NAB needs a clean exit strategy from the UK

The spectre of NAB's UK exposures appears to have diminished, but incoming chief executive Andrew Thorburn will still face challenges in selling off its non-core assets without destroying shareholder value.

It’s somehow fitting that what will probably be the last significant announcement in the final few days of Cameron Clyne’s tenure as chief executive of National Australia Bank should relate to the group’s troubled UK operations.

Five and a half years ago, when he became chief executive, the UK banks and whether to exit the UK or take advantage of the distress in the sector to expand were top-of-mind issues. While the options for his successor, Andrew Thorburn, have probably narrowed to focus on an exit, the UK exposures that bedevilled Clyne and undermined NAB’s returns remain unfinished business.

When Thorburn officially takes over on August 1, at least the scale of the problems in the UK will be somewhat diminished.

The global financial crisis hit the UK banking sector hard, coming as it did after a property boom. NAB, having failed in its numerous attempts to expand into southern England from its banking base in northern England and Scotland, had been growing organically in the south by opening 'financial solutions' that appear to have focused on lending against investment properties.

With hindsight, that wasn’t a good strategy. When the crisis hit NAB’s commercial real estate portfolio in the UK, it was smashed and was left with an $11bn or so portfolio of impaired assets.

In 2012 Clyne transferred those assets out of the UK business and onto NAB’s own balance sheet, setting aside a substantial amount of capital and provisioning to support them. Since then the portfolio has been in run-off and the value of the assets within it has more than halved.

Today NAB announced it had sold a £625 million ($A1.1bn) parcel of "largely non-performing" loans out of the portfolio to an affiliate of Cerberus Global Investors.

That will reduce the balance of the portfolio by 20 per cent to £2.38 billion ($A4.3bn) and, NAB said, reduce the gross impaired loans within it by 48 per cent. It will also release about £127m ($A229m) of capital and increase the provision coverage of impaired assets within the portfolio from 51 per cent to 60 per cent.

Thorburn described the deal as a "substantial de-risking" of the non-performing portion of the UK portfolio and said NAB would continue to look for opportunities to optimise its return on equity by accelerating the sale of non-core assets.

Clyne was unfortunate in that there was never a realistic opportunity through most of his period as CEO to either exit the UK entirely or clear out the commercial property exposures without sacrificing big chunks of shareholder value.

As the UK economy and property market have improved, however, the run-off of the commercial property loan portfolio has accelerated; the prospects for selling sizable slabs of the portfolio without incurring further big losses have improved markedly.

The recent successful spin-out and flotation of Lloyds Bank’s TSB unit has been interpreted as an indicator of the improved prospects for UK banking in general and for a NAB sale of its own UK bank. However, as Thorburn noted today, it (along with the UK sector) still faces challenges and "conduct-related" costs.

Thorburn would be very conscious that the UK exposures were a damaging cloud over Clyne’s otherwise quite successful tenure. Unless he is able to deal with it relatively early during his period as chief executive, it will also create an asterisk next to assessments of his performance.

The portfolio of commercial property loans will, even without further sales, have run down to immaterial levels before the end of the decade. Obviously he would like to get to that point even quicker.

The more meaningful issue, however, is whether or not he can do what Clyne wanted to do -- but which circumstances didn’t permit -- and orchestrate a clean exit from the UK banking sector with a sale of its ongoing banking operations that doesn’t destroy significant shareholder value.

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