3.20 Northern Rock reported losses in excess of the amounts forecast in the business plan. In August Northern Rock reported losses of £585 million for the six months to June 2008, £314 million higher than the base case forecast in the March 2008 business plan and worse than the recession case used in that plan. By the year ended 31 December 2008, the company had recorded a loss of £1.4 billion, mostly as a result of impairment in the quality of its residential mortgage book due to weakening economic conditions. The loss was higher than that expected under the recession scenario set out in the business plan approved in March 2008 (£463 million) and against a revised forecast of just over £1 billion prepared in August 2008.
3.21 The business case approved in March 2008 had been developed on assumptions made by the Northern Rock management team in the Autumn of 2007 in planning for a wind-down of the company and later as part of the management team bid, using stress tests required by the Financial Services Authority. The base case used in the March plan had assumed that house prices in 2008 would fall by five per cent and remain unchanged for three years thereafter. The recession case was for a 20 per cent reduction over three years. The base case approved by the Treasury in March 2008 tended towards an optimistic view of the housing market when compared with the forecasts available in late 2007 and early 2008 (Figure 14). House price futures data available over the same period (Figure 15) shows that trading in residential property derivative contracts during October 2007 to March 2008 indicated that house prices would experience annual falls of eight per cent to 14 per cent, higher than assumed in Northern Rock's business plan over the following four years, under both the base case and recession scenarios. By the end of 2008 house prices had fallen by 13.5 per cent (Land Registry Price Index).
BOX 6 |
Northern Rock's performance on new mortgage lending and cutting running costs New mortgage lending In public ownership, Northern Rock has to strike a balance between repaying the emergency support and restoring the longer term viability of the company. The quickest way to repay the Bank of England loan would be to encourage much higher mortgage redemption rates, increase new retail deposits further by offering market-leading rates of interest and to stop new lending altogether. A temporary cessation of new lending activity would, however, reduce Northern Rock's profile with mortgage brokers who were paid commission to sell the company's mortgage products. The company regarded its presence in the mortgage market as crucial to maintaining its credit ratings and ultimately its value to any future buyers. The business plan estimated that just over £5 billion a year of new lending activity would be required to maintain Northern Rocks' intermediary channels. The most recent figures to 31 December 2008 show that new lending of £2.93 billion (Figure 11) fell significantly short of this target, on the back of a depressed housing market. Running costs reductions The company's programme to cut costs has progressed ahead of plan. By 31 December 2008 the number of staff had reduced from some 6,000 to 4,479 compared with a target at the end of 2008 of 4,610. Operating costs had also been reduced to £285 million for the period 1 January to 31 December 2008 compared with a target of £316 million. Source: Northern Rock Key Performance Indicators |