Borrowers lick their lips over merger handouts

Success is driving ever increasing numbers of building societies to convert into banks. John Eisenhammer reports

A number of Britain's biggest building societies will probably convert to banks in the foreseeable future. But the pressures for change, according to Donald Kirkham, chief executive of the Woolwich, the country's third largest building society, come from success rather thaninability to compete in tougher financial markets.

If anything, building societies are too profitable, and members, licking their lips at generous handouts in the Halifax/Leeds, and Cheltenham and Gloucester examples, are asking what is in it for them as well.

As takeover and merger speculation hits a new peak because of Abbey National's expression of interest in National & Provincial, Mr Kirkham told the Independent: "I have doubts about the corporate form in future of the biggest building societies. I can see that most of them will have to keep their options open to converting, not because of market pressures, but because of the probable expectations of members who want to unlock the value of their enterprises."

The doomsday predictions late last week from Merrill Lynch, that the building society movement may be wiped out by tough conditions in the mortgage lending market, are "just a load of rubbish" according to Mr Kirkham, who is also chairman of the Building Societies Association.

Building societies are on average stronger financially to cope with the market challenges than commercial banks, he believes. "Our capital ratios are infinitely better than the big banks. The cost/income ratio of a typical building society is 40-45 per cent, whereas a bank would be typically operating at 60-65 per cent."

His real concern is societies may be too effective. "The question is not whether building societies are sufficiently profitable, but whether they are too profitable given their mutual status. Far from being short of capital, building societies have to be careful they do not have too much capital," he says.

"The Halifax/Leeds merger, to be followed by conversion to a bank, has been a seismic shock for the movement because it has prompted members to ask what is in it for us. It is a mighty big precedent that all directors have to take into account."

The departures of the Halifax/Leeds and the Cheltenham and Gloucester will deprive the building society movement of nearly a third of its strength. But these changes reflect pressures bearing on the financial services industry as a whole, whether banks, insurers or building societies, rather than being indicative of a failure of mutuality.

"Mutuality still has a lot of mileage in it," says Mr Kirkham. Some of the most resistant will be the small societies operating in tight regions with deep tap roots. But a few of the national giants could also decide to stick it out. The greater freedoms proposed by the Government for building societies, says Mr Kirkham, are more than enough for them to continue their successful transformation into broader-based financial services institutions.

The Woolwich already operates its own life insurance and unit trust companies and has bought small banks in France and Italy. Mr Kirkham is also convinced that few big building societies will be pushed to convert because of worries about raising capital. "The need for capital in the nineties is not going to be like it was in the eighties. Building societies then had growth rates of 20 per cent a year, now we are looking at around 5 per cent. In such a slow market, the problem is an excess of capital," he says.

Moreover, one should not forget that there are not just membership pressures for generous handouts on conversion, but also directors may be more amenable to such a change when they consider the prospects for stock options.

Alastair Lyons, N&P's chief executive, is to meet his Abbey counterpart, Peter Birch, today. The chances of Abbey succeeding with its aggressive approach are slim, argues Mr Kirkham. "I do not believe you can grab a society by appealing to the members while ignoring the board. The very tough voting rules were drawn up precisely to stop the speculative flow of money between societies."