Metro Bank Regulatory News (MTRO)

THIS RELEASE (AND THE INFORMATION CONTAINED HEREIN) IS NOT FOR RELEASE, PUBLICATION OR DISTRIBUTION, IN WHOLE OR IN PART, DIRECTLY OR INDIRECTLY, IN OR INTO, THE UNITED STATES, JAPAN, SOUTH AFRICA OR ANY OTHER JURISDICTION WHERE IT IS UNLAWFUL TO DISTRIBUTE THIS ANNOUNCEMENT.

Metro Bank PLC

Full year results and Q4

Trading Update 2018

26 February 2019

METRO BANK REPORTS CONTINUED GROWTH IN LENDING, DEPOSITS AND CUSTOMER ACCOUNTS AND IS NAMED BEST BANK FOR CUSTOMER SERVICE: STRATEGIC EVOLUTION ANNOUNCED TO OPTIMISE BALANCE OF GROWTH, PROFITABILITY AND CAPITAL EFFICIENCY

Metro Bank PLC (LSE: MTRO LN)

Note: All figures contained in this trading update are unaudited. All figures in US$ have been translated at a rate of $1.27 to the £.

1. Underlying profit before tax for the year excludes Listing Share Awards, impairment of property, plant & equipment ('PPE') and intangible assets and costs relating to the RBS alternative remedies package application costs. Where underlying profit is disclosed for a quarter this also excludes the financial services compensation scheme ('FSCS') levy. Statutory Profit after tax is included in the Profit and Loss Account.

Craig Donaldson, Chief Executive Officer at Metro Bank said:

"These are a strong set of results demonstrating progress across all key areas despite an uncertain and challenging environment. While our strategy is delivering, we need to evolve to ensure continued progress over the medium term. Today's update on our growth, cost efficiency plans and capital requirements - enhanced by last week's C&I fund award - outlines how we are building the best bank for customer service whilst continuing our focus on generating growth and strong long-term returns for shareholders."

Vernon Hill, Chairman and Founder at Metro Bank, added:

"Metro Bank's model continues to disrupt the status quo in British Banking. Over the past twelve months we've seen record lending, record deposits and over 400,000 new customer accounts, leading to a 140% increase in underlying profit before tax. We've also out performed every big high street bank for overall service in the recent CMA survey. Last week's top award of £120m for SMEs is indicative of what a great customer proposition can achieve. Whilst the external environment is not without its challenges, we will make continued progress by bringing a better service and greater convenience to thousands of customers and businesses every day, and the strategic steps and planned equity raise that we have announced today will help support our future growth."

Strategic Update and Outlook

RBS Alternative Remedies Package

Financial highlights for the year and quarter ended 31 December 2018

Deposits

Loans

4. The allowance for impairment is calculated under IAS 39 as at 31 December 2017 and under IFRS 9 at 30 September 2018 and 31 December 2018.

Profit and Loss Account

Capital

Customer Experience

Board and committee changes

Metro Bank PLC

Summary Balance Sheet and Profit & Loss Account

(Unaudited)

6. Comprises investment securities, cash & balances with the Bank of England, and loans & advances to banks

7. Comprises property, plant & equipment, intangible assets and other assets

The information contained within this announcement is deemed by the Company to constitute inside information as stipulated under the Market Abuse Regulations (EU) No. 596/2014 and was authorised for release by David Arden, Chief Financial Officer.

Analyst and investor call

An analyst and investor call will be held as follows:

For more information, please contact:

Metro Bank PLC Investor Relations

Jo Roberts

+44 (0) 20 3402 8900

jo.roberts@metrobank.plc.uk

Metro Bank PLC Media Relations

Tina Coates

+44 (0) 7811 246016

pressoffice@metrobank.plc.uk 

Teneo

Anthony Silverman/ Charles Armitstead

+44 (0) 207 420 3187

Metrobank@teneo.com

Metro Bank PLC

Preliminary Announcement

(Unaudited)

For the year ended 31 December 2018

Chief Executive Officers Statement

2018 was another successful year of strong growth for Metro Bank. Despite a challenging operating environment, especially in the fourth quarter, the model continued to go from strength to strength. We've delivered this growth while continuing to make substantial investment in our digital and physical infrastructure and maintaining our unique culture.

