7th Jun 2007 07:15
Provident Financial PLC07 June 2007 Provident Financial plc Details of the proposed demerger of the international home credit business Provident Financial plc ("Provident") today announces details of the proposeddemerger of its international home credit business ("IHC"). Pursuant to thedemerger, IHC (comprising Provident International Holdings Limited and itswholly-owned subsidiaries) will be transferred to International Personal Financeplc (a newly established public limited company which has been incorporated tobe the holding company of IHC) ("IPF"). Subject, inter alia, to shareholderapproval, the demerger will result in Provident shareholders receiving one sharein IPF for every Provident share they hold. Presentations to research analysts on each of the two businesses will be heldtoday at the offices of Dresdner Kleinwort, 30 Gresham Street, EC2P 2XY at10.30a.m. The key highlights of these presentations are: The demerger - The key reason for the demerger is that the UK and internationalbusinesses have different strategic agendas calling for different managementskills and focus. Both businesses are expected to benefit from the demerger. Theinternational business will be better able to capture its growth opportunitiesthrough greater management focus and the closer alignment of managementincentives to the performance of the international business. The UK businesswill be able to concentrate on developing a more broadly based business focusedon the UK non-prime consumer credit market. - The demerger is expected to result in stronger operational andfinancial performance for both businesses. - The demerger will offer a choice of investment into two attractive andsuccessful businesses with markedly different characteristics. - Provident will, prior to the demerger, introduce £70 million ofadditional capital into IHC to adequately capitalise it as a stand-alonebusiness. - In the absence of unforeseen circumstances, Provident and IPF intend topay an aggregate dividend in respect of 2007 of 36.50 pence per share, equal tothe Provident dividend per share paid in respect of 2006. Provident - post-demerger - The UK home credit business will build on its leading position in theUK specialist consumer lending market and is expected to grow and to continue tobenefit from (i) the continued diversification of marketing channels for newcustomer recruitment, (ii) improved customer segmentation and contactmanagement, (iii) product innovation and enhanced lending decision processes and(iv) the introduction of new technology, allowing a streamlining of its coststructure. - Vanquis will continue to focus on the provision of credit cards to thenon-prime market. In the medium-term, it is believed to have the potential toexceed 500,000 customers and £300 million net receivables and to earn a post-taxreturn on equity of around 30%. Vanquis is expected to trade at around breakevenin 2007. - There is an increasing market opportunity for Provident's UK businessesbecause of a combination of growth in the UK non-prime market and the tighteningof lending criteria by mainstream credit providers. - The UK business has a large, dynamic customer base and a nationalbranch infrastructure. It aims to build on its leading position in the UKspecialist, non-standard lending market and in particular to improve itsretention of the estimated 200,000 customers who migrate up the credit qualitychain each year, through extension of its product range to include agent andnon-agent collected unsecured and secured personal loans over longer repaymentterms. - In the absence of unforeseen circumstances, the board of directors ofProvident intends to pay a dividend per share for 2007 of 31.75 pence per share(before adjustment for the proposed consolidation of Provident's share capital).It is the intention of the directors to at least maintain the dividend per sharewith a medium-term objective to build cover until a dividend payout ratio of 80%is reached. - Provident has pro forma net assets as at 31 December 2006 of £207.1million, after allowing for adjustments in respect of the £70 million capitalinjection into IPF, net proceeds of £162.7 million from the sale of ProvidentInsurance, demerger costs of £20.4 million and after deducting the 2006 finaldividend of £56.4 million paid in May 2007. - As at 31 December 2006, Provident has a pro forma equity to receivablesratio of 23%. The directors consider that a capital structure with a ratio ofordinary shareholders' capital to receivables of 15% compared with the currenttarget of 20% is appropriate. This implies surplus capital of some £80 millionon demerger. However, in light of the high dividend payout ratio, this surpluswill be retained in the near term to fund growth opportunities and provide asensible degree of strategic flexibility. Provident may consider sharebuy-backs as and when appropriate. - Cost savings of almost £3 million per annum are expected after thedemerger as a result of a reduction in corporate overhead costs. - The Fitch Issuer Default Rating has been maintained at BBB+ and theestimated weighted average cost of debt is unchanged at approximately 7%. - The UK business has made a positive start to 2007. IPF - A proven record of building successful, capital generative businessesin emerging markets underpinned by an experienced management team. - A substantial business spanning six countries, with 1.8 millioncustomers, 28,400 agents and over 5,000 employees. - Pro forma pre-tax profit for 2006 of £39.9 million, based on IHC'sreported segmental profit for 2006 of £46.2 million and allowing for theincreased costs of operating as a stand-alone and listed business of £9.1million and a reduction in borrowing costs of £2.8 million (mainly attributableto the £70 million capital injection on demerger). - Significant opportunities for future growth from the fast growingdemand for consumer credit in IPF's existing markets and from a target list ofeight large new markets to enter, including Russia, India and the Ukraine. - A clear strategy to seize the opportunities for growth: (i) to increasethe pre-tax profit from the established Central European markets by 50% to about£95 million at maturity, (ii) to realise the potential of the markets currentlyunder development, Mexico and Romania, with a target pre-tax profit from thesemarkets of £90 million and £20 million respectively at maturity and (iii) toenter further emerging markets, with a plan to enter three to four countriesover the next five years. - Mexico is expected to report a profit in 2009 and Romania, which hasrecently successfully completed the pilot stage and been approved for nationalroll-out, is expected to report a profit in 2010. - In 2007, approximately £15 to £16 million will be invested in start-uplosses from developing markets, principally Mexico and Romania. Thereafter, forthe medium-term, IPF's target start-up losses in developing new territories isexpected to be broadly equal to 25% of pre-tax profits before such start-uplosses. - IPF intends, subject to satisfactory completion of due diligence, tocommence a pilot in the Russian market in the latter part of 2007 which mayinclude the acquisition of a small bank costing about £3 to £5 million. - Pro forma net assets as at 31 December 2006 of £150.2 million asadjusted for a £70 million capital injection from Provident, giving a pro formaequity