2008 AGM - Speeches

AGM  - 30 April 2008

Chairman’s and Chief Executive’s Report to Members

The Chairman, Ed Anderson, welcomed members to the meeting and introduced the Directors. Mr Anderson then reported to members as follows:

It was clearly a very difficult year for financial institutions in general and for anyone involved in mortgage lending in particular. Initially localised problems in the US mortgage market, escalated rapidly into a major global financial crisis, with banks and other institutional investors losing confidence in the finance sector and virtually refusing to lend to other financial institutions.

In the UK, the most public victim of this has been Northern Rock which depended to a very high degree on these so-called wholesale markets to fund the aggressive expansion of its mortgage lending. The run on Northern Rock dented confidence even further. It damaged the reputation of UK mortgage lending institutions, and it was naturally very unsettling for hundreds of thousands of individual savers.

These events have caused lenders to become much more cautious in making new loans. Competition in the savings market has become very fierce – driving up the cost of mortgages to compensate, and we are seeing clear signs of economic weakness emerge, with house prices now on a downward trend.

This situation has remained virtually unchanged since last September, and most commentators recognise that this somewhat gloomy backdrop is set to be with us certainly throughout this year, and quite possibly well into the next.

That is the context within which we delivered our 2007 results. With so much going on we intend to cover more fully than perhaps we would in a more ‘routine year’, the Society’s performance in 2007; our funding and financial positioning; how we are helping members, particularly borrowing members, in what for them is a more difficult environment; and how we are adapting the Society’s plans for the future.

The headlines are that:

• Our core business performance was exceptionally strong and ahead of our plans for the year.
• Our response to the deterioration in market conditions last summer was immediate and highly prudent.  
• A small proportion of our treasury investments have been affected by market conditions but this should be seen in the context of the overall performance and the financial strength and risk positioning of the Group.
• In the prevailing environment our funding, liquidity and strategic position is amongst the strongest of any major UK mortgage lender.
• We did a good job for savers and borrowers, making substantial further investments in branch, internet and telephone services, and continuing to offer them fair and competitive mortgage and savings rates.  

The Chairman then handed over to Iain Cornish, Chief Executive who reported as follows:

For many years, our strategy has been to deliver value to members by providing savings, mortgages and other financial products that offer good value over the long-term, and to build long-lasting relationships with our members by offering them high quality, accessible advice and excellent service. 

We take a balanced approach to all the different aspects our business:-

• We seek to make enough profit to be financially sustainable over the long-term whilst still delivering consistent good value on a fair basis to our members;
• We want to grow the Society, but not so fast that it means taking excessive risks; and
• We want to control our costs as far as possible, but at the same time improve the quality of the service we provide.  

The effectiveness of this strategy and our strong historic positioning have allowed us to weather the events the Chairman has talked about in robust shape.

Turning to our results in 2007.

The performance of the core part of our business was very strong and in most respects well ahead of our plans.

Our total assets grew by £3 billion to over £20 billion.  This was achieved both through record new mortgage lending of £4.7 billion, and by retaining a high proportion of borrowers once their product deal had come to an end.

Our mortgage book grew by 15%, to over £15 billion, the largest increase in mortgage growth in over a decade.

Both our mortgage and savings accounts have been consistently competitive with over 950 mentions in `best buy’ tables – an average of 18 ‘best buy’ mentions a week in the national press.

On the savings side, this helped us to another very strong year, with like for like growth in savings balances up by nearly 50%, producing an overall increase in members’ savings balances of over £1 billion during the year.

In recent years we have expanded the range of services and products we provide to savers and borrowers, particularly in the field of investment advice and insurance. We work with ‘best in class’ partners to ensure that the value and service we bring to our members in this way matches that of our own mortgage and savings offerings. These services have been well received by members, and growth in sales for these products last year exceeded 12%.

Running costs are another vital area of focus, and I am pleased to report that our performance last year in this area was particularly strong.  Our main efficiency measure is the management expense ratio which measures running costs relative to the size of the Society’s assets – and obviously the lower this figure is, the better.

After a long period in which the Society’s management expense ratio had remained flat, we reduced it from 69 pence per £100 of assets in 2006, to our lowest ever level of 63 pence in 2007.  It remains one of the lowest of any high street lender.  We achieved this without compromising on service – indeed in 2007 we made substantial further investments both in our branch network and in our on-line services – more of which in a moment. 

