.
It is the Group’s policy that where compensation on early termination is due, it should be paid on a phased basis, mitigated in the event that
alternative employment is secured, and that bonus payments should relate to the period of actual service, rather than the full notice period, and will
be determined on the basis of performance.
Any entitlements under the pension scheme or equity plans will be in accordance with the scheme rules on leaving.
Notice to be given by the Company
Date of service agreement/letter of appointment
Sir Winfried Bischoff
J E Daniels
António Horta-Osório
A G Kane
G T Tate
T J W Tookey
H A Weir
6 months
12 months
24 months
12 months
12 months
12 months
12 months
27 July 2009
22 January 2009
3 November 2010
23 January 2009
9 February 2009
26 January 2009
21 January 2009
António Horta-Osório’s initial contract will be for a two year term, diminishing to 12 months notice over the first year of employment.
Independent Non-Executive Directors do not have service agreements and their appointment may be terminated, in accordance with the articles of
association, at any time without compensation.
EXTERNAL APPOINTMENTS
The Group recognises that Executive Directors may be invited to become Non-Executive Directors of other companies and that these appointments
may broaden their knowledge and experience, to the benefit of the Group. Fees are normally retained by the individual directors as the post entails
personal responsibility.
Executive Directors are generally allowed to accept one Non-Executive Directorship.
During 2010, Eric Daniels received fees of £75,000 which was retained by him, for serving as Non-Executive Director of BT plc.
PERFORMANCE GRAPH
The graph below illustrates the performance of the Group measured by TSR against a ‘broad equity market index’ over the past five years.
The Group has been a constituent of the FTSE 100 index throughout this five year period.
TOTAL SHAREHOLDER RETURN – FTSE 100 INDEX
150
125
100
75
50
25
0
31 Dec
2005
31 Dec
2006
31 Dec
2007
31 Dec
2008
31 Dec
2009
31 Dec
2010
Lloyds Banking Group plc
Rebased to 100 on 31 December 2005
FTSE 100 Index
Source: Alithos Limited
134
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REMUNERATION REPORT
AUDITED INFORMATION
DIRECTORS’ EMOLUMENTS FOR 2010
Current directors who served during 2010
Executive Directors
J E Daniels
A G Kane
G T Tate
T J W Tookey
H A Weir
Non-Executive Directors
Sir Winfried Bischoff
A M Frew (from 1 December 2010)
Sir Julian Horn-Smith
Lord Leitch
G R Moreno (from 1 March 2010)
D L Roberts (from 1 March 2010)
T T Ryan
M A Scicluna
Anthony Watson
Former director who served during 2010
W C G Berndt (until 6 May 2010)
Others
Salaries/
fees
£000
1,035
590
640
600
625
700
8
100
308
134
104
113
130
115
35
Other benefits
Cash
£0001
Non-cash
£0002
Performance-
related
payments
£0003
9
27
28
1
21
1,450
767
1,050
942
875
78
24
27
36
57
12
2010
Total
£000
2,572
1,408
1,745
1,579
1,578
712
8
100
308
134
104
113
130
115
35
5,237
234
86
5,084
10,641
2009
Total
£000
1,121
1,523
1,807
1,736
1,767
211
100
249
83
121
71
100
1,011
9,900
1
2
3
The cash column under ‘other benefits’ includes flexible benefits payments (4 per cent of basic salary), the tax planning allowance for Eric Daniels, payments to certain directors who elect to take cash
rather than a company car under the car scheme and a spouse’s travel allowance for Truett Tate.
The non cash column includes amounts relating to the use of a company car, use of a company driver and private medical insurance. It also includes the value of any matching shares which are
received under the terms of Sharematch, through which employees have the opportunity to purchase shares up to a maximum of £125 per month and receive matching shares on a one for one
basis up to a maximum value of £30 per month, rounded down to the nearest whole share.
Bonuses awarded in respect of 2010 performance will be subject to 100 per cent deferral into shares until at least March 2013.
Sir Victor Blank was entitled to the use of his company car until 30 April 2010, resulting in a benefit in kind tax charge of £10,490.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
Corporate governance report
Directors’ remuneration
report
110
112
114
124
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
135
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
DIRECTORS’ PENSIONS
The Executive Directors are currently members of one of the pension schemes provided by Lloyds TSB Group with benefits either on a defined
benefit or defined contribution basis. Those directors who joined Lloyds TSB Group after 1 June 1989 and are members of a defined benefit scheme
have pensions provided on salary in excess of the earnings cap through membership of or by an unfunded pension promise. Retirement pensions
accrue at rates of between 1/60 and 1/30 of basic salary.
For those Directors who are members of a defined benefit pension scheme, pension will continue to accrue until 5 April 2012, or the date of leaving
if earlier. On 6 April 2012, defined benefit pension accrual will cease and Directors will be offered the option to participate in the defined contribution
pension scheme in operation at that date. Alternatively, they may choose not to join the scheme and elect to receive a pension cash allowance.
DEFINED CONTRIBUTION SCHEME MEMBERS
During the year to 31 December 2010 the Group has made the following contributions to the defined contribution scheme:
G T Tate
T J W Tookey
H A Weir
£000
160
150
125
DEFINED BENEFIT SCHEME MEMBERS
Accrued
pension at
31 December
2010
£000
(a)
210
372
Accrued
pension at
31 December
2009
£000
(b)
193
357
Change in
accrued
pension
£000
(a)-(b)
17
15
Transfer
value at
31 December
2010
£000
(c)
5,030
8,657
Transfer
value at
31 December
2009
£000
(d)
3,844
6,889
J E Daniels
A G Kane
The disclosures in columns (a) to (d) are as required under section 421 of the Companies Act 2006.
Change in
transfer
value
£000
(c)-(d)
1,186
1,768
Additional
pension
earned to
31 December
2010
£000
(e)
17
15
Transfer
value of the
increase
£000
(f)
413
342
Columns (a) and (b) represent the deferred pension to which the directors would have been entitled had they left the Group on 31 December 2010
and 2009, respectively.
Column (c) is the transfer value of the deferred pension in column (a) calculated as at 31 December 2010 based on factors supplied by the actuary of
the relevant Lloyds TSB Group pension scheme.
Column (d) is the equivalent transfer value, but calculated as at 31 December 2009 on the assumption that the director left service at that date.
Column (e) is the increase in pension built up during the year, recognising (i) the accrual rate for the additional service based on the pensionable
salary in force at the year end, and (ii) where appropriate the effect of pay changes in ‘real’ (inflation adjusted) terms on the pension already earned at
the start of the year.
Column (f) is the capital value of the pension in column (e).
The disclosures in columns (e) and (f) are as required by the UK Listing Authority listing rules. The requirements of the listing rules differ from those
of the Companies Act. The listing rules require the additional pension earned over the year to be calculated as the difference between the pension
accrued at the end of the financial year and the pension accrued at the start of the financial year less the increase in the pension earned over the
year solely due to inflation. The transfer value in column (f) can differ significantly from the change in transfer value as required by the Companies Act
because the additional pension accrued over the year calculated in accordance with the listing rules makes allowance for inflation, and the change
in the transfer value required by the Companies Act will be significantly influenced by changes in the assumptions underlying the transfer value
calculation at the beginning and end of the financial year.
Members of the Lloyds TSB Group’s pension schemes have the option to pay additional voluntary contributions: neither the contributions nor the
resulting benefits are included in the above table.
Major changes to the legislation governing the provision of pensions in the UK (known as pension simplification) came into effect in April 2006.
Benefits from an approved pension scheme will be limited to the Lifetime Allowance, currently £1.8 million which is equivalent to an annual pension
of £90,000. Any benefit in excess of this amount will incur a tax charge for the individual. The Government has announced that the life time allowance
will decrease to £1.5 million from April 2012. The Group has agreed that if an Executive Director has benefits in excess of the Lifetime Allowance they
may cease to accrue benefits in the Scheme and receive a salary supplement as an alternative. This will not cost the Group more than the current
arrangements. The Group will not compensate any individual in respect of any increased tax liability arising from pension simplification. To date, the
Executive Directors affected have elected to continue to accrue benefits in the approved scheme.
136
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REMUNERATION REPORT
AUDITED INFORMATION
DIRECTORS’ INTERESTS
The beneficial interests, of those who were directors at 31 December 2010 in ordinary shares of Lloyds Banking Group were:
NUMBER OF SHARES
Executive Directors
J E Daniels
A G Kane
G T Tate
T J W Tookey
H A Weir
Non-Executive Directors
Sir Winfried Bischoff
A M Frew
Sir Julian Horn-Smith
Lord Leitch
G R Moreno
D L Roberts
T T Ryan
M A Scicluna
Anthony Watson
At 1 January 2010
(or later date of
appointment)
At 31 December
2010
At 24 February1
2011
2,557,816
1,224,960
526,061
97,727
425,162
2,560,770
1,227,914
529,015
123,891
428,116
2,561,234
1,228,378
529,480
124,355
428,580
585,000
800,000
–
27,890
55,787
200,000
–
75,877
56,226
51,357
–
227,890
55,787
500,000
378,670
100,877
56,226
226,357
1
The changes in beneficial interests between 31 December 2010 and 24 February 2011 related to ‘partnership’ and ‘matching’ shares acquired under the Lloyds Banking Group Share Incentive Plan.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
Corporate governance report
Directors’ remuneration
report
110
112
114
124
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
137
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
INTERESTS IN SHARE OPTIONS
Granted
during
the year
Exercised
during
the year
Lapsed
during
Share
the year
adjustment
At
31 December
2010
J E Daniels
A G Kane
G T Tate
At
1 January
2010
131,484
430,547
6,906
–
–
–
–
19,399
64,786
11,841
34,759
73,255
247,891
6,906
–
–
–
–
–
–
–
19,399
64,400
27,357
247,891
6,906
–
–
–
–
T J W Tookey
6,906
–
–
19,399
–
19,399
77,868
247,891
6,906
–
–
–
–
19,399
H A Weir
a Sharesave.
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
133,567
265,051
437,367
867,914
6,906
–
64,786
11,841
–
–
–
–
–
19,399
–
–
–
–
–
35,309
70,068
74,414
147,669
251,818
499,709
6,906
–
–
–
–
6,906
–
6,906
–
–
–
6,906
–
–
–
–
19,399
65,420
129,820
27,790
55,147
251,818
499,709
–
–
–
–
–
19,399
-
19,399
79,100
156,968
251,818
499,709
–
–
–
19,399
Exercise
price
207.97p
235.26p
68.95p
46.78p
549.5p
615.5p
324.92p
207.97p
235.26p
68.95p
46.78p
207.97p
199.91p
235.26p
68.95p
46.78p
68.95p
46.78p
210.70p
235.26p
68.95p
46.78p
Exercise periods
From
To
Notes
18/3/2007
17/3/2014
17/3/2008
16/3/2015
–
–
1/6/2013 30/11/2013
6/3/2003
5/3/2010
8/8/2003
7/8/2010
6/3/2004
5/3/2011
18/3/2007
17/3/2014
17/3/2008
16/3/2015
–
–
1/6/2013 30/11/2013
18/3/2007
17/3/2014
12/8/2007
11/8/2014
17/3/2008
16/3/2015
–
–
1/6/2013 30/11/2013
–
–
1/6/2013 30/11/2013
29/4/2007
28/4/2014
17/3/2008
16/3/2015
–
–
1/6/2013 30/11/2013
c, e, i
d, e, i
a, h
a, g
b, f
b, f
b, i
c, e, i
d, e, i
a, h
a, g
c, e, i
c, e, i
d, e, i
a, h
a, g
a, h
a, g
c, e, i
d, e, i
a, h
a, g
b Executive option granted between March 2000 and March 2001.
c Executive option granted between March 2004 and August 2004.
d Executive option granted from March 2005.
e Exercisable to the extent at which the performance condition vested.
f Lapsed on 10th anniversary of date of grant as the performance conditions had not been met.
g Not exercisable as the option has not been held for the period required by the relevant scheme.
h Options lapsed as sharesave contract was cancelled.
i Options granted under these plans were adjusted on 13 August 2010, as a result of the capital raising activities of 2009. The adjustment was made using a standard HMRC formula, to negate the
dilutionary impact of the capital raising events.
None of the other directors at 31 December 2010 had options to acquire shares in Lloyds Banking Group plc or its subsidiaries.
The market price for a share in the Company at 1 January 2010 and 31 December 2010 was 50.69p and 65.70p, respectively. The range of prices
between 1 January 2010 and 31 December 2010 was 46.58p to 78.40p.
The following table contains information on the performance conditions for executive options granted since 2000. The Remuneration Committee
chose the relevant performance conditions because they were felt to be challenging, aligned to shareholders’ interests and appropriate at the time.
138
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REMUNERATION REPORT
AUDITED INFORMATION
Options granted
Performance conditions
March 2000 – March 2001
Growth in earnings per share which is equal to the aggregate percentage change in the retail price index
plus three percentage points for each complete year of the relevant period plus a further condition that the
Company’s ranking based on TSR over the relevant period should be in the top 50 companies of the FTSE 100.
March 2004 – August 2004
March 2005 – August 2005
As the performance conditions for those options granted in March 2000 and August 2000 were not met, the
options lapsed in March 2010 and August 2010 respectively.
That the Company’s ranking based on TSR over the relevant period against a comparator group
(17 UK and international financial services companies including Lloyds Banking Group) must be at least ninth,
when 14 per cent of the option will be exercisable. If the Company is ranked first in the group, then 100 per cent
of the option will be exercisable and if ranked tenth or below the performance condition is not met.
Options granted in 2004 became exercisable as the performance condition was met on the re-test.
The performance condition vested at 24 per cent for Truett Tate’s March option and at 14 per cent for all other
options granted to Executive Directors during 2004.
That the Company’s ranking based on TSR over the relevant period against a comparator group (15 companies
including Lloyds Banking Group) must be at least eighth, when 30 per cent of the option will be exercisable.
If the Company is ranked first to fourth position in the group, then 100 per cent of the option will be exercisable
and if ranked ninth or below, the performance condition is not met.
Options granted in 2005 became exercisable as the performance condition was met when tested.
Grants vested at 82.5 per cent for all options granted to Executive Directors.
LLOYDS TSB EXECUTIVE RETENTION PLAN 2006
On 26 March 2008 (prior to his appointment as an Executive Director), Tim Tookey was granted an award under the Lloyds TSB Executive Retention
Plan 2006. The award is satisfied in cash only and, subject to continued employment, gives him the right to receive an amount equal to the total value
of 218,400 Lloyds Banking Group shares on the dates of vesting, as adjusted in August 2010 as a result of various corporate actions in 2009 on the
same basis as the Lloyds TSB Long Term Incentive Plan. The award vests as to 50 per cent on 26 March 2011 and 50 per cent on 26 March 2013. He
has agreed to reinvest the cash proceeds into Lloyds Banking Group shares. As an Executive Director, he is no longer eligible to be granted awards
under this plan.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
Corporate governance report
Directors’ remuneration
report
110
112
114
124
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
139
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
LLOYDS TSB LONG-TERM INCENTIVE PLAN
The following table shows conditional shares awarded under the plan. Further information regarding this plan can be found on pages 140 and 141.
At
1 January
2010
Awarded
during
the year
Vested
during
the year
Lapsed
during
the year
Share
adjustment
J E Daniels
A G Kane
G T Tate
T J W Tookey
H A Weir
699,725
1,098,372
1,496,843
2,245,265
–
–
–
–
–
5,135,781
400,884
541,252
853,273
1,279,909
–
–
–
–
–
2,927,643
437,328
679,186
925,583
1,388,376
–
–
–
–
–
3,175,748
69,242
93,266
867,735
1,301,603
–
–
–
–
–
2,977,264
419,106
663,267
903,891
1,355,836
–
–
–
–
–
3,101,317
At
31 December
2010
–
699,725
–
–
–
–
–
400,884
–
–
–
–
437,328
592,385
1,690,757
807,292
2,304,135
1,210,939
3,456,204
–
–
5,135,781
–
291,913
833,165
460,196
1,313,469
690,293
1,970,202
–
–
2,927,643
–
–
–
–
–
366,305
1,045,491
499,195
1,424,778
748,793
2,137,169
–
3,175,748
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
39,339
73,545
37,344
–
–
–
–
–
–
–
–
–
–
–
–
–
–
419,106
50,301
143,567
467,995
1,335,730
701,994
2,003,597
–
–
2,977,264
–
–
–
–
–
357,720
1,020,987
487,495
1,391,386
731,243
2,087,079
–
3,101,317
Year of
vesting
Notes
2010
2011
2012
2012
2013
2010
2011
2012
2012
2013
2010
2011
2012
2012
2013
2010
2011
2012
2012
2013
2010
2011
2012
2012
2013
a, b
a, c
a, c
e
a, b
a, c
a, c
e
a, b
a, c
a, c
e
d
a, b
a, c
a, c
e
a, b
a, c
a, c
e
a Conditional awards of shares made under this plan prior to 2010 were adjusted on 13 August 2010 as a result of the Capitalisation Issue and Rights Issue of 2009. These adjustments were made
using a standard HMRC formula, to negate the dilutionary impact of the above corporate actions.
b Award price adjusted to 229.55p from 353.36p.
c Award price adjusted to 35.93p from 55.31p.
d Award vested at 31 per cent for Tim Tookey as he was not a director at the time the award was made. At vesting his award was adjusted to 106,586 from 69,242 to reflect the Capitalisation Issue and
Rights Issue of 2009. The ‘vested during the year’ figure includes 6,298 dividend shares accumulated prior to the stopping of dividend payments. Award price adjusted to 267.3p from 539p. The
closing market price of the Group’s ordinary shares on the date of release was 64.05p.
e Share price on date of award 55.42p.
140
Lloyds Banking Group
Annual Report
and Accounts 2010
DIRECTORS’ REMUNERATION REPORT
AUDITED INFORMATION
The following table contains information on the performance conditions for awards made under the long-term incentive plan. The Remuneration
Committee chose the relevant performance conditions because they were felt to be challenging, aligned to shareholders’ interests and appropriate
at the time.
LTIP award
March 2007
Performance conditions
For 50 per cent of the award (the ‘EPS Award’) – the percentage increase in earnings per share of the Group
(on a compound annualised basis) over the relevant period needed to be at least an average of 6 percentage
points per annum greater than the percentage increase (if any) in the retail price index over the same period.
If it was less than 3 per cent per annum, the EPS Award would lapse. If the increase was more than 3 per cent
but less than 6 per cent per annum, then the proportion of shares released would be on a straight line basis
between 17.5 per cent and 100 per cent. The relevant period commenced on 1 January 2007 and ended on
31 December 2009.
For the other 50 per cent of the award (the ‘TSR Award’) – the Group’s TSR needed to exceed the median of
a comparator group (14 companies) over the relevant period by an average of 7.5 per cent per annum for the
TSR Award to vest in full. 17.5 per cent of the TSR Award would vest where the Group’s TSR was equal to median
and vesting would occur on a straight line basis in between these points. Where the Group’s TSR was below the
median of the comparator group, the TSR Award would lapse. The relevant period commenced on 8 March 2007
(the date of award) and ended on 7 March 2010.
At the end of the relevant period, neither of the performance conditions had been met and the Awards lapsed.
Tim Tookey was not an Executive Director when his award was made in 2007, and as such his award vested at
31 per cent on the same basis as other award recipients below the Group Executive Committee level.
March and April 2008
For 50 per cent of the award (the ‘EPS Award’) – the performance condition was as described for March 2007 with the
relevant performance period commencing on 1 January 2008 and ending on 31 December 2010.
For the other 50 per cent of the award (the ‘TSR Award’) – the performance condition was as described for
March 2007 with the relevant performance period commencing on 6 March 2008 (the date of the March award)
and ending on 5 March 2011.
April 2009
EPS: The release of 50 per cent of the shares will be dependent on the extent to which growth in EPS achieves
cumulative EPS targets over the three year period from January 2009 to December 2011.
Economic profit: The release of the remaining 50 per cent of shares will be dependent on the extent to which the
Group achieves cumulative Economic Profit targets over the three year period from January 2009 to December 2011.
As indicated in last year’s report, and as a consequence of the Group’s non participation in GAPS, in June 2010
the Remuneration Committee determined that it was appropriate for the performance measures relative to those
conditions to be restated:
EPS
Threshold
Maximum
Economic profit
Threshold
Maximum
Vesting %
25%
100%
Growth in EPS
26%
36%
Vesting %
Absolute improvement in adjusted EP
25%
100%
100%
202%
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
Five year financial summary
Our people
Corporate responsibility
Risk management
14
26
52
56
57
60
65
Board of Directors
Directors’ report
Corporate governance report
Directors’ remuneration
report
110
112
114
124
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
141
Lloyds Banking Group
Annual Report
and Accounts 2010
AUDITED INFORMATION
April 2009
Integration Award
March 2010
Synergy Savings: The release of 50 per cent of the shares will be dependent on the achievement of target
run-rate synergy savings in 2009 and 2010 as well as the achievement of sustainable synergy savings of at least
£1.5 billion by the end of 2011. The award will be broken down into three equally weighted annual tranches.
Performance will be assessed at the end of each year against annual performance targets based on a trajectory
to meet the 2011 target. The extent to which targets have been achieved will determine the proportion of shares
to be banked each year. Any release of shares will be subject to the Remuneration Committee judging the overall
success of the delivery of the integration programme.
Integration Balanced Scorecard: The release of the remaining 50 per cent of the shares will be dependent on
the outcome of a Balanced Scorecard of non-financial measures of the success of the integration in each of 2009,
2010 and 2011. The Balanced Scorecard element will be broken down into three equally weighted tranches.
The tranches will be crystallised and banked for each year of the performance cycle subject to separate annual
performance targets across the four measurement categories of Building the Business, Customer, Risk and
People and Organisation Development.
Performance for each of the first two years of the award has been assessed and all targets have been met or
exceeded.
EPS: Relevant to 36 per cent of the award. Performance will be measured based on absolute improvement in
adjusted EPS over the three financial years starting on 1 January 2010 relative to an adjusted fully diluted 2009
EPS base.
Economic Profit: Relevant to 36 per cent of the award. Performance will be measured based on the compound
annual growth rate of adjusted Economic Profit over the three financial years starting on 1 January 2010 relative
to 2009 adjusted Economic Profit base.
Absolute Share Price: Relevant to 28 per cent of the award. Performance will be measured based on the
Absolute Share Price on 26 March 2013, being the third anniversary of the award date.
The targets are:
EPS
Threshold
Maximum
Vesting between threshold and maximum will be on a straight line basis.
Economic profit
Threshold
Maximum
Vesting between threshold and maximum will be on a straight line basis.
Absolute Share Price
Threshold
Maximum
Vesting %
Absolute improvement in adjusted EPS
25%
100%
158%
180%
Vesting %
Compound annual growth rate of adjusted EP
25%
100%
Vesting %
0%
100%
57% p.a.
77% p.a.
Absolute Share Price
75p
114p
Vesting between threshold and maximum will be on a straight line basis, provided that shares comprised in the Absolute Share Price element of
the award may only be released if both the EPS and Economic Profit performance measures have been satisfied at the threshold level or above.
Alithos Limited provided information for the testing of the TSR performance conditions for the Company’s long-term incentive plan. EPS is the
Group’s normalised earnings per share as shown in the Group’s report and accounts, subject to such adjustments as the Remuneration Committee
regards as necessary for consistency.
None of those who were Directors at the end of the year had any other interest in the capital of Lloyds Banking Group plc or its subsidiaries.
The register of Directors’ interests, which is open to inspection, contains full particulars of Directors’ shareholdings and options to acquire shares
in Lloyds Banking Group.
On behalf of the Board
Harry F Baines
Company Secretary
24 February 2011
142
Lloyds Banking Group
Annual Report
and Accounts 2010
OTHER REMUNERATION DISCLOSURE
EMOLUMENTS OF THE FIVE HIGHEST PAID SENIOR EXECUTIVES
Fixed
Cash based
Total fixed
Variable1
Upfront cash
Deferred cash
Upfront shares
Deferred shares
Long term incentive plan
Total variable pay
Pension cost2
Total remuneration
1
£000
500
500
2
0
0
3,998
205
4,205
125
4,830
2
£000
735
735
2
0
0
1,200
927
2,129
184
3,048
Employee
3
£000
300
300
2
0
0
1,498
92
1,592
75
1,967
4
£000
480
480
2
0
0
658
263
923
120
1,523
5
£000
335
335
2
0
0
848
137
987
84
1,406
1
2
Variable pay in respect of performance year 2010.
Pension cost based on an average pension cost of 25 per cent of salary.
There were no sign-on or severance payments made in respect of this group
The aggregate remuneration of Directors and Senior Management (being members of the Group Executive Committee) for the year ended
31 December 2010 was £16,466,363
The aggregate amount set aside or accrued to provide pension, retirement or similar benefits for Directors and Senior Management for the year
ended 31 December 2010 was £1,273,750 based on average pension cost of 25 per cent of salary.
Executive Directors and members of Senior Management are generally subject to notice periods of up to 12 months. António Horta-Osório has a
notice period of 24 months diminishing to 12 months over the first year of his employment.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
143
Lloyds Banking Group
Annual Report
and Accounts 2010
SUMMARY OF GROUP RESULTS
FINANCIAL STATEMENTS
Report of the independent auditors on the consolidated financial statements 144Consolidated income statement 146Consolidated statement of comprehensive income 147Consolidated balance sheet 148Consolidated statement of changes in equity 150Consolidated cash flow statement 152Notes to the consolidated financial statements 1531. Basis of preparation2. Accounting policies3. Critical accounting estimates and judgements4. Segmental analysis 5. Net interest income6. Net fee and commission income7. Net trading income8. Insurance premium income9. Other operating income10. Insurance claims11. Operating expenses12. Impairment 13. Investments in joint ventures and associates14. Gain on acquisition in 200915. Loss on disposal of businesses16. Taxation17. Earnings per share18. Trading and other financial assets at fair value through profit or loss19. Derivative financial instruments20. Loans and advances to banks21. Loans and advances to customers22. Securitisations and covered bonds23. Special purpose entities24. Debt securities classified as loans and receivables25. Allowance for impairment losses on loans and receivables26. Available-for-sale financial assets27. Held-to-maturity investments 28. Investment properties29. Goodwill30. Value of in-force business31. Other intangible assets32. Tangible fixed assets33. Other assets34. Deposits from banks35. Customer deposits36. Trading and other financial liabilities at fair value through profit or loss37. Debt securities in issue38. Liabilities arising from insurance contracts and participating investment contracts39. Life insurance sensitivity analysis40. Liabilities arising from non-participating investment contracts 41. Unallocated surplus within insurance businesses42. Other liabilities 43. Retirement benefit obligations44. Deferred tax45. Other provisions 46. Subordinated liabilities47. Share capital48. Share premium account49. Other reserves50. Retained profits51. Ordinary dividends52. Share-based payments53. Related party transactions54. Contingent liabilities and commitments55. Financial instruments56. Financial risk management57. Consolidated cash flow statement58. Future accounting developments59. Post balance sheet events60. Approval of financial statementsReport of the independent auditors on the parent company financial statements 272Parent company balance sheet 273Parent company statement of changes in equity 274Parent company cash flow statement 275Notes to the parent company financial statements 2761. Accounting policies2. Deferred tax asset3. Amounts due from subsidiaries4. Share capital and share premium5. Other reserves6. Retained profits7. Subordinated liabilities 8. Debt securities in issue9. Related party transactions10. Financial instruments11. Post balance sheet events12. Approval of the financial statements and other information 144
Lloyds Banking Group
Annual Report
and Accounts 2010
REPORT OF THE INDEPENDENT AUDITORS ON THE
CONSOLIDATED FINANCIAL STATEMENTS
INDEPENDENT AUDITORS’ REPORT TO THE MEMBERS OF LLOYDS BANKING GROUP PLC
We have audited the group financial statements of Lloyds Banking Group plc for the year ended 31 December 2010 which comprise the
consolidated income statement, the consolidated statement of comprehensive income, the consolidated balance sheet, the consolidated statement
of changes in equity, the consolidated cash flow statement and the related notes. The financial reporting framework that has been applied in their
preparation is applicable law and International Financial Reporting Standards (IFRSs) as adopted by the European Union.
RESPECTIVE RESPONSIBILITIES OF DIRECTORS AND AUDITORS
As explained more fully in the Directors’ Responsibilities Statement on page 122, the directors are responsible for the preparation of the group
financial statements and for being satisfied that they give a true and fair view. Our responsibility is to audit and express an opinion on the group
financial statements in accordance with applicable law and International Standards on Auditing (UK and Ireland). Those standards require us to
comply with the Auditing Practices Board’s Ethical Standards for Auditors.
This report, including the opinions, has been prepared for and only for the Company’s members as a body in accordance with Chapter 3 of Part 16 of
the Companies Act 2006 and for no other purpose. We do not, in giving these opinions, accept or assume responsibility for any other purpose or to
any other person to whom this report is shown or into whose hands it may come save where expressly agreed by our prior consent in writing.
SCOPE OF THE AUDIT OF THE FINANCIAL STATEMENTS
An audit involves obtaining evidence about the amounts and disclosures in the financial statements sufficient to give reasonable assurance that the
financial statements are free from material misstatement, whether caused by fraud or error. This includes an assessment of: whether the accounting
policies are appropriate to the group’s circumstances and have been consistently applied and adequately disclosed; the reasonableness of significant
accounting estimates made by the directors; and the overall presentation of the financial statements.
OPINION ON FINANCIAL STATEMENTS
In our opinion the group financial statements:
– give a true and fair view of the state of the group’s affairs as at 31 December 2010 and of its loss and cash flows for the year then ended;
– have been properly prepared in accordance with IFRSs as adopted by the European Union; and
– have been prepared in accordance with the requirements of the Companies Act 2006 and Article 4 of the lAS Regulation.
OPINION ON OTHER MATTERS PRESCRIBED BY THE COMPANIES ACT 2006
In our opinion:
– the information given in the Directors’ Report for the financial year for which the group financial statements are prepared is consistent with the
group financial statements; and
– the information given in the Corporate Governance Statement set out on pages 114 to 123 with respect to internal control and risk management
systems and about share capital structures is consistent with the financial statements.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
144
146
153
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
272
273
276
145
Lloyds Banking Group
Annual Report
and Accounts 2010
MATTERS ON WHICH WE ARE REQUIRED TO REPORT BY EXCEPTION
We have nothing to report in respect of the following:
Under the Companies Act 2006 we are required to report to you if, in our opinion:
– certain disclosures of directors’ remuneration specified by law are not made; or
– we have not received all the information and explanations we require for our audit; or
– a corporate governance statement has not been prepared by the parent company.
Under the Listing Rules we are required to review:
– the directors’ statement, on page 113, in relation to going concern;
– the part of the Corporate Governance Statement relating to the company’s compliance with the nine provisions of the June 2008 Combined Code
specified for our review; and
– certain elements of the report to shareholders by the Board on directors’ remuneration.
OTHER MATTER
We have reported separately on the parent company financial statements of Lloyds Banking Group plc for the year ended 31 December 2010 and on
the information in the Directors’ Remuneration Report that is described as having been audited.
Ian Rankin
Senior Statutory Auditor
for and on behalf of PricewaterhouseCoopers LLP
Chartered Accountants and Statutory Auditors
Edinburgh
24 February 2011
(a)
The maintenance and integrity of the Lloyds Banking Group plc website is the responsibility of the directors; the work carried out by the auditors
does not involve consideration of these matters and, accordingly, the auditors accept no responsibility for any changes that may have occurred
to the financial statements since they were initially presented on the website.
(b) Legislation in the United Kingdom governing the preparation and dissemination of financial statements may differ from legislation in other
jurisdictions.
146
Lloyds Banking Group
Annual Report
and Accounts 2010
CONSOLIDATED INCOME STATEMENT
for the year ended 31 December 2010
Interest and similar income
Interest and similar expense
Net interest income
Fee and commission income
Fee and commission expense
Net fee and commission income
Net trading income
Insurance premium income
Other operating income
Other income
Total income
Insurance claims
Total income, net of insurance claims
Operating expenses
Trading surplus
Impairment
Share of results of joint ventures and associates
Gain on acquisition
Loss on disposal of businesses
Profit before tax
Taxation
(Loss) profit for the year
Profit attributable to non-controlling interests
(Loss) profit attributable to equity shareholders
(Loss) profit for the year
Basic earnings per share
Diluted earnings per share
Dividend per share for the year
Dividend for the year
The accompanying notes are an integral part of the consolidated financial statements.
Note
5
6
7
8
9
10
11
12
13
14
15
16
17
17
51
2010
£ million
29,340
(16,794)
12,546
4,415
(1,682)
2,733
15,724
8,148
4,316
30,921
43,467
(18,511)
24,956
(13,270)
11,686
(10,952)
(88)
–
(365)
281
(539)
(258)
62
(320)
(258)
(0.5)
p
(0.5)
p
–
–
2009
£ million
28,238
(19,212)
9,026
4,254
(1,517)
2,737
19,098
8,946
5,490
36,271
45,297
(22,019)
23,278
(15,984)
7,294
(16,673)
(752)
11,173
–
1,042
1,911
2,953
126
2,827
2,953
7.5p
7.5p
–
–
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
144
146
153
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
272
273
276
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
for the year ended 31 December 2010
147
Lloyds Banking Group
Annual Report
and Accounts 2010
(Loss) profit for the year
Other comprehensive income
Movements in revaluation reserve in respect of available-for-sale financial assets:
Change in fair value
Income statement transfers in respect of disposals
Income statement transfers in respect of impairment
Other income statement transfers
Taxation
Movement in cash flow hedging reserve:
Effective portion of changes in fair value taken to other comprehensive income
Net income statement transfers
Taxation
Currency translation differences:
Currency translation differences, before tax
Taxation
Other comprehensive income for the year, net of tax
Total comprehensive income for the year
Total comprehensive income attributable to non-controlling interests
Total comprehensive income attributable to equity shareholders
Total comprehensive income for the year
2010
£ million
(258)
2009
£ million
2,953
1,231
(399)
114
(110)
(343)
493
(1,048)
932
30
(86)
(129)
–
(129)
278
20
57
(37)
20
2,234
(97)
621
(93)
(417)
2,248
(530)
121
119
(290)
(37)
(182)
(219)
1,739
4,692
107
4,585
4,692
148
Lloyds Banking Group
Annual Report
and Accounts 2010
CONSOLIDATED BALANCE SHEET
at 31 December 2010
Assets
Cash and balances at central banks
Items in the course of collection from banks
Trading and other financial assets at fair value through profit or loss
Derivative financial instruments
Loans and receivables:
Loans and advances to banks
Loans and advances to customers
Debt securities
Available-for-sale financial assets
Held-to-maturity investments
Investment properties
Investments in joint ventures and associates
Goodwill
Value of in-force business
Other intangible assets
Tangible fixed assets
Current tax recoverable
Deferred tax assets
Retirement benefit assets
Other assets
Total assets
The accompanying notes are an integral part of the consolidated financial statements.
The directors approved the consolidated financial statements on 24 February 2011.
Sir Winfried Bischoff
Chairman
J Eric Daniels
Group Chief Executive
Tim J W Tookey
Group Finance Director
Note
2010
£ million
2009
£ million
38,115
1,368
156,191
50,777
30,272
592,597
25,735
648,604
42,955
7,905
5,997
429
2,016
7,367
3,496
8,190
621
4,164
736
38,994
1,579
150,011
49,928
35,361
626,969
32,652
694,982
46,602
–
4,757
479
2,016
6,685
4,087
9,224
680
5,006
–
12,643
991,574
12,225
1,027,255
18
19
20
21
24
26
27
28
13
29
30
31
32
44
43
33
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
144
146
153
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
272
273
276
149
Lloyds Banking Group
Annual Report
and Accounts 2010
CONSOLIDATED BALANCE SHEET
at 31 December 2010
Equity and liabilities
Liabilities
Deposits from banks
Customer deposits
Items in course of transmission to banks
Trading and other financial liabilities at fair value through profit or loss
Derivative financial instruments
Notes in circulation
Debt securities in issue
Liabilities arising from insurance contracts and participating investment contracts
Liabilities arising from non-participating investment contracts
Unallocated surplus within insurance businesses
Other liabilities
Retirement benefit obligations
Current tax liabilities
Deferred tax liabilities
Other provisions
Subordinated liabilities
Total liabilities
Equity
Share capital
Share premium account
Other reserves
Retained profits
Shareholders’ equity
Non-controlling interests
Total equity
Total equity and liabilities
The accompanying notes are an integral part of the consolidated financial statements.
1
Restated (see note 1).
Note
2010
£ million
20091
£ million
34
35
36
19
37
38
40
41
42
43
44
45
46
47
48
49
50
50,363
393,633
802
26,762
42,158
1,074
82,452
406,741
1,037
28,271
40,485
981
228,866
233,502
80,729
51,363
643
29,696
423
149
247
1,532
36,232
944,672
6,815
16,291
11,575
11,380
46,061
841
46,902
991,574
76,179
46,348
1,082
29,320
780
51
209
983
34,727
983,148
10,472
14,472
7,217
11,117
43,278
829
44,107
1,027,255
150
Lloyds Banking Group
Annual Report
and Accounts 2010
CONSOLIDATED STATEMENT OF CHANGES IN EQUITY
Balance at 1 January 2010
Comprehensive income
(Loss) profit for the year
Other comprehensive income
Movements in revaluation reserve in respect
of available-for-sale financial assets, net of tax
Movement in cash flow hedging reserve,
net of tax
Currency translation differences, net of tax
Total other comprehensive income
Total comprehensive income
Transactions with owners
Dividends
Issue of ordinary shares
Redemption of preference shares
Cancellation of deferred shares
Purchase/sale of treasury shares
Employee share option schemes:
Value of employee services
Change in non-controlling interests
Total transactions with owners
Balance at 31 December 2010
Attributable to equity shareholders
Share capital
and premium
£ million
24,944
Other
reserves
£ million
7,217
Retained
profits
£ million
11,117
Total
£ million
43,278
–
(320)
(320)
–
–
–
–
–
–
–
2,237
11
(4,086)
–
–
–
498
(86)
(129)
283
283
–
–
(11)
4,086
–
–
–
–
–
–
–
(320)
–
–
–
–
429
154
–
583
11,380
498
(86)
(129)
283
(37)
–
2,237
–
–
429
154
–
2,820
46,061
(1,838)
23,106
4,075
11,575
Non-controlling
interests
£ million
829
62
(5)
–
–
(5)
57
(47)
–
–
–
–
–
2
Total
£ million
44,107
(258)
493
(86)
(129)
278
20
(47)
2,237
–
–
429
154
2
(45)
841
2,775
46,902
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
144
146
153
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
272
273
276
151
Lloyds Banking Group
Annual Report
and Accounts 2010
CONSOLIDATED STATEMENT OF CHANGES IN EQUITY
Attributable to equity shareholders
Retained
profits1
£ million
Total
£ million
Non-controlling
interests
£ million
Total
£ million
Share capital
and premium
£ million
3,609
–
3,609
Other
reserves1
£ million
(2,476)
131
(2,345)
8,260
(131)
8,129
9,393
–
9,393
Balance at 1 January 2009:
As previously stated
Prior year adjustment1
Restated
Comprehensive income
Profit for the year
Other comprehensive income
Movements in revaluation reserve in respect
of available-for-sale financial assets, net of tax
Movement in cash flow hedging reserve,
net of tax
Currency translation differences, net of tax
Total other comprehensive income
Total comprehensive income
Transactions with owners
Dividends
Issue of ordinary shares:
Placing and open offer
Issued on acquisition of HBOS
Placing and compensatory
open offer
Rights issue
Issued to Lloyds TSB Foundations
Adjustment on acquisition
Transfer to merger reserve
Redemption of preference shares
Purchase/sale of treasury shares
Employee share option schemes:
Value of employee services
Extinguishment of non-controlling interests
Total transactions with owners
Balance at 31 December 20091
1
Restated (see note 1).
–
–
–
–
–
–
–
649
1,944
3,905
13,112
41
–
(1,000)
2,684
–
–
–
21,335
24,944
–
2,827
2,827
2,248
(290)
(200)
1,758
1,758
–
3,781
5,707
–
–
–
–
1,000
(2,684)
–
–
–
7,804
7,217
–
–
–
–
2,827
–
–
–
–
–
–
–
–
–
45
116
–
161
11,117
2,248
(290)
(200)
1,758
4,585
–
4,430
7,651
3,905
13,112
41
–
–
–
45
116
–
29,300
43,278
306
–
306
126
–
–
(19)
(19)
107
(116)
–
–
–
–
–
5,567
–
–
–
–
(5,035)
416
829
9,699
–
9,699
2,953
2,248
(290)
(219)
1,739
4,692
(116)
4,430
7,651
3,905
13,112
41
5,567
–
–
45
116
(5,035)
29,716
44,107
152
Lloyds Banking Group
Annual Report
and Accounts 2010
CONSOLIDATED CASH FLOW STATEMENT
for the year ended 31 December 2010
Profit before tax
Adjustments for:
Change in operating assets
Change in operating liabilities
Non-cash and other items
Tax received
Net cash used in operating activities
Cash flows from investing activities
Purchase of available-for-sale financial assets
Proceeds from sale and maturity of available-for-sale financial assets
Purchase of held-to-maturity investments
Purchase of fixed assets
Proceeds from sale of fixed assets
Acquisition of businesses, net of cash acquired
Disposal of businesses, net of cash disposed
Net cash (used in) provided by investing activities
Cash flows from financing activities
Dividends paid to non-controlling interests
Interest paid on subordinated liabilities
Proceeds from issue of subordinated liabilities
Proceeds from issue of ordinary shares
Repayment of subordinated liabilities
Change in stake of non-controlling interests
Net cash provided by financing activities
Effects of exchange rate changes on cash and cash equivalents
Change in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year
The accompanying notes are an integral part of the consolidated financial statements.
Note
57(A)
57(B)
57(C)
57(F)
57(G)
57(E)
57(E)
57(E)
57(E)
57(D)
2010
£ million
281
31,860
(45,683)
11,173
332
(2,037)
(42,662)
45,999
(4,228)
(3,216)
1,354
(73)
428
(2,398)
(47)
(1,942)
3,237
–
(684)
2
566
479
(3,390)
65,690
62,300
2009
£ million
1,042
61,942
(105,927)
8,907
301
(33,735)
(455,816)
490,561
–
(2,689)
2,129
16,227
411
50,823
(116)
(2,622)
4,187
21,533
(6,897)
(33)
16,052
(210)
32,930
32,760
65,690
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
153
Lloyds Banking Group
Annual Report
and Accounts 2010
1 BASIS OF PREPARATION
The consolidated financial statements of Lloyds Banking Group plc have been prepared in accordance with International Financial Reporting
Standards as adopted by the European Union (EU). IFRS comprises accounting standards prefixed IFRS issued by the International Accounting
Standards Board (IASB) and those prefixed IAS issued by the IASB’s predecessor body as well as interpretations issued by the International Financial
Reporting Interpretations Committee (IFRIC) and its predecessor body. The EU endorsed version of IAS 39 Financial Instruments: Recognition and
Measurement relaxes some of the hedge accounting requirements; the Group has not taken advantage of this relaxation, and therefore there is no
difference in application to the Group between IFRS as adopted by the EU and IFRS as issued by the IASB.
The financial information has been prepared under the historical cost convention, as modified by the revaluation of investment properties,
available-for-sale financial assets, trading securities and certain other financial assets and liabilities at fair value through profit or loss and all derivative
contracts. As stated on page 113, the directors consider that it is appropriate to continue to adopt the going concern basis in preparing the accounts.
During 2010, the International Financial Reporting Interpretations Committee clarified the treatment of amounts previously recognised in equity
in respect of assets that were transferred from the available-for-sale category to the loans and receivables category. When an impairment loss is
recognised in respect of such transferred financial assets, the unamortised balance of any available-for-sale revaluation reserve that remains in
equity should be transferred to the income statement and recorded as part of the impairment loss. The Group has changed its accounting policy
to reflect this clarification. Under the Group’s previous accounting policy, when such a transferred financial asset became impaired, not all of the
unamortised amounts previously transferred to equity were recycled to the income statement and therefore continued to be accreted over the
expected remaining life of the financial asset. This change is applied retrospectively and the effect has been to reduce retained profits and increase
available-for-sale revaluation reserves by £131 million at 1 January 2009; shareholders’ equity is unchanged. There was no material effect on the
Group’s income statement during 2009.
Also during 2010, the Group has classified assets as held-to-maturity for the first time. Purchases of government debt securities of £4,228 million
made in the second half of 2010 were classified as held-to-maturity on acquisition, were initially recognised at fair value including direct
and incremental transaction costs and are being measured subsequently at amortised cost, using the effective interest method. Further, on
1 November 2010, government debt securities with a carrying value of £3,601 million, previously classified as available-for-sale, were reclassified to
held-to-maturity. Unrealised gains on the transferred securities of £223 million previously taken to equity continue to be held in the available-for-sale
revaluation reserve and will be amortised to the income statement over the remaining lives of the securities using the effective interest method or
until the assets become impaired.
The Group has adopted the following new standards and amendments to standards which became effective for financial years beginning on or after
1 January 2010. None of these standards or amendments have had a material impact on these financial statements.
(i)
IFRS 3 Business Combinations. This revised standard applies prospectively to business combinations from 1 January 2010. The revised standard
continues to require the use of the acquisition method of accounting for business combinations. All payments to purchase a business are to be
recorded at fair value at the acquisition date, some contingent payments are subsequently remeasured at fair value through income, goodwill
may be calculated based on the parent’s share of net assets or it may include goodwill related to the non-controlling interest, and all transaction
costs are expensed (other than those in relation to the issuance of debt instruments or share capital).
(ii)
IAS 27 Consolidated and Separate Financial Statements. Requires the effects of all transactions with non-controlling interests to be recorded in
equity if there is no change in control; any remaining interest in an investee is remeasured to fair value in determining the gain or loss recognised
in profit or loss where control over the investee is lost.
(iii) IFRIC 17 Distributions of Non-cash Assets to Owners. Provides accounting guidance for non-reciprocal distributions of non-cash assets to owners
(and those in which owners may elect to receive a cash alternative).
(iv) Amendment to IAS 39 Financial Instruments: Recognition and Measurement – ‘Eligible Hedged Items’. Clarifies how the principles underlying
hedge accounting should be applied in particular situations.
(v)
Improvements to IFRSs (issued April 2009). Sets out minor amendments to IFRS standards as part of the annual improvements process.
Details of those IFRS pronouncements which will be relevant to the Group but which were not effective at 31 December 2010 and which have not
been applied in preparing these financial statements are given in note 58.
154
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
2 ACCOUNTING POLICIES
The Group’s accounting policies are set out below.
(A) CONSOLIDATION
The assets, liabilities and results of Group undertakings (including special purpose entities) are included in the financial statements on the basis of
accounts made up to the reporting date. Group undertakings include subsidiaries, associates and joint ventures.
(1) Subsidiaries
Subsidiaries include entities over which the Group has the power to govern the financial and operating policies which generally accompanies
a shareholding of more than one half of the voting rights. The existence and effect of potential voting rights that are currently exercisable or
convertible are considered when assessing whether the Group controls another entity. Subsidiaries are fully consolidated from the date on which
control is transferred to the Group; they are de-consolidated from the date that control ceases. Details of the principal subsidiaries are given in
note 9 to the parent company financial statements.
Investment vehicles, such as Open Ended Investment Companies (OEICs), where the Group has control, typically through acting as fund manager
and the life funds having a beneficial interest greater than 50 per cent, are consolidated. The non-controlling unitholders’ interest is reported in
other liabilities.
Special purpose entities (SPEs) are consolidated if, in substance, the Group controls the entity. A key indicator of such control, amongst others,
is where the Group is exposed to the risks and benefits of the SPE.
The treatment of transactions with non-controlling interests depends on whether, as a result of the transaction, the Group loses control of the
subsidiary. Change in the parent’s ownership interest in a subsidiary that do not result in a loss of control are accounted for as equity transactions;
any difference between the amount by which the non-controlling interests are adjusted and the fair value of the consideration paid or received is
recognised directly in equity and attributed to the owners of the parent entity. Where the group loses control of the subsidiary, at the date when
control is lost the amount of any non-controlling interest in that former subsidiary is derecognised and any investment retained in the former
subsidiary is remeasured to its fair value; the gain or loss that is recognised in profit or loss on the partial disposal of the subsidiary includes the
gain or loss on the remeasurement of the retained interest.
Intercompany transactions, balances and unrealised gains and losses on transactions between Group companies are eliminated.
The acquisition method of accounting is used to account for business combinations by the Group. The consideration for the acquisition of a
subsidiary is the fair value of the assets transferred, the liabilities incurred and the equity interests issued by the Group. The consideration includes
the fair value of any asset or liability resulting from a contingent consideration arrangement. Acquisition related costs are expensed as incurred
except those relating to the issuance of debt instruments (see (E)(5) below) or share capital (see (R)(1) below). Identifiable assets acquired and
liabilities assumed in a business combination are measured initially at their fair value at the acquisition date.
(2) Joint ventures and associates
Joint ventures are entities over which the Group has joint control under a contractual arrangement with other parties. Associates are entities over
which the Group has significant influence, but not control or joint control, over the financial and operating policies. Significant influence is the
power to participate in the financial and operating policy decisions of the entity and is normally achieved through holding between 20 per cent and
50 per cent of the voting share capital of the entity.
The Group utilises the venture capital exemption for investments where significant influence or joint control is present and the business unit
operates as a venture capital business. These investments are designated at initial recognition at fair value through profit or loss. Otherwise, the
Group’s investments in joint ventures and associates are accounted for by the equity method of accounting and are initially recorded at cost and
adjusted each year to reflect the Group’s share of the post-acquisition results of the joint venture or associate based on audited accounts which are
coterminous with the Group or made up to a date which is not more than three months before the Group’s reporting date. The share of any losses
is restricted to a level that reflects an obligation to fund such losses.
(B) GOODWILL
Goodwill arises on business combinations, including the acquisition of subsidiaries, and on the acquisition of interests in joint ventures and
associates; goodwill represents the excess of the cost of an acquisition over the fair value of the Group’s share of the identifiable assets, liabilities and
contingent liabilities acquired. Where the fair value of the Group’s share of the identifiable assets, liabilities and contingent liabilities of the acquired
entity is greater than the cost of acquisition, the excess is recognised immediately in the income statement.
Goodwill is recognised as an asset at cost and is tested at least annually for impairment. If an impairment is identified the carrying value of the
goodwill is written down immediately through the income statement and is not subsequently reversed. Goodwill arising on acquisitions of associates
and joint ventures is included in the Group’s investment in joint ventures and associates. At the date of disposal of a subsidiary, the carrying value of
attributable goodwill is included in the calculation of the profit or loss on disposal except where it has been written off directly to reserves in the past.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
155
Lloyds Banking Group
Annual Report
and Accounts 2010
(C) OTHER INTANGIBLE ASSETS
Other intangible assets include brands, core deposit intangibles, purchased credit card relationships, customer-related intangibles and capitalised
software enhancements. Intangible assets which have been determined to have a finite useful life are amortised on a straight line basis over their
estimated useful life as follows:
Capitalised software enhancements
Brands (which have been assessed as having finite lives)
Customer-related intangibles
Core deposit intangibles
Purchased credit card relationships
up to 5 years
10-15 years
up to 10 years
up to 8 years
5 years
Intangible assets with finite useful lives are reviewed at each reporting date to assess whether there is any indication that they are impaired.
If any such indication exists the recoverable amount of the asset is determined and in the event that the asset’s carrying amount is greater than its
recoverable amount, it is written down immediately. Certain brands have been determined to have an indefinite useful life and are not amortised.
Such intangible assets are reassessed annually to reconfirm that an indefinite useful life remains appropriate. In the event that an indefinite life is
inappropriate a finite life is determined and an impairment review is performed on the asset.
(D) REVENUE RECOGNITION
Interest income and expense are recognised in the income statement for all interest-bearing financial instruments using the effective interest method,
except for those classified at fair value through profit or loss. The effective interest method is a method of calculating the amortised cost of a financial
asset or liability and of allocating the interest income or interest expense over the expected life of the financial instrument. The effective interest
rate is the rate that exactly discounts the estimated future cash payments or receipts over the expected life of the financial instrument or, when
appropriate, a shorter period, to the net carrying amount of the financial asset or financial liability.
The effective interest rate is calculated on initial recognition of the financial asset or liability by estimating the future cash flows after considering
all the contractual terms of the instrument but not future credit losses. The calculation includes all amounts expected to be paid or received by the
Group including expected early redemption fees and related penalties and premiums and discounts that are an integral part of the overall return.
Direct incremental transaction costs related to the acquisition, issue or disposal of a financial instrument are also taken into account in the calculation.
Once a financial asset or a group of similar financial assets has been written down as a result of an impairment loss, interest income is recognised
using the rate of interest used to discount the future cash flows for the purpose of measuring the impairment loss (see (H) below).
Fees and commissions which are not an integral part of the effective interest rate are generally recognised when the service has been provided.
Loan commitment fees for loans that are likely to be drawn down are deferred (together with related direct costs) and recognised as an adjustment
to the effective interest rate on the loan once drawn. Where it is unlikely that loan commitments will be drawn, loan commitment fees are recognised
over the life of the facility. Loan syndication fees are recognised as revenue when the syndication has been completed and the Group retains no part
of the loan package for itself or retains a part at the same effective interest rate for all interest-bearing financial instruments, including loans
and advances, as for the other participants.
Dividend income is recognised when the right to receive payment is established.
Revenue recognition policies specific to life insurance and general insurance business are detailed below (see (O) below).
(E) FINANCIAL ASSETS AND LIABILITIES
On initial recognition, financial assets are classified into fair value through profit or loss, available-for-sale financial assets, held-to-maturity investments
or loans and receivables. Financial liabilities are measured at amortised cost, except for trading liabilities and other financial liabilities designated
at fair value through profit or loss on initial recognition which are held at fair value. Purchases and sales of securities and other financial assets and
trading liabilities are recognised on trade date, being the date that the Group is committed to purchase or sell an asset.
