Price volatilities and correlations - volatility is a measure of the tendency of a price to change with time. Correlation measures the degree which two or more prices or other variables are observed to move together. If they move in the same direction there is positive correlation; if they move in opposite directions there is negative correlation. Volatility is a key input in valuing options and the valuation of certain products such as derivatives with more than one underlying variable that are correlation-dependent. Volatility and correlation values are obtained from broker quotations, pricing services or derived from option prices.
Prepayment rates - the fair value of a financial instrument that can be prepaid by the issuer or borrower differs from that of an instrument that cannot be prepaid. In valuing prepayable instruments that are not quoted in active markets, the Group considers the value of the prepayment option.
In order to determine a reliable fair value, where appropriate, management applies valuation adjustments to the pricing information gathered from the above sources. These adjustments reflect the Group's assessment of factors that market participants would consider in setting a price. Furthermore, on an ongoing basis, the Group assesses the appropriateness of any model used. To the extent that the price provided by internal models does not represent the fair value of the instrument, for instance in highly stressed market conditions, the Group makes adjustments to the model valuation to calibrate to other available pricing sources. Where unobservable inputs are used, the Group may determine a range of possible valuations derived from differing stress scenarios to determine the sensitivity associated with the valuation. When establishing the fair value of a financial instrument using a valuation technique, the Group considers certain adjustments to the modelled price which market participants would make when pricing that instrument. Such adjustments include the credit quality of the counterparty and adjustments to compensate for any known model limitations.
Valuation reserves When valuing financial instruments in the trading book, adjustments are made to mid-market valuations to cover bid-offer spread, liquidity and credit risk. The following table shows the valuation reserves and adjustments.
Credit derivative product companies (CDPC) A CDPC is a company that sells protection on credit derivatives. CDPCs are similar to monoline insurers however, they are not regulated as insurers.
The Group has predominantly traded senior tranches with CDPCs, the average attachment and detachment points are 13% and 47% respectively (2010 - 13% and 49%; 2009 - 15% and 51%), and the majority of the loans and bonds in the reference portfolios are investment grade.
11 Financial instruments - valuation continued Other counterparties The CVA for all other counterparties is calculated on a portfolio basis reflecting an estimate of the amount a third party would charge to assume the credit risk.
Expected losses are applied to estimated potential future exposures which are modelled to reflect the volatility of the market factors which drive the exposures and the correlation between those factors. Potential future exposures arising from vanilla products (including interest rate and foreign exchange derivatives) are modelled jointly using the Group's core counterparty risk systems. The majority of the Group's CVA held in relation to other counterparties arises on these vanilla products. The exposures arising from all other product types are modelled and assessed individually. The potential future exposure to each counterparty is the aggregate of the exposures arising on the underlying product types.
Bid-offer, liquidity and other reserves Fair value positions are adjusted to bid or offer levels, by marking individual cash based positions directly to bid or offer or by taking bidoffer reserves calculated on a portfolio basis for derivatives exposures. The bid-offer approach is based on current market spreads and standard market bucketing of risk.
Bid-offer spreads vary by maturity and risk type to reflect different spreads in the market. For positions where there is no observable quote, the bid-offer spreads are widened in comparison to proxies to reflect reduced liquidity or observability. Bid-offer methodologies also incorporate liquidity triggers whereby wider spreads are applied to risks above pre-defined thresholds.
For issued debt and structured notes this adjustment is based on debt issuance spreads above average inter-bank rates (at a range of tenors). At the beginning of the year the spreads were based on levels which the market would demand when purchasing new senior or sub-debt issuances from the Group. During the year, primary debt issuance activity in the market reduced whilst liquidity remained in the secondary trading of Group senior debt. These secondary senior debt issuance spreads were considered to provide a more accurate reflection of fair value and these levels are therefore now used in the calculation of the own credit adjustment applied to senior debt. Where necessary, these quotes are interpolated using a curve shape derived from credit default swap prices.
Notes: (1) Consists of wholesale and retail note issuances. (2) Designated as at fair value through profit and loss.
11 Financial instruments - valuation continued Valuation hierarchy The following tables show financial instruments carried at fair value on the Group’s balance sheet by valuation hierarchy - level 1, level 2 and level 3.
Assets Loans and advances to banks Reverse repos — 34.7 — 34.7 — 38.2 — 38.2 — 26.9 — 26.9 Collateral — 19.7 — 19.7 — 25.1 — 25.1 — 18.4 — 18.4 Other — 0.2 0.4 0.6 — 0.6 0.4 1.0 — 0.1 — 0.1
— 54.6 0.4 55.0 — 63.9 0.4 64.3 — 45.4 — 45.4 Loans and advances to customers Reverse repos — 53.6 — 53.6 — 41.1 — 41.1 — 26.3 — 26.3 Collateral — 22.0 — 22.0 — 14.4 — 14.4 — 9.6 — 9.6 Other — 3.4 0.4 3.8 — 6.2 0.4 6.6 — 7.3 1.1 8.4
Debt securities UK government 22.4 — — 22.4 13.5 — — 13.5 27.3 — — 27.3 US government 35.5 5.0 — 40.5 31.0 7.0 — 38.0 19.2 9.2 — 28.4 Other government 53.9 8.7 — 62.6 62.3 13.6 — 75.9 79.6 16.3 — 95.9 Corporate — 5.0 0.5 5.5 — 6.5 1.2 7.7 — 9.2 1.2 10.4 Financial institutions 3.0 61.6 7.4 72.0 3.5 64.8 7.0 75.3 4.2 88.3 2.9 95.4
Of which Core 53.6 46.9 0.6 101.1 52.8 49.2 1.0 103.0 Non-Core — 2.7 5.5 8.2 0.6 5.8 3.7 10.1 53.6 49.6 6.1 109.3 53.4 55.0 4.7 113.1
£bn £bn £bn £bn £bn £bn £bn £bn £bn £bn £bn £bn
— 57.5 — 57.5 — 48.8 — 48.8 — 53.6 — 53.6 Customer accounts Repos — 65.5 — 65.5 — 53.0 — 53.0 — 41.5 — 41.5 Collateral — 9.2 — 9.2 — 10.4 — 10.4 — 8.0 — 8.0 Other — 10.8 — 10.8 — 8.7 0.1 8.8 — 11.8 0.1 11.9
Note: (1) Level 1: valued using unadjusted quoted prices in active markets, for identical financial instruments. Examples include G10 government securities, listed equity shares, certain exchange-traded derivatives and certain US agency securities.
Level 3: instruments in this category have been valued using a valuation technique where at least one input which could have a significant effect on the instrument’s valuation, is not based on observable market data. Where inputs can be observed from market data without undue cost and effort, the observed input is used. Otherwise, the Group determines a reasonable level for the input. Financial instruments primarily include cash instruments which trade infrequently, certain syndicated and commercial mortgage loans, unlisted equity shares, certain residual interests in securitisations, majority of CDOs, other mortgage-backed products and less liquid debt securities, certain structured debt securities in issue, and OTC derivatives where valuation depends upon unobservable inputs such as certain credit and exotic derivatives. No gain or loss is recognised on the initial recognition of a financial instrument valued using a technique incorporating significant unobservable data.
11 Financial instruments - valuation continued The following table analyses level 3 balances and related valuation sensitivities.
Liabilities Customer accounts — 20 (20) 0.1 60 (60) 0.1 — (10) a, c Debt securities in issue 2.2 80 (60) 2.2 90 (110) 2.3 50 (10) a, q Short positions 0.3 10 (100) 0.8 20 (50) 0.2 10 (20) a, c Derivatives Foreign exchange 0.4 30 (20) — — (10) — — — a, q Interest rate 1.1 80 (90) 1.0 70 (90) 0.8 40 (60) a, q Equity and commodities 0.5 10 (10) 0.4 10 — 0.2 20 (70) a, f Credit - APS 0.2 300 (40) — — — — — — a, c, e, g, l Credit - other 1.6 80 (130) 0.3 40 (40) 1.0 80 (100) a, b, q
Note: (1) Sensitivity represents the favourable and unfavourable effect on the income statement or the statement of comprehensive income due to reasonably possible changes to valuations using reasonably possible alternative inputs to the Group's valuation techniques or models. Totals for sensitivities are not indicative of the total potential effect on the income statement or the statement of comprehensive income.
Total liabilities carried at fair value increased by £115.7 billion, with increases in derivative liabilities (£100.0 billion), repos (£15.2 billion) and collateral (£4.0 billion), partially offset by decreases in debt securities in issue (£4.0 billion) and short positions (£2.1 billion).
Level 3 assets of £16.4 billion represented 1.9% (2010 - £15.7 billion and 2.0%) of assets at fair value, an increase of £0.7 billion. This reflected transfers from level 2 to level 3 of £5.7 billion based on a review in the latter part of 2011 in light of liquidity in the market, maturity and sale of instruments. These transfers related to ABS in Non-Core Markets and certain foreign exchange options and credit derivatives in GBM. £1.9 billion was transferred from level 3 to level 2, based on the re-assessment of the impact and nature of unobservable inputs used in valuation models.
The favourable and unfavourable effects of reasonably possible alternative assumptions on level 3 instruments carried at fair value excluding APS credit derivatives were £2.0 billion favourable (2010 - £1.7 billion favourable) and £1.4 billion unfavourable (2010 - £1.2 billion unfavourable) respectively. Favourable and unfavourable sensitivities for APS credit derivatives were £0.3 billion (2010 - £0.9 billion favourable) and £0.1 billion unfavourable (2010 - £0.9 billion unfavourable). The change in APS sensitivities reflected the decrease in overall value of the Scheme.
Interaction with the IPV process The determination of an instrument’s level cannot be made at a global product level as a single product type can be in more than one level. For example, a single name corporate credit default swap could be in level 2 or level 3 depending on whether the reference counterparty is liquid or illiquid.
The breadth and detail of this data allows a good assessment to be made of liquidity and pricing uncertainty, which assists with the process of allocation to an appropriate level. Where suitable independent pricing information is not readily available the instrument will be considered to be level 3.
11 Financial instruments - valuation continued Modelled products For modelled products the market convention is to quote these trades through the model inputs or parameters as opposed to a cash price equivalent. A mark-to-market is derived from the use of the independent market inputs calculated using the Group’s model.
The decision to classify a modelled asset as level 2 or 3 will be dependent upon the product/model combination, the currency, the maturity, the observability of input parameters and other factors. All these need to be assessed to classify the asset.
An assessment is made of each input into a model. There may be multiple inputs into a model and each is assessed in turn for observability and quality. If an input fails the observability or quality tests then the instrument is considered to be in level 3 unless the input can be shown to have an insignificant effect on the overall valuation of the product.