I talked earlier about balance. One of the most important areas in which this applies is in relation to the quality of mortgage lending, where the objective of growth has to be tempered by the effective management of risk. Both the Society, and our lending subsidiary Accord Mortgages, which serves the mortgage broker market, remain overwhelming focused on the so-called prime residential mortgage market – what might be termed ‘traditional’ mortgage lending.

Accord Mortgages also operates in the Credit Repair market. It is important to stress, that our involvement in this market is not on an indiscriminate ‘lend to anyone’ basis. Our proposition is unique in the market. We target borrowers who may have had some financial difficulties in the past, but who want to, and are in a position to rehabilitate their credit record. Of the lending we have done in this area, which accounts for only 8% of our mortgage balances, the overwhelming majority is near prime lending and of that 8%, the vast majority is near prime lending.

Three quarters of our credit repair borrowers have not missed a single penny of their payments by even a single day, and the majority of the rest have improved their credit standing since they came to us. Over 60% of the mortgages on our books have a loan to value of less than 50% and only 2% have a loan to value in excess of 95%.

We have not done any buy-to-let lending, commercial lending or unsecured lending. We are aware that many, perhaps most, other mortgage lenders have grown faster than us by targeting some or all of these markets in the past and as a consequence a significant proportion of their balance sheets will now be made up of this type of lending. Previous experience suggests that commercial and unsecured lending have not fared well in an economic downturn, and the buy-to-let market is untested in such an environment. We remain very comfortable that we have no exposure to these markets, even though we recognise that we have sacrificed growth and profit in the past by not participating in them.

Our arrears did increase slightly in 2007, reflecting rising interest rates and mortgage payments during the year, and also the anticipated maturing of the credit repair business I have already talked about.  However, the levels continued to be very low with just 0.3% of our mortgages more than 6 months in arrears, and only 0.1% in possession.  These figures are well below the industry average and they are still very low by historical standards.

The provisions we have put aside to cover possible mortgage losses have been calculated on what we believe to be a very prudent basis, and assume that house prices will fall modestly this year and next.

In financial terms our core operating profit – which is the pre-tax profit adjusted for exceptional items, both positive and negative -  increased by 18% last year from £77 million in 2006 to over £91 million in 2007.  This increase was achieved principally through the combination of asset growth, cost control and growth in non-interest income which I have already talked about.

One of the key contributory factors is that we maintained our net interest margin – the key driver of profit for any lending institution – at 99p per £100 of assets. Of all the major building societies and mortgage banks to have reported their 2007 results so far, we are the only lender which succeeded in doing this despite the unprecedented market turmoil, and also whilst continuing to offer good value to our savers and borrowers.

Our reported pre-tax profits, however, were down from £78 million to £55 million.  This was principally for two reasons:

The first was the impact of a small part of our treasury investment portfolio.

Because of the strength of the Society’s capital position we felt it to be appropriate to invest a small proportion of our treasury portfolio in higher yielding but historically high quality investments. As we reported to members at the time, we established a subsidiary, Yorkshire Investment Services Limited, in 2001 to do this. In the past these investments have earned profits for the Society, although we recognised towards the end of 2006 that the returns relative to the risks had diminished and we had started to re-structure the portfolio accordingly.

The value of this portfolio has been significantly impacted by current market conditions.

However, I would make two key points in relation to this portfolio:

• Firstly, most of these losses are ‘unrealised’. In other words we would only crystallise a loss if we were to sell the investments. The majority of these investments, even in a highly stressed market, remain of very high quality – with investment grade ratings from credit ratings agencies. They are not in default, and they continue to yield a return. Current market prices reflect less the current performance of the investments, and more, simply a lack of demand for investments of this type in this climate. Whilst there can clearly be no guarantees about the future, we do stand to benefit if some normality returns to markets; and as long as the investments continue to perform, market prices on much of the portfolio should automatically return to original par values as it reaches maturity.
• And secondly, to put the portfolio in context, it accounts for only around ½ of 1 per cent of the Society’s total assets.  

The second major impact on pre-tax profits arose from what is known as ‘fair value hedging volatility’.