(1) Financial instruments at fair value through profit or loss
Financial instruments are classified at fair value through profit or loss where they are trading securities or where they are designated at fair value
through profit or loss by management. Derivatives are carried at fair value (see (F) below).
Trading securities are debt securities and equity shares acquired principally for the purpose of selling in the short term or which are part of a portfolio
which is managed for short-term gains. Such securities are classified as trading securities and recognised in the balance sheet at their fair value. Gains
and losses arising from changes in their fair value together with interest coupons and dividend income are recognised in the income statement within
net trading income in the period in which they occur.
Other financial assets and liabilities at fair value through profit or loss are designated as such by management upon initial recognition. Such assets
and liabilities are carried in the balance sheet at their fair value and gains and losses arising from changes in fair value together with interest coupons
and dividend income are recognised in the income statement within net trading income in the period in which they occur. Financial assets and
liabilities are designated at fair value through profit or loss on acquisition in the following circumstances:
156
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
– it eliminates or significantly reduces the inconsistent treatment that would otherwise arise from measuring the assets and liabilities or recognising
gains or losses on different bases. The main type of financial assets designated by the Group at fair value through profit or loss are assets backing
insurance contracts and investment contracts issued by the Group’s life insurance businesses. Fair value designation allows changes in the fair
value of these assets to be recorded in the income statement along with the changes in the value of the associated liabilities, thereby significantly
reducing the measurement inconsistency had the assets been classified as available-for-sale financial assets.
– the assets and liabilities are part of a group which is managed, and its performance evaluated, on a fair value basis in accordance with a
documented risk management or investment strategy, with management information also prepared on this basis. As noted in (A)(2) above certain of
the Group’s investments are managed as venture capital investments and evaluated on the basis of their fair value and these assets are designated
at fair value through profit or loss.
– where the assets and liabilities contain one or more embedded derivatives that significantly modify the cash flows arising under the contract and
would otherwise need to be separately accounted for.
The fair values of assets and liabilities traded in active markets are based on current bid and offer prices respectively. If the market is not active the
Group establishes a fair value by using valuation techniques. These include the use of recent arm’s length transactions, reference to other instruments
that are substantially the same, discounted cash flow analysis, option pricing models and other valuation techniques commonly used by market
participants. Refer to note 3 (Critical accounting estimates and judgements: Fair value of financial instruments) and note 55(3) (Financial instruments:
Fair values of financial assets and liabilities) for details of valuation techniques and significant inputs to valuation models.
The Group is permitted to reclassify, at fair value at the date of transfer, non-derivative financial assets (other than those designated at fair value
through profit or loss by the entity upon initial recognition) out of the trading category if they are no longer held for the purpose of being sold or
repurchased in the near term, as follows:
– if the financial assets would have met the definition of loans and receivables (but for the fact that they had to be classified as held for trading at
initial recognition), they may be reclassified into loans and receivables where the Group has the intention and ability to hold the assets for the
foreseeable future or until maturity;
– if the financial assets would not have met the definition of loans and receivables, they may be reclassified out of the held for trading category into
available-for-sale financial assets in ‘rare circumstances’.
(2) Available-for-sale financial assets
Debt securities and equity shares that are not classified as trading securities, at fair value through profit or loss, held-to-maturity investments or
as loans and receivables are classified as available-for-sale financial assets and are recognised in the balance sheet at their fair value, inclusive of
transaction costs. Available-for-sale financial assets are those intended to be held for an indeterminate period of time and may be sold in response to
needs for liquidity or changes in interest rates, exchange rates or equity prices. Gains and losses arising from changes in the fair value of investments
classified as available-for-sale are recognised directly in other comprehensive income, until the financial asset is either sold, becomes impaired or
matures, at which time the cumulative gain or loss previously recognised in other comprehensive income is recognised in the income statement.
Interest calculated using the effective interest method and foreign exchange gains and losses on debt securities denominated in foreign currencies
are recognised in the income statement.
The Group is permitted to transfer a financial asset from the available-for-sale category to the loans and receivables category where that asset would
have met the definition of loans and receivables at the time of reclassification (if the financial asset had not been designated as available-for-sale)
and where there is both the intention and ability to hold that financial asset for the foreseeable future. Reclassification of a financial asset from
the available-for-sale category to the held-to-maturity category is permitted when the Group has the ability and intent to hold that financial asset
to maturity.
Reclassifications are made at fair value as of the reclassification date. Fair value becomes the new cost or amortised cost as applicable. Effective
interest rates for financial assets reclassified to the loans and receivables and held-to-maturity categories are determined at the reclassification
date. Any previous gain or loss on a transferred asset that has been recognised in equity is amortised to profit or loss over the remaining life of
the investment using the effective interest method or until the asset becomes impaired. Any difference between the new amortised cost and the
expected cash flows is also amortised over the remaining life of the asset using the effective interest method.
When an impairment loss is recognised in respect of available-for-sale assets transferred, the unamortised balance of any available-for-sale reserve
that remains in equity is transferred to the income statement and recorded as part of the impairment loss.
(3) Loans and receivables
Loans and receivables include loans and advances to banks and customers and eligible assets including those transferred into this category out
of the fair value through profit or loss or available-for-sale financial assets categories. Loans and receivables are initially recognised when cash is
advanced to the borrowers at fair value inclusive of transaction costs or, for eligible assets transferred into this category, their fair value at the date
of transfer. Financial assets classified as loans and receivables are accounted for at amortised cost using the effective interest method (see (D) above)
less provision for impairment (see (H) below).
The Group has entered into securitisation and similar transactions to finance certain loans and advances to customers. These loans and advances
to customers continue to be recognised by the Group, together with a corresponding liability for the funding.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
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(4) Held-to-maturity investments
Held-to-maturity investments are non-derivative financial assets with fixed or determinable payments and fixed maturities that the Group’s
management has the positive intention and ability to hold to maturity other than:
– those that the Group designates upon initial recognition as at fair value through profit or loss;
– those that the Group designates as available-for-sale; and
– those that meet the definition of loans and receivables.
These are initially recognised at fair value including direct and incremental transaction costs and measured subsequently at amortised cost, using
the effective interest method, less any provision for impairment.
(5) Borrowings
Borrowings (which include deposits from banks, customer deposits, debt securities in issue and subordinated liabilities) are recognised initially at fair
value, being their issue proceeds net of transaction costs incurred. These instruments are subsequently stated at amortised cost using the effective
interest method.
Preference shares and other instruments which carry a mandatory coupon or are redeemable on a specific date are classified as financial liabilities.
The coupon on these instruments is recognised in the income statement as interest expense.
An exchange of financial liabilities on substantially different terms is accounted for as an extinguishment of the original financial liability and the
recognition of a new financial liability. The difference between the carrying amount of a financial liability extinguished and the new financial liability
is recognised in profit or loss together with any related costs or fees incurred.
When a financial liability is exchanged for an equity instrument, the new equity instrument is recognised at fair value and any difference between
the original carrying value of the liability and the fair value of the new equity is recognised in the profit or loss together with any related costs or
fees incurred.
(6) Sale and repurchase agreements
Securities sold subject to repurchase agreements (repos) continue to be recognised on the balance sheet where substantially all of the risks and
rewards are retained. Funds received under these arrangements are included in deposits from banks, customer deposits, or trading liabilities.
Conversely, securities purchased under agreements to resell (reverse repos), where the Group does not acquire substantially all of the risks and
rewards of ownership, are recorded as loans and receivables or trading securities. The difference between sale and repurchase price is treated
as interest and accrued over the life of the agreements using the effective interest method.
Securities lent to counterparties are retained in the financial statements. Securities borrowed are not recognised in the financial statements, unless
these are sold to third parties, in which case the obligation to return them is recorded at fair value as a trading liability.
(7) Derecognition of financial assets and liabilities
Financial assets are derecognised when the contractual right to receive cash flows from those assets has expired or when the Group has transferred
its contractual right to receive the cash flows from the assets and either:
– substantially all of the risks and rewards of ownership have been transferred; or
– the Group has neither retained nor transferred substantially all of the risks and rewards, but has transferred control.
Financial liabilities are derecognised when they are extinguished (ie when the obligation is discharged), cancelled or expire.
(F) DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGE ACCOUNTING
All derivatives are recognised at their fair value. Fair values are obtained from quoted market prices in active markets, including recent market
transactions, and using valuation techniques, including discounted cash flow and option pricing models, as appropriate. Derivatives are carried in the
balance sheet as assets when their fair value is positive and as liabilities when their fair value is negative. Refer to note 3 (Critical accounting estimates
and judgements: Fair value of financial instruments) and note 55(3) (Financial instruments: Fair values of financial assets and liabilities) for details of
valuation techniques and significant inputs to valuation models.
Changes in the fair value of any derivative instrument that is not part of a hedging relationship are recognised immediately in the income statement.
Derivatives embedded in financial instruments and insurance contracts (unless the embedded derivative is itself an insurance contract) are treated
as separate derivatives when their economic characteristics and risks are not closely related to those of the host contract and the host contract is not
carried at fair value through profit or loss. These embedded derivatives are measured at fair value with changes in fair value recognised in the income
statement. In accordance with IFRS 4 Insurance Contracts, a policyholder’s option to surrender an insurance contract for a fixed amount is not treated
as an embedded derivative.
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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The method of recognising the movements in the fair value of derivatives depends on whether they are designated as hedging instruments and, if
so, the nature of the item being hedged. Hedge accounting allows one financial instrument, generally a derivative such as a swap, to be designated
as a hedge of another financial instrument such as a loan or deposit or a portfolio of the same. At the inception of the hedge relationship, formal
documentation is drawn up specifying the hedging strategy, the hedged item and the hedging instrument and the methodology that will be used
to measure the effectiveness of the hedge relationship in offsetting changes in the fair value or cash flow of the hedged risk. The effectiveness of
the hedging relationship is tested both at inception and throughout its life and if at any point it is concluded that it is no longer highly effective in
achieving its documented objective, hedge accounting is discontinued.
The Group designates certain derivatives as either: (1) hedges of the fair value of the particular risks inherent in recognised assets or liabilities (fair
value hedges); (2) hedges of highly probable future cash flows attributable to recognised assets or liabilities (cash flow hedges); or (3) hedges of net
investments in foreign operations (net investment hedges). These are accounted for as follows:
(1) Fair value hedges
Changes in the fair value of derivatives that are designated and qualify as fair value hedges are recorded in the income statement, together with
the changes in the fair value of the hedged asset or liability that are attributable to the hedged risk; this also applies if the hedged asset is classified
as an available-for-sale financial asset. If the hedge no longer meets the criteria for hedge accounting, changes in the fair value of the hedged item
attributable to the hedged risk are no longer recognised in the income statement. The cumulative adjustment that has been made to the carrying
amount of the hedged item is amortised to the income statement using the effective interest method over the period to maturity.
(2) Cash flow hedges
The effective portion of changes in the fair value of derivatives that are designated and qualify as cash flow hedges is recognised in other
comprehensive income in the cash flow hedge reserve. The gain or loss relating to the ineffective portion is recognised immediately in the income
statement. Amounts accumulated in equity are reclassified to the income statement in the periods in which the hedged item affects profit or loss.
When a hedging instrument expires or is sold, or when a hedge no longer meets the criteria for hedge accounting, any cumulative gain or loss
existing in equity at that time remains in equity and is recognised in the income statement when the forecast transaction is ultimately recognised
in the income statement. When a forecast transaction is no longer expected to occur, the cumulative gain or loss that was reported in equity is
immediately transferred to the income statement.
(3) Net investment hedges
Hedges of net investments in foreign operations are accounted for similarly to cash flow hedges. Any gain or loss on the hedging instrument relating
to the effective portion of the hedge is recognised in other comprehensive income, the gain or loss relating to the ineffective portion is recognised
immediately in the income statement. Gains and losses accumulated in equity are included in the income statement when the foreign operation is
disposed of. The hedging instrument used in net investment hedges may include non-derivative liabilities as well as derivative financial instruments.
(G) OFFSET
Financial assets and liabilities are offset and the net amount reported in the balance sheet when there is a legally enforceable right of set-off and
there is an intention to settle on a net basis, or realise the asset and settle the liability simultaneously. In certain situations, even though master netting
agreements exist, the lack of management intention to settle on a net basis results in the financial assets and liabilities being reported gross on the
balance sheet.
(H) IMPAIRMENT OF FINANCIAL ASSETS
(1) Assets accounted for at amortised cost
At each balance sheet date the Group assesses whether, as a result of one or more events occurring after initial recognition of the financial asset and
prior to the balance sheet date, there is objective evidence that a financial asset or group of financial assets has become impaired.
Where such an event has had an impact on the estimated future cash flows of the financial asset or group of financial assets, an impairment allowance
is recognised. The amount of impairment allowance is the difference between the asset’s carrying amount and the present value of estimated future
cash flows discounted at the asset’s original effective interest rate. If the asset has a variable rate of interest, the discount rate used for measuring the
impairment allowance is the current effective interest rate.
Subsequent to the recognition of an impairment loss on a financial asset or a group of financial assets, interest income continues to be recognised
on an effective interest rate basis, on the asset’s carrying value net of impairment provisions. If, in a subsequent period, the amount of the impairment
loss decreases and the decrease can be related objectively to an event occurring after the impairment was recognised, such as an improvement in
the borrower’s credit rating, the allowance is adjusted and the amount of the reversal is recognised in the income statement.
Impairment allowances are assessed individually for financial assets that are individually significant. Such individual assessment is used primarily for
the Group’s wholesale lending portfolios in the Wholesale and Wealth and International divisions. Impairment allowances for portfolios of smaller
balance homogenous loans such as most residential mortgages, personal loans and credit card balances in the Group’s retail portfolios in both the
Retail and Wealth and International divisions that are below the individual assessment thresholds, and for loan losses that have been incurred but not
separately identified at the balance sheet date, are determined on a collective basis.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
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and Accounts 2010
INDIVIDUAL ASSESSMENT
In respect of individually significant financial assets in the Group’s wholesale lending portfolios, assets are reviewed on a regular basis and those
showing potential or actual vulnerability are placed on a watch list where greater monitoring is undertaken and any adverse or potentially adverse
impact on ability to repay is used in assessing whether an asset should be transferred to a dedicated Business Support Unit. Specific examples of
trigger events that would lead to the initial recognition of impairment allowances against lending to corporate borrowers (or the recognition of
additional impairment allowances) include (i) trading losses, loss of business or major customer of a borrower, (ii) material breaches of the terms
and conditions of a loan facility, including non-payment of interest or principal, or a fall in the value of security such that it is no longer considered
adequate, (iii) disappearance of an active market because of financial difficulties, or (iv) restructuring a facility with preferential terms to aid recovery
of the lending (such as a debt for equity swap).
For such individually identified financial assets, a review is undertaken of the expected future cash flows which requires significant management
judgement as to the amount and timing of such cash flows. Where the debt is secured, the assessment reflects the expected cash flows from the
realisation of the security, net of costs to realise, whether or not foreclosure or realisation of the collateral is probable.
For impaired debt instruments which are held at amortised cost, impairment losses are recognised in subsequent periods when it is determined that
there has been a further negative impact on expected future cash flows. A reduction in fair value caused by general widening of credit spreads would
not, of itself, result in additional impairment.
COLLECTIVE ASSESSMENT
In respect of portfolios of smaller balance, homogenous loans, the asset is included in a group of financial assets with similar risk characteristics
and collectively assessed for impairment. Segmentation takes into account factors such as the type of asset, geographical location, collateral type,
past-due status and other relevant factors. These characteristics are relevant to the estimation of future cash flows for groups of such assets as they
are indicative of the borrower’s ability to pay all amounts due according to the contractual terms of the assets being evaluated.
Generally, the impairment trigger used within the impairment calculation for a loan, or group of loans, is when they reach a pre-defined level of
delinquency or where the customer is bankrupt. Loans where the Group provides arrangements that forgive a portion of interest or principal are
also deemed to be impaired and loans that are originated to refinance currently impaired assets are also defined as impaired.
In respect of the Group’s secured mortgage portfolios, the impairment allowance is calculated based on a definition of impaired loans which are
those six months or more in arrears (or where the borrower is bankrupt or is in possession). The estimated cash flows are calculated based on
historical experience and are dependent on estimates of the expected value of collateral which takes into account expected future movements
in house prices, less costs to sell.
For unsecured personal lending portfolios, the impairment trigger is generally when the balance is two or more instalments in arrears or where
the customer has exhibited one or more of the impairment characteristics noted above. While the trigger is based on the payment performance
or circumstances of each individual asset, the assessment of future cash flows uses historical experience of cohorts of similar portfolios such that
the assessment is considered to be collective. Future cash flows are estimated on the basis of the contractual cash flows of the assets in the cohort
and historical loss experience for similar assets. Historical loss experience is adjusted on the basis of current observable data to reflect the effects
of current conditions that did not affect the period on which the historical loss experience is based and to remove the effects of conditions in the
historical period that do not exist currently. The methodology and assumptions used for estimating future cash flows are reviewed regularly by the
Group to reduce any differences between loss estimates and actual loss experience.
The collective provision also includes provision for inherent losses, that is losses that have been incurred but have not been identified at the balance
sheet date. The loans that are not currently recognised as impaired are grouped into homogenous portfolios by key risk drivers. An assessment is
made, based on statistical techniques, of the likelihood of each account becoming recognised as impaired within an emergence period, with the
economic loss that each portfolio is likely to generate were it to become impaired. The emergence period is the time between the loss event and the
date the impairment is recognised. The emergence period is determined by local management for each portfolio. In general the periods used across
the Group vary between one month and twelve months based on historical experience.
LOAN RENEGOTIATIONS AND FORBEARANCE
In certain circumstances, the Group will renegotiate the original terms of a customer’s loan, either as part of an ongoing customer relationship or
in response to adverse changes in the circumstances of the borrower. There are a number of different types of loan renegotiation, including the
capitalisation of arrears, payment holidays, interest rate adjustments and extensions of the due date of payment. Where the renegotiated payments
of interest and principal will not recover the original carrying value of the asset, the asset continues to be reported as past due and is considered
impaired. Where the renegotiated payments of interest and principal will recover the original carrying value of the asset, the loan is no longer
reported as past due or impaired provided that payments are made in accordance with the revised terms. In other cases, renegotiation may lead to
a new agreement, which is treated as a new loan.
WRITE OFFS
A loan or advance is normally written off, either partially or in full, against the related allowance when the proceeds from realising any available
security have been received or there is no realistic prospect of recovery and the amount of the loss has been determined. Subsequent recoveries
of amounts previously written off decrease the amount of impairment losses recorded in the income statement.
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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
DEBT FOR EQUITY EXCHANGES
Equity securities acquired in exchange for loans in order to achieve an orderly realisation are accounted for as a disposal of the loan and an
acquisition of equity securities. Where control is obtained over an entity as a result of the transaction, the entity is consolidated; where the Group has
significant influence over an entity as a result of the transaction, the investment is accounted for by the equity method of accounting (see (A) above).
Any subsequent impairment of the assets or business acquired is treated as an impairment of the relevant asset or business and not as an impairment
of the original instrument.
(2) Available-for-sale financial assets
The Group assesses, at each balance sheet date, whether there is objective evidence that an available-for-sale financial asset is impaired. In addition
to the criteria for financial assets accounted for at amortised cost set out above, this assessment involves reviewing the current financial circumstances
(including creditworthiness) and future prospects of the issuer assessing the future cash flows expected to be realised and, in the case of equity
shares, considering whether there has been a significant or prolonged decline in the fair value of the asset below its cost. If an impairment loss has
been incurred, the cumulative loss measured as the difference between the acquisition cost (net of any principal repayment and amortisation) and
the current fair value, less any impairment loss on that asset previously recognised, is reclassified from equity to the income statement. For impaired
debt instruments, impairment losses are recognised in subsequent periods when it is determined that there has been a further negative impact on
expected future cash flows; a reduction in fair value caused by general widening of credit spreads would not, of itself, result in additional impairment.
If, in a subsequent period, the fair value of a debt instrument classified as available-for-sale increases and the increase can be objectively related
to an event occurring after the impairment loss was recognised, an amount not greater than the original impairment loss is credited to the income
statement; any excess is taken to other comprehensive income. Impairment losses recognised in the income statement on equity instruments are not
reversed through the income statement.
(I) INVESTMENT PROPERTY
Investment property comprises freehold and long leasehold land and buildings that are held either to earn rental income or for capital appreciation
or both. The Group’s investment property primarily relates to property held for long-term rental yields and capital appreciation within the life
insurance funds. Investment property is carried in the balance sheet at fair value, being the open market value as determined in accordance with the
guidance published by the Royal Institution of Chartered Surveyors. If this information is not available, the Group uses alternative valuation methods
such as discounted cash flow projections or recent prices. These valuations are reviewed at least annually by an independent valuation expert.
Investment property being redeveloped for continuing use as investment property, or for which the market has become less active, continues to be
measured at fair value. Changes in fair value are recognised in the income statement as net trading income.
(J) TANGIBLE FIXED ASSETS
Tangible fixed assets are included at cost less accumulated depreciation. The value of land (included in premises) is not depreciated. Depreciation on
other assets is calculated using the straight-line method to allocate the difference between the cost and the residual value over their estimated useful
lives, as follows:
Premises (excluding land):
– Freehold/long and short leasehold premises: shorter of 50 years and the remaining period of the lease
– Leasehold improvements: shorter of 10 years and, if lease renewal is not likely, the remaining period of the lease
Equipment:
– Fixtures and furnishings: 10-20 years
– Other equipment and motor vehicles: 2-8 years
The assets’ residual values and useful lives are reviewed, and adjusted if appropriate, at each balance sheet date.
Assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable.
In the event that an asset’s carrying amount is determined to be greater than its recoverable amount it is written down immediately. The recoverable
amount is the higher of the asset’s fair value less costs to sell and its value in use.
(K) LEASES
(1) As lessee
The leases entered into by the Group are primarily operating leases. Operating lease rentals payable are charged to the income statement on a
straight-line basis over the period of the lease.
When an operating lease is terminated before the end of the lease period, any payment made to the lessor by way of penalty is recognised as an
expense in the period of termination.
(2) As lessor
Assets leased to customers are classified as finance leases if the lease agreements transfer substantially all the risks and rewards of ownership to the
lessee but not necessarily legal title. All other leases are classified as operating leases. When assets are subject to finance leases, the present value
of the lease payments, together with any unguaranteed residual value, is recognised as a receivable, net of provisions, within loans and advances to
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
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and Accounts 2010
banks and customers. The difference between the gross receivable and the present value of the receivable is recognised as unearned finance lease
income. Finance lease income is recognised in interest income over the term of the lease using the net investment method (before tax) so as to give
a constant rate of return on the net investment in the leases. Unguaranteed residual values are reviewed regularly to identify any impairment.
Operating lease assets are included within tangible fixed assets at cost and depreciated over their estimated useful lives, which equates to the lives
of the leases, after taking into account anticipated residual values. Operating lease rental income is recognised on a straight-line basis over the life
of the lease.
The Group evaluates non-lease arrangements such as outsourcing and similar contracts to determine if they contain a lease which is then accounted
for separately.
(L) PENSIONS AND OTHER POST-RETIREMENT BENEFITS
The Group operates a number of post-retirement benefit schemes for its employees including both defined benefit and defined contribution
pension plans. A defined benefit scheme is a pension plan that defines an amount of pension benefit that an employee will receive on retirement,
dependent on one or more factors such as age, years of service and salary. A defined contribution plan is a pension plan into which the Group pays
fixed contributions; there is no legal or constructive obligation to pay further contributions.
Full actuarial valuations of the Group’s principal defined benefit schemes are carried out every three years with interim reviews in the intervening
years; these valuations are updated to 31 December each year by qualified independent actuaries, or in the case of the Scottish Widows Retirement
Benefits Scheme, by a qualified actuary employed by Scottish Widows. For the purposes of these annual updates scheme assets are included at their
fair value and scheme liabilities are measured on an actuarial basis using the projected unit credit method adjusted for unrecognised actuarial gains
and losses. The defined benefit scheme liabilities are discounted using rates equivalent to the market yields at the balance sheet date on high-quality
corporate bonds that are denominated in the currency in which the benefits will be paid, and that have terms to maturity approximating to the terms
of the related pension liability.
The Group’s income statement charge includes the current service cost of providing pension benefits, the expected return on the schemes’ assets,
net of expected administration costs, and the interest cost on the schemes’ liabilities. Actuarial gains and losses arising from experience adjustments
and changes in actuarial assumptions are not recognised unless the cumulative unrecognised gain or loss at the end of the previous reporting
period exceeds the greater of 10 per cent of the scheme assets or liabilities (‘the corridor approach’). In these circumstances the excess is charged or
credited to the income statement over the employees’ expected average remaining working lives. Past service costs are charged immediately to the
income statement, unless the charges are conditional on the employees remaining in service for a specified period of time (the vesting period). In this
case, the past service costs are amortised on a straight-line basis over the vesting period.
The Group’s balance sheet includes the net surplus or deficit, being the difference between the fair value of scheme assets and the discounted value
of scheme liabilities at the balance sheet date adjusted for any cumulative unrecognised actuarial gains or losses. Surpluses are only recognised to
the extent that they are recoverable through reduced contributions in the future or through refunds from the schemes.
The Group recognises the effect of material changes to the terms of its defined benefit pension plans which reduce future benefits as curtailments;
gains and losses are recognised in the income statement when the curtailments occur.
The costs of the Group’s defined contribution plans are charged to the income statement in the period in which they fall due.
(M) SHARE-BASED COMPENSATION
The Group operates a number of equity-settled, share-based compensation plans in respect of services received from certain of its employees.
The value of the employee services received in exchange for equity instruments granted under these plans is recognised as an expense over the
vesting period of the instruments, with a corresponding increase in equity. This expense is determined by reference to the fair value of the number
of equity instruments that are expected to vest. The fair value of equity instruments granted is based on market prices, if available, at the date of
grant. In the absence of market prices, the fair value of the instruments at the date of grant is estimated using an appropriate valuation technique,
such as a Black-Scholes option pricing model. The determination of fair values excludes the impact of any non-market vesting conditions, which
are included in the assumptions used to estimate the number of options that are expected to vest. At each balance sheet date, this estimate is
reassessed and if necessary revised. Any revision of the original estimate is recognised in the income statement over the remaining vesting period,
together with a corresponding adjustment to equity. Cancellations by employees of contributions to the Group’s Save As You Earn plans are treated
as non-vesting conditions and in accordance with IFRS 2 (Revised) the Group recognises, in the year of cancellation, the amount of the expense that
would have otherwise been recognised over the remainder of the vesting period. Modifications are assessed at the date of modification and any
incremental charges are charged to the income statement over any remaining vesting period.
(N) TAXATION
Current income tax which is payable on taxable profits is recognised as an expense in the period in which the profits arise.
For the Group’s long-term insurance businesses, the tax charge is analysed between tax that is payable in respect of policyholders’ returns and tax
that is payable on equity holders’ returns. This allocation is based on an assessment of the rates of tax which will be applied to the returns under
current UK tax rules.
Deferred tax is provided in full, using the liability method, on temporary differences arising between the tax bases of assets and liabilities and their
carrying amounts in the consolidated financial statements. However, deferred tax is not accounted for if it arises from initial recognition of an asset
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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
or liability in a transaction other than a business combination that at the time of the transaction affects neither accounting nor taxable profit or loss.
Deferred tax is determined using tax rates that have been enacted or substantially enacted by the balance sheet date which are expected to apply
when the related deferred tax asset is realised or the deferred tax liability is settled.
Deferred tax assets are recognised where it is probable that future taxable profit will be available against which the temporary differences can be
utilised. Income tax payable on profits is recognised as an expense in the period in which those profits arise. The tax effects of losses available for
carry forward are recognised as an asset when it is probable that future taxable profits will be available against which these losses can be utilised.
Deferred and current tax related to gains and losses on the fair value re-measurement of available-for-sale investments and cash flow hedges, where
these gains and losses are recognised in other comprehensive income, is also recognised in other comprehensive income. Such tax is subsequently
transferred to the income statement together with the gain or loss.
Deferred and current tax assets and liabilities are offset when they arise in the same tax reporting group and where there is both a legal right of offset
and the intention to settle on a net basis or to realise the asset and settle the liability simultaneously.
(O) INSURANCE
The Group undertakes both life insurance and general insurance business.
Products sold by the life insurance business are classified into three categories:
Insurance contracts – these contracts transfer significant insurance risk and may also transfer financial risk. The Group defines significant insurance risk
as the possibility of having to pay benefits on the occurrence of an insured event which are significantly more than the benefits payable if the insured
event were not to occur. These contracts may or may not include discretionary participation features.
Investment contracts containing a discretionary participation feature (participating investment contracts) – these contracts do not transfer significant
insurance risk, but contain a contractual right which gives the holder the right to receive, in addition to the guaranteed benefits, further additional
discretionary benefits or bonuses that are likely to be a significant proportion of the total contractual benefits and the amount and timing of which
is at the discretion of the Group, within the constraints of the terms and conditions of the instrument and based upon the performance of specified
assets.
Non-participating investment contracts – these contracts do not transfer significant insurance risk or contain a discretionary participation feature.
The general insurance business issues only insurance contracts.
(1) Life insurance business
(i) ACCOUNTING FOR INSURANCE AND PARTICIPATING INVESTMENT CONTRACTS
Premiums and claims
Premiums received in respect of insurance and participating investment contracts are recognised as revenue when due except for unit-linked
contracts on which premiums are recognised as revenue when received. Claims are recorded as an expense on the earlier of the maturity date or the
date on which the claim is notified.
Liabilities
– Insurance and participating investment contracts in the Group’s with-profit funds
Liabilities of the Group’s with-profit funds, including guarantees and options embedded within products written by these funds, are stated at their
realistic values in accordance with the Financial Services Authority’s realistic capital regime, except that projected transfers out of the funds into other
Group funds are recorded in the unallocated surplus (see below). Further details on the realistic capital regime are given on page 103. Changes in the
value of these liabilities are recognised through insurance claims.
– Insurance and participating investment contracts which are not unit-linked or in the Group’s with-profit funds
A liability for contractual benefits that are expected to be incurred in the future is recorded when the premiums are recognised. The liability is
calculated by estimating the future cash flows over the duration of in-force policies and discounting them back to the valuation date allowing for
probabilities of occurrence. The liability will vary with movements in interest rates and with the cost of life insurance and annuity benefits where future
mortality is uncertain.
Assumptions are made in respect of all material factors affecting future cash flows, including future interest rates, mortality and costs.
Changes in the value of these liabilities are recognised in the income statement through insurance claims.
– Insurance and participating investment contracts which are unit-linked
Liabilities for unit-linked insurance contracts and participating investment contracts are stated at the bid value of units plus an additional allowance
where appropriate (such as for any excess of future expenses over charges). The liability is increased or reduced by the change in the unit prices and
is reduced by policy administration fees, mortality and surrender charges and any withdrawals. Changes in the value of the liability are recognised
in the income statement through insurance claims. Benefit claims in excess of the account balances incurred in the period are also charged through
insurance claims. Revenue consists of fees deducted for mortality, policy administration and surrender charges.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
163
Lloyds Banking Group
Annual Report
and Accounts 2010
Unallocated surplus
Any amounts in the with-profit funds not yet determined as being due to policyholders or shareholders are recognised as an unallocated surplus
which is shown separately from liabilities arising from insurance contracts and participating investment contracts.
(ii) ACCOUNTING FOR NON-PARTICIPATING INVESTMENT CONTRACTS
The Group’s non-participating investment contracts are primarily unit-linked. These contracts are accounted for as financial liabilities whose value is
contractually linked to the fair values of financial assets within the Group’s unitised investment funds. The value of the unit-linked financial liabilities
is determined using current unit prices multiplied by the number of units attributed to the contract holders at the balance sheet date. Their value
is never less than the amount payable on surrender, discounted for the required notice period where applicable. Investment returns (including
movements in fair value and investment income) allocated to those contracts are recognised in insurance claims.
Deposits and withdrawals are not accounted for through the income statement but are accounted for directly in the balance sheet as adjustments
to the non-participating investment contract liability.
The Group receives investment management fees in the form of an initial adjustment or charge to the amount invested. These fees are in respect
of services rendered in conjunction with the issue and management of investment contracts where the Group actively manages the consideration
received from its customers to fund a return that is based on the investment profile that the customer selected on origination of the contract.
These services comprise an indeterminate number of acts over the lives of the individual contracts and, therefore, the Group defers these fees and
recognises them over the estimated lives of the contracts, in line with the provision of investment management services.
Costs which are directly attributable and incremental to securing new non-participating investment contracts are deferred. This asset is subsequently
amortised over the period of the provision of investment management services and is reviewed for impairment in circumstances where its carrying
amount may not be recoverable. If the asset is greater than its recoverable amount it is written down immediately through fee and commission
expense in the income statement. All other costs are recognised as expenses when incurred.
(iii) VALUE OF IN-FORCE BUSINESS
The Group recognises as an asset the value of in-force business in respect of insurance contracts and participating investment contracts. The asset
represents the present value of the shareholders’ interest in the profits expected to emerge from those contracts written at the balance sheet date.
This is determined after making appropriate assumptions about future economic and operating conditions such as future mortality and persistency
rates and includes allowances for both non-market risk and for the realistic value of financial options and guarantees. Each cash flow is valued using
the discount rate consistent with that applied to such a cash flow in the capital markets. The asset in the consolidated balance sheet is presented
gross of attributable tax and movements in the asset are reflected within other operating income in the income statement.
The Group’s contractual rights to benefits from providing investment management services in relation to non-participating investment contracts
acquired in business combinations and portfolio transfers are measured at fair value at the date of acquisition. The resulting asset is amortised over
the estimated lives of the contracts. At each reporting date an assessment is made to determine if there is any indication of impairment. Where
impairment exists, the carrying value of the asset is reduced to its recoverable amount and the impairment loss recognised in the income statement.
(2) General insurance business
The Group both underwrites and acts as intermediary in the sale of general insurance products. Underwriting premiums are included in insurance
premium income, net of refunds, in the period in which insurance cover is provided to the customer; premiums received relating to future periods are
deferred in the balance sheet within liabilities arising from insurance contracts and participating investment contracts and only credited to the income
statement when earned. Broking commission are recognised when the underwriter accepts the risk of providing insurance cover to the customer.
Where appropriate, provision is made for the effect of future policy terminations based upon past experience.
The underwriting business makes provision for the estimated cost of claims notified but not settled and claims incurred but not reported at the
balance sheet date. The provision for the cost of claims notified but not settled is based upon a best estimate of the cost of settling the outstanding
claims after taking into account all known facts. In those cases where there is insufficient information to determine the required provision, statistical
techniques are used which take into account the cost of claims that have recently been settled and make assumptions about the future development
of the outstanding cases. Similar statistical techniques are used to determine the provision for claims incurred but not reported at the balance sheet
date. Claims liabilities are not discounted.
(3) Liability adequacy test
At each balance sheet date liability adequacy tests are performed to ensure the adequacy of insurance and participating investment contract
liabilities net of related deferred cost assets and value of in-force business. In performing these tests current best estimates of discounted future
contractual cash flows and claims handling and policy administration expenses, as well as investment income from the assets backing such liabilities,
are used. Any deficiency is immediately charged to the income statement, initially by writing off the relevant assets and subsequently by establishing
a provision for losses arising from liability adequacy tests.
(4) Reinsurance
Contracts entered into by the Group with reinsurers under which the Group is compensated for losses on one or more contracts issued by the Group
and that meet the classification requirements for insurance contracts are classified as reinsurance contracts held.
164
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The benefits to which the Group is entitled under its reinsurance contracts held are recognised as reinsurance assets. These assets consist of
short-term balances due from reinsurers as well as longer term receivables that are dependent on the expected claims and benefits arising under
the related reinsured contracts. Amounts recoverable from or due to reinsurers are measured consistently with the amounts associated with the
reinsured contracts and in accordance with the terms of each reinsurance contract and are regularly reviewed for impairment. Premiums payable for
reinsurance contracts are recognised as an expense when due within insurance premium income. Changes in the reinsurance recoverable assets are
recognised in the income statement through insurance claims.
(P) FOREIGN CURRENCY TRANSLATION
Items included in the financial statements of each of the Group’s entities are measured using the currency of the primary economic environment in
which the entity operates (the functional currency). The consolidated financial statements are presented in sterling, which is the Company’s functional
and presentation currency.
Foreign currency transactions are translated into the appropriate functional currency using the exchange rates prevailing at the dates of the
transactions. Foreign exchange gains and losses resulting from the settlement of such transactions and from the translation at year end exchange
rates of monetary assets and liabilities denominated in foreign currencies are recognised in the income statement, except when recognised in other
comprehensive income as qualifying cash flow or net investment hedges. Non-monetary assets that are measured at fair value are translated using
the exchange rate at the date that the fair value was determined. Translation differences on equities and similar non-monetary items held at fair value
through profit and loss are recognised in profit or loss as part of the fair value gain or loss. Translation differences on available-for-sale non-monetary
financial assets, such as equity shares, are included in the fair value reserve in equity unless the asset is a hedged item in a fair value hedge.
The results and financial position of all group entities that have a functional currency different from the presentation currency are translated into the
presentation currency as follows:
– The assets and liabilities of foreign operations, including goodwill and fair value adjustments arising on the acquisition of a foreign entity, are
translated into sterling at foreign exchange rates ruling at the balance sheet date.
– The income and expenses of foreign operations are translated into sterling at average exchange rates unless these do not approximate to the
foreign exchange rates ruling at the dates of the transactions in which case income and expenses are translated at the dates of the transactions.
Foreign exchange differences arising on the translation of a foreign operation are recognised in other comprehensive income and accumulated
in a separate component of equity together with exchange differences arising from the translation of borrowings and other currency instruments
designated as hedges of such investments (see (F)(3) above). On disposal of a foreign operation, the cumulative amount of exchange differences
relating to that foreign operation are reclassified from equity and included in determining the profit or loss arising on disposal.
(Q) PROVISIONS AND CONTINGENT LIABILITIES
Provisions are recognised in respect of present obligations arising from past events where it is probable that outflows of resources will be required to
settle the obligations and they can be reliably estimated.
The Group recognises provisions in respect of vacant leasehold property where the unavoidable costs of the present obligations exceed anticipated
rental income.
Contingent liabilities are possible obligations whose existence depends on the outcome of uncertain future events or those present obligations
where the outflows of resources are uncertain or cannot be measured reliably. Contingent liabilities are not recognised in the financial statements but
are disclosed unless they are remote.
(R) SHARE CAPITAL
(1) Share issue costs
Incremental costs directly attributable to the issue of new shares or options or to the acquisition of a business are shown in equity as a deduction, net
of tax, from the proceeds.
(2) Dividends
Dividends paid on the Group’s ordinary shares are recognised as a reduction in equity in the period in which they are paid.
(3) Treasury shares
Where the Company or any member of the Group purchases the Company’s share capital, the consideration paid is deducted from shareholders’
equity as treasury shares until they are cancelled. Where such shares are subsequently sold or reissued, any consideration received is included in
shareholders’ equity.
(S) CASH AND CASH EQUIVALENTS
For the purposes of the cash flow statement, cash and cash equivalents comprise cash and non-mandatory balances with central banks and amounts
due from banks with a maturity of less than three months.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
165
Lloyds Banking Group
Annual Report
and Accounts 2010
3 CRITICAL ACCOUNTING ESTIMATES AND JUDGEMENTS
The preparation of the Group’s financial statements in accordance with IFRS requires management to make judgements, estimates and assumptions
in applying the accounting policies that affect the reported amounts of assets, liabilities, income and expenses. Due to the inherent uncertainty in
making estimates, actual results reported in future periods may be based upon amounts which differ from those estimates. Estimates, judgements
and assumptions are continually evaluated and are based on historical experience and other factors, including expectations of future events that are
believed to be reasonable under the circumstances.
The significant judgements made by management in applying the Group’s accounting policies and the key sources of estimation uncertainty in these
financial statements, which together are deemed critical to the Group’s results and financial position, are as follows.
The estimates and judgements applied to these areas in the preparation of the Group’s financial statements are summarised below.
ALLOWANCE FOR IMPAIRMENT LOSSES ON LOANS AND RECEIVABLES
At 31 December 2010 gross loans and receivables totalled £667,555 million (2009: £710,362 million) against which impairment allowances of
£18,951 million (2009: £15,380 million) had been made (see note 25). The Group’s accounting policy for losses arising on financial assets classified as
loans and receivables is described in note 2(H)(1); this note also provides an overview of the methodologies applied.
The allowance for impairment losses on loans and receivables is management’s best estimate of losses incurred in the portfolio at the balance sheet
date. Impairment allowances are made up of two components, those determined individually and those determined collectively.
Individual impairment allowances are generally established against the Group’s wholesale lending portfolios. The determination of individual
impairment allowances requires the exercise of considerable judgement by management involving matters such as local economic conditions and
the resulting trading performance of the customer, and the value of the security held, for which there may not be a readily accessible market. In
particular, significant judgement is required by management in the current economic environment in assessing the borrower’s cash flows and debt
servicing capability together with the realisable value of real estate collateral. The actual amount of the future cash flows and their timing may differ
significantly from the assumptions made for the purposes of determining the impairment allowances and consequently these allowances can be
subject to variation as time progresses and the circumstances of the customer become clearer.
Collective impairment allowances are generally established for smaller balance homogenous portfolios. The collective impairment allowance is also
subject to estimation uncertainty and in particular is sensitive to changes in economic and credit conditions, including the interdependency of house
prices, unemployment rates, interest rates, borrowers’ behaviour, and consumer bankruptcy trends. It is, however, inherently difficult to estimate how
changes in one or more of these factors might impact the collective impairment allowance.
Given the relative size of the mortgage portfolio, a key variable is UK house prices which determine the collateral value supporting loans in such
portfolios. The value of this collateral is estimated by applying changes in house price indices to the original assessed value of the property.
If average house prices were 10 per cent lower than those estimated at 31 December 2010, the Retail division’s impairment charge would increase by
approximately £250 million.
In addition, a collective unimpaired provision is made for loan losses that have been incurred but have not been separately identified at the balance
sheet date. This provision is sensitive to changes in the time between the loss event and the date the impairment is specifically identified. This period
is known as the loss emergence period. In the Wholesale division, an increase of one month in the loss emergence period in respect of the loan
portfolio assessed for collective unimpaired provisions would result in an increase in the collective unimpaired provision of approximately £333 million.
UNWIND OF HBOS ACQUISITION FAIR VALUE ADJUSTMENTS
The acquisition of HBOS in January 2009 required the Group to recognise the identifiable assets acquired and liabilities assumed at their
acquisition-date fair values. The overall effect was to increase the book value of HBOS’s net assets by £1,241 million primarily reflecting a reduction in
the value of HBOS’s debt securities and subordinated liabilities of £15,439 million, partially offset by a reduction in the carrying value of HBOS’s loans
and receivables of £14,880 million, including loans and advances to customers of £13,512 million (see note 14).
In the periods subsequent to the acquisition, many of the fair value adjustments unwind and are recognised in the Group’s income statement. The
fair value adjustments made to debt securities and subordinated liabilities unwind over the expected remaining life of the related securities except
in the event that the liability is extinguished, in which case the remaining unamortised fair value adjustment is recognised in the income statement
immediately. The fair value adjustment relating to loans and receivables broadly comprises two elements; an element reflecting expected future
impairment losses at the date of acquisition and an element reflecting market liquidity. The element relating to market liquidity unwinds to the
income statement over the estimated useful lives of the related assets. However, significant management judgement is required to determine the
timing of the unwind of the element relating to future credit losses. This includes the identification of losses which were expected at the date of
acquisition and assessing whether anticipated losses will still be incurred. In 2010, a net credit of £3,118 million to the income statement relates to the
unwind of HBOS acquisition fair value adjustments. Of that amount, £2,229 million relates to impairment losses incurred which were expected at the
date of acquisition and £845 million relates to a reassessment of future credit losses.
FAIR VALUE OF FINANCIAL INSTRUMENTS
In accordance with IFRS 7, the Group categorises financial instruments carried on the balance sheet at fair value using a three level hierarchy.
Financial instruments categorised as level 1 are valued using quoted market prices and therefore there is minimal judgement applied in determining
fair value. However, the fair value of financial instruments categorised as level 2 and, in particular, level 3 is determined using valuation techniques
including discounted cash flow analysis and valuation models. These require management judgement and contain significant estimation uncertainty.
166
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
In particular, significant judgement is required by management in determining appropriate assumptions to be used for level 3 financial instruments.
At 31 December 2010, the Group classified £7,468 million of financial assets and £257 million of financial liabilities as level 3. The effect of applying
reasonably possible alternative assumptions in determining the fair value of the Group’s level 3 financial assets is set out in note 55.
RECOVERABILITY OF DEFERRED TAX ASSETS
At 31 December 2010 the Group carried deferred tax assets on its balance sheet of £4,164 million (2009: £5,006 million) and deferred tax liabilities
of £247 million (2009: £209 million) (note 44). This presentation takes into account the ability of the Group to net deferred tax assets and liabilities
only where there is a legally enforceable right of offset. Note 44 presents the Group’s deferred tax assets and liabilities by type. The largest category
of deferred tax asset relates to tax losses carried forward. At 31 December 2010, the Group recognised a deferred tax asset of £6,572 million
(2009 £5,925 million) in respect of tax losses carried forward.
The recognition of a deferred tax asset in respect of tax losses is permitted only to the extent that it is probable that future taxable profits will be
available to utilise the tax losses carried forward. The assessment of future taxable profits involves significant estimation uncertainty, principally
relating to management’s projections of future taxable income which are based on business plans. These projections include assumptions about the
future strategy of the Group, the economic and regulatory environment in which the Group operates, future tax legislation, customer behaviour, and
the ability of the Group to deliver expected integration benefits, amongst other variables. At 31 December 2010, management has concluded that
future taxable profits generated by the Group companies with tax losses carried forward are expected to be sufficient to utilise the tax losses carried
forward in full.
RETIREMENT BENEFIT OBLIGATIONS
The net asset recognised in the balance sheet at 31 December 2010 in respect of the Group’s retirement benefit obligations was £313 million
(comprising an asset of £736 million and a liability of £423 million) (2009: a liability of £780 million) of which an asset of £479 million (2009: a liability of
£619 million) related to defined benefit pension schemes. As explained in note 2(L), the Group adopts the corridor approach to the recognition of
actuarial gains and losses in respect of its pension schemes and as a consequence has not recognised actuarial losses of £959 million (2009: £2,936 million).
The defined benefit pension schemes’ gross deficit totalled £480 million (2009: £3,555 million) representing the difference between the schemes’
liabilities and the fair value of the related assets at the balance sheet date.
The value of the Group’s defined benefit pension schemes’ liabilities requires significant management judgement in determining the appropriate
assumptions to be used. The key areas of estimation uncertainty are the discount rate applied to future cash flows and the expected lifetime of
the schemes’ members. The size of the deficit is sensitive to changes in the discount rate, which is affected by market conditions and therefore
potentially subject to significant variation. The cost of the benefits payable by the schemes will also depend upon the longevity of the members.
Assumptions are made regarding the expected lifetime of scheme members based upon recent experience, however given the rate of advance
in medical science and increasing levels of obesity, it is uncertain whether they will ultimately reflect actual experience. Assumptions used by
management reflect recent longevity experience and extrapolate the improving trend.
The effect on the gross defined benefit pension scheme asset or liability and on the pension charge in the Group’s income statement of changes
to the principal actuarial assumptions is set out in note 43.
VALUATION OF ASSETS AND LIABILITIES ARISING FROM LIFE INSURANCE BUSINESS
At 31 December 2010, the Group recognised a value in-force business asset of £5,898 million (2009: £5,140 million) and an acquired value in-force
business asset of £1,469 million (2009: £1,545 million). The value in-force business asset represents the present value of future profits expected to
arise from the portfolio of in-force life insurance and participating investment contracts. The acquired value in-force business asset represents the
contractual rights to benefits from providing investment management services in relation to non-participating investment contracts acquired in
business combinations and portfolio transfers. The methodology used to value these assets is set out in note 2(O)(1). The valuation or recoverability
of these assets requires assumptions to be made about future economic and operating conditions which are inherently uncertain and changes could
significantly affect the value attributed to these assets. The key assumptions that have been made in determining the carrying value of the value
in-force business assets at 31 December 2010 are set out in note 30.
At 31 December 2010, the Group carried liabilities arising from insurance contracts and participating investment contracts of £80,729 million
(2009: £76,179 million). The methodology used to value these liabilities is described in note 2(O)(1). Elements of the liability valuations require
assumptions to be made about future investment returns, future mortality rates and future policyholder behaviour and are subject to significant
management judgement and estimation uncertainty. The key assumptions that have been made in determining the carrying value of
these liabilities are set out in note 38.
The effect on the Group’s profit before tax and shareholders’ equity of changes in key assumptions used in determining the life insurance assets and
liabilities is set out in note 39.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
167
Lloyds Banking Group
Annual Report
and Accounts 2010
4 SEGMENTAL ANALYSIS
Lloyds Banking Group provides a wide range of banking and financial services in the UK and in certain locations overseas.
The Group Executive Committee has been determined to be the chief operating decision maker for the Group. The Group’s operating segments
reflect its organisational and management structures. The Group Executive Committee reviews the Group’s internal reporting based around these
segments in order to assess performance and allocate resources. This assessment includes a consideration of each segment’s net interest revenue
and consequently the total interest income and expense for all reportable segments is presented on a net basis. The segments are differentiated by
the type of products provided, by whether the customers are individuals or corporate entities and by the geographical location of the customer.
The Group’s activities continue to be organised into four financial reporting segments: Retail, Wholesale, Wealth and International and Insurance.
The segmental results and comparatives are presented on the basis reviewed by the chief operating decision maker and as a consequence the
comparatives for 2009 include the pre-acquisition results of HBOS for the period from 1 January 2009 to 16 January 2009.
Retail offers a broad range of retail financial service products in the UK, including current accounts, savings, personal loans, credit cards and
mortgages. It is also a major general insurance and bancassurance distributor, selling a wide range of long-term savings, investment and general
insurance products.
The Wholesale division serves in excess of a million businesses ranging from start-ups and small enterprises to global corporations, with a range of
propositions segmented according to customer need. The division comprises Corporate Markets, Treasury and Trading and Asset Finance.
Wealth and International was created in 2009 to give increased focus and momentum to the Group’s private banking and asset management
activities and to closely co-ordinate the management of its international businesses. Wealth comprises the Group’s private banking, wealth and asset
management businesses in the UK and overseas. International comprises corporate, commercial, asset finance and retail businesses, principally in
Australia and Continental Europe.
The Insurance division provides long-term savings, investment and protection products distributed through the retail branch network, intermediary
and direct channels in the UK. It is also a distributor of home insurance in the UK with products sold through the retail branch network, direct channels
and strategic corporate partners. The division consists of three business units: Life, Pensions and Investments UK; Life, Pensions and Investments
Europe; and General Insurance.
Other includes the results of managing the Group’s technology platforms, branch and head office property estate, operations (including payments,
banking operations and collections) and procurement services, the costs of which are predominantly recharged to the other divisions. It also reflects
other items not recharged to the divisions, including hedge ineffectiveness and certain capital and wholesale liquidity funding costs.
Inter-segment services are generally recharged at cost, with the exception of the internal commission arrangements between the UK branch
and other distribution networks and the insurance product manufacturing businesses within the Group, where a profit margin is also charged.
Inter-segment lending and deposits are generally entered into at market rates, except that non-interest bearing balances are priced at a rate that
reflects the external yield that could be earned on such funds.
For those derivative contracts entered into by business units for risk management purposes, the business unit retains the amount that would have
been recognised on an accrual accounting basis (an amount equal to the interest element of the next payment on the swap) and transfers the
remainder of the fair value of the swap to the central group segment where the resulting accounting volatility is managed though the establishment
of hedge accounting relationships. Any change in fair value of the hedged instrument attributable to the hedged risk is also recorded within the
central group segment. This allocation of the fair value of the swap and change in fair value of the hedged instrument attributable to the hedged risk
avoids accounting asymmetry in segmental results and records volatility in the central group segment where it is managed.
