24th Feb 2005 07:03
Royal Bank of Scotland Group PLC24 February 2005 THE ROYAL BANK OF SCOTLAND GROUP plc CONTENTS Page Results summary 22004 Highlights 3Group Chief Executive's review 4Financial review 8Summary consolidated profit and loss account 10Divisional performance 11 Corporate Banking and Financial Markets 12 Retail Banking 14 Retail Direct 16 Manufacturing 18 Wealth Management 19 RBS Insurance 20 Ulster Bank 22 Citizens 24 Central items 26Average balance sheet 27Average interest rates, yields, spreads and margins 28Statutory consolidated profit and loss account 29Consolidated balance sheet 30Overview of consolidated balance sheet 31Statement of consolidated total recognised gains and losses 33Reconciliation of movements in consolidated shareholders' funds 33Consolidated cash flow statement 34Notes 35Analysis of income, expenses and provisions 41Asset quality 42 Analysis of loans and advances to customers 42 Cross border outstandings 43 Risk elements in lending 44 Provisions for bad and doubtful debts 45Market risk 46Regulatory ratios and other information 47Additional financial data for US investors 48Forward-looking statements 49Restatements 50Financial calendar 52Contacts 52 THE ROYAL BANK OF SCOTLAND GROUP plc RESULTS SUMMARY 2004 2003 (restated) Increase £m £m £m % Total income 22,754 19,281 3,473 18 _______ _______ _______Operating expenses* 9,662 8,524 1,138 13 _______ _______ _______Operating profit before provisions* 9,612 8,562 1,050 12 _______ _______ _______Profit before tax, goodwill amortisation and integration costs 8,101 7,068 1,033 15 _______ _______ _______Profit before tax 6,917 6,076 841 14 _______ _______ _______Cost:income ratio** 40.8% 42.6% _______ _______Basic earnings per ordinary share 138.0p 76.9p 61.1p 79 _______ _______ _______Adjusted earnings per ordinary share 172.5p 157.2p 15.3p 10 _______ _______ _______Dividends per ordinary share 58.0p 50.3p 7.7p 15 _______ _______ _______ * excluding goodwill amortisation and integration costs. ** the cost:income ratio is based on operating expenses excluding goodwill amortisation and integration costs, and after netting operating lease depreciation against rental income. Sir Fred Goodwin, Group Chief Executive, said: "These results demonstrate very clearly three key features of the Group - strongorganic income growth, the creation of additional growth options, both at homeand internationally and our ability to deliver integration benefits fromacquisitions. Consequently, we believe that we can deliver superior value forour shareholders, our customers and our people in 2005." THE ROYAL BANK OF SCOTLAND GROUP plc 2004 HIGHLIGHTS • Income up 18% to £22,754 million. • Profit before tax, goodwill amortisation and integration costs up £1,033 million, 15% to £8,101 million. • Profit before tax up 14% to £6,917 million. • Underlying margin stable and in line with expectations. • Further efficiency gains - cost:income ratio 40.8%, improved from 42.6% in 2003. • Customer growth in all divisions. • Average loans and advances to customers up 19%. • Average customer deposits up 10%. • Credit quality remains strong. • Basic earnings per ordinary share up 79%. • Adjusted earnings per ordinary share up 10%. • Total dividend 58.0p per ordinary share up 15%. THE ROYAL BANK OF SCOTLAND GROUP plc GROUP CHIEF EXECUTIVE'S REVIEW Our results for 2004 demonstrate the Group's ability to sustain growth acrossthe broad range of our businesses. Strong organic income growth has beensupplemented by a significant contribution from recent acquisitions, whileefficiency and credit quality have continued to improve. The result has been a15% increase in our profit before tax, goodwill amortisation and integrationcosts to £8,101 million. Our profit before tax rose by 14% to £6,917 million andadjusted earnings per share by 10% to 172.5p. Total income rose 18%. The key to this strong performance has been the Group'sability to maintain momentum in organic income growth across its divisions.Excluding acquisitions and exchange rate fluctuations, total income grew by 11%,with good contributions from each of our divisions. Every division deliveredorganic increases in customer numbers, income and contribution to Groupoperating profit. This organic performance has been complemented by a number of importantacquisitions, which have strengthened the market position of our businesses andenhanced their ability to continue to grow their income. The most significant ofthese was the acquisition of Charter One, which expanded Citizens' footprintinto a number of adjacent states in the Mid West, creating one of the tenlargest banks in the US. The diversity of our income streams is an important factor in our ability tomaintain consistent growth. Non-interest income represents 60% of the Group'stotal income, and our business and geographical diversity also means that ourfuture income is not unduly exposed to any single activity. Net interest income grew by 11%, reflecting strong growth in average loans andadvances to customers and in average customer