Commercial mortgages These senior and mezzanine commercial mortgages are loans secured on commercial land and buildings that were originated or acquired by the Group for securitisation. Senior commercial mortgages carry a variable interest rate and mezzanine or more junior commercial mortgages may carry a fixed or variable interest rate. Factors affecting the value of these loans may include, but are not limited to, loan type, underlying property type and geographic location, loan interest rate, loan to value ratios, debt service coverage ratios, prepayment rates, cumulative loan loss information, yields, investor demand, market volatility since the last securitisation and credit enhancement. Where observable market prices for a particular loan are not available, the fair value will typically be determined with reference to observable market transactions in other loans or credit related products including debt securities and credit derivatives. Assumptions are made about the relationship between the loan and the available benchmark data.
The fair value of securities within each class of asset changes on a broadly consistent basis in response to changes in given market factors. However, the extent of the change, and therefore the range of reasonably possible alternative assumptions, may be either more or less pronounced, depending on the particular terms and circumstances of the individual security. The Group believes that probability of default was the least transparent input into Alt-A and prime RMBS modelled valuations (and most sensitive to variations).
Collateralised debt obligations (CDO) CDOs purchased from third-parties are valued using independent, thirdparty quotes or independent lead manager indicative prices. For super senior CDOs which have been originated by the Group no specific thirdparty information is available. The valuation of these super senior CDOs therefore takes into consideration outputs from a proprietary model, market data and appropriate valuation adjustments.
11 Financial instruments - valuation continued Derivatives Derivatives are priced using quoted prices for the same or similar instruments where these are available. However, the majority of derivatives are valued using pricing models. Inputs for these models are usually observed directly in the market, or derived from observed prices. However, it is not always possible to observe or corroborate all model inputs. Unobservable inputs used are based on estimates taking into account a range of available information including historic analysis, historic traded levels, market practice, comparison to other relevant benchmark observable data and consensus pricing data.
Credit derivatives - APS The Group purchased credit protection over a portfolio of specified assets and exposures (covered assets) from HM Treasury. The Group has a right to terminate the APS at any time provided that the Financial Services Authority has confirmed in writing to HM Treasury that it has no objection to the proposed termination. On termination the Group must pay HM Treasury the higher of the regulatory capital relief received and £2.5 billion less premiums paid plus the aggregate of amounts received from the UK Government under the APS. The Group has paid APS premiums totalling £2,225 million (£125 million in 2011, £700 million in 2010 and £1,400 million in 2009). From 31 December 2011, premiums of £125 million are payable quarterly until the earlier of 2099 and the date the Group leaves the Scheme.
During 2011, refinements were made to the treatment of expected losses on certain triggered assets following a modification to the trigger events that apply to some portfolios. The valuation refinement was made to accurately reflect the impact of the changes. The expected losses arising on assets that trigger under the modified rules now reflect a range of possible recovery rates.
The Group has used the following reasonably possible alternative assumptions in relation to those inputs that could have a significant effect on the valuation of the APS: Correlation: +/- 10% The correlation uncertainty relates to both the nature of the underlying portfolio and the seniority of protection. The +/-10% correlation range looks reasonable in light of market observable correlations of similar levels of protection seniority, for portfolios of investment grade and high yield assets.
Credit spreads: +/- 10% The credit spread uncertainty relates to determining the probability of default for assets where there is no such observable data in the market. An analysis of the impact on credit spreads of small changes in the ratings assumptions in key geographic regions indicated that overall credit spread movements in the +/- 10% range look reasonable.
11 Financial instruments - valuation continued Gap risk products are leveraged trades, with the counterparty's potential loss capped at the amount of the initial principal invested. Gap risk is the probability that the market will move discontinuously too quickly to exit a portfolio and return the principal to the counterparty without incurring losses, should an unwind event be triggered. This optionality is embedded within these portfolio structures and is very rarely traded outright in the market. Gap risk is not observable in the markets and, as such, these structures are deemed to be level 3 instruments.
Other financial instruments In addition to the portfolios discussed above, there are other financial instruments which are held at fair value determined from data which are not market observable, or incorporating material adjustments to market observed data.
Transfers in/(out) of level 3 Issuances Purchases Settlements Sales Foreign exchange At 31
Transfers in/(out) of level 3 Reclassification Purchases and issuances Sales and settlements Foreign exchange At 31
Assets FVTPL (2) Loans and advances 3,148 130 — 330 (1,537) 22 (898) (136) 1,059 11 Debt securities 3,846 (49) — 104 (157) 378 (1,207) (133) 2,782 (165)
Notes: (1) Consolidated statement of comprehensive income. (2) Fair value through profit or loss. (3) Net losses on HFT instruments of £860 million (2010 - £694 million; 2009 - £3,372 million) and net gains of £143 million (2010 - £141 million gains; 2009 - £565 million losses) were recorded in other operating income, interest income and impairment losses as appropriate on other instruments.
2011 Carrying value 2011 Fair value 2010 Carrying value 2010 Fair value 2009 Carrying value 2009 Fair value £bn £bn £bn £bn £bn £bn
Financial liabilities Deposits by banks 51.3 50.7 50.0 50.4 88.5 88.3 Customer accounts 417.5 417.6 438.5 438.6 552.8 552.1 Debt securities in issue 115.4 112.7 167.2 163.8 222.1 218.5 Settlement balances 7.5 7.5 11.0 11.0 10.4 10.4 Subordinated liabilities 25.4 19.2 25.9 21.9 36.4 31.6
12 Financial instruments - maturity analysis continued The tables above show the timing of cash outflows to settle financial liabilities, prepared on the following basis: Financial liabilities are included at the earliest date on which the counterparty can require repayment regardless of whether or not such early repayment results in a penalty. If repayment is triggered by, or is subject to, specific criteria such as market price hurdles being reached, the liability is included at the earliest possible date that the conditions could be fulfilled without considering the probability of the conditions being met. For example, if a structured note automatically prepays when an equity index exceeds a certain level, the cash outflow will be included in the less than three months period whatever the level of the index at the year end. The settlement date of debt securities issued by certain securitisation vehicles consolidated by the Group depends on when cash flows are received from the securitised assets. Where these assets are prepayable, the timing of the cash outflow relating to securities assumes that each asset will be prepaid at the earliest possible date.
At 1 January 10,236 5,296 2,650 18,182 17,283 11,016 Transfers to disposal groups (158) (536) (79) (773) (72) (324) Currency translation and other adjustments (244) 1 (40) (283) 43 (530)
Loans and receivables Loans and advances to banks (1) 137 123 14 145 127 18 206 157 49 Loans and advances to customers (2) 38,610 17,774 20,836 35,556 15,405 20,151 34,801 14,050 20,751 38,747 17,897 20,850 35,701 15,532 20,169 35,007 14,207 20,800
Available-for-sale securities Debt securities 873 580 758 Equity shares 57 43 180
Loans and receivables Debt securities 234 230 — 1,164 853 938
For cash flow hedge relationships of interest rate risk, the hedged items are actual and forecast variable interest rate cash flows arising from financial assets and financial liabilities with interest rates linked to LIBOR, EURIBOR or the Bank of England Official Bank Rate. The financial assets are customer loans and the financial liabilities are customer deposits and LIBOR linked medium-term notes and other issued securities. At 31 December 2011, variable rate financial assets of £49.5 billion and variable rate financial liabilities of £12.9 billion were hedged in such cash flow hedge relationships.
amount Assets Liabilities amount Assets Liabilities amount Assets Liabilities £bn £m £m £bn £m £m £bn £m £m
Included in the table above are derivatives held for hedging purposes as follows: 2011 2010 2009 Assets Liabilities Assets Liabilities Assets Liabilities £m £m £m £m £m £m
Net investment hedging Exchange rate contracts 148 148 30 102 10 90
Hedge ineffectiveness recognised in other operating income comprised: Fair value hedging Gains on the hedged items attributable to the hedged risk 557 343 512 Losses on the hedging instruments (541) (405) (455) Fair value hedging ineffectiveness 16 (62) 57 Cash flow hedging ineffectiveness 20 (37) 14 36 (99) 71
The following tables show, when the hedged cash flows are expected to occur and when they will affect income for designated cash flow hedges.
Hedged forecast cash flows expected to occur Forecast receivable cash flows 407 415 360 306 200 280 — — 1,968 Forecast payable cash flows (120) (106) (73) (70) (71) (344) (568) (160) (1,512)
Hedged forecast cash flows affect on profit or loss Forecast receivable cash flows 281 250 214 157 112 161 28 — 1,203 Forecast payable cash flows (46) (41) (33) (30) (29) (137) (175) (54) (545)
Held-for-trading 9,004 19,636 36,928 3,400 23,160 2,948 95,076 20,816 Designated as at fair value through profit or loss 1 — 127 53 457 9 647 558 Available-for-sale 13,436 20,848 25,552 13,175 31,752 2,535 107,298 40,735 Loans and receivables 10 — 1 312 5,259 477 6,059 5,200 22,451 40,484 62,608 16,940 60,628 5,969 209,080 67,309
Notes: (1) Includes asset-backed securities issued by US federal agencies and government sponsored entities, and covered bonds. (2) During 2009, the Group reclassified debt securities from the held-for-trading category into the loans and receivables category and in 2008 from the held-for-trading and available-for-sale categories into the loans and receivables category and from the held-for-trading category into the available-for-sale category (see pages 343 and 344).
The following table analyses the Group's available-for-sale debt securities and the related yield (based on weighted averages) by remaining maturity and issuer.