to receivables ratio of 45%. This level of capitalisation recognises therisk profile of the emerging markets in which IPF operates and underpins itsfuture requirement to attract debt finance to support its growth strategy. Inthe longer term, IPF targets to reduce the equity to receivables ratio towards20% as the business matures. - IPF's Central European operations are already generating substantialsurplus capital. In 2006, they generated surplus capital of £37.8 million whichwas available to fund both new country development and dividends. - In the absence of unforeseen circumstances, IPF intends to pay adividend of 4.75 pence per share for 2007 and thereafter to adopt a progressivedividend policy reflecting the profitability of IHC's businesses as well as itscapital and cash flow requirements, with a medium-term objective of moving to adividend payout ratio of approximately 25% of profit after tax. IPF believesthat this will allow the capital requirements of its growth strategy to be metfrom retained earnings. - The tax rate for 2007 and thereafter is expected to be approximately30%. - IPF has made a strong start to 2007 across all markets. Key Dates Friday 22 June 2007 Posting and publication of circular and prospectus Friday 13 July 2007 EGM to seek shareholder approval for the demerger Monday 16 July 2007 Demerger effective John van Kuffeler, Chairman of Provident, commented: "The separation of the UK and international businesses is good for the twobusinesses and good for shareholders. The international business will be betterable to secure its exciting growth prospects, and the UK business will be freeto build on its leading position in the UK non-prime consumer credit market.The board of Provident believes that this move will maximise shareholder valuein both the near and longer term." Christopher Rodrigues, Chairman Designate of IPF, commented: "The international business has a proven and successful model and an experiencedmanagement team. We see many opportunities both in our existing markets and innew emerging markets. We are all looking forward to the next exciting phase ofthe business' development." Enquiries: Kevin Byram Brunswick 020 7404 5959 Nigel Prideaux Brunswick 020 7404 5959 1. Rationale for demerger IHC was established in 1997 as part of Provident's strategy to develop newsources of growth to complement its UK business. Today, IHC has businesses inPoland, the Czech Republic, Slovakia, Hungary, Romania and Mexico with revenuein 2006 of £365.3 million and pro forma profit before tax and exceptionaldemerger costs in 2006 of £39.9 million (based on IHC's reported segmentalprofit for 2006 of £46.2 million and allowing for the increased costs ofoperating as a stand-alone and listed business of £9.1 million and a reductionin borrowing costs of £2.8 million (mainly attributable to the £70 millioncapital injection on demerger)). This impressive growth profile has been achieved in part through the financialand operational support of the UK home credit (''UKHC'') business, but has nowreached a point where IHC is an operationally and financially self-sufficient,stand-alone entity with its own management structure. The UKHC and IHCbusinesses have reached very different stages of development with distinctstrategic agendas calling for different management skills and focus. UKHC is anexcellent, cash-generative business competing in a large, more mature consumercredit market, whilst IHC continues to identify significant growth opportunitiesin new and existing markets and is well placed to continue to grow rapidly. IHChas also developed its own knowledge base with respect to entering markets andbenchmarking growth and development. These two businesses therefore requiredifferent management skills and strategic focus. Accordingly, the board of Provident considers it is now appropriate to separatethese two distinct businesses into independently listed entities. As part of a separate group, IHC will be better able to capture its growthopportunity through: • exclusive management focus on the significant opportunities to capturegrowth in new and existing emerging markets; and • greater alignment of incentives, with management and employees able toparticipate directly in the success of the IHC business. As an independently listed UK-centric business, the board of Provident considersthat it will also benefit from greater strategic focus, enabling it toconcentrate on developing a more broadly based business focused on the UKnon-prime consumer credit market. Given the reasons for the demerger outlinedabove, Provident does not intend to operate in IHC's markets. Accordingly, the board of Provident believes that the benefits of the demergershould be reflected in stronger operational and financial performance of bothbusinesses with a greater strategic focus on the development of each group. Asa consequence, the demerger will offer a greater choice to Provident'sshareholders specifically and to investors generally regarding their investmentin the two businesses. 2. Demerger timetable Provident announced on 9 May 2007 that it had agreed to sell ProvidentInsurance, its non-core motor insurance business for approximately £170 million. The transaction is expected to complete in mid-June 2007, once the remainingregulatory approvals for change of control have been obtained. On 22 June 2007, following completion of the sale of Provident Insurance: • Provident intends to post a circular to shareholders seeking theirapproval for the demerger at an extraordinary general meeting, to be held on 13July 2007; and • IPF intends to publish a prospectus in respect of its separatelisting. Subject to the approval of shareholders having been obtained, it is expectedthat the demerger will complete on 16 July 2007, on which date Provident willtransfer IHC to IPF and IPF's shares will be admitted to the Official List ofthe UK Listing Authority and to trading on the London Stock Exchange's marketfor listed securities. It is intended that the demerger is to be effected by Provident declaring aspecial dividend equal to the book value of Provident's shareholding inProvident International Holdings Limited (''PIHL''), the intermediate holdingcompany of IHC. This special dividend will be satisfied by the transfer of theentire issued share capital of PIHL to IPF, the consideration for which will bethe allotment and issue by IPF of ordinary shares to Provident shareholders onthe basis of one share in IPF for each Provident share held. Immediately after the demerger becomes effective, it is intended that the sharecapital of Provident will be consolidated. The purpose of this shareconsolidation is to preserve the value of share options and awards underProvident Employee Share Schemes and to maintain, so far as reasonablypracticable, the pre-demerger share price and the comparability of historic andfuture earnings per share data. Further details of the share consolidation willbe included in the circular. Shortly after the demerger becomes effective, IPFwill also seek Court approval for a reduction of its capital in order to createdistributable reserves of approximately £410 million. 