deposits. The Group net interestmargin was 2.92%, five basis points lower than in 2003, but unchanged from thefirst half of 2004. The inclusion of First Active, with its portfolio oflow-risk mortgages, contributed to this modest year-on-year decline, as did thestrong organic growth in mortgage lending, while consumer lending spreadscontinued to tighten. Against this, Group margins benefited from increasedlending to commercial and mid-corporate customers and from the impact of risinginterest rates. Non-interest income grew by 23%, reflecting strong organicgrowth in insurance premium income, good growth in fees and commissions and theacquisition in September 2003 of Churchill. We have maintained our focus on efficiency, improving the Group cost:incomeratio to 40.8%, compared with 42.6% in 2003 and underlying cost:income ratioimproved again in the second half of the year. Operating expenses increased by9% to support organic growth and by a further 4% as a result of acquisitions.The Group continued to invest in initiatives that will enhance its ability toserve its customers and improve its efficiency. We have invested in CBFM's debtcapital markets capability in the US. The Group Efficiency Programme, launchedin 2003, is progressing well, and we remain confident that it will lead tofurther improvements in the Group cost:income ratio. Overall credit quality continued to improve, and the charge for provisions roseby just 1% to £1,511 million, much less than the rise in lending. Credit metricscontinue to improve, with risk elements in lending and potential problem loansfalling to 1.66% of gross loans and advances, compared with 2.24% at the end of2003. Balance sheet provision coverage of risk elements in lending and potentialproblem loans improved from 68% at the end of 2003 to 73% at the end of 2004.Provisions in Retail Banking have risen, reflecting the seasoning of NatWest'sloan portfolio following its strong growth since 2000, while UK credit cards, inline with the market, are seeing some increase in arrears levels. Offsettingthis, the improving corporate credit environment resulted in lower provisions inCBFM. At 31 December 2004, following the completion of the Charter One acquisition,our Tier 1 capital ratio was 7.0% and our total capital ratio was 11.7%. THE ROYAL BANK OF SCOTLAND GROUP plc GROUP CHIEF EXECUTIVE'S REVIEW (continued) REVIEW OF DIVISIONS Corporate Banking and Financial Markets (CBFM) increased its income by 12% andits contribution by 18% to £4,265 million. CBFM is the largest provider ofbanking services to UK businesses. Net interest income rose by 10%, or by 12% if the cost of funding rental assetsis excluded. The increase reflects strong growth in lending to mid-corporatecustomers, while customer deposits also grew. The strength of our mid-corporatebusiness led to an improvement in net interest margin. Non-interest income increased by 14%, as a result of steady growth in lendingfees and income from rental assets and financial markets. Dealing profitsincreased by 12%, reflecting growth across all customer segments. The Group'saverage trading value-at-risk (VaR) remains modest and was £10.8 million (2003 -£9.4 million). CBFM's expenses were 15% higher, reflecting strong growth in all businesses andthe investment we have made in the expansion of our overseas operationsincluding our US debt capital markets business. CBFM's contribution before provisions for bad debts was up by 11%. Provisionswere 23% lower than in 2003. Retail Banking increased its income by 6% and its contribution by 3% to £3,279million. Net interest income was up by 5%, reflecting good growth in mortgage lending andan increase in other loans, albeit at lower interest margins. Our market shareof net mortgage lending has risen to over 7% in 2004 from around 5% in 2003.This strong growth in low-risk mortgage assets has contributed to the reductionin net interest margin. Both mortgage and non-mortgage lending have evidenced aslowdown in growth in the second half of the year. Non-interest income grew by8%. Our customer base expanded, with the number of personal current accountsgrowing by 3% and particularly strong recruitment of student and youth accounts.We added 1,000 extra front-line staff to the branch network. Including this, theoverall increase in costs was contained to 4%. Retail Banking's contribution before provisions was up by 7%. As anticipated,provisions rose from £273 million in 2003 to £389 million in 2004, reflectingthe seasoning of NatWest's loan portfolio following its strong growth since2000, as well as some increase in fraud, as reported in the first half. Retail Direct increased its income by 16% and its contribution by 18% to £1,040million. Excluding acquisitions, its contribution rose by 14%. Higher net interest income reflected an increase in average loans and advancesto customers, spread across mortgages, credit card balances and personal loans. Customer numbers rose by 14%, partly as a result of the acquisition of the UScredit card business of People's Bank. Retail Direct