Oct 28, 2014
Norman Roy Blackwell
Good morning, everyone. For those of you who I haven't met, I'm Norman Blackwell, Chairman of Lloyds Banking Group since April this year.
And on behalf of the board and the executive team, I'd like to welcome you to the presentation of our results for the 9 months ended September 2014, and our strategic update. I'm introducing this session this morning because, as well as the results, in a moment, our Chief Executive, António Horta-Osório, and members of the executive team will present the key strategic priorities for the group for the next 2 years.
Before that, however, I'd like to hand over to George Culmer, our Chief Financial Officer, who'll run through the key financial and operational highlights from our third quarter results, which we issued to the market this morning. And after he's given you that overview, there will be an opportunity to ask a few questions on the results before we move on to the strategic update, which is main focus of this morning's presentation.
So thank you. Over to you, George.
Mark George Culmer
Thank you, Norman. And good morning, everyone.
Thanks for coming. As Norman said, I will cover the Q3 IMS.
And as said, I will tend to move pretty rapidly and then we can get on to the strategic update. So in 2014, we've continued to make strong progress with improved profitability, increased lending and deposits in key customer segments, and we've continued to strengthen and reshape the balance sheet.
And this reshaping is now substantially complete. The runoff portfolio was GBP 23 billion in September.
We remain firmly on track to achieve our improved guidance of less than GBP 20 billion by the year-end. In addition, in September, as you know, we successfully disposed of a further 11.5% of TSB, taking our remaining shareholding to 50%.
On financial strength, we've seen a further significant strengthening of the core Tier 1 and leverage ratios. And we've also seen excellent progress on financial performance, with strong improvements in both our underlying and statutory profit after tax.
Finally, you've seen this weekend's announcement that we passed the EBA stress test. As you know, the EBA stress test was especially punitive with regards to U.K.
residential and corporate real estate market. As you'd expect, we adopted a thorough and conservative approach to our modeling, and we're pleased that the test highlighted the strongly capital-generative nature of our business, which will obviously continue to benefit us as we move forward.
As you know, the PRA stress tests are published on the 16th of December. These tests are even more targeted at U.K.
residential and corporate exposures, but also contain some significant modeling differences to the EBA. And with the strength of our balance sheet and capital position, I expect to pass the PRA test.
Looking at the financials, then, in more detail. Q3 income, excluding SJP, was up 3% to GBP 13.9 billion.
This was led by net interest income, which was up 11%, offset by expected lower levels of OOI. The increase in net interest income reflects an improved net interest margin of 2.44% and growth in our key customer segments.
Underlying profit was GBP 6 billion, up 35%, driven by the growth in income as well as an underlying 6% reduction in costs and a 59% reduction in impairments. Statutory profit after tax was GBP 1.4 billion, representing a fivefold increase on last year, with improved profitability and lower tax charge more than offsetting the additional charge we have taken in the quarter for PPI.
This increase in profitability was a key driver in the improved return on risk-weighted assets, which is up by over 1% to 3.05%; the increase in the core Tier 1 ratio to 12%; the increase in the leverage ratio to 4.7%; and the improvement on the TNAV to 51.8p. Looking briefly at loan and deposit growth.
For loans, the trends we reported at the half year continued into Q3. We've grown our net lending and mortgages by 2%.
We continued to make strong progress in SMEs, which is up 5%, and grown share in the contracting mid-sized market. Our Consumer Finance business has continued to accelerate strongly, with U.K.
lending increasing by 15% year-on-year, driven by strong growth in motor finance. And at the overall group level, after excluding runoff and other closed books, we've grown our year-on-year net lending by 3%, which is clear evidence of our determination to support our customers and the U.K.
economy. On deposits, we continue to focus on our relationship brands in Retail, and our transactional banking balances in commercial, whilst managing our other brands more tactically.
Managing this mix has delivered a 3% increase overall and helped to improve our loan-to-deposit ratio, which stands at 109% versus 113% at the start of the year. Turning now to look at some of the P&L lines in more detail.
As mentioned, net interest income was up 11% at GBP 8.8 billion. This increase was driven by better deposit pricing, lower wholesale funding costs, loan growth in key segments, partly offset by expected asset pricing headwinds and runoff reductions.
The year-to-date net interest margin of 2.44% is 38 basis points higher than 2013. And in third quarter, the margin strengthened to 2.51%, mainly due to continued tailwinds on the liability side.
And for the full year, we expect the margin to be in line with our previous updated guidance of around 2.45%. OOI remains challenging, with year-on-year reduction also impacted by the sale of SJP and other disposals.
The Q3 total of GBP 1.6 billion was marginally down from GBP 1.7 billion in Q2, due mainly to lower profits of insurance as well as things like the impact of reducing runoff portfolio. On costs, we settled GBP 6.9 billion for the year-to-date, which is 6% lower than 2013 after excluding the timing effects of FSCS.
Our market-leading cost-income ratio now stands at 49.7%, and while Q4 will be impacted by the bank levy, we're on track to deliver our targeted full year 2014 cost base, excluding TSB, of around GBP 9 billion. For impairments, we've seen a 59% reduction in the 9 months charge to GBP 1 billion, with the year-to-date AQR improving significantly to 27 basis points.
Year-on-year NPLs are now just 4.5% of assets, down from 5 -- it's down from 6.3% at the start of the year and over 10% back in 2011. And we expect to show further progress in NPLs by year-end.
On coverage, the coverage ratios have strengthened to 56.6%, a 6.5 percentage point increase since the start of the year and 2.6 points since Q2. As a result of the better anticipated trends, we're revising our full year guidance and now expect the AQR for full year to be around 30 basis points compared with the revised guidance of around 35 points we gave at the half year.
Turning to PPI. We've increased the provision of this in the quarter by some GBP 900 million.
Almost 3/4 of this increase relates to reactive claims, which were 18% down on Q3 last year but marginally up on Q2 and ahead of expectations and with the remaining amount relating to increased remediation and related costs. Since quarter end, we have seen a reduction in reactive complaints, but provision has ever remained sensitive to future trends.
In terms of overall cash spend, this continues to run at about GBP 200 million per month. However, as we said at the interims, we'd expect PBR and remediation costs to be substantially complete in the first half of next year.
Ongoing cash spend at that point will predominantly relate to reactive complaints, and therefore, we expect a significant reduction in the monthly cash outflow. In terms of the overall reconciliation from underlying statutory profit.
Most of these items are well known to you. They include the charge for the ECN exchange; Simplification and TSB costs; as well as the charge for PPI within legacy costs.
Effective tax rate for the year was 14%, reflecting taxes and gains on our disposals in the first half and a lower tax rate in insurance. And statutory profit after tax is GBP 1.4 billion and significantly up on 2013 due to the improved underlying profitability and lower tax charge.
And looking forward, I continue to expect full year statutory profits to be significantly ahead of the first half. Finally, on capital.
As you've heard, our fully loaded common equity Tier 1 position increased to 12% from 11.1% at Half 1, driven mostly by underlying profits and the ongoing reduction in risk-weighted assets. On leverage, we remain in a strong position.
We've increased our ratio on a Basel III basis to 4.7% from 3.8% at the start of the year, and this includes a 50 basis point benefit from our AT1 issuance, which added to the positive effect of strong underlying profits. And the continued strengthening of our key capital and leverage ratios remains clear evidence of the successful execution of our low-risk strategy and the capital-generative nature of our business.
So in summary, so far in 2014, we've continued to execute successfully on our strategy. We've grown lending and deposits, reduced costs, improved profitability and strengthened the capital and leverage ratio.
The strong performance has enabled us to provide further improved full year guidance on impairments as well as to confirm our existing guidance for net interest margin and runoff. The discussions with the PRA on dividends remain ongoing.
Going forward, I've great confidence in our ability to deliver continued strong and sustainable returns. And that concludes my review.
We will now have time for 1 or 2 questions, I think, before moving on to the strategic update.
Mark George Culmer
So have we got microphones, or we'll just -- I can probably hear you from there, but...
Chintan Joshi
I'm not sure. Chintan Joshi from Nomura.
Just had one on your asset margin relative to Q3 [ph]. Could you give us a sense of [ph] how much of the LCR growth rate you have in there [ph] would remain on a quantity run rate [ph]?
You've given us a 10% number in Q1. I just wondered to see that you may be [ph] changing that and also if you could give us [indiscernible] difference between the C&G book [ph] and the other booking.
Mark George Culmer
Okay. Well, first off, on the margin question.
As I said, the overall margin in Q3 was about 2.51%, which I think compare with about 2.48% in terms of Q2. And the trends, as I said in the presentation, are familiar ones to you.
I've got -- I think the liabilities was, only 5 or 6 basis points benefit in there, off about 3 or 4 from the assets. And I've seen that mix pretty consistently as I've actually moved through the period.
On the SVR book, I think the -- particularly on the Halifax one, I think it's still just under -- a shade under about GBP 60 billion. I think it's about GBP 59 billion.
And we haven't seen any material movements in terms of changes in attrition rates recently. So I mean if you go back 18 months, I think that was a shade over GBP 60 billion, about GBP 62 billion, GBP 63 billion.
As I said, it's now about GBP 58 million, GBP 59 billion, but we haven't seen any material changes in attrition rates on that book recently. And I'll probably -- I'll get back to you on differences between attrition to that and the C&G book.
Other question?
Thomas Rayner
I think I might have the mic at the back here. It's Tom Rayner from Exane BNP.
Can I have a couple, please? I mean, just on the P&L items.
Noninterest income seems to be the one where -- I think your last guidance was for stable in the second half. It seems to have been a little bit weaker than that.
And I just wondered if you've got any more visibility now on whether Q3 is really the sort of run rate for noninterest income. And then I also have a second question on PPI, please.
Mark George Culmer
Yes, okay, right. Yes, the GBP 1.6 billion, you're right.
It was slightly down on GBP 1.7 billion and slightly disappointing. When you look across the divisions, there are some interesting things.
Now if you look, for example, at commercial, commercial was flat on OOI Q3 versus Q2, which is encouraging, as well as Consumer Finance. Retail was marginally down, I think, about GBP 20 million Q3 on Q2, higher transaction costs, use of other ATMs, et cetera, sort of being the main drivers there.
The main one, actually, in terms of churn was probably insurance, where we had some adverse claims experiences compared with the write-back in Q2. And I think the net swing of those effects had about a GBP 40 million impact.
We've also been benefiting from the transfer of assets from the commercial business into the insurance business, and we had a lower level of that in Q3. So again, I think the insurance business, in aggregate, was about GBP 90 million down Q3 versus Q2.
As I look forward, I said, GBP 1.6 million, it will be nice to get to about GBP 1.7 billion in Q4. I would certainly expect a stronger performance from the insurance business in Q4.
And provided that the other businesses can continue on trends, then I think we've got a reasonable chance of getting to that GBP 1.7 billion. The backdrop hasn't changed.
Conditions do remain tough, et cetera. And as we move forward, we would be looking to grow the OOI book, but again, I would sort of temper sort of ambitions and expectations in terms of the rate of that growth because some of those fundamentals around the conduct regime and the backdrop are going to stay present.
But as I said, GBP 1.6 billion, slightly down, as you say, but let's see how Q4 pans out, but I would hope for about GBP 1.7 billion, provided we can get the sort of hopeful turnaround in insurance.
Thomas Rayner
Just on PPI. I mean, obviously, looking at unutilized provisions versus current monthly spend, et cetera, it doesn't really help get us to the right answer on when the sort of PPI charges might stop.
Is there an element here which is probably not possible to analyze, but just reflecting things like record keeping, so when claims are now -- claims management companies are trying to push back further and further in time, it's actually just cheaper for the banks to settle rather than even try and dig out records which may no longer exist? And I was wondering if there's a -- following on from that, there's an issue that a moratorium needs to be called at some point.
Are you able to comment on your thoughts about that?
Mark George Culmer
Okay, there is no specific records issue. I mean, obviously, within that, the further one goes back in time, the less evidence one has.
And certainly, in terms of any submitted PPI complaint, you've got 8 weeks to turn around. What one has to do is effectively carry out a sort of fact file in terms of the customer's conditions at the time.
