Hubris: How HBOS Wrecked the Best Bank in Britain

by Perman, Ray

  Peter Burt, tired after years of trying to solve the Bank’s strategic problem, had taken his family for a skiing holiday to Chamonix in the French Alps when he took a call from David Mayhew, senior partner at Cazenove. The Old Etonian had been against the Bank in the NatWest battle, now he was asking whether Burt would be willing to meet James Crosby, chief executive of Halifax.

  The former building society had undergone a transformation since Bank of Scotland had last approached it to discuss a possible merger. Mike Blackburn had retired as chief executive to be succeeded by the man he had brought in to run Halifax’s insurance business. Crosby was young (45 in 2001), energetic and fiercely intelligent. After reading mathematics at Oxford he had trained as an actuary with life assurance company Scottish Amicable, before moving into fund management with Rothschild Assurance. He looked the archetypal egg-head and it was joked that he was bald because his brain was so big it had pushed his hair out. In the six years since he had taken over the top job he had made a series of bold moves designed to transform Halifax from being a one-product mortgage bank to a more rounded financial institution. He had spent £1 billion buying the life assurance business of Equitable Life to add to Halifax’s Clerical Medical subsidiary; he had poached Scotsman Jim Spowart from Standard Life to set up a new telephone and internet bank named Intelligent Finance; he had bought into the wealth management business St James’s Place Capital and he had gone into partnership with Peter Wood, the man who had set up Direct Line insurance.

  To manage Halifax’s retail business, Crosby had recruited Andy Hornby, who was even younger (34 in 2001) and just as bright. He had followed a First in English at Oxford with an MBA from Harvard, where he graduated top of his year. His brief working career had seen him make a rapid ascent, from the Boston Consulting Group, to Blue Circle Cement to the supermarket group Asda, where he had become Retail Managing Director, overseeing 36 stores and 14,000 employees, and joined the Management Board at the age of 32.

  Halifax was the biggest mortgage lender in the UK and had a truly gigantic deposit base, with over 11 million saving customers. For decades it had been run very conservatively, with the result that its vast mortgage book was solid and secure (in the jargon of the industry it had a low loan-to-value ratio). It was also very profitable. Until Mrs Thatcher’s government started deregulating the mortgage business in the 1980s, building societies, of which Halifax was the largest, could charge virtually what they liked, knowing that there was little price competition and that customers, once signed up, were unlikely to leave. Now all that had changed. Borrowers were being enticed away from traditional providers like Halifax by banks which were keen to get mortgage business and were prepared to offer cut-price deals. New competitors were also entering the market, offering loans over the telephone or the internet. Hornby, using the retail skills he had learned at Asda, had taken the fight to the enemy, offering existing customers new incentives to stay and trying to extend Halifax’s market-leading share further by competing fiercely for new loan business.

  Together Crosby, Hornby and Dennis Stevenson, who had become chairman in 1999, had revived investor confidence in Halifax. For years the share price had languished below the level at which the company had first floated on the Stock Exchange when it demutualised; now it was rising strongly again.

  For Bank of Scotland, Halifax made a much more attractive partner than Abbey National. It was bigger and appeared to have few of the management hang-ups which had dogged the Abbey negotiations. It had no corporate lending to speak of, but its problem was the reverse of the Bank’s. It had – in the words of one Bank executive – ‘deposits coming out of its ears’, the difficulty was where to lend them profitably. Peter Burt played it cool with David Mayhew on the telephone, but conceded that, yes, he thought it might be worth making time to speak to James Crosby.

  11

  Peter’s Last Supper

  When Peter Burt arrived at Halifax’s London corporate flat in St James’s, he was surprised to find James Crosby with his foot in plaster after a fall, but the meeting went well enough. Secondary to finding an escape from the Bank’s strategic straitjacket, one of Burt’s objectives was to keep the headquarters in Scotland, which he believed was key to retaining the organisation’s independent spirit and keeping together the formidable management team he had built up. A fear always in the back of his mind during the NatWest bid had been that, despite the intention, the economic pull of the larger organisation would have steadily moved the focus of decision-making to London. That was much less of an issue this time. Whatever the merits of the Yorkshire town, if it came to a choice between Halifax and Edinburgh from which to run a UK financial services group, the Scottish capital would come out top on most criteria.

