Chief Executive's overview

2007 was not an easy year for CFS. The significant external influences of an international banking crisis, a weakened national economic climate and extreme weather events have proved challenging. Despite this difficult backdrop, I am pleased to report that CFS has made satisfactory progress on our journey to become the UK's most admired financial services business and our investments in the future are beginning to reap rewards.

A significant factor in our progress has been the Bank's well-balanced approach to growth which has maintained the strength of our balance sheet in the current environment. Our funding is overwhelmingly from retail and corporate deposits, rather than from the financial markets and our reliance on wholesale funding is lower than most other Banks. The quality of our mortgage book remains high and we have continued to reduce our exposure to unsecured assets. Our capital position remains substantially higher than the regulatory requirements laid down by the Financial Services Authority (FSA).

Overall, total shareholder profit before tax, short term investment fluctuations, significant items and membership dividends was £155.4m compared to £146.2m in 2006. This positive result is a reflection of the commitment to change and investment that has been a key feature for CFS during 2007.

Our commitment to strip out £100m of expenditure in the business by June 2008 was announced in the summer. This meant facing the challenge head on and taking tough decisions to put us in a better place to succeed. One of the toughest decisions we made was to lose 1,000 roles under a major change programme, 'Transformation 07', reducing duplication and improving the structure of the organisation to improve efficiency and effectiveness. This programme was a difficult time for CFS but was a much needed part of the bigger picture and was linked to a £250m investment for the business agreed by the Board, to grow our business.

As part of this cost reduction agenda, CFS launched an Operational Effectiveness Programme in January, tasked with delivering £25m of savings. By the end of the year, £30m of savings had been achieved through 62 initiatives in the business.

As highlighted in the Chair's Overview, part of our drive for change involved the implementation of three key outsourcing partnerships during 2007. In March a significant partnership extension was agreed with Xansa to provide a model of delivery that will give us the ability to develop new customer propositions and improved service to our customer base in a fast changing financial services market. The five-year partnership agreement will also give us a year-on-year reduction in the cost of application development and support services. The partnership continues with Steria which acquired Xansa in October 2007.

In November, our Life and Savings division completed the negotiation of a £250m outsourcing contract with Capita. Capita will provide existing and new business administration services and reduce ongoing maintenance costs. Access to more flexible administration platforms will enable a range of new product solutions for customers and reduce operational risk.

Finally, towards the end of the year, CFS also entered a five-year partnership deal with Communisis, to operate our unified print and mail service. The partnership will improve customer front end print, mail and fulfilment operations and save the business £1.3m a year.

Our customers remain our priority across CFS and this year saw the establishment of a new Direct Propositions Division, pulling together the customer contact centres, back office support areas and direct sales areas under a single Director to help provide improved customer experience. We also opened four new Corporate Banking Centres as part of our plan to double representation by mid 2009 for the convenience of our customers.

The transformation in our distribution, underwriting and marketing strategies took on great pace in 2007. On distribution, the proportion of our new business that is transacted outside our 'traditional' Finance Advisor channel has now grown to 80% from a standing start in 2003. The majority of this business is placed with us direct, although we do have a small number of broker arrangements and also have commenced writing business via 'aggregators' - price comparison websites. The growth in the direct channel has been facilitated by both increased marketing spend, growing marketing efficiency and excellent performance from our call centres. Looking forward, we plan for the majority of our business to come to us direct but for our Financial Advisor channel to remain a viable and unique distribution route for many general insurance products.

As highlighted in our Chair's Overview, within our General Insurance business, the 2007 profit position has been impacted by this year's weather events - approximately 4,500 weather-related claims were received during June/July 2007 - but in spite of this there has continued to be an excellent improvement in our profitability. In particular, our motor insurance business has continued to demonstrate positive trends. I am delighted to report that we have achieved a continuous improvement in the claims ratio during 2007, largely due to the implementation of a programme to modernise our claims handling process as well as better underwriting and pricing strategies.

We have also invested considerable time and effort in improving the quality of the business we underwrite on our motor account. Although our premium income has fallen during 2007 following the completion of our exit from 'Any Driver' business, our customer numbers broadly stabilised from mid year and we anticipate moderate growth in 2008.

Looking at our financial results in detail, we can see that the present value of Life and Savings New Business Premium was £466.3m, a reduction of 6% on 2006, reflecting the decline in the number of Financial Advisers authorised to advise on Life and Savings products. Our gross Life and Savings premium income in 2007 was £534.2m compared to £548.4m in 2006. The fall reflects a reduction in regular premium income from endowment policies as they reach maturity.

In a significant step towards managing long-term risk for our life fund, Co-operative Insurance signed a major transaction in November to reinsure approximately £1.8bn of deferred annuity business and annuity in payment business.

Our CIS Sustainable Leaders Trust has delivered a first class performance and our CIS UK Income with Growth Trust has also firmly upheld its position, earning Co-operative Investments the title of 'Best Ethical Investment Provider' and 'Best Ethical Provider' and gaining Mike Fox, Fund Manager of the Sustainable Leaders Trust, the accolade of 'Fund Manager of the Year'.

Other key new product launches in 2007 include our innovative think credit card, the first in the world aimed at ethical shoppers, and our market-leading fixed rate 25-year mortgage.

This year we celebrated 15 years of our Bank's ethical policy and we are proud to be a market-leader among socially responsible organisations. In 2007 we launched a £400m fund to support projects in the Renewable Energy sector and a $50m investment fund aimed specifically at further developing our presence in the growing Microfinance sector, providing finance to small enterprises in the developing world.

Since March 2006, CFS has been a member of the Association of British Insurers' Customer Impact Scheme. A total of 32 companies take part in this initiative to make sure customers' needs are at the heart of everything we do in the life and savings industry. Inside this report you will find the details of our customer impact survey, the results of which we will use to plan and implement ways of enhancing customer experience.

Customer satisfaction remains key to us as an organisation and we have delivered month-on-month improvements in customer satisfaction since the start of 2007. At the end of the year a survey told us that 62.5% of our customers at CFS were either 'extremely' or 'very' satisfied with our service and products. This has meant corresponding improvements in customer retention which has demonstrated a similar month- on-month trend and benchmarking through consumer intelligence reports show that we are exceeding the scores our customers are giving competitors. We are proud to be able to say that all CFS customer contact centres remain UK based.

Central to the success of our overall change programme is the need to develop a high performing culture within the business. The journey towards this goal was started by our People Programme, concentrating on six key areas aimed at developing a high performance culture across the business to support the other far-reaching changes and investment we are making: leadership, management capability, performance development, recognition, people communication and measurement. 2007 also saw the development of our new 'university for all' bringing interactive and comprehensive learning resources for CFS colleagues under one roof.

This year we have begun to introduce our new 'common identity' with The Co-operative Group's business. We have begun to use our new 'good with money' brand to bring us increased recognition and further commercial success.

In last year's report I anticipated that 2007 would bring CFS a 'challenging and exciting' time. This certainly proved to be the case and we have started to see the emergence of CFS from its chrysalis of radical change and high investment. We are still on a journey and there is no denying there is a distance to go yet, but I am confident that 2008 will be a year that competitors find us a true market force to be reckoned with.

The key to our success remains our fundamental commitment to the best deal for the customer and to the principles of value, fairness and social responsibility.

David Anderson
Chief Executive