Within 1 year After 1 but within 5 years After 5 but within 10 years After 10 years Total Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield 2011 £m % £m % £m % £m % £m %
16 Equity shares 2011 2010 2009 Listed Unlisted Total Listed Unlisted Total Listed Unlisted Total £m £m £m £m £m £m £m £m £m
Accumulated amortisation and impairment At 1 January 14,611 462 1,822 3,441 20,336 Transfers to disposal groups (80) — — — (80) Currency translation and other adjustments (203) (5) (55) 13 (250) Disposals and write-off of fully amortised assets — — — (220) (220) Charge for the year - continuing operations — 38 184 386 608 Write down of goodwill and other intangible assets 91 — — — 91 At 31 December 14,419 495 1,951 3,620 20,485
Net book value at 31 December 12,424 125 481 1,828 14,858 2010 Cost At 1 January 42,643 2,553 4,139 4,815 54,150 Currency translation and other adjustments (374) (59) (63) (21) (517)
Disposals and write-off of fully amortised assets — — — (391) (391) Charge for the year - continuing operations — 68 301 353 722 - discontinued operations — — 2 22 24 Write down of goodwill and other intangible assets 10 — — — 10 At 31 December 14,611 462 1,822 3,441 20,336
Disposals and write-off of fully amortised assets — (2) — (187) (189)
Accumulated amortisation and impairment At 1 January 30,062 1,407 2,369 3,408 37,246 Currency translation and other adjustments (2,046) (106) (137) (58) (2,347) Disposals of subsidiaries — — — (13) (13) Disposals and write-off of fully amortised assets — (1) — (138) (139) Charge for the year - continuing operations — 89 183 467 739 - discontinued operations — 173 162 119 454 Write down of goodwill and other intangible assets 363 — — — 363 At 31 December 28,379 1,562 2,577 3,785 36,303
Cost or valuation At 1 January 4,170 2,938 291 1,832 4,239 9,235 22,705 Transfers to disposal groups — (107) (12) (93) (49) (5,355) (5,616) Currency translation and other adjustments (103) 2 (4) (6) (77) 3 (185) Reclassifications 57 8 (38) (35) 8 — — Additions 1,262 68 46 174 532 1,384 3,466 Expenditure on investment properties 14 — — — — — 14 Change in fair value of investment properties (139) — — — — — (139) Disposals and write-off of fully depreciated assets (793) (54) (10) (49) (174) (1,375) (2,455)
Accumulated impairment, depreciation and amortisation At 1 January — 702 118 793 2,700 1,849 6,162 Transfers to disposal groups — (43) (6) (66) (26) (730) (871) Currency translation and other adjustments — 6 4 (1) (28) 15 (4) Reclassifications — 3 (9) 7 — (1) — Write down of property, plant and equipment — — 3 1 1 — 5 Disposals and write-off of fully depreciated assets — (29) — (32) (110) (466) (637) Charge for the year - continuing operations — 97 4 148 498 520 1,267 At 31 December — 736 114 850 3,035 1,187 5,922
Net book value at 31 December 4,468 2,119 159 973 1,444 2,705 11,868 2010 Cost or valuation At 1 January 4,883 4,098 214 1,803 4,282 9,558 24,838 Currency translation and other adjustments — 31 2 81 227 231 572 Disposal of subsidiaries — (1,118) — (104) (372) (369) (1,963) Reclassifications — (104) 76 15 13 — — Additions 511 103 5 137 411 1,178 2,345 Expenditure on investment properties 2 — — — — — 2 Change in fair value of investment properties (405) — — — — — (405) Disposals and write-off of fully depreciated assets (821) (72) (6) (100) (322) (1,363) (2,684)
Net book value at 31 December 4,170 2,236 173 1,039 1,539 7,386 16,543
Accumulated impairment, depreciation and amortisation At 1 January — 422 79 492 1,916 1,635 4,544 Transfers to disposal groups — — — (7) (31) — (38) Currency translation and other adjustments — (1) — (11) (48) (69) (129) Disposal of subsidiaries — (1) — — (14) — (15) Write down of property, plant and equipment — 5 — 5 — — 10 Disposals and write-off of fully depreciated assets — — — (2) (126) (419) (547) Charge for the year - continuing operations — 92 8 142 621 564 1,427 Charge for the year - discontinued operations — 36 — 22 78 53 189 At 31 December — 553 87 641 2,396 1,764 5,441
Net book value at 31 December 4,883 3,545 127 1,162 1,886 7,794 19,397
Valuations are carried out by qualified surveyors who are members of the Royal Institution of Chartered Surveyors, or an equivalent overseas body. The valuation as at 31 December 2011 for a significant majority of the Group's investment properties was undertaken with the support of external valuers.
Property, plant and equipment, excluding investment properties, include £186 million (2010 - £298 million; 2009 - £213 million) assets in the course of construction.
Pension schemes in net surplus (see Note 4) 188 105 58 20 Discontinued operations and assets and liabilities of disposal groups
(a) Profit/(loss) from discontinued operations, net of tax 2011 2010 2009 £m £m £m
Businesses acquired exclusively with a view to disposal Profit/(loss) after tax 13 (5) (99) Profit/(loss) from discontinued operations, net of tax 47 (633) (105)
(b) Cash flows attributable to discontinued operations Included within the Group's cash flows are the following amounts attributable to discontinued operations: Net cash flows from operating activities — 2,528 (542) Net cash flows from investing activities — 400 (264) Net cash flows from financing activities — 129 1,020 Net increase/(decrease) in cash and cash equivalents — 3,062 (402)
The effect of net cash flows from discontinued operations on the consolidated assets and liabilities of the Group for 2011 was nil, due to the net cash flows being internally funded.
20 Discontinued operations and assets and liabilities of disposal groups continued (c) Assets and liabilities of disposal groups 2011
The disposal of the RBS Sempra Commodities JV was substantially completed in 2010. Certain contracts of the RBS Sempra Commodities JV were sold in risk transfer transactions prior to being novated to the purchaser, the majority of which completed during 2011.
22 Accruals, deferred income and other liabilities 2011 2010 2009 £m £m £m
Included in other liabilities are provisions for liabilities and charges as follows: Payment
The principal assumptions underlying the PPI provision are: an assessment of the total number of complaints that the Group will receive; the proportion of these complaints that will result in redress; and the average cost of such redress. To determine the number of complaints that it expects to receive the Group has analysed the population of PPI policies sold by vintage and by product. Estimates of the percentage of policyholders that will lodge complaints (the take up rate) and of the number of these that will be upheld have been established based on historical experience, guidance set out in the FSA policy statements and on anticipated customer contact. A one percent rise in the take up rate across the entire population of PPI policies would increase the provision by £95 million; a one percent fall would reduce the provision by the same amount. Interest that will be payable on successful complaints has been included in the provision as has the estimated cost to the Group of administering the redress process. The Group expects the majority of the cash outflows associated with this provision to have occurred by the end of 2013. There are uncertainties as to the eventual cost of redress which will depend on actual complaint volumes, uphold rates and average redress costs; and in particular, the results of the past book review to be conducted in 2012 and any additional reviews that may be required.
Deferred tax liability 1,945 2,142 2,811 Deferred tax asset (3,878) (6,373) (7,039) Net deferred tax asset (1,933) (4,231) (4,228)
Tax losses carried forward Other Total £m £m £m £m £m £m £m £m £m £m £m £m £m
Notes: (1) Deferred tax assets are recognised depending on the availability of future taxable profits in excess of profits arising from the reversal of other temporary differences. Business projections prepared for impairment reviews (see Note 17) indicate it is probable that sufficient future taxable income will be available against which to offset these recognised deferred tax assets within six years. UK losses do not expire and Netherlands losses expire after nine years. In jurisdictions where doubt exists over the availability of future taxable profits, deferred tax assets of £3,246 million (2010 - £2,008 million; 2009 - £2,163 million) have not been recognised in respect of tax losses carried forward of £16,691 million (2010 - £9,869 million; 2009 - £7,759 million). Of these losses, none will expire within one year, £392 million within five years and £9,505 million thereafter. The balance of tax losses carried forward has no time limit.
(2) Deferred tax liabilities of £249 million (2010 and 2009 - £279 million) have not been recognised in respect of retained earnings of overseas subsidiaries and held-over gains on the incorporation of overseas branches. Retained earnings of overseas subsidiaries are expected to be reinvested indefinitely or remitted to the UK free from further tax. No tax is expected to arise in the foreseeable future in respect of held-over gains. Changes to UK tax legislation largely exempts overseas dividends received on or after 1 July 2009 from UK tax.
Insurance premium income 4,526 5,379 5,529 Reinsurers' share (270) (251) (263)
Notified claims 4,375 (305) 4,070 Incurred but not reported 2,351 (5) 2,346 At 1 January 2011 6,726 (310) 6,416 Cash paid for claims settled in the year (3,555) 80 (3,475) Increase/(decrease) in liabilities - arising from current year claims 3,318 (100) 3,218 - arising from prior year claims (257) — (257) Net exchange differences (13) 1 (12)
Notified claims 4,269 (318) 3,951 Incurred but not reported 1,950 (11) 1,939 At 31 December 2011 6,219 (329) 5,890
24 Insurance business continued Outstanding claims provisions are not discounted for the time value of money except for claims, principally motor, settled by periodical payments under the Courts Act 2003. Total reserves for claims outstanding in respect of periodical payments are £1,167 million (2010 - £1,180 million; 2009 - £92 million) gross and £835 million (2010 - £827 million; 2009 - £26 million) net of reinsurance. The corresponding undiscounted amounts are £3,857 million (2010 - £4,321 million; 2009 - £276 million) gross and £2,405 million (2010 - £2,660 million; 2009 - £62 million) net of reinsurance. The amounts for 2011 and 2010 include a provision for estimated periodical payment orders incurred but not reported which is excluded from 2009. The rate of interest used for the calculation of present values is 4.5% (2010 - 4.5%; 2009 - 4.1%). The average interval between the date of the last future cash flow being discounted and the end of the financial year is 50.3 years on open and settled cases.
The unearned premium provision is included within Accruals, deferred income and other liabilities (see Note 22).
Reinsurance risk Reinsurance is used to protect against the impact of major catastrophic events or unforeseen volumes of, or adverse trends in, large individual claims and to transfer risk that is outside the Group's current risk appetite.
Insurance claims - net of reinsurance Accident year 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Total £m £m £m £m £m £m £m £m £m £m £m
Fluctuations in the social and economic climate are a source of uncertainty in the Group’s business interruption and general liability accounts. Other sources of uncertainty are changes in the law, or its interpretation, and reserving risk. Other uncertainties are significant events (for example terrorist attacks) and any emerging new heads of damage or types of claim that are not envisaged when the policy is written.