  The shape of the deal proposed by Mayhew was that Halifax would provide the chairman, and Bank of Scotland the chief executive. Although variously described in the press as ‘excitable’ and ‘eccentric’, Dennis Stevenson had an established reputation in the City. When approached to lead the board at Halifax he was already chair of a Top 100 company, the publishing group Pearson, which owned the Financial Times. There he had surprised everyone by picking as chief executive an American woman who had been running the group’s Economist subsidiary and was well down the management pecking order. In doing so he bypassed the handful of able male executive directors who had expected that one of them would get the top job. It had proved to be an inspired choice. Marjorie Scardino was not only the first woman to head a FTSE 100 company, but had gone on to transform the group with a series of bold strategic moves and won the admiration of the men over whom she had leapfrogged.

  Stevenson was also an assiduous networker with fingers in many pies. He had been chairman of the Tate Gallery, a member of the Takeover Panel and was a director of the top-drawer merchant bank Lazard Brothers. He moved easily in business and political circles. At the age of 26 he had been picked by Peter Walker, Housing Minister in the Conservative government, to chair the Newton Aycliffe and Peterlee New Town Development Corporation, but it was under Labour that he came into his own. Describing himself as an ‘unreconstructed Guardian-reading liberal’, he was a long-time friend of Peter Mandelson, one of Prime Minister Tony Blair’s closest advisers. Under Labour Stevenson had first received a knighthood and then 18 months later a peerage. Blair chose him to head the committee which was choosing the new ‘People’s Peers’ to sit in the House of Lords. ‘Dennis had “New Labour” written all over him,’ recalled one Bank executive on meeting him for the first time. ‘When he came out to greet you he was always in his shirt-sleeves, signifying that there was work to be done and he had rolled up his sleeves to do it.’ He had the added bonus of being a Scotsman, although having been born in Edinburgh and educated at Glenalmond, after Cambridge his career had been almost entirely in England.

  Peter Burt was to be chief executive, although on the understanding that he would not go on beyond his 60th birthday, which was less than three years away, and that he would be succeeded by Crosby. Not to lead the new group from the beginning was a blow to the younger man, who had been chief executive of Halifax for only two years, but one he was prepared to accept to get the deal done. The problem was what to do with him in the meantime – there was no obvious job description for an ‘heir apparent’. Bringing the two management teams together would mean that the key divisional posts would go to able and strong-minded men who would not take kindly to having Crosby floating around without a clear role.

  To further the discussions Burt organised a dinner for the top management teams from both companies in the dining room of the Bank’s head office on The Mound. The room has one of the most impressive views in Britain, taking in Edinburgh Castle, with the city spread out below it. But the diners’ minds were on other things and the meeting did not go well. Crosby was ill at ease and there were personality clashes across the table. The Bank men, on their home ground surrounded by the history of the Bank, were older, more experienced, confident that they und
erstood what was possible and what had to be done. The Halifax team seemed younger, smarter and in a hurry. There was a danger that disagreements might derail the discussions altogether but it was Andy Hornby, the most junior in age by a decade, who worked to calm tempers and find common ground.

  Burt was insistent that, despite Halifax’s larger size, the deal should be seen as a partnership of equals. They would form a new holding company and carry out what was known in the City as a ‘nil premium merger’, that is shares in the new group would be swapped one-for-one with existing shares in Halifax or Bank of Scotland. The two brand names would be retained, although Halifax might conduct its retail business under the Bank name north of the border. In the corporate market, the brand name would continue to be Bank of Scotland. Unlike Abbey, which thought it should have the upper hand, Halifax was content with this arrangement, which was simpler and meant that its shareholders would end up with most of the combined business, 63 per cent against 37 per cent for the Bank shareholders.