And you've got to go back in time and actually re-create that, and then you've got to look at the conditions around the sale and make sure that all the disclosures were made. But unlike some other stories you might heard, we have no specific issue around cutoff points in terms of data or in terms of information or anything like that.
What we are seeing and the reason for provisions, as I said in the presentation, reactive complaints, which were down 18% year-on-year but they were up in the quarter. And what happens is we factor that into our model in terms of projecting future claims.
And if I have a period of flat and then I think they're up about 2% or 3%, I extrapolate that out. And obviously, the area under the curve comes back to the amount that we've -- you're seeing today.
Of the GBP 900 million, some GBP 660 million relates to that reactive bit. The good news, I suppose, would be in the 3 weeks since the quarter end, is that claims are down, but I would caution that is but 3 weeks.
And I think we've given some sensitivities in the RNS that says, were claims stay at the same Q2 levels that we've seen -- sorry, the Q3 levels, there will be something like a further GBP 600 million that will be required. But we have seen claims reduce of late.
In terms of things like moratorium, it's tough. And at various times, various initiatives commence, but enabling to get agreements amongst the regulator, the consumer groups and the banks is proving a tough task.
And the idea is attractive and it certainly appeals, but definitely -- but getting down into the detail and then getting to a situation where each party can walk away from the room and declare that they've got what they wanted has so far proved beyond the parties. But going back to your original question: There is no data issue.
We continue to deal with complaints. What we're seeing, though, is reactives have been sticky.
No sort of spike up in things like CMCs. It's just CMCs are staying the course.
Whereas fluctuating between about 49% and 69%, I think they've averaged about 60% over the last 8 weeks or so, but if -- we just remain subject to what's happens on those reactives.
Sandy Chen
It's Sandy Chen from Cenkos Securities. Just one question, actually.
In the Q3, there was a GBP 900 million top-up on PPI, but it seemed like no other top-ups on other regulatory fines. I mean, should we interpret that as, particularly looking at the ForEx investigations, that you don't expect any further fines related to that?
Mark George Culmer
That is correct. You're correct in both observations.
There were no other top-ups. And in terms of the ForEx, we weren't in the put terms of the first tranche of banks asked to look at that.
We went to the FCA and said that we should conduct our own investigation, which we did. We have taken those findings back to the FCA.
And our work in that, to all intents and purpose, is complete.
Unknown Attendee
Just had a quick question on the revised impairment guidance, which implies 40 basis points charge in the fourth quarter, from 20 in the third. You characteristically, through the course of this year and, I guess, the second half of last, have been quite cautious on that.
And so just trying to square that guidance with your expectation of further falls in NPLs but a big pickup in the charge, please.
Mark George Culmer
Q4 is always when one takes a good, hard look at the book, and in terms of sort of forward guidance, I think there's an element of that as well. But what I would say to you, it doesn't reflect any change in terms of the overall trends that we're seeing.
I think it's more reflective in terms of the internal seasonality of process than one sort of the sort of external changes in terms of what's going on in the market. But I think it remains a good news story.
Jason Napier
It's Jason Napier from Deutsche. Two, please.
The first, on the topic of stress tests. It appears that the process that the PRA is taking a run through perhaps will be a bit more logical from a revenue and cost standpoint, but I wonder whether there was any reason why tougher assumptions on house prices, CRE, interest rates, unemployment, GDP, don't automatically lead to a higher cumulative loss than the EUR 25 billion that was in the weekend disclosures.
And then secondly, the disclosure or the bridge that you've given on interest income. Quite clearly, the repricing of deposits has been very powerful so far.
There's less use of tactical brands. The mix is improving.
Your LDR is at target. Can you give any sort of sense as to where the mark-to-market deposit costs are relative to back book or the pace of repricing you'd expect and also whether you're reiterating sort of flat margin over the next 6 to 12 months?
Mark George Culmer
Okay, in terms of the first, obviously, yes, the EBA stress tests, which I talked to at the speech and obviously you've all seen and in terms of our 6.2% in terms of the transitional basis. And obviously, as you're alluding to, that we also show the 6% on a -- basically on a fully loaded basis.
And obviously, the potential or otherwise look forward to the PRA stress tests, which I said had been announced on the 16th. Again, as you all know and then as you articulated, that is more severe on the housing market in terms of assumptions, in terms of HPI, et cetera, et cetera.
So all things being equal, the first thing one would presume would be that, whatever we scored on EBA, will go down on PRA, which is the sort of first pass and we should accept. Going the other way, though, again, as you're probably aware, there are some major modeling methodological differences between the EBA and the PRA.
And we would certainly expect to, and in fact we do, benefit quite substantially from that change in methodology. And examples would be, as you know, things like the no cure on the mortgages, which has a very significant effect.
In Europe, it's a couple of billions in terms of impairments, in terms of the removal of cost floors and removal of caps in terms of income. Again, they have a very material impact upon our numbers.
So one -- what first pass should play in, yes, I've got a more severe stress, so it's a negative, but then when we see the more realistic PRA scenarios, we would expect to see -- or rather we do get significant credits from the modeling of those through our numbers. And as I said in the presentation and I think as I said in July when we sort of first submitted those numbers, I expect to pass the PRA stress test, and that very much remains the case.
In terms of the second question, sorry, I'm not going to be able to regale you with differentials in terms of front book, back book pricing, those sorts of things. I certainly would expect that, as we move forward, we'll continue to see certain opportunities in terms of liability deposit pricing.
And again, as I look forward on NIM, I'll have some structural advantages in terms of as the runoff book decreases. As I factor in the wholesale cost that comes through, they should benefit as well.
But going back to one of the earlier questions, those asset headwinds are out there. And in terms of which they actually factor in and the differential between some of those tailwinds and that headwind, we will see.
I won't give specific guidance for next year. We'll probably sort of do that at the full year stage, but I would certainly -- I think we've got a -- we're in a pretty robust position, where our margin is at the moment.
Andrew P. Coombs
It's Andrew Coombs from Citi. And 2 questions from me, please.
Just firstly, coming back to the NIM. I won't push you on guidance for next year, but purely looking at your full year guidance for 2.45%, given what you've published in Q3, it would seem to imply a small downtick in Q4, not huge but ever so slight.
Am I reading too much into that? Is it a case of prudent guidance?
Or do you expect that you're at a turning point on the NIM trajectory?
Mark George Culmer
It's not a turning point. It certainly is not a turning point.
And you may be reading too much into that. You're reading into the few basis points, 2.51% versus 2.48% sort of quarter-on-quarter.
You're into the sort of sphere of science. Yes, you are not -- we are not signaling that I've reached some inversion point or anything like that, so rest assured.
Andrew P. Coombs
And on -- just on the loan book, you've seen a further contraction during the quarter. Part of that is due to the runoff portfolio.
You also highlight Global Corporates and taking a step back there. You've given guidance in the full year for your expectation for the runoff portfolio, but perhaps you could just give us an idea of how much further there is to run on the Global Corporates side.
Mark George Culmer
I would expect further contraction on the Global Corporates. And actually, that will be particularly stark because, Q4 last year, we actually had a very strong quarter in terms of building that Global Corporates book.
So I struggle to remember. I -- but I would expect to see some further contraction.
We can give you the number later, but I would expect to see further contraction in Global Corporates, particularly on a year-to-year basis, in Q4. Should we -- okay, should we move on with the event?
Raul Sinha
Here, Josh [ph]. I've got the mic, so if I can have a quick couple of follow-ups.
Right here. It's Raul Sinha from JPMorgan.
I can assume my questions won't keep you. Just focusing back on the runoff portfolio of GBP 23 billion.
I didn't find the disclosure, so apologies if I missed it, but could you tell us what is the Irish element of that and what the coverage ratio on the Irish element of that is? Have you taken any write-backs in this quarter?
And how has the trend of write-backs progressed through the year? I think this is something that you have obviously seen in your accounts.
Mark George Culmer
The -- I mean, in the Irish one, in terms of the P&L charge, there has -- we continue to impair against the Irish portfolio, but there's been about GBP 100 million of write-backs and releases, when I look at the 9-month data. In terms of the net position, the -- I can tell you the percentage move here because, actually, the net exposure is down about 25% from the start of the year in terms of the 9-month stage.
In terms of the net, I'm trying to straighten out what the number is. Juan, do you know what the net book is?
Juan Colombás
For the commercial book, it's 1.7. And for the Retail, it's around 6.
Mark George Culmer
Yes, yes. And it's down 25% year-on-year.
Okay, with that, I will hand back to Norman.
Norman Roy Blackwell
Thank you, George. Before António moves on to outline the key components of the strategy update, I'd just like to provide some brief context.
Lloyds Banking Group, we believe, enters the next phase of its strategic journey from a position of strength, having substantially delivered against its key strategic priorities over the last 3 years. This has reshaped the group to focus on the U.K.
and return the balance sheet to full strength with a much reduced funding requirement, while generating a significant improvement in underlying profitability. In the light of these achievements and as evidence of our rehabilitation, the U.K.
government, as you know, has started the process of selling down its stake in Lloyds Banking Group. While we're proud of these achievements, the board recognizes that this is just the staging post, not the end of the strategic journey, and there are significant changes in the environment that the group needs to address in the next phase of our development.
We, therefore, spend a significant amount of time discussing how we can take the business forward, recognizing the impact of the evolving regulatory and competitive environment as well as customers' changing needs in an increasingly digitized world by having our U.K. Retail- and Commercial Banking-focused business model.
And as we look ahead, we recognize that the digital transformation in particular will be fundamental. And together with the external factors of competition and regulation expect to result in a pace of change across the U.K.
financial services sector that is unprecedented, with more fundamental change occurring over the next 10 years than has happened over the past 200 years. Alongside this strategic challenge, our other priority is rebuilding trust.
The U.K. financial services sector as a whole faces the major challenge of rebuilding trust with key stakeholders, including customers, regulators and politicians, following the significant long-term damage that was caused by the financial crisis.
Regaining this trust, which is a business imperative rather than a nice-to-have, will take time. However, Lloyds Banking Group is completely committed to achieving this by enshrining the highest standards of integrity to serve our customers.
The new strategy that António will outline has been fully debated by and endorsed by the board. I'm confident that it's the right one in the current environment and capitalizes on the group's unique assets, including its franchise and its capabilities.
It is also consistent with our prudent risk appetite. Focusing on the best outcome for our customers will continue to be a core objective of the group, alongside of supporting our commitment to become the best bank for our shareholders.
To these commitments, Lloyds Banking Group will continue to support the U.K. economic recovery and be an employer that our colleagues are proud to work for.
I'd now like to hand over to António to provide you with a deeper insight into the group's strategic focus over the next 3 years. And we'll then be open for questions.
Over to you, António.
António Mota de Sousa Horta-Osório
Thank you, Norman. And good morning, everyone.
I am delighted to be introducing the next phase of our strategic journey to you today. Over the last 3 years, we have succeeded in simplifying and reshaping the group to become a low-cost, low-risk, customer-focused retail and commercial bank.
This business model remains unchanged with the combination of our multibrand strategy through iconic brands, multichannel approach and leading cost position, continuing to be a key differentiator versus our major U.K. peers.
Our focus on the U.K., where we now have more than 95% of our assets, means that we are based in a AAA-rated country without the complexities, regulations and costs of multiple jurisdictions. Similarly, our simple retail and commercial specialization means we don't have the exposure to or increased risk ratings from volatile investment banking activities.
Our lower operating and financial leverage, coupled with the significant reduction in our noncore assets, reinforce the low-risk characteristics of our business model. And this low-risk business model is increasingly reflected in our low costs of equity.
In a world where higher capital requirements are the norm, having a low cost of equity is fundamental in helping deliver competitive advantage and superior and sustainable economic returns for our shareholders. Customers are at the heart of our strategy, with our strong relationships and insight, commitment to service, customer-focused people and multibrand, multichannel approach integral to our business model.
At the beginning of the year, we also launched our Helping Britain Prosper Plan, designed to support our U.K. customers and businesses and, in turn, the economy as a whole.