3. Information on the UK Group Subsequent to the demerger, the UK Group will comprise UKHC, Vanquis and DAFS(formerly trading as Yes Car Credit). In the year ended 31 December 2006, thesebusinesses had revenue of £654.6 million and a profit before tax of £108.0million. The pro forma net assets of the UK Group as at 31 December 2006 were£207.1 million. The average number of employees of these businesses, including those providingcentral functions, for the year ended 31 December 2006 was approximately 3,200.In addition, in 2006 UKHC had on average 11,500 home credit collection agents. The UK Group aims to build on its leading position in the UK specialist ornon-standard lending market and, in particular, to improve its retention ofcustomers as they migrate up the credit quality chain by continuing to develop amore broadly based business beyond home credit. UKHC's objective is to remain the leading community-based lender in the UK andIreland by developing and growing its core home-collected credit business.Vanquis will continue to operate as a non-prime credit card business with a viewto increasing its existing customer base and trading at around breakeven in2007. The UK Group intends to continue to collect-out the DAFS receivablesbook, although will keep all options under review. The UK Group will thus be focused on the UK specialist lending market, where itskey strengths are: • its long experience of and leading position in home-collected credit; • its national branch and management infrastructure with in excess of300 locations; • its growing position in non-prime credit cards and its understandingof this market; and • the large, attractive and dynamic customer bases in UKHC and Vanquis. 4. Current trading of the UK Group UKHC has made a positive start to 2007, with continued year-on-year growth inboth customer numbers and receivables. Impairment levels remain stable despitepressures on customers' disposable incomes, due to the benefits of tight creditmanagement and improvements to the arrears processes introduced during 2006. Vanquis has generated further growth in customer numbers and receivables which,when combined with the re-pricing of credit lines undertaken towards the end of2006 and tight credit management, are yielding the anticipated benefits. 5. UKHC Established in 1880, UKHC is the largest home credit business in the UK, with2006 profits of £127.5 million. It offers simple, transparent financialproducts to customers with average and below average incomes, some of whom mayfind it more difficult than most consumers to access mainstream credit or whoprefer the home credit offering. Operating under the Provident and Greenwood brands, UKHC provides small,unsecured home-collected cash loans which are delivered to the customer's homeby a self-employed agent who then calls at the customer's home regularly tocollect the repayments. Loans in aggregate of £940.8 million were provided in 2006 and customer numbersat the end of 2006 were just over 1.5 million, serviced by a network of 11,500agents. Of these customers, UKHC would typically expect to lose approximately300,000 customers with non-performing loans and lose a further 200,000 customerswho pay off their loans and do not seek new loans, whilst recruiting 500,000 newcustomers. The wider UK consumer credit market is relatively mature, but the board ofProvident believes that UKHC is well positioned to create future growth througha combination of cost and technology efficiencies and product innovation toattract new customers, including through the marketing of longer, larger loansto more established and reliable customers and pre-paid VISA cards that thecustomer can use like a debit card. Following the demerger, UKHC will continue to focus on remaining the leadingcommunity-based lender in the UK and Ireland, developing and growing the corehome credit business and introducing direct repayment products. The board ofProvident believes that the key strengths of UKHC from which to continue thisstrategy are as follows: • Proven business model. Provident is the UK's leading home creditcompany. The home-collected credit model has been developed and refined in theUK over the past 127 years and is the cornerstone of Provident's UK business.Its cash generation serves as a strong basis for evolving Provident's businessto secure its long-term future. • Experienced management team. The UKHC management team will all remainwith the UK Group following the demerger, providing continuity and maintaining ateam with considerable experience of the consumer finance industry. • Well-developed product offering. UKHC's products and charges aresimply structured and transparent, with a fixed all-in-cost and no additionaldefault charges, which helps customers control their spending and budgeting. • Knowledgeable and experienced agent force. UKHC has 11,500 agentsbased in local communities, many with years of experience, affording UKHCin-depth knowledge of its target customer group. • National field coverage and infrastructure. More than 300 localbranches, combined with substantial agent coverage throughout the UK, means thatUKHC benefits from local knowledge on a national scale. • Ability to adapt quickly. Short-term lending and weekly face-to-facecontact allow UKHC to react quickly to changes in customers' circumstances. UKHC's strategy to fulfil its objective of remaining the leading community-basedlender in the UK and Ireland consists of the following key elements: • Growing the customer base. UKHC is increasing the use of newmarketing channels to complement the traditional agent-based recruitment ofcustomers. In addition to expanding direct response marketing, new channels arebeing developed, such as targeted direct sales in shopping centres, internetmarketing, partnerships with retailers, mail order companies and financecompanies to acquire declined credit applicants and linking up with retailers toprovide credit to their customers. The benefits of this diversification arealready becoming apparent - in the last two years, the number of customersrecruited from non-agent sources has grown by approximately 200% from just over45,000 in 2004 to over 140,000 in 2006, with the biggest increases being derivedfrom the direct mail and internet channels. • Maximising the retention of profitable customers. Having incurredcost to acquire customers, repeat and increased business from profitablecustomers is a key priority for UKHC. UKHC continues to review its productofferings and incentives to match closely the varying requirements of existingcustomers and would expect to re-serve approximately two-thirds of its currentcustomer base. • Rolling out new products and taking advantage of market opportunities. UKHC will continue to develop and refine its product portfolio to retainexisting, and attract new, customers. This includes offering larger loans overlonger repayment terms, providing loans in the form of pre-paid VISA debit cardsand possible remote granting or collection of loans. Furthermore, a combinationof the growth in the UK non-prime lending market and the tightening of lendingcriteria by mainstream credit providers means that there is an increasing marketopportunity for Provident to develop a more broadly based business in the UKnon-prime consumer credit market, leveraging off its customer base and branchinfrastructure. • Enhancing lending decision processes. UKHC will continue to build onits credit management systems. The agent lending process is being augmentedthrough a combination of enhanced credit scoring (for both new and ongoingcustomers) and arrears processes. • Streamlining the cost structure. By combining the field managementand administration of the Provident Personal Credit and Greenwood PersonalCredit brands and rolling out hand-held computers to field agents, UKHCcontinues to streamline the organisation and support growth through a singlemanagement and cost structure. • Maximising UK Group marketing opportunities. UKHC is well positionedto offer loans to customers who respond to Vanquis marketing and meet UKHC, butnot Vanquis, lending criteria. 