Virgin Bank ready to take off

By Jeremy Kahn

On a cold, clear January morning, Sir Richard Branson is standing in the middle of a pedestrian-friendly street in Newcastle - a hardscrabble city in northeast England - becoming something he never thought he would be: a banker.

Bankers, after all, were the embodiment of the Establishment at which Branson has spent his career thumbing his nose.

Yet here he is in front of a bank decked out in the trademark red and white of his Virgin Group and adorned with a banner proclaiming "Our Quest to Make Banking Better Starts Here."

And here's Branson doing what he does best, playing the entrepreneur as celebrity icon, man as marketing Ubermensch.

As curious bystanders and ogling fans gather, he smiles for the television crews, camera lights illuminating the 61-year-old's preternaturally white teeth and uncannily yellow mane.

In September 2007, television reporters flocked to this bank branch to record a different scene - a classic bank run in which customers lined up for blocks to withdraw their money.

The branch was then part of Northern Rock, the British bank whose reliance on short-term financing made it the first casualty of the global liquidity crunch.

After giving Northern Rock £27 billion ($53 billion) in emergency loans, the Government nationalised the bank in February 2008.

It later split the company in two. Northern Rock, a "good bank", inherited the retail operations - about one million customers, £10.3 billion in mortgage loans and £19.4 billion in deposits.

But it was still unprofitable, losing £224 million in 2010.

Northern Rock Asset Management, the "bad bank", was saddled with £50 billion of its predecessor's debt.

In November, the Government sold the good bank to Virgin Money Holdings UK, Branson's financial services company, for £747 million in cash and £150 million in convertible debt.

The price Branson paid is about £400 million less than the British Government spent in January 2010 to bail out the bank - leading opposition politicians to complain that the deal shortchanged taxpayers.

It may be easier to break into Buckingham Palace than to become a major force in British retail banking.

For 20 years, the British industry has been dominated by the Big Five: Barclays, HSBC, Lloyds, Royal Bank of Scotland and Santander, which was Abbey National until Banco Santander, of Madrid, bought it in 2004.

They control almost 80 per cent of personal checking accounts, 71 per cent of mortgage lending and about 60 per cent of savings accounts, according to the UK's Independent Commission on Banking.

Now, the question is whether Branson can reorder British banking in the way his Virgin brand has disrupted industries from music to airlines to mobile phones.

"We will be a very formidable player," Branson says during an interview at the former Northern Rock headquarters in the Newcastle suburb of Gosforth.

Branson's move into banking comes as the industry faces extensive regulatory changes and consolidation in the UK and throughout Europe.

Banks are being forced to quarantine their retail operations from their riskier investment-banking units and proprietary trading desks.

In his mission to revolutionise retail banking in Britain, Branson has teamed with a veteran turnaround artist, American private-equity investor Wilbur Ross.

Ross's firm, WL Ross & Co, has invested almost £350 million in Virgin Money for 45 per cent of the company - a stake roughly equal to Virgin Group's own share in the business.

"We think the potential for capturing market share from other banks is considerable," says Ross, 74, who is worth at least US$2 billion.

Branson has started dozens of businesses with bold promises. Sometimes, as with Virgin Atlantic Airways, it has worked; sometimes it hasn't.

Shares of Virgin Express Holdings, a short-haul European airline, lost most of their value before SN Airholding NV bought the company in 2004. And does anyone remember Virgin Cola?

With Virgin Money, Branson aims to bring change to an industry that has never been on the cutting edge.

Virgin Money itself is more refurbishment than new build. In late 1994, Rowan Gormley, a venture capitalist Branson hired to brainstorm new business ideas, suggested Virgin get into financial services.

Everyone laughed, Gormley says. Everyone except Branson.

He loved the idea "that the guy who brought you the Sex Pistols could sort out your pension, too," Branson wrote in his 1998 autobiography, Losing My Virginity - published by Virgin Books.

Ten weeks later, Branson created Virgin Direct, which sold low-cost index funds by mail and telephone. It later moved online and expanded into insurance and credit cards.

In 2002, it changed its name to Virgin Money. By 2010, it had 3 million customers and was managing £2.6 billion in its investment business.

And that year, when it first became licensed as a bank, it made a profit of £27 million on revenue of £91 million, according to financial filings.

But it didn't have branches, and it lacked classic banking facilities such as checking accounts.

Virgin Money remained a small star in the firmament of Branson's business universe, which includes at least 55 Virgin-branded companies with global revenue of £13 billion last year, according to Virgin Group.

