The Government agreed yesterday to inject up to £25.5bn of extra capital into Royal Bank of Scotland as part of its plan to insure the stricken banking giant against future losses.
The massive injection comes on top of £20bn pumped in to RBS's capital reserves in December after the Government's first banking bailout and could take the state's "economic stake" in the once-mighty lender to 95 per cent.
The announcement followed tense overnight talks between RBS and the Treasury over the terms of the bank's participation in the Government's asset protection scheme, designed to draw a line under RBS's future losses from risky loans and investments. The Government agreed to insure £325bn of RBS's troubled assets against default. Under the deal, RBS will suffer the first 6 per cent of any losses, with the Government taking on the risk for 90 per cent of the remainder.
Stephen Hester, RBS's chief executive, said the scheme amounted to "catastrophe insurance" for the bank with no end in sight to the financial and economic turmoil battering the banking sector.
The Government will buy £13bn of so-called B shares to boost RBS's capital buffer against future losses and release funds for lending to support the economy. RBS can also sell the Government another £6bn of the shares, which pay a dividend of at least 7 per cent, if it needs to. RBS will also sell a further £6.5bn of the B shares to the Government as payment for the insurance on its assets and will forgo £4.6bn of tax benefits, taking the fee to about £10bn. The bank has also agreed to lend £25bn to British mortgage holders and small-medium businesses this year and next.
The asset protection scheme is intended to avoid nationalisation of RBS and other British banks. The Government's stake in RBS is already 58 per cent and is set to rise to 70 per cent soon.
Mr Hester said RBS was left with little choice than to accept the Government's terms, which are extremely costly to the bank's other shareholders. But he said that no banker could predict the scale of losses they could suffer in future and that the price was worth it.
"Negotiation [with the Government] is a kind word. It doesn't feel like it was one to me," Mr Hester said. "Shareholders will have nothing if customers and counterparties do not have faith in us."
RBS nearly collapsed in September after the bankruptcy of Lehman Brothers in the US drove investors in the capital markets to withhold funds from the bank. The bank's shares jumped 25 per cent yesterday as investors greeted the Government's terms with relief. The losses provided further evidence against the record of Sir Fred Goodwin, the bank's chief executive until late last year. Once hailed as the world's top banker, Sir Fred unwittingly drove RBS close to oblivion by lending riskily against thin capital reserves and buying the Dutch bank ABN Amro.
Mr Hester said he had found poor risk controls, too much focus on short-term profit, racy balance sheet expansion and a dubious management culture at RBS. He revealed that RBS did not keep a proper check on its total exposure to particular clients and counterparties.
Mr Hester said that he would sell off or run down 20 per cent of RBS, including some Asian businesses bought as part of the ABN Amro deal.
Life after Sir Fred: New RBS chief executive feeling the strain
The turmoil at Royal Bank of Scotland has taken its toll on the bank – from branch staff right up to the top. Stephen Hester, RBS's chief executive, said ordinary employees felt "disappointed and even ashamed" at the bank's downfall.
"They are being labelled with failure and disapproval that is misplaced," he said.
Staff in RBS's core UK retail bank face an uncertain future as Mr Hester, who took over from Sir Fred Goodwin late last year, slashes jobs. He said he was sorry for "the human cost" but that cuts were necessary to get RBS back to health. Mr Hester, who played a key role in saving Abbey National when it nearly collapsed in 2003, is a tough former investment banker. But he was showing signs of strain yesterday, admitting that Sir Philip Hampton, his chairman, "has been worried about my emotional state".
Even after the Government's massive support he said he could not feel confident about RBS's financial health. Asked why he wanted to do such a stressful job, he replied: "Pick a time when I'm in a better mood to answer that." Mr Hester has been left to clear up the chaos left by Sir Fred Goodwin, an aggressive but thin-skinned character who has been vilified for his part in RBS's woes. Sir Philip called Sir Fred in late January to ask him to give up some of his pension. "I think he was pretty fed up," Sir Philip said.
Government's potential stake in RBS.