UK Bank Northern Rock Could Cease to Exist

UK bank Northern Rock would cease to exist under proposals submitted to the government by one of the leading contenders to take the bank back into private ownership, it emerged on Thursday.

Sources have told CNBC.com that Virgin Money, the online financial services company, believes Northern Rock as a brand is so heavily tainted by its association to the 2007 credit crisis that its proposed takeover bid includes scrapping the 46- year old name altogether.

In August 2007, Northern Rock became the first victim of the financial crisis, as its customers queued outside the bank to withdraw their savings fearing its imminent collapse due to its exposure to the sub-prime mortgage market and a potential inability to securitize its latest mortgage book on the international money markets.

The former mutual society — formed in 1965 through the merger of the Northern Counties Permanent Building Society which was created in 1850 and the Rock Building Society established in 1865 — had been owned by its customers until it went public in October 1997.

Before the credit crisis it was the UK’s fifth-largest mortgage lender, achieving massive growth through its use of mortgage-backed securities.

The UK government was eventually forced to step in to rescue the bank, nationalizing it in February 2008 and guaranteeing its customers' deposits; Northern Rock was split into a “good bank” and a “bad bank” in January last year.

The current bid process is for the “good” bank.

Wilbur Ross, chairman and chief executive of WL Ross, which is helping to bankroll the bid by Virgin, told CNBC’s Squawkbox on Thursday that he believed Northern Rock to be a “beaten-up name” compared to that of Virgin.

Ross added that he was confident the Virgin bid would be successful given the extent of international investor support for it.

"The bid went in today, we don’t know who else bid but Virgin is a bidder and the world will see Virgin has a lot of international support,” Ross said.

“Virgin has three million internet customers in the UK, which for the UK is quite a lot and Northern Rock is a pretty beaten up name whereas Virgin is a very strong name in the UK,” he added.

Ross has already invested heavily in Virgin providing £100 million investment for organic growth and a further £500 million for acquisitions and other investments.

While Virgin has three million online customers it has no branch network. If its bid were successful it would take over control of Northern Rock’s 70 branches and around one million customers.

However, another source disputed Ross’ and Virgin's assertions over the brand, telling CNBC.com the Northern Rock brand had proven “incredibly resilient” following the credit crisis.

Lloyds Branches for Sale

Coventry Building Society and National Australia Bank (NAB) are also believed to have submitted bids for Northern Rock.

Virgin refused to comment on the details of its bid submission over Northern Rock. Coventry Building Society refused to comment on whether it had submitted a bid for the bank.

Virgin is also one of several potential bidders examining whether to buy 650 Lloyds Banking Group branches the bank was told by the European Commission it must divest itself of by the end of this year.

Mediobanca analyst Christopher Wheeler recently told Reuters it would make sense for any of those interested in buying the Lloyds branches to also make a bid for Northern Rock.

“If …. Virgin were to buy the Lloyds branches, it would give them the incentive to then buy Northern Rock," he said. "Northern Rock is an infrastructure machine, and they've got deposits."

However, sources have told CNBC that Virgin has cooled over a potential bid for Lloyds'  branches over the fact that the branches' associated assets may not be as attractive as potential buyers such as Virgin had once hoped.

One source told CNBC.com the mortgage book of assets associated with the branch disposal contained as much as 50 percent interest-only mortgages, presenting a high risk to the buyer that many Lloyds customers on that book could already be in default, negative equity or both.

Meanwhile, the Lloyds branches have a loan-to-deposit ratio of 130 per cent on a total of £68bn of assets, equating to a £30bn funding gap.

While potential buyers are still locked in negotiations with Lloyds and a deal could yet be reached, the mortgage book was presenting at least one significant obstacle to a final deal.

Another was the possibility that the Independent Commission on Banking could rule that Lloyds must divest itself of even more branches when it publishes its final report in September, meaning potential bidders might wait until then before reaching a decision on making a bid.

Virgin, NAB, new banking venture NBNK, which is a consortium of City executives headed by Lord Levene, chairman of Lloyd's of London, and the Cooperative Bank are seen as leading contenders for the branch network.

“We don’t believe the funding gap is a problem for bidders. We have arranged bridging finance through JP Morgan. It is still the group’s intention to finalise the disposal of the branches by the end of the year,” a spokesperson for Lloyds Banking Group told CNBC.com

The spokesperson however refused to comment on the specifics of the mortgage book.