I am particularly proud that our achievements were recognised in the CMA customer satisfaction survey that was published in February 2019, coming top for personal and second for business banking for overall quality of service. Delivering this exceptional level of customer service while growing our balance sheet by 32% year-on-year is truly impressive.

Our success in securing the top award of £120 million from the Capability and Innovation Fund as part of the RBS State aid Alternative Remedies package is recognition of our commitment to the underserved small and medium enterprise ('SME') banking market. These funds will allow us to accelerate our plans to bring much needed competition to SME hotspots in the North of England, while also investing in our digital capabilities.

Although the business is performing well the back half of the year, particularly the fourth quarter, saw us face headwinds from the wider macro-economic environment and particularly in the form of NIM compression, as despite a further base rate rise, yields fell. This is primarily due to excess market liquidity following the introduction of ring fencing for our larger competitors.

Looking forward, we remain committed to our core strategy of creating FANS, attracting low-cost sticky deposits and lending at low risk through our integrated customer experience of "bricks and clicks" banking. However, we are conscious of the need to adapt to the challenging conditions in the wider economic, commercial and regulatory environment. To that end we are implementing a range of strategic initiatives to deliver the next phase of our growth. Our key objective is to balance growth with profitability and capital efficiency, which means moderating our rate of growth in response to the prevailing margin environment. Furthermore, we will diversify our lending mix to access attractive segments and optimise our consumption of capital. Revenue growth will be accelerated by expanding our fee income through new value-added services, especially for SMEs supported by our C&I award. Finally, we must accelerate our cost efficiency by driving our operating leverage now we are achieving scale throughout the bank, and we have a procurement base to drive these initiatives.

Together these initiatives will place us in a better position to continue to deliver high growth in a capital efficient way, and I look forward to reporting on progress.

In January 2019 we announced that we had adjusted the risk weighting of certain commercial loans secured on commercial property and certain specialist buy-to-let loans that had the combined effect of increasing our RWAs by £900 million. Whilst the risk weightings have been adjusted, there is no deterioration in the credit quality of the affected assets. We have worked hard to implement the lessons learned from this.

Finally, I would like to thank everyone at Metro Bank including our customers, colleagues and shareholders, without whom building the revolution in British banking would not be possible - I thank you all.

Craig Donaldson

Chief Executive Officer

Operating review

Our strategy

We are a high-growth retailer delivering best-in-class banking. We do this by:

· creating FANS with our integrated customer experience model;

· fostering our unique culture;

· growing our low-cost sticky deposits; and

· offering low-risk and diversified lending.

Over the course of 2018 we have continued to deliver progress in all of these areas, despite a challenging operating environment in the second half of the year. As well as delivering year-on-year balance sheet growth of 32% we have been rated first for overall quality of service for personal banking in the latest CMA survey and also awarded £120 million from the Capability and Innovation Fund of the RBS Alternative Remedies package, which will accelerate our SME offering.

A truly integrated model

2018 has seen us deliver record investment in both our digital and physical offerings, as well as the integration of the two, in order to make our customers' lives easier.

As well as the rollout of "Current Account Online" opening for our retail customers we also launched our "Walk Out Trading" service for business accounts. Walk Out Trading is revolutionising SME banking, allowing businesses to receive a card terminal in store, so that they can accept debit and credit card payments as soon as they open their account. We understand that running a business can be time pressured enough and therefore, we aim to make our business banking services as convenient and streamlined as possible. Business current accounts can be set up on the spot in store without an appointment in a matter of hours, rather than days or weeks. It is services like this that are leading us to win 15% of business switchers in the London area.

During the year, we continued to expand our store network by opening 10 new stores. This included the opening of a flagship hub store in Bristol. Alongside the banking hall, the site also houses a Metro Bank University site as well as space for a back office team to support our growth in the West Country and Wales in the years ahead.

In January, we opened our 66th store in Moorgate in London and have a further seven stores in build. We will open in new locations and markets including Enfield, Cardiff and the Midlands during 2019. The £120m award from the Capability and Innovation Fund will accelerate the pace of our growth into the North of England.

Our digital capabilities also continue to expand at pace and in October we launched our artificial intelligence tool - Insights - on our mobile app. Insights can identify patterns, trends and upcoming payments in customers' accounts and then create personalised reports and analysis to allow them to better understand how they are using their money. The feedback we have received in the few months this has been live has been phenomenal. Looking ahead we have plenty more exciting projects under development to continue to improve our customers' experience integrated across "bricks and clicks".