also reached agreements todistribute consumer loans to the customers of Tchibo, a leading German retailer,and credit cards to the customers of Kroger, the second largest US supermarketgroup. The new MINT credit card was launched in December 2003, and 711,000 cardshave been issued to date. Tesco Personal Finance increased its customer base to4.8 million, with particularly strong sales of insurance products. Retail Direct enhanced its position in international card and internet paymentsthrough the acquisitions of Bibit, a leading European internet paymentsspecialist, and Lynk Systems, an Atlanta-based US merchant acquirer. Manufacturing's costs increased by 15% to £2,439 million. Of the £325 millionincrease, £82 million reflects the acquisitions of Churchill and First Active.The balance of the increase in costs results from higher business volumes,continued investment in Group Efficiency Programme initiatives, which areexpected to improve the future performance of the Group, and the ongoing upgradeof the Group's property portfolio. THE ROYAL BANK OF SCOTLAND GROUP plc GROUP CHIEF EXECUTIVE'S REVIEW (continued) Wealth Management increased its total income by 17% and its contribution by 16%to £468 million. Net interest income increased by 9% to £497 million, as aresult of growth in both lending and deposits. Non-interest income grew by 28%to £451 million, reflecting higher fee income as a result of improved equitymarkets and the acquisition of Bank von Ernst in November 2003. Bank von Ernstremains on track to deliver the expected benefits. Excluding acquisitions anddisposals, income rose by 12% and contribution by 14%. RBS Insurance increased its income by 52% and its contribution by 42% to £862million, reflecting both the acquisition of Churchill in September 2003 andorganic growth. Excluding Churchill, income grew 17% and contribution 13%.Churchill's performance has also been good and the integration is on track. ThePrivilege brand was successfully relaunched in August, targeting motorists withfour years or more of no-claims discount. RBS Insurance remains the marketleader in UK motor insurance and is now the second largest general insurer inthe UK. Ulster Bank increased income by 28% and its contribution by 32% to £468 million.This reflects strong organic growth, particularly in mortgage lending, as wellas the acquisition of First Active, which was completed in January 2004. Boththese factors contributed to a narrowing of the net interest margin. Tradingmomentum at First Active is good and the integration is proceeding well. Citizens increased its income, in US dollars, by 31% and its contribution by 36%to $1,900 million. Excluding acquisitions, Citizens' contribution in US dollarsincreased by 13% to $1,570 million. The acquisition of Charter One was completedon 31 August 2004, its trading performance has been good, and integration is ontrack to deliver the cost savings and income benefits we anticipated. CharterOne's balance sheet has been successfully restructured to reduce risk andposition it for a rising interest rate environment. The weakness of the USdollar relative to sterling meant that income in sterling terms rose by 17% andcontribution by 21% to £1,037 million. Our customers We aim to deliver value for our customers. Our success in achieving this in 2004is shown by increased customer numbers in each of our divisions, as well as bypositive surveys of customer satisfaction. In NatWest, the option to telephonebranches direct, along with the appointment of over 1,000 additional branchstaff, has led to significant improvements in customer satisfaction. During 2004our products and our services again won many awards. Our people Our people are the key to our success. The continuing commitment of ouremployees is evident from the results of our 2004 Employee Opinion Survey. Theresponse rate to this survey was 84%, our highest ever, and the Groupoutperformed the UK and Global Financial Services Norm in 13 out of 14categories. We continue to invest in our employees through an extensive range ofdevelopment and leadership programmes. As a result of organic growth andacquisitions, staff numbers increased by 15,700 in 2004. We now employ 136,600people worldwide. Our shareholders Our goal is to generate superior sustainable value for our shareholders. Thescale and diversity of our businesses, together with their ability to maintainconsistent organic income growth, provide a strong platform for this. Ourconfidence that we can continue to deliver growth is reflected in a 15% increasein our dividend to 58p per ordinary share. This is the twelfth consecutive yearin which we have increased our dividend per share by 15% or more. THE ROYAL BANK OF SCOTLAND GROUP plc GROUP CHIEF EXECUTIVE'S REVIEW (continued) Outlook Economic growth during 2004 was strong in virtually all of the economies inwhich we operate, and this trend is expected to continue in 2005 albeit at aslightly lower rate. We continue to see strong growth in lending to commercial and mid-corporatecustomers, and some