Branson's net worth is at least US$4 billion, according to Bloomberg Billionaires.

Catapulting Branson's bank on to the centre stage of UK banking has been Jayne-Anne Gadhia's goal since she became the company's chief executive officer in March 2007.

The job is a homecoming for the 50-year-old, 1.85m former accountant: She helped Gormley create Virgin Direct and spent six years there.

At Virgin Direct, Gadhia pioneered a mortgage called Virgin One in partnership with Royal Bank of Scotland. It lowered borrowers' payments by offsetting their debt against savings.

The Virgin One business had £3.75 billion in loans by 2001, when RBS bought it outright for £100 million.

Gadhia joined RBS, rising through the ranks until she oversaw the bank's entire £70 billion retail mortgage portfolio.

It should have been a springboard into RBS's C-suite.

Instead, Gadhia says, she came under pressure from her bosses to securitise subprime mortgages.

She baulked and, in September 2006, called Branson.

Within a week, she had an agreement to return to Virgin Money as chief executive.

At Virgin Money, Gadhia turned her attention to another failing lender, Northern Rock. She sensed opportunity.

Buying Northern Rock would instantly enable Virgin to vie with Britain's biggest retail banks.

In October 2007, Gadhia put together a consortium to bid for the stricken bank. Among those Greenhill approached was Ross.

Ross made a name for himself as a bankruptcy specialist in the 1980s and 1990s at Rothschild.

Among his famous workouts was Bank of New England, whose 1991 bankruptcy was, at the time, the second-largest bank liquidation in US history.

Ross and Gadhia's bid failed when the government decided to nationalise Northern Rock.

Although disappointed, the two stayed in touch. Ross says he was impressed that Gadhia continued to hit her profit targets throughout 2008 and 2009 despite a terrible economic environment.

"That built up a lot of credibility in our minds about Virgin management," he said.

In 2010, he invested £96.5 million in Virgin Money, acquiring a 21 per cent stake. He also promised up to £500 million more to support an acquisition.

When the British government put Northern Rock back on the market last summer, Gadhia and Ross pounced. Ross contributed £250 million to the purchase, giving him almost half of Virgin Money.

After combining with Northern Rock, Virgin Money had 75 branches, four million customers, close to £17 billion in deposits, a mortgage book of £14 billion and a credit card business with £3.5 billion of outstanding charges.

British consumers present a paradox. According to Which?, a UK consumer-advocacy publisher, only half of customers are satisfied with their savings account bank, 60 per cent with their current account bank and 66 per cent with their credit card provider.

Yet they rarely switch banks - something which gives Virgin Money a challenge.

To stand out, Gadhia says, her bank will emphasise simplicity and transparency.

In January, Virgin unveiled its first savings account, offering 2.85 per cent annual equivalent interest. It's not the best available rate, but the twist, according to Virgin Money, is that there's no twist - no minimum balance requirement and no withdrawal limits.

The interest rate is also the same whether a customer banks online, by phone or through a branch.

That's an example of what Gadhia likes to call EBO - "everyone better off". It's the bank's internal motto. Whatever Virgin Money does should be good for customers and society - and make money.

Let me entertain you: New tricks work well in old industry

Just off St Andrew's Square in Edinburgh is a cross between a private club and a bank that represents another arrow in Virgin's substantial marketing quiver.

Inside this Virgin Money Lounge, customers sit on sofas and easy chairs sipping complimentary cappuccinos and surfing the web using free wi-fi.

An entire wall is dedicated to Bransonalia: a gold-plated Virgin Records chart topper, photographs from Richard Branson's various yachting and ballooning adventures, a model Virgin train and so on.

Virgin plans to have five lounges, including one in London, open by the end of the year.

Umpqua Bank, based in Roseburg, Oregon, pioneered this concept. Umpqua's 194 branches offer events - from Wii video-game tournaments to live music - more typically found in bars or coffee shops.

Since 1996, when Umpqua's first lounge-like branch opened, deposits per branch have more than doubled.

Howard Wheeldon, a senior strategist at London brokerage BGC Partners, is sceptical.

"It is in-depth service that matters," he says.

Virgin Money has one advantage that other banks can't match: Branson.

"You have a young guy ... who didn't wear suits and worked in the rock music business.

"He developed an airline and people turned out to be willing to risk their lives and their children's lives in a metal tube at 30,000ft with this guy," says Patrick Barwise, an emeritus professor of management and marketing at London Business School.

Having crossed that trust barrier, Branson shouldn't have too much trouble convincing people to let Virgin look after their savings.

- Bloomberg

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