6. Vanquis Vanquis was established in 2003 as part of Provident's strategy to broaden itsrange of credit products, and provides credit cards tailored to the needs of UKcustomers on average and below average incomes. An experienced management teamwas brought together to develop the product and the business and, after a periodof market testing, a full scale roll-out commenced in January 2005. Vanquiscurrently offers credit card products, with initial credit limits of between£250 and £5,000, principally at the lower end of this range. By the end of2006, it had over 250,000 cardholders. The directors believe that the key strengths of Vanquis are derived from itsdeliberate positioning and focus on the non-prime market rather than as amainstream provider in the mass credit card market. The key strengths are asfollows: • The experience of its management team in the non-prime market. TheVanquis business was started in 2003, but from the outset employed a managementteam with extensive knowledge of operating credit card products in the non-primemarkets. • Extensive knowledge of the UK non-prime customer. Vanquis has beenoffering credit cards to non-prime customers for over three years and combinesthis experience with access to extensive experience and data on the UK non-primemarket generated by UKHC. This has helped to accelerate Vanquis's developmentof a stand-alone proprietary database. • Highly targeted marketing models. Vanquis has developed efficientcustomer acquisition targeting models using the experience gathered from its ''test and learn approach'' to direct mailing over the past three years andbenefits from the additional insight provided by the UKHC customer base. • Refinement of a quantitative approach to underwriting risk and creditmanagement. Vanquis has developed a highly analytical and quantitative approachto the processes of underwriting non-prime credit risk. This includes theassessment of whether or not to provide a card to an applicant, and if so, whatcredit limit to assign as well as the timing and amounts of credit limitincreases. • Positioned to extend smaller credit limits than in the prime marketwith consequentially higher APR pricing. Vanquis generally extends much smallercredit limits than are typically made available in the overall credit cardmarket. This suits customers who want to stay in control of their spending butwho welcome the convenience offered by a credit card. As the costs of operatinga credit card account are essentially fixed, the operating costs on a low creditlimit of £250 are a greater proportion of the credit when compared with amainstream credit limit of more than £2,000. Consequently, Vanquis's productsmust generally carry higher interest rates and APRs than those offered in theprime market in order to deliver adequate levels of return to Vanquis. Themanagement believe that competitors with broader product portfolios who havesignificant operations in the prime sector are more restricted in theirwillingness to price non-prime assets properly. Vanquis is still in the relatively early stages of its development but expectsto trade at around breakeven for 2007 and has the potential to exceed 500,000cardholders and £300 million in net receivables, and to earn around a 30%post-tax return on equity in the medium-term. With a view to achieving thesegoals, Vanquis is pursuing the following strategies: • An operation focused on the UK's non-prime credit card market. Manyprime market credit card providers have historically avoided this part of themarket with its need for relatively low credit limits and higher risk profile,and the consequent need to operate with higher APRs than in the prime market.Vanquis has been developing this opportunity by focusing on this market segment. • Maximising market opportunities. Following the OFT's decision toimpose a cap on credit card default charges and the need to increase interestrates in order to maintain income levels, management believe that some lendersare withdrawing from the non-prime credit card market in order to protect theirprime brands, rather than have them associated with higher APRs. Together witha combination of growth in the UK non-prime market and the tightening of lendingcriteria by mainstream credit providers, this means that there is an increasingmarket opportunity for Vanquis. • 'Low & grow' policy. Vanquis typically acquires customers withadverse features in their credit history or limited credit history and offers arelatively low initial credit limit (i.e. £250 or £500) with modest incrementsgranted over time depending on account performance. This targeted riskmanagement minimises the exposure of Vanquis to defaulters at an earlier, lowercost, stage. • Increased use of multi-channel marketing and refinement of targetingmethods. Vanquis is developing additional marketing channels in order toaddress a larger proportion of the UK's non-prime sector. Although originallyestablished with a direct mail strategy, Vanquis estimates that the use of theinternet in particular has significantly opened up the potential market,increasing substantially the number of customers who can be reached. Thebenefits of using complementary channels are already apparent - in the last twoyears, the number of customers recruited from sources other than direct mail hasgrown from virtually none in 2004 to over 60,000 in 2006 (out of a total of justover 140,000 new customers recruited that year). Of these, approximatelytwo-thirds were recruited through the internet. • Increased integration of Vanquis and UKHC. By evolving the marketingchannels, customers can quickly be directed to the most appropriate product fortheir requirements, ensuring rapid delivery of credit. In addition, theinfrastructures of the two businesses can be evolved to enhance customer contactcentre management and remote collection techniques. Increased integration withUKHC can therefore improve customer economics from the costs of acquisitionthrough to the costs and benefits of maintaining customer relationships andimproving collections performance. Now that a sound platform for growth has been established, a new managingdirector of Vanquis, Michael Lenora, has been appointed to lead the next phaseof the business' development. He has 25 years of experience in the non-primecredit card market and will join the UK Group shortly. 7. DAFS DAFS is collecting the outstanding customer debt remaining after the closure ofthe UK Group's Yes Car Credit activities in December 2005. Yes Car Credit soldused cars together with a package of credit and associated insurance productsfrom a network of UK branches. In 2006, the remaining vehicle stock was sold, almost all branch leases weresurrendered and staff numbers reduced as the collection activity decreased. Thenumber of customer accounts reduced from 59,000 to 33,000 during 2006 and theamounts owed by those customers fell from £235.3 million to £108.6 million overthe same period. Customer numbers will continue to decline until the finalcustomer contracts mature in 2009. 