John Mitchell, Chairman
Chairman's Statement
I am delighted to present the Group results for the year ended 31st October 2007 during which record profits were achieved again.
Highlights
- Group profit before tax rose from £16.1 m to £20.4 m – an increase of 27%.
- Profit on continuing activities rose from £16.4 m to £16.9 m – an increase of 3%
- A sale of Hodge Insurance Brokers Limited was concluded successfully.
Economic Environment
The early part of the year was characterised by a rising interest rate environment in the U.K. as concerns over inflation dominated financial markets and base rate peaked at 5.75%. The housing market moved ahead despite a number of financial commentators predicting a severe slowdown or even a fall in prices.
In retrospect, the first half of the year can be regarded as benign from an economic perspective, particularly given the events of the second half where the sub-prime mortgage crisis, which originated in the USA, cast a large shadow over the world’s financial markets; a prime example of the effects of globalisation. This caused a “credit crunch” from which the U.K’s financial system was not immune, giving rise to liquidity problems for those institutions with a heavy reliance on wholesale funding with the most high profile UK casualty being Northern Rock plc.
The landscape for financial services, at least in the short-term, has changed dramatically as banks and other financial institutions have reviewed their appetites for risk; in an attempt to rebuild margins and balance sheets which, in some cases, have suffered significant asset write-downs. It is certain that credit will be less easy to come by and undoubtedly more expensive.
The outlook for interest rates has completely reversed in recent months with a surprise cut earlier this month. It is possible that further cuts will be made during 2008 but inflation may still persist as food and commodity prices continue to rise. The outlook for the commercial property and the housing markets is uncertain, there being a clear consensus that falls in value are likely.
The Bank is fortunate in having a strong liquidity position and no exposure to sub-prime markets. Whilst we have a substantial exposure to both the residential and commercial property markets, our conservative approach to underwriting coupled with prudent accounting policies means that, although profits would be adversely affected if significant price falls occur, the Bank’s balance sheet has the inherent strength to withstand such a scenario.
Financial Performance
Following the disposal of our asset finance businesses during 2006, the current year was expected to be one of consolidation and the consequent restructuring of the remaining business. In the circumstances, therefore, the actual out-turn for the year is extremely satisfying. Our Commercial Lending Team had a very successful year and Hodge Equity Release again enjoyed a record level of new business.
Hodge Insurance Brokers performed extremely well in their final year of ownership by the Bank and made profits of £0.5 m up to of the date of the sale in August 2007.
| 2007 £m |
2006 £m |
2005 £m |
2004 £m |
2003 £m |
|
|---|---|---|---|---|---|
| Group profit before tax | 20.4 | 16.1 | 15.4 | 13.3 | 11.1 |
| Total assets* | 590.2 | 564.0 | 455.4 | 351.5 | 313.0 |
| Loans and advances to customers* | 365.6 | 304.9 | 215.5 | 164.5 | 153.0 |
| Customer deposit balances | 304.7 | 302.1 | 385.7 | 318.8 | 293.7 |
| Shareholder’s funds | 159.9 | 150.5 | 153.3 | 144.2 | 136.1 |
*The figures for the years 2003-2006 have been restated to remove the assets relating to the businesses disposed of during 2006.
Commercial Lending
Our Commercial Lending division produced record profits. Whilst new business written at £89 million did not match the level of the previous year, gross lending balances grew by 8.5% to £219 million. Fee income was on a par with the previous year, despite lower new business, as the Bank benefited from continuing its diversification into joint venture and profit participation arrangements with selected developers. Interest margins increased even though the market place remained extremely competitive. Our very low bad debt charge is indicative of the quality of our lending book and our credit risk management. In addition we were able to make substantial recoveries with respect to debts previously written off.
The move into Severnside has had the desired effect of expanding the Bank’s customer base and providing a wealth of new contacts and a flow of new business opportunities.
We have taken cognisance of the change of sentiment within the commercial and residential property markets and reviewed our risk appetite in anticipation of more difficult trading conditions for our customers in the year ahead. Nevertheless we remain committed to providing our customers with innovative lending solutions tailored to their specific needs. We aim to ensure that, even in a less favourable economic environment, funding will be available for those customers with a proven track record of delivering successful projects.
Hodge Equity Release
Hodge Equity Release (HER) is the umbrella organisation for the Group’s equity release activities which are conducted through the Bank and its subsidiary, Hodge Life Assurance Company Limited (Hodge Life), which is separately regulated by the Financial Services Authority. Under the HER brand, cash lump-sum equity release products are provided by the Bank whilst Hodge Life specialises in annuity-based equity release products.