Dated loan capital 19,654 20,658 24,597 Undated loan capital 2,558 2,552 8,164
US$750 million floating rate subordinated notes 2015 (callable June 2012) 485 483 462 €750 million floating rate subordinated notes 2015 709 725 741
US$500 million floating rate subordinated notes 2016 (callable January 2012) 324 322 308 US$1,500 million floating rate subordinated notes 2016 (callable January 2012) 971 967 926 €500 million 4.5% subordinated notes 2016 (callable January 2012) 420 450 476 CHF200 million 2.75% subordinated notes 2017 (callable December 2012) 138 138 120 €100 million floating rate subordinated notes 2017 84 86 89 €500 million floating rate subordinated notes 2017 (callable June 2012) 419 432 445 €750 million 4.35% subordinated notes 2017 (callable January 2017) 723 721 728 AUD450 million 6.5% subordinated notes 2017 (callable February 2012) 303 302 255 AUD450 million floating rate subordinated notes 2017 (callable February 2012) 298 295 250 US$1,500 million floating rate subordinated callable step-up notes 2017 (callable August 2012) 971 966 925
RBS NV and subsidiaries €250 million 4.70% CMS linked subordinated notes 2019 136 181 189 €800 million 6.25% fixed rate subordinated notes 2010 — — 733 €100 million 5.13% flip flop Bermudan callable subordinated notes 2017 (callable December 2012) 78 69 84 €500 million floating rate Bermudan callable subordinated lower tier 2 notes 2018 (3) — — 426 €1,000 million floating rate Bermudan callable subordinated lower tier 2 notes 2016 (3) — — 862 €13 million zero coupon subordinated notes 2029 14 9 4 €82 million floating rate subordinated notes 2017 (3) — — 68 €103 million floating rate subordinated lower tier 2 notes 2020 (3) — — 83 €170 million floating rate sinkable subordinated notes 2041 81 240 190 €15 million CMS linked floating rate subordinated lower tier 2 notes 2020 7 10 10 €1,500 million floating rate Bermudan callable subordinated lower tier 2 notes 2015 (callable March 2012) 1,246 1,283 1,326 €5 million floating rate Bermudan callable subordinated lower tier 2 notes 2015 (callable January 2012) 4 4 4 €65 million floating rate Bermudan callable subordinated lower tier 2 notes 2015 (3) — — 58
The Royal Bank of Scotland plc £31 million (2010 - £31 million; 2009 - £96 million) 7.375% undated subordinated notes (callable December 2019) (1,2) 31 31 101 £51 million (2010 - £51 million; 2009 - £117 million) 6.25% undated subordinated notes (callable December 2012) (1,2) 53 55 126 £56 million (2010 - £56 million; 2009 - £138 million) 6% undated subordinated notes (callable September 2014) (1,2) 62 61 143 €176 million (2010 - €176 million; 2009 - €197 million) 5.125% undated subordinated notes (callable July 2014) (1,2) 161 166 194 €170 million (2010 - €170 million; 2009 - €243 million) floating rate undated subordinated notes (callable July 2014) (1,2) 141 145 214 £54 million (2010 - £54 million; 2009 - £178 million) 5.125% undated subordinated notes (callable March 2016) (1,2) 61 58 189 £200 million 5.125% subordinated upper tier 2 notes — — 210 £35 million (2010 - £35 million; 2009 - £260 million) 5.5% undated subordinated notes (callable December 2019) (1,2) 37 35 272 £21 million (2010 - £21 million; 2009 - £174 million) 6.2% undated subordinated notes (callable March 2022) (1,2) 45 43 206 £103 million (2010 - £103 million; 2009 - £145 million) 9.5% undated subordinated bonds (callable August 2018) (1,2,5) 137 130 176 £22 million (2010 - £22 million; 2009 - £83 million) 5.625% undated subordinated notes (callable September 2026) (1,2) 23 21 90 £19 million (2010 - £19 million; 2009 - £201 million) 5.625% undated subordinated notes (callable June 2032) (1,2) 13 20 199 £1 million (2010 - £1 million; 2009 - £190 million) 5% undated subordinated notes (callable September 2012) (1,2) 1 2 197 JPY25 billion 2.605% undated subordinated notes — — 173 CAD474 million (2010 - CAD474 million; 2009 - CAD700 million) 5.37% fixed rate undated subordinated notes (callable May 2016) (2) 347 340 452
First Active plc £20 million 11.75% perpetual tier two capital 26 26 26 €38 million 11.375% perpetual tier two capital 48 50 51 £1.3 million floating rate perpetual tier two capital 2 2 2
RBS NV and subsidiaries €1,000 million 4.31% perpetual Bermudan callable subordinated tier 1 notes (callable March 2016) (7) — — 834 €800 million 10% fixed perpetual mandatory convertible tier 1 notes 2099 (7) — — 716 €967 million 10% fixed perpetual mandatory convertible tier 1 notes 2072 (7) — — 866 €833 million 10% fixed perpetual mandatory convertible tier 1 notes 2073 (7) — — 746
Notes: (1) Further details of the contractual terms of the preference shares are given in Note 27. (2) Partially repurchased following completion of the exchange and tender offers in May 2010. (3) Partially converted into ordinary shares in the company in 2010. (4) Series C preference shares each carry a gross dividend of 8.625% inclusive of associated tax credit. Redeemable at the option of the issuer at par.
US$486 million (2010 and 2009 - US$486 million) 6.8% (perpetual callable September 2009) (1,2) 309 289 300 US$318 million (2010 - US$318 million; 2009 - US$322 million) 4.709% (redeemable July 2013) (1,2,3) 210 190 196
RBS NV and subsidiaries (4) US$1,285 million 5.90% Trust Preferred V 684 633 696 US$200 million 6.25% Trust Preferred VI 108 100 107 US$1,800 million 6.08% Trust Preferred VII 958 889 950
below, if RBS Holdings N.V. pays a dividend on its ordinary shares or on its parity securities or redeems or repurchases such securities. (5) The trust preferred securities are subject to restrictions on dividend payments agreed with the European Commission (see page 383).
At 1 January 2010 14,668 2,227 16,895 Currency translation and other adjustments (529) 63 (466) (Loss)/profit attributable to non-controlling interests - continuing operations (121) 61 (60)
Losses on available-for-sale financial assets, net of tax (21) — (21) Movements in cash flow hedging reserves, net of tax 955 — 955 Equity raised 501 58 559 Equity withdrawn and disposals (10,525) (773) (11,298) Transfer to retained earnings — (40) (40) At 1 January 2011 295 1,424 1,719 Currency translation and other adjustments (20) (34) (54) Profit/(loss) attributable to non-controlling interests - continuing operations (7) (7) (14)
Other non-controlling interests include the following trust preferred securities: US$357 million 5.512% (redeemable September 2014) (1) 198 198 198 US$276 million (2010 - US$276 million; 2009 - US$470 million) 3 month US$ LIBOR plus 0.80% (redeemable September 2014) (1,2) 153 153 261 €166 million 4.243% (redeemable January 2016) (1) 112 112 112 £93 million 5.6457% (redeemable June 2017) (1) 93 93 93 556 556 664
Notes: (1) Partially repurchased following completion of the exchange and tender offers in April 2009. (2) Partially repurchased following completion of the exchange and tender offers in May 2010. (3) The trust preferred securities issued by subsidiaries have no maturity date and are not redeemable at the option of the holders at any time. These securities may, with the consent of the UK Financial
Ordinary shares of 25p 14,614 193 14,807 B shares of £0.01 510 — 510 Dividend access share of £0.01 — — — Non-cumulative preference shares of US$0.01 1 — 1 Non-cumulative convertible preference shares of US$0.01 — — — Non-cumulative preference shares of €0.01 — — — Non-cumulative convertible preference shares of £0.01 — — — Non-cumulative preference shares of £1 — — — Cumulative preference shares of £1 1 — 1
Movement in ordinary shares in issue - thousands Ordinary shares of 25p
27 Share capital continued The dividend access share entitles the holder to dividends equal to the greater of 7% of the aggregate issue price of B shares issued to HM Treasury and 250% of the ordinary dividend rate multiplied by the number of B shares issued, less any dividends paid on the B shares and on ordinary shares issued on conversion. Dividends on the dividend access share are discretionary unless a dividend has been paid on the ordinary shares, in which case dividends became mandatory. The dividend access share does not generally carry voting rights at general meetings of ordinary shareholders and is not convertible into ordinary shares.
Non-cumulative preference shares of €0.01 Series 1 1.25 million 5.5% 31 December 2009 €1,000 Equity
Note: (1) Those preference shares where the Group has an obligation to pay dividends are classified as debt; those where distributions are discretionary are classified as equity. The conversion rights attaching to the convertible preference shares may result in the Group delivering a variable number of equity shares to preference shareholders; these convertible preference shares are treated as debt.
Under existing arrangements, no redemption or purchase of any non-cumulative preference shares may be made by the company without the prior consent of the UK Financial Services Authority.
28 Other equity Paid-in equity - notes issued under the company's euro medium term note programme with an initial par value of US$1,600 million and CAD600 million are classified as equity under IFRS. The notes attract coupons of 6.99% and 6.666% respectively until October 2017 when they change to 2.67% above the London interbank offered rate for 3-month US dollar deposits and 2.76% above the Canadian dollar offered rate respectively. Paid-in equity of US$1,036 million was repurchased in April 2009 and CAD279 million was repurchased in May 2010 as part of the liability management exercises.
Under the arrangements for accession to APS in December 2009, the company issued B shares in exchange for shares in Aonach Mor Limited. No share premium was recorded in the company financial statements through the operation of the merger relief provisions of the Companies Act 2006. The subsequent redemption of these shares gave rise to distributable profits of £50 million in 2011, £12,250 million in 2010 and £9,950 million in 2009, which were transferred from merger reserve to retained earnings.
Own shares held - at 31 December 2011, 1.6 billion (2010 - 1.7 billion; 2009 - 139 million) ordinary shares of 25p each of the company were held by Employee Share Trusts in respect of share awards and options granted to employees. Employee share trusts awarded 84.2 million ordinary shares in satisfaction of the exercise of awards under employee share plans during the year.
Within 1 year 3,996 (340) (29) 3,627 406 After 1 year but within 5 years 6,806 (763) (193) 5,850 605 After 5 years 5,822 (2,710) (270) 2,842 359 Total 16,624 (3,813) (492) 12,319 1,370 2010 Within 1 year 3,559 (309) (20) 3,230 997 After 1 year but within 5 years 7,833 (795) (245) 6,793 2,388 After 5 years 7,843 (2,763) (263) 4,817 998 Total 19,235 (3,867) (528) 14,840 4,383 2009 Within 1 year 3,617 (534) (30) 3,053 781 After 1 year but within 5 years 8,582 (1,890) (212) 6,480 2,514 After 5 years 11,251 (2,461) (334) 8,456 1,018 Total 23,450 (4,885) (576) 17,989 4,313
Amounts recognised as income and expense Finance leases - contingent rental income (133) (160) (139) Operating leases - minimum rentals payable 490 519 556
After 2 years but within 5 years After 5 years Total - cars and light commercial vehicles 458 75 105 2 640 - other 23 21 33 8 85 Finance lease contracts 26 48 147 270 491 Hire purchase agreements — — 1 — 1 751 458 473 670 2,352 - cars and light commercial vehicles 503 109 100 9 721 - other 30 20 39 13 102 Finance lease contracts 20 41 131 263 455 Hire purchase agreements — 3 70 — 73 910 630 2,174 2,382 6,096 2009 Operating leases - transportation 164 327 1,607 2,255 4,353 - cars and light commercial vehicles 624 134 113 7 878 - other 31 32 40 7 110 Finance lease contracts 23 35 96 313 467 Hire purchase agreements 7 20 61 21 109 849 548 1,917 2,603 5,917
30 Securitisations and asset transfers Secured funding The Group has access to secured funding markets through own-asset securitisation and covered bond funding programmes to complement existing wholesale funding programmes and access to the repo markets. The Group monitors and manages encumbrance levels related to these secured funding programmes. This includes the potential encumbrance of Group assets that could be used in own-asset securitisations and/or covered bonds that could be used as contingent liquidity.
2011 2010 2009 Debt securities in issue Debt securities in issue Debt securities in issue
The Group retained interests in securitised financial assets take the form of senior or subordinated securities. These interests predominantly relate to mortgage-backed securities which were re-securitised. Retained interests are generally not held to maturity and are typically sold after settlement of the securitisation. Retained interests may be subordinated to other investors' interests. Third party investors and securitisation trusts have no recourse to the Group's other assets for failure of debtors to perform on the securitised loans or securities, effectively transferring the risk of future credit losses to the purchasers of the securities issued by the trust. The value of retained interest varies and is subject to credit, interest rate, prepayment, and other risks of the transferred assets. In the ordinary course of business, the Group does not provide any other financial support to the securitisation trusts other than holding these retained interests.