Culture is at the heart of what we do

Out of everything we do at Metro Bank, our culture is at our heart. Creating a truly differentiated approach to banking cannot be achieved without the right people and attitude.

During the year we welcomed over 800 new colleagues to the bank. In addition, we continued to develop our colleagues, and promoting more than 730 to roles with greater responsibility. In October, we launched an MSc in Retail and Digital Banking, designed in partnership with Cranfield University. This continues to build on our core belief of hiring for attitude and training for skill. By investing in our colleagues across the bank through initiatives such as this, we are ensuring that we will continue to be a disruptive force in UK retail banking.

2018 also saw us expand the work we do within our communities. During the year we hosted 3,500 community and charity events in our stores as well as taking over 41,000 school children through our financial education programme, Money Zone. We also continued to support our two charity partners, Place2Be and Alzheimer's Society, and colleagues have raised over £140,000 for these important causes during the year.

Deposit led banking

In 2018 we created more FANS than ever before, who in turn each trust us to deliver exceptional service at every point of contact. Despite an increasingly competitive marketplace for savings we grew our deposits by 34% to over £15 billion and continued to do so at low cost. This was assisted by the expansion of our network by another 10 stores, with new markets including Southampton, Oxford and Bristol.

At the start of the year we launched "Current Account Online" opening, allowing people all over the country to join the revolution. This technology is truly game changing, allowing retail customers to open an account in less than 10 minutes, using 'selfie' identification technology. It also allows people who live near our network to order online and pick up their card straight away in store, finally bringing the era of "click and collect" to banking.

Low-risk lending

The UK mortgage landscape remains challenging as despite a further base rate rise, mortgage yields remain broadly flat. In spite of this headwind our lending engines continued to deliver gains in market share, largely driven through organic lending growth.

For the second year running we met our pledge to provide £1 billion of net lending to businesses. Given our own entrepreneurial beginnings, we understand the important role that access to finance plays for all organisations. Delivering this pledge has allowed thousands of businesses to grow, recruit and innovate, benefiting their communities and contributing to the success of the UK economy.

We continue to have local business managers in store and on the phone whenever customers need them and remain committed to offering simple and fair products to our customers.

Strong capital base

Our balance sheet continues to be underpinned by our strong capital position, supported by a further equity capital raise of £303 million in July 2018.

We also completed our first ever Tier 2 debt issuance, to support our growth. I am grateful to our investors, both existing and new, who believe in our model and supported these transactions.

Looking forward, maintaining a strong capital position while having the resources to support further capital efficient growth remains a key focus for us. We plan to raise equity of c.£350m in 2019 and have a committed standby underwrite to support the transaction. The Chairman and Executive Directors also intend to participate in this fund raise.

It remains our intention to maintain a minimum CET1 ratio of 12% and a regulatory leverage ratio above 4%. Our capital planning also includes the issuance of c.£500m of MREL-eligible securities in 2019 to meet our transitional MREL requirement by 1 January 2020.

Awards and recognition

2018 saw our work recognised across the board, including being named as one of the UK's 25 best companies to work for by Glassdoor.

We were also ranked top for overall service quality in personal banking in the second Competition and Market Authority's (CMA) Service Quality Survey released in February 2019. We also came second among business account holders. We were the only bank to achieve a top five spot for all qualifying business and personal services.

Strategic update

Our integrated customer experience model is working well and we remain committed to our core strategy of creating FANS, attracting low-cost sticky deposits and lending at low risk. However, we are conscious of the need to adapt to the conditions in the wider economic, commercial and regulatory environment. To that end we are implementing four strategic initiatives to deliver the next phase of our growth: i) balancing growth with profitability and capital efficiency; ii) rebalancing lending mix to optimise capital allocation and returns; iii) expanding our range of services to create new sources of income; and iv) improving cost efficiency. Each of the initiatives is set out in greater detail below.

In order to balance growth and profitability we will moderate deposit growth to the c.20% per annum range, with a concentration on relationship current accounts and variable accounts, while reducing the proportion of higher-cost term deposits. We will also manage our loan to deposit ratio to the 85-90% range, thereby balancing loan growth to optimise capital efficiency and profitability. The expansion of our physical store network and digital footprint to deliver an integrated customer experience will remain at the core of our model, although going forward we will manage the pace of store openings to lower the impact on costs.

