PPI Charges Disappoint But Lloyds' Performance Improves

Lloyds posted underlying profit of £4.5 billion during first-half of 2017, a 8% year-on-year increase

Derya Guzel 27 July, 2017 | 1:09PM
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Lloyds (LLOY), which has returned to full private ownership following the sale of the U.K. government's stake in May 2017, posted underlying profit of £4.5 billion during first-half 2017, indicating an 8% year-over-year increase.

PPI remains a downside risk to Lloyds' profit generation

Following what we view as operationally intact results, we maintain our fair value estimate of 84p per share and our net income estimate of £4 billion for 2017. We also retain our narrow moat rating for Lloyds, which remains our preferred name within the U.K. banking space.
However, the bank's reported profit was affected by further PPI and conduct charges put aside during the second quarter.

As of first-half 2017, Lloyds has set aside a further £1 billion for PPI charges and £540 million for conduct-related expenses. Overall, net income for the period came in at £1.6 billion versus £1.9 billion a year ago, indicating a decline of 13%, mainly affected by a higher tax rate of 36% versus 24% a year ago, reflecting restraint on deductibility of conduct provisions and the banking surcharge.

Lloyds' top line was 4% higher than last year, reflecting higher net interest income of 2% and other income of 8%. NII growth was driven by net interest margin improvement due to lower funding and deposit costs. Looking at segmental performance for NII, the commercial segment saw a 9% increase and the consumer finance segment saw growth of 5%, while NII in the retail segment remained flattish versus last year.

As it stands, year-to-date NII generation of £5.9 billion is in line with our full year estimate of £9.9 billion. Although Lloyds has revised its NIM expectation upwards by 15 basis points, we maintain our full-year NII forecast for now.

The Worst is Over for PPI

Even though it seems like the worst is over on PPI claims, given that £2.6 billion in unutilised provisions would be enough to cove r customer claims until August 2019 – the deadline announced by the Financial Conduct Authority for PPI claims by consumers, PPI remains a downside risk to Lloyds' profit generation.

In addition to the £300 million of PPI provisions, the bank set aside a further £700 million during the second quarter, bringing year-to-date PPI-related provisions to £1 billion. For Lloyds, the total amount provided towards payment protection stands at £18.1 billion. On top of PPI charges, other conduct provisions of £540 million in first-half 2017 include an additional £340 million in the second quarter.

In terms of capital and asset quality, Lloyds maintained its robust position. Asset quality remains strong with an impairment charge of £268 million, having increased by 9% versus last year. The asset quality ratio is at 12 basis points, an improvement over 15 basis points as at year-end 2016. In terms of capital, the year-to-date common equity Tier 1 ratio has increased by 100 basis point to 14%, mainly driven by capital generation and reduction in risk-weighted assets. As guided by the bank, management continues to expect capital generation in 2017 at the upper end of 170-200 basis points.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Lloyds Banking Group PLC43.60 GBX0.39Rating

About Author

Derya Guzel  is an Equity Analyst for Morningstar