recovery in demand from large corporates, with consumerscontinuing to behave rationally given the prevailing climate and stimuli intheir particular economies. Whilst in the UK context we would expect thetransition away from consumer credit-led activity to continue, the outlook foremployment and hence the economy remains positive. In a number of respects, 2004 represented a continuation of established themeswithin our results: strong income growth, improving efficiency, good creditquality. Importantly however, the continued development, both organic andthrough acquisition, of our businesses has introduced further strength anddiversity in key areas. As a consequence, we remain confident that we can deliver superior value for ourshareholders, our customers and our people in 2005. Sir Fred Goodwin Group Chief Executive THE ROYAL BANK OF SCOTLAND GROUP plc FINANCIAL REVIEW Profit Profit before tax, goodwill amortisation and integration costs increased by 15%or £1,033 million, from £7,068 million to £8,101 million. At constant exchangerates the increase was 18% or £1,278 million. Profit before tax was up 14%, from £6,076 million to £6,917 million. The Group made a number of acquisitions during 2004 which had a bearing on theyear's results. These included: In January 2004, Ulster Bank completed the acquisition of First Active plc, fora cash consideration of €887 million. In March 2004, RBS completed the purchase of the credit card business ofPeople's Bank in the US. In August 2004, Citizens completed the acquisition of Charter One Financial,Inc. for a cash consideration of US$10.1 billion. The Group has adopted Financial Reporting Standard 17 "Retirement Benefits"("FRS 17") - the standard that replaces SSAP24 "Pension Costs". The effect onthe prior year of adopting FRS 17 is shown on page 51. Total income The Group achieved strong growth in income during 2004. Total income was up 18%or £3,473 million to £22,754 million. Excluding acquisitions and at constantexchange rates, total income was up by 11%, £2,004 million. Net interest income increased by 11% to £9,208 million and represents 40% oftotal income (2003 - 43%). Excluding acquisitions and at constant exchangerates, net interest income was up 8%. Average loans and advances to customersand average customer deposits grew by 19% and 10% respectively. Non-interest income increased by 23% to £13,546 million and represents 60% oftotal income (2003 - 57%). Excluding acquisitions and at constant exchangerates, non-interest income was up 13%. There was good growth in transmissionincome and other fees, up 17% while general insurance premium income increasedby 58%, reflecting organic growth and the acquisition of Churchill in September2003. Gross income from rental assets grew by 18%, reflecting strong growth inoperating lease assets. Net interest margin The Group's net interest margin at 2.92% was in line with expectations.Excluding the acquisition of First Active, the Group's net interest margin wasdown 0.03% from 2.97% in 2003, principally as a result of strong organic growthin mortgage lending and the increased funding cost of rental assets, the incomefrom which is included in other income. Operating expenses Operating expenses, excluding goodwill amortisation and integration costs, roseby 13% to £9,662 million to support the strong growth in business volumes.Excluding acquisitions and at constant exchange rates, operating expenses wereup by 9%, £739 million. Cost:income ratio The Group's ratio of operating expenses (excluding goodwill amortisation andintegration costs and after netting operating lease depreciation against rentalincome) to total income improved further to 40.8% from 42.6%. Excluding CharterOne, the Group's cost:income ratio was 40.6%. Net insurance claims General insurance claims, after reinsurance, increased by 59% to £3,480 million.Excluding Churchill, the increase was 20%, consistent with volume growth andbusiness mix. THE ROYAL BANK OF SCOTLAND GROUP plc Financial Review (continued) Provisions The profit and loss charge for bad and doubtful debts and amounts written offfixed asset investments was £1,511 million compared with £1,494 million in 2003.The charge for provisions in 2004 represented 0.51% of gross loans and advancesto customers (excluding reverse repurchase agreements), compared with 0.64% in2003. Credit quality Credit quality remains strong with no material change during 2004 in thedistribution by grade of the Group's total risk assets. The ratio of risk elements in lending to gross loans and advances to customersimproved to 1.58% (2003 - 2.01%). Risk elements in lending and potential problemloans represented 1.66% of gross loans and advances to customers (2003 - 2.24%). Provision coverage of risk elements in lending and potential problem loansimproved to 73% (2003 - 68%). Integration Integration costs in 2004 were £269 million principally relating to theintegration of Churchill and the acquisitions by Citizens. Earnings and dividends Basic earnings per ordinary share increased by 79%, from 76.9p to 