We believe that providing our customers with products and services they value while achieving operational efficiencies will create a reinforcing cycle of growth and competitive advantage, generating long-term sustainable returns for shareholders and financial stability for our customers. Turning to our achievements over the last 3 years.
We set out our strategy in June 2011 and have made significant progress on delivering against each of the 4 objectives we set at the time: reshape, strengthen, simplify and invest. It was this strong progress that allowed the U.K.
government to start selling down its stake in the group late last year, beginning the process of returning the company to full private ownership at a profit to the U.K. taxpayer.
We have significantly reshaped the group, reducing noncore assets by more than GBP 140 billion and achieving our original 2014 target for reducing the noncore portfolio 18 months ahead of target and in a capital-accretive way. We have also concentrated our focus on the U.K., to 7 countries at the end of Q3 this year, significantly ahead of plan.
Regarding strengthen, we have transformed the group's capital position and achieved the fully loaded common equity Tier 1 ratio of 12%, comfortably exceeding our original target of 10%. We have significantly improved our funding position by reducing our reliance on wholesale funding by more than GBP 170 billion and have reduced our loan-to-deposit ratio to less than 110% from over 150% at the end of 2010.
Simplifying the business has driven efficiency savings across the group. And we are on track to deliver total annual run rate savings of GBP 2 billion, GBP 300 million ahead of the original targets that we set.
This has enabled us to achieve significantly ahead of plan our original target for 2014 to reduce our annual cost base to GBP 10 billion. And we remain firmly on course for full year costs this year, excluding TSB, to come in at around GBP 9 billion.
Later in the presentation, George will explain how we plan to extend and enhance our cost leadership position over the next 3 years. These efficiencies have created capacity to increase our investments in the business.
We have invested 1/3 of our cost savings, enabling us to double our discretionary investment spend in growth initiatives and to improve the customer service and experience. Our complaint scores are now significantly lower than our peers, and we have seen continued and significant improvements in our customer Net Promoter Scores, which have increased by over 50% during the plan period.
The actions we have taken have supported our model of being customer focused and U.K. centric.
We have created a culture with values that focus on our customers, and we are committed to ensuring the group remains an organization with the highest level of integrity and standards. Now let me tell you why our business model is the right one for the U.K.
economy, the evolving regulatory environment and for U.K. customers.
Starting with the economy. As I have said many times, a strong economy requires a strong banking sector in the same way as a strong banking sector requires a healthy economy.
We are the largest retail and commercial bank in the country, and therefore, our future and the prosperity of the U.K. economy are inextricably linked.
This means we have a special responsibility to help Britain and its communities to prosper. U.K.
GDP is now growing robustly and unemployment is falling, increasing both consumer and business confidence. House prices have also recovered strongly, increasing by 21% since the low point in 2009 and nearly recovering to their precrisis peak.
With house prices expected to remain high and rise further in comparison to incomes, first-time buyers will continue to face challenges entering the markets. Against this backdrop, bank-based rates are expected to rise only slowly, with the first increases predicted to come through in 2015, as the MPC seeks to support growth and allow opportunity for the economy supply capacity to improve; and should stay low for longer than in previous economic cycles.
We expect interest rates to reach 3% in 2018 and to stay at this level for some time. While the outlook for these key economic indicators is encouraging and will drive significant shifts in our customers' needs, the economy is still fragile and risks remain, especially geopolitical and relating to the evolution of the eurozone.
Turning to the changes we are witnessing in the U.K. banking environment.
In the 3 years since we announced our strategy, there has been a marked shift in both the competitive and regulatory environments for banking. Regarding competition, the U.K.
banking sector, which I believe is very competitive at the retail level, has become even more so in recent years. Earlier this year, we saw a number of our traditional competitors' strategies converge on the one we have been successfully executing over the past 3 years.
Competition within the banking sector has also increased with new challenger banks coming to market. In addition, nonbanks such as technology firms and supermarkets have been and have the potential to further disrupt the banking industry.
While we have significant competitive advantages through our unique multibrand and multichannel business model, low-risk DNA and cost leadership position, we are not complacent. And it is important that our strategy adapts to this expanding competitive environment.
The regulatory landscape is also evolving with greater focus on protecting consumers and small business customers through conduct and competition regulation; and on capital ratios, ringfencing and resolution models through prudential regulation. I have said before there is a role for strong but constructive regulation, which we welcome.
This is in the interest of the industry in helping to rebuild trust. Within the U.K., the treasury and the PRA are working towards creating a stable and safer banking sector without exposing taxpayers to the unacceptable costs of banks failing in a disorderly manner.
Having an independent, ringfenced traditional retail and commercial bank separated from non-ringfenced investment banking and other activities is considered a key step ex-ante for resolvability through a crisis. While the final height and the implementation of ringfencing is still to be determined, the perimeter of the ringfence has been clearly set by the regulator.
As a U.K.-focused retail and commercial bank, most of our assets will be eligible within the ringfence, so implementation of ringfencing will be much easier for Lloyds than for other banks. Regarding conduct, as a customer-focused business, we are committed to delivering the best outcome for our customers and continuing to provide fair-value products that are appropriate to their needs with clear, simple and relevant terms.
We're also strongly embedding a culture across the organization that is based on the highest standards of integrity. Now let me turn to long-term customer trends.
The proportion of the U.K. population who now have access to the Internet has increased significantly over the past few years, as has the proportion of people accessing the Internet via their mobile phone.
Both these trends are expected to increase markedly. This in turn has changed customer behaviors in terms of how they shop for goods and undertake banking.
We must reflect these changes in the products, services and channels that we provide to our customers. An aging population is expected to affect the products and services that our customers require, with younger customers requiring help with planning and providing for retirements, while the older generation is becoming increasingly interested in accessing their equity to support their retirements.
With our multichannel distribution model, coupled with our broad product reach and expertise across insurance and banking, the group is uniquely positioned to meet these needs for both our individual customers and our corporate customers. Let me now introduce to you the new priorities for this next phase of our strategy.
The business model we set out in June 2011 remains unchanged, together with our aim to be the best bank for customers and shareholders. Our strategic focus for the next 3 years is based on 3 priorities.
Firstly, to create the best customer experience. Customers are and remain at the heart of our strategy, and we are committed to ensuring we deliver the best customer experience through our multibrands and multichannel approach.
We will continue to rebuild trust with our customers by providing a reliable, fairly priced and convenient service, which is executed through enhanced digital capabilities and a multibrand branch network. The second priority is to become simpler and more efficient, making us more responsive to changing customer expectations whilst further enhancing our cost leadership amongst U.K.
High Street banks and enabling us to keep superior levels of investments in the business for future growth, as we did over the last 3 years. Thirdly, we will target the delivery of sustainable growth by maintaining growth in line with the markets in our key Retail business lines and seeking opportunities where our customer propositions provide competitive advantage in target segments and products where we are underrepresented.
I will come back to growth opportunities in more detail later. Turning to customer experience.
We know our customers value the multichannel access we provide. And these customers are more valuable, purchasing 27% more products and interacting 5x more than branch-only customers.
Therefore, our ambition is to create the best customer experience through combining our comprehensive digital capabilities with personal services delivered through our branch network and telephony. To do this, we will embrace the growing opportunities that digital technology provides.
Miguel will describe this later. To support this, we will invest a further GBP 1 billion in our digital propositions over the next 3 years to reflect our customers' changing channel preferences and to build on our success in developing a resilient and secure digital infrastructure that offers customers better service with greater efficiency.
As a result of these investments, our Retail and commercial customers will increasingly be able to transact, be serviced and purchase through their channels of choice, with simple needs increasingly being met digitally. In contrast with market trends, we recognize the value in maintaining a significant branch network as part of a multibrand and multichannel approach to serving customers, but we will adapt by evolving the role of branches to reflect our customers' changing preferences, integrating the role of branches with digital and telephony as part of a seamless multichannel approach.
As our customers continue to value the convenience of branches, we remain committed to maintaining a wide-reaching multibrands branch network, where over 90% of Lloyds and Bank of Scotland customers will continue to have a usable branch within 5 miles, while the Halifax network is maintained. We will, however, look to optimize our branch network by focusing on areas of overlap.
We anticipate that these changes will involve a net reduction of around 150 branches but also an increase in our overall market share of branches in the U.K., given present and anticipated branch closure trends in the markets. Alison will talk to you in more detail about our branch network later.
Through the initiatives we are outlining today, we aim to create the best customer experience that is reflected in the lowest reportable complaints and a Top 3 position for customer satisfaction within our peer group by 2017. We have demonstrated our ability to deliver significant efficiency savings, and we will continue the Simplification of our business to both improve customer satisfaction and to extend our cost leadership position.
As part of this, we will continue to redesign and automate key processes and customer journeys while embedding a more efficient change capability across the business and building more resilient systems and processes. The changes we are announcing today will lead to a rebalancing of roles within the group to reflect the increasingly digital, multichannel nature of our business.
While we plan significantly ahead, including attrition and looking to redeploy colleagues where possible, this will regrettably result in a reduction of around 9,000 roles over the planned periods. In the first phase of Simplification, we reduced our supplier numbers by over 50%.
Looking ahead, we will build on this success by reducing our dependency on contractors and third-party suppliers. George will explain later how these initiatives will simplify the business further and enhance our cost leadership by achieving an additional GBP 1 billion of gross rate savings by the end of 2017 from an investment of GBP 1.6 billion, which will in turn lead to an improvement in the cost-income ratio every year and a ratio of 45% as we exit 2017.
As I have previously said, the group remains fully committed to support the U.K. economy and to help Britain prosper.
Lloyds has an extensive customer franchise with strong relationships, well-established market positions, iconic brands and a leading multichannel proposition. This will enable us to drive further competitive advantages as we implement the next phase of our strategy.
We aim to deliver sustainable growth by growing in line with the market in our key business lines of mortgages and current accounts while targeting above-market growth in SMEs and mid-market clients and also in retail areas where we are underrepresented. We are well positioned to grow in our targeted areas of consumer lending, financial planning and retirement and business banking.
We are also confident in increasing net lending to SME and mid-market clients by over GBP 1 billion each, annually; and that we can continue to achieve double-digit percentage average annual growth in our Asset Finance business, leading to an increase in net lending of around GBP 4 billion in this segment over the plan period. We also expect to achieve over 20% growth in credit card balances, amounting to circa GBP 2 billion over the period.
In total, when including Retail mortgages that will increase by more than GBP 20 billion, this equates to more than GBP 30 billion of additional net lending over the plan periods in our key target segments. Let me highlight our market shares by key customer and product lines, as this provides a useful overview of where we see our growth opportunities.
As you can see, we have around 25% market share of Retail customers and around 19% of SME and mid-markets customers but have products and areas of underpenetration such as London and the Southeast, which represents significant growth opportunities that we will pursue within our prudent risk appetite given our low-risk business model. We have already made good progress in building our digital capabilities.
In the last 3 years, we have invested more than GBP 750 million in digital, achieving a 20% digital market share with over 10 million active digital customers, 5 million of which are active mobile banking customers. And GBP 1.5 trillion of commercial client transactions have been conducted through our digital platforms.
Our digital propositions are also receiving industry recognition, with our consumer and SME apps achieving a top iOS rating earlier this month. Late last year, we launched digital as a separate standalone division whose head reports directly to me and is a member of the executive committee of the bank.
This has provided the necessary focus that will enable us to extend our digital capabilities throughout the group and to ensure we develop propositions that are at the forefront of our customers' evolving needs across all of our divisions. To achieve this, we will invest in new mobile applications; a new platform for commercial banking; online sales and servicing; videoconferencing capabilities; and an enhanced self-service technology, increasing overall spending over the next 3 years to GBP 1 billion, so 1/3 higher than the previous plan period.
Turning now to look at this by business area. In our Retail division, we have a strong portfolio and presence in the markets and have significantly improved the financial performance, together with the credit quality, of the business over the past 3 years.
In the year-to-date, we have met our Helping Britain Prosper Plan commitments by helping 1 in 4 people buy their first home. And we are the largest participants in the government's Help to Buy scheme.