Our lending will be built around low-risk mortgages, which are both cost-efficient and deliver a high ROE. In addition, we will use the C&I funding to broaden business services, creating opportunities for further SME and commercial trading business lending, whilst reducing the proportion of lower ROE commercial real estate loans. As the risk-reward trade off in consumer unsecured lending normalises, we will grow in unsecured lending and credit cards.

We will drive expansion in fee income through launching new value-added services, especially for SMEs. The initiatives we expect to launch include developing our digital offering, particularly in relation to online business accounts. We will partner with companies that can work with our customers to make running their business more convenient as all paperwork is cumbersome for SMEs, and we therefore believe there's a real opportunity to help them across a range of issues from tax to payroll.

Part of ensuring the model is in the right shape for the broader environment will mean reducing our cost base. We recognise that the pace of improving operating leverage has been too slow and requires back-office transformation to scale appropriately with our growth. We have therefore identified a programme of initiatives that will enable us to achieve a 55-60% cost:income ratio in the medium term. These cost actions will enable us to scale more efficiently with our pace of growth, with digitisation and automation improving efficiency across the span of our operations

Our application is with the PRA regarding AIRB migration for residential mortgages is ongoing and successful completion is expected, but not before 2021.

Guidance

Summary

2018 has seen us pass another set of incredible milestones. We have expanded our reach further than ever before, enabling more people to save for their future, buy their own home or support the growth of their business with us.

We have been rewarded in these endeavours by a 140% increase in underlying profitability to £50.0m. Our statutory profitability increased by 117% to £40.6m

2019 will see us continue to focus relentlessly on creating FANS. We will also continue to invest in all areas of our business to ensure long-term market leadership, but this will be to drive a balance of growth, profit and cost efficiency.

Risk report

Our approach to risk management - putting our AMAZEING Culture at the heart of everything we do; investment in Growth Capability, enabling colleagues to be the most professional bankers; and focus on Control by doing the right things the right way - underpins delivery of our vision to create FANS! We believe a culture that truly focuses on creating FANS by exceeding customer expectations will deliver consistently great outcomes. Our unique culture aligns our people, processes and systems to the way we manage the risks inherent in our business activities. This ensures that our operations are carried out in a safe and compliant way, balanced with the superior customer service that enables us to create FANS.

All colleagues are responsible for managing risk as part of their day-to-day role. Customer-facing colleagues are at the forefront of risk management, along with their line managers. The Risk team oversees risk management activities. It also supports other colleagues in their risk management work, for example, by providing centralised 'bump-up' support contacts for more complex requirements, freeing up customer-facing colleagues to focus on creating FANS.

The risk and control framework is designed to ensure that: all principal and emerging risks are identified, assessed, mitigated, monitored and reported; risk appetite is clearly articulated and policies aligned to it; appropriate processes, systems and controls are in place to support all colleagues in performance of their roles within risk appetite; and ongoing analysis of the environment in which we operate takes place to ensure we identify emerging risks and regulatory requirements.

Our unique, pervasive culture supports risk awareness by encouraging every colleague to think about the relationship between their role and our goal of creating FANS while growing safely and sustainably; and to be comfortable asking questions when they are not clear about policy to ensure their actions do not result in financial loss, reputational damage or customer detriment.

The Board is responsible for setting strategy, corporate objectives and risk appetite. The strategy and risk appetite considers the interests of our customers, shareholders and other stakeholders. On the advice of the Risk Oversight Committee, the Board approves the level of risk acceptable under each principal risk category, whilst providing oversight to ensure there is an adequate framework in place for reporting and managing those risks. The Board has delegated responsibility for reviewing the effectiveness of this framework to the Risk Oversight committee.

It is also responsible for maintaining an appropriate control environment to manage risk effectively, and for ensuring that the capital, liquidity, and other resources are adequate to achieve our objectives within our risk appetite.

The Board has delegated responsibility for reviewing the effectiveness of internal controls to the Audit Committee. This committee monitors and considers the internal control environment, focusing on operational risks, internal and external audits and risk assurance, and is assisted in its oversight role by our Internal Audit function. Internal Audit carries out both regular and ad-hoc reviews of risk management controls and procedures and reports the results to the Audit Committee. The Director of Internal Audit's reporting line is to the Chairman of the Audit Committee, with a dotted line to the CEO, and therefore supports the function's independence.