138.0p. Thefinal dividend on the Additional Value Shares ("AVS") paid in December 2003reduced earnings per ordinary share for that year by 49.9p. Adjusting for thisand for goodwill amortisation and integration costs, earnings per ordinary shareincreased by 10%, from 157.2p to 172.5p. A final dividend of 41.2p per ordinary share is recommended, making a total forthe year of 58.0p per share, an increase of 15%. If approved, the final dividendwill be paid on 3 June 2005 to shareholders registered on 11 March 2005. Thetotal dividend is covered 2.9 times by earnings before goodwill amortisation andintegration costs. Balance sheet Total assets were £583 billion at 31 December 2004, 28% higher than total assetsof £454 billion at 31 December 2003. Lending to customers, excluding repurchase agreements and stock borrowing("reverse repos"), increased in 2004 by 28% or £64.8 billion to £293.3 billion.Excluding acquisitions and reverse repos, lending increased by 18%. Customerdeposits, excluding repurchase agreements and stock lending ("repos"), grew in2004 by 16% or £33.0 billion to £242.9 billion. Excluding acquisitions andrepos, deposits increased by 7%. Although the adoption of FRS 17 has reduced shareholders' funds by £3,220million (2003 £2,001 million), this has no effect on the Group's regulatorycapital at 31 December 2004. Capital ratios at 31 December 2004 were 7.0% (tier 1) and 11.7% (total), against7.4% (tier 1) and 11.8% (total) at 31 December 2003. Profitability The adjusted after-tax return on ordinary equity was stable at 20.1%. This isbased on profit attributable to ordinary shareholders before goodwillamortisation, integration costs and in 2003 the AVS dividend, and averageordinary equity. THE ROYAL BANK OF SCOTLAND GROUP plc SUMMARY CONSOLIDATED PROFIT AND LOSS ACCOUNT FOR THE YEAR ENDED 31 DECEMBER 2004 In the profit and loss account set out below, goodwill amortisation andintegration costs are shown separately. In the statutory profit and loss accounton page 29, these items are included in the captions prescribed by the CompaniesAct 1985. 2004 2003 (restated) £m £m Net interest income 9,208 8,301 _______ _______Non-interest income (excluding general insurance) 8,602 7,857General insurance net premium income 4,944 3,123 _______ _______Non-interest income 13,546 10,980 _______ _______Total income 22,754 19,281Operating expenses 9,662 8,524 _______ _______Profit before other operating charges 13,092 10,757General insurance net claims 3,480 2,195 _______ _______Operating profit before provisions 9,612 8,562Provisions 1,511 1,494 _______ _______Profit before tax, goodwill amortisation and integration costs 8,101 7,068Goodwill amortisation 915 763Integration costs 269 229 _______ _______Profit before tax 6,917 6,076Tax 2,155 1,888 _______ _______Profit after tax 4,762 4,188Minority interests (including non-equity) 250 210Preference dividends 256 261 _______ _______ 4,256 3,717Additional Value Shares dividend - 1,463 _______ _______Profit attributable to ordinary shareholders 4,256 2,254Ordinary dividends 1,837 1,490 _______ _______Retained profit 2,419 764 _______ _______ Basic earnings per ordinary share (Note 4) 138.0p 76.9p _______ _______ Adjusted earnings per ordinary share (Note 4) 172.5p 157.2p _______ _______ THE ROYAL BANK OF SCOTLAND GROUP plc DIVISIONAL PERFORMANCE The contribution of each division before goodwill amortisation and integrationcosts and, where appropriate, Manufacturing costs is detailed below. 2004 2003 Increase £m £m % Corporate Banking and Financial Markets 4,265 3,620 18Retail Banking* 3,279 3,170 3Retail Direct* 1,040 881 18Manufacturing* (2,439) (2,114) (15)Wealth Management* 468 402 16RBS Insurance* 862 609 42Ulster Bank* 468 354 32Citizens 1,037 857 21Central items** (879) (711) (24) _______ _______ _______Profit before goodwill amortisation and integration costs 8,101 7,068 15 _______ _______ _______ * the prior year has been restated to reflect the transfer in 2004 of certainactivities from Wealth Management to Retail Banking and from other divisions,principally RBS Insurance and Ulster Bank, to Manufacturing (see page 50). ** the prior year has been restated following the implementation of FRS 17. THE ROYAL BANK OF SCOTLAND GROUP plc CORPORATE BANKING AND FINANCIAL MARKETS 2004 2003 £m £m Net interest income excluding funding cost of rental assets 2,959 2,653Funding cost of rental assets (414) (329) _______ _______Net interest income 2,545 2,324 _______ _______Fees and commissions receivable 1,723 1,537Fees and commissions payable (277) (220)Dealing profits (before associated direct costs) 1,855 1,661Income from rental assets 1,282 1,088Other operating income 381 307 _______ _______Non-interest income 4,964 4,373 _______ _______Total income 7,509 6,697 _______ _______Direct expenses- staff costs 1,642 1,410- other 412 394- operating lease depreciation 610 518 _______ _______ 2,664 2,322 _______ _______Contribution before provisions 4,845 4,375Provisions 580 755 _______ _______Contribution 4,265 3,620 _______ _______ £bn £bn Total assets** 