Securities sold under repurchase transactions are not derecognised if the Group retains substantially all the risks and rewards of ownership. The fair value (and carrying value) of securities transferred under such repurchase transactions included within debt securities on the balance sheet, are set out below. All of these securities could be sold or repledged by the holder.
Loans and advances to banks 19,691 27,271 25,712 Loans and advances to customers 52,225 46,352 38,924 Debt securities 3,713 7,200 8,723 75,629 80,823 73,359
32 Memorandum items Contingent liabilities and commitments The amounts shown in the table below are intended only to provide an indication of the volume of business outstanding at 31 December 2011. Although the Group is exposed to credit risk in the event of non-performance of the obligations undertaken by customers, the amounts shown do not, and are not intended to, provide any indication of the Group's expectation of future losses.
- within 1 year 468 497 479 - after 1 year but within 5 years 1,453 1,515 1,691 - after 5 years 2,714 2,892 3,055 4,635 4,904 5,225 Property, plant and equipment Contracts to buy, enhance or maintain investment properties — 2 — Contracts to buy assets to be leased under operating leases (2,3) 2,607 2,585 2,724 Other capital expenditure 35 150 89 2,642 2,737 2,813
Contracts to purchase goods or services (4) 1,130 950 1,025 8,407 8,591 9,063
32 Memorandum items continued Litigation and Investigations RBSG and certain Group members are party to legal proceedings, investigations and regulatory matters in the United Kingdom, the United States and other jurisdictions, arising out of their normal business operations. All such matters are periodically reassessed with the assistance of external professional advisers, where appropriate, to determine the likelihood of the Group incurring a liability. The Group recognises a provision for a liability in relation to these matters when it is probable that an outflow of economic benefits will be required to settle an obligation which has arisen as a result of past events, and for which a reliable estimate can be made of the amount of the obligation.
Other than as set out in these sections entitled ‘Litigation’ and ‘Investigations, reviews and proceedings’, no member of the Group is or has been involved in any governmental, legal or arbitration proceedings (including any such proceedings which are pending or threatened of which RBSG is aware) during the 12 months prior to the date of this document which may have, or have had in the recent past, significant effects on the financial position or profitability of RBSG and/or the Group taken as a whole.
Shareholder litigation RBSG and certain of its subsidiaries, together with certain current and former individual officers and directors have been named as defendants in purported class actions filed in the United States District Court for the Southern District of New York involving holders of RBSG preferred shares (the “Preferred Shares litigation”) and holders of American Depositary Receipts (the “ADR claims”).
In the Preferred Shares litigation, the consolidated amended complaint alleges certain false and misleading statements and omissions in public filings and other communications during the period 1 March 2007 to 19 January 2009, and variously asserts claims under Sections 11, 12 and 15 of the US Securities Act of 1933, as amended (the ”Securities Act”). The putative class is composed of all persons who purchased or otherwise acquired Group Series Q, R, S, T and/or U non-cumulative dollar preference shares issued pursuant or traceable to the 8 April 2005 US Securities and Exchange Commission (the SEC) registration statement. Plaintiffs seek unquantified damages on behalf of the putative class. The defendants have moved to dismiss the complaint and briefing on the motions was completed in September 2011.
With respect to the ADR claims, a complaint was filed in January 2011 and a further complaint was filed in February 2011 asserting claims under Sections 10 and 20 of the US Securities Exchange Act of 1934, as amended (the “Exchange Act”) on behalf of all persons who purchased or otherwise acquired the Group’s American Depositary Receipts (ADRs) between 1 March 2007 and 19 January 2009. On 18 August 2011, these two ADR cases were consolidated and lead plaintiff and lead counsel were appointed. On 1 November 2011, the lead plaintiff filed a consolidated amended complaint asserting ADR-related claims under Sections 10 and 20 of the Exchange Act and Sections 11, 12 and 15 of the Securities Act. The defendants moved to dismiss the complaint in January 2012 and briefing is ongoing.
The Group considers that it has substantial and credible legal and factual defences to the remaining and prospective claims and will defend itself vigorously.
Other securitisation and securities related litigation in the United States Recently, the level of litigation activity in the financial services industry focused on residential mortgage and credit crisis related matters has increased. As a result, the Group has become and expects that it may further be the subject of additional claims for damages and other relief regarding residential mortgages and related securities in the future.
Other lawsuits against Group companies include two cases filed by the National Credit Union Administration Board (on behalf of US Central Federal Credit Union and Western Corporate Federal Credit Union) and eight cases filed by the Federal Home Loan Banks of Boston, Chicago, Indianapolis, Seattle and San Francisco.
The purported MBS class actions in which Group companies are defendants include New Jersey Carpenters Vacation Fund et al. v. The Royal Bank of Scotland plc et al.; New Jersey Carpenters Health Fund v. Novastar Mortgage Inc. et al.; In re IndyMac Mortgage-Backed Securities Litigation; Genesee County Employees’ Retirement System et al. v. Thornburg Mortgage Securities Trust 2006-3, et al.; and Luther v. Countrywide Financial Corp. et al. and related cases.
In many of these actions, the Group has or will have contractual claims to indemnification from the issuers of the securities (where a Group company is underwriter) and/or the underlying mortgage originator (where a Group company is issuer). The amount and extent of any recovery on an indemnification claim, however, is uncertain and subject to a number of factors, including the ongoing creditworthiness of the indemnifying party.
Political and regulatory scrutiny of the operation of retail banking and consumer credit industries in the United Kingdom, United States and elsewhere continues. The nature and impact of future changes in policies and regulatory action are not predictable and are beyond the Group’s control but could have a significant effect on the Group’s consolidated net assets, operating results or cash flows in any particular period.
Retail banking In the European Union, regulatory actions included an inquiry into retail banking initiated on 13 June 2005 in all of the then 25 member states by the European Commission’s Directorate General for Competition. The inquiry examined retail banking in Europe generally. On 31 January 2007, the European Commission (EC) announced that barriers to competition in certain areas of retail banking, payment cards and payment systems in the European Union had been identified. The EC indicated that it will consider using its powers to address these barriers and will encourage national competition authorities to enforce European and national competition laws where appropriate. In addition, in late 2010, the EC launched an initiative pressing for increased transparency in respect of bank fees. The EC is currently proposing to legislate for the increased harmonisation of terminology across Member States, with proposals expected in 2012. The Group cannot predict the outcome of these actions at this stage and is unable reliably to estimate the effect, if any, that these may have on the Group’s consolidated net assets, operating results or cash flows in any particular period.
The outcome of these investigations is not known, but they may have a significant effect on the consumer credit industry in general and, therefore, on the Group’s business in this sector.
Payment Protection Insurance Having conducted a market study relating to Payment Protection Insurance (PPI), in February 2007 the OFT referred the PPI market to the Competition Commission (CC) for an in-depth inquiry. The CC published its final report in January 2009 and announced its intention to order a range of remedies, including a prohibition on actively selling PPI at point of sale of the credit product (and for 7 days thereafter), a ban on single premium policies and other measures to increase transparency (in order to improve customers’ ability to search and improve price competition). Barclays Bank PLC subsequently appealed certain CC findings to the CAT. In October 2009, the CAT handed down a judgment remitting the matter back to the CC for review. Following further review, in October 2010, the CC published its final decision on remedies following the remittal which confirmed the point of sale prohibition. In March 2011, the CC made a final order setting out its remedies with a commencement date of 6 April 2011. The key remedies come into force in two parts. A number came into force in October 2011, and the remainder come into force in April 2012.
The FSA conducted a broad industry thematic review of PPI sales practices and in September 2008, the FSA announced that it intended to escalate its level of regulatory intervention. Substantial numbers of customer complaints alleging the mis-selling of PPI policies have been made to banks and to the Financial Ombudsman Service (“FOS”) and many of these are being upheld by the FOS against the banks.
Following unsuccessful negotiations with the industry, the FSA issued consultation papers on PPI complaint handling and redress in September 2009 and in March 2010. The FSA published its final policy statement in August 2010. The new rules imposed significant changes with respect to the handling of mis-selling PPI complaints. In October 2010, the British Bankers’ Association (BBA) filed an application for judicial review of the FSA’s policy statement and of related guidance issued by the FOS. In April 2011 the High Court issued judgment in favour of the FSA and the FOS and in May 2011 the BBA announced that it would not appeal that judgment. The Group then recorded an additional provision of £850 million in respect of PPI. During 2011, the Group reached agreement with the FSA on a process for implementation of its policy statement and for the future handling of PPI complaints.
On 7 October 2009, the OFT published a follow-up report summarising the initiatives agreed between the OFT and personal current account providers to address the OFT’s concerns about transparency and switching, following its market study. Personal current account providers will take a number of steps to improve transparency, including providing customers with an annual summary of the cost of their account and making charges prominent on monthly statements. To improve the switching process, a number of steps are being introduced following work with Bacs, the payment processor, including measures to reduce the impact on consumers of any problems with transferring direct debits.
On 26 May 2010, the OFT announced its review of barriers to entry. The review concerned retail banking for individuals and small and medium size enterprises (up to £25 million turnover) and looked at products which require a banking licence to sell mortgages, loan products and, where appropriate, other products such as insurance or credit cards where cross-selling may facilitate entry or expansion. The OFT published its report in November 2010. It advised that it expected its review to be relevant to the ICB, the FSA, HM Treasury and the Department for Business, Innovation and Skills and to the devolved governments in the United Kingdom. The OFT did not indicate whether it would undertake any further work. The report maintained that barriers to entry remain, in particular regarding switching, branch networks and brands. At this stage, it is not possible to estimate the effect of the OFT’s report and recommendations regarding barriers to entry upon the Group.
Until the UK Government consultation is concluded and significantly more detail is known on how the precise legislative and regulatory framework is to be implemented it is impossible to estimate the potential impact of these measures with any level of precision.
The Group will continue to participate in the debate and to consult with the UK Government on the implementation of the recommendations set out in the Final Report and the Response, the effects of which could have a negative impact on the Group’s consolidated net assets, operating results or cash flows in any particular period.
US dollar clearing activities In May 2010, following a criminal investigation by the United States Department of Justice (DoJ) into its dollar clearing activities, Office of Foreign Assets Control compliance procedures and other Bank Secrecy Act compliance matters, RBS N.V. formally entered into a Deferred Prosecution Agreement (DPA) with the DoJ resolving the investigation. Pursuant to the DPA, RBS N.V. paid a penalty of US$500 million in 2010 and agreed to comply with the terms of the DPA and to co-operate fully with any further investigations. Payment of the penalty was made from a provision established in April 2007 when an agreement in principle to settle was first announced. On 20 December 2011, the DoJ filed a motion with the US District Court to dismiss the criminal information underlying the DPA, stating that RBS N.V. had met the terms and obligations of the DPA. The US District Court granted the DoJ’s motion on the same day, and this matter is now fully resolved.