8. Pro forma statement of net assets of the UK Group An unaudited pro forma statement of consolidated net assets of the UK Group asat 31 December 2006 is set out in the Appendix. This statement shows pro formanet assets of £263.5 million, which reduce to £207.1 million after adjusting forthe 2006 final dividend paid by Provident in May 2007. 9. Capital and cost structures and dividend policy of the UKGroup Capital structure The proceeds from the sale of Provident Insurance net of costs will amount to£162.7 million, of which £70 million will be injected as new capital into IHC.This level of capital has been provided to support the high growth strategy thatIHC plans to pursue in order to capture the opportunities for profitable growthin emerging markets. As at 31 December 2006, Provident has a pro forma equityto receivables ratio of 23%. The directors consider that a capital structurewith a ratio of ordinary shareholders' capital to receivables of 15% comparedwith the current target of 20% is appropriate. This implies surplus capital ofsome £80 million on demerger. However, in light of the high dividend payoutratio, this surplus will be retained in the near term to fund growthopportunities and provide a sensible degree of strategic flexibility. Providentmay consider share buy-backs as and when appropriate. Cost structure Following the demerger, the UK Group's costs of funding will remain unchangedbut it is expected that it will benefit from a cost saving of almost £3 millionper annum as a result of a streamlined central corporate team and thesimplification of the business following the separation of IHC. Dividend policy In the absence of unforeseen circumstances, the directors of Provident intend todeclare aggregate dividends of 31.75 pence per Provident share in respect of2007, before adjustment for the proposed consolidation of Provident's shares.Thereafter, the directors of Provident intend to at least maintain the annualdividend per share, with a medium-term objective to move to a dividend payoutratio of approximately 80% of profit after tax, which they believe isappropriate for the Provident group as configured after the demerger. Tax rate The UK Group will be primarily a UK group for tax purposes and it is thereforelikely that, following the demerger, its effective tax rate will be 30%,reducing to around 28% once the mainstream rate of corporation tax falls to thatlevel as proposed from 1 April 2008. 10. Overview of IHC IHC is headquartered in the UK and, since 1997, has successfully entered intosix emerging markets. The Polish and Czech businesses opened in 1997 withfurther operations following in Slovakia and Hungary (2001), Mexico (2003) andRomania (2006). The principal overseas subsidiaries operate 179 branches across Central Europe,Romania and Mexico, and have approximately 1.8 million customers in aggregate.IHC has some 5,000 direct employees and also engages approximately 28,400agents, of whom around 4,200 are employed. The four established CentralEuropean markets are very profitable, earning reported profit before tax for2006 of £65.7 million (£64.1 million on a pro forma basis) on averagereceivables of £293 million and this success has allowed the investment inopening new markets in Mexico and Romania (with start-up losses for 2006 of£12.3 million on a pro forma basis). IHC is well positioned to build on thissuccess and to grow rapidly by optimising profits from its home credit productin its established Central European markets, developing the full potential ofthe markets currently under development (Mexico and Romania), expanding intofurther emerging markets and extending its offering of credit products to thenon-prime market. The home-collected credit product currently accounts for almost all of thebusiness of IHC with pilot tests of other credit products being performed inPoland and the Czech Republic. Home-collected credit involves the provision ofsmall sum unsecured cash loans (typically £50 to £700, depending on the market)normally repayable over 26 to 52 week terms. The loan is delivered to thecustomer's home by an agent (usually within 48 hours of first contact), who isthereafter the primary customer relationship manager and meets the customer eachweek in their home to collect repayments and discuss their requirements forfurther loans. The home visit also enables the agent to gather key incomeinformation about the customer before a loan is granted. Home-collected credit products are primarily purchased by customers in thenon-prime sector on average to below average incomes who have limited access tomainstream credit, largely dictated by socio-demographic factors. Given thehigher credit risk profile of the customer base, the business expects a certainlevel of missed payments and factors this into product pricing and its responseto missed payments. Accordingly, the products are priced transparently, with noadded interest for late payment, no hidden charges and no default charges andthere is scope to take a flexible approach with late paying customers. Markets and competitive position IHC currently operates in six emerging markets: Poland, the Czech Republic,Slovakia, Hungary, Mexico and Romania. These markets share common features:strong economic growth accompanied by a growing demand for consumer products inconjunction with an underdeveloped supply of consumer credit. The table below shows the penetration and the compound annual growth rates ofconsumer credit in each market. Poland Czech Hungary Slovakia Mexico Romania Republic 2006 GDP (US$ bn) 338.7 137.0 111.1 55.2 840.0 115.3 Population (million) 38.1 10.2 10.0 5.5 107.4 21.6 GDP per capita (US$) 8,883 13,405 11,135 10,133 7,818 5,326 2003 consumer credit market 27.2 9.2 11.3 2.9 68.4 0.5(US$ bn) 2006 consumer credit market 64.6 25.4 24.9 9.1 124.3 9.1(US$ bn) 2006 consumer credit market 19.1% 18.6% 22.4% 16.5% 14.8% 7.9%as % of GDP 2003 to 2006 consumer credit 22.5% 31.1% 26.5% 36.5% 20.5% 134.8%market CAGR Unless otherwise stated, market information has been sourced from independentconsumer credit statistics. The consumer credit industry in all these markets is dynamic, with both newplayers entering and increasing consolidation amongst existing providers. Themarkets are as yet relatively un-segmented and, to some extent, competitivepositions are transitory with some players likely to be serving customers inmarket segments that they will not occupy in the longer term. This situation hasbeen evolving. In all IHC's markets at the time of its entry there has been avery small prime segment and large non-prime and unservable segments. Thenon-prime segments had in most markets been provided with credit from localbanks and non-bank finance companies on a limited scale. At this stage,instalment credit provided at the point of sale to customers who could provide aguarantee was the most common source of credit. As the markets have developed,the extent and range of credit products provided to near prime customers hasincreased and the requirement for guarantors has reduced. At the same time, thesize of the prime and non-prime segments in these markets has increased and theunservable segments have reduced. IHC has succeeded in establishing a strong, national market position in thenon-prime segment in all of the Central European markets and has created thehome credit category in all the markets it has entered. Local copycat homecredit providers have emerged and offer some local, but not national,competition in the home credit category in all markets except Slovakia, wherethere is a national competitor. In the Central European markets, customers,particularly near prime customers, do now have a choice of credit products andproviders and IHC has successfully faced active competition in these rapidlygrowing markets in recent years. In Mexico the market is less developed but IHCbelieves similar trends can be expected in the future. 