265.3 219.0Loans and advances to customers - gross**- banking book 114.9 99.3- trading book 10.0 5.0Rental assets 11.2 10.1Customer deposits** 74.9 68.6Weighted risk assets - banking 160.9 140.0- trading 16.9 12.6 _______ _______ ** excluding reverse repos and repos Corporate Banking and Financial Markets ("CBFM") is the largest provider ofbanking services and structured financing to medium and large businesses in theUK and a growing provider of debt financing and risk management solutions tolarge businesses in Europe and North America. It provides an integrated range ofproducts and services to mid-sized and large corporate and institutionalcustomers in the UK and overseas, including corporate and commercial banking,treasury and capital markets products, structured and acquisition finance, tradefinance, leasing and factoring. Treasury and capital markets products areprovided through Financial Markets, which is a leading provider of debt, foreignexchange and derivatives products. THE ROYAL BANK OF SCOTLAND GROUP plc CORPORATE BANKING AND FINANCIAL MARKETS (continued) Contribution increased by 18%, £645 million to £4,265 million reflecting growthin all business areas. Total income was up 12% or £812 million to £7,509 million. Strong growth in alllocations was partially masked by the effect of stronger sterling on thetranslation of income from Europe and North American businesses. At constantexchange rates, income grew by 14% and contribution was up 20%. Net interest income, excluding the cost of funding rental assets, increased 12%or £306 million to £2,959 million. Average loans and advances to customers ofthe banking business increased by 10% or £9.5 billion to £103.8 billion. Thesecond half of 2004 saw a modest recovery in large corporate lending. Averagecustomer deposits within the banking business increased by 8% or £5.0 billion to£66.0 billion. An improvement in margins was achieved through strong growth inour UK mid-corporate relationships. Fees receivable rose by £186 million, 12% to £1,723 million with growth drivenby lending, structured finance and capital markets activities. Fees payable,including brokerage, were up £57 million to £277 million due to the greatervolumes of trading and structuring business. Dealing profits, which is income (before associated direct costs) arising fromour role in providing customers with debt and risk management products ininterest rate, currency and credit asset classes, rose by 12% to £1,855 million.Growth was achieved across all our customer segments and product classes withfurther diversification of dealing revenues in the US to compensate for lowerresidential mortgage refinancing volume than in 2003. The Group's tradingvalue-at-risk (VaR) remains modest and the average VaR was £10.8 million (2003 -£9.4 million). The asset rental business, comprising operating lease assets and investmentproperties continued to grow strongly. Rental assets increased to £11.2 billionand income after deducting funding costs and operating lease depreciationincreased by 7%, £17 million to £258 million. Other operating income also grew strongly, up £74 million or 24% to £381million. Direct expenses increased by 15% or £342 million to £2,664 million. Excludingoperating lease depreciation, operating expenses were up 14%, £250 million. Thiswas mainly due to the mix effect of faster growth in businesses with inherentlyhigher cost:income ratios, such as Capital Markets and our overseas businesses,together with the investment in new revenue initiatives in the US. The charge for provisions for bad debts and amounts written off fixed assetinvestments amounted to £580 million, a decrease of 23%, £175 million. Thereduction reflects an improvement in corporate credit quality and the economicenvironment in 2004. THE ROYAL BANK OF SCOTLAND GROUP plc RETAIL BANKING 2004 2003* £m £m Net interest income 3,112 2,959Non-interest income 1,630 1,514 _______ _______Total income 4,742 4,473 _______ _______Direct expenses- staff costs 834 793- other 240 237 _______ _______ 1,074 1,030 _______ _______Contribution before provisions 3,668 3,443Provisions 389 273 _______ _______Contribution 3,279 3,170 _______ _______ £bn £bn Total banking assets 74.2 63.9Loans and advances to customers - gross- mortgages 44.1 36.6- small business 15.2 13.8- consumer lending 12.9 11.4Customer deposits 70.6 66.5Weighted risk assets 49.7 42.9 _______ _______ *the prior year has been restated to reflect the transfer in 2004 of certainactivities from Wealth Management. Retail Banking comprises both The Royal Bank of Scotland and NatWest retailbrands. It offers a full range of banking products and related financialservices to the personal, premium and small business markets through a networkof branches, telephone, ATMs and the internet. The division continued to achieve strong volume growth across all key productareas - in particular mortgages, loans and savings - supported by increasedcustomer numbers. As a result, income increased by 6% or £269 million to £4,742million, and contribution by 3% or £109 million to £3,279 million. Net interest income rose by 5% or £153 million to £3,112 million, reflectingstrong growth in lending and deposits which more than offset the impact ofbusiness mix - particularly strong growth in low risk mortgage lending - and theimpact of lower margin in some areas, especially unsecured lending. Averageloans to customers, excluding mortgages, grew by 12% or £2.8 billion to £26.5billion. Average mortgage lending grew by 21% or £7.0 billion to £40.7 billion.Both mortgage and non-mortgage lending have evidenced a slowdown in growth inthe second half of the year. Average customer deposits increased by 8% or £4.9billion to £66.0 billion. Non-interest income rose by 8% or £116 million to £1,630 million. This reflectedhigher fee income associated with strong asset growth in both personal andbusiness sectors together with increased volumes of money transmission activity. Direct expenses increased by 4% or £44 million to £1,074 million. Staff expensesincreased 5% or £41 million to £834 million, principally due to the deploymentof an additional one thousand customer facing staff in the NatWest network. Theincrease in other expenses was 1% or £3 million, reflecting rigorous costmanagement. THE ROYAL BANK OF SCOTLAND GROUP plc RETAIL BANKING (continued) The charge for provisions for bad and doubtful debts increased by £116 millionto £389 million. The increased charge reflects the anticipated increase indelinquency rates in the NatWest portfolio following growth in unsecured lendingin recent years. NatWest credit experience is now broadly consistent with theRBS portfolio which has been stable for a number of years. As reported in thefirst half, there has also been a higher incidence of fraud which has led tosome deterioration in recovery rates. The overall quality of the loan portfolio, the majority of which is mortgagelending, as measured by probability of default, remained in line withexpectations. THE ROYAL BANK OF SCOTLAND GROUP plc RETAIL DIRECT 2004 2003* £m £mNet interest income 938 849Non-interest income 1,191 986 _______ _______Total income 2,129 1,835 _______ _______Direct expenses- staff costs 259 211- other 453 446 _______ _______ 712 657 _______ _______Contribution before provisions 1,417 1,178Provisions 377 297 _______ _______Contribution 1,040 881 _______ _______ £bn £bnTotal assets 26.9 21.9Loans and advances to customers - gross- mortgages 9.2 8.2- other 16.0 13.8Customer deposits 4.4 4.4Weighted risk assets 21.1 16.8 _______ _______ *the prior year has been restated to reflect the transfer in 2004 of certainactivities to Manufacturing. Retail Direct issues a comprehensive range of credit and debit cards to personaland corporate customers and engages in merchant acquiring and processingfacilities for retail businesses. It also includes: Tesco Personal Finance("TPF"), The One account, Direct Line Financial Services, Lombard Direct,WorldPay Limited, the Group's internet banking platform, the Primeline brand,and the consumer lending business in Continental Europe, all of them offeringproducts to customers through direct channels. During 2004, Retail Directsignificantly expanded its international operations. In the US it acquired thecredit card business of People's Bank and Lynk Systems Inc. a merchantacquisition business and entered into an agreement to distribute credit cards tocustomers of Kroger. In continental Europe, the acquisition of the leadingEuropean internet payment specialist, Bibit, was completed in May and agreementto distribute consumer loan products to the customers of Tchibo, a leadingGerman retailer, was concluded. Contribution increased by 18% or £159 million to £1,040 million. Total income was up 16% or £294 million to £2,129 million, reflecting continuedstrong growth across all products, particularly credit cards. Excludingacquisitions income rose by 9%, £155 million, and contribution was up by 14%,£125 million. Net interest income was up 10% or £89 million to £938 million.Average lending rose by 19% to £24.2 billion, of which average mortgage lendingwas 16% higher at £8.8 billion, mainly in The One account. Average customerdeposits were stable. The new MINT branded credit card was launched in December2003 and while the 0% introductory interest rate for nine months on MINT cardsdepressed net interest margin, over 711,000 MINT credit cards have been issuedand attracted significant balances. During 2004, the total number of customeraccounts increased by 2.3 million. Non-interest income was up 21% or £205 million to £1,191 million, reflectingincreased volumes and acquisitions. Direct expenses increased by 8% or £55 million to £712 million. Staff costs wereup 23%, due to the acquisitions and increased headcount to support higherbusiness volumes. Excluding acquisitions, staff costs were up 8%. The increasein other expenses was limited to 2%, as a result of tight cost management andefficiencies within the core businesses. The charge for provisions for bad debts increased by £80 million or 27% to £377million, reflecting the