Securitisation and collateralised debt obligation business In the United States, the Group is also involved in other reviews, investigations and proceedings (both formal and informal) by federal and state governmental law enforcement and other agencies and selfregulatory organisations relating to, among other things, mortgagebacked securities, collateralised debt obligations (CDOs), and synthetic products. In connection with these inquiries, Group companies have received requests for information and subpoenas seeking information about, among other things, the structuring of CDOs, financing to loan originators, purchase of whole loans, sponsorship and underwriting of securitisations, due diligence, representations and warranties, communications with ratings agencies, disclosure to investors, document deficiencies, and repurchase requests.
In September 2010, RBSG subsidiaries received a request from the Nevada State Attorney General requesting information related to securitisations of mortgages issued by three specific originators. The investigation by the Nevada State Attorney General is in the early stages and therefore it is difficult to predict the potential exposure from any such investigation.
US mortgages - Loan Repurchase Matters The Group’s Global Banking & Markets N.A. (GBM N.A.), has been a purchaser of non-agency US residential mortgages in the secondary market, and an issuer and underwriter of non-agency residential mortgage-backed securities (RMBS). GBM N.A. did not originate or service any US residential mortgages and it was not a significant seller of mortgage loans to government sponsored enterprises (“GSEs”) (e.g., the Federal National Mortgage Association and the Federal Home Loan Mortgage Association).
Although there has been disruption in the ability of certain financial institutions operating in the United States to complete foreclosure proceedings in respect of US mortgage loans in a timely manner (or at all) over the last year (including as a result of interventions by certain states and local governments), to date, Citizens has not been materially impacted by such disruptions and the Group has not ceased making foreclosures.
32 Memorandum items continued Litigation and Investigations continued LIBOR The Group continues to receive requests from various regulators investigating the setting of LIBOR and other interest rates, including the US Commodity Futures Trading Commission, the US Department of Justice, the European Commission, the FSA and the Japanese Financial Services Agency. The authorities are seeking documents and communications related to the process and procedures for setting LIBOR and other interest rates, together with related trading information. In addition to co-operating with the investigations as described above, the Group is also keeping relevant regulators informed. It is not possible to estimate with any certainty what effect these investigations and any related developments may have on the Group.
Other investigations The Federal Reserve and state banking supervisors have been reviewing the Group's US operations and RBSG and its subsidiaries have been required to make improvements with respect to various matters, including enterprise-wide governance, US Bank Secrecy Act and anti-money laundering compliance, risk management and asset quality. The Group is in the process of implementing measures for matters identified to date.
In April 2009, the FSA notified the Group that it was commencing a supervisory review of the acquisition of ABN AMRO Holding N.V. in 2007 and the 2008 capital raisings and an investigation into conduct, systems and controls within the Global Banking & Markets division of the Group. RBSG and its subsidiaries co-operated fully with this review and investigation. On 2 December 2010, the FSA confirmed that it had completed its investigation and had concluded that no enforcement action, either against the Group or against individuals, was warranted. On 12 December 2011, the FSA published its report ‘The Failure of the Royal Bank of Scotland’, on which the Group engaged constructively with the FSA.
In July 2010, the FSA notified the Group that it was commencing an investigation into the sale by Coutts & Co of the ALICO (American Life Insurance Company) Premier Access Bond Enhanced Variable Rate Fund (“EVRF”) to customers between 2001 and 2008 as well as its subsequent review of those sales. Subsequently on 11 January 2011 the FSA revised the investigation start date to December 2003.
During March 2008, the Group was advised by the SEC that it had commenced a non-public, formal investigation relating to the Group’s United States sub-prime securities exposures and United States residential mortgage exposures. In December 2010, the SEC contacted the Group and indicated that it would also examine valuations of various RBS N.V. structured products, including CDOs.
33 Net cash inflow/(outflow) from operating activities 2011 2010 2009 £m £m £m
Fair value given for businesses acquired (44) (210) (115) Other assets sold (299) 4,539 896 Loss on disposal (28) (107) (135) Net (outflow)/inflow of cash in respect of disposals (327) 4,432 761 Dividends received from joint ventures 11 7 21 Cash expenditure on intangible assets (1,068) (783) (562)
The Group's reported results from continuing operations for 2011, 2010 and 2009 would not have been materially affected had all acquisitions occurred on 1 January 2009.
35 Interest received and paid £m £m £m 36 Analysis of changes in financing during the year
At 1 January 52,750 64,240 49,323 27,053 37,652 49,154 Issue of ordinary shares 2 1 — — — — Redemption of preference shares — 117 (5,000) — — — Placing and open offer — — 5,274 — — — Issue of B shares — — 25,101 — — — Redemption of paid-in equity — (132) (308) — — — Cancellation of non-voting deferred shares — (27) — — — — Issue of subordinated liabilities — — — — — 2,309 Repayment of subordinated liabilities — — — (627) (1,588) (5,145) Net cash inflow/(outflow) from financing 2 (41) 25,067 (627) (1,588) (2,836) Transfer to retained earnings (50) (12,252) (10,150) — — — Other adjustments including foreign exchange (1) 270 803 — (107) (9,011) (8,666)
37 Analysis of cash and cash equivalents £m - cash equivalents 49,957 48,856 62,500 152,530 144,186 134,925 Disposal of subsidiaries — (4,112) — Net cash inflow 125 12,456 9,261 At 31 December 152,655 152,530 144,186
Comprising: Cash and balances at central banks 79,269 56,590 51,811 Treasury bills and debt securities 3,172 5,672 15,818 Loans and advances to banks 70,214 90,268 76,557 Cash and cash equivalents 152,655 152,530 144,186
38 Segmental analysis (a) Divisions The directors manage the Group primarily by class of business and present the segmental analysis on that basis. This includes the review of net interest income for each class of business - interest receivable and payable for all reportable segments is therefore presented net. Segments charge market prices for services rendered to other parts of the Group; funding charges between segments are determined by Group Treasury, having regard to commercial demands. The segment measure is operating profit/(loss) before tax.
The Group's reportable segments are on a divisional basis as follows: UK Retail offers a comprehensive range of banking products and related financial services to the personal market. It serves customers through a number of channels including: the RBS and NatWest network of branches and ATMs in the United Kingdom, telephony, online and mobile.
UK Corporate is a leading provider of banking, finance, and risk management services to the corporate and SME sector in the United Kingdom. It offers a full range of banking products and related financial services through a nationwide network of relationship managers, and also through telephone and internet channels. The product range includes asset finance through the Lombard brand.
RBS Insurance provides a wide range of general insurance products to consumers through a number of well known brands including; Direct Line, Churchill and Privilege. It also provides insurance services for third party brands through its UKI Partnerships business. In the commercial sector, its NIG and Direct Line for Business operations provide insurance products for businesses via brokers or direct respectively. Through its international division, RBS Insurance sells general insurance, mainly motor, in Germany and Italy. In addition to insurance services, RBS Insurance continues to provide support and reassurance to millions of UK motorists through its Green Flag breakdown recovery service and Tracker stolen vehicle recovery and telematics business.
Non-Core Division manages separately assets that the Group intends to run off or dispose of. The division contains a range of businesses and asset portfolios primarily from the GBM division, linked to proprietary trading, higher risk profile asset portfolios including excess risk concentrations, and other illiquid portfolios. It also includes a number of other portfolios and businesses, including regional markets businesses, that the Group has concluded are no longer strategic.
Reconciling items Fair value of own debt — 1,846 1,846 — — — 1,846 Asset Protection Scheme — (906) (906) — — — (906) Payment Protection Insurance costs — — — (850) — — (850) Sovereign debt impairment — — — — — (1,099) (1,099) Amortisation of purchased intangible assets — — — — (222) — (222)
UK Retail 3,452 1,635 5,087 (3,176) (3) (1,679) 229 UK Corporate 2,292 1,290 3,582 (1,376) (154) (927) 1,125 Wealth 663 446 1,109 (645) (11) (33) 420 Global Transaction Services 912 1,575 2,487 (1,462) (13) (39) 973 Ulster Bank 780 254 1,034 (748) (5) (649) (368)
Global Banking & Markets 2,375 8,683 11,058 (4,518) (142) (640) 5,758 RBS Insurance 383 4,231 4,614 (4,517) (31) (8) 58 Central items (315) 557 242 1,144 (1,000) (1) 385 Core 12,317 19,620 31,937 (17,361) (1,431) (4,678) 8,467 Non-Core 1,250 (3,620) (2,370) (2,524) (442) (9,221) (14,557)
UK Retail 6,804 441 7,245 7,008 401 7,409 7,162 599 7,761 UK Corporate 4,447 112 4,559 4,347 132 4,479 4,563 118 4,681 Wealth 1,026 731 1,757 957 617 1,574 813 820 1,633 Global Transaction Services 1,646 81 1,727 2,850 85 2,935 2,923 60 2,983 Ulster Bank 1,298 104 1,402 1,386 134 1,520 1,604 104 1,708 US Retail & Commercial 3,341 199 3,540 3,660 286 3,946 4,080 378 4,458 Global Banking & Markets 8,058 7,352 15,410 9,999 7,195 17,194 13,805 9,142 22,947 RBS Insurance 4,724 9 4,733 5,072 10 5,082 5,183 21 5,204 Central items 2,932 13,129 16,061 2,856 9,900 12,756 1,955 10,823 12,778 Core 34,276 22,158 56,434 38,135 18,760 56,895 42,088 22,065 64,153 Non-Core 3,959 378 4,337 5,555 1,049 6,604 3,289 1,292 4,581 Managed basis 38,235 22,536 60,771 43,690 19,809 63,499 45,377 23,357 68,734
Reconciling items Fair value of own debt 1,846 — 1,846 174 — 174 (142) — (142) Asset Protection Scheme (906) — (906) (1,550) — (1,550) — — — Integration and restructuring costs (5) — (5) — — — — — — Gain on redemption of own debt 255 — 255 553 — 553 3,790 — 3,790 Strategic disposals (24) — (24) 171 — 171 132 — 132 RFS Holdings minority interest (3) — (3) (141) — (141) (155) — (155)
UK Retail 114,469 103,748 — 111,793 97,164 — 110,987 91,760 — UK Corporate 111,835 103,554 712 114,550 101,738 381 114,854 89,306 598 Wealth 21,718 39,061 65 21,073 37,054 63 17,952 36,273 11 Global Transaction Services 25,937 83,415 18 25,221 78,032 22 18,380 64,684 17 Ulster Bank 34,810 27,782 45 40,081 34,481 101 44,021 40,597 — US Retail & Commercial 74,502 65,511 271 71,173 66,088 197 75,369 72,407 179 Global Banking & Markets 874,848 847,877 1,553 802,578 774,753 852 826,054 822,830 513 RBS Insurance 12,912 8,077 99 12,555 8,195 50 11,973 7,775 33 Central items 130,306 133,048 960 99,728 140,070 632 82,041 150,734 804 Core 1,401,337 1,412,073 3,723 1,298,752 1,337,575 2,298 1,301,631 1,376,366 2,155 Non-Core 104,726 18,220 841 153,882 38,503 761 220,850 66,152 3,259 1,506,063 1,430,293 4,564 1,452,634 1,376,078 3,059 1,522,481 1,442,518 5,414 Reconciling item RFS Holdings minority interest 804 521 — 942 647 76 174,005 159,337 296 1,506,867 1,430,814 4,564 1,453,576 1,376,725 3,135 1,696,486 1,601,855 5,710
Assets £m Liabilities £m Assets £m Liabilities £m Assets £m Liabilities £m
UK Retail 7,048 8,808 — — — — UK Corporate 11,661 12,977 — — — — Global Transaction Services 66 — 251 549 — — Global Banking & Markets 431 117 19 — 9 — Centre 136 2 — — — — Non-Core 5,670 1,779 11,639 8,404 18,532 18,886 RFS Holdings minority interest 438 312 575 475 1 4 25,450 23,995 12,484 9,428 18,542 18,890
Operating profit/(loss) before tax 1,776 (457) (2,877) (1,089) (2,647) Total assets 949,765 338,649 320,008 88,064 1,696,486 Of which total assets held for sale — 14,203 4,339 — 18,542 Total liabilities 873,716 322,698 321,133 84,308 1,601,855 Of which total liabilities held for sale — 10,993 7,897 — 18,890 Net assets attributable to equity owners and non-controlling interests 76,049 15,951 (1,125) 3,756 94,631 Contingent liabilities and commitments 175,392 93,694 65,026 17,549 351,661 Cost to acquire property, plant and equipment and intangible assets 1,974 390 3,252 94 5,710
Compensation of key management The aggregate remuneration of directors and other members of key management during the year was as follows: Short-term benefits 36,371 35,654 Post-employment benefits 3,547 (503)
40 Transactions with directors and key management (a) At 31 December 2011, amounts outstanding in relation to transactions, arrangements and agreements entered into by authorised institutions in the Group, as defined in UK legislation, were £3,550,864 in respect of loans to eight persons who were directors of the company at any time during the financial period.