In a highly competitive market with new entrants, low customer barriers to exit and improved price transparency, our multibrands, multichannel strategy and the value of our segmented customer proposition have remained differentiators, enabling us to acquire 60,000 new customers in the first half of this year through the new current account switching mechanism, with our Halifax brands achieving the #1 position for net switchers across the whole industry. As we look ahead, we will strengthen our franchise by maintaining share in our core markets using enhanced customer data analytics to offer new insights into customer needs and by pursuing regional growth opportunities where we are underrepresented, such as in London.
Earlier this year, we restructured the Retail division to serve our customers better by leveraging the scale, customer insights and efficiencies of our Retail infrastructure and processes through the inclusion of our domestic Wealth business and the development of segmented mass affluent propositions. In addition, we decided to serve our smallest business customers better and in a more cost-effective way by fully integrating them in the Retail division.
Looking forward, we will look to combine all of these with the reshaping of distribution as part of a seamless multichannel approach supported by innovation in digital and mobile and the redefined role for branches and telephony. And finally, we will continue to simplify and automate processes on an end-to-end basis, in turn leading to a better customer experience and greater cost efficiency.
Alison will cover this in more detail later in the presentation. Turning to commercial.
The commercial business has already made substantial progress in delivering its strategy. In the first half of this year, it achieved a return on risk-weighted assets of 1.96%, already close to the target of 2% that was set for 2015.
It has also successfully derisked its business, reducing risk-weighted assets by around 40% during the last 3 years. Commercial Banking is playing a key role in Helping Britain Prosper and in supporting the U.K.
economic recovery. We have committed more than GBP 11.5 billion of gross funds through the Funding for Lending Scheme and have grown our commercial transaction banking deposit base by 11% in the first 9 months of this year.
We have also consistently increased lending to SME clients in a contracting market over the last 3.5 years, thereby demonstrating the value of our relationship- and community-focused strategy. As we look ahead, small and medium companies will continue to play an integral role in the U.K.
economic recovery, and we aim to continue to be their chosen banking partner through our SME and mid-market businesses, where we will target additional growth of GBP 6 billion over the planned period, by improving our key market sector specialism and improving our position in London, where we are underrepresented. Across the wider commercial business, we will create frontline capacity through simplification and digital with key areas of focus including client on-boarding and servicing as well as client insights and analytics.
We will continue to invest in critical infrastructure to build our digital capability in global transaction banking. As we grow the business, we will focus on maintaining our capital discipline by optimizing our global corporate relationships and targeting a new and even more ambitious return on risk-weighted assets of at least 2.4% by 2017.
Turning now to the Insurance business now. Our Insurance business is a core part of the group and is focused on 4 key markets, corporate pensions, protection, retirement and home insurance.
We are a market leader in corporate pensions and the largest writer of home insurance in the U.K. The business is run efficiently, benefiting from the scale advantages of the wider group and achieving a market-leading combined operating ratio of 80% in the General Insurance business.
The benefits of having an Insurance business within the group extend beyond product breadth and customer reach. These include a number of operational and financial synergies, including capital diversification benefits and a reliable dividend stream, with the Insurance business having repatriated circa GBP 4 billion of capital to the group in the period since the strategic review of 2011.
We will look to continue to leverage our unique group capabilities. As the U.K.
population ages, financial planning for retirement is becoming a critical and growing customer need. The group is well placed to serve this need for both individuals and corporates, given our integrated Insurance business.
By connecting products, services and customer insights already in existence in Scottish Widows, we will enable our retail customers to make long-term preparations for retirement, growing assets by over GBP 10 billion by 2017. Through our longevity and the investment expertise, we are well placed to support our corporate customers across the group as they look to derisk their defined benefit pension schemes.
And we will continue to support them with appropriate products and services as they look to improve the pensions for their employees through defined contribution schemes and through the transition to auto-enrollment. Finally, our digital investment will significantly enhance the customer reach of our Insurance business through a seamless integration with our digital banking platform.
In home insurance, we can lead the new business market through a customer-led, low-cost multichannel approach with significant investments in direct channels, while the end-to-end digitization of pensions will lead to greater efficiencies and an improvement in the customer experience. Turning now to our Consumer Finance business.
Our Consumer Finance division was created at the end of last year and comprises our consumer and corporate credit card businesses, along with the Black Horse multifinancing and Lex Autolease car leasing businesses in Asset Finance. Consumer Finance has already demonstrated its capacity for growth, particularly in the motor finance business, where Black Horse saw new business growth of 70% at the half year, driven both by the acquisition of the Jaguar Land Rover representation [ph] and by substantial organic growth.
Our market shares of 12% in new and used car lending and 16% in fleet cars and a significant anticipated market growth provide us with a firm foundation to deliver double-digit average annual lending growth across Asset Finance, amounting to around GBP 4 billion over the period, for example, through the provision of better propositions across the franchise customer base and by helping dealers and manufacturers increase customer loyalty. In credit cards, we currently have a 15% market share and have achieved the #1 position for sales since 2013, having repositioned the business for growth.
Looking ahead, we aim to outgrow the market in this underrepresented area, achieving over 20% growth in car balances over the next 3 years, circa GBP 2 billion, by providing customers with fair value products through our digital capability and leveraging opportunities across both the franchise and nonfranchise customer base. Before I hand over to Miguel to talk to you about creating the best customer experience through digital, I would like to briefly turn to our capabilities to deliver the strategic priorities we are outlining today.
As we look to the next 3 years and our capabilities to deliver the next phase of our strategic journey, we do so from a position of strategic, operational and financial strength. We have a clear and simple strategy as a low-cost and low-risk U.K.
retail and commercial bank that has been successfully executed over the past 3 years. Our multibrand and multichannel approach are differentiators within the U.K.
banking sector and enable us to address the different and evolving needs of our customers in a segmented way. The successful execution of our strategy by a strong management team that has built up a track record of delivery, coupled with the changed management capabilities developed through integration and simplification and our high-quality committed workforce, provide us with a solid foundation to grow and raise the bar in pursuing our vision of becoming the best bank for customers and shareholders.
I would now like to hand over to Miguel.
Miguel-Ángel Rodríguez-Sola
Thanks, António. Good morning, everyone.
Today, we want to share with you our digital strategy and how it helps to create the best experience for customers across all our channels. Digital has changed the world of banking.
We all know that digital has changed the way that customers interact with banks and retailers. As António mentioned, digital will be a significant driver underpinning our strategy over the next 3 years.
Over the last 3 years, Lloyds Banking Group has built the largest digital banking franchise in the U.K., and we are not stopping there. We will continue to invest in digital to create the best bank for customers and make us a more efficient bank.
While digital has changed banking, our customers' needs have not changed. They still want to save for the future, buy a home or protect their families.
What is changing is how they want to interact and fulfill those needs with us. We expect that by 2016, e-commerce will account for 25% of overall business turnover in the U.K.
And U.K. banking mirror this strength.
Digital retail banking sales across the sector, excluding savings, have increased by 16% over the last year. Over 14 million banking apps have been downloaded to date and GBP 1.7 billion are transferred weekly via mobile in the U.K.
This is a massive change. Lloyds Bank sees digital as part of a much broader multichannel approach, one that allows us to meet customer needs wherever and whenever they choose.
For the customers, it's about choice and convenience. For the bank, it's about creating the opportunities to meet additional needs, improve service and save cost.
Put simply, multichannel customers hold on average 27% more product with us and they interact 5x more with the bank. Over the last 3 years, we have built the largest digital banking franchise in the U.K.
We have invested over GBP 750 million in our digital capabilities, building and extending our digital platforms, rolling out new propositions and increasing system resilience and security. As a result, the group has circa 20% of the retail digital market share of new growth, above the average market share of 18% that António mentioned earlier.
Thanks to our customers, we have over 10 million active digital customers. We have over 5 million active mobile customers.
Only mobile, we are almost the largest digital banking franchise in the U.K. Our customers logged on to our secure site more than 1 billion times over the last 12 months.
And we transact online over GBP 1.5 trillion for our commercial clients per year, around the same size of the U.K. GDP.
But it's not just a question of numbers. It is also a question of customer satisfaction.
As of last night, for example, Apple confirms we are the top-rated banking app both for retail and business banking customers in the U.K. We are prepared for the future.
Today, over 40% of our customers' simple needs are met online. In terms of deepening relationships, 40% of direct mortgage product transfers now take place online and 90% of all commercial client payments.
The shift in servicing has been even more dramatic. Excluding cash, around 85% of customer account servicing is now conducted digitally, such as making a payment or checking a balance.
Also, our digital platform has been made available to customers and colleagues in branch and over the phone for servicing. It is simple, it is familiar and it saves time and give us a consistent base to build the future.
And it is great to hear our colleagues in branch have seen a 50% reduction in the time taken to serve some simple customer needs. Our customers have decided to go paperless.
14 million accounts are now enrolled in paperless statements. Imagine the convenience for our customers and efficiency savings for us.
As we have said, multichannel drives customer benefit, growth opportunities and business efficiency. Our customer behavior has changed, and this will only accelerate.
By 2017, we could see 60% of simple needs and 10% of complex needs met digitally. Our customer's first ISA might be opened in a branch, but it will be managed online.
Today, more than 50% of our customers are already doing so. By 2017, we expect 90% of simple service transactions to take place online.
Our ambition is also to grow digital market share. Digital represents a significant growth opportunity for us in areas like cars, personal loans and insurance, where we are below our natural digital market share.
As you have heard from António, digital remains core to our strategy, and over the next 3 years, we will invest GBP 1 billion to give our customers what they want. We will achieve this by: first, delivering to our customers the right solution at the right time in their personal financial journey.
You can expect new digital customer propositions that will support our growth strategy; second, by enhancing our digital capabilities, upgrading our technology, creating consistent service across all our channels and transforming our customer insight; finally, by transforming the customer experience end-to-end. We have listened to our customers, and we will redesign the moment that matter to them, such as getting a mortgage or opening a business account.
We will create a better customer experience and in doing so, we will reduce cost. So what does delivering customer-centric propositions really mean?
For retail customers, it is about completing all of our servicing journeys online and enabling 100% of simple purchases online, providing anytime, anywhere choice and convenience. At the same time, we will give customer access to more complex products, like mortgages or debtor protection.
And you can expect significant focus on mobile propositions. For commercial clients, the end goal is similar, creating a single, consistent digital front door that allow them to transact and service, from cash management and payments to trading and FX.
Next year, we will launch our new strategic online channel for our commercial clients that will support our growth strategy in commercial. Digital is a gateway between customers and the bank, and it's a gateway that transforms our ability to manage the customer relationship.
For the customer, it provides a convenient front door into our proposition and services. For the bank, it creates the opportunity to present highly personalized offerings to customers and clients based on an integrated view of their needs.
To deliver on the promise of digital, we will extend our capabilities across product innovation, multichannel and digital-resilient and secure platforms. Digital brings also a new world of customer insight that we will leverage to better serve our customers and support our future strategic growth.
Being the best bank for customers is about getting the moments that matter right, moments like when we buy a home, open a current account or establish a business. We will transform the 10 most important customer journeys over the next 3 years.
The 10 customer journeys we are planning to digitize include taking on a new mortgage, on-boarding a new business relationship, opening a personal current account or preparing for retirement. The benefits for the customers are clear.
In the case of buying a home, the time required to reach a mortgage offer could go from 25 days to 1 week. Customers' account will have fewer touch points, which will simplify the experience for customers.
In Commercial Banking, business account opening could reduce from 6 weeks to only 1. Finally, Insurance could move from almost limited online servicing capability to circa 70% of service needs being met online.
Digital will bring a massive transformation to current customer journeys, providing significant benefits to them. It is all about doing the right things for customers, anytime, anywhere self-service with less errors, seamless experience across channels and contextual, relevant propositions for our customers.
At the same time, doing the right things for customers carries growth opportunities and significant efficiency improvements for the bank. For the process that we want to digitize, we estimate a future reduction in end-to-end cost of around 15% to 35%.
So we have the largest digital banking franchise in the U.K. And as I said, wheel is [ph] not stopping there.