168
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Year ended 31 December 2010
Net interest income
Other income (net of fee and
commission expense)
Total income
Insurance claims
Total income, net of insurance claims
Costs:
Operating expenses
Impairment of tangible fixed assets
Trading surplus
Impairment
Share of results of joint ventures and associates
Profit (loss) before tax and fair value unwind
Fair value unwind
Profit (loss) before tax
External revenue
Inter-segment revenue
Segment revenue
Segment external assets
Segment customer deposits
Other segment items reflected in income
statement above:
Depreciation and amortisation
Increase in value of in-force business
Defined benefit scheme charges
Other segment items:
Additions to tangible fixed assets
Investments in joint ventures and associates at
end of year
Retail
£m
Wholesale
£m
Wealth and
International
£m
Insurance
£m
Other
£m
Reported basis
total
£m
9,378
4,426
1,176
(263)
(895)
13,822
1,607
10,985
–
10,985
(4,644)
–
(4,644)
6,341
(2,747)
17
3,611
1,105
4,716
13,603
(2,618)
10,985
370,708
235,591
384
–
176
126
139
4,136
8,562
–
8,562
(3,744)
(150)
(3,894)
4,668
(4,446)
(95)
127
3,130
3,257
3,969
4,593
8,562
355,582
124,262
1,133
–
89
1,708
1,160
2,336
–
2,336
(1,536)
–
(1,536)
800
(5,988)
(8)
(5,196)
372
(4,824)
3,000
(664)
2,336
85,158
32,784
87
2
36
20
127
158
2,814
2,551
(542)
2,009
(854)
–
(854)
1,155
–
(10)
1,145
(43)
1,102
3,180
(629)
2,551
144,540
–
135
787
28
585
–
447
(448)
–
(448)
(150)
–
(150)
(598)
–
5
(593)
(1,446)
(2,039)
234
(682)
(448)
35,586
996
64
–
126
777
5
10,164
23,986
(542)
23,444
(10,928)
(150)
(11,078)
12,366
(13,181)
(91)
(906)
3,118
2,212
23,986
–
23,986
991,574
393,633
1,803
789
455
3,216
429
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
169
Lloyds Banking Group
Annual Report
and Accounts 2010
Year ended 31 December 2009
Net interest income
Other income (net of fee and
commission expense)
Total income
Insurance claims
Total income, net of insurance claims
Operating expenses
Trading surplus
Impairment
Share of results of joint ventures and associates
Profit (loss) before tax and fair value unwind
Fair value unwind
Profit (loss) before tax
External revenue
Inter-segment revenue
Segment revenue
Segment external assets
Segment customer deposits
Other segment items reflected in income
statement above:
Depreciation and amortisation
(Decrease) increase in value of
in-force business
Defined benefit scheme charges
Other segment items:
Additions to tangible fixed assets
Investments in joint ventures and associates at
end of year
Retail
£m
Wholesale
£m
Wealth and
International
£m
Insurance
£m
Other
£m
Reported basis
total
£m
7,970
4,710
1,217
(287)
(884)
12,726
1,804
9,774
–
9,774
(4,566)
5,208
(4,227)
(6)
975
407
1,382
14,221
(4,447)
9,774
383,588
224,149
196
–
190
65
30
4,199
8,909
–
8,909
(4,106)
4,803
(15,683)
(720)
(11,600)
6,897
(4,703)
4,165
4,744
8,909
401,836
153,389
1,284
–
112
2,969
189
1,128
2,345
–
2,345
(1,544)
801
(4,078)
(21)
(3,298)
942
(2,356)
2,859
(514)
2,345
86,272
29,037
84
(5)
40
53
123
2,944
2,657
(637)
2,020
(974)
1,046
–
(22)
1,024
(49)
975
3,780
(1,123)
2,657
135,814
–
152
1,097
39
255
(14)
1,800
916
–
916
(419)
497
–
2
499
(2,097)
(1,598)
(424)
1,340
916
19,745
166
147
–
156
487
151
11,875
24,601
(637)
23,964
(11,609)
12,355
(23,988)
(767)
(12,400)
6,100
(6,300)
24,601
–
24,601
1,027,255
406,741
1,863
1,092
537
3,829
479
170
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
4 SEGMENTAL ANALYSIS continued
RECONCILIATION OF REPORTED BASIS TO STATUTORY RESULTS
The reported basis is the basis on which financial information is presented to the chief operating decision maker which excludes certain items
included in the statutory results. The table below reconciles the statutory results to the reported basis.
Lloyds
Banking
Group
statutory
£m
Acquisition
related items,
including pension,
curtailment gain1
£m
Volatility arising
in insurance
businesses
£m
12,546
30,921
43,467
(18,511)
24,956
(13,068)
(202)
(13,270)
11,686
(10,952)
(88)
(365)
–
–
–
–
–
1,320
52
1,372
1,372
–
–
–
–
26
(332)
(306)
–
(306)
–
–
–
(306)
–
–
–
–
281
1,372
(306)
Removal of:
Insurance
gross up
£m
949
(19,162)
(18,213)
17,967
(246)
246
–
246
–
–
–
–
–
–
Customer
goodwill
payments
provision and
loss on
disposal
of businesses
£m
–
–
–
–
–
500
–
500
500
–
–
365
–
865
Fair value
unwind
£m
Reported
basis
£m
301
(1,263)
(962)
2
13,822
10,164
23,986
(542)
(960)
23,444
74
–
74
(886)
(10,928)
(150)
(11,078)
12,366
(2,229)
(13,181)
(3)
–
3,118
–
(91)
–
3,118
2,212
Year ended 31 December 2010
Net interest income
Other income
Total income
Insurance claims
Total income, net of insurance claims
Costs:
Operating expenses
Impairment of tangible fixed assets
Trading surplus (deficit)
Impairment
Share of results of joint ventures and associates
Loss on disposal of businesses
Fair value unwind
Profit (loss) before tax
1
Comprises the pension curtailment gain (£910 million, see note 43), integration costs (£1,653 million) and amortisation of purchased intangibles (£629 million).
Year ended 31 December 2009
Net interest income
Other income
Total income
Insurance claims
Lloyds
Banking
Group
statutory
£m
9,026
36,271
45,297
(22,019)
Total income, net of insurance claims
23,278
Operating expenses
Trading surplus (deficit)
Impairment
Share of results of joint ventures and
associates
Gain on acquisition
Fair value unwind
Profit (loss) before tax
(15,984)
7,294
(16,673)
(752)
11,173
–
1,042
Removal of:
Government
Asset Protection
Scheme fee
and acquisition
related items1
£m
Volatility arising
in insurance
businesses
£m
Pre-acquisition
results of HBOS
£m
Insurance
gross up
£m
Fair value
unwind
£m
Reported
basis
£m
243
(1,123)
(880)
1,349
469
(293)
176
(456)
–
–
–
(280)
–
–
–
–
–
4,589
4,589
–
–
(11,173)
–
(6,584)
11
(479)
(468)
–
(468)
–
(468)
–
(10)
–
–
(478)
1,280
(21,659)
(20,379)
20,318
(61)
61
–
–
–
–
–
–
2,166
(1,135)
1,031
(285)
746
18
764
(6,859)
(5)
–
6,100
–
12,726
11,875
24,601
(637)
23,964
(11,609)
12,355
(23,988)
(767)
–
6,100
(6,300)
1
Comprises the gain on acquisition (£11,173 million), the Government Asset Protection Scheme fee (£2,500 million), integration costs (£1,096 million), amortisation of purchased intangibles (£753 million)
and goodwill impairment (£240 million).
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
171
Lloyds Banking Group
Annual Report
and Accounts 2010
4 SEGMENTAL ANALYSIS continued
GEOGRAPHICAL AREAS
The Group’s activities are focused in the UK and the analyses of income and assets below are based on the location of the branch or entity recording
the income or assets.
Total income
Total assets
UK
£m
39,263
873,138
2010
Non-UK
£m
4,204
118,436
Total
£m
43,467
991,574
UK
£m
42,572
916,734
2009
Non-UK
£m
2,725
Total
£m
45,297
110,521
1,027,255
There was no individual non-UK country contributing more than 5 per cent of total income or total assets.
5 NET INTEREST INCOME
Weighted average
effective interest rate
Interest and similar income:
Loans and advances to customers, excluding lease and hire purchase receivables
Loans and advances to banks
Debt securities held as loans and receivables
Lease and hire purchase receivables
Interest receivable on loans and receivables
Available-for-sale financial assets
Held-to-maturity investments
Total interest and similar income
Interest and similar expense:
Deposits from banks, excluding liabilities under sale and repurchase transactions
Customer deposits, excluding liabilities under sale and repurchase transactions
Debt securities in issue
Subordinated liabilities
Liabilities under sale and repurchase agreements
Interest payable on liabilities held at amortised cost
Other
Total interest and similar expense
Net interest income
2010
%
4.28
0.72
4.41
6.74
3.96
2.88
2.51
3.89
0.78
1.51
2.49
10.98
1.18
2.19
6.97
2.27
2009
%
3.58
1.18
3.68
6.01
3.43
1.78
–
3.32
0.95
1.23
2.56
10.05
1.95
2.13
14.92
2.30
2010
£m
25,459
512
1,377
626
27,974
1,311
55
29,340
(319)
(5,381)
(5,833)
(3,619)
(744)
(15,896)
(898)
(16,794)
12,546
2009
£m
24,171
769
1,469
852
27,261
977
–
28,238
(883)
(4,410)
(6,318)
(4,325)
(1,655)
(17,591)
(1,621)
(19,212)
9,026
Included within interest and similar income is £1,288 million (2009: £971 million) in respect of impaired financial assets. Net interest income also
includes a charge of £932 million (2009: charge of £121 million) transferred from the cash flow hedging reserve (see note 49).
172
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
6 NET FEE AND COMMISSION INCOME
Fee and commission income:
Current accounts
Credit and debit card fees
Other
Total fee and commission income
Fee and commission expense
Net fee and commission income
2010
£m
1,086
812
2,517
4,415
(1,682)
2,733
2009
£m
1,088
765
2,401
4,254
(1,517)
2,737
As discussed in note 2, fees and commissions which are an integral part of the effective interest rate form part of net interest income shown in note 5.
Fees and commissions relating to instruments that are held at fair value through profit or loss are included within net trading income shown in note 7.
7 NET TRADING INCOME
Foreign exchange translation gains
Gains on foreign exchange trading transactions
Total foreign exchange
Investment property gains (losses) (note 28)
Securities and other gains (see below)
Net trading income
2010
£m
70
377
447
434
14,843
15,724
2009
£m
283
488
771
(214)
18,541
19,098
Securities and other gains comprise net gains arising on assets and liabilities held at fair value through profit or loss and for trading as follows:
Net income arising on assets held at fair value through profit or loss:
Debt securities, loans and advances
Equity shares
Total net income arising on assets held at fair value through profit or loss
Net expense arising on liabilities held at fair value through profit or loss – debt securities in issue
Total net gains arising on assets and liabilities held at fair value through profit or loss
Net gains on financial instruments held for trading
Securities and other gains
2010
£m
2009
£m
2,292
10,333
12,625
(231)
12,394
2,449
14,843
4,297
11,475
15,772
(125)
15,647
2,894
18,541
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
173
Lloyds Banking Group
Annual Report
and Accounts 2010
8 INSURANCE PREMIUM INCOME
Life insurance
Gross premiums
Ceded reinsurance premiums
Net earned premiums
Non-life insurance
Gross written premiums
Ceded reinsurance premiums
Net written premiums
Change in provision for unearned premiums (note 38(2))
Change in provision for ceded unearned premiums (note 38(2))
Net earned premiums
Total net earned premiums
Life insurance gross premiums can be further analysed as follows:
Life and pensions
Annuities
Other
Gross premiums
Non-life insurance gross written premiums can be further analysed as follows:
Credit protection
Home
Health
Gross written premiums
2010
£m
7,026
(253)
6,773
1,332
(104)
1,228
156
(9)
1,375
8,148
2010
£m
6,428
583
15
7,026
2010
£m
363
964
5
2009
£m
7,768
(308)
7,460
1,390
(101)
1,289
171
26
1,486
8,946
2009
£m
7,070
685
13
7,768
2009
£m
417
968
5
1,332
1,390
174
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
9 OTHER OPERATING INCOME
Operating lease rental income
Rental income from investment properties (note 28)
Other rents receivable
Gains less losses on disposal of available-for-sale financial assets (note 49)
Movement in value of in-force business (note 30)
Gains on capital transactions
Other income
Total other operating income
2010
£m
1,410
337
41
399
789
423
917
4,316
2009
£m
1,509
358
51
97
1,169
1,498
808
5,490
GAINS ON CAPITAL TRANSACTIONS
During 2010 and 2009, as part of the Group’s management of capital, the Group exchanged certain existing subordinated debt securities for new
securities. These exchanges resulted in a gain on extinguishment of the existing liabilities of £423 million (2009: £1,498 million), being the difference
between the carrying amount of the securities extinguished and the fair value of the new securities issued together with related fees and costs.
On 18 February 2010, as part of the Group’s recapitalisation and exit from its proposed participation in the Government Asset Protection Scheme,
Lloyds Banking Group plc issued 3,141 million ordinary shares in exchange for certain existing preference shares and preferred securities.
This exchange resulted in a gain of £85 million.
During March 2010 the Group entered into a bilateral exchange, under which certain Enhanced Capital Notes denominated in Japanese yen were
exchanged for an issue of new Enhanced Capital Notes denominated in US dollars; the securities subject to the exchange were cancelled and a
profit of £20 million arose.
In addition, during May and June 2010 the Group completed the exchange of a number of outstanding capital securities issued by Lloyds Banking
Group plc and certain of its subsidiaries for ordinary shares in Lloyds Banking Group plc, generating additional core tier 1 capital for the Group.
The securities subject to exchange were cancelled, generating a total profit of £318 million for the Group.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
175
Lloyds Banking Group
Annual Report
and Accounts 2010
10 INSURANCE CLAIMS
Insurance claims comprise:
Life insurance and participating investment contracts
Claims and surrenders:
Gross
Reinsurers’ share
Change in insurance and participating investment contract liabilities (note 38(1)):
Change in gross liabilities
Change in reinsurers’ share of liabilities
Change in non-participating investment contract liabilities:
Change in gross liabilities
Change in reinsurers’ share of liabilities
Change in unallocated surplus (note 41)
Total life insurance and participating investment contracts
Non-life insurance
Claims and claims paid:
Gross
Reinsurers’ share
Change in liabilities (note 38(2)):
Gross
Reinsurers’ share
Total non-life insurance
Total insurance claims
Life insurance and participating investment contracts gross claims can also be analysed as follows:
Deaths
Maturities
Surrenders
Annuities
Other
Total life insurance gross claims
A non-life insurance claims development table is included in note 38.
2010
£m
2009
£m
(9,397)
159
(9,238)
(4,622)
256
(4,366)
(4,872)
65
(4,807)
439
(8,010)
146
(7,864)
(5,922)
177
(5,745)
(7,458)
–
(7,458)
(318)
(17,972)
(21,385)
(470)
11
(459)
(82)
2
(80)
(539)
(542)
16
(526)
(111)
3
(108)
(634)
(18,511)
(22,019)
(662)
(1,763)
(5,904)
(741)
(327)
(9,397)
(637)
(2,107)
(4,225)
(710)
(331)
(8,010)
176
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
11 OPERATING EXPENSES
Staff costs:
Salaries
Social security costs
Pensions and other post-retirement benefit schemes (note 43):
Curtailment gain1
Other
Restructuring costs
Other staff costs
Premises and equipment:
Rent and rates
Hire of equipment
Repairs and maintenance
Other
Other expenses:
Communications and data processing
Advertising and promotion
Professional fees
Customer goodwill payments provision (note 45)
Other
Depreciation and amortisation:
Depreciation of tangible fixed assets (note 32)
Amortisation of acquired value of in-force non-participating investment contracts (note 30)
Amortisation of other intangible assets (note 31)
Impairment of tangible fixed assets2 (note 32)
Goodwill impairment (note 29)
Total operating expenses excluding Government Asset Protection Scheme fee
Government Asset Protection Scheme fee
Total operating expenses
The average number of persons on a headcount basis employed by the Group during the year was as follows:
UK
Overseas
Total
2010
£m
4,220
396
(910)
628
(282)
119
1,016
5,469
601
18
199
407
1,225
891
362
742
500
2009
£m
4,369
383
–
744
744
412
767
6,675
569
20
226
341
1,156
668
335
540
–
1,447
3,942
1,310
2,853
1,635
76
721
2,432
202
–
13,270
–
13,270
2010
118,149
4,830
122,979
1,716
75
769
2,560
–
240
13,484
2,500
15,984
2009
125,109
6,891
132,000
1
Following changes by the Group to the terms of its defined benefit pension schemes, all future increases to pensionable salary will be capped each year at the lower of: Retail Prices Index inflation;
each employee’s actual percentage increase in pay; and 2 per cent of pensionable pay. In addition to this, during the second half of the year there was a change in commutation factors in certain
defined benefit schemes. The combined effect of these changes is a reduction in the Group’s defined benefit obligation of £1,081 million and a reduction in the Group’s unrecognised actuarial losses
of £171 million, resulting in a net curtailment gain of £910 million recognised in the income statement and a reduction in the balance sheet liability.
2
£52 million of the impairment of tangible fixed assets relates to integration activities.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
177
Lloyds Banking Group
Annual Report
and Accounts 2010
11 OPERATING EXPENSES continued
Fees payable for the audit of the Company’s current year annual report
Fees payable for other services:
Audit of the Company’s subsidiaries pursuant to legislation
Other services supplied pursuant to legislation
Total audit fees
Other services – audit related fees
Total audit and audit related fees
Services relating to taxation
Other non-audit fees:
Services relating to corporate finance transactions
Other services
Total other non-audit fees
Total fees payable to the Company’s auditors by the Group
2010
£m
1.9
17.9
6.2
26.0
1.8
27.8
1.0
1.9
9.7
11.6
40.4
2009
£m
2.2
18.8
4.2
25.2
5.3
30.5
1.0
0.3
8.9
9.2
40.7
Other non-audit fees include the costs associated with the Group’s preparations for ensuring that the heritage HBOS businesses complied fully with
the requirements of the Sarbanes-Oxley Act by 31 December 2010.
The following types of services are included in the categories listed above:
Audit fees: This category includes fees in respect of the audit of the Group’s annual financial statements and other services in connection with
regulatory filings. Other services supplied pursuant to legislation relate primarily to the costs associated with the Sarbanes-Oxley Act audit
requirements together with the cost of the audit of the Group’s Form 20-F filing.
Audit related fees: This category includes fees in respect of services for assurance and related services that are reasonably related to the
performance of the audit or review of the financial statements, for example acting as reporting accountants in respect of prospectuses and circulars
required by the UKLA listing rules.
Services relating to taxation: This category includes tax compliance and tax advisory services.
Other non-audit fees: This category includes due diligence relating to corporate finance, including venture capital transactions and other assurance
and advisory services.
It is the Group’s policy to use the auditors on assignments in cases where their knowledge of the Group means that it is neither efficient nor cost
effective to employ another firm of accountants. Such assignments typically relate to the provision of advice on tax issues, assistance in transactions
involving the acquisition and disposal of businesses and accounting advice.
The Group has procedures that are designed to ensure auditor independence, including that fees for audit and non-audit services are approved in
advance. This approval can be obtained either on an individual engagement basis or, for certain types of non-audit services, particularly those of a
recurring nature, through the approval of a fee cap covering all engagements of that type provided the fee is below that cap. All statutory audit work
as well as non-audit assignments where the fee is expected to exceed the relevant fee cap must be pre-approved by the Audit Committee on an
individual engagement basis. On a quarterly basis, the Audit Committee receives a report detailing all pre-approved services and amounts paid to
the auditors for such pre-approved services.
During the year, the auditors also earned fees payable by entities outside the consolidated Lloyds Banking Group in respect of the following:
Audits of Group pension schemes
Audits of the unconsolidated Open Ended Investment Companies managed by the Group
Reviews of the financial position of corporate and other borrowers
Acquisition due diligence and other work performed in respect of potential venture capital investments
2010
£m
0.3
0.8
17.2
1.2
2009
£m
0.3
0.6
19.3
1.4
178
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
12 IMPAIRMENT
Impairment losses on loans and receivables:
Loans and advances to banks
Loans and advances to customers
Debt securities classified as loans and receivables
Total impairment losses on loans and receivables (note 25)
Impairment of available-for-sale financial assets
Other credit risk provisions (note 45)
Total impairment charged to the income statement
2010
£m
(13)
10,727
57
10,771
106
75
2009
£m
(3)
15,783
248
16,028
602
43
10,952
16,673
13 INVESTMENTS IN JOINT VENTURES AND ASSOCIATES
The Group’s share of results of and investments in joint ventures and associates comprises:
Joint ventures
Associates
Total
Share of income statement amounts:
Income
Expenses
Impairment
Insurance claims
Loss before tax
Tax
Share of post-tax results
Share of balance sheet amounts:
Current assets
Non-current assets
Current liabilities
Non-current liabilities
Share of net assets at 31 December
Movement in investments over the year:
At 1 January
Adjustment on acquisition
Additional investments
Acquisitions
Disposals
Share of post-tax results
Dividends paid
Exchange and other adjustments
Share of net assets at 31 December
2010
£m
318
(209)
(126)
–
(17)
(22)
(39)
3,370
2,868
(588)
(5,324)
326
370
–
71
–
(68)
(39)
–
(8)
326
2009
£m
708
(544)
(272)
(465)
(573)
24
(549)
2,754
4,662
(2,175)
(4,871)
370
55
956
140
3
(199)
(549)
(21)
(15)
370
2010
£m
135
(91)
(92)
–
(48)
(1)
(49)
378
1,184
(433)
(1,026)
103
109
–
6
–
(2)
(49)
(1)
40
103
2009
£m
5
(96)
(114)
–
(205)
2
(203)
605
1,611
(494)
(1,613)
109
–
219
12
60
(39)
(203)
–
60
109
2010
£m
453
(300)
(218)
–
(65)
(23)
(88)
3,748
4,052
(1,021)
(6,350)
429
479
–
77
–
(70)
(88)
(1)
32
429
2009
£m
713
(640)
(386)
(465)
(778)
26
(752)
3,359
6,273
(2,669)
(6,484)
479
55
1,175
152
63
(238)
(752)
(21)
45
479
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
179
Lloyds Banking Group
Annual Report
and Accounts 2010
13 INVESTMENTS IN JOINT VENTURES AND ASSOCIATES continued
The Group’s unrecognised share of losses of associates for the year is £8 million (2009: £64 million) and of joint ventures is £180 million
(2009: £424 million). For entities making losses, subsequent profits earned are not recognised until previously unrecognised losses are extinguished.
The Group’s unrecognised share of losses net of unrecognised profits on a cumulative basis of associates is £104 million (2009: £64 million) and of
joint ventures is £339 million (2009: £424 million).
The Group’s principal joint venture investment at 31 December 2010 was in Sainsbury’s Bank plc; the Group owns 50 per cent of the ordinary share
capital of Sainsbury’s Bank plc, whose business is banking and principal area of operation is the UK. Sainsbury’s Bank plc is incorporated in the UK
and the Group’s interest is held by a subsidiary.
Where entities have statutory accounts drawn up to a date other than 31 December management accounts are used when accounting for them
by the Group.
14 GAIN ON ACQUISITION IN 2009
On 16 January 2009, the Group acquired 100 per cent of the ordinary share capital of HBOS plc, which together with its subsidiaries undertakes
banking, insurance and other financial services related activities in the UK and in certain overseas locations.
The table below sets out the fair value of the identifiable net assets acquired.
At the time of the recommended offer for HBOS in September 2008, it had become increasingly difficult for HBOS to raise funds in wholesale
markets and their Board sought to restore confidence and stability through an agreement to be acquired by Lloyds TSB Group plc announced on
18 September 2008 at the original terms of 0.833 Lloyds TSB Group plc shares for each HBOS share. However turbulence in the markets continued
and the UK Government decided in October 2008 that it would be appropriate for the UK banking sector to increase its level of capitalisation. As a
consequence of the recapitalisation of HBOS and the impact of the deteriorating market conditions the terms of the final agreed offer were revised
down to a ratio of 0.605 per HBOS share.
As the fair value of the identifiable net assets acquired was greater than the total consideration paid, negative goodwill arose on the acquisition.
The negative goodwill was recognised as a ‘Gain on acquisition’ in the income statement for the year ended 31 December 2009. In accordance with
accounting requirements, the measurement period for the fair values of the acquired assets and liabilities ended on 15 January 2010 (one year from
the date of acquisition); no further fair value adjustments were made beyond those reflected in the Group’s 31 December 2009 financial statements.
Assets
Cash and balances at central banks
Items in the course of collection from banks
Trading and other financial assets at fair value through profit or loss
Derivative financial instruments
Loans and receivables:
Loans and advances to banks
Loans and advances to customers
Debt securities
Available-for-sale financial assets
Investment properties
Investments in joint ventures and associates
Value of in-force business
Other intangible assets
Tangible fixed assets
Current tax recoverable
Deferred tax assets
Other assets
Total assets
Book value
as at
16 January
2009
£m
2,123
523
83,857
54,840
15,751
450,351
39,819
27,151
3,002
1,152
3,152
104
5,721
1,050
2,556
7,601
Fair value
adjustments
£m
–
–
–
(808)
43
(13,512)
(1,411)
–
–
23
561
4,650
(14)
–
(602)
(905)
Fair value
as at
16 January
2009
£m
2,123
523
83,857
54,032
15,794
436,839
38,408
27,151
3,002
1,175
3,713
4,754
5,707
1,050
1,954
6,696
698,753
(11,975)
686,778
180
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Liabilities
Deposits from banks
Customer deposits
Items in course of transmission to banks
Trading and other financial liabilities at fair value through profit or loss
Derivative financial instruments
Notes in circulation
Debt securities in issue
Liabilities arising from insurance contracts and participating investment contracts
Liabilities arising from non-participating investment contracts
Unallocated surplus within insurance businesses
Other liabilities
Retirement benefit obligations
Current tax liabilities
Deferred tax liabilities
Other provisions
Subordinated liabilities
Total liabilities
Net assets acquired
Fair value of net assets acquired
Adjust for:
Preference shares1
Non-controlling interests
Adjusted net assets of HBOS acquired
Consideration inclusive of acquisition costs:
Issue of 7,776 million ordinary shares of 25p in Lloyds Banking Group plc 2
Fees and expenses related to the transaction
Total consideration
Gain on acquisition in 2009
Book value
as at
16 January
2009
£m
87,731
223,859
521
16,360
45,798
936
Fair value
adjustments
£m
109
835
–
–
–
–
Fair value
as at
16 January
2009
£m
87,840
224,694
521
16,360
45,798
936
191,566
(6,247)
185,319
36,405
28,168
526
14,732
(474)
58
245
146
29,240
675,817
22,936
282
13
–
(312)
832
–
(142)
606
(9,192)
(13,216)
1,241
36,687
28,181
526
14,420
358
58
103
752
20,048
662,601
24,177
24,177
(3,917)
(1,300)
18,960
(7,651)
(136)
(7,787)
11,173
1
2
On 16 January 2009, the Group cancelled the following HBOS preference share issuances in exchange for preference shares issued by Lloyds Banking Group plc: 6.475 per cent non-cumulative
preference shares of £1 each, 6.3673 per cent non-cumulative fixed to floating preference shares of £1 each and 6.0884 per cent non-cumulative preference shares of £1 each. The fair value of the
Lloyds Banking Group preference shares issued was deducted from the net assets acquired for the purposes of calculating the gain arising on acquisition.
The calculation of consideration was based on the closing price of Lloyds TSB ordinary shares of 98.4p on 16 January 2009; 12,852 million HBOS shares were exchanged for Lloyds Banking Group
shares at a ratio of 0.605 shares per HBOS share.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
181
Lloyds Banking Group
Annual Report
and Accounts 2010
15 LOSS ON DISPOSAL OF BUSINESSES
During 2009, the Group acquired an oil drilling rig construction business through a previous lending relationship and consolidated the results and net
assets of the business from the date it exercised control.
In the first half of 2010, as a result of a deteriorating market, the Group impaired the oil drilling rigs under construction held by the business by
£150 million to reflect their reduced value in use. This impairment was recognised in the Wholesale segment.
In the second half of 2010, the Group reached agreement to dispose of its interests in the two wholly-owned subsidiary companies through which this
business operates; the sale was completed in January 2011. These companies, which had gross assets of £860 million, were sold to Seadrill Limited; a
loss of £365 million arose on disposal.
The Group extended vendor financing, on normal commercial terms and negotiated on an arms length basis, to Seadrill to facilitate the acquisition
of the rig holding companies. The loan is not contingent on the performance of the oil rigs under construction. Accordingly, as at 31 December 2010,
the subsidiaries were derecognised.
16 TAXATION
(A) ANALYSIS OF TAX (CHARGE) CREDIT FOR THE YEAR
UK corporation tax:
Current tax on profit for the year
Adjustments in respect of prior years
Double taxation relief
Foreign tax:
Current tax on profit for the year
Adjustments in respect of prior years
Current tax credit (charge)
Deferred tax (note 44):
Origination and reversal of temporary differences
Reduction in UK corporation tax rate
Adjustments in respect of prior years
Tax (charge) credit
The (charge) credit for tax on the profit for 2010 and 2009 is based on a UK corporation tax rate of 28.0 per cent.
The above income tax (charge) credit is made up as follows:
Tax charge attributable to policyholders
Shareholder tax (charge) credit
Tax (charge) credit
2010
£m
(146)
310
164
1
165
(82)
49
(33)
132
(393)
(137)
(141)
(671)
(539)
2010
£m
(315)
(224)
(539)
2009
£m
(227)
(310)
(537)
10
(527)
(221)
40
(181)
(708)
2,429
–
190
2,619
1,911
2009
£m
(410)
2,321
1,911
182
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(B) FACTORS AFFECTING THE TAX (CHARGE) CREDIT FOR THE YEAR
A reconciliation of the charge that would result from applying the standard UK corporation tax rate to profit before tax to the tax (charge) credit for
the year is given below:
Profit before tax
Tax charge thereon at UK corporation tax rate of 28.0 per cent (2009: 28.0 per cent)
Factors affecting charge:
UK corporation tax rate change
Goodwill
Disallowed and non-taxable items
Overseas tax rate differences
Gains exempted or covered by capital losses
Policyholder interests
Tax losses where no deferred tax provided
Adjustments in respect of previous years
Effect of results of joint ventures and associates
Other items
Tax (charge) credit on profit on ordinary activities
17 EARNINGS PER SHARE
(Loss) profit attributable to equity shareholders – basic and diluted
Weighted average number of ordinary shares in issue – basic
Adjustment for share options and awards
Weighted average number of ordinary shares in issue – diluted
Basic earnings per share
Diluted earnings per share
2010
£m
281
(79)
(137)
–
5
134
65
(227)
(487)
218
(25)
(6)
(539)
2010
£m
(320)
2010
million
67,117
–
67,117
(0.5)p
(0.5)p
2009
£m
1,042
(292)
–
3,061
408
(352)
(14)
(295)
(332)
(66)
(211)
4
1,911
2009
£m
2,827
2009
million
37,674
255
37,929
7.5p
7.5p
Basic earnings per share are calculated by dividing the net profit attributable to equity shareholders by the weighted average number of ordinary
shares in issue during the year, which has been calculated after deducting 8 million (2009: 10 million) ordinary shares representing the Group’s
holdings of own shares in respect of employee share schemes.
For the calculation of diluted earnings per share the weighted average number of ordinary shares in issue is adjusted to assume conversion of all
dilutive potential ordinary shares, if any, that arise in respect of share options and awards granted to employees. The number of shares that could
have been acquired at the average annual share price of the Company’s shares based on the monetary value of the subscription rights attached to
outstanding share options and awards is determined. This is deducted from the number of shares issuable under such options and awards to leave
a residual bonus amount of shares which are added to the weighted-average number of ordinary shares in issue, but no adjustment is made to the
profit attributable to equity shareholders.
In December 2009, as part of the Group’s recapitalisation and exit from the Government Asset Protection Scheme, the Group entered into an
agreement with holders of certain existing liabilities to exchange these for ordinary shares or for cash on 18 February 2010. The weighted average
number of anti-dilutive shares arising from this transaction that have been excluded from the calculation of diluted earnings per share was 294 million
at 31 December 2009. On 18 February 2010, the above exchange completed and 3,141 million new ordinary shares in Lloyds Banking Group plc
were issued.
The weighted-average number of anti-dilutive share options and awards excluded from the calculation of diluted earnings per share was 92 million
at 31 December 2010 (2009: 393 million).
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
183
Lloyds Banking Group
Annual Report
and Accounts 2010
18 TRADING AND OTHER FINANCIAL ASSETS AT FAIR VALUE THROUGH PROFIT OR LOSS
These assets are comprised as follows:
Loans and advances to customers
Loans and advances to banks
Debt securities:
Government securities
Other public sector securities
Bank and building society certificates of deposit
Asset-backed securities:
Mortgage-backed securities
Other asset-backed securities
2010
Other financial
assets at fair
value through
profit or loss
£m
325
–
22,217
919
606
422
1,592
Trading
assets
£m
9,486
2,734
1,623
–
3,692
–
1,020
Total
£m
9,811
2,734
23,840
919
4,298
422
2,612
2009
Other financial
assets at fair
value through
profit or loss
£m
166
635
17,025
700
–
520
1,999
Trading
assets
£m
13,579
4,702
2,936
6
2,034
–
891
Total
£m
13,745
5,337
19,961
706
2,034
520
2,890
Corporate and other debt securities
4,919
16,190
21,109
3,097
17,571
20,668
Equity shares:
Listed
Unlisted
Treasury and other bills
Total
11,254
41,946
53,200
8,964
37,815
46,779
–
6
6
227
50,227
50,227
39,986
39,992
90,213
–
90,219
227
–
–
–
–
55,685
55,685
28,465
28,465
84,150
–
84,150
–
23,707
132,484
156,191
27,245
122,766
150,011
Other financial assets at fair value through profit or loss include the following assets designated into that category:
(i)
(ii)
financial assets backing insurance contracts and investment contracts of £129,702 million (31 December 2009: £118,573 million) which are so
designated because the related liabilities either have cash flows that are contractually based on the performance of the assets or are contracts
whose measurement takes account of current market conditions and where significant measurement inconsistencies would otherwise arise;
loans and advances to customers of £109 million (31 December 2009: £166 million) which are economically hedged by interest rate derivatives
which are not in hedge accounting relationships and where significant measurement inconsistencies would otherwise arise if the related
derivatives were treated as trading liabilities and the loans and advances were carried at amortised cost; and
(iii) private equity investments of £1,733 million (31 December 2009: £1,880 million) that are managed, and evaluated, on a fair value basis in
accordance with a documented risk management or investment strategy and reported to key management personnel on that basis.
The maximum exposure to credit risk at 31 December 2010 of the loans and advances to banks and customers designated at fair value through
profit or loss was £325 million (2009: £166 million); the Group does not hold any credit derivatives or other instruments in mitigation of this risk. There
was no significant movement in the fair value of these loans attributable to changes in credit risk which is determined by reference to the publicly
available credit ratings of the instruments involved.
The Group’s Wholesale division had exposure to negative basis asset-backed securities of £1,067 million (31 December 2009: £1,174 million) of which
£1,067 million (31 December 2009: £970 million) were protected by monoline financial guarantors (note 56).
Included in the amounts reported above are assets subject to repurchase agreements with a carrying value of £824 million (2009: £3,250 million); the
value of the related liability is £828 million (2009: £3,009 million). In all cases the transferee has the right to sell or repledge the assets concerned.
Included in the amounts reported above are reverse repurchase agreements treated as collateralised loans with a carrying value of £12,211 million
(2009: £17,991 million). Collateral is held with a fair value of £14,299 million (2009: £21,462 million), all of which the Group is able to repledge.
At 31 December 2010, £3,161 million had been repledged (2009: £14,963 million).
184
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
19 DERIVATIVE FINANCIAL INSTRUMENTS
The Group holds derivatives as part of the following strategies:
– Customer driven, where derivatives are held as part of the provision of risk management products to Group customers;
– To manage and hedge the Group’s interest rate and foreign exchange risk arising from normal banking business. The hedge accounting strategy
adopted by the Group is to utilise a combination of fair value, cash flow and net investment hedge approaches as described in note 56; and
– Derivatives held in policyholder funds as permitted by the investment strategies of those funds,
Derivatives are classified as trading except those designated as effective hedging instruments which meet the criteria under IAS 39. Derivatives are
held at fair value on the Group’s balance sheet. A description of the methodology used to determine the fair value of derivative financial instruments
and the effect of using reasonably possible alternative assumptions for those derivatives valued using unobservable inputs is set out in note 55.
The principal derivatives used by the Group are as follows:
– Interest rate related contracts include interest rate swaps, forward rate agreements and options. An interest rate swap is an agreement between two
parties to exchange fixed and floating interest payments, based upon interest rates defined in the contract, without the exchange of the underlying
principal amounts. Forward rate agreements are contracts for the payment of the difference between a specified rate of interest and a reference rate,
applied to a notional principal amount at a specific date in the future. An interest rate option gives the buyer, on payment of a premium, the right,
but not the obligation, to fix the rate of interest on a future loan or deposit, for a specified period and commencing on a specified future date.
– Exchange rate related contracts include forward foreign exchange contracts, currency swaps and options. A forward foreign exchange contract is
an agreement to buy or sell a specified amount of foreign currency on a specified future date at an agreed rate. Currency swaps generally involve the
exchange of interest payment obligations denominated in different currencies; the exchange of principal can be notional or actual. A currency option
gives the buyer, on payment of a premium, the right, but not the obligation, to sell specified amounts of currency at agreed rates of exchange on or
before a specified future date.
– Credit derivatives, principally credit default swaps, are used by the Group as part of its trading activity and to manage its own exposure to credit
risk. A credit default swap is a swap in which one counterparty receives a premium at pre-set intervals in consideration for guaranteeing to make
a specific payment should a negative credit event take place. The Group also uses credit default swaps to securitise, in combination with external
funding, £4,149 million (2009: £6,455 million) of corporate and commercial banking loans.
– Equity derivatives are also used by the Group as part of its equity based retail product activity to eliminate the Group’s exposure to fluctuations in
various international stock exchange indices. Index-linked equity options are purchased which give the Group the right, but not the obligation, to buy
or sell a specified amount of equities, or basket of equities, in the form of published indices on or before a specified future date.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
185
Lloyds Banking Group
Annual Report
and Accounts 2010
19 DERIVATIVE FINANCIAL INSTRUMENTS continued
The fair values and notional amounts of derivative instruments are set out the following table:
Contract/notional
amount
£m
Fair value
assets
£m
Fair value
liabilities
£m
31 December 2010
Trading and other
Exchange rate contracts:
Spot, forwards and futures
Currency swaps
Options purchased
Options written
Interest rate contracts:
Interest rate swaps
Forward rate agreements
Options purchased
Options written
Futures
Credit derivatives
Embedded equity conversion feature
Equity and other contracts
212,832
108,216
18,096
19,387
358,531
1,397,157
718,227
59,578
60,828
23,361
2,259,151
7,108
–
22,597
2,513
5,696
602
–
8,811
28,448
309
2,371
–
3
31,131
256
1,177
1,996
Total derivative assets/liabilities – trading and other
2,647,387
43,371
Hedging
Derivatives designated as fair value hedges:
Currency swaps
Interest rate swaps
Derivatives designated as cash flow hedges:
Interest rate swaps
Futures
Currency swaps
Derivatives designated as net investment hedges:
Cross currency swaps
Total derivative assets/liabilities – hedging
Total recognised derivative assets/liabilities
9,418
75,831
85,249
112,507
1,299
17,745
131,551
86
216,886
2,864,273
606
4,366
4,972
2,199
1
232
2,432
2
7,406
50,777
2,242
1,773
–
536
4,551
29,202
287
–
2,180
1
31,670
207
–
1,332
37,760
35
1,200
1,235
3,042
–
121
3,163
–
4,398
42,158
The principal amount of the contract does not represent the Group’s real exposure to credit risk which is limited to the current cost of replacing
contracts with a positive value to the Group should the counterparty default. To reduce credit risk the Group uses a variety of credit enhancement
techniques such as netting and collateralisation, where security is provided against the exposure. Further details are provided in note 56(3).
The embedded equity conversion feature of £1,177 million (31 December 2009: £1,797 million) reflects the value of the equity conversion feature
contained in the Enhanced Capital Notes issued by the Group in 2009; the loss of £620 million arising from the change in fair value over 2010
(2009: loss of £427 million) is included within net gains on financial instruments held for trading within net trading income (note 7).
186
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
31 December 2009
Trading and other
Exchange rate contracts:
Spot, forwards and futures
Currency swaps
Options purchased
Options written
Interest rate contracts:
Interest rate swaps
Forward rate agreements
Options purchased
Options written
Futures
Credit derivatives
Embedded equity conversion feature
Equity and other contracts
Total derivative assets/liabilities – trading and other
Hedging
Derivatives designated as fair value hedges:
Currency swaps
Interest rate swaps
Options written
Derivatives designated as cash flow hedges:
Interest rate swaps
Futures
Currency swaps
Options purchased
Derivatives designated as net investment hedges:
Cross currency swaps
Total derivative assets/liabilities – hedging
Total recognised derivative assets/liabilities
Contract/notional
amount
£m
Fair value
assets
£m
Fair value
liabilities
£m
149,701
130,954
11,130
11,072
302,857
1,092,319
840,539
68,267
57,772
12,938
2,071,835
19,673
–
27,391
2,421,756
26,162
80,085
628
106,875
222,548
5,137
8,937
2,754
239,376
2,507
348,758
2,770,514
1,675
6,853
678
–
9,206
23,799
441
1,700
–
2
25,942
1,711
1,797
1,842
40,498
635
3,989
–
4,624
4,749
1
8
4
4,762
44
9,430
49,928
1,695
1,787
–
431
3,913
24,153
400
–
1,656
7
26,216
444
–
1,225
31,798
107
985
144
1,236
7,285
3
144
–
7,432
19
8,687
40,485
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
187
Lloyds Banking Group
Annual Report
and Accounts 2010
19 DERIVATIVE FINANCIAL INSTRUMENTS continued
HEDGED CASH FLOWS
For designated cash flow hedges the following table shows when the Group’s hedged cash flows are expected to occur and when they will affect
income.
2010
Hedged forecast cash flows expected
to occur:
Forecast receivable cash flows
Forecast payable cash flows
Hedged forecast cash flows affect
profit or loss:
Forecast receivable cash flows
Forecast payable cash flows
2009
Hedged forecast cash flows expected
to occur:
Forecast receivable cash flows
Forecast payable cash flows
Hedged forecast cash flows affect
profit or loss:
Forecast receivable cash flows
Forecast payable cash flows
0-1 years
£m
1-2 years
£m
2-3 years
£m
3-4 years
£m
4-5 years
£m
5-10 years
£m
10-20 years
£m
Over 20
years
£m
Total
£m
223
(70)
223
(70)
328
(44)
560
(165)
445
(97)
443
(113)
434
(93)
434
(93)
310
(67)
451
(616)
445
(916)
160
2,911
(200)
(2,171)
310
(67)
466
(675)
435
(884)
155
2,911
(172)
(2,171)
0-1 years
£m
1-2 years
£m
2-3 years
£m
3-4 years
£m
4-5 years
£m
5-10 years
£m
10-20 years
£m
Over 20
years
£m
Total
£m
14
(336)
14
(336)
33
(698)
33
(698)
–
(304)
–
(419)
3
(258)
8
(206)
47
(121)
68
(81)
424
(409)
435
(444)
374
(694)
341
(647)
140
(111)
1,035
(2,931)
136
(100)
1,035
(2,931)
20 LOANS AND ADVANCES TO BANKS
Lending to banks
Money market placements with banks
Total loans and advances to banks before allowance for impairment losses
Allowance for impairment losses (note 25)
Total loans and advances to banks
2010
£m
1,042
29,250
30,292
(20)
30,272
2009
£m
3,705
31,805
35,510
(149)
35,361
Included in the amounts reported above are reverse repurchase agreements treated as collateralised loans with a carrying value of £4,185 million
(2009: £4,188 million). Collateral is held with a fair value of £3,909 million (2009: £4,167 million), all of which the Group is able to repledge.
Included in the amounts reported above are collateral balances in the form of cash provided in respect of reverse repurchase agreements amounting
to £4 million (2009: £19 million).
188
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
21 LOANS AND ADVANCES TO CUSTOMERS
Agriculture, forestry and fishing
Energy and water supply
Manufacturing
Construction
Transport, distribution and hotels
Postal and telecommunications
Property companies
Financial, business and other services
Personal:
Mortgages
Other
Lease financing
Hire purchase
Total loans and advances to customers before allowance for impairment losses
Allowance for impairment losses (note 25)
Total loans and advances to customers
2010
£m
5,558
3,576
11,495
7,904
34,176
1,908
78,263
59,363
356,261
36,967
8,291
7,208
610,970
(18,373)
592,597
2009
£m
5,130
3,031
14,912
10,830
31,820
1,662
83,820
66,923
362,667
42,958
9,307
8,710
641,770
(14,801)
626,969
Included in the amounts reported above are reverse repurchase agreements treated as collateralised loans with a carrying value of £3,096 million
(2009: £1,108 million). Collateral is held with a fair value of £2,987 million (2009: £1,102 million), all of which the Group is able to repledge.
Included in the amounts reported above are collateral balances in the form of cash provided in respect of reverse repurchase agreements amounting
to £42 million (2009: £22 million).
Loans and advances to customers include finance lease receivables, which may be analysed as follows:
Gross investment in finance leases, receivable:
Not later than 1 year
Later than 1 year and not later than 5 years
Later than 5 years
Unearned future finance income on finance leases
Rentals received in advance
Commitments for expenditure in respect of equipment to be leased
Net investment in finance leases
The net investment in finance leases represents amounts recoverable as follows:
Not later than 1 year
Later than 1 year and not later than 5 years
Later than 5 years
Net investment in finance leases
2010
£m
1,358
2,522
7,218
11,098
(2,603)
(183)
(21)
8,291
2010
£m
986
1,965
5,340
8,291
2009
£m
1,374
3,577
7,911
12,862
(3,428)
(119)
(8)
9,307
2009
£m
1,008
2,403
5,896
9,307
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
189
Lloyds Banking Group
Annual Report
and Accounts 2010
21 LOANS AND ADVANCES TO CUSTOMERS continued
Equipment leased to customers under finance leases primarily relates to structured financing transactions to fund the purchase of aircraft, ships and
other large individual value items. During 2010 and 2009 no contingent rentals in respect of finance leases were recognised in the income statement.
The allowance for uncollectable finance lease receivables included in the allowance for impairment losses is £287 million (2009: £123 million).
The unguaranteed residual values included in finance lease receivables were as follows:
Not later than 1 year
Later than 1 year and not later than 5 years
Later than 5 years
Total unguaranteed residual values
22 SECURITISATIONS AND COVERED BONDS
2010
£m
11
44
6
61
2009
£m
4
46
5
55
SECURITISATION PROGRAMMES
Loans and advances to customers and debt securities classified as loans and receivables include loans securitised under the Group’s securitisation
programmes, the majority of which have been sold by subsidiary companies to bankruptcy remote special purpose entities (SPEs). As the SPEs
are funded by the issue of debt on terms whereby the majority of the risks and rewards of the portfolio are retained by the subsidiary, the SPEs are
consolidated fully and all of these loans are retained on the Group’s balance sheet, with the related notes in issue included within debt securities
in issue. In addition to the SPEs described below, the Group sponsors four conduit programmes, Argento, Cancara, Grampian and Landale.
COVERED BOND PROGRAMMES
Certain loans and advances to customers have been assigned to bankruptcy remote limited liability partnerships to provide security for issues of
covered bonds by the Group. The Group retains all of the risks and rewards associated with these loans and the partnerships are consolidated fully
with the loans retained on the Group’s balance sheet and the related covered bonds in issue included within debt securities in issue.
190
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
22 SECURITISATIONS AND COVERED BONDS continued
The Group’s principal securitisation and covered bond programmes, together with the balances of the advances subject to securitisation and the
carrying value of the notes in issue at 31 December, are listed below. The notes in issue are reported in note 37.
Securitisation programmes1
UK residential mortgages
Commercial loans
Irish residential mortgages
Credit card receivables
Dutch residential mortgages
Personal loans
PFI/PPP and project finance loans
Corporate loans and revolving credit facilities
Motor vehicle loans
Less held by the Group
Total securitisation programmes (note 37)
Covered bond programmes
Residential mortgage-backed
Social housing loan-backed
Less held by the Group
Total covered bond programmes (note 37)
Total securitisation and covered bond programmes
1
Includes securitisations utilising a combination of external funding and credit default swaps.
Gross assets
securitised
£m
146,200
11,860
6,007
7,327
4,526
3,012
776
–
926
180,634
93,651
3,317
96,968
2010
2009
Notes
in issue
£m
Gross assets
securitised
£m
152,443
13,071
6,522
5,155
4,800
3,730
877
595
443
187,636
99,753
3,356
103,109
114,428
8,936
6,191
3,856
4,316
2,011
110
–
975
140,823
(100,081)
40,742
73,458
2,181
75,639
(43,489)
32,150
72,892
Notes
in issue
£m
129,698
8,266
6,585
2,699
4,663
2,613
45
7
470
155,046
(117,489)
37,557
76,636
2,735
79,371
(52,060)
27,311
64,868
Cash deposits of £36,579 million (31 December 2009: £31,480 million) held by the Group are restricted in use to repayment of the debt securities
issued by the SPEs, the term advances relating to covered bonds and other legal obligations.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
191
Lloyds Banking Group
Annual Report
and Accounts 2010
23 SPECIAL PURPOSE ENTITIES
In addition to the special purpose entities discussed in note 22, which are used for securitisation and covered bond programmes, the Group
sponsors four asset-backed conduits, Argento, Cancara, Grampian and Landale, which invest in debt securities and client receivables. All the external
assets in these conduits are consolidated in the Group’s financial statements and are included in the credit market exposures set out in note 56. The
total consolidated exposures in these conduits are set out in the table below:
Argento
£m
Cancara
£m
Grampian
£m
Landale
£m
At 31 December 2010
Loans and advances
Debt securities classified as loans and receivables:
Asset-backed securities
Corporate and other debt securities
Debt securities classified as available-for-sale financial assets (note 26):
Asset-backed securities
Corporate and other debt securities
Total assets
At 31 December 2009
Loans and advances
Debt securities classified as loans and receivables
Debt securities classified as available-for-sale financial assets (note 26):
Asset-backed securities
Total assets
–
3,957
–
1,448
202
1,650
1,436
463
1,899
3,549
–
–
–
–
–
–
–
2,587
–
2,587
6,544
3,681
15
5,382
9,078
6,957
–
6,957
–
–
–
6,957
–
9,867
–
9,867
–
–
–
–
–
–
–
–
–
698
–
698
Total
£m
3,957
8,405
202
8,607
4,023
463
4,486
17,050
3,681
10,580
5,382
19,643
OTHER SPECIAL PURPOSE ENTITIES
During 2009, the Group established Lloyds TSB Pension ABCS (No 1) LLP and Lloyds TSB Pension ABCS (No 2) LLP and transferred approximately
£5 billion of assets, primarily comprising notes in certain of the Group’s securitisation programmes, in aggregate to these entities. Further details are
provided in note 43.
24 DEBT SECURITIES CLASSIFIED AS LOANS AND RECEIVABLES
Debt securities accounted for as loans and receivables comprise:
Asset-backed securities:
Mortgage-backed securities
Other asset-backed securities
Corporate and other debt securities
Total debt securities classified as loans and receivables before allowance for impairment losses
Allowance for impairment losses (note 25)
Total debt securities classified as loans and receivables
2010
£m
11,650
12,827
1,816
26,293
(558)
25,735
2009
£m
13,322
17,137
2,623
33,082
(430)
32,652
Included in the amounts reported above are assets subject to repurchase agreements with a carrying value of £1,386 million (2009: £11,752 million);
the value of the related liability is £1,043 million (2009: £7,970 million). In all cases the transferee has the right to sell or repledge the assets concerned.
192
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
25 ALLOWANCE FOR IMPAIRMENT LOSSES ON LOANS AND RECEIVABLES
Balance at 1 January 2009
Exchange and other adjustments
Advances written off
Recoveries of advances written off in previous years
Unwinding of discount
Charge (release) to the income statement (note 12)
At 31 December 2009
Exchange and other adjustments
Advances written off
Recoveries of advances written off in previous years
Unwinding of discount
Charge (release) to the income statement (note 12)
At 31 December 2010
Loans and
advances
to customers
£m
Loans and
advances
to banks
£m
Debt
securities
£m
3,459
95
(4,200)
110
(446)
15,783
14,801
(2)
(6,966)
216
(403)
10,727
18,373
135
17
–
–
–
(3)
149
(5)
(111)
–
–
(13)
20
133
49
–
–
–
248
430
119
(48)
–
–
57
558
Total
£m
3,727
161
(4,200)
110
(446)
16,028
15,380
112
(7,125)
216
(403)
10,771
18,951
Of the total allowance in respect of loans and advances to customers, £15,585 million (2009: £12,756 million) related to lending that had been
determined to be impaired (either individually or on a collective basis) at the reporting date.
Of the total allowance in respect of loans and advances to customers, £6,076 million (2009:£5,297 million) was assessed on a collective basis.
26 AVAILABLE-FOR-SALE FINANCIAL ASSETS
Debt securities:
Government securities
Other public sector securities
Bank and building society certificates of deposit
Asset-backed securities:
Mortgage-backed securities
Other asset-backed securities
Corporate and other debt securities
Equity shares:
Listed
Unlisted
Treasury bills and other bills:
Treasury bills and similar securities
Conduits
£m
–
–
–
3,203
820
463
4,486
–
–
–
–
Total available-for-sale financial assets
4,486
2010
Other
£m
Total
£m
Conduits
£m
12,552
12,552
29
407
1,090
4,399
11,669
30,146
72
2,183
2,255
6,068
38,469
29
407
4,293
5,219
12,132
34,632
72
2,183
2,255
6,068
42,955
–
–
–
3,481
1,901
–
5,382
–
–
–
–
5,382
2009
Other
£m
8,669
31
1,014
1,300
5,739
Total
£m
8,669
31
1,014
4,781
7,640
19,904
36,657
19,904
42,039
102
1,929
2,031
2,532
41,220
102
1,929
2,031
2,532
46,602
Details of the Group’s asset-backed conduits shown in the table above are included in note 23.
Included within asset-backed securities are £9,392 million (31 December 2009: £12,421 million) managed by the Wholesale division. Further
information on these exposures is provided in note 56.
Included in the amounts reported above are assets subject to repurchase agreements with a carrying value of £1,467 million (2009: £7,438 million); the
value of the related liability is £1,378 million (2009: £6,834 million). In all cases the transferee has the right to sell or repledge the assets concerned.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
193
Lloyds Banking Group
Annual Report
and Accounts 2010
26 AVAILABLE-FOR-SALE FINANCIAL ASSETS continued
All assets have been individually assessed for impairment. The criteria used to determine whether an impairment loss has been incurred are
disclosed in note 2(H). Included in available-for-sale financial assets at 31 December 2010 are debt securities individually determined to be impaired
whose gross amount before impairment allowances was £2 million (31 December 2009: £144 million) and in respect of which no collateral was held.
On 1 November 2010, the Group reclassified £3,601 million of government securities from available-for-sale financial assets to held-to-maturity
investments (note 27). Further information on the reclassification of financial assets is provided in note 55.
27 HELD-TO-MATURITY INVESTMENTS
Debt securities: government securities
2010
£m
7,905
2009
£m
–
On 1 November 2010, the Group reclassified £3,601 million of government securities from available-for-sale financial assets to held-to-maturity investments.