11. Financial information on IHC The tables below set out IHC's consolidated income statements and balance sheetsfor the period indicated and have been extracted from the consolidationschedules which support the audited financial statements of Providentfor the years ended 31 December 2004, 31 December 2005 and 31 December 2006.The (?c=64257)nancial information has been prepared in accordance with IFRS. Summary income statement 2004 2005 2006 £m £m £m Total income 275.2 364.7 372.5Total costs (238.4) (319.1) (334.4)Profit before taxation 36.8 45.6 38.1Central Europe 49.8 60.7 65.7Mexico (2.3) (3.1) (9.7)Romania - - (2.4)UK central costs (10.7) (12.0) (11.3)Profit before taxation and demerger costs 36.8 45.6 42.3Demerger costs - - (4.2)Profit before taxation 36.8 45.6 38.1Tax expense (12.1) (13.8) (12.7)Profit after taxation 24.7 31.8 25.4 The summary income statements above are shown after allocating to IHC a portionof Provident's corporate overhead in addition to that reflected in the reporteddivisional profit. In 2006, the reported divisional profit was £46.2 million andthe additional divisional corporate overhead allocation was £3.9 million, whichgives the profit before tax and demerger costs of £42.3 million set out above.The income statements do not include the expected full cost of running aseparate corporate office and IT function in Leeds. It is estimated thatcorporate office and IT costs would have been approximately £5.2 million higherthan the Provident allocation included in the 2006 income statement above. In addition, the above income statements do not take account of the revisions tothe IHC funding structure and financing arrangements following demerger, whichwould have resulted in the interest cost in 2006 being approximately £2.8million lower. Taking into account all of these adjustments, the pro forma profit before taxand demerger costs for IHC for the year ended 31 December 2006 was £39.9million. Summary balance sheet 2004 2005 2006 £m £m £mNon-current assets 28.8 38.0 60.2Current assetsAmounts receivable from customers 285.1 328.7 331.0Other current assets 137.1 182.4 217.4Total current assets 422.2 511.1 548.4Current liabilitiesBorrowings (135.4) (199.1) (297.8)Other current liabilities (38.9) (43.5) (59.0)Total current liabilities (174.3) (242.6) (356.8)Non-current liabilitiesBorrowings (244.3) (242.1) (169.6)Other non-current liabilities (10.4) (8.2) -Total non-current liabilities (254.7) (250.3) (169.6)Net assets 22.0 56.2 82.2 Pro forma net assets as at 31 December 2006 are £150.2 million, as adjusted fora £70 million capital injection from Provident and £2 million of otheradjustments principally relating to demerger costs, giving a pro forma equity toreceivables ratio of 45%. 12. Current trading of IHC IHC has made a strong start to 2007 across all markets. The strong improvementin credit quality seen in Poland during the latter part of 2006 has continued,and the investment in expanding the agent force during the last quarter of 2006has resulted in a return to customer growth during the last three months. Theother Central European markets are also performing well, with steady customergrowth and good credit quality. In Mexico, the main focus has been to improve the quality of the business beforere-commencing the branch network expansion. Nonetheless, customer numbers haveexpanded strongly, by 45,000 to 297,000 in total by the end of May 2007, fromthe existing infrastructure. An improved collections performance has been seenacross the Puebla region, aided by stronger controls over new credit issued andsignificantly improved staff retention which is now at Central European levels.Guadalajara, the second region under development, continues to perform well. Thestart-up losses for Mexico in 2007 are expected to be broadly similar to thosein 2006. The Romanian pilot continues to perform very well. Rates of customer recruitmentare in line with expectations and customers now exceed 13,000. Credit qualityalso remains good. National roll-out later in 2007 has recently been approvedand it is expected that the investment in start-up losses in 2007 will be £3 to£4 million. 13. Strengths of IHC IHC believes that its key strengths are as follows: Proven, self-sufficient business model. The basic home-collected credit modelhas been developed and refined in the UK over the past 127 years. IHC hasbenefited from the significant knowledge and expertise transferred from the UKbusiness and has adapted this successful business model to the particularrequirements of each overseas market. IHC expects to generate substantialsurplus capital from its established Central European businesses which itintends largely to invest in the development of new markets. Experienced and successful management team. IHC's management team has a strongtrack record having been integral to the successful roll-out of theinternational home-collected credit business and growing combined revenues to£365.3 million in 2006 since IHC's inception in 1997. IHC expects to maintainits knowledge pool, as most of the senior management in the Provident group witha significant involvement in the IHC business will be remaining with IHC, and toincrease this by the transfer of skills to new recruits. Effective country entry and expansion model. IHC is experienced in and has asuccessful track record of building substantial home-collected businesses fromscratch in emerging markets. IHC has developed stringent selection criteria toenable it to effectively target countries with emerging economies that offerattractive returns with acceptable operating and financial risk. Initialsmall-scale pilot operations with low fixed-entry costs are then established totest the operating assumptions and to provide confidence as to long-termprofitability whilst minimising financial exposure. Experienced teams areavailable to establish the administrative and physical infrastructure needed toroll-out to national scale once the pilot has successfully concluded. Well-developed product offering with high customer satisfaction and retention.IHC's home-collected credit products and charges are simply structured andtransparent and its service is fast, personal and flexible. Customer acquisitionis achieved through a multi-channel strategy employing a combination of fieldmarketing techniques allied to extensive use of mass media. The evidence of theeffectiveness of the IHC's overall approach is that the average acquisition costacross its markets is just £14, compared to the average annual profit percustomer of approximately £40. This equates to less than 5% of average annualissue value. To encourage customer retention, IHC employs direct mail strategiesbuilt around a bespoke customer relationship management system. Since inception,over 