Over the next 3 years, we will invest GBP 1 billion in our digital future to transform the customer experience, to support our growth strategy and become a more efficient bank. However, we do not see digital in isolation.
We know that what our customers want is multichannel. I am now going to hand over to Alison, who is going to tell you how all of these will fit together from a retail distribution point of view.
Thank you. Over to you, Alison.
Alison Brittain
Good morning, everybody, and thank you, Miguel. This section of the presentation will focus on how our digital transformation will work in harmony with changes in our branch and telephone networks and how that produces a coherent and customer-focused distribution strategy.
We thought deeply about emerging customer trends and how activities will migrate between channels as we form this distribution strategy. And let me explain how we've arrived at our conclusions, starting with a reminder of our current strategy.
Our multibrand, multichannel and multisegment strategy gives us fabulous reach across customer demographics, customer needs types and attitude or preferences. Lloyds Bank and Bank of Scotland are relationship brands.
They're expert and knowledgeable and relationship-orientated, whilst Halifax is a High Street challenger, offering friendly, easy and straightforward banking. Our scale allows us the flexibility to develop tailored propositions and to deliver them at a lower cost, because we use shared platforms and shared back-office functions.
A great example of our competitive delivery of the same product through different brands would be comparing the highly successful launch of Club Lloyds this year, which delivers long-term value in the current account space for Lloyds customers, alongside our continued success in Halifax current account switcher offers, delivering immediate reward and simplicity. Our multibrand approach helps us to maximize distribution reach.
Just looking at our primary active current account holders, the customer overlap is very small, just 2% of our 14 million customers. Customers are increasingly adopting a multichannel approach.
And multichannel customers create more value for the group. The needs of customers are changing, as we've talked about in the last 2 presentations.
Increasingly, customers are expecting more convenience, personalized products and services and seamless service across channels. The continued evolution of digital and mobile is key.
As Miguel mentioned, our new mobile banking app allows customers to stay in touch with us and has been delighting customers so far. All 3 of our branded apps have an average rating of 4.5 out of 5 stars.
Simple branch counter transactions have fallen and are expected to continue to fall as customers opt for the convenience of self-service. And that's both within the branch, using self-service devices, and through mobile and digital.
Within 4 years, we're estimating that branch counter transactions could be half their current yearly totals. And we know that our multichannel customers are more engaged and more valuable.
They hold more products, as António said. And on top of that, our research has shown customers who begin their journey with us as a multichannel customer are 7x less likely than single-channel customers to become inactive or unengaged with us.
So let's turn to our channels, and turning first to telephony. Telephony's core purpose will migrate from transactional inquiries to complex queries and remote advice, enabling increased branch productivity.
So how does that work? Well, telephony is a channel undergoing radical change.
We've seen call volumes fall 10% year-on-year since 2012 as we've enabled and supported customers' preferences of self-service. We see further scope in telephony for additional simplification initiatives, which will drive further savings.
And that, along with an ever-increasing reduced demand, will drive a 28% reduction in our simple telephony activities. However, the mix of telephone activities will change and the proportion of specialized and highly skilled colleagues will increase.
One of our key investments will be the creation of a scalable center of excellence. These centers of excellence will be our remote advisers, leveraging telephony capability through sophisticated videoconferencing technology.
We're initially going to focus on mortgages, which is a complex and highly regulated sales activity. There'll be a number of benefits for both our customers and our business.
Firstly, there'll a step change in convenience for customers. Whilst currently our largest branches can fill the diary every day for mortgage adviser and will continue to do so, many smaller branches cannot.
And they have to share an adviser or have none at all, meaning customers can't get an appointment straightaway and have to wait or they have to travel for one. The remote adviser model would mean that all our outlets would be able to serve customers immediately through the technology.
And whilst I focused this example on the delivery into the branch network, it's not a great leap to see how we could extend that capability into digital and deliver advice directly into a customer's personal device, serving them at a time and place of their own choosing. But there's additional benefits on top of that.
The use of the centralized unit in telephony to deliver this remote advice proposition will ensure a high level of adviser productivity as you manage call volume and a much reduced conduct risk outlook. The sales forces will be centrally trained.
It would be on site and greater management oversight and, of course, full recording of the advice given to the customer. I think this is an example of how we can use our strategic capability and technology to achieve full distribution coverage, higher productivity, lower risk and a great customer experience.
But our convenient branches will continue to have an important role for acquiring new and serving existing customers. Branches have been consistently important for customer acquisition.
For the last 6 years, the proportion of current accounts opened in branches has been greater than 80%, and that trajectory is flat, not declining. The single most important reason for a customer to choose a current account provider is convenience, and that has been a consistent metric since 2008.
Branches have continued to be used by all customer segments and are highly valued by customers for complex advice, for guidance and for service. The majority of even the youngest age group use branches at least annually with more than half using them monthly.
So the emergence of a generation that is digital-only looks a little overplayed, and we see more value in a multichannel approach. It's clear that our most profitable customers use our branches on a regular basis.
For example, 3/4 of our mass affluent customers use a branch once a month. So while we do expect further migrations to digital, we also see a continued role for the branch in acquisition, complex products, guidance and service.
So turning to what our branch presence will look like during this planned period. It's important to remember that through the creation of the TSB brand and its subsequent divestments, we created a new challenger brand on the High Street, but we also reduced our own network by 22%.
And our branch network needs to be considered in the context of the 3 distinct brands, each with 3 distinct competitor sets and the need for each brand to have a convenient footprint. As you can see from the chart, Lloyds Bank now sits middle of the pack of its competitors set.
Halifax is on a par with its challenger bank peers. And the Bank of Scotland is the largest player in Scotland.
Fewer premises costs are a very modest part of the total retail cost base. And so we think there are far bigger cost opportunities elsewhere.
Over the next 3 years, we will maintain a significant network. And whilst we will close on a net basis around 150 branches, we expect to hold or slightly grow market share as our competitors potentially decline faster.
So in terms of this strategy, we know that our customers value our branch network and that our strategy will allow us to meet customer expectations for convenience and to support brand awareness and customer confidence. As I said earlier, property costs are a relatively small proportion of the retail cost base.
Indeed, the people costs in branch are more than 3x the property cost of the branch. Consequently, our efficiency program will focus on removing manual processes and simple servicing from the whole of our estate rather than just closing some small branches.
Branches will become champions for our multichannel strategy. Colleagues will be multiskilled and -- to support sales and service activity and will be asked to play a role in helping customers get the most from their multichannel bank.
As we leverage our multichannel platform and increase the number of straight-through processes, we expect to improve both colleague productivity and customer satisfaction. That's been very successful in 2014, and we have plans for substantial deployment further into 2015.
As António mentioned, in the short term, net branch closures will focus predominantly on consolidating overlapping branches and transferring activity to a neighboring branch. By focusing on the overlap locations and by closing at a slower rate than competitors, we aim to minimize revenue loss whilst delivering an attractive payback.
We will do further investments. We'll improve our presence by relocating some branches into key retail centers, increasing our presence in London and the South East through some targeted openings.
We've recently relaunched Halifax into Scotland, and we'll continue to explore opportunities for that brand in the Scottish market. And we'll invest in our key location branches in major retail centers.
And that investment will support a multichannel approach in creating a digital High Street bank. For example, screens will be removed to enable staff to have more valuable conversations in the banking hall and to interact freely between transactions and advice.
Additional self-service technology will be installed, allowing customers to further migrate over to a most convenient channel at a lower cost. And our staff will be increasingly multiskilled to maximize the potential of our market-leading multichannel platform, improve their productivity and improve the customer experience in everyday banking.
So to sum up, the needs of our customers have defined our distribution strategy. We believe that an effective multichannel approach is the right way forward and that our multibrand position continues to be valued by our customers.
Great execution of this proposition will be our focus. Branches will continue to play an important role for many years to come, and we will focus on cost reduction by changing what happens in all of our branches rather than focusing just on branch reductions.
This will see us migrate service to the most efficient channels, enhance the customer experience and reduce our back-office costs. We believe that the combination of a great local branch network, operating in harmony with a repurposed telephony and using our leading digital capability, is a winning combination.
It will leave us well placed to retain our existing customers and to acquire new ones. I'll now hand back to George, who will cover how we continue to focus on being a simpler and efficient business.
Thank you.
Mark George Culmer
Thank you, Alison. And good morning again.
I'm going to briefly cover the third of our strategic priorities, becoming simpler and more efficient, and then make a few comments on financial strength and targets. Starting with becoming simpler and more efficient.
We're entering the next phase of Simplification from a position of strength with a strong track record of delivery and outperformance against previous targets. As you recall, our original Simplification program was launched in 2011 and set out to deliver financial benefits through the reduction in the cost base and the reinvestment of 1/3 of those savings back into the business.
In terms of targets, by the time the program completes later this year, we will have achieved run rate savings of GBP 2 billion per annum, some GBP 300 million ahead of our initial guidance, at a cost of about GBP 2.4 billion, which are charged below the line. These savings have been achieved through automation, simplification of end-to-end processes, better workflow management and improved demand management, including reducing our supplier numbers by over half.
For our customers, this improvement in operational efficiency has also helped improve the service and value we provide and their experience. As a result, we've seen our Net Promoter Score increase by over 50% and complaints are down also by over 50%.
For our colleagues, we have eliminated highly manual tasks, promoted training and development and given them more time to focus on the needs of the customer. We have, at the same time, improved efficiency by reducing the layers of organization to 7.
And these changes have all had a positive impact on our workforce with employee engagement up 27%. With the success of the original program, what we're announcing today is the next phase of Simplification.
And we are targeting further cost savings, more investment in the business and further improvements to our customer and colleague experiences. In terms of cost savings, we are targeting an improved run rate savings over the next 3 years of an additional GBP 1 billion.
Around GBP 0.4 billion of this will come from the digitization and redesign of key customer journeys, building on the progress we've made in the first phase. GBP 0.3 billion will come from further savings from sourcing and around GBP 0.3 billion will come from optimizing the shape of the organization, primarily through efficiencies in distribution channels, head office and support functions and by adopting more agile ways of working.
And these initiatives will, we believe, result in approximately 9,000 fewer roles across the group. To achieve these savings, we're investing around GBP 1.6 billion across the business over the same period.
This money will be spent on initiatives to simplify end-to-end customer journeys and increase the use of automation. Around GBP 400 million of this relates to expected redundancy costs, which we will show outside of underlying profit.
The balance of GBP 1.2 billion will be charged above the line, and we will match investment and run rate savings and are targeting a year-on-year reduction in our cost-income ratio. In terms of what all this ultimately delivers, as you've seen in our Q3 results announcement, our cost to income position is already market-leading at just below 50%.
Maintaining this market-leading ratio is an integral part of our strategy of delivering value to our customers with sustainable superior returns to shareholders. We're targeting, as you've heard, achieving a cost-income ratio of around 45% as we exit 2017.
Turning now to the financial shape. As you know and have heard, we have made huge progress over the past 3 years in strengthening our balance sheet and funding position while at the same time, reshaping and simplifying the business.
With a core Tier 1 ratio of 12%, total capital of 21%, leverage of 4.7% and hugely reduced wholesale funding and runoff assets, we have a strong and derisked balance sheet and are very well placed to meet the evolving regulatory requirements. Going forward, our commitment is to maintain this strong balance sheet and capital position.
We will maintain a wholesale funding requirement weighted to longer durations with a loan-to-deposit ratio of between 105% and 110%. In terms of capital, as you know, the requirements continue to evolve.
And while we currently believe our steady-state core Tier 1 ratio should be around 11%, there are obviously risks that this could well increase. We're also well positioned to meet other evolving capital and leverage requirements.
For total capital, we have a ratio at least 20% and a leverage ratio above 4.5% with the latter significantly higher than our U.K. peers.
Finally, some words on targets. Successful execution of initiatives we have outlined today will help us achieve our vision to become the best bank for customers and shareholders.
As you've heard, the Simplification program will deliver GBP 1 billion of run rate savings by the end of 2017, where the changes to organization design and branch operating model will result in approximately 9,000 role reductions. As a consequence and again as mentioned, our market-leading cost-to-income ratio is targeted to come down every year with an exit rate of around 45% at the end of 2017.