28 INVESTMENT PROPERTIES
At 1 January
Exchange and other adjustments
Adjustment on acquisition
Additions:
Acquisitions of new properties
Consolidation of new subsidiary undertakings
Additional expenditure on existing properties
Total additions
Disposals
Changes in fair value (note 7)
At 31 December
2010
£m
4,757
(6)
–
398
921
52
1,371
(559)
434
5,997
The investment properties are valued at least annually at open-market value, by independent, professionally qualified valuers, who have recent
experience in the location and categories of the investment properties being valued.
In addition, the following amounts have been recognised in the income statement:
Rental income (note 9)
Direct operating expenses arising from investment properties that generate rental income
Capital expenditure in respect of investment properties:
Capital expenditure contracted for at the balance sheet date but not recognised in the financial statements
2010
£m
337
77
2010
£m
86
2009
£m
2,631
(15)
3,002
151
–
67
218
(865)
(214)
4,757
2009
£m
358
64
2009
£m
57
194
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
29 GOODWILL
At 1 January
Impairment charged to the income statement
At 31 December
Cost1
Accumulated impairment losses
At 31 December
2010
£m
2,016
–
2,016
2,362
(346)
2,016
2009
£m
2,256
(240)
2,016
2,362
(346)
2,016
1
For acquisitions made prior to 1 January 2004, the date of transition to IFRS, cost is included net of amounts amortised up to 31 December 2003.
The goodwill held in the Group’s balance sheet is tested at least annually for impairment. For the purposes of impairment testing the goodwill
is allocated to the appropriate cash generating unit; of the total balance of £2,016 million (31 December 2009: £2,016 million), £1,836 million
(or 91 per cent of the total) has been allocated to Scottish Widows in the Group’s Insurance division and £170 million (or 8 per cent of the total) to
Asset Finance in the Group’s Wholesale division.
The recoverable amount of Scottish Widows has been based on a value in use calculation. The calculation uses projections of future cash flows based
upon budgets and plans approved by management covering a five-year period, and a discount rate of 12 per cent (gross of tax). The budgets and
plans are based upon past experience adjusted to take into account anticipated changes in sales volumes, product mix and margins having regard
to expected market conditions and competitor activity. The discount rate is determined with reference to internal measures and available industry
information. Cash flows beyond the five-year period have been extrapolated using a steady 3 per cent growth rate which does not exceed the
long-term average growth rate for the life assurance market. Management believes that any reasonably possible change in the key assumptions
would not cause the recoverable amount of Scottish Widows to fall below its balance sheet carrying value.
In 2009, the markets in which the Consumer Finance unit of Asset Finance operates had deteriorated further with both macroeconomic and market
conditions worsening, leading to a fall off in demand and increasing arrears. This, together with continuing uncertainties over the likely short-term
macroeconomic environment, had resulted in a reassessment of the carrying value of the consumer finance cash generating unit and the recognition
of a goodwill impairment charge of £240 million during 2009, reflecting the write down of the entire balance of goodwill allocated to the Consumer
Finance unit of Asset Finance and leaving goodwill of £170 million in the Autolease unit of Asset Finance.
The recoverable amount of Asset Finance has also been based on a value in use calculation using cash flow projections based on financial budgets
and plans approved by management covering a five-year period and a discount rate of 15 per cent (gross of tax). The cash flows beyond the five-year
period are extrapolated using a growth rate of 0.5 per cent which does not exceed the long-term average growth rates for the markets in which Asset
Finance participates.
30 VALUE OF IN-FORCE BUSINESS
The gross value of in-force business asset in the consolidated balance sheet is as follows:
Acquired value of in-force non-participating investment contracts
Value of in-force insurance and participating investment contracts
Total value of in-force business
The movement in the acquired value of in-force non-participating investment contracts over the year is as follows:
At 1 January
Adjustment on acquisition
Amortisation taken to income statement (note 11)
At 31 December
2010
£m
1,469
5,898
7,367
2010
£m
1,545
–
(76)
1,469
2009
£m
1,545
5,140
6,685
2009
£m
–
1,620
(75)
1,545
The acquired value of in-force non-participating investment contracts includes £356 million (2009: £379 million) in relation to OEIC business.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
195
Lloyds Banking Group
Annual Report
and Accounts 2010
30 VALUE OF IN-FORCE BUSINESS continued
The movement in the value of in-force insurance and participating investment contracts over the year is as follows:
At 1 January
Adjustment on acquisition
Exchange and other adjustments
Movements in the year:
New business
Existing business:
Expected return
Experience variances
Non-economic assumption changes
Economic variance
Movement in the value of in-force business taken to income statement (note 9)
At 31 December
2010
£m
5,140
–
(31)
2009
£m
1,893
2,093
(15)
497
563
(400)
85
306
301
789
5,898
(456)
84
135
843
1,169
5,140
This breakdown shows the movement in the value of in-force business only, and does not represent the full contribution that each item in the
breakdown contributes to profit before tax, which would also contain changes in the other assets and liabilities of the relevant businesses. Economic
variance is the element of earnings which is generated from changes to economic experience in the period and to economic assumptions over time.
The presentation of economic variance includes the impact of financial market conditions being different at the end of the reporting period from
those included in assumptions used to calculate new and existing business returns.
The principal features of the methodology and process used for determining key assumptions used in the calculation of the value of in-force business
are set out below:
ECONOMIC ASSUMPTIONS
Each cash flow is valued using the discount rate consistent with that applied to such a cash flow in the capital markets. In practice, to achieve the
same result, where the cash flows are either independent of or move linearly with market movements, a method has been applied known as the
‘certainty equivalent’ approach whereby it is assumed that all assets earn a risk-free rate and all cash flows are discounted at a risk-free rate.
A market consistent approach has been adopted for the valuation of financial options and guarantees, using a stochastic option pricing technique
calibrated to be consistent with the market price of relevant options at each valuation date. The risk-free rate used for the value of financial
options and guarantees is defined as the spot yield derived from the relevant government bond yield curve in line with FSA realistic balance
sheet assumptions. Further information on options and guarantees can be found on page 107.
The liabilities in respect of the Group’s UK annuity business are matched by a portfolio of fixed interest securities, including a large proportion
of corporate bonds. The value of the in-force business asset for UK annuity business has been calculated after taking into account an estimate
of the market premium for illiquidity in respect of these corporate bond holdings. The illiquidity premium is estimated to be 75 basis points as
at 31 December 2010 (31 December 2009: 75 basis points).
The risk-free rate assumed in valuing the non-annuity in-force business is the 15 year government bond yield for the appropriate territory.
The risk-free rate assumed in valuing the in-force asset for the UK annuity business is presented as a single risk-free rate to allow a better comparison
to the rate used for other business. That single risk-free rate has been derived to give the equivalent value to the UK annuity book, had that book
been valued using the UK gilt yield curve increased to reflect the illiquidity premium described above.
The table below shows the resulting range of yields and other key assumptions at 31 December for UK business:
Risk-free rate (value of in-force non-annuity business)
Risk-free rate (value of in-force annuity business)
Risk-free rate (financial options and guarantees)
Retail price inflation
Expense inflation
2010
%
3.99
4.66
2009
%
4.45
5.05
0.63 to 4.50
0.87 to 4.76
3.56
4.20
3.64
4.42
196
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
30 VALUE OF IN-FORCE BUSINESS continued
NON-MARKET RISK s
An allowance for non-market risk is made through the choice of best estimate assumptions based upon experience, which generally will give the mean
expected financial outcome for shareholders and hence no further allowance for non-market risk is required. However, in the case of operational risk,
reinsurer default and the with-profit funds these can be asymmetric in the range of potential outcomes for which an explicit allowance is made.
NON-ECONOMIC ASSUMPTIONS
Future mortality, morbidity, lapse and paid-up rate assumptions are reviewed each year and are based on an analysis of past experience and on
management’s view of future experience. These assumptions are intended to represent a best estimate of future experience.
Further information about the effect of changes in key assumptions is given in note 39.
31 OTHER INTANGIBLE ASSETS
Cost:
At 1 January 2009
Adjustment on acquisition
Additions
Disposals of businesses
At 31 December 2009
Additions
Disposals
At 31 December 2010
Accumulated amortisation:
At 1 January 2009
Charge for the year
Disposals of businesses
At 31 December 2009
Charge for the year
Disposals
At 31 December 2010
Balance sheet amount at 31 December 2010
Balance sheet amount at 31 December 2009
Brands
£m
Core deposit
intangible
£m
Purchased
credit card
relationships
£m
Customer-
related intangibles
£m
Capitalised
software
enhancements
£m
–
596
–
–
596
–
–
596
–
21
–
21
25
–
46
550
575
–
2,770
–
–
2,770
–
–
2,770
–
393
–
393
400
–
793
1,977
2,377
–
300
–
–
300
–
–
300
–
58
–
58
60
–
118
182
242
63
984
–
(170)
877
–
–
877
12
237
(12)
237
161
–
398
479
640
320
104
63
–
487
153
(30)
610
174
60
–
234
75
(7)
302
308
253
Total
£m
383
4,754
63
(170)
5,030
153
(30)
5,153
186
769
(12)
943
721
(7)
1,657
3,496
4,087
Included within brands above are assets of £380 million (31 December 2009: £380 million) that have been determined to have indefinite useful
lives and are not amortised. These brands use the Bank of Scotland name which has been in existence for over 300 years. These brands are well
established financial services brands and there are no indications that they should not have an indefinite useful life.
The customer-related intangibles include customer lists and the benefits of customer relationships that generate recurring income. The purchased
credit card relationships represent the benefit of recurring income generated from the portfolio of credit cards purchased and the core deposit
intangible is the benefit derived from a large stable deposit base that has low interest rates.
Capitalised software enhancements principally comprise identifiable and directly associated internal staff and other costs.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
197
Lloyds Banking Group
Annual Report
and Accounts 2010
32 TANGIBLE FIXED ASSETS
Cost:
At 1 January 2009
Exchange and other adjustments
Adjustment on acquisition
Additions
Disposals
At 31 December 2009
Exchange and other adjustments
Additions
Disposals
Disposal of businesses
At 31 December 2010
Accumulated depreciation and impairment:
At 1 January 2009
Exchange and other adjustments
Depreciation charge for the year
Disposals
At 31 December 2009
Exchange and other adjustments
Impairment charged to the income statement
Depreciation charge for the year
Disposals
Disposal of businesses
At 31 December 2010
Balance sheet amount at 31 December 2010
Balance sheet amount at 31 December 2009
Premises
£m
Equipment
£m
Operating
lease assets
£m
Total tangible
fixed assets
£m
1,516
19
966
113
(153)
2,461
26
175
(222)
–
2,440
789
(19)
132
(18)
884
2
–
146
(31)
–
1,001
1,439
1,577
3,148
(38)
825
1,317
(130)
5,122
34
766
(338)
(1,005)
4,579
2,208
(12)
450
(49)
2,597
(3)
202
535
(341)
(145)
2,845
1,734
2,525
1,564
281
3,916
1,949
(1,326)
6,384
(76)
1,672
(1,693)
–
6,287
266
113
1,134
(251)
1,262
30
–
954
(976)
–
1,270
5,017
5,122
2010
£m
1,168
1,791
638
3,597
6,228
262
5,707
3,379
(1,609)
13,967
(16)
2,613
(2,253)
(1,005)
13,306
3,263
82
1,716
(318)
4,743
29
202
1,635
(1,348)
(145)
5,116
8,190
9,224
2009
£m
845
1,939
88
2,872
At 31 December the future minimum rentals receivable under non-cancellable operating leases were as follows:
Receivable within 1 year
1 to 5 years
Over 5 years
Total future minimum rentals receivable
Equipment leased to customers under operating leases primarily relates to vehicle contract hire arrangements. During 2010 and 2009 no contingent
rentals in respect of operating leases were recognised in the income statement.
In addition, total future minimum sub-lease income of £55 million at 31 December 2010 (£79 million at 31 December 2009) is expected to be received
under non-cancellable sub-leases of the Group’s premises.
The impairment charge of £202 million comprises £150 million relating to oil drilling rigs under construction acquired from a previous lending
relationship in Wholesale (note 15) and £52 million relating to integration activities (note 11).
198
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
33 OTHER ASSETS
Assets arising from reinsurance contracts held (note 38 and note 40)
Deferred acquisition and origination costs (see below)
Settlement balances
Other assets and prepayments
Total other assets
Deferred acquisition and origination costs:
At 1 January
Adjustment on acquisition
Costs deferred, net of amounts amortised to the income statement
Exchange and other adjustments
At 31 December
34 DEPOSITS FROM BANKS
Liabilities in respect of securities sold under repurchase agreements
Other deposits from banks
Deposits from banks
2010
£m
2,146
602
985
8,910
12,643
2010
£m
533
–
69
–
602
2010
£m
24,017
26,346
50,363
2009
£m
1,875
533
1,587
8,230
12,225
2009
£m
196
422
(84)
(1)
533
2009
£m
27,558
54,894
82,452
Included in the amounts reported above are deposits held as collateral for facilities granted, with a carrying value of £22,420 million (2009: £28,924 million)
and a fair value of £25,626 million (2009: £36,016 million).
Included in the amounts reported above are collateral balances in the form of cash provided in respect of repurchase agreements amounting to £nil
(2009: £19 million).
35 CUSTOMER DEPOSITS
Non-interest bearing current accounts
Interest bearing current accounts
Savings and investment accounts
Liabilities in respect of securities sold under repurchase agreements
Other customer deposits
Customer deposits
2010
£m
22,897
77,785
222,226
11,145
59,580
393,633
2009
£m
9,264
93,887
207,474
35,554
60,562
406,741
Included in the amounts reported above are deposits held as collateral for facilities granted, with a carrying value of £11,112 million (2009: £35,504 million)
and a fair value of £11,278 million (2009: £35,468 million).
Included in the amounts reported above are collateral balances in the form of cash provided in respect of repurchase agreements amounting to
£122 million (2009: £203 million).
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
199
Lloyds Banking Group
Annual Report
and Accounts 2010
36 TRADING AND OTHER FINANCIAL LIABILITIES AT FAIR VALUE THROUGH PROFIT OR LOSS
Liabilities held at fair value through profit or loss (debt securities)
Trading liabilities:
Liabilities in respect of securities sold under repurchase agreements
Short positions in securities
Other
Trading and other financial liabilities at fair value through profit or loss
2010
£m
6,665
14,612
1,755
3,730
20,097
26,762
2009
£m
6,160
21,389
202
520
22,111
28,271
The amount contractually payable on maturity of the debt securities held at fair value through profit or loss at 31 December 2010 was £6,607 million,
which was £58 million lower than the balance sheet carrying value (31 December 2009: £5,866 million, which was £294 million lower than the balance
sheet carrying value). At 31 December 2010 there was a cumulative £11 million increase in the fair value of these liabilities attributable to changes in
credit spread risk; this is determined by reference to the quoted credit spreads of Lloyds TSB Bank plc, the issuing entity within the Group. Of the
£11 million increase, none arose in 2010 and £11 million arose in 2009.
Liabilities designated at fair value through profit or loss represent debt securities in issue which either contain substantive embedded derivatives
which would otherwise need to be recognised and measured at fair value separately from the related debt securities, or which are accounted for
at fair value to significantly reduce an accounting mismatch.
37 DEBT SECURITIES IN ISSUE
Medium-term notes issued
Covered bonds (note 22)
Certificates of deposit issued
Securitisation notes (note 22)
Commercial paper
Total debt securities in issue
2010
£m
80,975
32,150
42,276
40,742
32,723
2009
£m
82,876
27,311
50,858
37,557
34,900
228,866
233,502
38 LIABILITIES ARISING FROM INSURANCE CONTRACTS AND PARTICIPATING INVESTMENT CONTRACTS
Insurance contract and participating investment contract liabilities are comprised as follows:
Gross
£m
2010
Reinsurance1
£m
Net
£m
Gross
£m
2009
Reinsurance1
£m
Life insurance (see (1) below):
Insurance contracts
Participating investment contracts
Non-life insurance contracts (see (2) below):
Unearned premiums
Claims outstanding
Total
1
Reinsurance balances are reported within other assets (note 33).
61,871
17,642
79,513
632
584
1,216
80,729
(2,044)
59,827
–
17,642
(2,044)
77,469
(22)
(15)
(37)
(2,081)
610
569
1,179
78,648
56,800
18,089
74,889
788
502
1,290
76,179
Net
£m
54,969
18,089
73,058
757
489
1,246
(1,831)
–
(1,831)
(31)
(13)
(44)
(1,875)
74,304
200
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
38 LIABILITIES ARISING FROM INSURANCE CONTRACTS AND PARTICIPATING INVESTMENT CONTRACTS continued
(1) LIFE INSURANCE
The movement in life insurance contract and participating investment contract liabilities over the year can be analysed as follows:
At 1 January 2009
New business
Changes in existing business
Change in liabilities charged to the income statement (note 10)
Adjustment on acquisition
Exchange and other adjustments
At 31 December 2009
New business
Changes in existing business
Change in liabilities charged to the income statement (note 10)
Exchange and other adjustments
At 31 December 2010
Insurance
contracts
21,518
4,455
971
5,426
29,996
(140)
56,800
3,807
1,348
5,155
(84)
Participating
investment
contracts
11,619
122
Gross
£m
33,137
4,577
374
1,345
496
5,996
(22)
18,089
325
(858)
(533)
86
5,922
35,992
(162)
74,889
4,132
490
4,622
2
Reinsurance
£m
(380)
(28)
(149)
(177)
(1,367)
93
(1,831)
(48)
(208)
(256)
43
61,871
17,642
79,513
(2,044)
Net
£m
32,757
4,549
1,196
5,745
34,625
(69)
73,058
4,084
282
4,366
45
77,469
Liabilities for insurance contracts and participating investment contracts can be split into with-profit fund liabilities, accounted for using the
FSA’s realistic capital regime (realistic liabilities) and non-profit fund liabilities, accounted for using a prospective actuarial discounted cash flow
methodology, as follows:
Insurance contracts
Participating investment contracts
Total
With-profit fund realistic liabilities
With-profit
fund
£m
13,598
10,647
24,245
2010
Non-profit
fund
£m
48,273
6,995
55,268
Total
£m
61,871
17,642
79,513
With-profit
fund
£m
12,066
11,506
23,572
2009
Non-profit
fund
£m
44,734
6,583
51,317
Total
£m
56,800
18,089
74,889
(I) BUSINESS DESCRIPTION
The Group has with-profit funds within Scottish Widows plc and Clerical Medical Investment Group Limited containing both insurance contracts
and participating investment contracts.
The primary purpose of the conventional and unitised business written in the with-profit funds is to provide a long-term smoothed investment
vehicle to policyholders, protecting them against short-term market fluctuations. With-profit policyholders are entitled to at least 90 per cent of
the distributed profits, with the shareholders receiving the balance. The policyholders are also usually insured against death and the policy may
carry a guaranteed annuity option at maturity.
(II) METHOD OF CALCULATION OF LIABILITIES
With-profit liabilities are stated at their realistic value, the main components of which are:
– With-profit benefit reserve, the total asset shares for with-profit policies;
– Cost of options and guarantees;
– Deductions levied against asset shares;
– Planned enhancements to with-profits benefits reserve; and
– Impact of the smoothing policy.
The realistic assessment is carried out using a stochastic simulation model which values liabilities on a market consistent basis. The calculation of
realistic liabilities uses best estimate assumptions for mortality, persistency rates and expenses. These are calculated in a similar manner to those
used for the value of in-force business as discussed in note 30.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
201
Lloyds Banking Group
Annual Report
and Accounts 2010
38 LIABILITIES ARISING FROM INSURANCE CONTRACTS AND PARTICIPATING INVESTMENT CONTRACTS continued
(III) ASSUMPTIONS
Key assumptions used in the calculation of with-profit liabilities, and the processes for determining these, are:
Investment returns and discount rates
The realistic capital regime dictates that with-profit fund liabilities are valued on a market-consistent basis. This is achieved by the use of a valuation
model which values liabilities on a basis calibrated to tradable market option contracts and other observable market data. The with-profit fund
financial options and guarantees are valued using a stochastic simulation model where all assets are assumed to earn, on average, the risk-free yield
and all cash flows are discounted using the risk-free yield. The risk-free yield is defined as the spot yield derived from the relevant government bond
yield curve. Further information on significant options and guarantees is given on page 107.
Guaranteed annuity option take-up rates
Certain pension contracts contain guaranteed annuity options that allow the policyholder to take an annuity benefit on retirement at annuity rates
that were guaranteed at the outset of the contract. For contracts that contain such options, key assumptions in determining the cost of options are
economic conditions in which the option has value, mortality rates and take up rates of other options. The financial impact is dependent on the value
of corresponding investments, interest rates and longevity at the time of the claim.
Investment volatility
The calibration of the stochastic simulation model uses implied volatilities of derivatives where possible, or historical volatility where it is not possible
to observe meaningful prices.
Mortality
The mortality assumptions, including allowances for improvements in longevity for annuitants, are set with regard to the Group’s actual experience
where this is significant, and relevant industry data otherwise.
Lapse rates (persistency)
Lapse rates refer to the rate of policy termination or the rate at which policyholders stop paying regular premiums due under the contract.
Historical persistency experience is analysed using statistical techniques. As experience can vary considerably between different product types and
for contracts that have been in force for different periods, the data is broken down into broadly homogenous groups for the purposes of this analysis.
The most recent experience is considered along with the results of previous analyses and management’s views on future experience, taking into
consideration potential changes in future experience that may result from guarantees and options becoming more valuable under adverse market
conditions, in order to determine a ‘best estimate’ view of what persistency will be. In determining this best estimate view a number of factors are
considered, including the credibility of the results (which will be affected by the volume of data available), any exceptional events that have occurred
during the period under consideration, any known or expected trends in underlying data and relevant published market data.
Non-profit fund liabilities
(I) BUSINESS DESCRIPTION
The Group principally writes the following types of life insurance contracts within its non-profit funds. Shareholder profits on these types of business
arise from management fees and other policy charges.
Unit-linked business – This includes unit-linked pensions and unit-linked bonds, the primary purpose of which is to provide an investment vehicle
where the policyholder is also insured against death.
Life insurance – The policyholder is insured against death or permanent disability, usually for predetermined amounts. Such business includes whole
of life and term assurance and long-term creditor policies.
Annuities – The policyholder is entitled to payments for the duration of their life and is therefore insured against surviving longer than expected.
German insurance business is written through the Group’s subsidiary Heidelberger Leben and comprises policies similar to the UK definitions above,
except that there is participation by the policyholder in the investment, insurance and expense profits of Heidelberger Leben. A minimum level of
policyholder participation is prescribed by German law. The following types of life insurance contracts are written:
– Traditional and unit linked endowment or pensions business; and
– Life insurance business.
(II) METHOD OF CALCULATION OF LIABILITIES
The non-profit fund liabilities are determined on the basis of recognised actuarial methods and consistent with the approach required by regulatory
rules. The methods used involve estimating future policy cash flows over the duration of the in-force book of policies, and discounting the cash flows
back to the valuation date allowing for probabilities of occurrence.
202
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
38 LIABILITIES ARISING FROM INSURANCE CONTRACTS AND PARTICIPATING INVESTMENT CONTRACTS continued
(III) ASSUMPTIONS
Generally, assumptions used to value non-profit fund liabilities are prudent in nature and therefore contain a margin for adverse deviation. This
margin for adverse deviation is based on management’s judgement and reflects management’s views on the inherent level of uncertainty. The key
assumptions used in the measurement of non-profit fund liabilities are:
Interest rates
The rates used are derived in accordance with the guidelines set by local regulatory bodies. These limit the rates of interest that can be used by
reference to a number of factors including the redemption yields on fixed interest assets at the valuation date.
Margins for risk are allowed for in the assumed interest rates. These are derived from the limits in the guidelines set by local regulatory bodies, including
reductions made to the available yields to allow for default risk based upon the credit rating of the securities allocated to the insurance liability.
Mortality and morbidity
The mortality and morbidity assumptions, including allowances for improvements in longevity for annuitants, are set with regard to the Group’s
actual experience where this provides a reliable basis, and relevant industry data otherwise, and include a margin for adverse deviation. For German
business appropriate industry tables have been considered.
Lapse rates (persistency)
Lapse rates are allowed for on some non-profit fund contracts. The process for setting these rates is as described for with-profit liabilities, however
a prudent scenario is assumed by the inclusion of a margin for adverse deviation within the non-profit fund liabilities.
Maintenance expenses
Allowance is made for future policy costs explicitly. Expenses are determined by reference to an internal analysis of current and expected future costs
plus a margin for adverse deviation. Explicit allowance is made for future expense inflation. For German business appropriate cost assumptions have
been set in accordance with the rules of the local regulatory body.
Key changes in assumptions
A detailed review of the Group’s assumptions in 2010 resulted in the following key impacts on profit before tax:
– Change in persistency assumptions (£38 million decrease)
– Change in the assumption in respect of future mortality rates (£40 million increase)
These amounts include the impacts of movements in liabilities and value of the in-force business in respect of insurance contracts and participating
investment contracts.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
203
Lloyds Banking Group
Annual Report
and Accounts 2010
38 LIABILITIES ARISING FROM INSURANCE CONTRACTS AND PARTICIPATING INVESTMENT CONTRACTS continued
(2) NON-LIFE INSURANCE
Gross non-life insurance contract liabilities are analysed by line of business as follows:
Credit protection
Home
Health
2010
£m
380
833
3
2009
£m
533
754
3
Total gross non-life insurance contract liabilities
1,216
1,290
For non-life insurance contracts, the methodology and assumptions used in relation to determining the bases of the earned premium and claims
provisioning levels are derived for each individual underwritten product. Assumptions are intended to be neutral estimates of the most likely or
expected outcome. There has been no significant change in the assumptions and methodologies used for setting reserves.
The reserving methodology and associated assumptions are set out below:
The unearned premium reserve is determined on a basis that reflects the length of time for which contracts have been in force and the projected
incidence of risk over the term of each contract.
Claims outstanding comprise those claims that have been notified and those that have been incurred but not reported. Claims incurred but not
reported are determined based on the historical emergence of claims and their average cost. The notified claims element represents the best
estimate of the cost of claims reported using projections and estimates based on historical experience.
The movements in non-life insurance contract liabilities and reinsurance assets over the year have been as follows:
Provisions for unearned premiums
At 1 January 2009
Adjustment on acquisition
Increase in the year
Release in the year
Change in provision for unearned premiums charged to income statement (note 8)
Exchange and other adjustments
At 31 December 2009
Increase in the year
Release in the year
Change in provision for unearned premiums charged to income statement (note 8)
Exchange and other adjustments
At 31 December 2010
Gross
£m
Reinsurance
£m
472
487
1,267
(1,438)
(171)
–
788
1,230
(1,386)
(156)
–
632
–
(4)
(101)
75
(26)
(1)
(31)
(104)
113
9
–
(22)
Net
£m
472
483
1,166
(1,363)
(197)
(1)
757
1,126
(1,273)
(147)
–
610
204
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
38 LIABILITIES ARISING FROM INSURANCE CONTRACTS AND PARTICIPATING INVESTMENT CONTRACTS continued
These provisions represent the liability for short-term insurance contracts for which the Group’s obligations are not expired at the year end.
Gross
£m
Reinsurance
£m
Claims outstanding
Notified claims
Incurred but not reported
At 1 January 2009
Adjustment on acquisition
Cash paid for claims settled in the year
Increase (decrease) in liabilities:
Arising from current year claims
Arising from prior year claims
Change in liabilities charged to income statement (note 10)
At 31 December 2009
Cash paid for claims settled in the year
Increase (decrease) in liabilities:
Arising from current year claims
Arising from prior year claims
Change in liabilities charged to income statement (note 10)
At 31 December 2010
Notified claims
Incurred but not reported
At 31 December 2010
Notified claims
Incurred but not reported
At 31 December 2009
160
23
183
208
(513)
623
1
111
502
(467)
581
(32)
82
584
420
164
584
289
213
502
(5)
–
(5)
(5)
14
(15)
(2)
(3)
(13)
11
(12)
(1)
(2)
(15)
(4)
(11)
(15)
(9)
(4)
(13)
Net
£m
155
23
178
203
(499)
608
(1)
108
489
(456)
569
(33)
80
569
416
153
569
280
209
489
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
205
Lloyds Banking Group
Annual Report
and Accounts 2010
38 LIABILITIES ARISING FROM INSURANCE CONTRACTS AND PARTICIPATING INVESTMENT CONTRACTS continued
NON-LIFE INSURANCE CLAIMS DEVELOPMENT TABLE
The development of insurance liabilities provides a measure of the Group’s ability to estimate the ultimate value of claims. The top half of the
table below illustrates how the Group’s estimate of total claims outstanding for each accident year shown has changed at successive year ends.
The bottom half of the table reconciles the cumulative claims to the amount appearing in the balance sheet. The accident year basis is considered
the most appropriate for the business written by the Group.
NON-LIFE INSURANCE ALL RISKS – GROSS
Accident year
Estimate of ultimate claims costs:
At end of accident year
One year later
Two years later
Three years later
Four years later
Five years later
Current estimate in respect of
above claims
Current estimate of claims
relating to general insurance
business acquired in 2009
Current estimate of cumulative
claims
Cumulative payments to date
Liability recognised in the
balance sheet
Liability in respect of earlier
years1
Total liability included in the
balance sheet
2005
£m
211
207
204
202
201
201
201
284
485
(472)
13
2006
£m
208
206
204
204
205
205
326
531
(520)
11
2007
£m
317
311
299
292
2008
£m
205
199
195
2009
£m
639
539
2010
£m
Total
£m
609
2,189
292
195
539
609
2,041
394
686
(671)
15
263
458
(430)
28
–
539
(443)
96
–
1,267
609
(226)
383
3,308
(2,762)
546
22
568
1
This balance includes £2 million of claims relating to general insurance business acquired during 2009.
The liability of £568 million shown in the above table excludes £16 million of unallocated claims handling expenses.
206
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
39 LIFE INSURANCE SENSITIVITY ANALYSIS
The following table demonstrates the effect of changes in key assumptions on profit before tax and equity disclosed in these financial statements
assuming that the other assumptions remain unchanged. In practice this is unlikely to occur, and changes in some assumptions may be correlated.
These amounts include movements in assets, liabilities and the value of the in-force business in respect of insurance contracts and participating
investment contracts. The impact is shown in one direction but can be assumed to be reasonably symmetrical.
As at 31 December 2010
Non-annuitant mortality1
Annuitant mortality2
Lapse rates3
Future maintenance and investment expenses4
Risk-free rate5
Guaranteed annuity option take up6
Equity investment volatility7
Widening of credit default spreads on corporate bonds8
Increase in illiquidity premia9
As at 31 December 2009
Non-annuitant mortality1
Annuitant mortality2
Lapse rates3
Future maintenance and investment expenses4
Risk-free rate5
Guaranteed annuity option take up6
Equity investment volatility7
Widening of credit default spreads on corporate bonds8
Increase in illiquidity premia9
Increase
(reduction) in
profit before tax
£m
Increase
(reduction) in
equity
£m
Change in
variable
5% reduction
5% reduction
10% reduction
10% reduction
0.25% reduction
5% addition
1% addition
0.25% addition
0.10% addition
64
(131)
163
201
61
(4)
(8)
(152)
78
46
(96)
117
145
44
(3)
(6)
(110)
56
Increase
(reduction) in
profit before tax
£m
Increase
(reduction) in
equity
£m
Change in
variable
5% reduction
5% reduction
10% reduction
10% reduction
0.25% reduction
5% addition
1% addition
0.25% addition
0.10% addition
80
(120)
168
207
56
(7)
(13)
(144)
78
58
(86)
121
149
40
(5)
(9)
(104)
56
Assumptions have been flexed on the basis used to calculate the value of in-force business and the realistic and statutory reserving bases.
This sensitivity shows the impact of reducing mortality and morbidity rates on non-annuity business to 95 per cent of the expected rate.
This sensitivity shows the impact on the annuity and deferred annuity business of reducing mortality rates to 95 per cent of the expected rate.
This sensitivity shows the impact of reducing lapse and surrender rates to 90 per cent of the expected rate.
This sensitivity shows the impact of reducing maintenance expenses and investment expenses to 90 per cent of the expected rate.
This sensitivity shows the impact on the value of in-force business, financial options and guarantee costs, statutory reserves and asset values of reducing the risk-free rate by 25 basis points.
This sensitivity shows the impact of a flat 5 per cent addition to the expected rate.
This sensitivity shows the impact of a flat 1 per cent addition to the expected rate.
This sensitivity shows the impact of a 25 basis point increase in credit default spreads on corporate bonds and the corresponding reduction in market values. Government bond yields, the risk-free
rate and illiquidity premia are all assumed to be unchanged.
This sensitivity shows the impact of a 10 basis point increase in the allowance for illiquidity premia. It assumes the overall corporate bond spreads are unchanged and hence market values are
unchanged. Government bond yields and the non-annuity risk-free rate are both assumed to be unchanged. The increased illiquidity premium increases the annuity risk-free rate.
1
2
3
4
5
6
7
8
9
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
207
Lloyds Banking Group
Annual Report
and Accounts 2010
40 LIABILITIES ARISING FROM NON-PARTICIPATING INVESTMENT CONTRACTS
The movement in liabilities arising from non-participating investment contracts may be analysed as follows:
At 1 January 2009
Adjustment on acquisition
New business
Changes in existing business
Exchange and other adjustments
At 31 December 2009
New business
Changes in existing business
Exchange and other adjustments
At 31 December 2010
Gross
£m
14,243
28,181
3,498
430
(4)
46,348
3,953
1,070
(8)
51,363
Reinsurance
£m
–
–
–
–
–
–
(65)
–
–
Net
£m
14,243
28,181
3,498
430
(4)
46,348
3,888
1,070
(8)
(65)
51,298
41 UNALLOCATED SURPLUS WITHIN INSURANCE BUSINESSES
The movement in the unallocated surplus within long-term insurance businesses over the year can be analysed as follows:
At 1 January
Adjustment on acquisition
Change in unallocated surplus recognised in the income statement (note 10)
Exchange and other adjustments
At 31 December
42 OTHER LIABILITIES
Settlement balances
Unitholders’ interest in Open Ended Investment Companies
Other creditors and accruals
Other liabilities
2010
£m
1,082
–
(439)
–
643
2010
£m
1,269
15,617
12,810
29,696
2009
£m
270
526
318
(32)
1,082
2009
£m
2,070
12,415
14,835
29,320
208
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
43 RETIREMENT BENEFIT OBLIGATIONS
Charge to the income statement
Defined benefit pension schemes1
Other post-retirement benefit schemes
Total defined benefit schemes
Defined contribution pension schemes
Total charge to the income statement
2010
£m
(467)
12
(455)
173
(282)
1
In 2010, the amount is shown net of a credit of £910 million following the Group’s decision to cap all future increases to pensionable salary in its principal UK defined benefit pension schemes,
together with a change in commutation factors in certain schemes (note 11).
Amounts recognised in the balance sheet
Defined benefit pension schemes
Other post-retirement benefit schemes
Total amounts recognised in the balance sheet
Amounts recognised in the balance sheet
Retirement benefit assets
Retirement benefit obligations
Total amounts recognised in the balance sheet
PENSION SCHEMES
2010
£m
479
(166)
313
2010
£m
736
(423)
313
2009
£m
529
7
536
208
744
2009
£m
(619)
(161)
(780)
2009
£m
–
(780)
(780)
Defined benefit schemes
The Group has established a number of defined benefit pension schemes in the UK and overseas, the three most significant being the defined
benefit sections of the Lloyds TSB Group Pension Schemes No’s 1 and 2 and the HBOS Final Salary Pension Scheme. These schemes provide
retirement benefits calculated as a percentage of final salary depending upon the length of service; the minimum retirement age under the rules of
the schemes at 31 December 2010 was generally 55 although certain categories of member are deemed to have a contractual right to retire at 50.
The latest full valuations of the two Lloyds TSB schemes were carried out as at 30 June 2008; the latest full valuation of the HBOS scheme was carried
out as at 31 December 2008. The results have been updated to 31 December 2010 by qualified independent actuaries. The last full valuations of
other Group schemes were carried out on a number of different dates; these have been updated to 31 December 2010 by qualified independent
actuaries or, in the case of the Scottish Widows Retirement Benefits Scheme, by a qualified actuary employed by Scottish Widows.
The Group’s obligations in respect of its defined benefit schemes are funded. During 2009, the Group’s contributions to its defined benefit schemes
of £1,859 million included one-off contributions to the Lloyds TSB Group Pension Scheme No 1 and Lloyds TSB Group Pension Scheme No 2 of
approximately £1 billion in aggregate. These contributions took the form of interests in limited liability partnerships for each of the two schemes
which contained assets of approximately £5 billion in aggregate entitling the schemes to annual payments of approximately £215 million in
aggregate until 31 December 2014. Thereafter, assuming that all distributions have been made, the value of the partnership interests will equate to a
nominal amount. At 31 December 2010, the limited liability partnerships held assets of approximatey £4.9 billion; cash payments of £215 million were
made to the pension schemes during the year. The limited liability partnerships are fully consolidated in the Group’s balance sheet (see note 23).
The Group currently expects to pay contributions of approximately £625 million to its defined benefit schemes in 2011.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
209
Lloyds Banking Group
Annual Report
and Accounts 2010
43 RETIREMENT BENEFIT OBLIGATIONS continued
Amount included in the balance sheet
Present value of funded obligations
Fair value of scheme assets
Unrecognised actuarial losses
Net amount recognised in the balance sheet
Movements in the defined benefit obligation
At 1 January
Adjustment on acquisition
Current service cost
Employee contributions
Interest cost
Actuarial gains (losses)
Benefits paid
Past service cost
Curtailments
Settlements
Exchange and other adjustments
At 31 December
Changes in the fair value of scheme assets
At 1 January
Adjustment on acquisition
Expected return
Employer contributions
Employee contributions
Actuarial gains
Benefits paid
Settlements
Exchange and other adjustments
At 31 December
Actual return on scheme assets
2010
£m
2009
£m
(26,862)
26,382
(480)
959
479
2010
£m
(27,073)
–
(384)
(4)
(1,474)
140
950
(46)
1,081
6
(58)
(27,073)
23,518
(3,555)
2,936
(619)
2009
£m
(15,617)
(7,046)
(395)
(2)
(1,383)
(3,568)
932
(67)
–
8
65
(26,862)
(27,073)
2010
£m
23,518
–
1,507
648
4
1,624
(950)
(9)
40
26,382
3,131
2009
£m
13,693
6,743
1,320
1,859
2
886
(932)
(12)
(41)
23,518
2,206
210
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
43 RETIREMENT BENEFIT OBLIGATIONS continued
ASSUMPTIONS
The principal actuarial and financial assumptions used in valuations of the defined benefit pension schemes were as follows:
Discount rate
Rate of inflation:
Retail Prices Index
Consumer Price Index
Rate of salary increases
Rate of increase for pensions in payment
Life expectancy for member aged 60, on the valuation date:
Men
Women
Life expectancy for member aged 60, 15 years after the valuation date:
Men
Women
2010
%
5.50
3.40
2.90
2.00
3.20
Years
27.2
28.3
28.2
29.9
2009
%
5.70
3.40
–
3.75
3.20
Years
27.1
28.2
28.7
29.8
The mortality assumptions used in the scheme valuations are based on standard tables published by the Institute and Faculty of Actuaries which
were adjusted in line with the actual experience of the relevant schemes. The table shows that a member retiring at age 60 as at 31 December
2010 is assumed to live for, on average, 27.2 years for a male and 28.3 years for a female. In practice there will be much variation between individual
members but these assumptions are expected to be appropriate across all members. It is assumed that younger members will live longer in
retirement than those retiring now. This reflects the expectation that mortality rates will continue to fall over time as medical science and standards of
living improve. To illustrate the degree of improvement assumed the table also shows the life expectancy for members aged 45 now, when they retire
in 15 years time at age 60.
SENSITIVITY ANALYSIS
The effect of changes in key assumptions on the pension charge in the Group’s income statement and on the gross defined benefit pension scheme
asset or liability is set out below:
Inflation:1
Increase of 0.2 per cent
Decrease of 0.2 per cent
Discount rate:2
Increase of 0.2 per cent
Decrease of 0.2 per cent
Expected life expectancy of members:
Increase of one year
Decrease of one year
1
2
At 31 December 2010, the assumed rate of inflation is 3.4 per cent (31 December 2009 3.4 per cent).
At 31 December 2010, the assumed discount rate is 5.5 per cent (31 December 2009 5.7 per cent).
Increase (decrease) in the
income statement charge
Increase (decrease) in the
net defined benefit
pension scheme asset
2010
£m
14
(15)
(20)
15
40
(41)
2009
£m
69
(60)
(68)
82
79
(76)
2010
£m
(791)
754
930
(976)
(620)
632
2009
£m
(795)
763
937
(985)
(590)
603
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
211
Lloyds Banking Group
Annual Report
and Accounts 2010
43 RETIREMENT BENEFIT OBLIGATIONS continued
The expected return on scheme assets has been calculated using the following assumptions:
Equities and alternative assets
Fixed interest gilts
Index linked gilts
Non-Government bonds
Property
Money market instruments and cash
The expected return on scheme assets in 2011 will be calculated using the following assumptions:
Equities and alternative assets
Fixed interest gilts
Index linked gilts
Non-Government bonds
Property
Money market instruments and cash
Composition of scheme assets:
Equities
Fixed interest gilts
Index linked gilts
Non-Government bonds
Property
Money market instruments, cash and other assets and liabilities
At 31 December
2010
%
8.3
4.5
4.1
6.0
7.5
4.3
2010
£m
11,856
2,237
4,159
2,922
1,654
3,554
2009
%
8.4
3.7
4.0
6.7
6.4
3.8
2011
%
8.3
4.0
3.9
4.9
7.3
3.9
2009
£m
10,934
2,038
2,917
2,148
1,577
3,904
26,382
23,518
The assets of all the funded plans are held independently of the Group’s assets in separate trustee administered funds.
The expected return on plan assets was determined by considering the expected returns available on the assets underlying the current investment
policy. Expected yields on fixed interest investments are based on gross redemption yields at the balance sheet date at a term and credit rating
broadly appropriate for the bonds held. Expected returns on equity and property investments are long-term rates based on the views of the plan’s
independent investment consultants. The expected return on equities allows for the different expected returns from the private equity, infrastructure
and hedge fund investments held by some of the funded plans. Some of the funded plans also invest in certain money market instruments and the
expected return on these investments has been assumed to be the same as cash.
Experience adjustments history:
Present value of defined benefit obligation
Fair value of scheme assets
Experience gains (losses) on scheme liabilities
Experience gains (losses) on scheme assets
2010
£m
(26,862)
26,382
(480)
496
1,624
2009
£m
(27,073)
23,518
(3,555)
31
886
2008
£m
(15,617)
13,693
(1,924)
(39)
(3,520)
2007
£m
(16,795)
16,112
(683)
(185)
139
2006
£m
(17,378)
15,279
(2,099)
(50)
314
212
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
43 RETIREMENT BENEFIT OBLIGATIONS continued
The expense recognised in the income statement for the year ended 31 December comprises:
Current service cost
Interest cost
Expected return on scheme assets
Net actuarial losses recognised in year
Curtailments (see below)
Settlements
Past service cost
Total defined benefit pension expense
2010
£m
384
1,474
(1,507)
43
(910)
3
46
(467)
2009
£m
395
1,383
(1,320)
–
–
4
67
529
Following changes by the Group to the terms of its principal UK defined benefit pension schemes, all future increases to pensionable salary will be
capped each year at the lower of: Retail Prices Index inflation; each employee’s actual percentage increase in pay; and 2 per cent of pensionable
pay. In addition to this, during the second half of the year there was a change in the commutation factors in certain defined benefit schemes.
The combined effect of these changes is a reduction in the Group’s defined benefit obligation of £1,081 million and a reduction in the Group’s
unrecognised actuarial losses of £171 million, resulting in a net curtailment gain of £910 million recognised in the income statement and an
equivalent reduction in the balance sheet liability.
Defined contribution schemes
The Group operates a number of defined contribution pension schemes in the UK and overseas, principally the defined contribution sections of the
Lloyds TSB Group Pension Schemes No’s 1 and 2.
During the year ended 31 December 2010 the charge to the income statement in respect of defined contribution schemes was £173 million
(2009: £208 million), representing the contributions payable by the employer in accordance with each scheme’s rules.
OTHER POST-RETIREMENT BENEFIT SCHEMES
The Group operates a number of schemes which provide post-retirement healthcare benefits and concessionary mortgages to certain employees,
retired employees and their dependants. The principal scheme relates to former Lloyds Bank staff and under this scheme the Group has undertaken
to meet the cost of post-retirement healthcare for all eligible former employees (and their dependants) who retired prior to 1 January 1996. The
Group has entered into an insurance contract to provide these benefits and a provision has been made for the estimated cost of future insurance
premiums payable.
For the principal post-retirement healthcare scheme, the latest actuarial valuation of the liability was carried out at 30 June 2008; this valuation has
been updated to 31 December 2010 by qualified independent actuaries. The principal assumptions used were as set out above, except that the rate
of increase in healthcare premiums has been assumed at 7.54 per cent (2009: 7.33 per cent).
Amount included in the balance sheet:
Present value of unfunded obligations
Unrecognised actuarial losses
Retirement benefit obligation recognised in the balance sheet
Movements in the other post-retirement benefits obligation:
At 1 January
Exchange and other adjustments
Adjustment on acquisition
Actuarial loss
Insurance premiums paid
Charge for the year
At 31 December
2010
£m
(175)
9
(166)
2010
£m
(170)
2
–
–
5
(12)
(175)
2009
£m
(170)
9
(161)
2009
£m
(118)
7
(55)
(5)
8
(7)
(170)
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
213
Lloyds Banking Group
Annual Report
and Accounts 2010
44 DEFERRED TAX
The movement in the net deferred tax balance is as follows:
Asset at 1 January
Exchange and other adjustments
Adjustment on acquisition
Disposals
Income statement (charge) credit (note 16):
Due to change in UK corporation tax rate
Other
Amount (charged) credited to equity:
Available-for-sale financial assets (note 49)
Net investment hedges (note 49)
Cash flow hedges (note 49)
Share-based compensation
Asset at 31 December
2010
£m
4,797
68
–
–
(137)
(534)
(671)
(330)
–
33
20
(277)
3,917
2009
£m
833
107
1,851
16
–
2,619
2,619
(395)
(358)
119
5
(629)
4,797
The statutory position reflects the deferred tax assets and liabilities as disclosed in the consolidated balance sheet and takes account of the inability
to offset assets and liabilities where there is no legally enforceable right of offset. The tax disclosure of deferred tax assets and liabilities ties to the
amounts outlined in the table below which splits the deferred tax assets and liabilities by type.
Statutory position
Deferred tax assets
Deferred tax liabilities
Asset at 31 December
2010
£m
4,164
(247)
3,917
2009
£m
5,006
(209)
4,797
Tax disclosure
Deferred tax assets
Deferred tax liabilities
Asset at 31 December
2010
£m
8,513
(4,596)
3,917
2009
£m
8,579
(3,782)
4,797
214
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
44 DEFERRED TAX continued
The deferred tax (charge) credit in the income statement comprises the following temporary differences:
Accelerated capital allowances
Pensions and other post-retirement benefits
Long-term assurance business
Allowances for impairment losses
Trading losses
Tax on fair value of acquired assets
Other temporary differences
Deferred tax (charge) credit in the income statement
Deferred tax assets and liabilities are comprised as follows:
Deferred tax assets:
Pensions and other post-retirement benefits
Allowances for impairment losses
Other provisions
Derivatives
Available-for-sale asset revaluation
Tax losses carried forward
Other temporary differences
Total deferred tax assets
Deferred tax liabilities:
Accelerated capital allowances
Long-term assurance business
Tax on fair value of acquired assets
Effective interest rates
Other temporary differences
Total deferred tax liabilities
2010
£m
(470)
(391)
(110)
73
873
(715)
69
(671)
2010
£m
33
612
231
221
519
6,572
325
8,513
2010
£m
(562)
(1,630)
(2,097)
(74)
(233)
2009
£m
1,039
(199)
(188)
(128)
4,000
(2,022)
117
2,619
2009
£m
424
474
232
155
936
5,925
433
8,579
2009
£m
(92)
(1,530)
(1,913)
(88)
(159)
(4,596)
(3,782)
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
215
Lloyds Banking Group
Annual Report
and Accounts 2010
44 DEFERRED TAX continued
The Finance (No. 2) Act 2010 includes legislation to reduce the main rate of corporation tax from 28 per cent to 27 per cent with effect from 1 April
2011. This resulted in a reduction in the Group’s net deferred tax asset at 31 December 2010 of £132 million.
The proposed further reductions in the rate of corporation tax by 1 per cent per annum to 24 per cent by 1 April 2014 are expected to be enacted
separately each year starting in 2011. The effect of these further changes upon the Group’s deferred tax balances and leasing business cannot be
reliably quantified at this stage.
DEFERRED TAX ASSETS
Deferred tax assets are recognised for tax losses carried forward to the extent that the realisation of the related tax benefit through future taxable
profits is probable. Group companies have recognised deferred tax assets of £6,572 million (2009: £5,925 million) in relation to trading tax losses
carried forward. After reviews of medium-term profit forecasts, the Group considers that there will be sufficient profits in the future against which
these losses will be offset.
Deferred tax assets of £396 million (31 December 2009: £487 million) have not been recognised in respect of capital losses carried forward as there
are no predicted future capital profits. Capital losses can be carried forward indefinitely.
Deferred tax assets of £227 million (31 December 2009: £349 million) have not been recognised in respect of trading losses carried forward, mainly
in certain overseas companies as there are limited predicted future trading profits. Trading losses can be carried forward indefinitely.
In addition, deferred tax assets have not been recognised in respect of unrelieved foreign tax carried forward as at 31 December 2010 of £62 million
(31 December 2009: £53 million), as there are no predicted future taxable profits against which the unrelieved foreign tax credits can be utilised.
These tax credits can be carried forward indefinitely.
DEFERRED TAX LIABILITIES
Future transfers from Scottish Widows plc’s long-term business funds to its Shareholder Fund will be subject to a shareholder tax charge. Under
IAS 12, no provision is required to be made to the extent that the timing of such transfers is under Scottish Widows plc’s control. Accordingly,
deferred tax liabilities of £90 million (2009: £90 million) have not been recognised.
Scottish Widows plc has a taxable difference of £152 million (2009: £152 million) in respect of its holding of a life insurance subsidiary. No deferred tax
liability is required to be recognised in respect of this taxable temporary difference under IAS 12 as Scottish Widows plc does not intend to dispose
of this subsidiary company.
45 OTHER PROVISIONS
At 1 January 2010
Exchange and other
adjustments
Transfers
Provisions applied
Charge for the year
At 31 December 2010
Provisions for
contingent
liabilities and
commitments
£m
Customer
remediation
provisions
£m
Customer
goodwill
payments
£m
Restructuring
provisions
£m
72
16
–
(9)
75
154
460
(26)
49
(222)
83
344
–
–
–
–
500
500
116
(1)
–
(16)
23
122
Vacant
leasehold
property
£m
108
4
–
(1)
35
146
Other
£m
227
9
–
(5)
35
266
Total
£m
983
2
49
(253)
751
1,532
216
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
45 OTHER PROVISIONS continued
PROVISIONS FOR CONTINGENT LIABILITIES AND COMMITMENTS
Provisions are held in cases where the Group is irrevocably committed to advance additional funds, but where there is doubt as to the customer’s
ability to meet its repayment obligations.
CUSTOMER REMEDIATION PROVISIONS
The Group establishes provisions for the estimated cost of making redress payments to customers in respect of past product sales, in those cases
where the original sales processes have been found to be deficient. During 2010 management has again reviewed the adequacy of the provisions
held having regard to current complaint volumes and the level of payments being made and £83 million has been charged to the income statement.
At 31 December 2010 the remaining provisions held relate to past sales of a number of products, including mortgage endowment policies, sold
through the branch networks.
CUSTOMER GOODWILL PAYMENTS
Lloyds Banking Group has been in discussion with the FSA regarding the application of an interest variation clause in certain Bank of Scotland plc
variable rate mortgage contracts where the wording in the offer documents received by certain customers had the potential to cause confusion.
The relevant mortgages were written between 2004 and 2007 by Bank of Scotland plc under the ‘Halifax’ brand. In February 2011, the Group reached
agreement with the FSA in relation to initiating a customer review and contact programme and making goodwill payments to affected customers.
In order to make these goodwill payments, Bank of Scotland plc has applied for a Voluntary Variation of Permission to carry out the customer
review and contact programme to bring it within section 404F(7) of FSMA 2000. The Group has made a provision of £500 million in relation to
this programme.
RESTRUCTURING
Provisions are made for staff and other costs related to Group restructuring initiatives at the point at which the Group becomes irrevocably
committed to the expenditure.
VACANT LEASEHOLD PROPERTY
Vacant leasehold property provisions are made by reference to a prudent estimate of expected sub-let income, compared to the head rent, and the
possibility of disposing of the Group’s interest in the lease, taking into account conditions in the property market. These provisions are reassessed on
a biennial basis and will normally run off over the period of under-recovery of the leases concerned, currently averaging five years; where a property is
disposed of earlier than anticipated, any remaining balance in the provision relating to that property is released.
OTHER
Other provisions include the provisions which the Group carries in respect of its obligations arising from the liquidation of UIC Insurance Company
Limited (UIC). The Group has indemnified a third party against losses arising from a reinsurance contract written by UIC which is subject to asbestos
and pollution claims in the US. The ultimate cost and timing of payments under the indemnity remain uncertain. The provision held represents
management’s current best estimate of the cost after having regard to actuarial estimates of future losses.