(b) For the purposes of IAS 24 ‘Related Party Disclosures’, key management comprise directors of the company and members of the Group Management Committee. The captions in the Group's primary financial statements include the following amounts attributable, in aggregate, to key management: Loans and advances to customers 19,366 10,970 Customer accounts 33,149 10,641
The Group enters into transactions with many of these bodies on an arm’s length basis. The principal transactions during 2011, 2010 and 2009 were: the Asset Protection Scheme, Bank of England facilities and the issue of debt guaranteed by the UK Government discussed below. In addition, the redemption of non-cumulative sterling preference shares and the placing and open offer in April 2009 was underwritten by HM Treasury and, in December 2009, B shares were issued to HM Treasury and a contingent capital agreement concluded with HM Treasury (see Note 27). Other transactions include the payment of: taxes principally UK corporation tax (page 338) and value added tax; national insurance contributions; local authority rates; and regulatory fees and levies (including the bank levy (page 329) and FSCS levies (page 401)); together with banking transactions such as loans and deposits undertaken in the normal course of banker-customer relationships.
Asset Protection Scheme On 22 December 2009, the Group entered into an agreement (the Asset Protection Scheme (APS), with HM Treasury, acting on behalf of the UK Government, under which the Group purchased credit protection over a portfolio of specified assets and exposures (covered assets) from HM Treasury. The portfolio of covered assets has a par value of approximately £282 billion. The protection is subject to a first loss of £60 billion and covers 90% of subsequent losses net of recoveries. Once the first loss has been exhausted, losses and recoveries in respect of assets for which a trigger event - failure to pay, bankruptcy or restructuring - has occurred are included in the balance receivable under the APS. Receipts from HM Treasury will, over time, amount to 90% of cumulative losses (net of 90% of cumulative recoveries) on the portfolio of covered assets less the first loss amount.
The Group has a right to terminate the APS at any time provided that the Financial Services Authority has confirmed in writing to HM Treasury that it has no objection. On termination the Group must pay HM Treasury the higher of the regulatory capital relief received and £2.5 billion less premiums paid plus the aggregate of amounts received from the UK Government under the APS.
The Group has paid APS premiums totalling £2,225 million (2011 - £125 million; 2010 - £700 million; 2009 - £1,400 million). From 31 December 2011, premiums of £125 million are payable quarterly until the earlier of 2099 and the date the Group leaves the Scheme.
The special liquidity scheme - this was launched in April 2008 to allow financial institutions to swap temporarily illiquid assets for treasury bills, with fees charged based on the spread between 3month LIBOR and the 3-month gilt repo rate. The scheme officially closed on 30 January 2012.
At 31 December 2011, the Group had no amounts outstanding under these facilities (2010 - £16.1 billion; 2009 - £21.4 billion).
Government credit and asset-backed securities guarantee schemes These schemes guarantee eligible debt issued by qualifying institutions for a fee. The fee, payable to HM Treasury is based on a per annum rate of 25 (asset-backed securities guarantee scheme) and 50 (credit guarantee scheme) basis points plus 100% of the institution's median five-year credit default swap spread during the twelve months to 1 July 2008. The asset-backed securities scheme closed to new issuance on 31 December 2009 and the credit guarantee scheme on 28 February 2010.
Statement of changes in equity for the year ended 31 December 2011
Paid-in equity At 1 January 431 565 1,073 Securities redeemed — (132) (308) Transfer to retained earnings — (2) (200)
Retained earnings At 1 January 18,365 13,262 5,550 Loss attributable to ordinary and B shareholders and other equity owners (107) (4,554) (1,503) Equity preference dividends paid — (105) (878) Paid-in equity dividends paid, net of tax — (19) (57) Transfer from paid-in equity - gross — 2 200 - tax — (1) — Redemption of equity preference shares — (2,968) — Gain on redemption of equity preference shares — 616 — Redemption of preference shares classified as debt — (118) — Transfer from merger reserve 50 12,250 9,950 At 31 December 18,308 18,365 13,262
Cash flow statement for the year ended 31 December 2011 £m £m £m
Investing activities Investment in subsidiaries (4,568) (1,884) (23,902) Disposal of subsidiaries — 6 7,908 Repayments from subsidiaries — — 274 Net cash flows from investing activities (4,568) (1,878) (15,720)
Net (decrease)/increase in cash and cash equivalents (474) (14,091) 11,379 Cash and cash equivalents at 1 January 2,357 16,448 5,069 Cash and cash equivalents at 31 December 15 1,883 2,357 16,448
Dividends received from banking subsidiary 58 60 2,523 Dividends received from other subsidiaries 12 24 408 Gain on redemption of own debt — 53 238 Total income 70 137 3,169 Interest receivable from subsidiaries 1,019 1,042 997 Interest payable to subsidiaries (262) (263) (251) Other net interest payable and operating expenses (291) (263) (62) Write-down of investments in subsidiaries (570) (5,124) (5,139) Operating loss before tax (34) (4,471) (1,286)
Loss for the year (107) (4,554) (1,503) Other comprehensive income Cash flow hedges — 1 3 Total comprehensive loss for the year (107) (4,553) (1,500)
The company did not pay an ordinary dividend in 2011, 2010 or 2009. .
3 Financial instruments - classification The following tables show the company's financial assets and financial liabilities in accordance with the categories of financial instruments in IAS 39. Assets and liabilities outside the scope of IAS 39 are shown separately.
- loans and receivables 1,568 1,454 1,286 Investment in Group undertakings 53,871 49,125 64,766 Derivatives (1)
- amortised cost 977 1,029 13,264 Debt securities in issue - amortised cost 8,373 8,742 11,788 Derivatives (3)
Notes: (1) Due from subsidiaries. (2) Includes amounts due to subsidiaries of £1,091 million (2010 - nil; 2009 - £4 million). (3) Due to subsidiaries.
Less than 12 months More than 12 months Total Less than 12 months More than 12 months Total Less than 12 months More than 12 months Total £m £m £m £m £m £m £m £m £m
Assets Loans and advances to banks 2,694 15,674 18,368 4,651 14,884 19,535 16,447 14,791 31,238 Loans and advances to customers 1,341 2,715 4,056 3,855 2,834 6,689 — 2,777 2,777 Debt securities 65 1,503 1,568 — 1,454 1,454 52 1,234 1,286 Settlement balances — — — — — — 11 — 11 Derivatives 918 584 1,502 2 1,473 1,475 80 1,089 1,169
Liabilities Deposits by banks 9 1,082 1,091 — — — 93 — 93 Customer accounts 977 — 977 1,029 — 1,029 13,264 — 13,264 Debt securities in issue 3,800 4,573 8,373 1,460 7,282 8,742 4,965 6,823 11,788 Derivatives 25 54 79 25 206 231 53 393 446 Subordinated liabilities 121 8,656 8,777 307 7,741 8,048 130 8,632 8,762
Deposits by banks 5 16 341 — 965 — Customer accounts — 993 — — — — Debt securities in issue 777 3,152 3,597 163 1,155 — Subordinated liabilities 94 340 1,860 1,020 1,527 2,525 876 4,501 5,798 1,183 3,647 2,525
Deposits by banks 93 — — — — — Customer accounts 964 12,337 — — — — Debt securities in issue 3,132 2,080 2,732 3,615 1,255 — Derivatives held for hedging (5) (23) (19) 13 64 — Subordinated liabilities 106 406 1,146 2,010 2,634 3,923 4,290 14,800 3,859 5,638 3,953 3,923
For further information on the timing of cash flows to settle financial liabilities, see Note 12 on the consolidated accounts.
2011 2010 2009 Notional Notional Notional amount Assets Liabilities amount Assets Liabilities amount Assets Liabilities £bn £m £m £bn £m £m £bn £m £m
Included above are derivatives held for hedging purposes as follows: 2011 2010 2009
8 Investments in Group undertakings Investments in Group undertakings are carried at cost less impairment. Movements during the year were as follows: At 1 January 49,125 64,766 42,196 Currency translation and other adjustments (2) (49) (566) Additional investments in Group undertakings 4,607 1,884 36,202 Additions 761 — — Redemption of investments in Group undertakings (50) (12,346) (7,908)
Nature of business Country of incorporation and principal area of operation Group interest
The Royal Bank of Scotland plc Banking Great Britain 100% National Westminster Bank Plc (1) Banking Great Britain 100% Citizens Financial Group, Inc. Banking US 100% Coutts & Company (2) Private banking Great Britain 100% RBS Securities Inc. Broker dealer US 100% Direct Line Insurance Group plc Insurance Great Britain 100% Ulster Bank Limited (3) Banking Northern Ireland 100% RBS Holdings N.V. (4) Banking The Netherlands 98%
Dated loan capital 6,459 6,685 6,526 Undated loan capital 1,516 563 574
£m Thereafter £m Perpetual £m Total £m £m £m £m £m £m Thereafter £m Perpetual £m Total £m £m 2011 £m
Note: (1) On-lent to The Royal Bank of Scotland plc on a subordinated basis.