  Top posts would be allocated on merit but the split was roughly equal. Mike Ellis, Halifax’s chief operations officer, would fill the role as finance director of the new group, Andy Hornby would take charge of retail and personal banking, and Phil Hodkinson would look after the insurance and investment business. From the Bank, George Mitchell would run corporate banking, Colin Matthew business banking, concentrating on the smaller end of the market, and Gordon McQueen would merge the two treasury operations. It all looked pretty straightforward, there was very little overlap either in skills or branch network. There would be few redundancies: costs could be saved, but that was not the basis for the merger. Seizing opportunity was to be the driving motivation.

  Burt and Crosby, joking that Yorkshire thrift had met Scottish parsimony, spent little time and no money on deciding the name of the new holding company, which was to be Halifax Bank of Scotland. Since it would inevitably be shortened to initials, Burt had no hesitation in agreeing that the Halifax name should come first – HBOS may not be elegant, but it was preferable to BOSH. The choice of name upset the Herne Bay Operatic Society, which had called itself HBOS for years, but the PR men straightened that one out. The corporate logo, sketched out on a piece of paper, was a combination of Halifax’s ‘X’ and Bank of Scotland’s saltire and coins.

  Within the Bank the merger was being sold as an equal partnership, but a different impression was being given to Halifax’s top management. At an away-day at Bolton Abbey, Wharfdale, a handful of top managers were told about the talks, but not given the name of the intended partner. ‘It was referred to as “Project Linwood” and there was great speculation at dinner as to who it might be, but it was obvious from the way they spoke that Stevenson, Crosby, Ellis and Hornby were to get the top jobs. No one else mattered,’ one Halifax manager remembered.

  The Bank of Scotland board could see the logic of the union but was still nervous at giving up its independence and of Halifax’s true intentions. ‘They always used soft language,’ said one director. ‘They talked all the time about merger but there was always the implied threat that if our board didn’t agree, they would bid for us.’

  At the end of April 2001 the news that the two companies had been talking leaked and both share prices leaped up. Comment was generally favourable.

  Newspapers calculated that the merged group would have a combined market value of nearly £28 billion and be the 11th largest bank in Europe, employing 61,000 people and making £2.8 billion in profits. It would still be smaller than the London Big Four (with the Royal Bank now being in control of NatWest), but it would be able to give them a run for their money. In contrast to the Abbey National talks, which had dragged on for months without getting very far, the courtship between Halifax and the Bank was positively whirlwind; the two sides had been talking for only a few weeks.

  Halifax had made a point of moving its annual general meeting around the country to give its customers who had taken shares at the time of demutualisation the chance to hear and question the board. By coincidence it was due to hold its AGM in Edinburgh on Tuesday 1 May. On the Sunday evening before the meeting, Stevenson, Crosby and their adviser from Lazards, met Burt and Mayhew for dinner in a private room in the Caledonian Hotel, Edinburgh. In the last few days Peter Burt had been thinking hard about his position. He was tired, not physically, but years of mental strain wrestling with the problem of the Bank’s future and dragging up and down the country to proposition potential suitors had been draining. He had had fruitless talks with a dozen companies and come close to securing NatWest, only to have the prize taken from him. Now at last he had found a solution.

  The Bank had been growing at 20 per cent compound for 20 years. It was a record no other bank had equalled, but it was a tiger from which it was impossible to dismount. If its performance was seen to falter, its share price would fall and it would be vulnerable to takeover. More than 300 years of independence and the unique culture which the Bank had fostered would be lost. With access to Halifax’s large balance sheet and capital strength, the Bank could continue with its phenomenal lending growth.

  He wanted to see the merger through, to oversee the integration and then to retire, having achieved what he set out to do. After a dozen years leading an FTSE 100 company he had no will to go on indefinitely. The more he thought about it, the more it seemed logical that he should not become chief executive of HBOS. He talked to David Mayhew about stepping down altogether, but Mayhew warned him that if he did that the whole deal might fall apart. At dinner, Burt announced his decision: he would take the title executive deputy chairman and concentrate on making the integration of the two companies as smooth as possible, leaving the way open for Crosby to become chief executive immediately. When news of the meal leaked out, cynics in the Bank described it as ‘Peter’s Last Supper’.