45 OTHER PROVISIONS
46 SUBORDINATED LIABILITIES
Preference shares
Preferred securities
Undated subordinated liabilities
Enhanced capital notes
Dated subordinated liabilities
Total subordinated liabilities
2010
£m
1,165
4,538
2,002
9,235
19,292
36,232
2009
£m
1,983
5,078
2,665
9,047
15,954
34,727
The securities in this note will, in the event of the winding-up of the issuer, be subordinated to the claims of depositors and all other creditors of the
issuer, other than creditors whose claims rank equally with, or are junior to, the claims of the holders of the subordinated liabilities. The subordination
of specific subordinated liabilities is determined in respect of the issuer and any guarantors of that liability. The claims of holders of preferred shares
and securities are generally junior to those of the holders of undated subordinated liabilities, which in turn are junior to the claims of holders of the
dated subordinated liabilities. The subordination of the dated enhanced capital notes ranks equally with that of the dated subordinated liabilities.
The Group has not had any defaults of principal, interest or other breaches with respect to its subordinated liabilities during the year (2009: none).
No repayment or purchase by the issuer of the subordinated liabilities may be made prior to their stated maturity without the consent of the
Financial Services Authority.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
217
Lloyds Banking Group
Annual Report
and Accounts 2010
46 SUBORDINATED LIABILITIES continued
The movement in subordinated liabilities during the year was as follows:
At 1 January 2010
Issued during the year
Repurchases and redemptions during the year
Foreign exchange and other movements
At 31 December 2010
Preference shares
6% Non-cumulative Redeemable Preference Shares
6.267% Fixed/Floating Rate Non-Cumulative Callable Preference Shares callable 2016
(US$1,000 million)
9¼% Non-cumulative Irredeemable £1 preference shares (£300 million)
9¾% Non-cumulative Irredeemable £1 preference shares (£100 million)
6.413% Fixed-to-Floating Rate US$1 series A preference shares (US$750 million)
5.92% Fixed-to-Floating Rate US$1 series B preference shares (US$750 million)
6.657% Fixed-to-Floating rate US$1 preference shares (US$750 million)
7.875% Non-cumulative callable preference shares (US$1,250 million)
7.875% Non-cumulative callable preference shares (€500 million)
6.475% fixed rate non-cumulative callable preference shares (£186 million)
6.0884% fixed-to-floating rate non-cumulative callable preference shares (£745 million)
6.3673% fixed-to-floating non-cumulative callable preference shares (£335 million)
£m
34,727
3,511
(3,618)
1,612
36,232
2009
£m
–
327
197
72
115
90
28
680
417
45
10
2
Note
a
d, e
e
b, c, e
e
d, e
e
b, e
b, e
b, c, e
b, e
b, e
2010
£m
–
269
235
30
113
9
5
277
182
34
9
2
Total preference shares
1,165
1,983
a Since 2004, the Company has had in issue 400 6 per cent non-cumulative preference shares of 25p each. The shares, which are redeemable at the option of the Company at any time, carry the
rights to a fixed rate non-cumulative preferential dividend of 6 per cent per annum; no dividend shall be payable in the event that the directors determine that prudent capital ratios would not be
maintained if the dividend were paid. Upon winding up, the shares rank equally with any other preference shares issued by the Company. The holder of the 400 25p 6 per cent preference shares has
waived its right to payment for the period from 1 March 2010 to 1 March 2012.
b As part of the Group’s recapitalisation and exit from the Government Asset Protection Scheme, following an exchange offer, on 1 December , 10 December and 15 December 2009, certain holders
of certain series elected to exchange some or all of the preference shares they held for equity issued by Lloyds Banking Group plc on 18 February 2010.
c Following an invitation to certain eligible retail holders on 15 December 2009, certain holders of certain series elected to sell some or all of the preference shares they held to
Lloyds Banking Group plc in January 2010.
d Following conclusion of a limited number of privately negotiated bilateral exchanges on 7 May 2010, certain holders of certain series elected to exchange some or all of the preference shares they
held for equity issued by Lloyds Banking Group plc.
e In November 2009, as part of the state aid restructuring plan, the Group agreed to suspend the payment of coupons on these instruments for the two year period from 31 January 2010 to
31 January 2012.
218
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
46 SUBORDINATED LIABILITIES continued
Preferred securities
6.90% Perpetual Capital Securities (US$1,000 million)
7.375% Euro Step-up Non-Voting Non-Cumulative Preferred Securities callable 2012 (€430 million)
6.35% Step-up Perpetual Capital Securities callable 2013 (€500 million)
7.834% Sterling Step-up Non-Voting Non-Cumulative Preferred Securities callable 2015 (£250 million)
4.385% Step-up Perpetual Capital Securities callable 2017 (€750 million)
13.00% Step-up Perpetual Capital Securities callable 2019 (£784 million)
13.00% Euro Step-up Perpetual Capital Securities callable 2019 (€532 million)
12% Fixed to Floating Rate Perpetual Tier 1 Capital Securities callable 2024 (US$2,000 million)
13.00% Sterling Step-up Perpetual Capital Securities callable 2029 (£700 million)
6.071% Non-cumulative Perpetual Preferred Securities of US$1,000 each (US$750 million)
6.85% Non-cumulative Perpetual Preferred Securities of US$1,000 each (US$1,000 million)
6.461% Guaranteed Non-voting Non-cumulative Perpetual Preferred Securities Series A of
£1,000 each (£600 million)
8.117% Non-cumulative Perpetual Preferred Securities Series 1 of £1,000 each (Class A) (£250 million)
7.754% Non-cumulative Perpetual Preferred Securities Series 2 of £1,000 each (Class B) (£150 million)
7.881% Guaranteed Non-voting Non-cumulative Preferred Securities (£245 million)
7.627% Fixed to Floating Rate Guaranteed Non-voting Non-cumulative Preferred Securities (€415 million)
4.939% Non-voting Non-cumulative Perpetual Preferred Securities (€750 million)
Perpetual Regulatory Tier One Securities (£300 million)
Total preferred securities
Note
a, c
a, b
a
a, b
a, b
a, b
b
a, b
c
c, d
c
b
2010
£m
249
16
241
4
85
10
56
2009
£m
645
306
456
43
82
9
47
1,288
1,235
662
336
107
421
253
98
173
308
17
214
666
240
–
398
234
93
151
259
10
204
4,538
5,078
a As part of the Group’s recapitalisation and exit from the Government Asset Protection Scheme, following an exchange offer, on 1 December 2009, 10 December and 15 December 2009 certain
holders of certain series elected to exchange some or all of the notes they held for equity issued by Lloyds Banking Group plc on 18 February 2010.
b In November 2009, as part of the state aid restructuring plan, the Group agreed to suspend the payment of coupons on these instruments for the two year period from
31 January 2010 to 31 January 2012.
c These securities are callable at specific dates as per the terms of the securities at the option of the issuer and with approval from the FSA. In November 2009, as part of the state aid restructuring
plan, the Group agreed not to exercise any call options on these instruments for the two year period from 31 January 2010 to 31 January 2012.
d The fixed rate on this security was reset from 8.117 per cent to 6.059 per cent with effect from 31 May 2010.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
219
Lloyds Banking Group
Annual Report
and Accounts 2010
46 SUBORDINATED LIABILITIES continued
Undated subordinated liabilities
Primary Capital Undated Floating Rate Notes:
Series 1 (US$750 million)
Series 2 (US$500 million)
Series 3 (US$600 million)
11¾% Perpetual Subordinated Bonds (£100 million)
65/8% Undated Subordinated Step-up Notes callable 2010 (£410 million)
5.125% Step-up Perpetual Subordinated Notes callable 2015 (£560 million) (Scottish Widows plc)
5.125% Undated Subordinated Step-up Notes callable 2016 (£500 million)
6½% Undated Subordinated Step-up Notes callable 2019 (£270 million)
8% Undated Subordinated Step-up Notes callable 2023 (£200 million)
6½% Undated Subordinated Step-up Notes callable 2029 (£450 million)
6% Undated Subordinated Step-up Guaranteed Bonds callable 2032 (£500 million)
5.625% Cumulative Callable Fixed to Floating Rate Undated Subordinated Notes (£500 million)
4.875% Undated Subordinated Fixed to Floating Rate Instruments (€750 million)
Floating Rate Undated Subordinated Notes (€500 million)
5.375% Undated Fixed to Floating Rate Subordinated Notes (US$1,000 million)
5.125% Undated Subordinated Fixed to Floating Notes (€750 million)
5.75% Undated Subordinated Step-up Notes (£600 million)
6.05% Fixed to Floating Rate Undated Subordinated Notes (€500 million)
7.5% Undated Subordinated Step-up Notes (£300 million)
3.50% Undated Subordinated Yen Step-up Notes (JPY 42.5 billion)
8.625% Perpetual Subordinated Notes (£200 million)
7.375% Undated Subordinated Guaranteed Bonds (£200 million) (Clerical Medical Finance plc)
Floating Rate Undated Subordinated Step-up Notes (€300 million)
Floating Rate Primary Capital Notes (US$250 million)
10.25% Subordinated Undated Instruments (£100 million)
12% Perpetual Subordinated Bonds (£100 million)
8.75% Perpetual Subordinated Bonds (£100 million)
13.625% Perpetual Subordinated Bonds (£75 million)
9.375% Perpetual Subordinated Bonds (£50 million)
5.75% Undated Subordinated Step-up Notes (£500 million)
4.25% Perpetual Fixed/Floating Rate Reset Subordinated Guaranteed Notes (€750 million)
(Clerical Medical Finance plc)
7.375% Subordinated Undated Instruments (£150 million)
Total undated subordinated liabilities
Note
b, c, d
b, c, d
b, c, d
b, d, e
a
b
b
b
b
b
b
b
b
b
b
d
c
b
d
2010
£m
173
181
232
102
6
550
–
1
–
–
10
–
65
42
12
47
3
57
3
–
21
35
63
b, c, d
118
b
b
b
b
b
b
1
21
4
20
16
3
215
1
2,002
2009
£m
408
262
326
102
5
547
–
–
–
–
10
1
60
41
3
39
2
50
4
267
18
35
58
146
1
22
6
33
26
3
190
–
2,665
a Scottish Widows plc may elect to defer interest on these securities although in that event Scottish Widows plc cannot declare or pay a dividend on any ordinary share capital until any deferred
payments have been made.
b In November 2009, as part of the state aid restructuring plan, the Group agreed to suspend the payment of coupons on these instruments for the two year period from 31 January 2010 to
31 January 2012.
c Following an exchange offer, on 28 May 2010 and 14 June 2010, certain holders elected to exchange some or all of the notes they held for equity issued by Lloyds Banking Group plc.
d These securities are callable at specific dates as per the terms of the securities at the option of the issuer and with approval from the FSA. In November 2009, as part of the state aid restructuring
plan, the Group agreed not to exercise any call options on these instruments for the two year period from 31 January 2010 to 31 January 2012.
e The fixed rate on this security was reset from 6.625 per cent to 4.6482 per cent with effect from 15 July 2010.
220
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
46 SUBORDINATED LIABILITIES continued
With the exception of the two series identified in note b, the ECNs were issued in lower tier 2 format and are convertible into ordinary shares on
the breach of a defined trigger. The trigger on the ECNs offered in the exchange will be if the published core tier 1 ratio of the Group falls below
5 per cent (as defined by the Financial Services Authority in May 2009).
Enhanced capital notes
7.5884% Enhanced Capital Notes due 2020 (Series 1) (£732 million)
7.8673% Enhanced Capital Notes due 2019 (Series 2) (£331 million)
7.975% Enhanced Capital Notes due 2024 (Series 3) (£102 million)
7.869% Enhanced Capital Notes due 2020 (Series 8) (£596 million)
8.875% Enhanced Capital Notes due 2020 (Series 12) (€125 million)
9.334% Enhanced Capital Notes due 2020 (Series 14) (£208 million)
6.439% Enhanced Capital Notes due 2020 (Series 15) (€710 million)
6.385% Enhanced Capital Notes due 2020 (Series 18) (€662 million)
11.04% Enhanced Capital Notes due 2020 (Series 19) (£736 million)
15% Enhanced Capital Notes due 2019 (Series 21) (£775 million)
15% Enhanced Capital Notes due 2019 (Series 22) (€487 million)
15% Enhanced Capital Notes due 2029 (Series 23) (£68 million)
9.125% Enhanced Capital Notes due 2020 (Series 27) (£148 million)
11.125% Enhanced Capital Notes due 2020 (Series 31) (£39 million)
7.375% Enhanced Capital Notes due 2020 (Series 32) (€95 million)
Floating Rate Enhanced Capital Notes due 2020 (Series 33) (€53 million)
12.75% Enhanced Capital Notes due 2020 (Series 34) (£57 million)
8.07% Enhanced Capital Notes due 2020 (Series 35) (¥20,000 million)
7.625% Enhanced Capital Notes due 2020 (Series 36) (€226 million)
6.75% Enhanced Capital Notes due 2020 (Series 37) (¥17,000 million)
7.625% Enhanced Capital Notes due 2019 (Series 39) (£151 million)
9% Enhanced Capital Notes due 2019 (Series 40) (£97 million)
8.125% Enhanced Capital Notes due 2019 (Series 41) (£4 million)
14.5% Enhanced Capital Notes due 2022 (Series 42) (£79 million)
9.875% Enhanced Capital Notes due 2023 (Series 44) (£57 million)
11.25% Enhanced Capital Notes due 2023 (Series 45) (£95 million)
10.5% Enhanced Capital Notes due 2023 (Series 46) (£69 million)
11.875% Enhanced Capital Notes due 2024 (Series 47) (£35 million)
9% Enhanced Capital Notes due 2029 (Series 49) (£107 million)
8.5% Enhanced Capital Notes due 2032 (Series 50) (£104 million)
16.125% Enhanced Capital Notes due 2024 (Series 52) (£61 million)
7.875% Enhanced Capital Notes due 2020 (US$986 million)
8% Fixed to Floating Rate Undated Enhanced Capital Notes callable 2022 (US$1,259 million)
8.5% Undated Enhanced Capital Notes callable 2021 (Series 2) (US$277 million)
7.875% Enhanced Capital Notes due 2020 (US$408 million)
Total enhanced capital notes
a Interest is payable quarterly in arrears at a rate of 3 month EURIBOR plus 3.1 per cent per annum.
b Issued in upper tier 2 format.
Note
a
c
c
b
b
2010
£m
694
336
98
589
116
233
562
525
872
2009
£m
690
316
96
572
117
218
557
517
871
1,145
1,125
635
111
158
45
82
41
75
–
189
–
142
103
4
115
67
115
79
45
112
105
99
631
674
150
288
646
108
153
45
80
42
74
156
193
121
142
100
4
115
62
115
78
45
108
100
100
599
639
143
–
9,235
9,047
c Following conclusion of a privately negotiated bilateral exchange on 19 March 2010, certain holders elected to exchange some or all of the notes they held for enhanced capital notes issued by
Lloyds Banking Group Capital No. 2 plc.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
221
Lloyds Banking Group
Annual Report
and Accounts 2010
46 SUBORDINATED LIABILITIES continued
Dated subordinated liabilities
6 1/4% Subordinated Notes 2010 (€400 million)
12% Guaranteed Subordinated Bonds 2011 (£100 million)
7.70% Notes 2010 (US$500 million)
9 1/8% Subordinated Bonds 2011 (£150 million)
4 3/4% Subordinated Notes 2011 (€850 million)
6.50% Notes 2011 (US$150 million)
5.50% Subordinated Fixed Rate Notes 2012 (€750 million)
6.25% Instruments 2012 (€12.8 million)
6.125% Notes 2013 (€325 million)
4.25% Subordinated Guaranteed Notes 2013 (US$1,000 million)
5 7/8% Subordinated Guaranteed Bonds 2014 (€750 million)
5 7/8% Subordinated Notes 2014 (£150 million)
11% Subordinated Bonds 2014 (£250 million)
6 5/8% Subordinated Notes 2015 (£350 million)
4.875% Subordinated Notes 2015 (€1,000 million)
Subordinated Step-up Floating Rate Notes 2016 callable 2011 (£300 million)
Subordinated Step-up Floating Rate Notes 2016 callable 2011 (€500 million)
Callable Floating Rate Subordinated Notes 2016 (€500 million)
Subordinated Notes 2016 (€500 million)
Notes 2016 (US$750 million)
Subordinated Lower Tier II Notes 2017 (€1,000 million)
Subordinated Callable Notes 2017 (US$1,000 million)
Subordinated Callable Floating Rate Instruments 2017 (Aus$400 million)
6.75% Subordinated Callable Fixed/Floating Rate Instruments 2017 (Aus$200 million)
5.109% Callable Fixed to Floating Rate Notes 2017 (Can$500 million)
6.305% Lower Tier II Subordinated Notes 2017 (£500 million)
5.625% Subordinated Fixed to Floating Rate Notes due 2018 callable 2013 (€1,000 million)
10.5% Subordinated Bonds 2018 (£150 million)
6.75% Subordinated Fixed Rate Notes 2018 (US$2,000 million)
6.375% Instruments 2019 (£250 million)
4.375% Callable Fixed to Floating Rate Subordinated Notes 2019 (€750 million)
6.5% Dated Subordinated Notes 2020 (€1,500 million)
6.9625% Subordinated Fixed to Floating Rate Notes due 2020 callable 2015 (£750 million)
Subordinated Floating Rate Notes 2020 (€100 million)
7.375% Dated Subordinated Notes 2020
6.5% Subordinated Fixed Rate Notes 2020 (US$2,000 million)
9.375% Subordinated Bonds 2021 (£500 million)
5.374% Subordinated Fixed Rate Notes 2021 (€160 million)
6.45% Fixed/Floating Subordinated Guaranteed Bonds 2023 (€400 million)
(Clerical Medical Finance plc)
7.07% Subordinated Fixed Rate Notes 2023 (€175 million)
5.75% Subordinated Step-up Notes 2025 callable 2020 (£350 million)
95/8% Subordinated Bonds 2023 (£300 million)
4.50% Fixed Rate Step-up Subordinated Notes due 2030 (€750 million)
7.625% Dated Subordinated Notes 2025 (£750 million)
6.00% Subordinated Notes 2033 (US$750 million)
Total dated subordinated liabilities
a Issued by a group undertaking under the Company’s subordinated guarantee.
Note
a
b
b
b
b
b
2010
£m
–
109
–
147
764
99
657
10
289
619
739
149
297
343
838
296
432
401
417
440
758
548
255
127
305
486
946
171
1,176
236
600
1,353
715
86
4
1,202
647
139
173
162
324
332
463
763
275
19,292
2009
£m
375
108
327
152
771
102
654
10
296
594
768
154
304
335
875
296
445
374
389
367
704
464
209
101
263
474
979
165
917
227
602
–
755
89
–
–
268
132
171
128
322
333
478
–
477
15,954
b These securities are callable at specific dates as per the terms of the securities at the option of the issuer and with approval of the FSA. In November 2009, as part of the state aid restructuring plan,
the Group agreed not to exercise any call options on these instruments for the two year period from 31 January 2010 to 31 January 2012.
222
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
47 SHARE CAPITAL
(1) AUTHORISED SHARE CAPITAL
As permitted by the Companies Act 2006, the Company removed references to authorised share capital from its articles of association at the annual
general meeting on 5 June 2009. This change took effect from 1 October 2009.
(2) ISSUED AND FULLY PAID SHARE CAPITAL
Ordinary shares of 10p (formerly 25p) each
At 1 January
Issued on redemption of preference shares and other
subordinated liabilities in 2010
Placing and open offer
Issued on acquisition of HBOS
Capitalisation issue
Placing and compensatory open offer
Subdivision
Rights issue
Issued to the Lloyds TSB Foundations
Issued under employee share schemes
At 31 December
Limited voting ordinary shares of 10p (formerly 25p) each
At 1 January
Capitalisation issue
Subdivision
At 31 December
Deferred shares of 15p each
At 1 January
Subdivision of ordinary shares
Subdivision of limited voting ordinary shares
Cancellation of deferred shares
At 31 December
Total issued share capital
2010
Number of shares
2009
Number of shares
2010
£m
63,774,511,536
5,972,855,669
6,378
4,299,422,579
–
429
–
–
–
–
–
–
–
2,596,653,203
7,775,694,993
407,943,501
10,408,535,000
–
36,505,088,579
107,740,591
195,339
–
–
–
–
–
–
–
–
–
68,074,129,454
63,774,511,536
6,807
80,921,051
–
–
78,947,368
1,973,683
–
80,921,051
80,921,051
8
–
–
8
27,242,603,417
–
4,086
–
–
27,161,682,366
80,921,051
(27,242,603,417)
–
–
27,242,603,417
–
–
(4,086)
–
6,815
2009
£m
1,493
–
649
1,944
102
2,602
(4,074)
3,651
11
–
6,378
20
–
(12)
8
–
4,074
12
–
4,086
10,472
On 5 November 2010 the Company cancelled all of its deferred shares and an amount of £4,086 million was credited to the capital redemption reserve.
Share subdivision in 2009
At the general meeting held on 26 November 2009 the Company’s shareholders approved the subdivision of the ordinary shares with each ordinary
share of 25 pence subdivided into one ordinary share of 10 pence and a deferred share of 15 pence. In addition, the shareholders approved the
subdivision of the limited voting ordinary shares with each share of 25 pence subdivided into one limited voting ordinary share of 10 pence and a
deferred share of 15 pence.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
223
Lloyds Banking Group
Annual Report
and Accounts 2010
47 SHARE CAPITAL continued
Share issuances
On 18 February 2010, the Company issued 3,141 million ordinary shares as consideration for the redemption of certain preference shares and
preferred securities.
During May and June 2010, the Company issued a further 1,158 million ordinary shares in relation to three separate exchanges for preference shares
and other subordinated liabilities issued by the Group.
(3) SHARE CAPITAL AND CONTROL
There are no restrictions on the transfer of shares in the Company other than as set out in the articles of association and:
– certain restrictions which may from time to time be imposed by law and regulations (for example, insider trading laws);
– pursuant to the UK Listing Authority’s listing rules where directors and certain employees of the Company require the approval of the Company to
deal in the Company’s shares; and
– pursuant to the rules of some of the Company’s employee share plans where certain restrictions may apply while the shares are subject to the plans.
Where, under an employee share plan operated by the Company, participants are the beneficial owners of shares but not the registered owners, the
voting rights are normally exercised by the registered owner at the direction of the participant. Outstanding awards and options would normally vest
and become exercisable on a change of control, subject to the satisfaction of any performance conditions at that time.
In addition, the Company is not aware of any agreements between shareholders that may result in restrictions on the transfer of securities and/or
voting rights.
Information regarding significant direct or indirect holdings of shares in the Company can be found on page 284.
The directors have authority to allot and issue ordinary and preference shares and to make market purchases of ordinary and preference shares as
granted at the annual general meeting on 6 May 2010. The authority to issue shares and the authority to make market purchases of shares will expire
at the annual general meeting. Shareholders will be asked, at the annual general meeting, to give similar authorities.
Subject to any rights or restrictions attached to any shares, on a show of hands at a general meeting of the Company every holder of shares present
in person or by proxy and entitled to vote has one vote and on a poll every member present and entitled to vote has one vote for every share held.
Further details regarding voting at the annual general meeting can be found in the notes to the notice of the annual general meeting.
Ordinary shares
The holders of ordinary shares (excluding the limited voting ordinary shares), who held 99.9 per cent of the total ordinary share capital as at
31 December 2010, are entitled to receive the Company’s report and accounts, attend, speak and vote at general meetings and appoint proxies to
exercise voting rights. Holders of ordinary shares (excluding the limited voting ordinary shares) may also receive a dividend (subject to the provisions
of the Company’s articles of association and the restrictions noted below) and on a winding up may share in the assets of the Company.
224
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
47 SHARE CAPITAL continued
In November 2009, as part of the restructuring plan that was a requirement for European Commission approval of state aid received by the Group,
the Group agreed to suspend the payment of coupons and dividends on certain of the Group’s preference shares and preferred securities for the
two-year period from 31 January 2010 to 31 January 2012. Consequently, the terms of these instruments prevent the Company from making dividend
payments on ordinary shares.
Limited voting ordinary shares
The limited voting ordinary shares are held by the Lloyds TSB Foundations (the Foundations). The holders of the limited voting ordinary shares, who
held 0.1 per cent of the total ordinary shares as at 31 December 2010, are entitled to receive copies of every circular or other document sent out by
the Company to the holders of other ordinary shares. These shares carry no rights to dividends but rank pari passu with the ordinary shares in respect
of other distributions and in the event of winding up. These shares do not have any right to vote at general meetings other than on resolutions
concerning acquisitions or disposals of such importance that they require shareholder consent, or for the winding up of the Company, or for a
variation in the class rights of the limited voting ordinary shares. In the event of an offer for more than 50 per cent of the issued ordinary share capital
of the Company, each limited voting ordinary share will convert into an ordinary share and shall rank equally with the ordinary shares in all respects
from the date of conversion.
Preference shares
The Company has in issue various classes of preference shares which are all classified as liabilities under IFRS and details of which are shown in
note 46.
48 SHARE PREMIUM ACCOUNT
At 1 January
Shares issued on redemption and exchange of preference shares
and other subordinated liabilities1
Capitalisation issue
Placing and Compensatory Open Offer of ordinary shares
Transfer to merger reserve2
Rights issue
Issued to Lloyds TSB Foundations
Redemption of preference shares3
At 31 December
2010
£m
14,472
1,808
–
–
–
–
–
11
16,291
2009
£m
2,096
–
(102)
1,303
(1,000)
9,461
30
2,684
14,472
1
2
3
On 18 February 2010, the Company issued 3,141 million ordinary shares as consideration for the redemption of certain preference shares and preferred securities; and during May and June 2010,
the Company issued a further 1,158 million ordinary shares in relation to three separate exchanges for preference shares and other subordinated liabilities issued by the Group. A total share premium
of £1,808 million was recorded in respect of these transactions.
Distributable reserves of £1,000 million arose on the issue of preference shares in January 2009 which were classified as debt. In June 2009, these preference shares were redeemed out of the
proceeds of the placing and compensatory open offer of ordinary shares and the distributable element of this issue was transferred from the share premium account to the merger reserve.
In January 2010, the Company repurchased and cancelled certain preference shares amounting to £14 million. This resulted in a transfer of £3 million from the merger reserve to the capital
redemption reserve and a transfer of £11 million from the merger reserve to the share premium account. In December 2009, the Group redeemed eight issues of preference shares in exchange for the
issuance of enhanced capital notes. This resulted in a transfer of £26 million from the merger reserve to the capital redemption reserve and a transfer of £2,684 million from the merger reserve to the
share premium account.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
225
Lloyds Banking Group
Annual Report
and Accounts 2010
49 OTHER RESERVES
Other reserves comprise:
Merger reserve
Capital redemption reserve
Revaluation reserve in respect of available-for-sale financial assets
Cash flow hedging reserve
Foreign currency translation reserve
At 31 December
1
Restated (see note 1).
2010
£m
8,107
4,115
(285)
(391)
29
11,575
20091
£m
8,121
26
(783)
(305)
158
7,217
The merger reserve primarily comprises the premium on shares issued on 13 January 2009 under the placing and open offer and shares issued on
16 January 2009 on the acquisition of HBOS plc.
The capital redemption reserve represents transfers from the merger reserve in accordance with companies’ legislation and amounts transferred from
share capital following the cancellation of the deferred shares.
The revaluation reserve in respect of available-for-sale financial assets represents the cumulative after tax unrealised change in the fair value of
financial assets classified as available-for-sale since initial recognition, or in the case of available-for-sale financial assets obtained on acquisitions of
businesses, since the date of acquisition.
The cash flow hedging reserve represents the cumulative after tax gains and losses on effective cash flow hedging instruments that will be reclassified
to the income statement in the periods in which the hedged item affects profit or loss.
The foreign currency translation reserve represents the cumulative after-tax gains and losses on the translation of foreign operations and exchange
differences arising on financial instruments designated as hedges of the Group’s net investment in foreign operations.
Movements in other reserves were as follows:
Merger reserve
At 1 January
Placing and open offer
Shares issued on acquisition of HBOS
Issue of preference shares1
Redemption of preference shares2
At 31 December
Capital redemption reserve
At 1 January
Cancellation of deferred shares (note 47)
Redemption of preference shares2
At 31 December
2010
£m
8,121
–
–
–
(14)
8,107
2010
£m
26
4,086
3
4,115
2009
£m
343
3,781
5,707
1,000
(2,710)
8,121
2009
£m
–
–
26
26
1
2
Distributable reserves of £1,000 million arose on the issue of preference shares in January 2009 which were classified as debt. In June 2009, these preference shares were redeemed out of the
proceeds of the placing and compensatory open offer of ordinary shares and the distributable element of this issue was transferred to the merger reserve.
In January 2010, the Company repurchased and cancelled certain preference shares amounting to £14 million. This resulted in a transfer of £3 million from the merger reserve to the capital
redemption reserve and a transfer of £11 million from the merger reserve to the share premium account. Details of the preference shares repurchased are set out in note 46. In December 2009, the
Group redeemed eight issues of preference shares in exchange for the issuance of enhanced capital notes. This resulted in a transfer of £26 million from the merger reserve to the capital redemption
reserve and a transfer of £2,684 million from the merger reserve to the share premium account.
226
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
49 OTHER RESERVES continued
Revaluation reserve in respect of available-for-sale financial assets
At 1 January:
As previously stated
Prior year adjustment
Restated (note 1)
Change in fair value of available-for-sale financial assets
Change in fair value attributable to non-controlling interests
Deferred tax
Current tax
Income statement transfers:
Disposals (note 9)
Deferred tax
Impairment
Deferred tax
Other transfers
Deferred tax
At 31 December
Cash flow hedging reserve
At 1 January
Change in fair value of hedging derivatives
Deferred tax
Current tax
Income statement transfer (note 5)
Deferred tax
At 31 December
Foreign currency translation reserve
At 1 January
Currency translation differences arising in the year
Foreign currency losses on net investment hedges
Current tax
Deferred tax
At 31 December
2010
£m
2009
£m
(2,982)
131
(2,851)
2,035
(1)
(276)
(2)
1,756
(97)
23
(74)
621
(168)
453
(93)
26
(67)
(783)
2009
£m
(15)
(530)
148
–
(382)
121
(29)
92
(305)
2009
£m
178
(652)
814
176
(358)
632
158
(783)
1,231
–
(460)
(8)
763
(399)
106
(293)
114
(5)
109
(110)
29
(81)
(285)
2010
£m
(305)
(1,048)
272
(3)
(779)
932
(239)
693
(391)
2010
£m
158
33
(162)
–
–
(162)
29
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
227
Lloyds Banking Group
Annual Report
and Accounts 2010
50 RETAINED PROFITS
At 1 January:
As previously stated
Prior year adjustment
Restated (note 1)
(Loss) profit for the year
Purchase/sale of treasury shares
Employee share option schemes – value of employee services
At 31 December
2010
£m
11,117
(320)
429
154
2009
£m
8,260
(131)
8,129
2,827
45
116
11,380
11,117
Retained profits are stated after deducting £47 million (2009: £48 million) representing 49 million (2009: 49 million) treasury shares held.
Value of employee services includes a credit of £134 million (2009: £111 million) reflecting the income statement charge in respect of SAYE and
executive options, together with a related tax credit of £20 million (2009: tax credit £5 million). Purchase/sale of treasury shares includes a credit
of £409 million (2009: £128 million) relating to the cost of other share scheme awards.
51 ORDINARY DIVIDENDS
No dividends were paid on ordinary shares during 2009 or 2010 and the directors do not propose to pay a final dividend in respect of 2010; in
November 2009, as part of the restructuring plan that was a requirement for European Commission approval of state aid received by the Group,
the Group agreed to suspend the payment of coupons and dividends on certain of the Group’s preference shares and preferred securities, for the
two year period from 31 January 2010 to 31 January 2012. Consequently, the terms of these instruments prevent the Company from making
dividend payments on ordinary shares.
In addition, the trustees of the following holdings of Lloyds Banking Group plc shares in relation to employee share schemes retain the right to
receive dividends but chose to waive their entitlement to the dividends on those shares as indicated: the Lloyds Banking Group Share Incentive
Plan (holding at 31 December 2010: 5,744,722 shares, at 31 December 2009: 3,028,623 shares, waived right to all dividends), the Lloyds TSB Group
Employee Share Ownership Trust (holding at 31 December 2010: 283,109,984 shares, at 31 December 2009: 1,301,968 shares, waived right to
all dividends), Lloyds TSB Group Holdings (Jersey) Limited (holding at 31 December 2010: 42,846 shares, at 31 December 2009: 42,846 shares,
waived right to all but a nominal amount of 1 penny in total) and the Lloyds TSB Qualifying Employee Share Ownership Trust (holding at
31 December 2010: 1,398 shares, at 31 December 2009: 1,398 shares, waived right to all but a nominal amount of 1 penny in total).
52 SHARE-BASED PAYMENTS
CHARGE TO THE INCOME STATEMENT
The charge to the income statement is set out below:
Deferred bonus plan
Executive and SAYE plans:
Options granted in the year
Options granted in prior years
Share plans:
Shares granted in the year
Shares granted in prior years
Total charge to the income statement
2010
£m
390
59
75
134
3
49
52
576
2009
£m
18
13
98
111
26
102
128
257
228
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
52 SHARE-BASED PAYMENTS continued
During the year ended 31 December 2010 the Group operated the following share-based payment schemes, all of which are equity settled.
DEFERRED BONUS PLANS
Bonuses in respect of the performance in 2010 of employees within certain of the Group’s bonus plans have been recognised in these financial
statements in full. The amounts to be settled in shares are included within the total charge to the income statement detailed above.
LLOYDS BANKING GROUP EXECUTIVE SHARE OPTION SCHEMES
The executive share option schemes were long-term incentive schemes available to certain senior executives of the Group, with grants usually made
annually. Options were granted within limits set by the rules of the schemes relating to the number of shares under option and the price payable on
the exercise of options. The last grant of executive options was made in August 2005. These options were granted without a performance multiplier
and the maximum limit for the grant of options in normal circumstances was three times annual salary. Between April 2001 and August 2004, the
aggregate value of the award based upon the market price at the date of grant could not exceed four times the executive’s annual remuneration and,
normally, the limit for the grant of options to an executive in any one year would be equal to 1.5 times annual salary with a maximum performance
multiplier of 3.5. Prior to 18 April 2001, the normal limit was equal to one year’s remuneration and no performance multiplier was applied.
Performance conditions for executive options
FOR OPTIONS GRANTED UP TO MARCH 2001
The performance condition was that growth in earnings per share must be equal to the aggregate percentage change in the Retail Prices Index plus
three percentage points for each complete year of the relevant period together with a further condition that Lloyds Banking Group plc’s ranking
based on total shareholder return (calculated by reference to both dividends and growth in share price) over the relevant period should be in the top
fifty companies of the FTSE 100.
The relevant period for the performance conditions began at the end of the financial year preceding the date of grant and continued until the end of
the third subsequent year following commencement or, if not met, the end of such later year in which the conditions were met. Once the conditions
were satisfied the options remained exercisable without further conditions. If they were not satisfied by the tenth anniversary of the grant the options
would lapse.
FOR OPTIONS GRANTED FROM AUGUST 2001 TO AUGUST 2004
The performance condition was linked to the performance of Lloyds Banking Group plc’s total shareholder return (calculated by reference to both
dividends and growth in share price) against a comparator group of 17 companies including Lloyds Banking Group plc.
The performance condition was measured over a three year period which commenced at the end of the financial year preceding the grant of the
option and continued until the end of the third subsequent year. If the performance condition was not then met, it was measured at the end of the
fourth financial year. If the condition was not then met, the options would lapse.
To meet the performance conditions, the Group’s ranking against the comparator group was required to be at least ninth. The full grant of options
only became exercisable if the Group was ranked first. A performance multiplier (of between nil and 100 per cent) was applied below this level to
calculate the number of shares in respect of which options granted to Executive Directors would become exercisable, and were calculated on a
sliding scale. If Lloyds Banking Group plc was ranked below median the options would not be exercisable.
Options granted to senior executives other than Executive Directors were not so highly leveraged and, as a result, different performance multipliers
were applied to their options. For the majority of executives, options were granted with the performance condition but with no performance
multiplier.
Options granted in 2004 became exercisable as the performance condition was met on the re-test. The performance condition vested at 14 per cent
for Executive Directors, 24 per cent for Managing Directors, and 100 per cent for all other executives.
FOR OPTIONS GRANTED IN 2005
The same conditions applied as for grants made up to August 2004, except that:
– the performance condition was linked to the performance of Lloyds Banking Group plc’s total shareholder return (calculated by reference to both
dividends and growth in share price) against a comparator group of 15 companies including Lloyds Banking Group plc;
– if the performance condition was not met at the end of the third subsequent year, the options would lapse; and
– the full grant of options became exercisable only if the Group was ranked in the top four places of the comparator group. A sliding scale applied
between fourth and eighth positions. If Lloyds Banking Group was ranked below the median (ninth or below) the options would lapse.
Options granted in 2005 became exercisable as the performance condition was met when tested. The performance condition vested at 82.5 per cent
for all options granted.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
229
Lloyds Banking Group
Annual Report
and Accounts 2010
52 SHARE-BASED PAYMENTS continued
Movements in the number of share options outstanding under the executive share option schemes during 2009 and 2010 are set out below:
Outstanding at 1 January
Rebasement adjustment1
Exercised
Forfeited
Outstanding at 31 December
Exercisable at 31 December
2010
2009
Number of
options
8,784,978
7,523,547
–
(2,945,224)
13,363,301
13,363,301
Weighted average
exercise price
(pence)
Number of
options
Weighted average
exercise price
(pence)
476.56
(26.43)
–
296.36
233.09
233.09
11,203,628
490.05
–
–
(2,418,650)
8,784,978
8,784,978
–
–
536.46
476.56
476.56
1
Options granted under this plan were adjusted on 13 August 2010 as a result of the Capitalisation Issue, the Placing and Compensatory Open Offer and the Rights Issue of 2009. The adjustment was
made using a standard Her Majesty’s Revenue & Customs (HMRC) formula, to negate the dilutionary impact of these corporate actions.
No options were exercised during 2010 or 2009. The weighted average remaining contractual life of options outstanding at the end of the year was
3.6 years (2009: 4.3 years).
SAVE-AS-YOU-EARN SCHEMES
Eligible employees may enter into contracts through the Save-As-You-Earn schemes to save up to £250 per month and, at the expiry of a fixed term
of three, five or seven years, have the option to use these savings within six months of the expiry of the fixed term to acquire shares in the Group at a
discounted price of no less than 80 per cent of the market price at the start of the invitation.
Movements in the number of share options outstanding under the SAYE schemes are set out below:
Outstanding at 1 January
Adjustment on acquisition
Rebasement adjustment1
Granted
Exercised
Forfeited
Cancelled
Expired
Outstanding at 31 December
Exercisable at 31 December
2010
2009
Number of
options
Weighted average
exercise price
(pence)
Number of
options
Weighted average
exercise price
(pence)
130,133,992
177.60
190,478,449
–
–
53,755,275
22,382,641
(416.83)
655,712,663
(195,339)
(13,922,185)
(107,144,275)
46.78
49.30
57.34
66.53
–
–
–
(9,581,800)
(93,599,380)
(18,923,463)
179.35
(10,918,552)
668,044,034
49.59
130,133,992
663,942
172.93
754,554
152.54
415.21
–
–
–
400.93
206.07
470.16
177.60
317.32
1
Options granted under these plans were adjusted on 13 August 2010 as a result of the Capitalisation Issue, the Placing and Compensatory Open Offer and the Rights Issue of 2009. The adjustment
was made using a standard HMRC formula, to negate the dilutionary impact of these corporate actions.
The weighted average share price at the time that the options were exercised during 2010 was £0.69 (2009: £nil). The weighted average remaining
contractual life of options outstanding at the end of the year was 2.7 years (2009: 2.7 years).
The weighted average fair value of SAYE options granted during 2010 was £0.33 (2009: £nil). The values for the SAYE options have been determined
using a standard Black-Scholes model.
For the HBOS sharesave plan, no options were exercised during 2010 or 2009. The options outstanding at 31 December 2010 had an exercise price of
£1.8066 (2009: £3.64) and a weighted average remaining contractual life of 2.9 years (2009: 4.0 years).
230
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
52 SHARE-BASED PAYMENTS continued
OTHER SHARE OPTION PLANS
Lloyds Banking Group Executive Share Plan 2003
The plan was adopted in December 2003 and under the plan share options may be granted to senior employees. Options under this plan have been
granted specifically to facilitate recruitment and as such were not subject to any performance conditions. The plan’s usage has now been extended to
not only compensate new recruits for any lost share awards but also to make grants to key individuals for retention purposes with, in some instances,
the grant being made subject to individual performance conditions.
Outstanding at 1 January
Granted
Rebasement adjustment1
Exercised
Forfeited
Outstanding at 31 December
Exercisable at 31 December
2010
2009
Number of
options
Weighted average
exercise price
(pence)
26,099,185
13,429,561
12,501,246
(2,661,703)
(1,673,532)
47,694,757
–
Nil
Nil
Nil
Nil
Nil
Nil
Nil
Number of
options
857,611
24,704,070
1,876,005
(157,105)
(1,181,396)
26,099,185
33,794
Weighted average
exercise price
(pence)
Nil
Nil
Nil
Nil
Nil
Nil
Nil
1
Options granted under this plan were adjusted on 2 July 2009 as a result of the Placing and Compensatory Open Offer and on 13 August 2010 as a
result of the Capitalisation Issue and Rights Issue of 2009. The adjustments were made, where applicable, using a standard HMRC formula, to negate
the dilutionary impact of these corporate actions.
The weighted average fair value of options granted in the year was £0.63 (2009: £0.68). The weighted average share price at the time that the options
were exercised during 2010 was £0.63 (2009: £0.71). The weighted average remaining contractual life of options outstanding at the end of the year
was 2.4 years (2009: 3.0 years).
HBOS share option plans
The table below details the outstanding options for the HBOS Share Option Plan, the St James’s Place Share Option Plan, and the 1995 and
1996 Bank of Scotland Executive Stock Option schemes. The final award under the HBOS Share Option Plan was made in 2004. Under this plan,
options over shares, at market value with a face value equal to 20 per cent of salary, were granted to employees with the exception of certain senior
executives. A separate option plan exists for some partners of St James’s Place, which grants options in respect of Lloyds Banking Group plc shares.
The final award under the St James’s Place Share Option Plan was made in 2009. Movements in the number of share options outstanding under
these schemes are set out below:
Outstanding at 1 January (16 January 2009)
Rebasement adjustment1
Granted
Forfeited
Outstanding at 31 December
Exercisable at 31 December
2010
2009
Weighted average
Number of
exercise price
options
14,301,748
12,899,990
–
(2,506,244)
24,695,494
15,320,780
(pence)
880.27
(61.23)
–
611.90
415.70
593.79
Number of
options
Weighted average
exercise price
(pence)
13,040,430
1,167.26
–
4,040,555
(2,779,237)
14,301,748
9,198,557
–
104.50
1,099.02
880.27
1,169.14
1
Options granted under these plans were adjusted on 13 August 2010 as a result of the Capitalisation Issue, the Placing and Compensatory Open
Offer and the Rights Issue of 2009. The adjustment was made using a standard HMRC formula, to negate the dilutionary impact of these corporate
actions.
No options were exercised during 2010 or 2009. The options outstanding under the HBOS Share Option Plan and St James’s Place Share Option
Plan at 31 December 2010 had exercise prices in the range of £0.5183 to £8.7189 (2009: £1.05 to £17.576) and a weighted average remaining
contractual life of 3.0 years.
No options were outstanding under the Bank of Scotland Executive Stock Option schemes at 31 December 2010. Options outstanding at
31 December 2009 had exercise prices in the range of £8.834 to £10.009 and a weighted average remaining contractual life of 0.8 years.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
231
Lloyds Banking Group
Annual Report
and Accounts 2010
52 SHARE-BASED PAYMENTS continued
OTHER SHARE PLANS
Lloyds Banking Group Long-Term Incentive Plan
The Long-Term Incentive Plan (LTIP) introduced in 2006 is aimed at delivering shareholder value by linking the receipt of shares to an improvement
in the performance of the Group over a three year period. Awards are made within limits set by the rules of the plan, with the limits determining the
maximum number of shares that can be awarded equating to three times annual salary. In exceptional circumstances this may increase to four times
annual salary.
The performance conditions for awards made in March and August 2007 are as follows:
(i)
(ii)
For 50 per cent of the award (the EPS Award) – the percentage increase in earnings per share of the Group (on a compound annualised basis)
over the relevant period needed to be at least an average of 6 percentage points per annum greater than the percentage increase (if any) in
the Retail Prices Index over the same period. If it was less than 3 per cent per annum the EPS Award would lapse. If the increase was more than
3 per cent but less than 6 per cent per annum then the proportion of shares released would be on a straight line basis between 17.5 per cent and
100 per cent. The relevant period commenced on 1 January 2007 and ended on 31 December 2009.
For the other 50 per cent of the award (the TSR Award) – it was necessary for the Group’s total shareholder return (calculated by reference to both
dividends and growth in share price) to exceed the median of a comparator group (14 companies) over the relevant period by an average of
7.5 per cent per annum for the TSR Award to vest in full. 17.5 per cent of the TSR Award would vest where the Group’s total shareholder return was
equal to median and vesting would occur on a straight line basis in between these points. Where the Group’s total shareholder return was below
the median of the comparator group, the TSR Award would lapse. The relevant period commenced on 8 March 2007 and ended on 7 March 2010.
As a consequence of the acquisition of HBOS and the general market turmoil, in March 2009 the Remuneration Committee decided that
the performance test for the 2007 awards should be based on the performance of the Group up to 17 September 2008, the date prior to the
announcement of the HBOS acquisition. The performance test was on a fair value basis, on the estimated probability, as at that date, of achieving
the performance conditions. As a consequence, for all participants, other than those who were Executive Directors at the time the award was granted
and a small number of other senior executives, the share awards vested at 31 per cent in March 2010.
The performance conditions for awards made in March, April and August 2008 are as follows:
(i)
(ii)
For 50 per cent of the award (the EPS Award) – the performance condition is as described for the 2007 awards with the relevant performance
period commencing on 1 January 2008 and ending on 31 December 2010.
For the other 50 per cent of the award (the TSR Award) – the performance condition is as described for the 2007 awards, except that the
comparator group comprises of 13 companies, with the relevant performance period commencing on 6 March 2008 (the date of the first award)
and ending on 5 March 2011.
The current LTIP rules allow for awards to be made of up to 400 per cent of base salary. Under normal circumstances awards are made of 300 per cent
of salary with the additional 100 per cent available for circumstances that the Remuneration Committee deems to be exceptional. In 2008, awards
were made of 375 per cent of base salary to the Group Chief Executive and two of the Executive Directors for retention purposes, and in light of data
reviewed by the committee which showed total remuneration to be behind median both for the FTSE 20, and the other major UK banks.
As for the 2007 LTIP awards, as a consequence of the acquisition of HBOS and the general market turmoil, in March 2009 the Remuneration
Committee decided that the performance test for the 2008 awards should be based on the performance of the Group up to 17 September 2008, the
date prior to the announcement of the HBOS acquisition. The performance test was on a fair value basis, on the estimated probability, as at that date,
of achieving the performance conditions. As a consequence, for all participants, other than those who were Executive Directors at the time the award
was granted and a small number of other senior executives, the share awards will vest at 29 per cent in March 2011.
The performance conditions for awards made in April, May and September 2009 are as follows:
(i)
EPS: relevant to 50 per cent of the award. Performance will be measured based on EPS growth over a three-year period from the baseline EPS
of 2008.
If the growth in EPS reaches 26 per cent, 25 per cent of this element of the award, being the threshold, will vest. If growth in EPS reaches
36 per cent, 100 per cent of this element will vest.
(ii) Economic Profit: relevant to 50 per cent of the award. Performance will be measured based on the extent to which cumulative Economic Profit
targets are achieved over the three-year period.
If the absolute improvement in adjusted Economic Profit reaches 100 per cent, 25 per cent of this element of the award, being the threshold, will
vest. If the absolute improvement in adjusted Economic Profit reaches 202 per cent, 100 per cent of this element will vest.
The EPS and economic profit performance measures applying to this 2009 LTIP award were set on the basis that the Group would enter into
the Government Asset Protection Scheme. As the Group is not participating in the Government Asset Protection Scheme, in June 2010 the
Remuneration Committee approved restated performance measures on a basis consistent with the EPS and economic profit measures used for the
2010 LTIP awards.
232
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
52 SHARE-BASED PAYMENTS continued
An additional discretionary award was made in April, May and September 2009. The performance conditions for those awards are as follows:
(i)
(ii)
Synergy savings: The release of 50 per cent of the shares will be dependent on the achievement of target run-rate synergy savings in 2009 and
2010 as well as the achievement of sustainable synergy savings of at least £1.5 billion by the end of 2011. The award will be broken down into three
equally weighted annual tranches. Performance will be assessed at the end of each year against annual performance targets based on a trajectory
to meet the 2011 target. The extent to which targets have been achieved will determine the proportion of shares to be banked each year. Any
release of shares will be subject to the Remuneration Committee judging the overall success of the delivery of the integration programme.
Integration balanced scorecard: The release of the remaining 50 per cent of the shares will be dependent on the outcome of a Balanced
Scorecard of non-financial measures of the success of the integration in each of 2009, 2010 and 2011. The Balanced scorecard element will be
broken down into three equally weighted tranches. The tranches will be crystallised and banked for each year of the performance cycle subject
to separate annual performance targets across the four measurement categories of Building the Business, Customer, Risk and People and
Organisation Development.
Performance against the first two years of the award has been assessed and all targets have been met or exceeded.
The performance conditions for awards made in March and August 2010 are as follows:
(i)
EPS: relevant to 50 per cent of the award. Performance will be measured based on EPS growth over a three-year period from the baseline
EPS of 2009.
If the absolute improvement in adjusted EPS reaches 158 per cent, 25 per cent of this element of the award, being the threshold, will vest.
If absolute improvement in adjusted EPS reaches 180 per cent, 100 per cent of this element will vest.
Vesting between threshold and maximum will be on a straight line basis.
(ii)
Economic Profit: relevant to 50 per cent of the award. Performance will be measured based on the compound annual growth rate of adjusted
Economic Profit over the three financial years starting on 1 January 2010 relative to an adjusted 2009 Economic Profit base.
If the compounded annual growth rate of adjusted Economic Profit reaches 57 per cent per annum, 25 per cent of this element of the award,
being the threshold, will vest. If the compounded annual growth rate of adjusted Economic Profit reaches 77 per cent per annum, 100 per cent of
this element will vest.
Vesting between threshold and maximum will be on a straight line basis.
For awards made to Executive Directors, a third performance condition was set, relating to Absolute Share Price, relevant to 28 per cent of the award.
Performance will be measured based on the Absolute Share Price on 26 March 2013, being the third anniversary of the award date. If the share
price at the end of the performance period is 75 pence or less, none of this element of the award will vest. If the share price is 114 pence or higher,
100 per cent of this element will vest. Vesting between threshold and maximum will be on a straight line basis, provided that shares comprised in the
Absolute Share Price element may only be released if both the EPS and Economic Profit performance measures have been satisfied at the threshold
level or above. The EPS and Economic Profit performance conditions will each relate to 36 per cent of the total award.
Outstanding at 1 January
Granted
Rebasement adjustment
Forfeited
Outstanding at 31 December
2010
Number of shares
2009
Number of shares
223,233,052
22,237,282
148,810,591
199,293,192
106,990,259
10,443,102
(31,891,411)
(8,740,524)
447,142,491
223,233,052
The fair value of the share awards granted in 2010 was £0.61 (2009: £0.68).
Conditional awards of shares made under this plan were adjusted on 2 July 2009 as a result of the Placing and Compensatory Open Offer and on
13 August 2010 as a result of the Capitalisation Issue and Rights Issue of 2009. The adjustments were made, where applicable, using a standard
HMRC formula, to negate the dilutionary impact of the above corporate actions.
Performance share plan
Under the performance share plan, introduced during 2005, participating executives were eligible for an award of free shares, known as performance
shares, to match the bonus shares awarded as part of their 2004 and 2005 bonus. The maximum match was two performance shares for each bonus
share, awarded at the end of a three year period. The actual number of shares awarded was dependent on the Group’s total shareholder return
performance measured over a three year period, compared to other companies in the comparator group. The maximum of two performance
shares for each bonus share would be awarded only if the Group’s total shareholder return performance placed it first in the comparator group;
one performance share for each bonus share would be granted if the Group was placed fifth; and one performance share for every two bonus
shares if the Group was placed eighth (median). Between first and fifth position, and fifth and eighth position, sliding scales would apply. If the total
shareholder return performance was below median, no performance shares would be awarded. There was no retest. Whilst income tax and national
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
233
Lloyds Banking Group
Annual Report
and Accounts 2010
52 SHARE-BASED PAYMENTS continued
insurance were deducted from the bonus before deferral into the plan, where a match of performance shares was justified, these shares would have
been awarded as if income tax and national insurance had not been deducted.
The performance condition attached to the March 2006 award was not met, with Lloyds Banking Group ranked in ninth place. Bonus shares were
released on 20 March 2009, at which time the performance shares lapsed.