At the same time, with low risk at the heart of our business model and strategy, we will look to deliver further improvements in the credit quality of our loan portfolio with a target of maintaining an AQR of approximately 40 basis points through the economic cycle, and we expect it to be lower than this over the next 3 years. Through initiatives we outlined today, we're targeting a return on equity in the range of 13.5% to 15%, starting with the strategic planning period, and then through the economic cycle.
And our dividend policy remains to deliver a medium-term payout ratio of at least 50%. These targets evidence the confidence we have in the business and our clear goal of delivering superior, sustainable returns for shareholders.
And I will now hand back to António.
António Mota de Sousa Horta-Osório
Thank you, George. The strategy we set back in 2011 remains unchanged.
We will continue to be a low-risk, low-cost, customer-focused U.K. retail and commercial bank.
But from reshaping and strengthening, together with simplify and invest, we will move into digital and growth, together with simplify and invest. I believe we are well positioned to deliver the next phase of the strategy, given our proven track record, execution to date and clear business model.
We can now raise the bar as we will accelerate the investments in our digital capabilities to position us for the future, which will be done as part of our multibrand and multichannel approach to serving our customers. Given we have substantially reshaped and strengthened the group's financial position and performance, we have developed a solid foundation as we enter the next phase of our strategic journey.
Having successfully delivered on the priorities we set out in 2011, we are now in a position to focus on sustainable growth and to take advantage of the U.K.' s economic recovery, together with making further investments that will allow us to continue to serve our customers' evolving needs and expectations of their bank.
Our priorities for the coming 3 years will be to deliver the best customer experience. This will be achieved via our multibrand, multichannel model, which our customers value.
We will also, through digitalizing the bank further, develop our digital offering further, allowing our customers to undertake not only daily banking transactions digitally but also more complex needs in a way they expect in the evolving digital world. And we will continue to focus relentlessly on our cost base and become simpler and more efficient.
We have set a new cost-income ratio target of around 45% by the end of 2017 with improvements every year through which we will maintain our competitive advantage and our ability to offer superior value propositions to our customers as well as superior returns to our shareholders. Finally, we will target sustainable growth in line with our prudent risk appetite by continuing to grow in line with the market in our market-leading key retail business lines, above the market in SMEs and mid-market clients and above market as well in areas where we are underrepresented, such as car financing and credit cards.
The group remains totally committed to supporting the U.K. economy and Helping Britain Prosper by providing more than GBP 30 billion of net lending to our key customer segments over the next 3 years.
We have an exciting future ahead of us as we enter this next phase of the strategic journey. We have unique assets, our iconic brands and our multichannel distribution model, spanning over 25 million active customers across Retail and Commercial Banking and our integrated Insurance business, which differentiate us from our peers.
And this business model is based on a consistent, simple and clear strategy as a U.K.-focused retail and commercial bank, which has been successfully executed over the past 3 years and is well positioned in light of future economic and regulatory trends. Therefore, these achievements and strategy position us well for the next 3 years to achieve our key strategic objective of becoming the best bank for customers through delivering the best customer experience and also becoming the best bank for shareholders by delivering superior and sustainable returns while helping Britain prosper.
Thank you, and this concludes our presentation. And we are now available to take any questions you might have.
Norman Roy Blackwell
Feel free to ask questions to any of us. But since I suspect it's mostly going to be for António, I'm going to leave him work through them.
Maybe not.
António Mota de Sousa Horta-Osório
Wait for the microphone. So the microphones are taken.
Well, speak up.
Martin Leitgeb
It's Martin Leitgeb here from Goldman. Just a clarification, please.
One, obviously on the move to digital and your branch presence, could you provide a bit more light on -- obviously, the focus is here on the personnel and the number of branches. Out of the 9,000 job cuts, how many of those will be in the branches?
So how can I imagine the branch to be in terms of average employee per branch now and going forward? And I'm just trying to understand really in terms of this massive move from here to digital, is this 2015 to 2017 plan as far as it gets?
Or is there basically a 1- or 2-year potential for full improvement if this transition really happens to that extent? And the second question is with regards to competition, competition on the mortgage side, and yes, you mentioned there's an increasing competition on the retail side.
I was just wondering if you could shed a bit of light on the expectation of net interest margin there. And previously, I think you mentioned that the leverage ratio is a potential mitigant here.
So where would the leverage ratio, probably this Friday, need to be in order to probably impact a certain element of competition on the mortgage side?
António Mota de Sousa Horta-Osório
Right. It's a very comprehensive set of questions.
Look, relating to your first question, and then Alison can give you some color on that. And relating to the financial questions, George can also give you some color on that.
But what I think is important to understand is, I mean, we are here to serve our customers like any other company. And customers are strongly evolving in the way they bank.
And they are now in an exponential, if you want, behavior. They are contacting us through multichannel.
So they do more interactions with us as a whole. And within then those interactions, the mix is changing very significantly, as Alison showed you, whereby the contact is much less through branches, like 9% less counter transactions a year, and much less through telephony, a significant decrease last year, and much more through digital and especially through mobile banking.
So as the customer interactions with us evolve, we have to adapt ourselves and we have to serve them when and how they want. And therefore, in terms of the way we see the trends going over the next 3 years, we are going to need less people in the branches because there's less interactions and less sales through the branches and we should adapt because we have to use the resources in the best optimal way in order to deliver what customers want.
So I will not give you specific details of between operations and other areas. But as Alison said, significant proportion of this will be done in the branches.
But we have as well, as Miguel also showed you, end-to-end process redesign, which will avoid manual interventions and have significant back-office improvements, apart from the fact that we are continuously looking at our organization. And as we have less people, we review the layers and we review the spans of control because what we ultimately want to be, as we also said 3 years ago, is a highly agile and responsive organization that goes in the right direction with the best internal organization of resources and at a quicker speed than our peers.
Alison, would you like to comment on the branches?
Alison Brittain
Yes. Just a little in terms of the consolidation strategy, which is sort of 200 closure with some openings, so netting down to around 150 of the 3-year period.
The fact that we're using a consolidation strategy means that we will close slightly larger branches because the 2 branches within reasonable distance of each other are necessarily urban branches rather than rural. And we will still deploy other alternative strategies with some of our smaller branches, like staying open but for reduced hours and branch -- staff sharing between branches, and even, as we do in many communities in Scotland, delivery of service from the other mobile source, which is a mobile van that goes around and delivers to the communities during the week.
So there are other alternatives that we have to sort of dial up and down our position. But we're expecting that 200 to be the plan if all goes as we have predicted.
Mark George Culmer
And on the leverage, I mean, I presume we will all find out on Friday. And I assume you've all heard various stories along the way.
I think the most extreme I heard was the sort of 5% of pure core Tier 1 equity, which would have interesting consequences, one presumes. I don't expect it to be that.
I do expect that it will start with a 4%. Whether it then goes up in 25 basis points, I don't know, blocks, who knows.
But I would have thought when you go north of 4%, when you look at where some of our peers currently are, that will have an immediate impact, one would've thought, upon pricing, from the one way one positions oneself. So I would have thought in terms of where it bites, it's pretty close to biting already.
And I would feel pretty sure that what is said on Friday will bite with a number of -- whether it's monolines or other people that we compete against.
António Mota de Sousa Horta-Osório
Yes. Because I mean, again if you -- elaborating on what George said, and I have said this at the half year results, if you consider that depending obviously where the leverage ratio will be, but most likely if you believe the leverage ratio will be between 4% and 5%, as George was saying, you have at least 3 of the largest 5 banks in the U.K.
below 4%. And therefore, the marginal cost of capital for mortgages, which today will be, if you want -- if you assume 15% risk-weighted assets on mortgages with an 11% capital ratio, it will go like from 70x to either 20% or 25%.
And therefore, given that it is the marginal cost of capital of the restrictive ratio that will work out for the future and given that the banks in the U.K. have the restriction on the leverage ratio, you can see what can happen if their marginal cost of equity goes from 70x to 20% or 25%.
So I really believe that going forward, banks will have to include the new capital, the new cost of capital of the restrictive -- the restriction in terms of capital on their pricing. And it is likely that mortgages will be the ones where this restriction is greater, given the difference between fully loaded ratios and leverage ratios.
So on a strategic thought, assuming between 4% and 5% depending on the intensity, you can assume what will have to happen over time. Okay.
So do you have a microphone now? No?
This is like negative discrimination.
Chirantan Barua
Chira from Bernstein. I had a simple question on Slide 20 of your deck, which is kind of scary when we look at the aging population and the number of people going beyond 60.
So I totally understand that risk on your P&L risk and credit risk is very low. I agree with you, a low-risk bank.
But the point is, from the regulator's perspective, does it mean that there's a huge chunk of the population with massive amount of mortgage, who in some point in the future will just hand over the keys and say, "Enough is enough, not working until 75"? So which means that do you have a run with excess capital for the next 5 to 10 years?
António Mota de Sousa Horta-Osório
Well, I really don't see that as a big risk. And I think that graphic is not that dreadful because they are much older, you're absolutely right, but people now live much longer.
And I think that is as well, by the way, a strong consideration when you have to consider your branch network because where most of the savings are is in the older generation. And this older generation significantly values the interaction with the branch.
And you can see -- I mean, look how many people are now above 90 and above 100 in the U.K. and what are the trends for next 30, 40 years.
So no doubt, the population is getting older, but they live much longer. And that's where the savings are, which is a lateral comment.
Relating to your specific comment, and I think you are referring to the fact that in the U.K., like 48% of mortgages are interest-only, right?
Chirantan Barua
Correct.
António Mota de Sousa Horta-Osório
We don't see that as a big risk because this is an over 30-year period and houses over time significantly increase in value. So I see very unlikely in a country like the U.K., where are people by culture homeowners, they cannot hand the keys like in the U.S.
because they're liable for the debt in any case. And thirdly, if they have huge equity value locked in their houses, why would they hand the keys?
We really don't see that as a risk.
Chirantan Barua
Totally agree with you on a P&L perspective. But from a regulatory perspective, just because it's tail risk, right, as we've seen in the stress test, it doesn't mean that they ask you to park an excess amount of capital against the balance sheet for the tail event.
I'm not saying there's a P&L risk. But so basically stepping back, well, you planned your strategy an 11% core Tier 1 ratio.
Mark George Culmer
Yes.
Chirantan Barua
Why is it getting worse? What has fundamentally changed in the last few years?
Why has capital gone up?
Mark George Culmer
It's hard to say, actually...
Chirantan Barua
Why has capital -- so when you planned your strategy, you said you planned it around an 11% core Tier 1 ratio, right? And we see it increasing for every year, whereas actually you've simplified your business models.
So where is the disconnect between where you started off with your strategy and the regulatory pressures coming in right now? What are they scared of?
Mark George Culmer
It's probably a question best asked to Moore Gates [ph] and Harry Wolf [ph] and the Euro Hub [ph]. So look, I mean, and as I said actually in the sort of Q3 stuff coming up, we work off around the island [ph], so we work off steady-state because when we do our bottom-up, that was, to us, was an appropriate capital position given the risks inherent in our business which we modeled, et cetera, et cetera.
Now since we did that, the longer the authorities, be they over here, be they Europe, wherever, talk about things, it only ratchets up. And I think as I said this morning, we're aware that there are risks out there, and they're risks that actually, when one looks at the symmetry of risks, it's more likely to be higher than the number that we talked about than less.
And I don't think that is an LBG issue. I think that is just us and parts of sector and just in parts of the world in which we currently live.
So when I make the comments about where I think the risk might be going to our capital position, that isn't Lloyds. That's just us being part of the sector and how I read the prevailing mood music coming back from the authorities.
So it's a sort of sectoral rather than an individual company comment.
António Mota de Sousa Horta-Osório
So I'm going to ask a different question now. Who has the microphone?
Edward Firth
It's Ed Firth here from Macquarie. I just had, I guess, 3 quick questions.
The first one was a strategic question. I guess, when you look at other industries that have been through the sort of the digitization that you're talking about, we've seen a significant reduction in cost, but also a significant impact on revenue margins in particular.