50% of IHC's customers have taken out more than one loan and, in 2006, over75% of eligible customers took out a subsequent loan. This is the result of anumber of factors, of which the two most important are high customersatisfaction (IHC has consistently enjoyed customer satisfaction ratings of 80%or more) and the 'low and grow' strategy of loan value management, wherebyinitial small value loans are gradually increased in size, which helps toprevent customers from overreaching their capability to repay. Ability to build effective large scale agency forces. IHC has the ability tobuild large networks of agents, who establish strong relationships withcustomers in their local areas through the weekly collections process and buildup detailed pictures of customers' financial requirements and repaymentcapability. The personal service delivered to customers in their homes is adifferentiating feature of IHC's business and the cornerstone of its success. Asthe experience of agents develops, they increasingly make improved lendingdecisions, resulting in better collections performance and lower levels ofimpairment. Recently this has been supplemented by three new strategies, namelyapplication scoring, behavioural scoring and centralised, call centre basedarrears management. By rolling out these techniques across its markets, IHC aimsto reduce impairment as a percentage of revenue to around 25% to 30% and IHC'sexperience during 2006 has quickly demonstrated that these techniques canaugment and improve agent decision taking and so improve credit performance. Extensive agency networks and infrastructure. IHC has proven expertise inestablishing and managing substantial branch and agency networks. The full,national networks already established in Poland, the Czech Republic, Hungary andSlovakia, which comprise approximately 23,000 agents and 143 branches, enablecost effective national advertising coupled with fast, local service. Thisinfrastructure will be further leveraged by the planned extension of the rangeof credit products offered. Flexibility to adapt. Emerging markets have less well-defined markets andlegislative structures and so it is important to be able to adapt to changingcircumstances. IHC's rapid and effective responses to the introduction of aninterest rate cap in Poland and the suspension of lending by the PSZAF inHungary demonstrate this flexibility. In Slovakia, IHC's smallest market, thegovernment is currently considering putting forward legislation to cap APRs.However, based on the current construction of the cap, IHC is confident that itwill be able to adapt its products to minimise the impact of any suchdevelopment. 14. IHC's strategy Following the demerger, IHC's objective is to take advantage of the significantopportunities to capture growth in new and existing emerging markets. Whilst inthe short-term, new market entry start-up losses suppress earnings, IHC'slong-term prospects and profitability will depend on the right mix of startingup new operations and maximising profitability in its more established markets,such as Poland and the Czech Republic. IHC's strategy to fulfil this objectiveconsists of the following key elements: Increase pre-tax profit from established Central European markets by 50% atmaturity. IHC estimate that annual profits before tax of £95 million would be areasonable target for the Central European markets once they reach maturity.This is expected to be achieved by growing customer numbers, using enhancedcredit scoring techniques and increasing profit margins. Customer numbers areexpected to continue to grow in the established markets as a result of increasedpenetration of the potential market. The average loan size is also expected torise, firstly as a result of real rises in customers' per capita incomes andsecondly because as the customer base matures a greater proportion of customerstake longer, larger loans. These factors are expected to result in increasedrevenue driven by rising customer numbers and real increases in revenue percustomer (with a long-term target of a 20% increase in revenue per customer).Operating costs per customer are expected to increase by less than revenuebecause of the fixed nature of part of the cost base and the increased revenueper customer, leading to increased profit margins. Develop Mexico and Romania to achieve their full potential. The Mexicanoperation has proved to be IHC's fastest growing business to date, with 297,000customers as at May 2007. Mexico has a population of 107 million and an IHCestimated target for a customer base of three million. The intention of IHC isto roll-out the home-collected credit model on a regional basis, from thecurrent two up to a maximum of five regions, each with a population of around 20million. IHC believes that annual profit before tax of £90 million would be areasonable long-term target once the Mexican market reaches maturity. Romania iscurrently in a pilot phase with full roll-out of the business due to commence inJuly 2007. IHC estimates that a reasonable long-term target for the Romanianbusiness would be 500,000 customers and profit before tax of £20 million. Expansion into new territories. IHC intends progressively to take advantage ofthe potential of several markets which could meet IHC's stringent selectioncriteria to launch pilot operations and, if successful, to invest in newmarkets. IHC has a target list of eight large markets: Russia, India, theUkraine, Brazil, Turkey, Thailand, Vietnam and Argentina. Preparations formarket entry into Russia are well advanced and, subject to confirmatory duediligence, is expected to occur in late 2007. India and the Ukraine arecandidates for a pilot operation to commence in 2008. IHC will favour investingin new regions within existing countries ahead of commencing operations in a newcountry, in order to yield the highest returns, but it is neverthelessconsidering entering three to four new countries in the next five years. IHCdoes not intend to operate in mature markets such as the UK, given thedifference in profile to IHC's current operations. In 2006, £12.3 million wasinvested in start-up losses in Mexico and Romania on a pro forma basis, whichwas equivalent to 24% of IHC's profit before taxation before such start-uplosses. IHC is planning to accelerate the rate of investment in developing newterritories and currently it expects to invest approximately £15 to £16 millionin start-up losses in 2007. These losses in 2007 will principally relate to thecontinuing start-up losses from Mexico and Romania. Thereafter, in themedium-term, the target start-up losses in developing new territories isexpected to be broadly equal to 25% of pre-tax profits before such start-uplosses, with an increasing amount of these losses relating to developingoperations in additional new territories. Extension of the product range. Having incurred cost to acquire customers, theprofitable retention of these customers is central to IHC's long-term strategy.Alongside the core weekly home credit product, IHC is therefore developing andpiloting additional credit products that leverage off the agent and branchinfrastructure of the home-collected credit business in order to retain currentcustomers and to attract new customers in the non-prime markets. Through thisstrategy IHC expects to benefit from a growing existing and potential customerbase, as these economies (and customers) evolve and become more sophisticated. 