Our Chief Risk Officer ('CRO') leads the Risk function, which is independent from operational and commercial functions. She is responsible for ensuring that appropriate risk management processes, policies and controls are in place, that they're sufficiently robust, that key risks are identified, assessed, monitored and mitigated, and that we are operating within our risk appetite.

The Risk team provides specialist knowledge and support to colleagues, acting as a reference point for advisory queries, whilst also overseeing colleagues and the risk management and controls in place. It operates themed, targeted and ad-hoc reviews to provide assurance to the leadership team, and ultimately to the Board, that risks are properly managed, controls are effective, and that we're not exceeding our risk appetite.

We've established our risk management policies to identify and analyse the risks we face, to set appropriate risk limits and controls, and to monitor risks and adherence to limits. The Risk team regularly reviews these policies and controls to verify compliance and to reflect changes in market conditions and our activities. We use training and management standards and procedures to develop a robust and effective control environment - one where all colleagues understand their roles and obligations.

Our approach to risk appetite is to set relevant quantitative and qualitative measures against which risk management performance can be reviewed for each of our principal risks. Risk appetite is set by the Board, based on the recommendation of the Risk Oversight Committee ("ROC"), and implemented by the Executive Risk Committee. Our risk appetite has been developed in line with our business plan, strategy and vision, and is underpinned by a culture in which all colleagues embed risk considerations in decision-making and are rewarded accordingly.

Risk Oversight Committee: Assists the Board in providing leadership, direction, and oversight with regard to risk governance and management, and also assists the Board in fostering a culture that emphasises and demonstrates the benefits of a risk-based approach to risk management and internal controls when creating FANS. It works closely with the Audit Committee. It is chaired by a Non-Executive Director and meets at least quarterly. Its responsibilities include:

· Recommending to the Board our risk appetite;

· Regular review of risk exposures in relation to the risk appetite;

· Reviewing risk policies, and approving or recommending to the Board for approval; and

· Monitoring the effectiveness of risk management processes and procedures put in place by Management.

The Chief Executive, supported by the Executive Leadership Team, is responsible for executing the strategy and managing risk exposures and making decisions and recommendations to the Board, as appropriate, via the following risk committees:

(1) Credit Risk, Policy and Appetite Committee - The Committee is chaired by the CRO, meets monthly and is responsible for: oversight of credit risk policies; reviewing proposals on risk appetite; monitoring portfolio performance against risk appetite; along with the CFO, approving the impairment levels; and, approving all material aspects of IRB rating systems, including all material models.

(2) Credit Approval Committee - The Committee is an executive committee reporting to the ROC. It is chaired by the CRO or Director of Commercial Credit and is responsible for: sanctioning of higher value lending requests, and any exceptions to policy; monitoring overdue accounts; and granting and reviewing delegated lending authorities.

(3) Asset & Liability Committee - The Committee is chaired by the CFO, meets monthly and is responsible for: ensuring that an appropriate balance is maintained between funding and lending activities; ensuring that we meet internal liquidity targets as set out in the Liquidity Policy; analysis of Capital Market trends, considered along with actual and projected business performance to assess the adequacy of funding to meet the projected targets; agreement of pricing decisions to ensure visibility of trading and capital impact; and monitoring interest rate risk.

(4) Enterprise Risk Committee - The Committee is chaired by the CRO, meets monthly and is responsible for: reviewing enterprise, regulatory and compliance risk management issues with regard to risk appetite; oversight of the Enterprise Risk Management framework and performance of the KRIs; reviewing Assurance reports and findings; and, making recommendations for adjustment of policies to the Board.

The first line of defence is operational management, who manage risk by maintaining appropriate systems and controls that are operated and effective on a daily basis. The second line of defence comprises the risk management function, providing advice and oversight through specialist support teams and the risk committees. The third line of defence is Internal Audit, providing independent assurance through internal reviews and reports the results to the Audit Committee.

In January 2019, we announced that we had adjusted the risk weighting of some commercial lending assets. However, this does not impact the underlying credit quality of these assets. Asset quality remains strong overall, consistent with our prudent approach to lending, and reflected in our low cost of risk and NPL ratio.