So I just wonder -- I just invite you, would you give us some idea as to what you're expecting over the planned horizon and perhaps further forward in terms of what you think in terms of overall revenue margins?
António Mota de Sousa Horta-Osório
Okay. Well, absolutely right, and that's something we have debated amongst ourselves.
And that is absolutely part of digitization, but I would see it in a slightly different context. I would see it in the context that given that people now access banking like any other sector in a much more effective distribution model, the costs of getting the services and goods they want are much less.
And therefore, as a consequence of the same model, also the revenues that you can generate can be lower given the lower cost structure. #2, this is not a 3-year program.
This will be a generational program, as well for the reasons I told you relating to the different segments of the population and how they age. And in my opinion, and I know we have a different view on this, but we strongly believe the branch network will have a very important role for the next foreseeable future.
And I have to tell you that I now managed banks for 21 years and I already heard of the branch disappearance 21 years ago and they are still here. So the way we see this going forward is the revenues through digital -- and so you have to see the mix versus the other channels, the revenues are normally lower margins.
But on the other hand, volumes are increasing exponentially. So it's not only margins.
It's margin times volume. And you have to see that the marginal cost is almost 0.
And what we have to do and why we try to put ourselves at the forefront of this long-term process by creating a digital division, making that digital division across the group present at executive committee to have a central attention, central allocation of resources, is exactly to start adjusting our customer base with the front foot so starting doing that ahead of our competitors exactly because the lower trends are in the direction that you mentioned. But I think this is good for society, and it will be good for the banks that adapt in a proactive way by lowering their cost structure successfully as you increase significantly the volume sold, but of course, you will have lower margins per product.
Edward Firth
And can I just ask one supplementary? Just in terms of the mortgages and your expectations in terms of a leverage ratio, somewhere in 4%, 5%, something like that.
I mean, you've also -- also got the discussion about minimum risk weightings on mortgage and obviously if you do apply a 4% leverage, you got a huge disparity between capital allocation under leverage and capital allocation under risk-based capital. So are you also expecting some sort of increase in risk or imposition of a minimum risk weighting to try and reduce that disparity?
António Mota de Sousa Horta-Osório
Well, from our -- I don't know if you want to comment as well, from our discussions with the regulators, which we have already shared with you several times, and they haven't changed, our view is that, no, that they will do what you're saying through the leverage ratio. They are not worried about the path of the housing market.
We just started to recover 1.5 years ago, based on the Help to Buy schemes and funding for lending schemes. And should they become worried, we believe they would do risk weights on new business only and through LTV bounds.
But we do not believe this is on their priority at the moment from the conversations we have with them. Manus?
Please, can you hand a microphone over there to Manus. Sorry, we don't see really well because of these lights.
Manus Costello
I have 2 questions actually, please. One for António, one for George.
António, you said in your presentation that you think the U.K. market is highly competitive, but the CMA would appear to disagree with you, and the Labor party certainly disagrees with you.
I wonder if you could discuss how your strategy, as presented today, might have to evolve if that competition review comes out differently, what would be your approach? And my second question for George is that, George, you talked about a 20% total capital ratio, whereas, you're currently at about 18% on a fully loaded basis.
So should we now assume that you actually have a deficit of sub debt rather than a surplus of sub debt? Because in the past, you'd always talked there might be a margin benefit from knocking out some sub debt, but it now looks like you might actually have some kind of headwind from having to fill that TLAC gap.
António Mota de Sousa Horta-Osório
Okay. So let me start with the first one while George has the time to think about your second one.
Look, Manus, I think it's great to have this type of debate in the U.K. And to be very precise, what I said is that I believe that the Retail sector in the U.K.
is highly competitive. I do not believe that is exactly the case in small business customers, as I have said already previously several times.
And the reason why is because while when you look at the Retail sector, you have a wide choice -- a wide variety of choices for customers with quite transferable -- transparent conditions, as you now have the 7-day switching mechanism, which enabled people to switch without risks. When you go to the small business sector, people are normally single bank, as you know.
In the Retail sector, people are multibank. They have different introductory offerings and they have multiple bank accounts, so they can compare easily and they can switch easily now.
In the small business sector, they have normally only one bank, conditions are not that transparent and not that comparable because they only have one bank. And the switching mechanism is not yet extendable to the small business customers.
So while I think that in Retail, given the customer behavior mainly of being single bank, you have more competition issues. On the Retail market, given what I just told you, coupled with the fact that Internet is going everywhere and Internet is, by definition, the most competing channel that you can have.
And thirdly, you have a significant presence of intermediaries in the U.K. market, 11,000, and they have half the market in insurance, in investments and in mortgages, I strongly believe it's a very competitive market.
Having said that, we will see what the CMA decides in terms of launching the studies, which we are expecting them to launch. We will see what type of remedies, or what type of actions do -- they would propose.
We are absolutely willing to cooperate with them, and we'll see what outcome is. And we think that it is good that this is done, by the way, like the Vickers commission proposed that this analysis proposed them to be done in 2015.
We believe it is good that it is done on its merits by the professional body, which is the CMA, and, of course, whatever government will come from the elections, will have to respect the decision that the professional body will take.
Mark George Culmer
And on TLAC, yes, as you know, we have a -- as you said we have on a sort of fully loaded basis, our total capital is about 18%, our transition's about 20%. And I think, irrespective of whether one think that's enough, I think that stands in very good comparison with our U.K.
peers, we have less ratios than certainly with our European peers, a number of whom very significantly less ratios and that or smaller capital stacks than that I should say. In terms of where to from here, again, you would've read and you've seen, whether it's leaked papers or briefings or whatever in terms of expectations where that TLAC is going to land.
Certainly I would agree with you, my expectation is, over the next few years we'll be a sort of net issuer rather than a net redeemer. And whether I'm shooting for 22% or whatever the final figure lands upon is still to be determined.
But I would say that we started that journey much better positioned than everybody else. What I would also say is therefore while the quantum of that capital stack might increase in terms of the unit cost, there's a lot of again a more expensive issuance to be put on in terms of sort of the prices here as well as off.
You will basically see this whole unit costs come down. But I would certainly expect to be a net issuer, but I would certainly expect a large number of our peers to be issuing significantly more amounts of sub debt than ourselves.
António Mota de Sousa Horta-Osório
Okay. Additional questions?
Norman Roy Blackwell
There was one on the backwards side there.
Fahed Kunwar
Hi, it's Fahed from Redburn. I had a couple of questions.
The first one is on the cost-to-income ratio. So your 45% cost-to-income ratio target, is that in line with your 2.5% base rate assumption in '17, as well?
And if base rates weren't to go up, let's just say they stay flat, does your 45% cost-to-income ratio come under threat a little bit? And the second question was just on your 13.5% to 15% ROT guidance.
Just based on 11.5% cost of equity -- I'm sorry, core Tier 1, but if you're talking about kind of 4% to 5% leverage ratio, which is kind of your expectations, then you have talked a lot about, parallelly, those 2 in the core Tier 1 leverage. So that's probably more like a 12% to 13%.
And considering you're already at 12% and capital generation isn't your issue, why not set your ROT target on a higher capital base rather than setting it at 11.5%?
Mark George Culmer
I mean, both of those, yes, I mean, the fundamental presumption made in the plan is that we get to about 2.5% in terms of base rate in 2017. And that feed through into the cost-to-income ratio.
And you're right, we use the basic, an 11.5% capital requirement. And now in terms of the costs, yes, there's a whole lot of things that can change, whether it's the flavor of competition, whether it's macroeconomic, whether it's the regulatory in terms of the capital.
I think what we're sort of saying to you in particular regards that ROE target is that it's built upon a number of those assumptions. Were a number of those assumptions to deviate, we would still be striving to hit that ROE, be it the base rates, be it slight movements in capital requirements, et cetera.
The range that we've set, we would still be striving to hit within the prescribed framework. So obviously, if it moves extremely, then that will have consequences.
I would have to go back and look at that. But if I'm talking about differences between 11.5%, 12.5% or whatever, if I'm talking about 2.5%, 1.5%, we will do what we can to hit those targets, be it the cost income or be it the ROE target.
What we've set is built on assumptions, we all know that assumptions can change. But obviously, this is a change within reasonable parameters.
We will run the business to endeavor to hit those targets we have set today.
Norman Roy Blackwell
In the back?
Raul Sinha
Hi, it's Raul Sinha from JPMorgan. Can I have 2 questions, please?
One, just following up from a previous discussion about the impact of the digital strategy. Clearly, I think one of the concerns the market might have is the impact on fee income or other income off of digital strategy where a cross sell becomes a lot more difficult, especially in the new regulatory environment and customers clearly are able to distinguish and choose banks quite easily online, which obviously changes customer behavior materially compared to maybe to last decade you've seen.
So to what extent are your targets already anticipate maybe a shift from OOI towards NII in pricing? And can you talk about the structure pressures that you see on other income going forward, whether you think that the outlook for growth there is as strong as it is for NII?
That's my first question. And then the second one, sorry.
António Mota de Sousa Horta-Osório
Wait. [indiscernible] Look, I'm just going to make a very small comment and Miguel will elaborate on the behavior of the cost and what we anticipate and George can tell you about OOI.
And what you said is correct. We have been saying for some quarters now that given the evolving regulatory environment, especially relating to conduct, you should consider our income more as a whole, because there is some transfer between commissions and, therefore, OOI into NII.
We have been saying that for a few quarters now. Secondly, what you said about the trends are correct.
We have incorporated it in our plans. And Miguel can give you some color and examples about that.
Miguel-Ángel Rodríguez-Sola
So the transfer between OOI and NII within the channel to our multichannel, we don't see it immediately. It is true that there are some pressures in some growth flows [ph] in margin, but we manage this in an interactive way of multichannel, multibrand.
So that in terms of OOI, let me put you an example. 85% of all international payments that Lloyds Banking Group does is online.
It's easy. It's convenient, and this is OOI.
So from the next wave until now, we have put all the simple products in our digital platform. The next stage ahead of going to complex products is execution-only products.
Next year, you can expect that we will launch protection line. So we are a standard in the mentioned [ph] line, and this is an opportunity to generate more business, either OOI or NII.
The more complex products is a question in the near future. But we'll need to work and we are working closely with the regulator of how we will evolve in terms of financial needs.
But I would like to stress the point of -- we have done in the presentation. So when you get a customer, which is multichannel and operates digital, really the customer and the client in commercial is more engaged with the bank, 30% more products, more interactions.
This is not new to banking. In digital, unfortunately, the principles of all the good and traditional banking applies.
When you have the engagement, when you are in the flow of payment, you have a payroll, the most important bills, as I said, when you were in the flow of income from payments of a household or a client, then you are the primary bank and these customers on average transact 5x more with you, have 3 average times more balances and are more profitable for the Bank.
Norman Roy Blackwell
Very good. Thank you, Miguel.
And your second question was?
Fahed Kunwar
The second one was on interest rate sensitivity. Obviously, in the past, you've talked about the fact that you've hedged, particularly, for the current balance sheet, on interest rate rises.
And you don't scan amongst the other U.K. banks as particularly sensitive to interest rates.
Some of them don't have as much hedging as you have in place. But is it fair to assume that if we look at potentially a 3-year time horizon and we look at the back end of that, your interest rate sensitivity is a lot higher than what is implied by the current hedge position?
Mark George Culmer
Yes, I mean, that would broadly be correct. I mean, as previously communicated in terms of the hedging position, et cetera, we'll not be, on a short-term basis, sensitive to interest rates because it's the bank's policy to actually set out and be predictable and sustainable as possible in terms of NII stream.
But obviously as you move out of that in terms of the hedge rolling over, being reinvested, et cetera, as the ability of margin management increases, yes, as we move out in terms of -- towards those longer-rate base rate-type assumptions, you will get earnings pickup. And it sort of plays back into the sort of last sort of question in terms of base rates deviate from the central assumption, what is our ability to manage it?
All that I can do is I can exhort to you that we will do our utmost to hit the targets, if the base rate deviates from that assumptions or if the capital deviates from that assumption, et cetera. But the better hedge roll over that you gather [ph] and the more there is, the more beneficial to income.