  As Stevenson and his board arrived at the Edinburgh International Conference Centre for the shareholders’ meeting they were met with placards demanding ‘Don’t Sell Us Out’, and ‘Don’t Cave In to Tartan Tantrums’. It was a stunt organised by the Halifax Evening Courier, but a reminder that Yorkshire sensitivities were at stake as well as Scottish ones. In a post-industrial world the town of Halifax did not have a lot going for it and the bank which bore its name provided 3,500 high quality jobs – one in six of the working population – in the monumental 1970s stone and glass headquarters building which dominated the centre. During the meeting the chairman had to steer a careful path between pleasing his largely Scottish audience – telling them he had been born in nearby Ainslie Place – and the readership of the West Yorkshire local paper – ‘We are proud of our 150 years of Yorkshire heritage.’

  Speculation was now so strong that a deal would be done that there was pressure to get the final details agreed and an official announcement made to the Stock Exchange. The Bank postponed the announcement of its annual results and the two management teams met again. The following day the boards of the two banks met separately to approve the deal in principle and teams of lawyers and brokers met in London with Crosby and Burt to work through the night on the detailed agreement. It was 6 a.m. on Friday 4 May before the work was finished; the statement was issued and a press conference was called for noon. Burt was in jovial mood, telling journalists that a Yorkshireman was just a Scotsman with the generosity squeezed out and pointing up the group’s cost-consciousness with the statement: ‘Just think how difficult it would be to come between a Yorkshireman, a Scotsman and a pound note.’ Crosby showed signs of fatigue when a slip of the tongue made him say that Halifax was merging with the Bank of England, but he recovered to threaten: ‘We intend to generate as much pain as possible for our competitors. It is nothing personal.’

  The merger was mostly well received inside the two companies. Only 2,000 jobs would be lost through reducing duplication, a fraction of those already lost in the Royal’s takeover of NatWest, and these were to be achieved by natural wastage rather than compulsory redundancy. Yorkshire would retain the head
quarters of the retail bank, but the corporate head office was to be in Edinburgh and Burt had secured a safeguard – more than half of the board would have to vote in favour before the HQ could be moved. Since the board was to be made up equally of directors from each side, it looked like an effective Scottish veto.

  There was a north-south divide in the way the merger was viewed from the outside. Crosby stressed to The Herald, Glasgow’s daily newspaper, his love of the city, in which he had lived for many years and where his wife had been born. To the Yorkshire Post he emphasised his Yorkshire birth and his family home at Ilkley. There was scepticism about the company’s assurances on the headquarters. Nationalist and Conservative politicians in Scotland sought assurances that The Mound would be the head office in more than just name, while the Halifax Courier ran a banner headline: ‘Betrayed’.

  Bank of Scotland published its results on the same day, revealing that profits were up 12 per cent and had topped £1 billion for the first time. The share price of both companies rose, taking their combined worth over £30 billion, but the argument that the new bank would succeed by boosting sales rather than cutting costs did not please everyone in the City. One analyst was doubtful that the strategy could succeed: ‘We like slash-and-burn deals. The more people who get fired the better.’1

  A few weeks later the Office of Fair Trading cleared the merger on competition grounds. HBOS would have a market-leading share of 20 per cent in mortgages and not far short of that in savings accounts, but its position in other markets such as current accounts, business and corporate accounts was tiny compared to the Big Four – underlining the fact that there was a lot to go for. As far as the balance of power in the new organisation was concerned, it was fairly clear where the weight lay. Not only were Halifax providing the chairman, chief executive and finance director, but nearly half the profit would be generated by the retail business controlled by Andy Hornby and a further quarter by the insurance activities run by Phil Hodkinson, who was brought in from Zurich Financial Services at the time of the merger. Taken together these five top executives had no banking qualifications and only a few years of banking experience between them. Little more than a year earlier, Peter Burt had criticised the top management of NatWest for the same failing. Now he had handed over his Bank to them.