This has nothing to do with treasury investments, and stems purely from recent accounting rule changes which require us to value at market value, certain contracts which we enter into, to reduce the risk to us from movements in interest rates. Our 2006 results recorded a £14 million pound positive fair value adjustment from this, and our 2007 results have recorded an £11 million pound negative. Both these items are pure timing differences. They do not represent real profits or losses to the organisation, they automatically reverse over time, and our view is that they create unhelpful and potentially misleading volatility in the reported numbers – in this case exaggerating very significantly the year on year movement in pre-tax profits.

In reporting our 2006 results we were careful not to claim credit for the £14 million pound fair value gain, and we view the £11 million negative adjustment this year in exactly the same way.
Stripping out just these timing adjustments, but including fully the profit impact of our treasury investments, our pre-tax profit last year increased by 3% from £63.9 million in 2006 to £65.7 million in 2007, more than enough to sustain the underlying financial strength of the Society.

This is underlined by the strength of our capital position which, measured by our solvency ratio of 14.4%, is amongst the highest of any major UK mortgage lender. Reserves from retained profits are now in excess of £950 million, and overall webelieve that our core capital position at the end of 2007 was stronger than any of the major building societies that have reported their 2007 results.

To put our capital position in topical context, our tier 1 capital ratio, which focuses on only the highest quality of capital, is 13.6%. This is around double that of some of the clearing banks which are looking to raise further capital through rights issues – for example RBS and HBOS.

I would also highlight that since our results have been reported, two of our key ratings agencies – Standard & Poor’s and Fitch - have re-affirmed our credit rating, whilst at the same time cutting the credit ratings of a number of other building societies and mortgage banks.

I want to turn now to the subjects of funding and liquidity – not normally something we would focus on at an AGM, but in truth, the two most important aspects of any lending business in the current environment.

Funding first. The Yorkshire, like all major lenders, including all major building societies, raises the funding it needs for mortgage lending, both from individual savers, and from the wholesale investors I talked about earlier.  It is because wholesale funding ceased to be available to Northern Rock, that it had to turn to the Bank of England as ‘lender of the last resort’, unfortunately then causing large numbers of individual savers also to lose confidence and to withdraw their money.

So in this market, the lenders in the strongest, and safest, position are those with the lowest dependence on wholesale money markets and the strongest high street savings businesses.

In this regard we genuinely believe that the Yorkshire is in one of the strongest positions of any major building society or mortgage bank.  [Mr Cornish then referred to a slide] This slide – published independently by Standard and Poor’s – compares the use of wholesale funding by all its rated UK lenders. The numbers are for the end of 2006 – effectively theposition when the market turmoil began- andwe do not believe the graph will have changed significantly since then. At the extreme left end of the graph is the Northern Rock with 75% of its funding coming from wholesale markets.  No building society comes anywhere close to this, but right at the other end is Yorkshire Building Society, with only around 25% of its funding from wholesale markets.

However, the story goes beyond this. Not only do we have a relatively limited reliance on wholesale funding, but the quality of the funding we access is also extremely high. The majority of our wholesale funding is obtained through what is known as our ‘covered bond’ programme. I won’t attempt to explain the technicalities of what a covered bond is, but what it does, is to give us access to funding at a low cost, from the part of the wholesale market which most commentators believe will re-open the quickest when market confidence returns.

We set up a covered bond programme in 2005, partly because the quality of our lending makes us very attractive to potential investors, and partly because we simply recognised it as the best and most reliable way of raising wholesale funds. We are one of only 2 societies to have access to this market, the other being the Nationwide. One major consequence of our use of covered bonds for our wholesale funding over the last 2 years is that we do not need to access the long term wholesale funding markets at all until 2010 which this next slide demonstrates. Even in the worst possible case, is more than enough time for us to make any changes that are necessary to our business, even if wholesale markets do not recover by then.

Our covered bond programme also gives us direct access to the Bank of England’s recently announced £50 billion Special Liquidity Scheme. For the reasons I have talked about, the Society has no need to access this facility and will only do so if the terms available make it commercially advantageous to do so.

The second part of the funding equation is the money raised from individual savers which is known as retail deposits. And at the risk of repeating myself, again we believe we are in a very strong position. We provide savings accounts on-line, through the post, and, of course, through our branch and agency network.

[Mr Cornish then referred to a slide showed a breakdown of all of the Yorkshire’s savings accounts.] The detail is not important, but the number of segments demonstrates the diversity of our retail savings business – we do not have all our eggs in one basket.