We have now completed a review of the commercial loan book as at 31 December 2018, supported by one of the 'big four' accounting firm, and are satisfied that risk-weightings have been assigned appropriately.

Condensed consolidated statement of comprehensive income

For the year ended 31 December 2018

Condensed consolidated balance sheet

As at 31 December 2018

10. On 1 January 2018 we adopted IFRS 9 which replaced IAS 39. As part of the transition our investment securities are classified as held at amortised cost and as FVOCI, rather than under the previous categories of held to maturity and available-for-sale.

11. Deposits from central banks comprises solely of amounts drawn down under the Bank of England's Term Funding Scheme ('TFS').

Condensed consolidated statement of changes in equity

For the year ended 31 December 2018

12. On 1 January 2018 we adopted IFRS 9 which replaced IAS 39. Upon adoption of IFRS 9 the available for sale reserve was replaced by the fair value through other comprehensive income (FVOCI) reserve in accordance with the new requirements.

Condensed consolidated cash flow statement

For the year ended 31 December 2018

Notes

1. Basis of preparation and summarised accounting policies

Basis of preparation

The financial information set out in the announcement does not constitute the Group's statutory accounts for the years ended 31 December 2018 or 31 December 2017. The audit of the statutory accounts for the year ended 31 December 2018 is not yet complete. These accounts will be finalised on the basis of the financial information presented by the directors in this preliminary announcement.

Summarised accounting policies

The accounting policies and methods of computation are consistent with those applied in the 2017 Annual Report & Accounts, other than in respect of new policies adopted during the year.

During the year we adopted the following standards across all Group companies:

IFRS 9 'Financial Instruments'

On 1 January 2018 we adopted IFRS 9 'Financial Instruments', which replaced IAS 39 'Financial Instruments: Recognition and Measurement'. This resulted in changes in accounting policies and adjustments to the amounts previously recognised in the financial statements. In accordance with the transitional provisions in IFRS 9, comparative figures have not been restated; accordingly, all comparative period information is presented in accordance with our previous accounting policies.

IFRS 15 'Revenue from Contract with Customer'

On 1 January 2018, we adopted IFRS 15 'Revenue from Contracts with Customers' applying the modified retrospective method. The majority of our revenue is net interest income which is accounted for under IFRS 9, as such there are no material changes which have arisen from the adoption of IFRS 15.

2. Net Interest Income

Interest income

Interest expense

3. Taxation

Tax expense

Reconciliation of the total tax expense

The tax expense shown in the income statement differs from the tax expense that would apply if all accounting profits had been taxed at the UK corporation tax rate.

A reconciliation between the tax expense and the accounting profit multiplied by the UK corporation tax rate is as follows:

Share based payments

During the year the Metro Bank share price fell from £35.84 to £16.93. This had the impact of significantly reducing the deferred tax asset held for share options and in turn resulted in an associated deferred tax charge of £1.3 million. This charge contributes 3.1% to the 2018 effective tax rate.

Effective tax rate

The effective tax rate for the year is 33.2% (2017: 42.2%).

The effective tax rate for the year excluding the effect of changes in tax rates and prior year adjustments is 31.2% (2017: 32.8%).

Deferred tax

A deferred tax asset must be regarded as recoverable and therefore recognised only when, on the basis of all available evidence, it can be regarded as more likely than not there will be suitable tax profits from which the future of the underlying timing differences can be deducted.

The following table shows deferred tax recorded in the balance sheet and changes recorded in the tax expense:

4. Financial instruments

Financial assets

We account for our financial assets under three measurement categories, as defined by IFRS 9:

• Measured at amortised cost

• Measured at fair value through other comprehensive income ('FVOCI')

• Measured at fair value through profit or loss ('FVPL')

IFRS 9 applies one classification approach for all types of financial assets. Two criteria are used to determine how financial assets should be classified and measured:

(a) Business model: how an entity manages its financial assets in order to generate cash flows by collecting contractual cash flows, selling financial assets or both. Factors considered in determining the business model for a group of assets include, for example, past experience on how the cash flows for these assets were collected, how their performance is assessed, how related risks are managed and how their managers are compensated; and

(b) SPPI test: whether contractual cash flows are consistent with a basic lending arrangement; that is whether cash flows solely comprise payments of principal and interest ('SPPI'). Examples of contract terms which may cause a financial asset not to "pass" the SPPI test include: interest being linked to the share price of the issuer, or some other index, rather than reflecting the time value of money; timing differences on interest reset points, such as an interest rate which resets monthly to a three month LIBOR rate; or a bond that is convertible into equity.

