Nationwide's Virgin Money takeover shows how incredibly difficult it is for mid-tier banks to take on the big four lenders (2024)

There are two ways of looking at Nationwide's blockbuster £2.9bn takeover of Virgin Money.

The optimistic, glass half-full, interpretation is that this is another heartwarming example of how the mutual business model - putting the benefits of members above payments to shareholders - continues to flourish.

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Under this perspective, some 6.6 million Virgin Money customers can now look forward to enjoying the kind of benefits enjoyed by more than 17 million customers of Nationwide, not least those who value the ability to bank in a branch.

Nationwide, as emphasised by its recent advertising campaign starring actor Dominic West, is stressing its commitment to branch banking at a time when the competition is closing them.

The difficulties for challenger banks

The pessimistic, glass half-empty, view is that this takeover simply highlights how incredibly difficult the mid-tier banks have found it in taking on the entrenched market positions of the big four commercial banks in the UK - NatWest, Barclays, HSBC UK and Lloyds Banking Group.

Not that long ago, there were hopes the big four's grip on the market would be broken by a new wave of digital-only banks like Revolut, Atom Bank and Monzo.

At the same time, there were also hopes that a wave of more traditional challenger banks, such as TSB, Metro Bank and Virgin Money itself, would also challenge the big four's hegemony.

Those hopes have been well and truly shattered.

In fact, it has been clear for quite some time that the challenger banks were not going to achieve that.

TSB was taken over by Sabadell of Spain as long ago as March 2015 and subsequently came a cropper following a botched migration to a new IT system that cost the then chief executive, Paul Pester, his job.

Aldermore fell to a £1.1bn takeover from FirstRand of South Africa in 2017. Metro Bank has been hobbled by a series of unfortunate episodes that date back at least five years.

Now Virgin Money, itself a past consolidator in the sector, has succumbed to a takeover.

A history of Virgin Money

The lender is itself an agglomeration of other banks - dating back to when Yorkshire Bank and Clydesdale Bank (once owned by the old Midland Bank) were merged nearly 20 years ago by their then owner, National Australia Bank, which in 2016 floated the bank on the London Stock Exchange under the moniker CYBG.

Two years later, CYBG acquired Virgin Money for £1.7bn, subsequently adopting the latter's name on the basis that it enjoyed greater customer recognition.

The old Virgin Money itself was, at that point, no stranger to consolidation.

Launched by Sir Richard Branson's Virgin Group as long ago as 1995, under the banner Virgin Direct, its fortunes were transformed by the acquisition in 2012 of the remains of Northern Rock - the first of the failed lenders rescued by the UK government at the outset of the global financial crisis in 2007.

So Nationwide is getting, with this deal, a collection of at least four institutions that were once stand-alone banks.

No one will know this better than Debbie Crosbie, Nationwide's chief executive, who was once an executive of CYBG and who was there when it took over the old Virgin Money.

Ms Crosbie, who took over at Nationwide in 2021, also knows better than most the challenges of running a mid-tier lender as she succeeded Mr Pester at TSB in May 2019.

An 'undervalued' deal

The glass half-empty view is also, sadly, reinforced by the price Nationwide is paying for Virgin Money.

The 220p-a-share takeover price represents a 38% premium to the price at which Virgin Money shares were changing hands on Wednesday evening.

Given that shares of Virgin Money were languishing at just 118p as recently as October 2022, some may regard this as a result.

But the key metric to look at here is not the premium being paid but the discount to Virgin Money's tangible book value of 360p-a-share.

Virgin Money is not alone among UK lenders in seeing its shares trading at a substantial discount to book value.

NatWest trades at around 70% of book value, Lloyds at around 80% while Barclays trades at around just 50%. Virgin Money is being taken out at 61% of book value.

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As Gary Greenwood, an analyst at investment bank Shore Capital, puts it: "In our opinion, long-suffering shareholders are likely to welcome this offer, especially given its cash nature, but we feel it undervalues the group and that management could have perhaps driven a harder bargain.

"What it does imply to us, is that management had little faith around successful execution of an organic strategy, which could have potentially yielded a much higher valuation if targets were met."

This is a crucial point. One of the reasons Virgin Money's shares have underperformed, much to the frustration of its likeable chief executive David Duffy, is because investors have been sceptical it has the size or scale to take on the big four without a great deal more investment.

Nationwide after the takeover

Ms Crosbie may fare better. That is partly because, as noted, she knows what she is getting as a former CYBG executive.

But it is also because Nationwide - which plans to retire the Virgin Money brand over time - is a much bigger beast as a result of this takeover.

It was already the UK's second-largest mortgage lender, after the Halifax owner Lloyds, but now is firmly established as the number two player in the market in both mortgages and savings products.

John Cronin, analyst at Irish stockbroker Goodbody, sums it up thus: "Debbie Crosbie, who is well-known to us, is not short of vision or ambition and this is a sensible well thought through, yet brave, strategic move for Nationwide to take.

"But it's absolutely the right move in the context of the strategy set out since Ms Crosbie took the helm."

Before the lender's collapse, during the financial crisis, James Crosby, the former chief executive at HBOS, used to object when journalists would suggest the bank had joined the ranks of the big four and expanded it to a big five.

That accusation cannot be levelled at Nationwide because, even after this transaction, it will be relatively sub-scale in business banking - a market in which, to judge by the experience of the well-capitalised and well-managed Santander UK, the big four's dominance is even harder to break than retail banking.

However, when it comes to personal banking, one can definitively say Nationwide is now fairly and squarely in the big league.

And those of a glass half-full persuasion will wish it well in keeping the big four honest.