Our branch and agency network is at the heart of the Society’s savings operation. It is 3 times the size of Northern Rock’s, even though we are, or were at least, only one fifth of their size. Through our branches and agencies, and our other distribution channels, we have built up longstanding, durable relationships, based on offering fair and sustainable interest rates. To illustrate this, one of our most important savings products is our ISA range – and last year, as well as attracting new money, over 90% of our 30 dayISA  funds for example stayed with the Society.

Because we have always deliberately concentrated as much on our savers as we have on our borrowers, we again find ourselves in a very strong position in the current climate.

The second major area of focus in the current environment is that of what is known as liquidity. Until Northern Rock this was not an aspect of businesses on which most commentators, or indeed financial regulators, have placed much emphasis in recent years – although the Yorkshire has.  Liquid assets are essentially the assets which a financial institution holds which allow it to withstand any shocks to the system. So for example, if, for whatever reason, more than the usual numbers of wholesale investors or individual savers want their money back, organisations should hold enough liquid assets to be able to repay them on demand, until they are able to raise replacement funding from elsewhere. Northern Rock, obviously, did not have enough liquid assets.

Yorkshire has always held very high levels of liquid assets. We voluntarily adopted the Financial Services Authority’s draft proposals on liquidity published in October 2003, even though they had been rejected as unnecessarily prudent and too expensive by the rest of the industry and not implemented by the FSA.

Given that liquidity is a financial services organisation’s equivalent of ‘rainy day’ money, it is important not just that institutions hold the right amount of it, but also that it is high quality and genuinely liquid even in the most stressed conditions. An asset which cannot be sold quickly for cash, clearly is not really liquid as many institutions have recently been finding out. The Yorkshire holds a significant proportion of its liquidity in Government gilts and in its account with the Bank of England (and I stress that this means we are effectively lending money to the Bank of England, not the other way round).  We believe thatwe were the first Society to establish a Reserve account with the Bank of England, which we did back in April 2006, specifically to manage our liquidity position. The interest we receive on this account, and on our gilts portfolio, is low relative to market interest rates, and as a result we have sacrificed profitability running into many millions of poundsin the past, and indeed are doing so as we speak now, because we think it is more important to be prudent.

Out of total assets of £20 billion, a quarter - £5 billion - are held in liquid assets which is at the upper end of the range within the sector.

Again we believe that the level and the quality of liquidity we hold puts us amongst the most prudent in the market.

In managing the major issues I have talked about we have not neglected our primary purpose – that of delivering value to members through good products and good service.

Last year we launched a number of new products and services.

We made substantial investments in our on-line facilities – becoming the first lender to offer a fully paperless mortgage application service and allowing all our savings accounts to be accessed on-line.

We made service improvements in our exclusively Bradford based call centres.

And we are extremely proud to have opened 3 new branches in Chester, Oldham and Warrington. These are all doing well, and we are currently in the process of opening a further two in Solihull and Wolverhampton. 

An important overall measure for us is member satisfaction. We conduct a continuous survey of members who have had recent dealings with us, and last year 9 out of 10 rated our service as good or excellent, and a similar proportion indicated that they would recommend the Society to their friends and family. We have maintained this level of satisfaction now in every year that we have been measuring it, an achievement that we are very proud of, and one which is a credit to all my colleagues throughout the Society.

We have also continued to work hard at supporting the local communities of which we are a part throughout the country.

Our Charitable Foundation continues to raise funds for good causes.  In 2007 we donated over £340,000 to 1,350 registered charities and other good causes, 85% of which were nominated by our members and by our staff. This brought the total donations made by our Charitable Foundation to £2.5 million since its inception in 1998.

The Foundation’s funds have been boosted by £25,000 through the donation of 15 pence for every valid vote returned in this year’s AGM – or 25 pence if members voted online or returned the voting form to a branch.

In 2007, we also became carbon neutral by reducing our carbon footprint, purchasing all our energy from renewable sources, and offsetting unavoidable CO2 emissions by sponsoring overseas carbon reduction programmes.

Local communities are important stakeholders in the Society, but our primary stakeholders are, of course our members, and we go to great lengths to give members every opportunity to have their say in the running of the business.