If assets pass the SPPI test, and are within a business model that holds to collect contractual cash flows, they are measured at amortised cost. If assets pass the SPPI test, and are within a business model that holds to collect contractual cash flows and for sale, they are measured at FVOCI. If an asset does not meet the criteria for amortised cost or FVOCI, it is measured at FVPL.

Under IFRS 9, assets will only move between categories if there is a significant change to the business model within which they are held; this is expected to be infrequent.

Financial assets are derecognised when the contractual rights to the cash flows from the financial asset expire, or when the financial asset and substantially all the risks and rewards of ownership of the asset are transferred to another entity.

Financial liabilities

Our financial instruments primarily comprise customer deposits, loans and advances to customers, cash held at banks and investment securities, all of which arise as a result of our normal operations.

We do not enter into transactions for speculative purposes and there are no instruments held for trading. From time to time, we may use interest rate derivatives such as swaps to manage part of our interest rate risk.

The main financial risks arising from our financial instruments are credit risk, liquidity risk and market risks (price and interest rate risk).

The financial instruments we hold are simple in nature and we do not consider that we have made any significant or material judgments relating to the classification of financial instruments under IFRS 9.

5. Loans and advances to customers

13. On 1 January 2018 we adopted IFRS 9. Under IFRS 9 we assess impairment on a forward-looking ECL basis, compared to on an incurred loss basis under IAS 39.

An analysis of the gross loans and advances by product category is set out below

6. Investment securities

Our investment securities may be categorised as amortised cost, FVOCI or FVPL. Currently all investment securities are non-complex, with cash flows comprising solely payments of principal and interest. We hold some securities to collect cash flows; other securities are held to collect cash flows, and to sell if the need arises (e.g., to manage and meet day to day liquidity needs). Therefore, we have a mixed business model and securities are classified as either amortised cost or FVOCI as appropriate. We do not categorise any investment securities as FVPL.

Investment securities held at amortised cost

Investment securities held at amortised cost consist entirely of debt instruments. They are accounted for using the effective interest method, less any impairment losses.

Investment securities held at FVOCI

Investment securities held at fair value through other comprehensive income (FVOCI)

The classification of a financial instrument is based on the lowest level input that is significant to the fair value measurement in its entirety. The two levels of the fair value hierarchy are defined below.

Quoted market prices - Level 1

Investment securities are classified as Level 1 if their value is observable in an active market. Such instruments are valued by reference to unadjusted quoted prices for identical assets or liabilities in active markets where the quoted price is readily available, and the price represents actual and regularly occurring market transactions on an arm's length basis. An active market is one in which transactions occur with sufficient volume and frequency to provide pricing information on an ongoing basis.

Valuation technique using observable inputs - Level 2

Inputs other than quoted prices included within Level 1 that are observable for the asset, either directly (as prices) or indirectly (derived from prices).

Investment securities held at amortised cost

At 31 December 2018, financial investments classified at amortised cost (31 December 2017: held to maturity) were as follows:

Reclassifications between categories

On 17 February 2017 £33.2 million, 18 April 2017 £60.4 million, 21 November 2017 £95.0 million, 19 December 2017 £87.8 million and on 22 December 2017 £46.1 million of financial assets classified as available-for-sale were reclassified as held to maturity. The carrying amount (excluding accrued interest) and fair value of the assets at 31 December 2017 were as follows:

A £1.2 million fair value gain was recognised with respect to the reclassified assets in 2017; had these assets not been reclassified, an additional fair value gain of £0.9 million would have been recognised in other comprehensive income. The effective interest rates on available-for-sale assets reclassified to held to maturity at 1 January 2017 and 31 December 2017 ranged from 0.96% to 3.65%, with all cash flows expected to be recoverable. 

7. Property, plant and equipment

Investment property consists of shops and offices which are located within the same buildings as some of our stores, where we have acquired the freehold interest. Investment property is held to earn rental income and for capital appreciation. At 31 December 2018 our investment property had a fair value of £7 million (31 December 2017: £11 million).

8. Intangible assets