The success of HER during 2007 was highlighted by it being named as Equity Release Lender of the Year by readers of Mortgage Adviser and also Best Service Provider by the publication Mortgage Solutions.
The Bank
Sales of the Bank’s lump-sum lifetime mortgage products continued to prosper, particularly the flexible mortgage, where sales amounted to £45m and represented a 44% increase over the previous year. The regulation of reversion business by the Financial Services Authority, which began in April 2007, had a positive effect on sales of the Bank’s lump-sum reversion product, with 139 completions being achieved in the year as compared with 84 in the prior year.
The Bank concluded its first sale of £30m of flexible mortgage assets in July 2007. As at 31st October 2007 we had £101m of mortgage assets under management for other financial institutions and a further £155 million remaining on balance sheet.
Hodge Life
The Company has benefited from rising house prices which have increased the value of its portfolio of reversionary interests in property and also resulted in good returns from the sale of such properties on the vacation of the property by the customer. However, mortality and early redemption experience has been less favourable than in recent years.
The level of annuity business written continued to decline reflecting a continuation of the recent trend for a reduced appetite for purchased life annuities generally, despite the fact that the Company’s rates remained competitive throughout the year. Even so, the Company enjoyed a very successful year achieving pre-tax profits of £9.3 million.
Taking advantage of its strong liquidity and solvency position the Company invested a further £10 million in lifetime mortgages, acquired from its parent Julian Hodge Bank Limited. It is intended that the Company will acquire further such mortgages in the future subject, of course, to satisfying liquidity, solvency and capital requirements.
The key risks to which the Company is exposed are falling house prices and reduced mortality rates leading to increases in longevity beyond that already anticipated within the valuation basis used. The Company maintains an internal capital adequacy threshold which would enable it to withstand a significant fall in house prices and continues to use a prudent mortality basis in the valuation of its assets and liabilities.
Accordingly the Company is in a favourable position both from a financial accounts and statutory solvency perspective.
Hodge Insurance Brokers
In June 2007, the Bank received an approach from ProtectaGroup Holdings Limited (“Protectagroup”) to acquire Hodge Insurance Brokers (“HIB”). ProtectaGroup saw HIB as a key plank in the development of its commercial general insurance broking arm, largely because of its reputation in the insurance market, particularly in the property arena. Accordingly, given our responsibility to our shareholder and, taking account of the best interests of Hodge Insurance Brokers and its clients, the Board agreed a sale to ProtectaGroup on 31 August 2007, which realised a profit of £3.5 million.
Treasury and Funding
Interest rates in the UK have been volatile since the late summer as a result of the credit and liquidity crunch caused by the sub-prime crisis in America spreading to Europe. However this has not had any material impact on the Bank as it relies on retail deposits rather than wholesale money for the majority of its funding. The growth in customer balances in the year of £61 million has been funded by the utilisation of cash reserves of £41 million, with the balance being satisfied largely by increased deposits and bank borrowings.
Funding for the Bank’s growth plans for 2007/08 will be provided largely through retail deposits, given the continuing lack of both confidence and liquidity in the wholesale money markets. In this respect the Bank has been extremely successful in increasing its retail deposit base in the early part of the new financial year. Nevertheless, the Group will continue to monitor market conditions closely and endeavour to maximise its available funding options in order to ensure it is not reliant on a single funding source. We have recently renewed our committed funding lines with major UK banks in order to strengthen our liquidity position further.
The Bank continued to actively hedge its equity release and deposit portfolios in order to reduce its exposure to interest rate volatility.
Our People
On behalf of the Board I would like to thank all of our people for their continuing hard work and commitment to the Group. Following the sale of our asset finance businesses last year, the current year has been no less busy with the need to restructure the organisation and deal with the sale of HIB. Yet, due in large measure to the efforts of our people, we have again achieved record profits.
The Future
2008 is likely to be a year characterised by uncertainty. The “credit crunch” will almost certainly remain with us for a significant part of the year, meaning that consumers’ access to credit will be restricted and this should curtail economic growth.
At the same time residential and commercial property prices will, at best, mark time and possibly fall. On the other hand the spectre of inflation may persist and this will create a dilemma for the Bank of England’s Monetary Policy Committee, since it is primarily charged with controlling inflation.
Even so, we are very well placed to build on our success of this year by benefiting from a strong balance sheet, a high quality asset portfolio and an enviable liquidity position.
John Mitchell
Chairman
20th December 2007