During 2007 we invited 22,000 members to Question Time sessions and informal ‘Meet the Chief Executive’ events which I held around the country. Our member panel, which we consult on a continuous basis, now numbers over 10,000 – and we received an estimated 15,000items of feedback from this panel last year.

We also held 2 sessions with our member forum which has now been running successfully for 3 years. The forum comprises 19 members drawn from a cross section of the membership. We talk to the forum and solicit their views on a whole host of topics ranging from our products and services to our policy on the environment. The forum members are extremely enthusiastic and diligent and have invested a tremendous amount of time in getting up to speed with the different aspects of the business. Their input is of great value to us. I am enormously appreciative of the effort they put in and on behalf of the membership, I want to record the Society’s thanks to them and to all the other members who take part in the initiatives I have just mentioned..

I also want to thank my colleagues throughout the Society. Last year was the most demanding I can recall in more than 20 years working in the financial services industry. Our agenda was already demanding before the events of last summer, and it has become doubly-so since then. They have responded magnificently, and it is really pleasing to report that our latest staff opinion survey records high, and continuously improving, levels of staff satisfaction and belief in the Society’s direction.
I am going to finish by talking about our view of the future markets and our response to the developments of the last 9 months.

The economy and the housing market are clearly both in a delicate state at the moment. Consumers are retrenching, public spending is under pressure, and the housing and mortgage markets have begun to cool rapidly.

Our current view is that the economy will remain subdued for the next two years, and that there will be single digit house price falls in 2008 and 2009. We don’t view this as anything like a catastrophe, however, and if the end result is a more sensible mortgage market and a less overheated housing market, then in truth it is no bad thing.

Clearly there is a possibility that the economy could become much weaker than this. We don’t altogether discount this, but, in our view, the things that reduce the likelihood of a full-blown recession, are the strength of the jobs market, which appears still to be resilient, and the fact that interest rates are still low by historical standards, and set to fall further over the next 18 months – neither of these things were true in the last major housing market downturn.

As we are all aware, the economic and competitive environment is in a state of enormous flux at the moment, and we are responding in a very prudent manner.

We do not want to damage the strong funding and liquidity position we have established, and nor do we want to take on greater risks at a time when the economy is in a more fragile state. For this reason, in the second half of last year, continuing into this, we have significantly reined in our lending, and restricted our lending criteria. We were in fact, amongst the first to do this. As early as last summer we took the view that events in the financial markets would be with us for a long period.  Many others have only recently followed suit.

We recognise that it is not an easy time for some borrowers. Money market rates and mortgage funding costs relative to the Bank of England rate have not come down. Indeed, they have actually increased as can be seen from this slide – the blue line is the money market rate and the red line is the Bank of England base rate.

However, we are actively protecting our existing borrowers. We will be contacting borrowers well in advance of their deal coming to an end, so that they have plenty of time to prepare for any increase in payments. We will offer all borrowers an alternative to our Standard Variable Rate, if we no longer have a new business deal available for which they qualify, and, of course, our credit repair proposition will be enormously helpful in this environment, to those who have previously had problems.  If all else fails, we will work constructively and sympathetically with any borrowers who get into difficulties, as long as they are willing to work with us.

Equally we will be working just as hard to go on offering excellent value – on a fair and sustainable basis - to our savers in what is already a far more competitive market.

We would be deluding ourselves if we thought 2008 would be anything other than a difficult year in the markets in which the Yorkshire operates. However, for the reasons I have spoken about our position in the current environment is extremely strong, and, notwithstanding the short term challenges, this gives us immense confidence about our future.

Thank you for your attention, I will now hand back to the Chairman

Mr Anderson continued:

Thank you Iain for that very comprehensive presentation.

I want to re-iterate the Board’s confidence in the Society’s achievements and its prospects.

Despite the fall in profits, virtually every other aspect of the Society’s performance was extremely strong, and in the key areas of funding and liquidity the Society’s positioning, established over many years, will give us real opportunities when market conditions begin to stabilise.

The Board also believes that the actions taken by the Society in response to the unfolding events since summer has been proportionate, highly prudent and above all else, have placed long term financial security for members ahead of any short term commercial advantage – an approach which we shall continue to take.