Outstanding at 1 January
Lapsed
Outstanding at 31 December
2010
Number of
shares
–
–
–
2009
Number
of shares
941,324
(941,324)
–
The ranges of exercise prices, weighted average exercise prices, weighted average remaining contractual life and number of options outstanding for
the option schemes were as follows:
Executive schemes
SAYE schemes
Other share option plans
Weighted
average
Weighted
average
exercise price remaining life
(years)
(pence)
Number of
options
Weighted
average
Weighted
average
exercise price remaining life
(years)
(pence)
Weighted
average
Weighted
average
exercise price remaining life
(years)
(pence)
Number of
options
Number of
options
31 December 2010
Exercise price range
£0 to £1
£1 to £2
£2 to £3
£3 to £4
£5 to £6
31 December 2009
Exercise price range
£0 to £1
£1 to £2
£2 to £3
£3 to £4
£4 to £5
£5 to £6
£6 to £7
£7 to £8
–
199.91
225.83
324.92
–
–
–
3.6
262,725
3.9 12,052,934
0.2 1,047,642
–
–
47.74
178.74
210.74
–
–
2.7 658,912,847
7.41
2.5
55,656,496
2.8
1.4
–
–
7,984,764
1,146,423
–
–
–
–
–
–
–
–
–
–
–
567.65
2.9
15,462,949
Executive schemes
SAYE schemes
Other share option plans
Weighted
average
Weighted
average
exercise price remaining life
(years)
(pence)
Weighted
average
Weighted
average
exercise price remaining life
(years)
(pence)
Number of
options
–
–
–
–
464.19
552.02
653.55
–
–
–
–
–
4.9
0.2
1.2
–
–
–
–
–
7,526,441
515,527
743,010
–
–
139.00
220.98
349.18
427.04
–
–
–
–
2.5
3.9
2.0
1.8
–
–
–
Number of
options
–
107,939,699
18,054,765
2,842,644
1,296,884
–
–
–
Weighted
average
Weighted
average
exercise price remaining life
(years)
(pence)
Nil
104.50
–
394.64
499.91
573.60
640.00
707.40
3.1
2.3
–
5.2
0.2
0.6
0.0
0.2
Number of
options
26,099,185
4,019,026
–
721,886
273,986
53,328
2,388,026
6,845,496
234
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
52 SHARE-BASED PAYMENTS continued
The fair value calculations at 31 December 2010 for grants made in the year are based on the following assumptions:
Risk-free interest rate
Expected life
Expected volatility
Expected dividend yield
Weighted average share price
Weighted average exercise price
Expected forfeitures
SAYE
1.80%
Other option
schemes
Other share
plans
0.76%
1.33%
3.0 years
1-5 years
2-4 years
85%
1.4%
0.59
0.48
4%
83%
0.5%
0.67
Nil
4%
70%
0.9%
0.67
Nil
4%
Expected volatility is a measure of the amount by which the Group’s shares are expected to fluctuate during the life of an option. The expected
volatility is estimated based on the historical volatility of the closing daily share price over the most recent period that is commensurate with the
expected life of the option. The historical volatility is compared to the implied volatility generated from market traded options in the Group’s shares
to assess the reasonableness of the historical volatility and adjustments made where appropriate.
SHARE INCENTIVE PLAN
Free shares
An award of shares may be made annually to employees based on a percentage of each employee’s salary in the preceding year up to a maximum
of £3,000. The percentage is normally announced concurrently with the Group’s annual results and the price of the shares awarded is announced
at the time of award. The shares awarded are held in trust for a mandatory period of three years on the employee’s behalf, during which period the
employee is entitled to any dividends paid on such shares. The award is subject to a non-market based condition: if an employee leaves the Group
within this three year period for other than a ‘good’ reason, all of the shares awarded will be forfeited.
No free shares were awarded in 2009 or 2010.
Matching shares
The Group undertakes to match shares purchased by employees up to the value of £30 per month; these shares are held in trust for a mandatory
period of three years on the employee’s behalf, during which period the employee is entitled to any dividends paid on such shares. The award is
subject to a non-market based condition: if an employee leaves within this three year period for other than a ‘good’ reason, 100 per cent of the
matching shares are forfeited. Similarly if the employees sell their purchased shares within three years, their matching shares are forfeited.
The number of shares awarded relating to matching shares in 2010 was 17,411,651 (2009: 16,746,310), with an average fair value of £0.63 (2009: £0.69),
based on market prices at the date of award.
53 RELATED PARTY TRANSACTIONS
KEY MANAGEMENT PERSONNEL
Key management personnel are those persons having authority and responsibility for planning, directing and controlling the activities of an
entity; the Group’s key management personnel are the members of the Lloyds Banking Group plc Group Executive Committee together with its
Non-Executive Directors.
The table below details, on an aggregated basis, key management personnel compensation:
Compensation
Salaries and other short-term benefits
Post-employment benefits
Total compensation
2010
£m
15
2
17
2009
£m
17
1
18
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
235
Lloyds Banking Group
Annual Report
and Accounts 2010
53 RELATED PARTY TRANSACTIONS continued
Aggregate contributions in respect of key management personnel to defined contribution pension schemes were £0.4 million (2009: £0.4 million).
Share option plans
At 1 January
Granted, including certain adjustments1 (includes entitlements of appointed directors)
At 31 December
1
Adjustments have been made, using a standard HMRC formula, to negate the dilutionary impact of the Group’s 2009 capital raising activities.
Share plans
At 1 January
Granted, including certain adjustments1 (includes entitlements of appointed directors)
Exercised/lapsed (includes entitlements of former directors)
At 31 December
1
Adjustments have been made, using a standard HMRC formula, to negate the dilutionary impact of the Group’s 2009 capital raising activities.
2010
million
2009
million
2
4
6
2
–
2
2010
million
2009
million
19
39
(2)
56
7
17
(5)
19
The tables below detail, on an aggregated basis, balances outstanding at the year end and related income and expense, together with information
relating to other transactions between the Group and its key management personnel:
Loans
At 1 January
Advanced (includes loans of appointed directors)
Repayments (includes loans of former directors)
At 31 December
2010
£m
2
2
(1)
3
The loans are on both a secured and unsecured basis and are expected to be settled in cash. The loans attracted interest rates of between
0.50 per cent and 17.90 per cent in 2010 (2009: 1.28 per cent and 24.90 per cent).
No provisions have been recognised in respect of loans given to key management personnel (2009: £nil).
Deposits
At 1 January
Placed (includes deposits of appointed directors)
Withdrawn (includes deposits of former directors)
At 31 December
2010
£m
4
12
(12)
4
2009
£m
3
–
(1)
2
2009
£m
6
12
(14)
4
Deposits placed by key management personnel attracted interest rates of up to 4.25 per cent (2009: 6.50 per cent).
At 31 December 2010, the Group did not provide any guarantees in respect of key management personnel (2009: none).
At 31 December 2010, transactions, arrangements and agreements entered into by the Group’s banking subsidiaries with directors and connected
persons included amounts outstanding in respect of loans and credit card transactions of £2 million with six directors and four connected persons
(2009: £2 million with seven directors and four connected persons).
SUBSIDIARIES
Details of the principal subsidiaries are given in note 9 to the parent company financial statements. In accordance with IAS 27, transactions and
balances with subsidiaries have been eliminated on consolidation.
236
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
53 RELATED PARTY TRANSACTIONS continued
HM TREASURY
In January 2009, HM Treasury became a related party of the Company following its subscription for ordinary shares issued under a placing and open
offer. As at 31 December 2010, HM Treasury held a 41 per cent interest (December 2009: 43 per cent) in the Company’s ordinary share capital and
consequently HM Treasury remained a related party of the Company throughout 2010.
Capital transactions
During 2010 HM Treasury has not subscribed for any of the Company’s ordinary or preference share capital, with the decline in the percentage of
ordinary shares held by HM Treasury reflecting the issuance by the Company of ordinary shares as set out in note 47.
Lending commitments
On 23 March 2010, the Company entered into a deed poll in favour of HM Treasury, the Department for Business, Innovation and Skills and the
Departments for Communities and Local Government confirming its lending commitments for the 12 month period commencing 1 March 2010.
The Company agreed, subject to, amongst other things, sufficient customer demand, to provide gross new lending to UK businesses of
£44,000 million and to adjust the undertakings (but not the level of lending agreed in 2009) given in connection with lending to homeowners for
the 12 month period. This additional lending is expressed to be subject to the Group’s prevailing commercial terms and conditions (including
pricing and risk assessment) and, in relation to mortgage lending, the Group’s standard credit and other acceptance criteria.
Credit Guarantee Scheme
HM Treasury launched the Credit Guarantee Scheme in October 2008 as part of a range of measures announced by the UK Government intended
to ease the turbulence in the UK banking system. It charges a commercial fee for the guarantee of new short and medium-term debt issuance. The
fee payable to HM Treasury on guaranteed issues is based on a per annum rate of 50 basis points plus the median five-year credit default swap
spread. At 31 December 2010, the Group had £45,308 million (2009: £49,954 million) of debt issued under the Credit Guarantee Scheme. During
2010, the Group redeemed £4,987 million of bonds. The Group’s income statement includes fees of £454 million (2009: £498 million) payable to
HM Treasury in respect of guaranteed funding.
There were no other material transactions between the Group and HM Treasury during 2010 that were not made in the ordinary course of business
or that were unusual in their nature or conditions.
OTHER RELATED PARTY TRANSACTIONS
Pensions funds
The Group provides banking and some investment management services to certain of the Group pension funds. At 31 December 2010, customer
deposits of £64 million (2009: £99 million) and investment and insurance contract liabilities of £850 million (2009: £691 million) related to the Group’s
pension funds.
Open Ended Investment Companies (OEICs)
The Group manages 402 (2009: 382) OEICs, and of these 111 (2009: 108) are consolidated. The Group invested £1,460 million (2009: £1,271 million)
and redeemed £982 million (2009: £1,076 million) in the unconsolidated OEICs during the year and had investments, at fair value, of £7,920 million
(2009: £6,954 million) at 31 December. The Group earned fees of £271 million from the unconsolidated OEICs (2009: £217 million). The Company
held no investments in OEICs at any time during 2009 or 2010.
Joint ventures and associates
The Group provides both administration and processing services to its principal joint venture, Sainsbury’s Bank plc. The amounts receivable by
the Group during the year were £31 million (2009: £34 million), of which £8 million was outstanding at 31 December 2010 (2009: £10 million). At
31 December 2010, Sainsbury’s Bank plc also had balances with the Group that were included in loans and advances to banks of £1,277 million
(2009: £1,218 million) and deposits by banks of £1,358 million (2009: £1,405 million).
At 31 December 2010 there were loans and advances to customers of £5,660 million (2009: £12,235 million) outstanding and balances within customer
deposits of £151 million (2009: £254 million) relating to other joint ventures and associates.
In addition to the above balances, the Group has a number of other associates held by its venture capital business that it accounts for at fair value
through profit or loss. At 31 December 2010, these companies had total assets of approximately £12,216 million (2009: £14,840 million), total liabilities
of approximately £11,937million (2009: £15,300 million) and for the year ended 31 December 2010 had turnover of approximately £3,829 million
(2009: £10,570 million) and made a net profit of approximately £182 million (2009: net loss of £572 million). In addition, the Group has provided
£3,316 million (2009: £6,014 million) of financing to these companies on which it received £93 million (2009: £191 million) of interest income in the year.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
237
Lloyds Banking Group
Annual Report
and Accounts 2010
54 CONTINGENT LIABILITIES AND COMMITMENTS
UNARRANGED OVERDRAFT CHARGES
In April 2007, the Office of Fair Trading (OFT) commenced an investigation into the fairness of personal current accounts and unarranged overdraft
charges. At the same time, it commenced a market study into wider questions about competition and price transparency in the provision of personal
current accounts.
The Supreme Court published its judgment in respect of the fairness of unarranged overdraft charges on personal current accounts on 25 November
2009, finding in favour of the litigant banks. On 22 December 2009, the OFT announced that it will not continue its investigation into the fairness
of these charges. The Group is working with the regulators to ensure that outstanding customer complaints are concluded as quickly as possible
and anticipates that most cases in the county courts will be discontinued. The Group expects that some customers will argue that despite the test
case ruling they are entitled to a refund of unarranged overdraft charges on the basis of other legal arguments or challenges. It is not practicable
to quantify the claims. The Group is robustly defending any such complaints or claims and does not expect any such complaints or claims to have a
material adverse effect on the Group.
The OFT however continued to discuss its concerns in relation to the personal current account market with the banks, consumer groups and other
organisations under the auspices of its Market Study into personal current accounts. In October 2009, the OFT published voluntary initiatives agreed
with the industry and consumer groups to improve transparency of the costs and benefits of personal current accounts and improvements to the
switching process. On 16 March 2010 the OFT published a further update announcing several further voluntary industry wide initiatives to improve a
customer’s ability to control whether they used an unarranged overdraft and to assist those in financial difficulty. However, in light of the progress it
noted in the unarranged overdraft market since July 2007 and the progress it expects to see over the next two years, it has decided to take no further
action at this time and will review the unarranged overdraft market again in 2012.
INTERCHANGE FEES
The European Commission has adopted a formal decision finding that an infringement of European Commission competition laws has arisen
from arrangements whereby MasterCard issuers charged a uniform fallback interchange fee in respect of cross-border transactions in relation to
the use of a MasterCard or Maestro branded payment card. The European Commission has required that the fee be reduced to zero for relevant
cross-border transactions within the European Economic Area. This decision has been appealed to the General Court of the European Union (the
General Court). Lloyds TSB Bank plc and Bank of Scotland plc (along with certain other MasterCard issuers) have successfully applied to intervene
in the appeal in support of MasterCard’s position that the arrangements for the charging of a uniform fallback interchange fee are compatible with
European Commission competition laws. MasterCard has announced that it has reached an understanding with the European Commission on a new
methodology for calculating intra-European Economic Area multi-lateral interchange fees on an interim basis pending the outcome of the appeal.
Meanwhile, the European Commission and the UK’s OFT are pursuing investigations with a view to deciding whether arrangements adopted by
other payment card schemes for the levying of uniform fallback interchange fees in respect of domestic and/or cross-border payment transactions
also infringe European Commission and/or UK competition laws. As part of this initiative, the OFT will also intervene in the General Court appeal
supporting the European Commission’s position and Visa reached an agreement with the European Commission to reduce the level of interchange
for crossborder debit card transactions to the interim levels agreed by MasterCard. The ultimate impact of the investigations on the Group can only
be known at the conclusion of these investigations and any relevant appeal proceedings.
PAYMENT PROTECTION INSURANCE
There has been extensive scrutiny of the Payment Protection Insurance (PPI) market in recent years.
In October 2010, the UK Competition Commission (Competition Commission) confirmed its decision to prohibit the active sale of PPI by a distributor
to a customer within seven days of a sale of credit. This followed the completion of its formal investigation into the supply of PPI services (other than
store card PPI) to non-business customers in the UK in January 2009 and a referral of the proposed prohibition to the Competition Appeal Tribunal.
Following an earlier decision to stop selling single premium PPI products, the Group ceased to offer PPI products to its customers in July 2010.
On 1 July 2008, the Financial Ombudsman Service (FOS) referred concerns regarding the handling of PPI complaints to the Financial Services
Authority (FSA) as an issue of wider implication. On 29 September 2009 and 9 March 2010, the FSA issued consultation papers on PPI complaints
handling. The FSA proposed new guidance on the fair assessment of a complaint and the calculation of redress and a new rule requiring firms to
reassess historically rejected complaints. The FSA published its Policy Statement on 10 August 2010, setting out a new set of rules for PPI complaints
handling and redress which had to be implemented by 1 December 2010.
On 8 October 2010, the British Bankers Association (BBA), the principal trade association for the UK banking and financial services sector, filed an
application for permission to seek judicial review against the FSA and the FOS. The BBA is seeking an order quashing the FSA Policy Statement
and an order quashing the decision of the FOS to determine PPI sales in accordance with the guidance published on its website in November 2008.
The Judicial hearing was held in late January 2011 and the judgment (which may be subject to appeal) is expected shortly.
This legal challenge has affected the implementation of the Policy Statement, since the challenge has called into question the standards to be
applied when assessing PPI complaints. As a result of that challenge, a large number of complaints cannot be decided until the outcome of the
legal challenge is clear and implemented.
The ultimate impact on the Group of the FSA’s complaints handling policy (if implemented in full) and the FOS’s most recent approach to PPI
complaints could be material to the Group’s financial position, although the precise effect can only be assessed once the legal proceedings have
been finally determined and the steps the Group may be required to take identified and implemented. In addition, it is not practicable to quantify
the potential financial impact of the implementation of the Policy Statement given the material uncertainties around, for example, applicable time
238
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
54 CONTINGENT LIABILITIES AND COMMITMENTS continued
periods, the extent of application of root cause analysis, the treatment of evidence and the ultimate emergence period for complaints, driven in large
part by the activities of the claims management companies, all of which will significantly affect complaints volumes, uphold rates and redress costs.
No provision has been made in these financial statements to reflect implementation of the FSA’s complaint handling policy in its current form.
Following concerns expressed by the FSA, it announced in its statement on 29 September 2009 that several firms had agreed to carry out reviews
of past sales of single premium loan protection insurance. Lloyds Banking Group has agreed in principle that it will undertake a review in relation to
sales of single premium loan protection insurance made through its branch network since 1 July 2007. The precise details of the review are still being
discussed with the FSA. The ultimate impact on Lloyds Banking Group of any review could be material but can only be known at the conclusion of
these discussions.
US SANCTIONS
In January 2009 Lloyds TSB Bank plc announced the settlement it had reached with the US Department of Justice and the New York County District
Attorney’s Office in relation to their investigations into historic US dollar payment practices involving countries, persons or entities subject to the
economic sanctions administered by the US Office of Foreign Assets Control (OFAC). On 22 December 2009 OFAC announced the settlement it
had reached with Lloyds TSB Bank plc in relation to its investigation and confirmed that the settlement sum due to OFAC had been fully satisfied by
Lloyds TSB Bank plc’s payment to the Department of Justice and the New York County District Attorney’s Office. No further enforcement actions are
expected in relation to the matters set out in the settlement agreements.
On 26 February 2009 a purported shareholder filed a derivative civil action in the Supreme Court of New York, Nassau County against certain current
and former directors, and nominally against Lloyds TSB Bank plc and Lloyds Banking Group plc, seeking various forms of relief. The derivative action
is at an early stage and settlement is being discussed and the ultimate outcome is not expected to have a material impact on the Group.
EUROPEAN UNION GENDER DIRECTIVE
An opt-out clause to the European Union Gender Directive currently permits insurers to take gender into account as a risk factor when pricing
contracts. In March 2011, the European Court of Justice is expected to rule on whether this infringes fundamental European rights for equal
treatment. If the European Court of Justice rules that the opt-out clause does infringe such rights, it could alter the market and alter prices for
insurance products to a significant extent. At the date of these financial statements, no provision has been made for the potential costs of rectifying
contracts in existence at 31 December 2010, should this ultimately be required. The ultimate impact on the Group can only be known following the
European Court of Justice’s ruling. However, the Group does not expect the final outcome of this matter to have a material adverse effect on its
financial position.
OTHER LEGAL ACTIONS AND REGULATORY MATTERS
In the course of its business, the Group is engaged in discussions with the FSA in relation to a range of conduct of business matters, especially in
relation to retail products including packaged bank accounts, mortgages, structured products and pensions. The Group is keen to ensure that any
regulatory concerns regarding product governance or contract terms are understood and addressed. The ultimate impact on the Group of these
discussions can only be known at the conclusion of such discussions.
In addition, during the ordinary course of business the Group is subject to other threatened and actual legal proceedings (which may include class
action lawsuits brought on behalf of customers, shareholders or other third parties), regulatory investigations, regulatory challenges and enforcement
actions, both in the UK and overseas. All such material matters are periodically reassessed, with the assistance of external professional advisors where
appropriate, to determine the likelihood of the Group incurring a liability. In those instances where it is concluded that it is more likely than not that
a payment will be made, a provision is established to management’s best estimate of the amount required to settle the obligation at the relevant
balance sheet date. In some cases it will not be possible to form a view, either because the facts are unclear or because further time is needed
properly to assess the merits of the case and no provisions are held against such matters. However the Group does not currently expect the final
outcome of any such matter to have a material adverse effect on its financial position.
CONTINGENT LIABILITIES AND COMMITMENTS ARISING FROM THE BANKING BUSINESS
Acceptances and endorsements arise where Lloyds Banking Group agrees to guarantee payment on a negotiable instrument drawn up by
a customer.
Other items serving as direct credit substitutes include standby letters of credit, or other irrevocable obligations, where Lloyds Banking Group has an
irrevocable obligation to pay a third party beneficiary if the customer fails to repay an outstanding commitment; they also include acceptances drawn
under letters of credit or similar facilities where the acceptor does not have specific title to an identifiable underlying shipment of goods.
Performance bonds and other transaction-related contingencies (which include bid or tender bonds, advance payment guarantees, VAT Customs
and Excise bonds and standby letters of credit relating to a particular contract or non-financial transaction) are undertakings where the requirement
to make payment under the guarantee depends on the outcome of a future event.
Lloyds Banking Group’s maximum exposure to loss is represented by the contractual nominal amount detailed in the table below. Consideration
has not been taken of any possible recoveries from customers for payments made in respect of such guarantees under recourse provisions or from
collateral held.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
239
Lloyds Banking Group
Annual Report
and Accounts 2010
54 CONTINGENT LIABILITIES AND COMMITMENTS continued
Contingent liabilities
Acceptances and endorsements
Other:
Other items serving as direct credit substitutes
Performance bonds and other transaction-related contingencies
Total contingent liabilities
2010
£m
48
1,319
2,812
4,131
4,179
2009
£m
59
1,494
4,555
6,049
6,108
The contingent liabilities of the Group, as detailed above, arise in the normal course of its banking business and it is not practicable to quantify their
future financial effect.
Commitments
Documentary credits and other short-term trade-related transactions
Forward asset purchases and forward deposits placed
Undrawn formal standby facilities, credit lines and other commitments to lend:
Less than 1 year original maturity:
Mortgage offers made
Other commitments
1 year or over original maturity
Total commitments
2010
£m
255
887
8,113
60,528
68,641
47,515
117,298
2009
£m
288
758
9,058
64,786
73,844
53,693
128,583
Of the amounts shown above in respect of undrawn formal standby facilities, credit lines and other commitments to lend, £63,630 million
(2009: £74,477 million) was irrevocable.
OPERATING LEASE COMMITMENTS
Where a Group company is the lessee the future minimum lease payments under non-cancellable premises operating leases are as follows:
Not later than 1 year
Later than 1 year and not later than 5 years
Later than 5 years
Total operating lease commitments
2010
£m
356
1,120
1,706
3,182
2009
£m
392
1,213
1,817
3,422
Operating lease payments represent rental payable by the Group for certain of its properties. Some of these operating lease arrangements have
renewal options and rent escalation clauses, although the effect of these is not material. No arrangements have been entered into for contingent
rental payments.
CAPITAL COMMITMENTS
Excluding commitments in respect of investment property (note 28), capital expenditure contracted but not provided for at 31 December 2010
amounted to £339 million (2009: £203 million). Of this amount, £282 million (2009: £198 million) related to assets to be leased to customers under
operating leases. The Group’s management is confident that future net revenues and funding will be sufficient to cover these commitments.
240
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
55 FINANCIAL INSTRUMENTS
(1) MEASUREMENT BASIS OF FINANCIAL ASSETS AND LIABILITIES
The accounting policies in note 2 describe how different classes of financial instruments are measured, and how income and expenses, including fair
value gains and losses, are recognised. The following table analyses the carrying amounts of the financial assets and liabilities by category and by
balance sheet heading.
Derivatives
designated
as hedging
instruments
£m
At fair value
through profit or loss
Held for
trading
£m
Designated
upon initial
recognition
£m
Available-
for-sale
£m
Loans and
receivables
£m
Held at
amortised
cost
£m
Insurance
contracts
£m
Total
£m
As at 31 December 2010
Financial assets
Cash and balances at central banks
Items in the course of collection from banks
Trading and other financial assets at fair value
through profit or loss
Derivative financial instruments
Loans and receivables:
Loans and advances to banks
Loans and advances to customers
Debt securities
Available-for-sale financial assets
Held-to-maturity investments
Total financial assets
Financial liabilities
Deposits from banks
Customer deposits
Items in course of transmission to banks
Trading and other financial liabilities at fair value
through profit or loss
Derivative financial instruments
Debt securities in issue
Liabilities arising from insurance contracts and
participating investment contracts
Liabilities arising from non-participating investment
contracts
Unallocated surplus within insurance businesses
Subordinated liabilities
Total financial liabilities
–
–
–
–
–
–
38,115
1,368
156,191
50,777
30,272
592,597
–
25,735
–
–
–
–
–
–
–
–
–
–
648,604
42,955
7,905
945,915
50,363
393,633
802
26,762
42,158
228,866
–
–
–
–
–
–
–
23,707
132,484
7,406
43,371
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
42,955
–
–
–
–
–
30,272
592,597
25,735
648,604
–
–
38,115
1,368
–
–
–
–
–
–
–
7,905
7,406
67,078
132,484
42,955
648,604
47,388
50,363
393,633
802
–
–
228,866
–
–
–
–
–
–
–
–
–
–
20,097
6,665
4,398
37,760
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
4,398
57,857
6,665
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
80,729
80,729
51,363
51,363
643
643
36,232
–
36,232
709,896
132,735
911,551
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
241
Lloyds Banking Group
Annual Report
and Accounts 2010
55 FINANCIAL INSTRUMENTS continued
As at 31 December 2009
Financial assets
Cash and balances at central banks
Items in the course of collection from banks
Trading and other financial assets at fair value
through profit or loss
Derivative financial instruments
Loans and receivables:
Loans and advances to banks
Loans and advances to customers
Debt securities
Available-for-sale financial assets
Total financial assets
Financial liabilities
Deposits from banks
Customer deposits
Items in course of transmission to banks
Trading and other financial liabilities at fair value
through profit or loss
Derivative financial instruments
Debt securities in issue
Liabilities arising from insurance contracts and
participating investment contracts
Liabilities arising from non-participating investment
contracts
Unallocated surplus within insurance businesses
Subordinated liabilities
Total financial liabilities
Derivatives
designated
as hedging
instruments
£m
At fair value
through profit or loss
Held for
trading
£m
Designated
upon initial
recognition
£m
Available-
for-sale
£m
Loans and
receivables
£m
Held at
amortised
cost
£m
Insurance
contracts
£m
Total
£m
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
38,994
1,579
150,011
49,928
35,361
626,969
32,652
694,982
46,602
982,096
82,452
406,741
1,037
28,271
40,485
233,502
–
–
–
–
–
–
–
27,245
122,766
9,430
40,498
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
35,361
626,969
32,652
694,982
46,602
–
38,994
1,579
–
–
–
–
–
–
–
9,430
67,743
122,766
46,602
694,982
40,573
82,452
406,741
1,037
–
–
233,502
–
–
–
–
8,687
–
–
–
22,111
31,798
–
–
–
–
–
–
–
–
–
–
–
–
–
6,160
–
–
–
–
–
–
8,687
53,909
6,160
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
76,179
76,179
46,348
46,348
1,082
1,082
34,727
–
34,727
758,459
123,609
950,824
(2) RECLASSIFICATION OF FINANCIAL ASSETS
In 2010 the Group reviewed its approach to managing a portfolio of government securities held as a separately identifiable component of the
Group’s liquidity portfolio. Given the long-term nature of this portfolio, the Group concluded that certain of these securities will be able to be
held until they reach maturity. Consequently, on 1 November 2010, government securities with a fair value of £3,601 million were reclassified from
available-for-sale financial assets to held-to-maturity investments reflecting the Group’s positive intent and ability to hold them until maturity.
In 2009, no financial assets were reclassified.
In 2008, in accordance with the amendment to IAS39 that became applicable during that year, the Group reviewed the categorisation of its financial
assets classified as held for trading and available-for-sale. On the basis that there was no longer an active market for some of those assets, which are
therefore more appropriately managed as loans, with effect from 1 July 2008, the Group transferred £2,993 million of assets previously classified as
held for trading into loans and receivables. With effect from 1 November 2008, the Group transferred £437 million of assets previously classified as
available-for-sale financial assets into loans and receivables. At the time of these transfers, the Group had the intention and ability to hold them for
the foreseeable future or until maturity. As at the date of reclassification, the weighted average effective interest rate of the assets transferred was
6.3 per cent with the estimated recoverable cash flows of £3,524 million.
242
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
55 FINANCIAL INSTRUMENTS continued
Carrying value and fair value of reclassified assets
The table below sets out the carrying value and fair value of reclassified financial assets
From held for trading to loans and receivables
From available-for-sale financial assets to loans and receivables
From available-for-sale financial assets to held-to-maturity investments
Total carrying value and fair value
2010
2009
2008
Carrying
value
£m
750
313
3,455
4,518
Fair
value
£m
727
340
3,539
4,606
Carrying
value
£m
1,833
394
–
Fair
value
£m
1,822
422
–
Carrying
value
£m
2,883
454
–
Fair
value
£m
2,926
402
–
2,227
2,244
3,337
3,328
During the year ended 31 December 2010, the carrying value of assets reclassified to loans and receivables decreased by £1,164 million due to sales
and maturities of £1,220 million, accretion of discount of £34 million and foreign exchange and other movements of £22 million.
Additional fair value gains (losses) that would have been recognised had the reclassifications not occurred
The table below shows the additional gains (losses) that would have been recognised in the Group’s income statement if the reclassifications had
not occurred.
2010
2009
2008
Reclassified
in 2010
£m
Reclassified
in 2009
£m
Reclassified
in 2008
£m
Total
£m
Reclassified
in 2009
£m
Reclassified
in 2008
£m
Total
£m
Reclassified
in 2008
£m
Total
£m
From held for trading to loans
and receivables
–
–
(34)
(34)
–
208
208
(347)
(347)
The table below shows the additional gains (losses) that would have been recognised in other comprehensive income if the reclassifications had
not occurred.
2010
2009
2008
Reclassified
in 2010
£m
Reclassified
in 2009
£m
Reclassified
in 2008
£m
Total
£m
Reclassified
in 2009
£m
Reclassified
in 2008
£m
Total
£m
Reclassified
in 2008
£m
Total
£m
From available-for-sale financial
assets to loans and receivables
–
–
69
69
–
161
161
(108)
(108)
Actual amounts recognised in respect of reclassified assets
After reclassification the reclassified financial assets contributed the following amounts to the Group income statement.
From held for trading to loans
and receivables:
Net interest income
Impairment losses
Total amounts recognised
From available-for-sale financial
assets to loans and receivables:
Net interest income
Impairment losses
Total amounts recognised
2010
2009
2008
Reclassified
in 2010
£m
Reclassified
in 2009
£m
Reclassified
in 2008
£m
Total
£m
Reclassified
in 2009
£m
Reclassified
in 2008
£m
Total
£m
Reclassified
in 2008
£m
–
–
–
–
–
–
2010
24
(6)
18
24
(6)
18
–
–
–
55
(49)
6
2009
55
(49)
6
31
(158)
(127)
2008
Reclassified
in 2010
£m
Reclassified
in 2009
£m
Reclassified
in 2008
£m
Total
£m
Reclassified
in 2009
£m
Reclassified
in 2008
£m
Total
£m
Reclassified
in 2008
£m
–
–
–
–
–
–
1
(2)
(1)
1
(2)
(1)
–
–
_
34
(56)
(22)
34
(56)
(22)
3
(23)
(20)
Total
£m
31
(158)
(127)
Total
£m
3
(23)
(20)
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
243
Lloyds Banking Group
Annual Report
and Accounts 2010
55 FINANCIAL INSTRUMENTS continued
(3) FAIR VALUES OF FINANCIAL ASSETS AND LIABILITIES
The following table summarises the carrying values of financial assets and liabilities presented on the Group’s balance sheet. The fair values
presented in the table are at a specific date and may be significantly different from the amounts which will actually be paid or received on the
maturity or settlement date.
Financial assets
Trading and other financial assets at fair value through profit or loss
Derivative financial instruments
Loans and receivables:
Loans and advances to banks
Loans and advances to customers
Debt securities
Available-for-sale financial assets
Held-to-maturity investments
Financial liabilities
Deposits from banks
Customer deposits
Trading and other financial liabilities at fair value through profit or loss
Derivative financial instruments
Debt securities in issue
Liabilities arising from non-participating investment contracts
Financial guarantees
Subordinated liabilities
Carrying value
2010
£m
Carrying value
2009
£m
156,191
50,777
30,272
592,597
25,735
42,955
7,905
50,363
393,633
26,762
42,158
228,866
51,363
54
36,232
150,011
49,928
35,361
626,969
32,652
46,602
–
82,452
406,741
28,271
40,485
233,502
46,348
38
34,727
Fair value
2010
£m
156,191
50,777
30,236
580,343
26,937
42,955
7,716
50,520
394,393
26,762
42,158
229,375
51,363
54
38,083
Fair value
2009
£m
150,011
49,928
35,335
609,647
31,907
46,602
–
82,366
406,555
28,271
40,485
235,170
46,348
38
33,660
Valuation methodology
Financial instruments include financial assets, financial liabilities and derivatives. The fair value of a financial instrument is the amount at which the
instrument could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale.
Wherever possible, fair values have been calculated using unadjusted quoted market prices in active markets for identical instruments held by the
Group. Where quoted market prices are not available, or are unreliable because of poor liquidity, fair values have been determined using valuation
techniques which, to the extent possible, use market observable inputs, but in some cases use non-market observable inputs. Valuation techniques
used include discounted cash flow analysis and pricing models and, where appropriate, comparison to instruments with characteristics similar to
those of the instruments held by the Group.
Because a variety of estimation techniques are employed and significant estimates made, comparisons of fair values between financial institutions
may not be meaningful. Readers of these financial statements are thus advised to use caution when using this data to evaluate the Group’s
financial position.
Fair value information is not provided for items that do not meet the definition of a financial instrument. These items include intangible assets, such
as the value of the Group’s branch network, the long-term relationships with depositors and credit card relationships; premises and equipment; and
shareholders’ equity. These items are material and accordingly the Group believes that the fair value information presented does not represent the
underlying value of the Group.
Valuation control framework
The key elements of the control framework for the valuation of financial instruments include model validation, product implementation review and
independent price verification. These functions are carried out by appropriately skilled risk and finance teams, independent of the business area
responsible for the products.
Model validation covers both qualitative and quantitative elements relating to new models. In respect of new products, a product implementation
review is conducted pre- and post-trading. Pre-trade testing ensures that the new model is integrated into the Group’s systems and that the profit
and loss and risk reporting are consistent throughout the trade life cycle. Post-trade testing examines the explanatory power of the implemented
model, actively monitoring model parameters and comparing in-house pricing to external sources. Independent price verification procedures
cover financial instruments carried at fair value. The frequency of the review is matched to the availability of independent data, monthly being the
minimum. Valuation differences in breach of established thresholds are escalated to senior management. The results from independent pricing and
valuation reserves are reviewed monthly by senior management.
Formal committees, consisting of senior risk, finance and business management, meet at least quarterly to discuss and approve valuations in more
judgemental areas, in particular for unquoted equities, structured credit, over-the-counter options and the Credit Valuation Adjustment (CVA) reserve.
244
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
55 FINANCIAL INSTRUMENTS continued
Fair value of financial instruments carried at amortised cost
LOANS AND RECEIVABLES
The Group provides loans and advances to commercial, corporate and personal customers at both fixed and variable rates. The carrying value of
the variable rate loans and those relating to lease financing is assumed to be their fair value. For fixed rate lending, several different techniques are
used to estimate fair value, as considered appropriate. For commercial and personal customers, fair value is principally estimated by discounting
anticipated cash flows (including interest at contractual rates) at market rates for similar loans offered by the Group and other financial institutions.
The fair value for corporate loans is estimated by discounting anticipated cash flows at a rate which reflects the effects of interest rate changes,
adjusted for changes in credit risk. Certain loans secured on residential properties are made at a fixed rate for a limited period, typically two to five
years, after which the loans revert to the relevant variable rate. The fair value of such loans is estimated by reference to the market rates for similar
loans of maturity equal to the remaining fixed interest rate period. The fair values of asset-backed securities and secondary loans, which were
previously within assets held for trading and were reclassified to loans and receivables, are determined predominantly from lead manager quotes
and, where these are not available, by alternative techniques including reference to credit spreads on similar assets with the same obligor, market
standard consensus pricing services, broker quotes and other research data.
DEPOSITS FROM BANKS AND CUSTOMER DEPOSITS
The fair value of deposits repayable on demand is considered to be equal to their carrying value. The fair value for all other deposits is estimated
using discounted cash flows applying either market rates, where applicable, or current rates for deposits of similar remaining maturities.
DEBT SECURITIES IN ISSUE AND SUBORDINATED LIABILITIES
The fair value of short-term debt securities in issue is approximately equal to their carrying value. Fair value for other debt securities and for
subordinated liabilities is estimated using quoted market prices.
HELD-TO-MATURITY INVESTMENTS
The fair values of government securities are based on market prices.
Valuation of financial instruments carried at fair value
The valuations of financial instruments have been classified into three levels according to the quality and reliability of information used to determine
the fair values.
LEVEL 1 PORTFOLIOS
Level 1 fair value measurements are those derived from unadjusted quoted prices in active markets for identical assets or liabilities. Products
classified as level 1 predominantly comprise treasury bills and other government securities.
LEVEL 2 PORTFOLIOS
Level 2 valuations are those where quoted market prices are not available, for example where the instrument is traded in a market that is not
considered to be active or valuation techniques are used to determine fair value and where these techniques use inputs that are based significantly
on observable market data. Examples of such financial instruments include most over-the-counter derivatives, financial institution issued securities,
certificates of deposit and certain asset-backed securities.
LEVEL 3 PORTFOLIOS
Level 3 portfolios are those where at least one input which could have a significant effect on the instrument’s valuation is not based on observable
market data. Such instruments would include the Group’s venture capital and unlisted equity investments which are valued using various valuation
techniques that require significant management judgement in determining appropriate assumptions, including earnings multiples and estimated
future cash flows. Certain of the Group’s asset-backed securities and derivatives, principally where there is no trading activity in such securities, are
also classified as level 3.
The table below provides an analysis of the financial assets and liabilities of the Group that are carried at fair value in the Group’s consolidated
balance sheet, grouped into levels 1 to 3 based on the degree to which the fair value is observable.
VALUATION HIERARCHY
Trading and other financial assets at fair value through profit or loss
Available-for-sale financial assets
Derivative financial instruments
Financial assets
Trading and other financial liabilities at fair value through profit or loss
Derivative financial instruments
Financial guarantees
Financial liabilities
At 31 December 2010
Level 1
£m
113,242
14,481
985
Level 2
£m
40,113
25,828
47,806
128,708
113,747
864
42
–
906
25,898
41,913
–
67,811
Level 3
£m
2,836
2,646
1,986
7,468
–
203
54
257
Total
£m
156,191
42,955
50,777
249,923
26,762
42,158
54
68,974
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
245
Lloyds Banking Group
Annual Report
and Accounts 2010
55 FINANCIAL INSTRUMENTS continued
There were no significant transfers between level 1 and level 2 during the year.
Trading and other financial assets at fair value through profit or loss
Available-for-sale financial assets
Derivative financial instruments
Financial assets
Trading and other financial liabilities at fair value through profit or loss
Derivative financial instruments
Financial guarantees
Financial liabilities
MOVEMENTS IN LEVEL 3 PORTFOLIO
The table below analyses movements in the level 3 financial assets portfolio.
At 31 December 2009
Level 1
£m
103,853
12,881
977
117,711
511
66
–
577
Level 2
£m
43,246
31,110
47,014
121,370
27,760
40,222
–
67,982
Level 3
£m
2,912
2,611
1,937
7,460
–
197
38
235
Total
£m
150,011
46,602
49,928
246,541
28,271
40,485
38
68,794
At 1 January 2009
Exchange and other adjustments
Adjustment on acquisition
Losses recognised in the income statement
Gains recognised in other comprehensive income
Purchases
Sales
Transfers into the level 3 portfolio
Transfers out of the level 3 portfolio
At 31 December 2009
Exchange and other adjustments
Gains (losses) recognised in the income statement
Gains recognised in other comprehensive income
Purchases
Sales
Transfers into the level 3 portfolio
Transfers out of the level 3 portfolio
At 31 December 2010
Gains (losses) recognised in the income statement relating to
those assets held at 31 December 2010
Gains recognised in other comprehensive income relating
to those assets held at 31 December 2010
Trading and other financial
assets at fair value through
profit or loss
£m
Available-
for-sale
£m
Derivative
assets
£m
Total financial
assets
£m
1,672
(232)
3,386
(114)
–
374
(465)
33
(1,742)
2,912
28
199
–
921
(550)
64
(738)
2,836
151
–
3,161
(205)
2,291
(452)
191
422
(671)
48
(2,174)
2,611
12
(56)
271
664
(560)
–
(296)
2,646
(81)
269
136
74
569
(1,005)
–
2,224
(61)
–
–
1,937
2
(667)
–
–
–
780
(66)
1,986
4,969
(363)
6,246
(1,571)
191
3,020
(1,197)
81
(3,916)
7,460
42
(524)
271
1,585
(1,110)
844
(1,100)
7,468
(667)
(597)
–
269
246
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
55 FINANCIAL INSTRUMENTS continued
The table below analyses movements in the Level 3 financial liabilities portfolio.
At 1 January 2009
Exchange and other adjustments
Adjustment on acquisition
Gains recognised in the income statement
Additions
Redemptions
Transfers out of the level 3 portfolio
At 31 December 2009
Exchange and other adjustments
Gains recognised in the income statement
Additions
Redemptions
Transfers into the level 3 portfolio
At 31 December 2010
Gains (losses) recognised in the income statement relating to
those liabilities held at 31 December 2010
Derivative
liabilities
£m
Financial
guarantees
£m
Total financial
liabilities
£m
578
(179)
1,102
(47)
–
(474)
(783)
197
13
–
–
(210)
203
203
–
35
–
–
–
3
–
–
38
–
–
16
–
–
54
–
613
(179)
1,102
(47)
3
(474)
(783)
235
13
–
16
(210)
203
257
–
Transfers out of the level 3 portfolio arise when inputs that could have a significant impact on the instrument’s valuation become market observable
after previously having been non-market observable. In the case of asset-backed securities this can arise if more than one consistent independent
source of data becomes available. Conversely transfers into the portfolio arise when consistent sources of data cease to be available.
Included within the gains (losses) recognised in the income statement are losses of £597 million (2009: £1,542 million) related to financial instruments
that are held in the level 3 portfolio at the year end. These amounts are included in other operating income.
Included within the gains (losses) recognised in other comprehensive income are gains of £269 million (2009: £190 million) related to financial
instruments that are held in the level 3 portfolio at the year end.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
247
Lloyds Banking Group
Annual Report
and Accounts 2010
55 FINANCIAL INSTRUMENTS continued
Trading and other financial assets at fair value through profit or loss
Valuation basis/technique
Main assumptions
At 31 December 2010
At 31 December 2009
Effect of reasonably possible
alternative assumptions
Carrying
value
£m
Favourable
changes
£m
Unfavourable
changes
£m
Carrying
value
£m
Effect of
reasonably
possible
alternative
assumptions
Asset-backed securities Lead manager or broker
quote/consensus pricing
from market data provider
Equity investments
Various valuation
techniques
Unlisted equities and
property partnerships
in the life funds
Available-for-sale financial assets
Asset-backed securities Lead manager or broker
quote/consensus pricing
from market data provider
Equity investments
Various valuation
techniques
Use of single pricing source
283
8
(8)
970
74
Earnings, net asset value
and earnings multiples,
forecast cash flows
2,072
135
(111)
1,396
n/a
481
–
–
546
n/a
2,836
2,912
Use of single pricing source
579
34
(34)
744
10
Earnings, net asset value,
underlying asset values,
property prices, forecast
cash flows
Derivative financial assets
Industry standard
model/consensus
pricing from market
data provider
Prepayment rates,
probability of default, loss
given default and yield
curves. Equity conversion
feature spread
Financial assets
Derivative financial liabilities
Industry standard
model/consensus
pricing from market
data provider
Prepayment rates,
probability of default, loss
given default and yield
curves
Financial guarantees
Financial liabilities
2,067
141
(91)
1,867
n/a
2,646
2,611
1,986
157
(27)
1,937
84
7,468
203
54
257
–
–
–
–
7,460
197
8
38
235
n/a
248
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
55 FINANCIAL INSTRUMENTS continued
The main products where level 3 valuations have been used are described below:
Asset-backed securities
Where there is no trading activity in asset-backed securities, valuation models, consensus pricing information from third party pricing services and
broker or lead manager quotes are used to determine an appropriate valuation. Asset-backed securities are then classified as either level 2 or level
3 depending on whether there is more than one consistent independent source of data. If there is a single, uncorroborated market source for a
significant valuation input or where there are materially inconsistent levels then the security is reported as level 3. Asset classes classified as level 3
mainly comprise certain residential mortgage-backed securities, collateralised loan obligations and collateralised debt obligations.
Equity investments (including venture capital)
Unlisted equities and fund investments are accounted for as trading and other financial assets at fair value through profit or loss or as
available-for-sale financial assets. These investments are valued using different techniques as a result of the variety of investments across the
portfolio in accordance with the Group’s valuation policy and are calculated using International Private Equity and Venture Capital Guidelines.
Depending on the business sector and the circumstances of the investment, unlisted equity valuations are based on earnings multiples, net asset
values or discounted cash flows.
– A number of earnings multiples are used in valuing the portfolio including price earnings, earnings before interest and tax and earnings before
interest, tax, depreciation and amortisation. The particular multiple selected being appropriate for the type of business being valued and is
derived by reference to the current market-based multiple. Consideration is given to the risk attributes, growth prospects and financial gearing of
comparable businesses when selecting an appropriate multiple.
– Discounted cash flow valuations use estimated future cash flows, usually based on management forecasts, with the application of appropriate exit
yields or terminal multiples and discounted using rates appropriate to the specific investment, business sector or recent economic rates of return.
Recent transactions involving the sale of similar businesses may sometimes be used as a frame of reference in deriving an appropriate multiple.
– For fund investments the most recent capital account value calculated by the fund manager is used as the basis for the valuation and adjusted, if
necessary, to align valuation techniques with the Group’s valuation policy.
Unquoted equities and property partnerships in the life funds
Third party valuations are used to obtain the fair value of unquoted investments. Management take account of any pertinent information, such as
recent transactions and information received on particular investments, to adjust the third party valuations where necessary.
Derivatives
Where the Group’s derivative assets and liabilities are not traded on an exchange, they are valued using valuation techniques, including discounted
cash flow and options pricing models, as appropriate. The types of derivatives classified as level 2 and the valuation techniques used include:
– Interest rate swaps which are valued using discounted cash flow models; the most significant inputs into those models are interest rate yield curves
which are developed from publicly quoted rates.
– Foreign exchange derivatives that do not contain options which are priced using rates available from publicly quoted sources.
– Credit derivatives, except for the items classified as level 3, which are valued using publicly available yield and credit default swap (CDS) curves; the
Group uses standard models with observable inputs.
– Less complex interest rate and foreign exchange option products which are valued using volatility surfaces developed from publicly available
interest rate cap, interest rate swaption and other option volatilities; option volatility skew information is derived from a market standard consensus
pricing service. For more complex option products, the Group calibrates its models using observable at-the-money data; where necessary, the
Group adjusts for out-of-the-money positions using a market standard consensus pricing service.
Complex interest rate and foreign exchange products where there is significant dispersion of consensus pricing or where implied funding costs are
material and unobservable are classified as level 3.
Where credit protection, usually in the form of credit default swaps, has been purchased or written on asset-backed securities, the security is referred
to as a negative basis asset-backed security and the resulting derivative assets or liabilities have been classified as either level 2 or level 3 according
to the classification of the underlying asset-backed security.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
249
Lloyds Banking Group
Annual Report
and Accounts 2010
55 FINANCIAL INSTRUMENTS continued
The Group’s level 3 derivative assets include £1,177 million (31 December 2009: £1,797 million) in respect of the value of the embedded equity
conversion feature of the enhanced capital notes issued in December 2009. The embedded equity conversion feature is valued by comparing
the market price of the enhanced capital notes with the market price of similar bonds without the conversion feature. The latter is calculated by
discounting the expected enhanced capital note cash flows in the absence of a conversion using prevailing market yields for similar capital securities
without the conversion feature. The market price of the enhanced capital notes was calculated with reference to multiple broker quotes. Movements
in the fair value of the derivative are recorded in net trading income.
Level 3 derivative assets also include £96 million (31 December 2009: £140 million) in respect of credit default swaps written on level 3 negative basis
asset-backed securities calculated as set out in the table below:
Fair value before credit valuation adjustment
Less: credit valuation adjustment
Carrying value
SENSITIVITY OF LEVEL 3 VALUATIONS
2010
£m
114
(18)
96
2009
£m
346
(206)
140
Asset-backed securities
Reasonably possible alternative valuations have been calculated for asset-backed securities by using alternative pricing sources and calculating an
absolute difference. The pricing difference is defined as the absolute difference between the actual price used and the closest, alternative price
available.
Derivative financial instruments
(i)
In respect of the embedded equity conversion feature of the enhanced capital notes, the sensitivity was based on the absolute difference between
the actual price of the enhanced capital note and the closest, alternative broker quote available plus the impact of applying a 10(cid:3)bps increase/
decrease in the market yield used to derive a market price for similar bonds without the conversion feature. The effect of interdependency of
the assumptions is not material to the effect of applying reasonably possible alternative assumptions to the valuations of derivative financial
instruments.
(ii)
In respect of credit default swaps written on level 3 negative basis asset-backed securities, reasonably possible alternative valuations have been
calculated by flexing the spread between the underlying asset and the credit default swap, or adjusting market yields, by a reasonable amount.
The sensitivity is determined by applying a 60 bps increase/decrease in the spread between the asset and the credit default swap.
Venture capital and equity investments
The valuation techniques used for unlisted equities and venture capital investments vary depending on the nature of the investment. Third party
valuers have been used to determine the value of unlisted equities and property partnerships included in the Group’s life insurance funds. As these
factors differ for each investment, depending on the nature of the valuation technique used and the inputs, there is no single common factor that
could be adjusted to provide a reasonable alternative valuation for these investment portfolios.
250
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
55 FINANCIAL INSTRUMENTS continued
DERIVATIVE VALUATION ADJUSTMENTS
Derivative financial instruments which are carried in the balance sheet at fair value are adjusted where appropriate to reflect credit risk, market
liquidity and other risks.
(i) Uncollateralised derivative valuation adjustments, excluding monoline counterparties
The following table summarises the movement on this revaluation adjustment account during 2010.
Uncollateralised derivative valuation adjustments
At 31 December 2009
Income statement charge
Transfers
At 31 December 2010
Represented by:
Credit Valuation Adjustment (CVA)
Debit Valuation Adjustment (DVA)
Funding Valuation Adjustment
£m
662
20
(112)
570
2009
£m
892
(230)
–
662
2010
£m
671
(298)
197
570
Valuation adjustments are applied to the Group’s over-the-counter derivative exposures with counterparties that are not subject to standard
interbank collateral arrangements. These valuation adjustments reflect the different credit and funding exposures that such counterparties represent.
A Credit Valuation Adjustment (CVA) is applied to the Group’s over-the-counter uncollateralised derivative exposures to adjust the derivative
valuations provided by standard interbank interest rate curves. The Group uses a bilateral simulation model to develop expected future exposures.
This calculates a CVA for scenarios where the Group has a positive future exposure (asset) and a Debit Valuation Adjustment (DVA) where the Group
has a negative future exposure (liability).
In circumstances where a counterparty becomes impaired, any associated derivative valuation adjustment is transferred and assessed for specific loss
alongside other non-derivative assets and liabilities the counterparty may have with the Group.
Market Credit Default Swap (CDS) spreads are used to develop the probability of default for quoted counterparties. For unquoted counterparties,
internal credit ratings and market sector CDS curves and recovery rates are used. The Loss Given Default (LGD) is based on market recovery rates
and internal credit assessments. The combination of a one notch deterioration in the credit rating of derivative counterparties and a 10 per cent
increase in LGD increases the CVA by £120 million. Current market value is used to estimate the projected exposure for products not supported by
the model, which are principally complex interest rate options that are traded in very low volumes. For these, the CVA is calculated on an add-on
basis (in total contributing £29 million of the overall CVA balance at 31 December 2010).
The Debit Valuation Adjustment (DVA) is sensitive to the Group’s own CDS spread. A 1 per cent rise in this spread would lead to an increase in the
DVA of £65 million to £363 million.
The risk exposures that are used for the CVA and DVA calculations are strongly influenced by interest rates. Due to the nature of the Group’s business
the CVA/DVA exposures tend to be on average the same way around such that the valuation adjustments fall when interest rates rise. A 1 per cent
rise in interest rates would lead to a £109 million fall in the overall valuation adjustment to £461 million. The CVA model used by the Group does not
assume any correlation between the level of interest rates and default rates.
In addition, in 2010 the Group has included a Funding Valuation Adjustment to adjust for the net cost of funding certain uncollateralised derivative
positions where the Group considers that this cost is included in market pricing. This adjustment is calculated on the expected future exposure
discounted at a suitable cost of funds. A 10 bps increase in the cost of funds will increase the funding valuation adjustment by £5 million.
(ii) Uncollateralised derivative valuation adjustments – monoline counterparties
The Group has no significant derivative exposures remaining against monoline counterparties as shown in note 56(3). The remaining valuation
adjustment on these limited positions is shown in the table below.
Monoline derivative valuation adjustments
Credit Valuation Adjustment – monoline counterparties
2010
£m
17
2009
£m
200
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
251
Lloyds Banking Group
Annual Report
and Accounts 2010
55 FINANCIAL INSTRUMENTS continued
(iii) Market liquidity
The Group includes mid to bid-offer valuation adjustments against the expected cost of closing out the net market risk in the Group’s trading
positions within a timeframe that is consistent with historical trading activity and spreads that the trading desks have accessed historically during
the ordinary course of business in normal market conditions.
At 31 December 2010, the Group’s derivative trading business held mid to bid-offer valuation adjustments of £66 million (31 December 2009:
£70 million).
(iv) Libor/Overnight Index Swap (OIS) basis
The Group’s derivative trading business applies £70 million (31 December 2009: £nil) of valuation adjustments against the changing market approach
to valuing derivatives that are subject to daily collateral margin, where standard market practice is to pay interest on an Overnight Index Swap (OIS)
basis rather than a Libor rate.
No credit valuation adjustment is taken on collateralised swaps (31 December 2009: £25 million).
56 FINANCIAL RISK MANAGEMENT
As a bancassurer, financial instruments are fundamental to the Group’s activities and, as a consequence, the risks associated with financial instruments
represent a significant component of the risks faced by the Group.