growth in lending volumes and the acquisition of thecredit card business from People's Bank. THE ROYAL BANK OF SCOTLAND GROUP plc RETAIL DIRECT (continued) Excluding acquisitions, provisions for bad debts were up 14%, £41 million.Credit metrics across the portfolio remain broadly stable, however consistentwith the market there was some increase in the levels of arrears towards the endof the year in credit cards. THE ROYAL BANK OF SCOTLAND GROUP plc MANUFACTURING 2004 2003* £m £m Staff costs 794 671Other costs 1,645 1,443 _______ _______Total manufacturing costs 2,439 2,114 _______ _______ Analysis:Group Technology 807 686Group Purchasing and Property Operations 854 718Customer Support and other operations 778 710 _______ _______Total manufacturing costs 2,439 2,114 _______ _______ *prior periods have been restated following the transfer of certain activities,principally from RBS Insurance and Ulster Bank. These increased costs by £370min 2004 and £239m in 2003. Manufacturing supports the customer facing businesses and provides operationaltechnology, customer support in telephony, account management, lending and moneytransmission, global purchasing, property and other services. Manufacturing drives optimum efficiencies and supports income growth acrossmultiple brands and channels by using a single scalable platform and commonprocesses wherever possible. It also leverages the Group's purchasing power andhas become the centre of excellence for managing large scale and complex change. The expenditure incurred by Manufacturing relates to shared costs principally inrespect of the Group's banking operations in UK and Ireland. These costs reflectactivities which are shared between the various customer-facing divisions andconsequently cannot be directly attributed to individual divisions. Instead, theGroup monitors and controls each of its customer facing divisions on revenuegeneration and direct costs whilst in Manufacturing such control is exercisedthrough appropriate efficiency measures and targets. Manufacturing's costs increased by £325 million, 15% to £2,439 million. Manufacturing is now supporting RBS Insurance and Ulster Bank and of the £325million increase, £82 million reflects technology and property operations ofChurchill (2004 - £96 million; 2003 - £33 million) and First Active (2004 - £19million; 2003 - £nil) which were acquired in September 2003 and January 2004respectively. The balance of the increase was required to support higher business volumes, toupgrade the Group's regional property portfolio and to invest in the GroupEfficiency Programme initiatives that are improving the Group's overallefficiency. A number of initiatives aimed at improving efficiency and customer service wereintroduced in the year, including a sales prompt system on screens in NatWestbranches and in RBS and NatWest telephony: enhanced fraud prevention; conversionof paper based branch reports to screen; image and workflow capability inservice centres; the introduction of a new image enabled mortgage platform whichhas improved the efficiency and quality of our service and the introduction ofan on-line customer query management system. THE ROYAL BANK OF SCOTLAND GROUP plc WEALTH MANAGEMENT 2004 2003* £m £m Net interest income 497 457Non-interest income 451 352 _______ _______Total income 948 809 _______ _______Expenses- staff costs 299 259- other 164 139 _______ _______ 463 398 _______ _______Contribution before provisions 485 411Provisions 17 9 _______ _______Contribution 468 402 _______ _______ £bn £bn Loans to customers 9.2 7.9Investment management assets - excluding deposits 22.3 22.3Customer deposits 31.7 29.1Weighted risk assets 8.3 9.1 _______ _______ *the prior year has been restated to reflect the transfer in 2004 of certainactivities to Retail Banking and Manufacturing. This includes £5 billion ofinvestment assets managed by the Affluent Banking business. Wealth Management comprises Coutts Group, Adam & Company, The Royal Bank ofScotland International and NatWest Offshore. The Miami based private bankingoperations of Coutts Group were sold in July 2003, and in November 2003, CouttsGroup completed the acquisition of Bank von Ernst. Contribution at £468 million was £66 million or 16% higher than 2003. Excludingthe acquisition and adjusting for the disposal, contribution was up 14%, £54million. Total income increased by 17% or £139 million to £948 million, including a fullyear contribution from Bank von Ernst. Excluding the acquisition and disposal,income was 12%, £94 million higher. Net interest income increased by 9% or £40 million to £497 million. The increasereflects growth in both lending and deposit volumes, combined with the benefitof higher average interest rates. Non-interest income increased by 28% or £99 million to £451 million, reflectinghigher fee income as a result of the improved equity markets and the acquisitionof Bank von Ernst. Investment management assets were stable at £22.3 billion. Excluding theRelated Shares:
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