I also wish to echo Iain's words of thanks to our staff.  The success of the Yorkshire would not be possible without their commitment and hardwork and I would like to thank them all for their efforts throughout 2007.  I would also like to thank you, the members, for your continuing loyalty to the Yorkshire.

Before I turn to the formal business of voting on the resolutions I would like to say a few more words about the Board.

In 2007 3 directors retired:

• Rob Jackson, Operations Director who had been with the Society for over 23 years.  Rob was instrumental in the development of our current operating systems.
• Paul Lee and Frank Beckett who were both non-executive directors. Paul was Vice Chairman for a period and also a trustee of the Pension Scheme. Frank was chairman of the Board Audit Committee and a member of the Risk Committee.
  

On behalf of the Board I wish to record our thanks to all of them.

Members have been asked to vote on the election of two new directors, Ian Bullock and Philip Johnson.

Ian is an actuary by training and has been a senior executive of the Society since 2003.  He was appointed to the Board in April 2007 as Sales and Marketing Director. Ian has responsibility for product development and marketing across the Group as well as the distribution channels including the branch and agency network and the online business. He is also Chairman of Accord Mortgages which Iain has spoken about.

Philip Johnson joined us in June 2007 as a non-executive director.  Philip has an enormous amount of experience of accounting and auditing issues having been a partner with Deloitte and Touche for many years. He was Head of Audit Quality and Risk management at Deloitte and Chairman of their Audit Committee. He is now the Chairman of the influential Audit Working Party of the European Federation of Accountants. This experience has proved invaluable in Philip’s appointment as Chairman of our Audit Committee at the beginning of the year.

There are three directors who are due for re-election at this meeting – Julie Baddeley, Andy Caton and Andrew Gosling. Julie, Andy and Andrew were last elected or re-elected three years ago and therefore it is a legal requirement that we are put them forward for re-election at this AGM.

I can confirm that all non-executive directors, as well as executive directors, are subject to personal evaluations and that all directors’ re-elections are reviewed by the Board.   I would also add that the non-executive directors undergo an increasing amount of training on relevant topics to ensure that we keep up to date with the business and regulatory issues.

At this point I would also like to announce that with effect from tomorrow, 1 May, we have a new non-executive director, Indira Thambiah, who unfortunately cannot be with us this evening due to a prior commitment.

Indira has a retail service and distribution background covering all distribution channels. She has spent the last 5 years as head of distribution for the Home Retail Group which includes the Argos and Homebase operations. She has recently set up her own consultancy business and I am sure that her experience in these areas will be an enormous strength to the Board.

Indira will be put forward for election by members at next year’s AGM.  Under the Society’s Rules, only those new directors in place at 31 December can be voted on by members at the next AGM. At the end of last year, the Board was still reviewing the short - listed candidates and therefore it was not possible to put forward the selected candidate at this AGM

We have included in the AGM mailing a summary Directors' Remuneration Report and are asking members, once again, to vote on this.  Societies are not under any legal obligation to have such a vote on this report but in the spirit of transparency, we believe it is good practice to do this and we have done this for a number of years now. 

Our approach to the level of pay for the executive directors and other senior managers is the same as that for all of our staff and that is to aim to pay competitive market – related salaries within the financial services sector.  In addition, a significant part of the remuneration of executive directors should be based on the Society’s performance as well as individual performance to motivate and reward successful business and personal performance. 

I have received a handful of letters from members who have been concerned about the level of the executive directors’ remuneration, particularly given the reduction in our pre-tax profits.

The executive directors do not participate in any discussions relating to the review of their individual salary and performance pay. These are matters which are determined by the Remuneration Committee which is made up of 3 non-executive directors – myself and Simon Turner and chaired by Julie Baddeley.

In calculating the Chief Executive’s remuneration, the Remuneration Committee takes into account member satisfaction, core operating performance, and most elements of profit performance, excluding the impact of fair value hedging adjustments which simply stem from timing differences. As Iain has said, pre-tax profits on this basis, including the impact of the treasury investments, rose by 3% last year, and this was coupled with an exceptional operating performance.

It is essential that the organisation is headed by a team that has the necessary skills and experience to run a large and complex financial organisation. The remuneration packages have to be competitive - not only to attract such people but also to retain them and keep them motivated.  These were the factors that we had in mind when determining the remuneration for executive directors for 2007.

The Chairman then invited questions following which voting on the resolutions took place.

View the Voting Results