The primary risks affecting the Group through its use of financial instruments are: credit risk; market risk, which includes interest rate risk and foreign
exchange risk; and liquidity risk. Information about the Group’s exposure to each of the above risks, the Group’s objectives, policies and processes for
measuring and managing risk and the Group’s management of capital can be found on pages 65 to 108. The following additional disclosures, which
provide quantitative information about the risks within financial instruments held or issued by the Group, should be read in conjunction with that
earlier information.
(1) INTEREST RATE RISK
In the Group’s retail banking business interest rate risk arises from the different repricing characteristics of the assets and liabilities. Liabilities are
either insensitive to interest rate movements, for example interest free or very low interest customer deposits, or are sensitive to interest rate changes
but bear rates which may be varied at the Group’s discretion and that for competitive reasons generally reflect changes in the Bank of England’s base
rate. There is a relatively small volume of deposits whose rate is contractually fixed for their term to maturity.
Many banking assets are sensitive to interest rate movements; there is a large volume of managed rate assets such as variable rate mortgages
which may be considered as a natural offset to the interest rate risk arising from the managed rate liabilities. However, a significant proportion of the
Group’s lending assets, for example many personal loans and mortgages, bear interest rates which are contractually fixed for periods of up to five
years or longer.
The Group establishes two types of hedge accounting relationships for interest rate risk: fair value hedges and cash flow hedges. The Group is
exposed to fair value interest rate risk on its fixed rate customer loans, its fixed rate customer deposits and the majority of its subordinated debt,
and to cash flow interest rate risk on its variable rate loans and deposits together with its floating rate subordinated debt. The majority of the Group’s
hedge accounting relationships are fair value hedges where interest rate swaps are used to hedge the interest rate risk inherent in the fixed rate
mortgage portfolio.
At 31 December 2010 the aggregate notional principal of interest rate swaps designated as fair value hedges was £75,831 million (2009:
£80,085 million) with a net fair value asset of £3,166 million (2009: asset of £3,004 million) (note 19). The gains on the hedging instruments were
£280 million (2009: losses of £995 million). The losses on the hedged items attributable to the hedged risk were £452 million (2009: gains of
£1,181 million).
In addition the Group has cash flow hedges which are primarily used to hedge the variability in the cost of funding within the wholesale business.
Note 19 shows when the hedged cash flows are expected to occur and when they will affect income for designated cash flow hedges. The notional
principal of the interest rate swaps designated as cash flow hedges at 31 December 2010 was £112,507 million (2009: £222,548 million) with a net fair
value liability of £843 million (2009: £2,536 million) (note 19). In 2010, ineffectiveness recognised in the income statement that arises from cash flow
hedges was a gain of £160 million (2009: nil). There were no transactions for which cash flow hedge accounting had to be ceased in 2010 or 2009 as
a result of the highly probable cash flows no longer being expected to occur.
(2) CURRENCY RISK
Foreign exchange exposures comprise those originating in treasury trading activities and structural foreign exchange exposures, which arise from
investment in the Group’s overseas operations.
The corporate and retail businesses incur foreign exchange risk in the course of providing services to their customers. All non-structural foreign
exchange exposures in the non-trading book are transferred to the trading area where they are monitored and controlled. These risks reside in the
authorised trading centres who are allocated exposure limits. The limits are monitored daily by the local centres and reported to the market and
liquidity risk function in London. Associated VaR and the closing, average, maximum and minimum are disclosed on page 89.
252
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
56 FINANCIAL RISK MANAGEMENT continued
Risk arises from the Group’s investments in its overseas operations. The Group’s structural foreign currency exposure is represented by the net asset
value of the foreign currency equity and subordinated debt investments in its subsidiaries and branches. Gains or losses on structural foreign currency
exposures are taken to reserves.
The Group hedges part of the currency translation risk of the net investment in certain foreign operations using currency borrowings and cross
currency derivatives. At 31 December 2010 the aggregate notional principal of these currency borrowings was £5,135 million; the aggregate
notional principal of the cross currency derivatives was £86 million (2009: cross currency swaps £2,507 million) with a net fair value asset of £2 million
(2009: asset of £25 million) and they were designated on an after-tax basis as hedges of net investments in foreign operations. In 2010, an
ineffectiveness loss of £28 million before tax and £20 million after tax (2009: ineffectiveness of £nil before tax and £nil after tax) was recognised in the
income statement arising from net investment hedges.
56 FINANCIAL RISK MANAGEMENT
The Group’s main overseas operations are in the Americas, Asia, Australasia and Europe. Details of the Group’s structural foreign currency exposures,
after net investment hedges, are as follows:
Functional currency of Group operations
Euro:
Gross exposure
Net investment hedge
US dollar:
Gross exposure
Net investment hedge
Swiss franc:
Gross exposure
Net investment hedge
Australian dollar:
Gross exposure
Net investment hedge
Japanese yen:
Gross exposure
Net investment hedge
Other non-sterling
Total structural foreign currency exposures, after net investment hedges
2010
£m
2009
£m
2,468
(3,270)
(802)
47
(145)
(98)
53
–
53
1,567
(1,634)
(67)
17
–
17
155
(742)
2,764
(2,651)
113
(184)
62
(122)
2,552
(2,467)
85
1,869
(1,832)
37
3,220
(3,207)
13
316
442
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
253
Lloyds Banking Group
Annual Report
and Accounts 2010
56 FINANCIAL RISK MANAGEMENT continued
(3) CREDIT RISK
The Group’s credit risk exposure arises predominantly in the United Kingdom, the European Union, Australia and the United States.
The maximum credit risk exposure of the Group in the event of other parties failing to perform their obligations is detailed below. No account
is taken of any collateral held and the maximum exposure to loss is considered to be the balance sheet carrying amount or, for non-derivative
off-balance sheet transactions and financial guarantees, their contractual nominal amounts.
Loans and receivables:
Loans and advances to banks
Loans and advances to customers
Debt securities
Deposit amounts available for offset1
Impairment allowances
Available-for-sale financial assets (excluding equity shares)
Held-to-maturity investments
Trading and other financial assets at fair value through profit or loss (excluding equity shares)
Derivative assets, before netting
2010
£m
2009
£m
30,292
610,970
26,293
(8,105)
(18,951)
640,499
40,700
7,905
65,972
50,777
35,510
641,770
33,082
(13,373)
(15,380)
681,609
44,571
–
65,861
49,928
Amounts available for offset under master netting arrangements1
(31,740)
(21,698)
Assets arising from reinsurance contracts held
Financial guarantees
Irrevocable loan commitments and other credit-related contingencies2
Maximum credit risk exposure
Maximum credit risk exposure before offset items
19,037
2,146
22,975
67,809
867,043
906,888
28,230
1,875
18,021
80,585
920,752
955,823
1
2
Deposit amounts available for offset and amounts available for offset under master netting arrangements do not meet the criteria under IAS 32 to enable loans and advances and derivative assets
respectively to be presented net of these balances in the financial statements.
See note 54 – Contingent liabilities and commitments for further information.
A general description of collateral held in respect of financial instruments is disclosed on page 77.
Loans and advances to banks – the Group may require collateral before entering into a credit commitment with another bank, depending on the
type of the financial product and the counterparty involved, and netting agreements are obtained whenever possible and to the extent that such
agreements are legally enforceable.
Available-for-sale debt securities, treasury and other bills, held-to-maturity investments, and trading and other financial assets at fair value
through profit or loss – the credit quality of the Group’s available-for-sale debt securities, treasury and other bills, held-to-maturity investments,
and the majority of the Group’s trading and other financial assets at fair value through profit or loss held is set out below. An analysis of trading and
other financial assets at fair value through profit or loss is included in note 18 and a similar analysis for available-for-sale financial assets is included
in note 26. The Group’s held-to-maturity investments are all government debt securities. The Group’s non-participating investment contracts are
all unit-linked. Trading and other financial assets at fair value through profit or loss which back those investment contracts were £129,702 million
(2009: £118,573 million). Movements in the fair value of such assets, including movements arising from credit risk, are borne by the contract holders.
Derivative assets – the Group reduces exposure to credit risk by using master netting agreements and by obtaining collateral in the form of cash
or highly liquid securities. An analysis of derivative assets is given in note 19. Of the net derivative assets of £19,037 million (31 December 2009:
£28,230 million), cash collateral of £1,429 million (31 December 2009: £6,645 million) was held and a further £8,385 million was due from OECD banks
(31 December 2009: £13,004 million).
Assets arising from reinsurance contracts held – of the assets arising from reinsurance contracts held at 31 December 2010 of £2,146 million
(31 December 2009: £1,875 million), £671 million (31 December 2009: £510 million) were due from insurers with a credit rating of AA or above.
254
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
56 FINANCIAL RISK MANAGEMENT continued
Financial guarantees – these represent undertakings that the Group will meet a customer’s obligation to third parties if the customer fails to do
so. Commitments to extend credit represent unused portions of authorisations to extend credit in the form of loans, guarantees or letters of credit.
The Group is theoretically exposed to loss in an amount equal to the total guarantees or unused commitments, however, the likely amount of loss is
expected to be significantly less; most commitments to extend credit are contingent upon customers maintaining specific credit standards.
Reverse repo and repo transactions – for reverse repo transactions which are accounted for as collateralised loans, it is the Group’s policy to seek
collateral which is at least equal to the amount loaned. At 31 December 2010, the fair value of collateral accepted under reverse repo transactions that
the Group is permitted by contract or custom to sell or repledge was £21,195 million (2009: £26,731 million). Of this, £3,161 million (2009: £14,963 million)
was sold or repledged as at 31 December 2010. The fair value of collateral pledged in respect of repo transactions, accounted for as secured borrowings,
where the secured party is permitted by contract or custom to repledge was £53,781 million (31 December 2009: £96,409 million).
Stock lending – in addition to financial assets on the balance sheet which are subject to repurchase agreements, there were financial assets on the
balance sheet pledged as collateral as part of securities lending transactions which amounted to £124,139 million at 31 December 2010
(2009: £92,449 million).
Stock borrowing – Securities held as collateral as stock borrowed or under reverse repurchase agreements amounted to £93,419 million at
31 December 2010 (2009: £95,881 million), of which £55,554 million at 31 December 2010 (2009: £77,455 million) had been resold or repledged as
collateral for the Group’s own transactions.
Loans and advances
31 December 2010
Neither past due nor impaired
Past due but not impaired
Impaired – no provision required
– provision held
Gross
Allowance for impairment losses
Fair value adjustments
Net
31 December 2009
Neither past due nor impaired
Past due but not impaired
Impaired – no provision required
– provision held
Gross
Allowance for impairment losses
Fair value adjustments
Net
Loans and
advances
to banks
£m
30,259
–
–
20
Retail –
mortgages
£m
339,509
13,215
2,189
5,591
30,279
360,504
(2,073)
347,292
12,587
2,034
5,918
367,831
(1,774)
(20)
13
30,272
35,333
–
–
153
35,486
(149)
24
35,361
Loans and advances to customers
Retail –
other
£m
Wholesale
£m
Total
£m
Loans and
advances
designated
at fair value
through
profit or loss
£m
45,058
159,274
543,841
12,545
1,289
433
5,149
51,929
(2,587)
3,427
5,313
45,931
213,945
(24,975)
17,931
7,935
56,671
626,378
(29,635)
(4,146)
592,597
–
–
–
12,545
–
–
12,545
48,429
185,872
581,593
19,082
1,873
449
5,902
56,653
(3,379)
5,118
6,603
37,927
235,520
(20,835)
19,578
9,086
49,747
660,004
(25,988)
(7,047)
626,969
–
–
–
19,082
–
–
19,082
The disclosures in the table above and those on pages 255 to 257 are produced under the combined businesses approach used for the Group’s
segmental reporting. The Group believes that, for reporting periods immediately following a significant acquisition such as the acquisition of HBOS
in 2009, this combined businesses basis, which includes the allowance for loan losses at the acquisition date on a gross basis, more fairly reflects the
underlying provisioning status of the loans. The remaining acquisition-related fair value adjustments in respect of this lending are therefore identified
separately in this table.
The analysis of lending between retail and wholesale has been prepared based upon the type of exposure and not the business segment in which
the exposure is recorded. Included within retail are exposures to personal customers and small businesses, whilst included within wholesale are
exposures to corporate customers and other large institutions.
The criteria that the Group uses to determine that there is objective evidence of an impairment loss are disclosed in note 2(H). All impaired loans
which exceed certain thresholds, principally within the Group’s Wholesale division, are individually assessed for impairment by reviewing expected
future cash flows including those that could arise from the realisation of security. Included in loans and receivables are advances individually
determined to be impaired with a gross amount before impairment allowances of £51,608 million (31 December 2009: £44,675 million) which have
associated collateral with a fair value of £14,869 million (31 December 2009: £10,217 million).
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
255
Lloyds Banking Group
Annual Report
and Accounts 2010
56 FINANCIAL RISK MANAGEMENT continued
The table below sets out the reconciliation of the allowance for impairment losses of £18,373 million (31 December 2009: £14,801 million) shown in
note 25 to the allowance for impairment losses on a combined businesses basis of £29,635 million (31 December 2009: £25,988 million) shown above:
Allowance for impairment losses on loans and advances to customers
HBOS allowance at 16 January 20091
Amounts subsequently written off
HBOS charge covered by fair value adjustments2
Foreign exchange and other movements
Allowance for impairment losses on loans and advances to customers on a combined businesses basis
2010
£m
18,373
11,147
(9,136)
2,011
8,823
428
29,635
2009
£m
14,801
11,147
(6,155)
4,992
6,242
(47)
25,988
1
2
Comprises an allowance held at 31 December 2008 of £10,693 million and a charge for the period from 1 January 2009 to 16 January 2009 of £454 million.
This represents the element of the charge on loans and advances to customers in HBOS’s results that was included within the Group’s fair value adjustments in respect of the acquisition of HBOS on
16 January 2009.
Loans and advances which are neither past due nor impaired
31 December 2010
Good quality
Satisfactory quality
Lower quality
Below standard, but not impaired
Total loans and advances which are neither
past due nor impaired
31 December 2009
Good quality
Satisfactory quality
Lower quality
Below standard, but not impaired
Total loans and advances which are neither past
due nor impaired
Loans and
advances
to banks
£m
Retail –
mortgages
£m
29,835
332,614
265
16
143
5,259
834
802
Loans and advances to customers
Retail –
other
£m
30,076
11,084
1,170
2,728
Wholesale
£m
Total
£m
57,552
42,906
45,750
13,066
Loans and
advances
designated
at fair value
through
profit or loss
£m
12,220
163
83
79
30,259
339,509
45,058
159,274
543,841
12,545
34,434
335,482
135
15
749
9,614
746
1,450
30,743
12,654
1,480
3,552
61,810
59,752
45,986
18,324
18,702
267
90
23
35,333
347,292
48,429
185,872
581,593
19,082
The definitions of good quality, satisfactory quality, lower quality and below standard, but not impaired applying to retail and wholesale are not the same,
reflecting the different characteristics of these exposures and the way they are managed internally, and consequently totals are not provided. Wholesale
lending has been classified using internal probability of default rating models mapped so that they are comparable to external credit ratings. Good
quality lending comprises the lower assessed default probabilities, with other classifications reflecting progressively higher default risk. Classifications
of retail lending incorporate expected recovery levels for mortgages, as well as probabilities of default assessed using internal rating models.
256
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
56 FINANCIAL RISK MANAGEMENT continued
Loans and advances which are past due but not impaired
31 December 2010
0-30 days
30-60 days
60-90 days
90-180 days
Over 180 days
Total loans and advances which are past due
but not impaired
Fair value of collateral held
31 December 2009
0-30 days
30-60 days
60-90 days
90-180 days
Over 180 days
Total loans and advances which are past due but
not impaired
Fair value of collateral held
Loans and
advances
to banks
£m
Retail –
mortgages
£m
–
–
–
–
–
–
–
–
–
–
–
–
6,498
2,674
1,811
2,223
9
13,215
11,467
6,018
2,649
1,702
2,216
2
12,587
10,845
Loans and advances to customers
Retail –
other
£m
1,004
246
29
10
–
1,289
n/a
1,316
376
74
48
59
1,873
n/a
Wholesale
£m
1,331
498
394
337
867
3,427
n/a
2,347
825
825
560
561
5,118
n/a
Loans and
advances
designated
at fair value
through
profit or loss
£m
–
–
–
–
–
–
–
–
–
–
–
–
Total
£m
8,833
3,418
2,234
2,570
876
17,931
n/a
9,681
3,850
2,601
2,824
622
19,578
n/a
A financial asset is ‘past due’ if a counterparty has failed to make a payment when contractually due.
Collateral held against retail mortgage lending is principally comprised of residential properties; their fair value has been estimated based upon
the last actual valuation, adjusted to take into account subsequent movements in house prices, after making allowance for indexation error
and dilapidations. The resulting valuation has been limited to the principal amount of the outstanding advance in order to provide a clearer
representation of the Group’s credit exposure.
Lending decisions are based on an obligor’s ability to repay from normal business operations rather than reliance on the disposal of any security
provided. Collateral values for non-mortgage lending are assessed more rigorously at the time of loan origination or when taking enforcement action
and may fluctuate, as in the case of floating charges, according to the level of assets held by the customer. Whilst collateral is reviewed on a regular
basis in accordance with business unit credit policy, this varies according to the type of lending and collateral involved. It is therefore not practicable
to estimate and aggregate current fair values of collateral for non-mortgage lending.
Renegotiated loans and advances
Loans and advances that were renegotiated during the year and that would otherwise have been past due or impaired at 31 December 2010 totalled
£5,475 million (31 December 2009: £3,919 million).
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
257
Lloyds Banking Group
Annual Report
and Accounts 2010
56 FINANCIAL RISK MANAGEMENT continued
Forbearance arrangements
The Group operates a number of schemes to assist borrowers. Further details of these schemes is set out in the risk report on pages 78 and 79.
The Group operates schemes that allow customers to repay a monthly amount which is lower than their contractual monthly payment for a short
period. These forbearance arrangements include short-term reduced or nil payment arrangements and transfers to interest only mortgages, as
described on page 79. During the period of forbearance, there is no clearing down of arrears such that, unless the customer is paying more than
their contractual minimum payment, arrears balances will remain and the loan will continue to be reported as impaired. When customers come to
the end of their arrangement period they will continue to be managed as a mainstream collections case and if unable to recover then will move
toward possession.
Under the Group’s contractual repayment scheme, also described on page 79, customers can have their arrears balance capitalised once they have
demonstrated they can pay the original contractual minimum payment, but are unable to clear their arrears. This is usually demonstrated by the
customer making six consecutive contractual monthly payments. Customers are not, however, able to recapitalise more than twice in a five year
period. Such recapitalised loans are not considered to be impaired as the Group continues to expect to recover the original carrying amount of the
loan. Consequently, recapitalised mortgages will return to the non-impaired book and will be managed in accordance with the recapitalised terms of
the mortgage.
In addition, the Group participates in a number of UK Government sponsored programmes designed to support households, which are described on
page 78. Where these schemes provide borrowers with a state benefit that is used to service the loan, there is no change in the reported status of the
loan which is managed and reported in accordance with its original terms.
Repossessed collateral
Residential property
Other
Total repossessed collateral
2010
£m
1,046
32
1,078
2009
£m
1,353
701
2,054
In respect of retail portfolios, the Group does not take physical possession of properties or other assets held as collateral and uses external agents to
realise the value as soon as practicable, generally at auction, to settle indebtedness. Any surplus funds are returned to the borrower or are otherwise
dealt with in accordance with appropriate insolvency regulations. In certain circumstances the Group takes physical possession of assets held as
collateral against wholesale lending. In such cases, the assets are carried on the Group’s balance sheet and are classified according to the Group’s
accounting policies.
Loan-to-value ratio of mortgage lending
Analysis by loan-to-value ratio of the Group’s residential mortgage lending which is neither past due nor impaired:
Less than 70 per cent
70 per cent to 80 per cent
80 per cent to 90 per cent
Greater than 90 per cent
Total residential mortgage lending which is neither past due nor impaired
2010
£m
2009
£m
140,267
57,979
53,732
87,531
339,509
142,614
54,079
52,238
98,361
347,292
258
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
56 FINANCIAL RISK MANAGEMENT continued
An analysis of the Group’s debt securities, treasury and other bills and derivative financial instruments by credit rating is provided below.
AAA
£m
AA
£m
A
£m
BBB
£m
Rated BB
or lower
£m
Not rated
£m
Total
£m
As at 31 December 2010
Debt securities, treasury and other bills held at fair value
through profit or loss
Trading assets:
Government securities
Bank and building society certificates of deposit
Other asset-backed securities
Corporate and other debt securities
Total debt securities held as trading assets
Treasury bills and other bills
Total held as trading assets
Other assets held at fair value through profit or loss:
Government securities
Other public sector securities
Bank and building society certificates of deposit
Asset-backed securities:
Mortgage-backed securities
Other asset-backed securities
Corporate and other debt securities
Total other assets held at fair value through profit or loss
Total held at fair value through profit or loss
Derivative financial instruments
Trading and other
Hedging
Total derivative financial instruments
Debt securities classified as loans and receivables
Asset-backed securities:
Mortgage-backed securities
Other asset-backed securities
Corporate and other debt securities
Total debt securities classified as loans and receivables
Available-for-sale financial assets
Debt securities:
Government securities
Other public sector securities
Bank and building society certificates of deposit
Asset-backed securities:
Mortgage-backed securities
Other asset-backed securities
Corporate and other debt securities
Total debt securities
Treasury bills and other bills
Total held as available-for-sale financial assets
Held-to-maturity investments
Government securities
651
–
191
1,205
2,047
219
2,266
20,509
778
52
259
298
557
3,870
25,766
28,032
888
3,086
633
1,209
5,816
8
5,824
1,113
62
107
68
372
440
1,619
3,341
9,165
–
506
196
1,839
2,541
–
2,541
408
68
447
48
458
506
4,397
5,826
8,367
157
57
214
18,161
1,992
20,153
13,486
4,368
17,854
6,524
7,535
14,059
163
14,222
12,462
–
–
2,809
3,625
6,434
1,135
20,031
4,439
24,470
2,856
2,514
5,370
164
5,534
78
–
225
673
781
1,454
4,824
6,581
–
6,581
1,057
1,377
2,434
459
2,893
–
–
162
601
395
996
5,150
6,308
1,629
7,937
84
100
–
183
367
–
367
33
2
–
23
384
407
3,269
3,711
4,078
1,006
46
1,052
840
475
1,315
106
1,421
–
–
20
202
115
317
913
1,250
–
1,250
7,905
–
–
–
–
–
–
13
13
–
13
6
–
–
–
70
70
1,275
1,351
1,364
–
–
–
470
470
–
470
148
9
–
24
10
34
1,760
1,951
2,421
86
–
86
10,475
943
11,418
1,623
3,692
1,020
4,919
11,254
227
11,481
22,217
919
606
422
1,592
2,014
16,190
41,946
53,427
43,371
7,406
50,777
222
823
1,045
166
1,211
151
103
254
758
1,012
11,650
12,827
24,477
1,816
26,293
–
–
–
8
79
87
42
129
–
129
–
12
29
–
–
224
224
68
333
–
333
12,552
29
407
4,293
5,219
9,512
12,132
34,632
6,068
40,700
–
7,905
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
259
Lloyds Banking Group
Annual Report
and Accounts 2010
56 FINANCIAL RISK MANAGEMENT continued
An analysis of the Group’s debt securities, treasury and other bills and derivative financial instruments by credit rating is provided below.
AAA
£m
AA
£m
A
£m
BBB
£m
Rated BB
or lower
£m
Not rated
£m
Total
£m
As at 31 December 2009
Debt securities held at fair value through profit or loss
Trading assets:
Government securities
Other public sector securities
Bank and building society certificates of deposit
Other asset-backed securities
Corporate and other debt securities
Total held as trading assets
Other assets held at fair value through profit or loss:
Government securities
Other public sector securities
Asset-backed securities:
Mortgage-backed securities
Other asset-backed securities
Corporate and other debt securities
Total other assets held at fair value through profit or loss
Total held at fair value through profit or loss
Derivative financial instruments
Trading and other
Hedging
Total derivative financial instruments
Debt securities classified as loans and receivables
Asset-backed securities:
Mortgage-backed securities
Other asset-backed securities
Corporate and other debt securities
Total debt securities classified as loans and receivables
Available-for-sale financial assets
Debt securities:
Government securities
Other public sector securities
Bank and building society certificates of deposit
Asset-backed securities:
Mortgage-backed securities
Other asset-backed securities
Corporate and other debt securities
Total debt securities
Treasury bills and other bills
2,100
–
–
331
1,025
3,456
16,025
675
316
403
719
4,070
21,489
24,945
887
628
1,515
9,183
11,824
21,007
–
21,007
8,222
–
22
3,820
6,080
9,900
2,002
20,146
269
806
–
1,037
379
312
2,534
581
16
134
325
459
1,359
2,415
4,949
–
6
997
181
1,328
2,512
337
–
45
654
699
4,540
5,576
8,088
13,674
2,509
16,183
14,173
5,163
19,336
2,470
2,465
4,935
439
5,374
263
–
499
555
731
1,286
7,342
9,390
2,263
805
1,449
2,254
823
3,077
35
–
452
215
448
663
8,802
9,952
–
9,952
–
–
–
–
348
348
26
–
24
333
357
3,407
3,790
4,138
889
91
980
682
277
959
69
1,028
–
–
22
156
179
335
1,350
1,707
–
1,707
–
–
–
–
72
72
–
–
–
265
265
1,062
1,327
1,399
169
–
169
182
965
1,147
306
1,453
–
–
19
35
186
221
228
468
–
468
30
–
–
–
12
42
56
9
1
19
20
3,133
3,218
3,260
10,706
1,039
11,745
–
157
157
986
1,143
149
31
–
–
16
16
180
376
–
376
2,936
6
2,034
891
3,097
8,964
17,025
700
520
1,999
2,519
17,571
37,815
46,779
40,498
9,430
49,928
13,322
17,137
30,459
2,623
33,082
8,669
31
1,014
4,781
7,640
12,421
19,904
42,039
2,532
44,571
Total held as available-for-sale financial assets
20,415
11,653
260
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
56 FINANCIAL RISK MANAGEMENT continued
CREDIT MARKET EXPOSURES
The Group’s credit market exposures primarily relate to asset-backed securities exposures held in Wholesale division. These exposures are classified
as loans and receivables (note 24), available-for-sale financial assets (note 26) or trading and other financial assets at fair value through profit or loss
(note 18) depending on the nature of the investment.
Asset-backed securities
Mortgage-backed securities:
US residential mortgage-backed securities
Non-US residential mortgage-backed securities
Commercial mortgage-backed securities
Collateralised debt obligations:
Corporate
Commercial real estate
Other
Collateralised loan obligations
Personal sector:
Auto loans
Credit cards
Personal loans
Federal family education loan programme
Student loans
Other asset-backed securities
Total uncovered asset-backed securities
Negative basis1
Total Wholesale asset-backed securities
Direct
Conduits (note 23)
Total Wholesale asset-backed securities
1
Negative basis means bonds held with separate matching credit default swap protection.
Loans and
receivables Available-for-sale
£m
£m
Trading and other
financial assets at
fair value through
profit or loss
£m
Net exposure
as at
31 December
2010
£m
Net exposure
as at
31 December
2009
£m
4,242
4,916
2,397
11,555
43
306
106
3,578
4,033
569
1,795
663
3,027
–
2,982
1,119
4,101
–
–
39
1,108
1,147
339
338
263
940
5,078
2,699
572
24,265
–
24,265
15,860
8,405
24,265
463
9,350
42
9,392
5,369
4,023
9,392
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
1,067
1,067
1,067
–
1,067
4,242
7,898
3,516
15,656
43
306
145
4,686
5,180
908
2,133
926
3,967
7,777
1,035
33,615
1,109
34,724
22,296
12,428
34,724
4,826
9,655
3,737
18,218
86
509
196
5,745
6,536
1,730
3,720
999
6,449
9,244
1,183
41,630
1,233
42,863
27,599
15,264
42,863
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
261
Lloyds Banking Group
Annual Report
and Accounts 2010
56 FINANCIAL RISK MANAGEMENT continued
The table below sets out Wholesale division’s net exposure to US residential mortgage-backed securities (RMBS) by vintage.
Asset class
Prime
Alt-A
Sub-prime
Total net exposure to US RMBS
Pre-2005
£m
233
121
–
354
2005
£m
215
765
–
980
2006
£m
2007
£m
Net exposure
as at
31 December
2010
£m
Net exposure
as at
31 December
2009
£m
66
1,437
–
1,503
28
1,377
–
1,405
542
3,700
–
4,242
859
3,967
–
4,826
Exposures to monolines
During 2009 all exposure to sub-investment grade monolines on CDS contracts was written down to zero, leaving limited exposure to monoline
insurers as set out below.
Investment grade
Sub-investment grade
Total monoline insurers
Credit default swaps
Wrapped loans and receivables
Wrapped bonds
Notional
£m
1,060
–
1,060
Exposure1
£m
Notional
£m
Exposure2
£m
Notional
£m
Exposure3
£m
40
–
40
330
–
330
214
–
214
–
–
–
–
–
–
1
2
3
The exposure to monolines arising from credit default swaps is calculated as the mark-to-market of the CDS protection purchased from the monoline after credit valuation adjustments.
The exposure to monolines on wrapped loans and receivables and bonds is the internal assessment of amounts that will be recovered from the monoline guarantor on interest and principal shortfalls.
In addition, the Group has £1,985 million (31 December 2009: £2,703 million) of monoline wrapped bonds and £425 million ( 31 December 2009: £791 million) of monoline liquidity commitments on
which the Group currently places no reliance on the guarantor.
AAA
£m
AA
£m
A
£m
BBB
£m
BB
£m
B
£m
Below
B
£m
262
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
56 FINANCIAL RISK MANAGEMENT continued
An analysis of the Wholesale division’s asset-backed securities portfolio by credit rating is provided below.
Asset class
Mortgage-backed securities
US residential mortgage-backed securities:
Prime
Alt-A
Sub-prime
Non-US residential mortgage-backed securities
Commercial mortgage-backed securities
Collateralised debt obligations
Corporate
Commercial real estate
Other
Collateralised loan obligations
Personal sector
Auto loans
Credit cards
Personal loans
Net
Exposure
£m
542
3,700
–
4,242
7,898
3,516
15,656
43
306
145
4,686
5,180
908
2,133
926
3,967
312
2,037
–
2,349
6,170
754
9,273
5
18
–
760
783
764
1,762
230
2,756
Federal family education loan programme
Student loans
7,777
7,646
Other asset-backed securities
1,035
114
Negative basis1
Monolines
Banks
Total as at 31 December 2010
Total as at 31 December 2009
1,067
42
1,109
191
42
233
34,724
20,805
42,863
31,086
1
The external credit rating is based on the bond ignoring the benefit of the CDS.
110
801
–
911
1,415
1,390
3,716
27
–
–
82
591
–
673
237
637
1,547
–
–
–
2,189
2,216
1,210
1,210
44
–
325
369
48
68
371
306
745
–
–
633
–
633
7,310
6,375
26
186
–
212
76
585
873
–
105
–
140
245
–
–
65
65
64
9
66
–
75
–
62
137
–
128
105
234
467
32
–
–
32
19
296
517
108
243
–
243
3,713
2,915
–
–
–
1,764
1,276
–
–
–
763
725
3
19
–
22
–
–
22
–
27
–
98
–
–
–
–
–
88
88
11
28
40
55
125
134
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
147
92
222
394
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
263
Lloyds Banking Group
Annual Report
and Accounts 2010
56 FINANCIAL RISK MANAGEMENT continued
(4) LIQUIDITY RISK
The table below analyses assets and liabilities of the Group into relevant maturity groupings based on the remaining contractual period at the
balance sheet date; balances with no fixed maturity are included in the over 5 years category.
Maturities of assets and liabilities
As at 31 December 2010
Assets
Cash and balances at central banks
Trading and other financial assets at fair value through profit or loss
Derivative financial instruments
Loans and advances to banks
Loans and advances to customers
Debt securities held as loans and receivables
Available-for-sale financial assets
Held-to-maturity investments
Other assets
Total assets
Liabilities
Deposits from banks
Customer deposits
Derivative financial instruments, trading and other financial liabilities at
fair value through profit or loss
Debt securities in issue
Liabilities arising from insurance and investment contracts
Other liabilities
Subordinated liabilities
Total liabilities
As at 31 December 2009
Assets
Cash and balances at central banks
Trading and other financial assets at fair value through profit or loss
Derivative financial instruments
Loans and advances to banks
Loans and advances to customers
Debt securities held as loans and receivables
Available-for-sale financial assets
Other assets
Total assets
Liabilities
Deposits from banks
Customer deposits
Derivative financial instruments, trading and other financial liabilities at
fair value through profit or loss
Debt securities in issue
Liabilities arising from insurance and investment contracts
Other liabilities
Subordinated liabilities
Total liabilities
Up to
1 month
£m
1-3
months
£m
3-12
months
£m
1-5
years
£m
Over 5
years
£m
Total
£m
37,737
7,579
2,889
22,520
58,392
57
2,745
110
4,920
70
9,541
1,691
2,754
308
8,948
3,860
2,550
–
–
38,115
6,192
123,931
156,191
17,492
24,845
1,529
919
50,777
30,272
10,549
28,193
114,102
381,361
592,597
250
5,503
–
585
374
2,941
3,535
12,761
22,113
18,411
7,795
25,735
42,955
7,905
–
604
39,778
47,027
–
1,140
136,949
30,943
48,908
155,621
619,153
991,574
24,445
311,899
10,308
14,557
4,152
9,467
30,790
33,802
1,991
2,585
50,363
393,633
11,938
24,151
15,425
15,426
122
4,313
8,469
39,243
46,629
1,550
595
1,294
5,337
933
1,317
20,003
67,190
20,174
8,049
9,049
24,197
68,920
51,653
228,866
90,249
132,735
8,920
24,450
33,923
36,232
403,406
71,860
97,627
167,734
204,045
944,672
38,569
22,912
15,222
24,641
84,441
92
1,205
6,247
–
6,047
1,245
2,783
23
10,517
3,756
4,759
–
9,666
15,611
1,880
402
38,994
100,869
150,011
14,094
1,298
49,928
35,361
12,623
30,296
126,355
373,254
626,969
143
3,134
448
557
3,172
564
4,149
19,885
385
27,711
19,206
39,094
32,652
46,602
46,738
193,329
26,423
53,644
177,931
575,928
1,027,255
45,877
326,931
26,494
37,981
57,797
3,674
55
15,522
26,637
4,655
36,321
1,480
502
280
16,612
18,234
9,330
33,475
2,975
1,372
754
1,106
30,627
17,827
75,912
12,151
4,056
8,568
3,335
4,312
82,452
406,741
10,450
49,813
49,206
23,757
25,070
68,756
233,502
123,609
33,361
34,727
498,809
85,397
82,752
150,247
165,943
983,148
264
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
56 FINANCIAL RISK MANAGEMENT continued
The above tables are provided on a contractual basis. The Group’s assets and liabilities may be repaid or otherwise mature earlier or later than
implied by their contractual terms and readers are, therefore, advised to use caution when using this data to evaluate the Group’s liquidity position.
The table below analyses financial instrument liabilities of the Group, excluding those arising from insurance and participating investment contracts,
on an undiscounted future cash flow basis according to contractual maturity, into relevant maturity groupings based on the remaining period at the
balance sheet date; balances with no fixed maturity are included in the over 5 years category.
Up to
1 month
£m
1-3
months
£m
3-12
months
£m
1-5
years
£m
Over 5
years
£m
Total
£m
As at 31 December 2010
Deposits from banks
Customer deposits
Trading and other financial liabilities at fair value through profit or loss
Debt securities in issue
Liabilities arising from non-participating investment contracts
24,911
306,469
11,293
31,234
12,944
11,804
15,031
2,218
4,301
32,626
5,125
10,557
38,529
5,544
922
52,495
3,019
395,674
3,632
27,812
41,143
52,582
91,893
35,201
252,053
91
265
1,743
36,320
35,067
51,363
58,491
Subordinated liabilities
–
1,107
4,615
17,702
Total non-derivative financial liabilities
386,851
71,394
99,514
165,968
114,161
837,888
Derivative financial liabilities:
Gross settled derivatives – outflows
Gross settled derivatives – inflows
Gross settled derivatives – net flows
Net settled derivatives liabilities
Total derivative financial liabilities
As at 31 December 2009
Deposits from banks
Customer deposits
Trading and other financial liabilities at fair value through profit or loss
Debt securities in issue
Liabilities arising from non-participating investment contracts
Subordinated liabilities
Total non-derivative financial liabilities
Derivative financial liabilities:
Gross settled derivatives – outflows
Gross settled derivatives – inflows
Gross settled derivatives – net flows
Net settled derivatives liabilities
Total derivative financial liabilities
26,069
14,832
8,942
65,734
42,410
157,987
(10,442)
(14,978)
(9,270)
(66,232)
(41,815)
(142,737)
(146)
(328)
(498)
15,627
2,492
18,119
46,260
305,782
14,592
40,505
46,040
75
453,254
10,707
(6,547)
4,160
15,107
19,267
2,066
1,920
15,250
37,691
3,668
38,431
4
1,004
96,048
4,844
(4,501)
343
2,180
2,523
5,797
5,469
11,576
11,078
19,232
32,848
6,116
1,229
28,229
3,224
595
3,331
3,926
892
4,020
1,275
15,250
25,262
40,512
82,863
408,570
28,875
34,909
117,856
25,863
257,564
58
185
1,745
15,702
94,908
166,425
186
35,737
67,973
46,473
54,263
878,608
8,309
35,793
38,505
98,158
(8,165)
(35,306)
(36,311)
(90,830)
144
9,395
9,539
487
8,721
9,208
2,194
1,777
3,971
7,328
37,180
44,508
In addition, the Group has a maximum credit risk exposure of £22,975 million (2009: £18,021 million) in respect of financial guarantees.
The principal amount for undated subordinated liabilities with no redemption option is included within the over five years column; interest of
approximately £448 million (2009: £555 million) per annum which is payable in respect of those instruments for as long as they remain in issue is not
included beyond five years.
Further information on the Group’s liquidity exposures is provided on pages 93 to 97.
.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
265
Lloyds Banking Group
Annual Report
and Accounts 2010
56 FINANCIAL RISK MANAGEMENT continued
Liabilities arising from insurance and participating investment contracts are analysed on a behavioural basis, as permitted by IFRS 4, as follows:
As at 31 December 2010
As at 31 December 2009
Up to
1 month
£m
2,481
6,263
1-3
months
£m
1,459
2,303
3-12
months
£m
5,072
1-5
years
£m
Over 5
years
£m
Total
£m
18,431
53,286
80,729
4,796
17,890
44,927
76,179
The following tables set out the amounts and residual maturities of Lloyds Banking Group’s off balance sheet contingent liabilities and commitments.
31 December 2010
Acceptances
Other contingent liabilities
Total contingent liabilities
Lending commitments
Other commitments
Total commitments
Total contingents and commitments
31 December 2009
Acceptances
Other contingent liabilities
Total contingent liabilities
Lending commitments
Other commitments
Total commitments
Total contingents and commitments
Within
1 year
£m
1-3
years
£m
3-5
years
£m
Over 5
years
£m
Total
£m
48
–
–
–
48
1,897
1,248
269
717
4,131
1,945
1,248
269
717
4,179
76,456
22,537
13,424
3,739
116,156
1,038
77,494
79,439
Within
1 year
£m
59
2,670
2,729
82,997
921
83,918
86,647
61
22,598
23,846
1-3
years
£m
–
1,356
1,356
20,497
105
20,602
21,958
–
43
1,142
13,424
13,693
3-5
years
£m
–
1,144
1,144
18,040
14
18,054
19,198
3,782
117,298
4,499
121,477
Over 5
years
£m
–
879
879
Total
£m
59
6,049
6,108
6,003
127,537
6
1,046
6,009
6,888
128,583
134,691
57 CONSOLIDATED CASH FLOW STATEMENT
(A) CHANGE IN OPERATING ASSETS
Change in loans and receivables
Change in derivative financial instruments, trading and other financial assets at fair value through profit or loss
Change in other operating assets
Change in operating assets
2010
£m
40,101
(7,378)
(863)
31,860
2009
£m
50,935
12,063
(1,056)
61,942
266
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
57 CONSOLIDATED CASH FLOW STATEMENT continued
(B) CHANGE IN OPERATING LIABILITIES
Change in deposits from banks
Change in customer deposits
Change in debt securities in issue
Change in derivative financial instruments, trading and other liabilities at fair value through profit or loss
Change in investment contract liabilities
Change in other operating liabilities
Change in operating liabilities
(C) NON-CASH AND OTHER ITEMS
Depreciation and amortisation
Impairment of tangible fixed assets
Revaluation of investment properties
Allowance for loan losses
Write-off of allowance for loan losses
Impairment of available-for-sale financial assets
Impairment of goodwill
Change in insurance contract liabilities
Customer goodwill payments provision
Other provision movements
Net (credit) charge in respect of defined benefit schemes
Contributions to defined benefit schemes
Gain on acquisition
Other non-cash items
Total non-cash items
Interest expense on subordinated liabilities
Other
Total other items
Non-cash and other items
(D) ANALYSIS OF CASH AND CASH EQUIVALENTS AS SHOWN IN THE BALANCE SHEET
Cash and balances at central banks
Less: mandatory reserve deposits1
Loans and advances to banks
Less: amounts with a maturity of three months or more
Total cash and cash equivalents
2010
£m
(32,162)
(13,249)
(5,655)
160
8,161
(2,938)
(45,683)
2010
£m
2,432
202
(434)
10,771
(6,909)
106
–
4,021
500
49
(455)
(653)
–
(2,933)
6,697
3,619
857
4,476
11,173
2010
£m
38,115
(1,089)
37,026
30,272
(4,998)
25,274
62,300
2009
£m
(71,267)
11,474
(26,578)
(27,037)
5,415
2,066
(105,927)
2009
£m
2,560
–
214
16,028
(4,090)
602
240
5,986
–
95
529
(1,867)
(11,173)
(2,806)
6,318
2,550
39
2,589
8,907
2009
£m
38,994
(728)
38,266
35,361
(7,937)
27,424
65,690
1
Mandatory reserve deposits are held with local central banks in accordance with statutory requirements; these deposits are not available to finance the Group’s day-to-day operations.
Included within cash and cash equivalents at 31 December 2010 is £14,694 million (2009: £13,323 million) held within the Group’s life funds, which is
not immediately available for use in the business.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
267
Lloyds Banking Group
Annual Report
and Accounts 2010
57 CONSOLIDATED CASH FLOW STATEMENT continued
(E) ANALYSIS OF CHANGES IN FINANCING DURING THE YEAR
Share capital (including share premium account and merger reserve):
At 1 January
Issued on acquisition of HBOS
Transfer to capital redemption reserve
Issued on redemption of preference shares and other subordinated securities in 2010
Cash proceeds from issue of share capital:
Placing and open offer
Placing and compensatory open offer
Rights issue
Other
At 31 December
Non-controlling interests:
At 1 January
Exchange and other adjustments
Adjustment on acquisition of HBOS
Repayment of capital to and extinguishment of non-controlling interests
Change in non-controlling interests
Minority share of profit after tax
Dividends paid to non-controlling interests
At 31 December
Subordinated liabilities:
At 1 January
Exchange and other adjustments
Adjustment on acquisition of HBOS
Issue of subordinated liabilities
Repayment of subordinated liabilities
At 31 December
2010
£m
33,065
–
(4,089)
2,237
–
–
–
–
–
31,213
2010
£m
829
(5)
–
–
2
62
(47)
841
2010
£m
34,727
(1,048)
–
3,237
(684)
36,232
2009
£m
3,952
7,651
(26)
–
4,430
3,905
13,112
41
21,488
33,065
2009
£m
306
(19)
5,567
(5,035)
–
126
(116)
829
2009
£m
17,256
133
20,048
4,187
(6,897)
34,727
268
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
57 CONSOLIDATED CASH FLOW STATEMENT continued
(F) ACQUISITION OF GROUP UNDERTAKINGS AND BUSINESSES
Net assets acquired:
Cash and balances at central banks
Derivatives, trading and other financial assets at fair value through profit or loss
Loans and receivables:
Loans and advances to customers
Loans and advances to banks
Debt securities
Available-for-sale financial assets
Investment properties
Value of in-force business
Intangible assets
Tangible fixed assets
Other assets
Deposits from banks
Customer deposits
Derivatives, trading and other financial liabilities at fair value through profit or loss
Debt securities in issue
Insurance liabilities
Liabilities arising from non-participating investment contracts
Other liabilities
Retirement benefit obligations
Subordinated liabilities
Preference shares
Non-controlling interests
Total net assets acquired
Satisfied by:
Issue of shares
Gain on acquisition
Cash and cash equivalents acquired, net of acquisition costs
–
16,341
Net cash inflow arising from acquisition of HBOS
Acquisition of and additional investment in joint ventures
Net cash (outflow) inflow arising from acquisitions in the year
Payments to former members of Scottish Widows Fund and Life Assurance Society acquired during 2000
Net cash (outflow) inflow
(G) DISPOSAL AND CLOSURE OF GROUP UNDERTAKINGS AND BUSINESSES
Intangible assets
Other net assets and liabilities
Net cash inflow from disposals
–
–
(65)
(65)
(8)
(73)
2010
£m
–
428
428
2010
£m
2009
£m
–
–
–
–
–
38,408
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
2,123
137,889
436,839
15,794
491,041
27,151
3,002
3,713
4,754
5,707
11,398
(87,840)
(224,694)
(62,158)
(185,319)
(36,687)
(28,181)
(17,316)
(358)
(20,048)
(3,917)
(1,300)
18,960
(7,651)
(11,173)
(2,483)
16,477
(215)
16,262
(35)
16,227
2009
£m
170
241
411
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
269
Lloyds Banking Group
Annual Report
and Accounts 2010
58 FUTURE ACCOUNTING DEVELOPMENTS
The following pronouncements will be relevant to the Group but were not effective at 31 December 2010 and have not been applied in preparing
these financial statements. The full impact of these accounting changes is being assessed by the Group.
Pronouncement
Nature of change
Amendment to IAS 32 Financial
Instruments: Presentation –
‘Classification of Rights Issues’
Requires rights issues denominated in a currency other than the functional
currency of the issuer to be classified as equity regardless of the currency in
which the exercise price is denominated.
Improvements to IFRSs
(issued May 2010)
Sets out minor amendments to IFRS standards as part of the annual
improvements process.
IFRIC 19 Extinguishing Financial
Liabilities with Equity Instruments
Amendment to IFRIC 14
Prepayments of a Minimum
Funding Requirement
Clarifies that when an entity renegotiates the terms of its debt with the
result that the liability is extinguished by the debtor issuing its own equity
instruments to the creditor, a gain or loss is recognised in the income
statement representing the difference between the carrying value of the
financial liability and the fair value of the equity instruments issued; the
fair value of the financial liability is used to measure the gain or loss where
the fair value of the equity instruments cannot be reliably measured. This
interpretation is consistent with the Group’s existing accounting policy.
Applies when an entity is subject to minimum funding requirements in respect
of its defined benefit plans and makes an early payment of contributions to
cover those requirements and permits such an entity to treat the benefit of
such an early payment as an asset.
IASB effective date
Annual periods beginning
on or after 1 February 2010.
Dealt with on a standard
by standard basis but not
earlier than annual periods
beginning on or after
1 July 2010.
Annual periods beginning
on or after 1 July 2010.
Annual periods beginning
on or after 1 January 2011.
Amendments to IAS 24 Related
Party Disclosures
Simplifies the definition of a related party and provides a partial exemption
from the disclosure requirements for related party transactions with
government related entities.
Annual periods beginning
on or after 1 January 2011.
Amendments to IFRS 7 Financial
Instruments Disclosures –
‘Disclosures-Transfers of Financial
Assets’
Requires additional disclosures in respect of risk exposures arising from
transferred financial assets.
Annual periods beginning
on or after 1 July 2011.
Amendments to IAS 12 Income
Taxes – ‘Deferred Tax: Recovery of
Underlying Assets’
Introduces a rebuttable presumption that investment property measured at
fair value is recovered entirely through sale and that deferred tax in respect
of such investment property is recognised on that basis.
Annual periods beginning
on or after 1 January 2012.
IFRS 9 Financial Instruments1
Replaces those parts of IAS 39 Financial Instruments: Recognition
and Measurement relating to the classification, measurement and
derecognition of financial assets and liabilities. Requires financial assets
to be classified into two measurement categories, fair value and amortised
cost, on the basis of the objectives of the entity’s business model for
managing its financial assets and the contractual cash flow characteristics
of the instrument. The available-for-sale financial asset and held-to-
maturity investment categories in the existing IAS 39 will be eliminated.
The requirements for financial liabilities and derecognition are broadly
unchanged from IAS 39.
Annual periods beginning
on or after 1 January 2013.
1
IFRS 9 is the initial stage of the project to replace IAS 39. Future stages are expected to result in amendments to IFRS 9 to deal with changes to the impairment of financial assets measured at
amortised cost and hedge accounting. Until all stages of the replacement project are complete, it is not possible to determine the overall impact on the financial statements of the replacement of
IAS 39. The effective date of the standard is annual periods beginning on or after 1 January 2013.
At the date of this report, IFRS 9, the Amendments to IFRS 7 and the Amendments to IAS 12 are awaiting EU endorsement.
270
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
59 POST BALANCE SHEET EVENTS
Lloyds Banking Group has been in discussion with the FSA regarding the application of an interest variation clause in certain Bank of Scotland plc
variable rate mortgage contracts where the wording in the offer documents received by certain customers had the potential to cause confusion.
The relevant mortgages were written between 2004 and 2007 by Bank of Scotland plc under the ‘Halifax’ brand. In February 2011, the Group reached
agreement with the FSA in relation to initiating a customer review and contact programme and making goodwill payments to affected customers.
In order to make these goodwill payments, Bank of Scotland plc has applied for a Voluntary Variation of Permission to carry out the customer
review and contact programme to bring it within section 404F(7) of FSMA 2000. The Group has made a provision of £500 million in relation to
this programme.
60 APPROVAL OF FINANCIAL STATEMENTS
The consolidated financial statements were approved by the directors of Lloyds Banking Group plc on 24 February 2011.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
271
Lloyds Banking Group
Annual Report
and Accounts 2010
PARENT COMPANY
FINANCIAL STATEMENTS
Report of the independent auditors on the
parent company financial statements
Parent company balance sheet
Parent company statement of changes in equity
Parent company cash flow statement
Notes to the parent company financial statements
272
273
274
275
276
1. Accounting policies
2. Deferred tax asset
3. Amounts due from subsidiaries
4. Share capital and share premium
5. Other reserves
6. Retained profits
7.
Subordinated liabilities
8. Debt securities in issue
9. Related party transactions
10. Financial instruments
11. Post balance sheet events
12. Approval of the financial statements
and other information
272
Lloyds Banking Group
Annual Report
and Accounts 2010
REPORT OF THE INDEPENDENT AUDITORS ON THE
PARENT COMPANY FINANCIAL STATEMENTS
INDEPENDENT AUDITORS’ REPORT TO THE MEMBERS OF LLOYDS BANKING GROUP PLC
We have audited the parent company financial statements of Lloyds Banking Group plc for the year ended 31 December 2010 which comprise the
parent company balance sheet, the parent company statement of changes in equity, the parent company cash flow statement and the related notes.
The financial reporting framework that has been applied in their preparation is applicable law and International Financial Reporting Standards (IFRSs)
as adopted by the European Union and as applied in accordance with the provisions of the Companies Act 2006.
RESPECTIVE RESPONSIBILITIES OF DIRECTORS AND AUDITORS
As explained more fully in the Directors’ Responsibilities Statement on page 122, the directors are responsible for the preparation of the parent
company financial statements and for being satisfied that they give a true and fair view. Our responsibility is to audit and express an opinion on the
parent company financial statements in accordance with applicable law and International Standards on Auditing (UK and Ireland). Those standards
require us to comply with the Auditing Practices Board’s Ethical Standards for Auditors.
This report, including the opinions, has been prepared for and only for the Company’s members as a body in accordance with Chapter 3 of Part 16 of
the Companies Act 2006 and for no other purpose. We do not, in giving these opinions, accept or assume responsibility for any other purpose or to
any other person to whom this report is shown or into whose hands it may come save where expressly agreed by our prior consent in writing.
SCOPE OF THE AUDIT OF THE FINANCIAL STATEMENTS
An audit involves obtaining evidence about the amounts and disclosures in the financial statements sufficient to give reasonable assurance that the
financial statements are free from material misstatement, whether caused by fraud or error. This includes an assessment of: whether the accounting
policies are appropriate to the parent company’s circumstances and have been consistently applied and adequately disclosed; the reasonableness of
significant accounting estimates made by the directors; and the overall presentation of the financial statements.
OPINION ON FINANCIAL STATEMENTS
In our opinion the parent company financial statements:
– give a true and fair view of the state of the Company’s affairs as at 31 December 2010 and of its cash flows for the year then ended;
– have been properly prepared in accordance with IFRSs as adopted by the European Union and as applied in accordance with the provisions of the
Companies Act 2006; and
– have been prepared in accordance with the requirements of the Companies Act 2006.
OPINION ON OTHER MATTERS PRESCRIBED BY THE COMPANIES ACT 2006
In our opinion:
– the part of the Directors’ Remuneration Report to be audited has been properly prepared in accordance with the Companies Act 2006; and
– the information given in the Directors’ Report for the financial year for which the parent company financial statements are prepared is consistent
with the parent company financial statements.
MATTERS ON WHICH WE ARE REQUIRED TO REPORT BY EXCEPTION
We have nothing to report in respect of the following matters where the Companies Act 2006 requires us to report to you if, in our opinion:
– adequate accounting records have not been kept by the parent company, or returns adequate for our audit have not been received from branches
not visited by us; or
– the parent company financial statements and the part of the Directors’ Remuneration Report to be audited are not in agreement with the
accounting records and returns; or
– certain disclosures of directors’ remuneration specified by law are not made; or
– we have not received all the information and explanations we require for our audit.
OTHER MATTER
We have reported separately on the group financial statements of Lloyds Banking Group plc for the year ended 31 December 2010.
