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Lloyds Banking Group: Strong FY22 performance and more to come

Lloyds Banking Group is a leading provider of financial services to individual and business customers in the UK, whose main business activities are retail and commercial banking and long-term savings, protection, and investment. The Group operates the UK’s largest retail bank and has a large and diversified customer base. Its shares have a premium listing on the London Stock Exchange (symbol: LLOY), have a market cap of £31bn and are a constituent of the FTSE 100 index.

We were delighted to welcome Douglas Radcliffe, Group Director of Investor Relations and Andrew Williams, Head of Competitor Analysis, to the latest Yellowstone Advisory and ShareSoc webinar to provide an update on 2022 performance

There were 5 key messages from the results. First, LBG is a purpose driven business underpinned by strong financials which support customers and colleagues. Second, LBG has delivered a robust financial performance which is resulting in higher capital returns and strong income growth. Thirdly, LBG is reaffirming its strategy. Fourth, LBG has made a good start to strategic transformation and there is early evidence of delivery. Finally, confidence in the outlook is enhanced.

Customers and clients are at the heart of their business and LBG is proud of the support they are providing. This includes providing additional support to some a customers, support for businesses and support for colleagues. Despite the difficult economic environment LBG have not seen an increase in the number of clients who need their support. This highlights the resilience of the customer base. LBG is also focussed on building an inclusive society and this includes advancing over £2bn to social housing projects and lent £14bn to first time buyers in 2022. Progress has also been made supporting the transition to net zero and this includes a new partnership with Octopus Energy and supporting climate change projects. There is also an important commitment not to finance any new oil or gas fields. LBG continues to target areas where they can make the biggest difference whilst also focusing on profitable growth.

Highlighting some of the key numbers from the strong 2022 results: Net Income was up 14% to £18bn; the cost income ratio fell to 50.4% as a result of stable business as usual costs; ROTE was down slightly at 13.5%; 245bps of capital was generate and women in senior roles increased to 39.4%, an increase of 1.7% during the year. LBG paid a dividend of 2.4p per share, up 20% and announced a share buy back of up to £2bn.

The LBG strategy was launched in Feb 2022 and good progress has been made over the last 12 months across three pillars. First driving revenue growth and diversification across the consumer and commercial franchises. Second strengthening the cost and capital efficiency and third building a powerful enabling platform to support the groups ambitions. Combined the objective is to deliver higher, more sustainable returns and capital generation.

The environment has changed since the strategy was first launched and LBG is looking to best serve customers as they recover from the economic challenges of the past year. A further £0.2bn of cost savings targets have been added for 2024, £3bn of incremental strategic investment has been committed to the first 3 years of the plan and £5bn over 5 years. The strategy reflects a 5 year plan to transform the group. 2022 was the foundation year which has seen investments made in growth and to accelerate the efficiency initiatives. The organisational structure was also improved to help the transformation process.

Good progress has been made in the consumer business over the last year. Notably customer relationships have been strengthened a number of ways. Improvements to the digital capability have resulted in a 15% increase in daily logons and an 8% increase in the number of digitally active customers to 19.8m. In February of this year Tusker, an EV leasing company was acquired which will help grow the motor business at the same time as being aligned to sustainability ambitions. The mass affluent offering has improved with the launch of new credit card products and there was a 5% increase in mass affluent banking balances. There will be further enhancements to the mass affluent offering in 2023 including the launch of a digital first model.

The ambition in SME is to be a diversified and leading digital first business. Good growth was achieved across a number of metrics and further work to enhance digital capabilities and the mobile offering will be implemented in 2023. Product capabilities are being enhanced through strategic partnerships and there is further penetration of key growth industries targeted for 2023.

Maintaining discipline with respect to costs is critical to the delivery of the strategy. Some of the progress highlighted in 2022 includes: reducing the office footprint and increasing customer engagement through digital channels, increasing the proportion of capital light fee generating business; cutting the data footprint by 10% and reducing legacy data applications by 5%. The triennial pension review is expected to show an improved funding position.

The delivery on the strategic objectives can also be seen in the financial performance. Good initial progress made has been made with revenues expected to be £0.7bn higher by 2024 and £1.5bn higher by 2026. Already £0.3bn of cost savings have been made and further cost savings identified which will partially mitigate the impact of inflation and by 2024 cost savings of £1.2bn are expected.

Looking at the 2022 figures in more detail LBG delivered a robust performance based on the strength of the customer franchise. Net Income was up 14%, a net interest margin of 294bps was achieved and operating costs came in at £8.8bn. Asset quality remains strong and the impairments have not materially changed in the quarter. All combined a profit after tax of £5.6bn was delivered and this equated to a ROTE of 13.5%. Tangible net assets fell to 51.9p and the strong capital generation of 245bps translated to a Core Equity Tier 1 ratio of 14.1%

Within the consumer franchise, mortgages, credit cards and motor finance are all growing and there is a strong order book although it has been impacted by the ongoing global supply chain issues. Commercial balances have risen but these have been offset by declines in the SME market. On the other side of the balance sheet retail deposits are up and commercial deposits are down.

Delving into Net Interest income in more detail, NII was up 18% on the prior year driven by higher interest earning assets and higher net interest margin which benefited from rising base rates. The Net Interest margin ended at 294bps for the year and 322bps in the fourth quarter although some of this may unwind in the first quarter of 2023. The net interest margin in 2023 is now expected to be greater than 305bps.

On the cost front, business as usual costs were stable which helped keep the rise in overall costs to £8.8bn inline with guidance. Remediation costs of £265m are significantly lower than the prior year. Overall the cost income ratio came in at 50.4%. In 2023 costs are expected to rise to £9.1bn as the group is not immune from inflationary pressures.

The asset quality remains strong and the impairment charge of £1.5bn equates to an asset quality ratio of 32bps. This ratio is expected to drop to 30bps in 2023. The retail portfolio has proven to be resilient. Early warning indicators remain benign and whilst there have been some increases in arrears these are from a low base and are modest. Almost 80% of the lending book is in mortgages and within this the average income is £75k and the average LTV is only 42% . The Commercial portfolio is also resilient with average debtor days in invoice finance below historic levels. Generally, a conservative approach to lending has been taken and around 90% of SME lending is secured.

ROTE of 13.5% was achieved in 2022 and in 2023 LBG are guiding for 13% ROTE. TNAV of 51.9p was down 5.6 pence over the year but looking forward TNAV should have positive momentum through 2023.

Healthy banking profitability led strong capital generation of 245bps in 2022. Strong capital generation enabled significant pension contributions of £2.2bn over the year. A total dividend of 2.4p was paid, an increase of 20% on 2021. There was also a buyback of up to £2bn taking total capital returns to over 10% of the market cap. Capital generation of 175bps in 2023 and 2024, slightly below the 2022 figures. LBG will maintain a progressive dividend and consider returning excess capital to shareholders at the end of each year.

The guidance for the next three years was then summarised. NIM 305bps; Operating costs of £9.1bn; asset quality ratio of 30bps; ROTE of 13% and capital generation of 175bps. By 2026 LBG expect ROTE to rise to greater than 15% and for the group to generate more than 200bps of capital.

In conclusion this was a strong financial performance from LBG in 2022. They are pleased with the progress made on their strategy and have raised guidance going forward. The bank is in a strong position for further growth.

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