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After the great divide

Nicola York and Christopher Jarvis on Northern Rock’s restructure and what it means for the industry

The European Commission gave the green light for the Government’s plans to split Northern Rock in two last week and the bank looks set to sell off its “good” part to the highest bidder.

Association of Mortgage Intermediaries director Rob Sinclair welcomes the EU’s approval.

He says: “I think it will have a positive effect on the intermediary market because Northern Rock will be coming back next year with a much greater capacity to lend. It will have a great effect not only on the market, but the consumer as well.”

Both the Government and Northern Rock have warned there is no timescale or process in place for a sale and that the restructure of the business is the first priority.

Under the restructure, the bank will be split into Northern Rock plc – the so-called “good” bank – and Northern Rock Asset Management plc – the “bad” bank.

Northern Rock plc will be a new savings and mortgage bank that will hold and service all customer savings accounts and some existing mortgage accounts.

It will be authorised as a deposit-taker by the FSA and will offer new savings products and mortgage lending with a view to being sold off to a third party after the reshuffle.

Once the restructure is complete, the Government will pump in a further £8bn to help fund lending. Any prospective buyer for this good part of the bank will be required to keep within the lending volume limits imposed by state aid rules – £4bn in 2009, £9bn in 2010 and £8bn in 2011.

Retail deposits must be kept at or below £20bn until the end of 2011 and the bank will not be allowed to rank in the top three Moneyfacts’ mortgage categories before the end of 2011, with some exceptions.

A further £3bn or £4bn Government loan will be on standby to boost the bank’s capital reserves if necessary, but Northern Rock chief executive Gary Hoffman hopes this money will not be needed.

Hoffman expects Northern Rock to be able to pay off the total £27bn Government loan within a decade, primarily through redemptions from customers repaying their mortgages and any sale of the good bank.

Potential bidders tipped to be in frame include Virgin Money, which has applied for a banking licence from the FSA, and Tesco Financial Services – although Tesco Bank’s chairman Andy Higginson recently ruled out a bid in press interviews.

The second part of the bank, Northern Rock Asset Management plc, will hold and service the balance of the existing residential mortgage book and, subject to FSA approval, will be regulated as a mortgage product and not a deposit-taker.

Northern Rock stresses that the bad bank label is inaccurate as 90 per cent of the mortgages on its books will be fully performing and not in arrears.

Northern Rock Asset Management plc will include the bank’s interest in those mortgages allocated to the Granite securitisation and covered bond programmes. It will not offer any new mortgage lending and will hold all unsecured loan accounts, the Government loan and Northern Rock’s current wholesale funding and subordinated debt instruments.

Another restriction placed on the bank as part of the EC’s conditions for receiving state aid is that the bad bank will not be allowed to pay principal or coupons on subordinated debt instruments, as its priority is to repay the taxpayer.

This part of the bank will be left to wind down in state hands, although sales of some of the mortgages it holds may be considered in the long term.

John Charcol senior technical manager Ray Boulger says the money earmarked for new lending through the good bank is significant. “That £8bn is pretty well all available for new mortgages and in a market where net lending is going to be flat this year, one lender increasing their gross lending by £5bn next year is quite a material figure.”

Boulger thinks there is a distinct possibility that even Northern Rock’s bad part could be sold off.

He says: “In the same way we had companies like Resolution buy insurance firms, so they are no longer writing new business. It would be perfectly feasible, when conditions in the market improve, for another company to come in and buy Northern Rock Asset Management.

“It would be a mistake to assume that companies have to stay with the Government until all the mortgages are repaid.”

Lloyds Banking Group and RBS are currently under EC scrutiny as to whether they need to be broken up due to competition issues.
Sinclair says the outcome for these banks may not be as severe as the Northern Rock restructure.

He says: “If they put their worst-off parts into intensive care and work out the good parts of their business, that may be all they need to do.”

Bill Warren Compliance managing director Bill Warren says the more lenders that come back into the market, the better.

“I would like to think that whichever brands are split off or sold are sufficiently independent and that there will be brands that are pro the intermediary market.”

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