Ian Rankin
Senior Statutory Auditor
for and on behalf of PricewaterhouseCoopers LLP
Chartered Accountants and Statutory Auditors
Edinburgh
24 February 2011
(a)
The maintenance and integrity of the Lloyds Banking Group plc website is the responsibility of the directors; the work carried out by the auditors
does not involve consideration of these matters and, accordingly, the auditors accept no responsibility for any changes that may have occurred
to the financial statements since they were initially presented on the website.
(b) Legislation in the United Kingdom governing the preparation and dissemination of financial statements may differ from legislation in other
jurisdictions.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
273
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
144
146
153
272
273
Lloyds Banking Group
Annual Report
and Accounts 2010
PARENT COMPANY BALANCE SHEET
at 31 December 2010
Notes to the parent company
financial statements
276
Assets
Non-current assets:
Investment in subsidiaries
Loans to subsidiaries
Deferred tax asset
Current assets:
Derivative financial instruments
Other assets
Amounts due from subsidiaries
Cash and cash equivalents
Current tax recoverable
Total assets
Equity and liabilities
Capital and reserves:
Share capital
Share premium account
Merger reserve
Capital redemption reserve
Retained profits
Total equity
Non-current liabilities:
Subordinated liabilities
Current liabilities:
Debt securities in issue
Other liabilities
Total liabilities
Total equity and liabilities
The accompanying notes are an integral part of the parent company financial statements.
The directors approved the parent company financial statements on 24 February 2011.
Sir Winfried Bischoff
Chairman
J Eric Daniels
Group Chief Executive
Tim J W Tookey
Group Finance Director
Note
2010
£ million
2009
£ million
9
9
2
3
4
4
5
5
6
7
8
38,194
8,332
6
46,532
1,664
1,040
217
375
109
3,405
49,937
6,815
16,291
7,764
4,115
2,276
37,261
32,584
7,466
3
40,053
2,260
304
1,446
2,837
72
6,919
46,972
10,472
14,472
7,778
26
2,547
35,295
4,074
4,205
549
8,053
8,602
12,676
49,937
326
7,146
7,472
11,677
46,972
274
Lloyds Banking Group
Annual Report
and Accounts 2010
PARENT COMPANY STATEMENT OF CHANGES IN EQUITY
at 31 December 2010
Balance at 1 January 2009
Total comprehensive income1
Issue of ordinary shares:
Placing and open offer
Issued on acquisition of HBOS
Placing and compensatory open offer
Rights issue
Issued to Lloyds TSB Foundations
Transfer to merger reserve
Redemption of preference shares
Purchase/sale of treasury shares
Employee share option schemes:
Value of employee services
Balance at 31 December 2009
Total comprehensive income1
Issue of ordinary shares
Cancellation of deferred shares
Redemption of preference shares
Purchase/sale of treasury shares
Employee share option schemes:
Value of employee services
Balance at 31 December 2010
Share capital
and premium
£ million
3,609
–
649
1,944
3,905
13,112
41
(1,000)
2,684
–
–
24,944
–
2,237
(4,086)
11
–
–
Merger
reserve
£ million
–
–
3,781
5,707
–
–
–
1,000
(2,710)
–
–
7,778
–
–
–
(14)
–
–
Capital
redemption
reserve
£ million
–
–
–
–
–
–
–
26
–
–
26
–
–
4,086
3
–
–
23,106
7,764
4,115
Retained
profits1
£ million
2,147
303
–
–
–
–
–
–
–
23
74
2,547
(799)
–
–
–
399
Total
£ million
5,756
303
4,430
7,651
3,905
13,112
41
–
–
23
74
35,295
(799)
2,237
–
–
399
129
2,276
129
37,261
1
Total comprehensive income comprises only the profit (loss) for the year; no income statement has been shown for the parent company, as permitted by section 408 of the Companies Act 2006.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group chief executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
273
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
144
146
153
272
275
Lloyds Banking Group
Annual Report
and Accounts 2010
PARENT COMPANY CASH FLOW STATEMENT
at 31 December 2010
Notes to the parent company
financial statements
276
(Loss) profit before tax
Dividend income
Fair value and exchange adjustments
Change in other assets
Change in other liabilities and other items
Tax received (paid)
Net cash (used in) provided by operating activities
Cash flows from investing activities
Costs incurred in respect of the acquisition of HBOS plc
Additional capital injection into HBOS plc
Additional capital injection into Lloyds TSB Bank plc
Amounts advanced to subsidiaries
Redemption of loans to subsidiaries
Net cash used in investing activities
Cash flows from financing activities
Dividends received from subsidiaries
Proceeds from issue of debt securities
Repayment of debt securities in issue
Proceeds from issue of subordinated liabilities
Repayment of subordinated liabilities
Proceeds from issue of ordinary shares
Net cash provided by financing activities
Change in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year
The accompanying notes are an integral part of the parent company financial statements.
2010
£ million
(961)
–
198
1,021
(2,466)
122
(2,086)
–
–
–
(1,425)
850
(575)
–
549
(350)
–
–
–
199
(2,462)
2,837
375
2009
£ million
182
(354)
(428)
(1,277)
7,020
(70)
5,073
(138)
(8,500)
(5,600)
(7,593)
1,552
(20,279)
354
–
(2,045)
1,000
(4,000)
21,533
16,842
1,636
1,201
2,837
276
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE PARENT COMPANY FINANCIAL STATEMENTS
1 ACCOUNTING POLICIES
The Company has applied International Financial Reporting Standards as adopted by the European Union in its financial statements for the year
ended 31 December 2010. IFRS comprises accounting standards prefixed IFRS issued by the International Accounting Standards Board and
those prefixed IAS issued by the IASB’s predecessor body as well as interpretations issued by the International Financial Reporting Interpretations
Committee and its predecessor body. The EU endorsed version of IAS 39 Financial Instruments: Recognition and Measurement relaxes some of the
hedge accounting requirements; the Company has not taken advantage of this relaxation, and therefore there is no difference in application to the
Company between IFRS as adopted by the EU and IFRS as issued by the IASB.
The financial information has been prepared under the historical cost convention, as modified by the revaluation of all derivative contracts.
The accounting policies of the Company are the same as those of the Group which are set out in note 2 to the consolidated financial statements,
except that it has no policy in respect of consolidation and investments in subsidiaries are carried at historical cost, less any provisions for impairment.
2 DEFERRED TAX ASSET
The movement in the net deferred tax asset is as follows:
At 1 January
Income statement credit
At 31 December
The deferred tax asset relates to temporary differences.
3 AMOUNTS DUE FROM SUBSIDIARIES
2010
£m
3
3
6
2009
£m
–
3
3
These comprise short-term lending to subsidiaries, repayable on demand. The fair values of amounts owed by subsidiaries are equal to their carrying
amounts. No provisions have been recognised in respect of amounts owed by subsidiaries.
4 SHARE CAPITAL AND SHARE PREMIUM
Details of the Company’s share capital and share premium account are as set out in notes 47 and 48 to the consolidated financial statements.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group chief executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
277
Lloyds Banking Group
Annual Report
and Accounts 2010
5 OTHER RESERVES
The merger reserve comprises the premium on shares issued on 13 January 2009 under the placing and open offer and shares issued on 16 January
2009 on the acquisition of HBOS plc.
The capital redemption reserve represents transfers from the merger reserve in accordance with companies’ legislation and amounts transferred from
share capital following the cancellation of the deferred shares.
Movements in other reserves were as follows:
Merger reserve
At 1 January
Placing and open offer
Shares issued on acquisition of HBOS
Issue of preference shares1
Redemption of preference shares2
At 31 December
Capital redemption reserve
At 1 January
Redemption of preference shares2
Cancellation of deferred shares
At 31 December
2010
£m
7,778
–
–
–
(14)
7,764
2010
£m
26
3
4,086
4,115
2009
£m
–
3,781
5,707
1,000
(2,710)
7,778
2009
£m
–
26
–
26
1
2
Distributable reserves of £1,000 million arose on the issue of preference shares in January 2009 which were classified as debt. In June 2009, these preference shares were redeemed out of the
proceeds of the placing and compensatory open offer of ordinary shares and the distributable element of this issue was transferred to the merger reserve.
In January 2010, the Company repurchased and cancelled certain preference shares amounting to £14 million. This resulted in a transfer of £3 million from the merger reserve to the capital
redemption reserve and a transfer of £11 million from the merger reserve to the share premium account. Details of the preference shares redeemed are set out in note 46 to the consolidated financial
statements. In December 2009, the Group redeemed eight issues of preference shares in exchange for the issuance of enhanced capital notes. This resulted in a transfer of £26 million from the
merger reserve to the capital redemption reserve and a transfer of £2,684 million from the merger reserve to the share premium account.
6 RETAINED PROFITS
At 1 January 2009
Profit for the year
Purchase/sale of treasury shares
Employee share option schemes: value of employee services
At 31 December 2009
Loss for the year
Purchase/sale of treasury shares
Employee share option schemes: value of employee services
At 31 December 2010
Details of the Company’s dividends are as set out in note 51 to the consolidated financial statements.
£m
2,147
303
23
74
2,547
(799)
399
129
2,276
278
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE PARENT COMPANY FINANCIAL STATEMENTS
7 SUBORDINATED LIABILITIES
These liabilities will, in the event of the winding-up of the issuer, be subordinated to the claims of depositors and all other creditors of the issuer.
Any repayments of subordinated liabilities require the consent of the Financial Services Authority.
Preference shares
Fixed/Floating Rate Non-Cumulative Callable Preference Shares callable 2016 (US$1,000 million)
7.875% Non-Cumulative Preference Shares (€500 million)
7.875% Non-Cumulative Preference Shares (US$1,250 million)
91/4% Non-Cumulative Irredeemable Preference Shares (£300 million)
93/4% Non-Cumulative Irredeemable Preference Shares (£100 million)
6.475% Non-Cumulative Preference Shares (£186 million)
6.0884% Non-Cumulative Fixed to Floating Rate Preference Shares (£745 million)
6.3673% Non-Cumulative Fixed to Floating Rate Preference Shares (£335 million)
6.413% preference shares (US$750 million)
5.92% preference shares (US$750 million)
6.657% preference shares (US$750 million)
6% Non-Cumulative Redeemable Preference Shares
Total preference shares
Undated subordinated liabilities
6% Undated Subordinated Step-up Guaranteed Bonds callable 2032 (£500 million)
Note
a
a
a
a
a
a
a
a
a
a
a
a
b
6.475% Undated Subordinated Notes callable 2024 (£102 million)
6.0884% Undated Subordinated Notes callable 2015 (£732 million)
6.3673% Undated Subordinated Notes callable 2019 (£331 million)
6.369% Undated Subordinated Notes callable 2015 (£597 million)
6.413% Undated Subordinated Notes callable 2035 (US$375 million)
5.92% Undated Subordinated Notes callable 2015 (US$378 million)
6.657% Undated Subordinated Notes callable 2037 (US$316 million)
6.267% Undated Subordinated Notes callable 2016 (US$466 million)
Total undated subordinated liabilities
Dated subordinated liabilities
91/8% Subordinated Bonds 2011 (£150 million)
57/8% Subordinated Guaranteed Bonds 2014 (€750 million)
Total dated subordinated liabilities
Total subordinated liabilities
2010
£m
279
57
119
239
49
34
9
2
98
110
115
–
1,111
11
80
578
266
480
155
164
130
198
2,062
152
749
901
4,074
2009
£m
327
115
236
216
79
45
10
2
82
167
97
–
1,376
117
72
520
234
420
133
135
112
166
1,909
152
768
920
4,205
a Further information regarding these issues can be found in note 46 to the consolidated financial statements.
b In certain circumstances, these bonds would acquire the characteristics of preference share capital. They are accounted for as liabilities as coupon payments are mandatory as a consequence of
the terms of the 6 per cent non-cumulative redeemable preference shares. At the callable date the coupon on these bonds will be reset by reference to the applicable five year benchmark gilt rate.
Further information regarding this can be found in note 46 to the consolidated financial statements.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group chief executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
279
Lloyds Banking Group
Annual Report
and Accounts 2010
8 DEBT SECURITIES IN ISSUE
These comprise US$862.5 million 7.75% Public Income Notes due 2050 issued by the Company in July 2010. The debt securities in issue in 2009
comprised US$528 million Thirteen-Month Extendible Short-Term Notes issued by the Company in July 2008.
9 RELATED PARTY TRANSACTIONS
In January 2009 HM Treasury became a related party of the Company and has remained so during 2010. Further information on the relationship
and transactions with HM Treasury is given in note 53 to the consolidated financial statements.
KEY MANAGEMENT PERSONNEL
The key management personnel of the Group and the Company are the same. The relevant disclosures are given in note 53 to the consolidated
financial statements.
The Company has no employees (2009: nil).
As discussed in note 52 to the consolidated financial statements, the Group provides share-based compensation to employees through a number
of schemes; these are all in relation to shares in the Company and the cost of providing those benefits is recharged to the employing companies in
the Group on a cash basis.
INVESTMENT IN SUBSIDIARIES
At 1 January
Investment in HBOS plc:
Acquisition of ordinary share capital
Purchase of preference share capital
Additional capital injections
Capital injections into Lloyds TSB Bank plc
Transfer of HBOS to Lloyds TSB Bank plc
Total investment in subsidiaries
2010
£m
32,584
–
–
–
–
27,005
(21,395)
38,194
2009
£m
5,589
7,787
3,917
9,691
21,395
5,600
–
32,584
As part of a reorganisation of the Lloyds Banking Group on 1 January 2010, the Company transferred its direct investment in 100 per cent of the
issued ordinary share capital of HBOS plc to its subsidiary, Lloyds TSB Bank plc. The consideration for this transfer was the issue of 21.4 million shares
by Lloyds TSB Bank plc to the Company for a total value of £21,395 million.
The principal subsidiaries, all of which have prepared accounts to 31 December and whose results are included in the consolidated accounts of
Lloyds Banking Group plc, are:
Lloyds TSB Bank plc
Scottish Widows plc
HBOS plc
Bank of Scotland plc
HBOS Insurance & Investment Group Limited
St. Andrew’s Insurance plc
Clerical Medical Investment Group Limited
Clerical Medical Managed Funds Limited
1
Indirect interest.
Country of
registration/
incorporation
England
Scotland
Scotland
Scotland
England
England
England
England
Percentage
of equity
share capital
and voting
rights held
100%
100%1
100%1
100%1
100%1
100%1
100%1
100%1
Nature of business
Banking and financial services
Life assurance
Holding company
Banking and financial services
Holding company
General insurance
Life assurance
Life assurance
The principal area of operation for each of the above subsidiaries is the United Kingdom.
280
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE PARENT COMPANY FINANCIAL STATEMENTS
9 RELATED PARTY TRANSACTIONS continued
In November 2009, as part of the restructuring plan that was a requirement for European Commission approval of state aid received by the Group,
Lloyds Banking Group agreed to suspend the payment of coupons and dividends on certain of the Group’s preference shares and preferred
securities for the two year period from 31 January 2010 to 31 January 2012. The Group has also agreed to temporarily suspend and/or waive
dividend payments on certain preference shares which have been issued intra-group. Consequently, in accordance with the terms of some of these
instruments, subsidiaries may be prevented from making dividend payments on ordinary shares during this period. In addition, certain subsidiary
companies currently have insufficient distributable reserves to make dividend payments.
Subject to the foregoing, there were no further significant restrictions on any of the Company’s subsidiaries in paying dividends or repaying loans
and advances. All regulated banking and insurance subsidiaries are required to maintain capital at levels agreed with the regulators; this may impact
those subsidiaries’ ability to make distributions.
Loans to subsidiaries
At 1 January
Exchange and other adjustments
Amounts advanced
Redemptions
At 31 December
2010
£m
7,466
291
1,425
(850)
8,332
2009
£m
3,009
(395)
6,404
(1,552)
7,466
In addition the Company carried out banking activities through its subsidiary, Lloyds TSB Bank plc. At 31 December 2010, the Company held deposits
of £375 million with Lloyds TSB Bank plc (2009: £2,837 million). Given the volume of transactions flowing through the account, it is not meaningful
to provide gross inflow and outflow information. Included within subordinated liabilities is £2,073 million (2009: £1,899 million) and within other
liabilities is £7,988 million (2009: £6,999 million) due to subsidiary undertakings. In addition, at 31 December 2010 the Company had interest rate and
currency swaps with Lloyds TSB Bank plc with an aggregate notional principal amount of £2,504 million and a net positive fair value of £1,664 million
(2009: notional principal amount of £11,373 million and a net positive fair value of £2,260 million), of which contracts with an aggregate notional
principal amount of £1,754 million and a net positive fair value of £330 million (2009: notional principal amount of £1,460 million and a net positive fair
value of £343 million) were designated as fair value hedges to manage the Company’s issuance of subordinated liabilities and debt securities in issue.
Related party information in respect of other related party transactions is given in note 53 to the consolidated financial statements.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group chief executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
281
Lloyds Banking Group
Annual Report
and Accounts 2010
10 FINANCIAL INSTRUMENTS
MEASUREMENT BASIS OF FINANCIAL ASSETS AND LIABILITIES
The accounting policies in note 2 to the consolidated financial statements describe how different classes of financial instruments are measured, and
how income and expenses, including fair value gains and losses, are recognised. The following table analyses the carrying amounts of the Company’s
financial assets and liabilities by category and by balance sheet heading.
Derivatives designated as
hedging instruments, held
at fair value through
profit or loss
£m
Held for
trading at fair
value through
profit or loss
£m
Loans and
receivables
£m
Held at
amortised
cost
£m
As at 31 December 2010
Financial assets:
Cash and cash equivalents
Derivative financial instruments
Loans to subsidiaries
Amounts due from subsidiaries
Total financial assets
Financial liabilities:
Debt securities in issue
Subordinated liabilities
Total financial liabilities
As at 31 December 2009
Financial assets:
Cash and cash equivalents
Derivative financial instruments
Loans to subsidiaries
Amounts due from subsidiaries
Total financial assets
Financial liabilities:
Debt securities in issue
Subordinated liabilities
Total financial liabilities
–
330
–
–
330
–
–
–
–
343
–
–
343
–
–
–
–
1,334
–
–
1,334
–
–
–
–
1,917
–
–
1,917
–
–
–
–
–
8,332
217
8,549
–
–
–
–
–
7,466
1,446
8,912
–
–
–
Total
£m
375
1,664
8,332
217
375
–
–
–
375
10,588
549
4,074
4,623
2,837
–
–
–
549
4,074
4,623
2,837
2,260
7,466
1,446
2,837
14,009
326
4,205
4,531
326
4,205
4,531
Note 55 to the consolidated financial statements outlines the valuation hierarchy into which financial instruments measured at fair value
are categorised.
The derivative assets designated as hedging instruments represent level 2 portfolios. Of derivative assets classified as held for trading (not being
designated as hedging instruments) shown above, £157 million (31 December 2009: £120 million) represents level 2 portfolios and £1,177 million
(31 December 2009: £1,797 million) represents level 3 portfolios. The level 3 derivatives reflect the value of the equity conversion feature of
the Enhanced Capital Notes issued in December 2009 as part of Lloyds Banking Group’s recapitalisation and exit from the Government Asset
Protection Scheme.
The following reconciliation shows the movements in derivative financial instrument assets within level 3 portfolios:
As at 31 December 2009
Losses recognised in the income statement
As at 31 December 2010
Total
£m
1,797
(620)
1,177
282
Lloyds Banking Group
Annual Report
and Accounts 2010
NOTES TO THE PARENT COMPANY FINANCIAL STATEMENTS
10 FINANCIAL INSTRUMENTS continued
INTEREST RATE RISK AND CURRENCY RISK
The Company is exposed to interest rate risk and currency risk on its debt securities in issue and its subordinated debt.
As discussed in note 9, the Company has entered into interest rate and currency swaps with its subsidiary, Lloyds TSB Bank plc, to manage these risks.
CREDIT RISK
The majority of the Company’s credit risk arises from amounts due from its wholly owned subsidiary, Lloyds TSB Bank plc, and subsidiaries of this
company.
LIQUIDITY RISK
The table below analyses financial instrument liabilities of the Company, on an undiscounted future cash flow basis according to contractual maturity,
into relevant maturity groupings based on the remaining period at the balance sheet date; balances with no fixed maturity are included in the over
5 years category.
As at 31 December 2010
Debt securities in issue
Subordinated liabilities
Total financial instrument liabilities
As at 31 December 2009
Debt securities in issue
Subordinated liabilities
Total financial instrument liabilities
Up to
1 month
£m
1-3
months
£m
3-12
months
£m
11
–
11
–
–
–
–
–
–
326
878
1,204
32
202
234
–
53
53
1-5
years
£m
728
4,024
4,752
–
2,316
2,316
Over 5
years
£m
–
2,380
2,380
–
4,323
4,323
Total
£m
771
6,606
7,377
326
7,570
7,896
The principal amount for undated subordinated liabilities with no redemption option is included within the over 5 years column; interest of
approximately £302 million (2009: £282 million) per annum which is payable in respect of those instruments for as long as they remain in issue is not
included beyond 5 years.
10 FINANCIAL INSTRUMENTS
FAIR VALUES OF FINANCIAL ASSETS AND LIABILITIES
The valuation techniques for the Company’s financial instruments are as discussed in note 55 to the consolidated financial statements.
Financial assets:
Cash and cash equivalents
Derivative financial instruments
Loans to subsidiaries
Amounts due from subsidiaries
Financial liabilities:
Debt securities in issue
Subordinated liabilities
Carrying
value
2010
£m
375
1,664
8,332
217
549
4,074
Carrying
value
2009
£m
2,837
2,260
7,466
1,446
326
4,205
Fair
value
2010
£m
375
1,664
8,713
217
549
4,207
Fair
value
2009
£m
2,837
2,260
7,816
1,446
326
3,995
11 POST BALANCE SHEET EVENTS
Details of the Company’s post balance sheet events are set out in note 59 to the consolidated financial statements.
12 APPROVAL OF THE FINANCIAL STATEMENTS AND OTHER INFORMATION
The parent company financial statements were approved by the directors of Lloyds Banking Group plc on 24 February 2011.
Lloyds Banking Group plc was incorporated as a public limited company and registered in Scotland under the UK Companies Act 1985 on
21 October 1985 with the registered number 95000. Lloyds Banking Group plc’s registered office is The Mound, Edinburgh EH1 1YZ, Scotland, and its
principal executive offices in the UK are located at 25 Gresham Street, London EC2V 7HN.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
283
Lloyds Banking Group
Annual Report
and Accounts 2010
OTHER INFORMATION
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
284
Lloyds Banking Group
Annual Report
and Accounts 2010
SHAREHOLDER INFORMATION
At 31 December 2010
Size of shareholding
1 – 99
100 – 499
500 – 999
1,000 – 4,999
5,000 – 9,999
10,000 – 49,999
50,000 – 99,999
100,000 – 999,999
1,000,000 and over
Shareholders
Number of ordinary shares
Number
155,943
1,660,508
457,334
409,324
55,587
51,828
4,312
2,373
1,108
%
5.54
59.30
16.36
14.66
2.00
1.86
0.15
0.09
0.04
2,798,317
100.00
Millions
6.0
379.1
315.3
834.6
388.1
1,022.2
289.5
583.3
64,256.0
68,074.1
%
0.01
0.56
0.46
1.23
0.58
1.52
0.43
0.88
94.33
100.00
SUBSTANTIAL SHAREHOLDINGS
At the date of this report a notification had been received that The
Solicitor for the Affairs of Her Majesty’s Treasury had a direct interest
of 40.56 per cent in the issued share capital with rights to vote in all
circumstances at general meetings. No other notification has been
received that anyone has an interest of 3 per cent or more in the issued
ordinary share capital.
SHARE PRICE INFORMATION
In addition to listings in the financial pages of the press, the latest price
of Lloyds Banking Group shares on the London Stock Exchange can be
obtained by telephoning 09058 890 190.
Visit www.londonstockexchange.com for details.
SHARE DEALING FACILITIES
Lloyds Banking Group offers shareholders a choice of two dealing
services:
Lloyds TSB Share Dealing
– Internet dealing. Visit www.lloydstsbsharedealing.com
– Telephone dealing. Call 0845 60 60 560
Internet services are available 24/7 and telephone services are available
between 8.00am and 6.00pm, Monday to Friday. Details of any dealing
costs are available when you log on to the share dealing website or
when you call the above number. To open a Lloyds TSB Share Dealing
Account you must be 18 years of age or over and be resident in the UK.
You can apply online or by post.
Halifax Share Dealing
– Internet dealing. Visit www.halifaxsharedealing.co.uk
– Telephone dealing. Call 08457 22 55 25
Internet services are available 24/7 and telephone dealing services are
available between 8.00am and 9.15pm, Monday to Friday, and 9.00am to
1pm, Saturday. To open a Halifax Share Dealing Account you must be 18
years of age or over and be resident in the UK, Jersey, Guernsey or the
Isle of Man.
Shareholders in the Lloyds Banking Group Shareholder Account can
only trade by telephone through the Halifax Share Dealing Service on
08705 711 117.
AMERICAN DEPOSITARY RECEIPTS (ADRs)
Lloyds Banking Group shares are traded in the USA through an
NYSE-listed sponsored ADR facility, with The Bank of New York Mellon
as the depositary. The ADRs are traded on the New York Stock Exchange
under the symbol LYG. The CUSIP number is 539439109 and the ratio of
ADRs to ordinary shares is 1:4.
For details contact: The Bank of New York Mellon Shareowner Services,
PO Box 358516, Pittsburgh, Pennsylvania 15252-8516.
Telephone: 1-866-259-0336 (US toll free), international callers:
+1 201-680-6825. Alternatively visit www.adrbnymellon.com or
email shrrelations@bnymellon.com
CORPORATE RESPONSIBILITY
A copy of the Group’s corporate responsibility report may be obtained
by writing to Corporate Responsibility, Lloyds Banking Group plc,
25 Gresham Street, London EC2V 7HN. This information together with
the Group’s code of business conduct is also available on the Group’s
website www.lloydsbankinggroup.com
SHAREHOLDER ENQUIRIES
The Company’s share register and the Lloyds Banking Group
Shareholder Account are maintained by Equiniti Limited. Contact them
if you have enquiries about your Lloyds Banking Group shareholding,
including those concerning the following matters:
– Change of name or address
– Loss of share certificate
– Dividend information, including loss of dividend warrant or tax voucher.
Contact details for Equiniti Limited can be found on the back cover.
Equiniti operates a web based enquiry and portfolio management
service for you to receive shareholder communications electronically. You
can change your address or bank details either by telephone or online.
Additionally you can register proxy appointments and voting instructions
on your shareholding online. Visit www.shareview.co.uk for details.
ANNUAL GENERAL MEETING
The annual general meeting will be held at 11.00am on
Wednesday 18 May 2011 in Hall 5 at the Scottish Exhibition and
Conference Centre in Glasgow.
INDIVIDUAL SAVINGS ACCOUNTS (ISAS)
The Company provides a number of options for investing in Lloyds Banking
Group shares through an ISA. For details contact: Lloyds TSB Share Dealing,
Halifax Share Dealing or Equiniti Limited.
Calls to 09058 and 0871 numbers are charged at 55p and 8p per minute, respectively, from a
BT landline. The price of calls from mobiles and other networks may vary. Calls from outside the
United Kingdom are charged at applicable international rates. The call prices we have quoted
were correct in February 2011.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
285
Lloyds Banking Group
Annual Report
and Accounts 2010
GLOSSARY
Asset-Backed Securities (ABS)
Alt-A
Arrears
Asset-backed securities are securities that represent an interest in an underlying pool of referenced assets. The
referenced pool can comprise any assets which attract a set of associated cash flows but are commonly pools
of residential or commercial mortgages but could also include leases, credit card receivables, motor vehicles,
student loans. Further information on the Group’s investments in ABS is given in note 56.
Alt-A are mortgage loans regarded as lower risk than sub-prime, but they share higher risk characteristics than
lending under normal criteria. Further information on the Group’s exposure to Alt-A investments is given in
note 56.
A customer is in arrears when they are behind in fulfilling their obligations with the result that an outstanding
loan is unpaid or overdue. Such a customer is also said to be in a state of delinquency. When a customer is in
arrears, the entire outstanding balance is said to be delinquent, meaning that delinquent balances are the total
outstanding loans on which payments are overdue.
Asset-backed commercial paper
See Commercial Paper
Basel II
Basel III
Basis point
The capital adequacy framework issued by the Basel Committee on Banking Supervision in June 2006 in the
form of the ‘International Convergence of Capital Measurement and Capital Standards’.
The capital reforms and introduction of a global liquidity standard proposed by the Basel Committee on
Banking Supervision in 2010 and due to be phased in from 1 January 2013 onwards.
One hundredth of a per cent (0.01 per cent). 100 basis points is 1 per cent. Used in quoting movements in
interest rates or yields on securities.
Collateralised Debt Obligation
(CDO)
A security issued by a third party which references ABSs or other assets purchased by the issuer. Lloyds Banking
Group has invested in instruments issued by other banking groups, including Collateralised Loan Obligations
and Commercial Real Estate CDOs. Details of these investments are given in note 56.
Collateralised Loan Obligation
(CLO)
A security backed by the repayments from a pool of commercial loans. CLOs are usually structured products
with different tranches whereby senior classes of holder receive repayment before other tranches are repaid.
Collectively assessed loan
impairment provision
A provision established following an impairment assessment on a collective basis for homogeneous groups of
loans, such as credit card receivables and personal loans, that are not considered individually significant and for
loan losses that have been incurred but not separately identified at the balance sheet date.
Commercial Mortgage-Backed
Securities
Commercial Mortgage-Backed Securities are securities that represent interests in a pool of commercial
mortgages. Investors in these securities have the right to cash received from mortgage repayments of interest
and principal. Further information on the Group’s investment in CMBS is given in note 56.
Commercial Paper
Commercial Real Estate
Conduits
Contractual maturities
Core Tier 1 capital
Core Tier 1 ratio
Cost:Income ratio
Commercial paper is an unsecured promissory note issued to finance short-term credit needs. It specifies
the face amount paid to investors on the maturity date. Commercial Paper can be issued as an unsecured
obligation of the Group or, for example when issued by the Group’s conduits, as an asset-backed obligation.
(in such case it is referred to as asset-backed commercial paper). Commercial Paper is usually issued for
periods from as little as a week up to nine months.
Commercial real estate includes office buildings, industrial property, medical centres, hotels, malls, retail stores,
shopping centres, farm land, multifamily housing buildings, warehouses, garages, and industrial properties.
A financial vehicle that holds asset-backed securities which are financed with short-term deposits (generally
commercial paper) that use the asset-backed securities as collateral. The conduit will often have a liquidity line
provided by a bank that it can draw down on in the event that it is unable to issue funding to the market. The
Group sponsors four asset-backed conduits, Argento, Cancara, Grampian and Landale. Further details are
provided in note 23.
Contractual maturity refers to the final payment date of a loan or other financial instrument, at which point all
the remaining outstanding principal will be repaid and interest is due to be paid.
As defined by the FSA mainly comprising shareholders’ equity and equity non-controlling interests after
deducting goodwill, other intangible assets and other regulatory deductions. Further details are given in the
Capital Risk section on page 97.
Core Tier 1 capital as a percentage of risk weighted assets.
Operating expenses compared to total income net of insurance claims. The Group calculates this ratio using
the ‘reported basis’ which is the basis on which financial information is reported internally to management.
Coverage ratio
Impairment provisions as a percentage of impaired loans.
Covered mortgage bonds
A bond backed by a pool of mortgage loans. The mortgages remain on the issuer’s balance sheet. The issuing
bank can change the make-up of the loan pool or the terms of the loans to preserve credit quality. Covered
bonds thus have a higher risk weighting than mortgage-backed securities because the holder is exposed
to both the non-payment of the mortgages and the financial health of the issuer. The Group issues covered
bonds as part of its funding activities. Further details are provided in note 22.
286
Lloyds Banking Group
Annual Report
and Accounts 2010
GLOSSARY
Credit Default Swap
Credit derivatives
A credit default swap is also referred to as a credit derivative. It is an arrangement whereby the credit risk of
an asset (the reference asset) is transferred from the buyer to the seller of protection. A credit default swap is
a contract where the protection seller receives premium or interest-related payments in return for contracting
to make payments to the protection buyer upon a defined credit event. Credit events normally include
bankruptcy, payment default on a reference asset or assets, or downgrades by a rating agency.
A credit derivative is a financial instrument that derives its value from the credit rating of an underlying
instrument carrying the credit risk of the issuing entity. The principal type of credit derivatives are credit
default swaps, which are used by the Group as part of its trading activity and to manage its own exposure to
credit risk. A credit default swap is a swap in which one counterparty receives a premium at pre-set intervals
in consideration for guaranteeing to make a specific payment should a negative credit event take place. The
Group also uses credit default swaps to securitise corporate and commercial banking loans in combination
with external funding.
Credit risk spread (or credit
spread)
The credit spread is the yield spread between securities with the same currency and maturity structure but with
different associated credit risks, with the yield spread rising as the credit rating worsens. It is the premium over
the benchmark or risk-free rate required by the market to take on a lower credit quality.
Credit valuation adjustments
These are adjustments to the fair values of derivative assets to reflect the creditworthiness of the counterparty.
Further details are given in note 55.
Customer deposits
Debt restructuring
Debt securities
Debt securities in issue
Money deposited by account holders. Such funds are recorded as liabilities of the Group. The Group includes
certain repos within customer deposits.
This is when the terms and provisions of outstanding debt agreements are changed. This is often done in order
to improve cash flow and the ability of the borrower to repay the debt. It can involve altering the repayment
schedule as well as reducing the debt or interest charged on the loan.
Debt securities are assets held by the Group representing certificates of indebtedness of credit institutions,
public bodies or other undertakings, excluding those issued by Central Banks.
These are unsubordinated debt securities issued by the Group. They include commercial paper, certificates of
deposit, bonds and medium-term notes.
Delinquency
See Arrears.
Embedded equity conversion
feature
An embedded equity conversion feature is a derivative contained within the terms and conditions of a debt
instrument that enables or requires the instrument to be converted into equity under a particular set of
circumstances. The Group’s enhanced capital notes (ECNs) contain such a feature whereby these notes convert
to ordinary shares in the event that the consolidated Core Tier 1 ratio of the Group falls below 5 per cent.
Enhanced Capital Notes (ECNs)
The Group’s ECN’s are subordinated notes issued by the Group that contain an embedded equity conversion
feature. Further details of these are given in note 46.
Expected loss
Exposure at Default
Fair value adjustment
First/Second Lien
Full time equivalent
This is the amount of loss that can be expected by the Group calculated in accordance with FSA rules. In
broad terms it is calculated by multiplying the Default Frequency by the Loss Given Default by the Exposure
at Default.
An estimate of the amount expected to be owed by a customer at the time of the customer’s default.
Fair value adjustments arise on acquisition when assets and liabilities are acquired at fair values that are
different from the carrying values in the acquired company. In respect of the Group’s acquisition of HBOS
the principal adjustments were write-downs in respect of loans and advances to customers and debt issued.
A first lien gives the holder (usually the bank lending the funds) the first right to collect compensation from the
sale of the underlying collateral in the event of a default on the loan. A second lien may be issued against the
same collateral but in the case of default, compensation for this debt will only be received after the first lien has
been repaid.
A full time employee is one that works a standard five day week. The hours or days worked by part time
employees are measured against this standard and accumulated along with the number of full time employees
and counted as full time equivalents. This is a more consistent measure of the amount of time worked than
employee numbers which will fluctuate as the mix of part-time and full-time employees changes.
Funded/unfunded exposures
Exposures where the notional amount of the transaction is either funded or unfunded.
Guaranteed mortgages
Home Loans
Mortgages for which there is a guarantor to provide the lender a certain level of financial security in the event
of default of the borrower.
A loan to purchase a residential property which is then used as collateral to guarantee repayment of the loan.
The borrower gives the lender a lien against the property, and the lender can foreclose on the property if the
borrower does not repay the loan per the agreed terms.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
287
Lloyds Banking Group
Annual Report
and Accounts 2010
Impaired loans
Impairment allowances
Impairment losses
Individually/Collectively
Assessed
Individually assessed loan
impairment provisions
Investment grade
Liquidity and Credit
enhancements
Loan to deposit ratio
Loan-to-value ratio (LTV)
Impaired loans are loans where the Group does not expect to collect all the contractual cash flows or to collect
them when they are contractually due.
Impairment allowances are a provision held on the balance sheet as a result of the raising of a charge against
profit for the incurred loss inherent in the lending book. An impairment allowance may either be individual
or collective.
An impairment loss is the reduction in value that arises following an impairment review of an asset that
determines that the asset’s value is lower than it’s carrying value. For impaired financial assets measured at
amortised cost, impairment losses are the difference between the carrying value and the present value of
estimated future cash flows, discounted at the asset’s original effective interest rate. Impairment losses can be
difficult to assess and the critical accounting estimates and judgements in note 3 detail the key assessments
made when determining impairment losses.
Impairment is measured individually for assets that are individually significant, and collectively where a portfolio
comprises homogenous assets and where appropriate statistical techniques are available.
Impairment loss provisions for individually significant impaired loans are assessed on a case-by-case basis,
taking into account the financial condition of the counterparty, any guarantor and the realisable value of any
collateral held.
This refers to the highest range of credit ratings, from ‘AAA’ to ‘BBB’ as measured by external credit
rating agencies.
Credit enhancement facilities are used to enhance the creditworthiness of financial obligations and cover
losses due to asset default. Two general types of credit enhancement are third-party loan guarantees (such as
guaranteed mortgages) and self-enhancement through overcollateralisation (in the case of covered bonds).
Liquidity enhancement makes funds available if required, for other reasons than asset default, eg to ensure
timely repayment of maturing commercial paper.
The ratio of loans and advances to customers net of allowance for impairment losses and excluding reverse
repurchase agreements divided by customer deposits excluding repurchase agreements.
The loan-to-value ratio is a mathematical calculation which expresses the amount of a mortgage balance
outstanding as a percentage of the total appraised value of the property. A high LTV indicates that there is less
value to protect the lender against house price falls or increases in the loan if repayments are not made and
interest is added to the outstanding balance of the loan.
Loans past due
Loans are past due when a counterparty has failed to make a payment when contractually due.
Loss given default (LGD)
The estimated loss that will arise if a customer defaults. It is calculated after taking account of credit risk
mitigation and includes the cost of recovery.
Monolines
A monoline insurer is defined as an entity which specialises in providing credit protection to the holders of
debt instruments in the event of default by the debt security counterparty. This protection is typically provided
in the form of derivatives such as credit default swaps referencing the underlying exposures held.
Mortgage-backed securities
See Residential and Commercial mortgage-backed securities.
Mortgage related assets
Assets which are referenced to underlying mortgages.
Mortgage vintage
Medium Term Notes
Negative basis bonds
The year the mortgage was issued.
Medium term notes are a form of corporate borrowing covering maturity periods ranging from nine months to
30 years. Details of the notes issued under the Group’s medium term notes programmes are given in note 37.
ABS held with a separately purchased matching credit default swaps to protect against the risk of default of
the security. The Group refers to ABS without the benefit of CDS protection as Uncovered ABS. Details of the
Group’s exposure to negative basis bonds is given in note 56.
Negative Equity Mortgages
Negative equity occurs when the value of the property purchased using the mortgage is below the balance
outstanding on the loan. Negative equity is the value of the asset less the outstanding balance on the loan.
Net Interest Income
Net interest margin
The difference between interest received on assets and interest paid on liabilities.
Net interest margin is net interest income as a percentage of average interest-earning assets. Details of the
Group’s banking net interest margin are given on page 54.
Over the counter derivatives
Over the counter derivatives are derivatives for which the terms and conditions can be freely negotiated by the
counterparties involved, unlike exchange traded derivatives which have standardised terms.
Prime
Prime mortgages are those granted to the most creditworthy category of borrower.
288
Lloyds Banking Group
Annual Report
and Accounts 2010
GLOSSARY
Private equity investments
Private equity investments
Private equity is equity securities in operating companies not quoted on a public exchange. Investment in
private equity often involves the investment of capital in private companies or the acquisition of a public
company that results in the delisting of public equity. Capital for private equity investment is raised by retail
or institutional investors and used to fund investment strategies such as leveraged buyouts, venture capital,
growth capital, distressed investments and mezzanine capital.
Private equity is equity securities in operating companies not quoted on a public exchange. Investment in
private equity often involves the investment of capital in private companies or the acquisition of a public
company that results in the delisting of public equity. Capital for private equity investment is raised by retail
or institutional investors and used to fund investment strategies such as leveraged buyouts, venture capital,
growth capital, distressed investments and mezzanine capital.
Probability of default
The likelihood that a customer will default on their obligation within the next year.
Renegotiated loans
Repurchase agreements
or ‘repos’
Retail Loans
Loans and advances are generally renegotiated either as part of an ongoing customer relationship or in
response to an adverse change in the circumstances of the borrower. In the latter case renegotiation can result
in an extension of the due date of payment or repayment plans under which the Group offers a concessionary
rate of interest to genuinely distressed borrowers. This will result in the asset continuing to be overdue and will
be impaired where the renegotiated payments of interest and principal will not recover the original carrying
amount of the asset. In other cases, renegotiation will lead to a new agreement, which is treated as a new loan.
Short-term funding agreements which allow a borrower to sell a financial asset, such as ABS or Government
bonds as collateral for cash. As part of the agreement the borrower agrees to repurchase the security at some
later date, usually less than 30 days, repaying the proceeds of the loan.
Money loaned to individuals rather than institutions. These include both secured and unsecured loans such as
mortgages and credit card balances.
Residential Mortgaged-Backed
Securities (RMBS)
Residential Mortgage-Backed Securities are a category of ABS. They are securities that represent interests
in a group of residential mortgages. Investors in these securities have the right to cash received from future
mortgage payments (interest and/or principal).
Risk-weighted assets
Securitisation
Special Purpose Entities (SPEs)
A measure of a bank’s assets adjusted for their associated risks. Risk weightings are established in accordance
with the Basel Capital Accord as implemented by the FSA.
Securitisation is a process by which a group of assets, usually loans, are aggregated into a pool, which is used
to back the issuance of new securities. Securitisation is the process by which ABS are created. A company
sells assets to an special purpose entity which then issues securities backed by the assets. This allows the
credit quality of the assets to be separated from the credit rating of the original company and transfers risk to
external investors. Assets used in securitisations include mortgages to create mortgage-backed securities or
residential mortgage-backed securities (RMBS) as well as commercial mortgage-backed securities. The Group
has established several securitisation structures as part of its funding and capital management activities. These
generally use mortgages, corporate loans and credit cards as asset pools. A listing of these programmes with
the amounts secured and associated funding raised is given in note 22.
SPEs are entities that are created to accomplish a narrow and well defined objective. There are often specific
restrictions or limits around their ongoing activities. The Group uses a number of SPEs, including those set-up
under securitisation programmes, and as conduits. Where the Group has control of these entities or retains
the risks and rewards relating to them they are consolidated within the Group’s results.
Student loan related assets
Assets which are referenced to underlying student loans. (See note 56).
Sub-investment grade
Subordinated liabilities
Sub-Prime
Synthetic CDO
Tier 1 capital
This refers to credit ratings issued by external credit rating agencies that are below ‘BBB’ grade or its equivalent.
Liabilities which, in the event of insolvency or liquidation of the issuer, are subordinated to the claims of
depositors and other creditors of the issuer. Details of the Group’s subordinated liabilities are set out in note 46.
Sub-prime is defined as loans to borrowers typically having weakened credit histories that include payment
delinquencies and potentially more severe problems such as court judgements and bankruptcies. They may
also display reduced repayment capacity as measured by credit scores, high debt-to-income ratios, or other
criteria indicating heightened risk of default.
A security that it similar in structure to a CDO whereby the pool of referenced assets is created synthetically
usually by credit default swaps.
A measure of a bank’s financial strength defined by the FSA. It captures Core Tier 1 capital plus other Tier 1
securities in issue, but is subject to a deduction in respect of material holdings in financial companies. Further
details are given in the Capital Risk section on page 97.
Tier 1 capital ratio
Tier 1 capital as a percentage of risk-weighted assets.
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
289
Lloyds Banking Group
Annual Report
and Accounts 2010
Tier 2 capital
Uncovered ABS
Value at Risk
Wrapped loans and bonds
A component of regulatory capital defined by the FSA, mainly comprising qualifying subordinated loan capital,
certain non-controlling interests and eligible collective impairment allowances. Further details are given in the
Capital Risk section on page 97.
ABS held without the benefit of separately purchased matching credit default swaps to protect against the risk
of default of the security. Details of the Group’s uncovered ABS are given in note 56.
Value at Risk is an estimate of the potential loss in earnings which might arise from market movements under
normal market conditions, if the current positions were to be held unchanged for one business day, measured
to a confidence level of 95 per cent.
If a loan or bond (usually an ABS security) is originally issued with a credit default swap already attached, the
package is called a ‘wrapped bond’ or ‘wrapped loan’. The Group’s exposure to wrapped loans and bonds is
set out in note 56.
Write Downs
The depreciation or lowering of the value of an asset in the books to reflect a decline in their value, or
expected cash flows.
290
Lloyds Banking Group
Annual Report
and Accounts 2010
ABBREVIATIONS
ABS
ADRs
BHF
BOSI
BSU
CAGR
CDO
CDS
CRR
CVA
Asset-Backed Securities
American Depositary Receipts
British Heart Foundation
Bank of Scotland (Ireland) Limited
Business Support Unit
Compound Annual Growth Rate
Collateralised Debt Obligation
Credit Default Swap
Capital Resources Requirement
Credit Valuation Adjustment
ECNs
Enhanced Capital Notes
LCR
Liquidity Coverage Ratio
LIBOR
London Inter-Bank Offered Rate
LTIP
LTV
NSFR
OEICs
OFAC
OFT
PFI
PPI
PPP
Long Term Incentive Plan
Loan-to-value
Net Stable Funding Ratio
Open Ended Investment Companies
Office of Foreign Assets Control
Office of Fair Trading
Private Finance Initiative
Payment Protection Insurance
Public Private Partnerships
EEV
EPS
EU
FSA
FOS
GAPS
HMRC
IAS
IASB
ICB
ICG
IFRIC
IFRS
ISA
European Embedded Value
PVNBP
Present Value of New Business Premiums
Earnings Per Share
European Union
Financial Services Authority
Financial Ombudsman
Government Asset Protection Scheme
Her Majesty’s Revenue & Customs
International Accounting Standard
International Accounting Standards Board
Independent Commission on Banking
Individual Capital Guidance
International Financial Reporting
Interpretations Committee
International Financial Reporting Standards
Individual Savings Account
SAYE
SME’s
SPE
SWIP
TSR
UK
UKFI
US
VaR
VAT
Save-As-You-Earn
Small and Medium sized enterprises
Special Purpose Entity
Scottish Widows Investment Partnership
Total Shareholder Return
United Kingdom of Great Britain and
Northern Ireland
United Kingdom Financial Investment Limited
United States of America
Value-at-Risk
Value Added Tax
Overview
Business review
Governance
Financial statements
Other information
Group profile
Group structure
Group performance
Strategy and progress
Chairman’s statement
Group Chief Executive’s review
Addressing the key issues
Marketplace trends
1
2
3
4
6
8
10
12
Summary of Group results
Divisional results
Other financial information
14
26
52
Board of Directors
Directors’ report
Corporate governance report
110
112
114
Five year financial summary
56
Directors’ remuneration report 124
Our people
Corporate responsibility
Risk management
57
60
65
Shareholder information
Glossary
Abbreviations
Index to annual report
284
285
290
291
Report of the independent
auditors on the consolidated
financial statements
Consolidated
financial statements
Notes to the consolidated
financial statements
Report of the independent
auditors on the parent company
financial statements
Parent company financial
statements
Notes to the parent company
financial statements
144
146
153
272
273
276
291
Lloyds Banking Group
Annual Report
and Accounts 2010
INDEX TO ANNUAL REPORT
ACCOUNTING
Accounting policies
Critical accounting estimates and judgements
Future accounting developments
ADDRESSING THE KEY ISSUES
APPROVAL OF FINANCIAL STATEMENTS
Consolidated
Parent company
AUDITORS
Report on the consolidated financial statements
Report on the parent company financial statements
Fees
AVAILABLE-FOR-SALE FINANCIAL ASSETS
Accounting policies
Notes to the consolidated financial statements
Valuation
BALANCE SHEET
Consolidated
Parent company
CAPITAL ADEQUACY
Capital ratios
CASH FLOW STATEMENT
Consolidated
Notes to the consolidated financial statements
Parent company
CHAIRMAN’S STATEMENT
CHARITABLE DONATIONS
CONTINGENT LIABILITIES AND COMMITMENTS
CORPORATE RESPONSIBILITY
CREDIT MARKET EXPOSURES
DEBT SECURITIES IN ISSUE
Consolidated
Parent company
Valuation
DEPOSITS
Customer deposits
Deposits from banks
Valuation
DERIVATIVE FINANCIAL INSTRUMENTS
Accounting policy
Notes to the consolidated financial statements
Valuation
DIRECTORS
Attendance at Board and committee meetings
Biographies
Directors’ report
Emoluments
Interests
Remuneration policy
Service agreements
DIVIDENDS
Ordinary dividends
EARNINGS PER SHARE
EMPLOYEES
Diversity and inclusion
Our people
FINANCIAL RISK MANAGEMENT
Credit risk
Currency risk
Fair values of financial assets and liabilities
Insurance risk
Interest rate risk
Liquidity and funding risk
Market risk
Measurement basis of financial assets and liabilities
FIVE YEAR FINANCIAL SUMMARY
227
182
59
57
75, 253, 282
251, 282
243, 282
91
251, 282
93, 263, 282
88
240, 281
56
FORWARD LOOKING STATEMENTS
inside front cover
GOING CONCERN
Basis of preparation
Directors’ report
GOODWILL
Accounting policy
Notes to the consolidated financial statements
GOVERNANCE
Compliance with the Combined Code
Risk management
Board Committees
GROUP CHIEF EXECUTIVE’S REVIEW
153
113
154
194
114
65
120
8
HELD AT FAIR VALUE THROUGH PROFIT OR LOSS
Accounting policy
Notes to the consolidated financial statements
Valuation
155
183, 199
244
IMPAIRMENT
Accounting policy
Critical accounting estimates and judgements
Notes to the consolidated financial statements
INCOME STATEMENT
Consolidated
INFORMATION FOR SHAREHOLDERS
Analysis of shareholders
Shareholder enquiries
INSURANCE BUSINESSES
Accounting policy
Basis of determining regulatory capital
Capital sensitivities
Capital statement
Critical accounting estimates and judgements
Financial information calculated on a ‘realistic’ basis
Liabilities arising from insurance contracts and
Participating investment contracts
Liabilities arising from non-participating investment contracts
158
165
178
146
284
284
162
102
107
103
166
103
199
207
154
165
269
10
270
282
144
272
177
156, 160
192
244
148, 149
273
99
152
265
275
6
113
237
60
260
199
279
244
198
198
244
157
184
244
119
110
112
134
136
127
133
292
Lloyds Banking Group
Annual Report
and Accounts 2010
INDEX TO ANNUAL REPORT
INSURANCE BUSINESSES CONTINUED
Life insurance sensitivity analysis
Options and guarantees
Unallocated surplus within insurance businesses
Value of in-force business
Volatility arising in insurance businesses
INSURANCE CLAIMS
INSURANCE PREMIUM INCOME
INTANGIBLE ASSETS
Accounting policy
Notes to the consolidated financial statements
INVESTMENT PROPERTY
Accounting policy
Notes to the consolidated financial statements
KEY PERFORMANCE INDICATORS
LOANS AND ADVANCES
Loans and advances to banks
Loans and advances to customers
Valuation
MARKETPLACE TRENDS
NET FEE AND COMMISSION INCOME
NET INTEREST INCOME
NET TRADING INCOME
OPERATING EXPENSES
OTHER OPERATING INCOME
OTHER FINANCIAL INFORMATION
Banking net interest margin
Core and non-core business
Integration
Volatility arising in insurance businesses
206
107
207
194
52
175
173
155
196
160
193
5
187
188
244
12
172
171
172
176
174
54
55
53
52
PENSIONS
Accounting policy
Critical accounting estimates and judgements
Directors’ pensions
Notes to the consolidated financial statements
161
166
128, 131, 135
208
POST BALANCE SHEET EVENTS
PRINCIPAL SUBSIDIARIES
PRESENTATION OF INFORMATION
PROVISIONS
Accounting policy
Notes to the group accounts
270
279
3
164
215
RELATED PARTY TRANSACTIONS
234, 279
RISK MANAGEMENT FRAMEWORK
Business risk
Credit risk
Financial soundness
Insurance risk
Market risk
Principal risks and uncertainties
Operational risk
Risk governance
Risk management
RISK-WEIGHTED ASSETS
SECURITISATIONS AND COVERED BONDS
SEGMENTAL REPORTING
Central items
Combined businesses segmental analysis
Group Operations
Insurance
Notes to the consolidated financial statements
Retail
Wealth and International
Wholesale
SHARE-BASED PAYMENTS
Accounting policy
Notes to the consolidated financial statements
SHARE CAPITAL
STATEMENT OF CHANGES IN EQUITY
Consolidated
Parent company
SUBORDINATED LIABILITIES
Consolidated
Parent company
Valuation
SUMMARY OF GROUP RESULTS
TANGIBLE FIXED ASSETS
Accounting policy
Notes to the consolidated financial statements
TAXATION
Accounting policy
Critical accounting estimates and judgements
Notes to the consolidated financial statements
VALUE AT RISK (VaR)
VALUE OF IN-FORCE BUSINESS
Accounting policy
Notes to the consolidated financial statements
VOLATILITY
Insurance
Policyholder interests
Summary of Group results
74
75
93
91
88
70
91
67
65
101
189
51
24, 25
50
42
167
26
36
30
161
227
222
150
274
216
278
244
14
160
197
161
166
181, 213
89
163
194
52
52
22
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