15. Dividend policy and tax rates In the absence of unforeseen circumstances, IPF intends to pay a dividend of4.75 pence per share for 2007 and thereafter to adopt a progressive dividendpolicy reflecting the profitability of IHC's businesses as well as its capitaland cash flow requirements, with a medium-term objective of moving to a dividendpayout ratio of approximately 25% of profit after tax. IPF believes that thiswill allow the capital requirements of its growth strategy to be met fromretained earnings. The IHC tax charge and the effective tax rate is a function of the followingfeatures: Operating entities overseas are subject to corporate income tax onoperating profits at lower overseas tax rates than the historic UK rate of 30%.However, the benefit of taxing overseas profits at lower overseas tax rates isoffset by the increase in the tax charge caused by the relatively high levels oftax disallowable items, particularly in the Central European jurisdictions. As aresult, IHC's tax rate for 2007 and thereafter is expected to be approximately30%. APPENDIX Set out below is an unaudited pro forma statement of consolidated net assets ofthe UK Group as at 31 December 2006, which has been prepared on the basisdescribed in the notes below to illustrate the effect on the consolidated netassets of the UK Group of the demerger as if it had occurred at 31 December2006. Because of its nature, the pro forma statement addresses a hypotheticalsituation and, therefore, it does not represent the UK Group's actual financialposition or results following completion of the demerger and has been providedfor illustrative purposes only. Adjustments Provident Sale of IHC as at Demerger Proforma group as at Provident 31 Dec adjustments UK Group 31 Dec 2006 Insurance 2006 as at 31 Dec 2006 £m £m £m £m £m note 1 note 2 note 3 note 4 ASSETSNon-current assetsGoodwill 3.1 - - - 3.1Other intangible assets 30.0 (4.4) (14.0) - 11.6Property, plant and equipment 58.7 (2.7) (30.2) - 25.8Retirement benefit asset 8.9 10.0 (0.4) - 18.5Deferred tax assets 30.8 (2.8) (15.6) - 12.4 131.5 0.1 (60.2) - 71.4Current assetsFinancial assets: -- Amounts receivable from customers: - due within one year 1,103.2 - (312.4) - 790.8 - due in more than 129.5 - (18.6) - 110.9 one year-- Intra-group receivables - - (157.7) 157.7 - -- Derivative financial instruments 2.7 (0.2) (0.6) - 1.9 -- Cash and cash equivalents 438.8 (365.7) (44.5) - 28.6 Trade and other receivables 30.6 (4.0) (6.5) - 20.1Insurance assets 56.2 (56.2) - - -Current tax assets 8.1 - (8.1) - - 1,769.1 (426.1) (548.4) 157.7 952.3 Total assets 1,900.6 (426.0) (608.6) 157.7 1,023.7 LIABILITIESCurrent liabilitiesFinancial liabilities:-- Bank and other borrowings (87.4) - 218.4 (144.1) (13.1) -- Intra-group borrowings - - 79.4 (79.4) - -- Derivative financial instruments (44.1) 3.5 2.3 - (38.3) Trade and other payables (114.1) 12.6 35.0 - (66.5)Insurance accruals anddeferred income (328.3) 328.3 - - -Current tax liabilities (37.3) 1.0 21.7 - (14.6)Provisions (1.8) - - - (1.8) (613.0) 345.4 356.8 (223.5) (134.3)Non-current liabilitiesFinancial liabilities -- Bank and other borrowings (933.6) 162.7 169.6 (24.6) (625.9) (933.6) 162.7 169.6 (24.6) (625.9)Total liabilities (1,546.6) 508.1 526.4 (248.1) (760.2)NET ASSETS 354.0 82.1 (82.2) (90.4) 263.5 Notes to the pro forma statement of net assets 1) The net assets of the Provident group have been extractedwithout adjustment from the audited consolidated balance sheet of the Providentgroup as at 31 December 2006. 2) The adjustment reflects the sale of Provident Insurancewhich is expected to complete in mid-June 2007 before demerger. The adjustmentcomprises: a) the removal of the net assets of Provident Insurance which have beenextracted without adjustment from the consolidation schedules used to preparethe Provident group consolidation for the year ended 31 December 2006, exceptfor: (i) the exclusion of the pension asset, net of deferred tax, relating to Provident Insurance of £0.7 million which will be retained by Provident on completion; and (ii) the exclusion of a dormant subsidiary which had net assets of £0.7 million as at 31 December 2006 and will not form part of the sale. b) inclusion of a S75 pension contribution of £10.0 million to be made into the Provident group's defined benefit pension schemes by Provident Insurance following sale. The net cost of this, being the gross contribution of £10.0 million less tax recoverable by the purchaser, will be borne by the Provident group as part of an adjustment to the purchase price (see 2c below). c) the net cash inflow from the disposal, amounting to £162.7 million, has been assumed to reduce bank and other borrowings and comprises: £m Gross consideration 170.0Costs of disposal (5.4)Settlement of interest rate swaps, net of tax* (5.6)S75 pension contribution, net of tax (7.0)Settlement of intra-group debt 10.7 162.7 * the interest rate swaps were being held to hedge the interest rate on the short-term deposits of Provident Insurance. These have been terminated in readiness for completion of the disposal of Provident Insurance. No tax liability is expected to arise on the disposal profits due to theavailability of substantial shareholdings relief. 3) The net assets of IHC as at 31 December 2006 have beenextracted from the consolidation schedules which support the audited financial statements of Provident for the year ended 31 December 2006. 4) Demerger adjustments comprise: Demerger adjustments a b c Total £m £m £m £mCurrent assetsFinancial assets:-- Intra-group receivables - - 157.7 157.7Current liabilitiesFinancial liabilities:-- Bank and other borrowings - - (144.1) (144.1)-- Intra-group borrowings - - (79.4) (79.4)Non-current liabilitiesFinancial liabilities:-- Bank and other borrowings (70.0) (20.4) 65.8 (24.6)NET ASSETS (70.0) (20.4) - (90.4) Notes: a) £70.0 million of capital contributions to be made by Provident into IHCprior to the demerger. The capital contributions are assumed to increase bankand other borrowings. b) £20.4 million of further cash costs relating to the demerger (which arenot expected to have a continuing impact) which had not been incurred by theProvident group as at 31 December 2006. The costs are assumed to increase bankand other borrowings. Total demerger costs, including those incurred in 2006,are expected to be approximately £40.0 million, comprising the following: £10.5million of legal and accounting advisors' fees; £9.0 million of financialadvisors' fees; £7.0 million of IT separation costs; £5.5 million of IFRS 2share-based payment charges; £4.5 million of bonuses; £1.0 million in respect ofestablishing IHC's headquarters and £2.5 million of other costs. c) On demerger, the amounts outstanding on intra-group accounts will beimmediately settled. As at 31 December 2006, the UK Group owed IHC a net amountof £78.3 million comprising amounts due to IHC of £157.7 million and amounts duefrom IHC of £79.4 million. The repayment of the intra-group accounts is to befunded by external borrowings. 5) No account has been taken of the results, cashflows orother transactions (including the payment of the 2006 final dividend of £56.4million) of the Provident group since 31 December 2006. This information is provided by RNS The company news service from the London Stock ExchangeRelated Shares:
PFG.L