Norman Roy Blackwell
Jason?
Jason Napier
Thank you. Jason Napier from Deutsche.
A question on the Commercial Banking division, if I could. Near enough half of the risk-weighted assets in the group, pretty close to your long-run cost income target.
And the return in the first half probably did better than you'd expect to see, given that leads were almost 0. Could you just talk a little bit, perhaps P&L-wise, where the uplift is supposed to come from in the 2.4% return on risk weights?
Is it better margins? Is there really a cost story in this division?
Do you expect the risk-weighted assets to grow in the next 3 years, and those sorts of things?
António Mota de Sousa Horta-Osório
Right. Well, some comments about that, because you're right, it has a huge proportion of our capital.
Fortunately, quite less now because RWAs have been reduced 40% over the planned period, which was very disciplined and appropriate capital management from Andrew and his team. And as you said, we have better-than-expected results in terms of return on risk-weighted assets in spite of quite adverse market conditions.
So at 1.96% of return on RWAs, we are quite close to the 2.0% target for next year. And that's why Andrew, and we as a team, we decided we could lift the bar again and target 2.4% return on risk-weighted assets by 2017.
What is on the basis of that strategy? Well, on the basis of that strategy is, on one hand, increased volume growth.
As we continue in terms of new markets and SMEs, we continue to grow SMEs significantly above the market, but mid-market lending growth is now turning positive as we have anticipated. And we expect it to grow as well above the market and positively going forward, on one hand.
And secondly, relating to the client approach, which is client orientated and not product orientated, the objective of the division is to deepen client relationships, either at large corporate levels or at any level of the segmentation. So most of the increase in income should come from the deepening of those relationships and from better share of wallet of those customers where, for example, during this year, all the good work done on the division in terms of doing more foreign exchange transactions for customers, more money market transactions, additional capital markets or transaction banking have been a bit upset, as you were saying, by the fact that these markets have contracted and the margins have shrunk a lot.
There were significant market share gains of the division on those markets reflective on higher share of wallets which as markets will recover and as we continue to deepen client relationships, it should -- those should be reflected on our P&L going forward. So it is especially a story about deepening -- continuing to deepening client relationships, translating into higher share of wallets and OOI in this specific division and continuing better capital management, as I said on my speech, given that we are much stricter in the way we manage capital according to the cost of capital and the weight of the division in the total group.
We have an additional question there, sir, and then we'll go over to you.
Sandy Chen
Hi, Sandy Chen from Cenkos again. Yes, I just wanted to ask about the digital side.
I think, particularly on the Retail, the other part of digital, which seems really a part that you haven't talked much about is price comparison websites and the effect that they might have on pricing. I mean, if you could give some additional color in terms of the percentage of, say, new mortgages, new savings, term deposits that flow through price comparison websites.
What's the price sensitivity of that? How that's changed?
And maybe, if there's expectations that the high price sensitivity, rate sensitivity because of those price comparison websites will lessen. Because it seems like what you're assuming is that there might be some ability to get better water spreads in your mortgage business.
And I'm wondering how that plays versus the channel.
António Mota de Sousa Horta-Osório
Okay. So some comments.
I really can't tell you exactly how many come from that. I really don't know.
We can give you more color later on. But strategically speaking, and I was telling to Manus, that is another factor -- I totally agree with you.
When I mentioned the Internet, it is another factor why I believe that the Retail market in the U.K. is very competitive.
People go to the Internet either to access the channel in savings, for example, or to compare pricing in a transparent way and they switch because they different bank accounts. That's why I strongly believe that's an additional factor why it is very competitive.
Second point, we are not predicating our Plan, this is very important, on an increase of mortgage margins. I just said [ph] the point of questions from you, as I had said previously, that looking strategically I think the leverage ratio, depending on where it comes out on Friday, will have a less or a bigger impact on mortgage pricing because it will become a restriction.
But I think it will be an important strategic consideration. But that's not what we are predicating on our plan because, as I have said many times, we manage pricing differently in Lloyds.
We manage assets and deposits together. What matters for us is the difference of the 2, now that we have achieved a core loan to deposit ratio of 100%.
So every loan we give is totally funded by deposits, so the masses are the same in both sides of the balance sheet. What matters is the difference and we do the management together.
We do it on a weekly basis while our peers normally do it on a monthly basis. We think it's critical to do it almost on real time, as we do it at the highest level of the organization.
And as I said sometimes before, coupled with the fact that we have a multibrand and multichannel offering and we do the integrated pricing in that context, I strongly believe this provides us with a competitive advantage over time, which is not irrelevant, I think, to the fact that we have been able several times in the past 3 years, to enhance our margin guidance as we go forth because it's part of creating a more agile and more responsive and the better organization we see. But our plan is not at all predicated on special behavior in mortgage margins.
It is predicated on this pricing, which is the 2 masses together, the difference of the 2, which as we have been saying throughout the year, we gave you guidance along the way. And we think it is reasonably stable at the moment.
And we will, as George said, give you more information at the end of the year. There was a question here.
Chintan Joshi
Chintan Joshi from Nomura. Another mass market bank in Sweden gave a very similar strategy around digitalization, cost savings last week.
But there, the focus was on absolute cost savings as digitalization saves costs. Thinking about your cost saving target, GBP 1 billion, looking at your track record, you have got GBP 2 billion of cost savings, which meant absolute cost base went from GBP 11 billion to GBP 9 billion, looking at Slide #53.
I mean, what should we think about absolute cost? Because essentially, this is going into the direction of lower revenues and lower costs.
And that seems to be the gist of your message as well. And then a couple of quick follow-ups.
António Mota de Sousa Horta-Osório
I thought you were going to say, Chintain, that they were imitating our strategy. But...
Chintan Joshi
Both are mass market, both are doing the same thing. So there's clearly logic there.
António Mota de Sousa Horta-Osório
Yes, but there is a big difference, in my opinion, between what's happening in Scandinavia and the U.K, not to speak on the parts of the Continental Europe. In Scandinavia, the trends for customers to be only digital, in my opinion, and according to what I speak to my colleague CEOs in Scandinavia, are much more advanced.
So I don't know if in the U.K. that means 10 years, 20 years, 30 years.
But they are much more advanced, according to what they tell me. They want to reduce their branch network to almost 0, as you probably know, and that's why probably they have a nominal cost trend downwards.
We have a different view in terms of how you give customers value and want to use banking. We have a different view on the timing of these trends, which is clear, but we think the timing is different.
So we want to go behind the curve because we think there is a huge correlation between current account market share and branch market share, as Alison explained. So if we go behind the curve, we think we minimize the loss of revenue opportunities while we maintain the bulk of our multichannel model.
And therefore, in our specific case, according to the assumptions that George told you economically, we think that costs will go slightly up with revenues going up more than costs. That's why the cost-to-income decreases every year.
But of course, assumptions may change, things may change like 3 years ago, and we are very careful, as you said, in terms of how we deploy our costs. Should the revenue opportunities look different, we have the lever of the costs and our risk appetite to model.
And that's what management is all about. But on our central case, we think we are now on a growth phase, that the U.K.
economy has started to grow sustainably only after 12 month, and it is in the beginning of the cycle. We have finished strengthening and reshaping, and we are completely ready to move from strengthening and reshaping into digital and growth, keeping simplifying and invest.
And therefore, we have significant growth opportunities, in our opinion, that require significant investments, as we described to you. But given that we do not want increment costs, we are going to fund those investments with this additional Simplification program that funds those investments.
And therefore, we expect costs to go slightly up with revenues going up more and that's why the cost-to-income goes down every year and trends over time to the 45%.
Chintan Joshi
That was helpful. Just a couple of quick follow-ups.
With the branch closures focused on urban areas, is there a potential for gains from asset sales given where property prices are?
António Mota de Sousa Horta-Osório
Alison?
Alison Brittain
No, sir.
Chintan Joshi
And...
Alison Brittain
Yes, I will just add to the rest of the sentence, which is -- that which is a larger proportion of our real estate is leased.
Chintan Joshi
I'd just like to see those in the capital deck [ph]. And the second question just for George.
The GBP 1.6 billion, how is it divided by you? Do you expect it to be more upfront?
Or will it be evenly spread out?
Mark George Culmer
There will be a slight phase into the start as opposed to the end. So I mean, I know that sounds incredibly vague, but that's probably all I'm going to say.
So there'll be more in year 1 than in year 3.
Norman Roy Blackwell
I think we can take one more question, because we have to finish by 12. Any additional questions?
Please.
Andrew P. Coombs
It's Andrew Coombs from Citi. I'll keep it short, in that case, just 2 questions rather than 3.
Norman Roy Blackwell
You can ask 2 or 3; we'll answer 1.
Andrew P. Coombs
I just want to ask one question in terms of the branding. I fully understand the rationale for retaining Lloyds Halifax Bank of Scotland, but given the extent which you've seen deposit outflows from Birmingham Midshires and Scottish Widows Bank, and that's been active on your behalf, does the flexibility on pricing that those brands offer more than offset the additional complexity and costs on those?
Essentially, what is the rationale for retaining those 2 brands? And then my second question, just on dividends.
I think it's fair to assume you won't be able to communicate anything until 16th of December in terms of this year. But going forward, given that we're going to be getting an annual PRA stress test exercise and the methodology will be adapted each year, how confident can you be on a 50% payout ratio?
António Mota de Sousa Horta-Osório
Okay. Alison will start with the branch and the brand's expansion.
Alison Brittain
Yes, so I'll start with the brand's first, and you named 2, but we have other tactical brands as well. And we continuously keep them under review and in fact, recently decided that we would withdraw from one of the tactical brands for the reasons that you just outlined.
Birmingham Midshire is a particularly important brand for us because it's also a mortgage brand. And so it covers both sides of the balance sheet.
And we do a number of the specialist area of mortgages through that brand. And Scottish Widows Bank is a wholly-owned, held its own banking license.
At the moment we're quite comfortable that it fits neatly within the portfolio and gives us flexibility if we want to scale up quickly on savings for some reason or keep the back book just ticking over.
António Mota de Sousa Horta-Osório
And just to complement what Alison said in terms of your -- in terms of, does it make sense, as you say, in terms of complexity versus simplicity? Alison explained to you in terms of the brands why it makes a lot of sense.
But going a bit further, I strongly believe that customers going forward and also through digital, they will want as segmented an offering as possible. So ideally, each customer wants, as you all know, an offering for himself.
He wants a targeted offering per individual. The reason why you can't do that, as you said, is because of the complexities and the costs of doing that.
So in my opinion, if we are able, as I think we are, through a multibrand strategy, to segment with differentiated offerings according to different customer needs, and at the same time, having all that the client doesn't see integrated and therefore, lowering the unit cost is the best way to maximize the cost-to-income in terms of revenues versus costs. And that is a very, very strategic point.
Then of course, according to our tactical position in any moment, as Alison explained to you, we have a different approach to relationship brands versus tactical brands in the context of our total loan to deposit ratio and in terms of profitability considerations.
Mark George Culmer
And very quickly, I'm going to say, I mean, I'm very confident the deliverability of our dividend strategy. I mean, you see there -- in what we've said to you in terms of capital generation, you see in the numbers that we've set out today.
You see it in the R&S that we set out on Sunday in terms of response to the EBA. And we already talked about the capital generation that you've seen in the first half, again you've seen in the 9 months.
We talked about next year you'll have consolidating ones which will be included in that. And also the EBA stress test results themselves, where everyone's focus is obviously on the sort of 6.2 or the 6.
There was a number in there in terms of capital generation by 2016 which had us at I think it was 13.6, and I think well ahead of the rest of our U.K. peers in terms of capital generation over the period.
And you'll see that in the numbers in the 9 months what the bank can deliver.
Norman Roy Blackwell
I think as António said, we'll all need to draw the session to a close at that point. I'm conscious it's been a very long morning but hopefully, it's given you a good sense of what's driving our strategy and what that means in terms of objectives and targets for our business model.
There'll obviously be opportunities to ask more questions in the weeks and months ahead. But for the moment, thank you all very much for coming.
I appreciate it.