US$106 million (2010 - US$106 million; 2009 - US$163 million) undated floating rate primary capital notes (callable on any interest payment date) (1) 69 69 101 US$762 million 7.648% perpetual regulatory tier one securities (callable September 2031) (2) 497 494 473 £940 million floating rate perpetual subordinated loan (issued October 2011) 950 — —
Non-cumulative convertible preference shares of US$0.01 Series 1 US$65 million (2010 - US$65 million; 2009 - US$1,000 million) 9.118%
12 Net cash inflow/(outflow) from operating activities 2011 2010 2009 £m £m £m
Share capital, share premium, paid-in equity and merger reserve Subordinated liabilities £m
At 1 January - cash equivalents 2,357 16,448 5,069 Net cash (outflow)/inflow (474) (14,091) 11,379 At 31 December 1,883 2,357 16,448
433 Financial summary 441 Exchange rates 442 Economic and monetary environment 443 Supervision 444 Regulatory developments and reviews 445 Description of property and equipment 445 Major shareholders 445 Material contracts 451 Risk factors
(Loss)/profit attributable to: Non-controlling interests 28 (665) 349 (10,832) 163 Preference shareholders — 105 878 536 246 Paid-in equity holders — 19 57 60 — Ordinary and B shareholders (1,997) (1,125) (3,607) (24,306) 7,303
Notes: (1) Includes loss on strategic disposals of £104 million (2010 - £171 million gain; 2009 - £132 million gain; 2008 - £442 million gain). (2) Includes gain on redemption of own debt of £255 million (2010 - £553 million; 2009 - £3,790 million). (3) Includes movement in fair value of own debt of £1,846 million profit (2010 - £174 million profit; 2009 - £142 million loss; 2008 - £1,232 million profit). (4) Includes Payment Protection Insurance costs of £850 million. (5) Includes integration and restructuring costs of £1,064 million (2010 - £1,032 million; 2009 - £1,286 million; 2008 - £1,357 million; 2007 - £108 million). (6) Includes amortisation of purchased intangible assets of £222 million (2010 - £369 million; 2009 - £272 million; 2008 - £443 million; 2007 - £162 million). (7) Includes write-down of goodwill and other intangible assets of £11 million (2010 - £10 million; 2009 - £363 million; 2008 - £16,911 million). (8) Includes gains on pensions curtailment of £2,148 million in 2009. (9) Includes sovereign debt impairment of £1,099 million. (10) Includes interest rate hedge adjustments on impaired available-for-sale Greek government bonds of £169 million.
Loans and advances 598,916 655,778 820,146 1,012,919 1,047,998 Debt securities and equity shares 224,263 239,678 286,782 293,879 347,682 Derivatives and settlement balances 537,389 438,682 453,487 1,010,391 293,991 Other assets 146,299 119,438 136,071 84,463 151,158 Total assets 1,506,867 1,453,576 1,696,486 2,401,652 1,840,829
- including interest on deposits 0.91 0.94 0.75 0.05 1.45 - excluding interest on deposits 0.25 0.38 (0.30) (7.80) 5.73 Ratio of earnings to fixed charges only (7)
Notes: (1) The number of ordinary shares in issue in 2008 and 2007 were adjusted retrospectively for the bonus element of the rights issue completed in June 2008 and the capitalisation issue in September 2008. (2) None of the convertible securities had a dilutive effect in 2011, 2010, 2009 or 2008. All of the convertible preference shares had a dilutive effect in 2007 and as such were included in the computation of diluted earnings per share. (3) Dividend payout ratio represents the interim dividend paid and final dividend proposed as a percentage of profit attributable to ordinary and B shareholders before discontinued operations, integration and restructuring costs, amortisation of purchased intangible assets and net gain on sale of strategic investments and subsidiaries (net of tax). (4) Return on average total assets represents (loss)/profit attributable to ordinary and B shareholders as a percentage of average total assets. (5) Return on average ordinary and B shareholders' equity represents (loss)/profit attributable to ordinary and B shareholders expressed as a percentage of average ordinary and B shareholders' equity. (6) Adjusted return on average ordinary and B shareholders' equity represents (loss)/profit attributable to ordinary and B shareholders before discontinued operations, movements in the fair value of own debt, Asset Protection Scheme credit, Payment Protection Insurance costs, sovereign debt impairment, amortisation of purchased intangible assets, integration and restructuring costs, gain on redemption of own debt, strategic disposals, bonus tax, bank levy, gains on pensions curtailment, interest rate hedge adjustments on impaired available-for-sale Greek government bonds and writedown of goodwill and other intangible assets expressed as a percentage of average ordinary and B shareholders' equity.
Overseas US 33,446 31,854 25,031 90,331 90,753 93,569 126,277 135,059 Rest of the World 42,004 23,193 28,693 93,890 107,742 264,712 327,391 277,721 Total Overseas offices 75,450 55,047 53,724 184,221 198,495 358,281 453,668 412,780 Loans and advances to customers - gross 217,098 123,999 194,269 535,366 573,315 745,519 885,611 834,987 Loan impairment provisions (19,760) (18,055) (17,126) (10,889) (6,449) Loans and advances to customers - net 515,606 555,260 728,393 874,722 828,538
Fixed rate 30,924 23,452 47,752 102,128 110,364 238,756 183,693 351,336 Variable rate 186,174 100,547 146,517 433,238 462,951 506,763 701,918 483,651 Loans and advances to customers - gross 217,098 123,999 194,269 535,366 573,315 745,519 885,611 834,987
Provisions at the beginning of the year Domestic 8,199 6,670 4,474 3,258 3,037 Foreign 9,983 10,613 6,542 3,194 898 18,182 17,283 11,016 6,452 3,935 Transfer to disposal groups Domestic (773) (25) — — — Foreign — (47) (324) (767) — (773) (72) (324) (767) — Currency translation and other adjustments Domestic (3) (79) (228) 107 5 Foreign (280) 122 (302) 1,334 178 (283) 43 (530) 1,441 183 Disposals of subsidiaries Domestic — — — (108) 10 Foreign 8 (2,172) (65) (70) 2,211 8 (2,172) (65) (178) 2,221 Amounts written-off Domestic (2,374) (2,252) (2,895) (1,446) (1,222)
Gross loans and advances to customers Domestic 261,203 287,070 297,347 312,287 323,362 Foreign 274,163 286,245 448,172 573,324 511,625 535,366 573,315 745,519 885,611 834,987
Notes: (1) There were no amounts relating to loans and advances to banks (2010 - £13 million release; 2009 - £34 million charge; 2008 - £118 million charge; 2007 - nil). (2) Includes closing provisions against loans and advances to banks of £123 million (2010 - £127 million; 2009 - £157 million; 2008 - £127 million; 2007 - £3 million). (3) For the purpose of these ratios, closing customer provisions and customer charge relating to loans and advances to banks are excluded.
Loan impairment provisions at end of year Customers 19,760 18,055 17,126 10,889 6,449 Banks 123 127 157 127 3 19,883 18,182 17,283 11,016 6,452
Average loans and advances to customers (gross) 578,057 610,131 821,155 858,333 567,900
Risk elements in lending Risk elements in lending (REIL) comprises impaired loans and accruing loans past due 90 days or more as to principal or interest.
Impaired loans are all loans for which an impairment provision has been established; for collectively assessed loans, impairment loss provisions are not allocated to individual loans and the entire portfolio is included in impaired loans.
Closing provisions for impairment as a % of total risk elements in lending 49% 47% 46% 52% 60% Risk elements in lending as a % of gross lending to customers excluding reverse repos (3) 8.6% 7.3% 5.4% 2.5% 1.6%
Held-for-trading 137,326 116,189 106,477 Designated as at fair value through profit or loss 5,627 4,824 8,580
Certificates of deposit and other time deposits The following table shows details of the Group's certificates of deposit and other time deposits over $100,000 or equivalent by remaining maturity.
Operating leases 208 260 802 651 1,234 1,480 Contractual obligations to purchase goods or services 111 372 548 93 6 — 319 632 1,350 744 1,240 1,480 2010 Operating leases 132 365 837 678 1,178 1,714 Contractual obligations to purchase goods or services 104 336 484 26 — — 236 701 1,321 704 1,178 1,714
The Group's undrawn formal facilities, credit lines and other commitments to lend were £239,963 million (2010 - £266,822 million). While the Group has given commitments to provide these funds, some facilities may be subject to certain conditions being met by the counterparty. The Group does not expect all facilities to be drawn, and some may lapse before drawdown.
Noon Buying Rate Period end rate 1.5537 1.5392 1.6167 1.4619 1.9843 Average rate for the year (1) 1.6105 1.5415 1.5707 1.8424 2.0073
Economic and monetary environment When economies are emerging from recessions rooted in high levels of debt and stresses in the financial system, growth is slower than in the typical recovery. That was the experience of our major markets in 2011. It is what we should expect in 2012 and beyond.
In commercial property, values edged higher, finishing the year up 2%. Strong performance in prime markets, particularly central London was the main source of gains. Again, however, momentum slowed towards the end of the year.
Housing market activity remained subdued. Prices probably fell slightly although the different measures disagree on the extent of the change.
Supervision United Kingdom The UK Financial Services Authority (FSA) is the consolidated supervisor of the Group. As at 31 December 2011, 26 companies in the Group (excluding subsidiaries of RBS NV), spanning a range of financial services sectors (banking, insurance and investment business), were authorised to conduct financial activities regulated by the FSA.
The UK authorised banks in the Group include the Royal Bank, NatWest, Coutts & Co and Ulster Bank Limited. Wholesale activities, other than Group Treasury activities, are concentrated in the Group's Global Banking & Markets and UK Corporate divisions, and are undertaken under the names of the Royal Bank and NatWest. UK retail banking activities are managed by the UK Retail division. The exception is Ulster Bank Limited, which is run as a separate division within the Group. Ulster Bank Limited provides banking services in Northern Ireland while the banking service in the Republic of Ireland is provided by Ulster Bank Ireland Limited, which is primarily supervised by the Central Bank of Ireland.
Investment management business is principally undertaken by companies in the Wealth division, including Coutts & Co, Adam & Company Investment Management Limited, and in the Global Banking & Markets division, through RBS Asset Management Limited.
The Group's US broker dealer, RBS Securities Inc. (RBSSI), formerly known as Greenwich Capital Markets, Inc., is subject to regulation and supervision by the US Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA) with respect to its securities activities. The futures activities of RBSSI are subject to regulation and oversight by the US Commodity Futures Trading Commission (CFTC) and the Chicago Mercantile Exchange (CME) Group-owned exchanges. The Group's US commodities business, RBS Sempra Commodities LLP and its subsidiaries, which was largely sold in 2010, are primarily regulated by the Federal Reserve Bank of Boston, the Federal Energy Regulatory Commission (FERC), the Commodity Futures Trading Commission (CFTC), the CME Group-owned exchanges, and The Intercontinental Exchange.
United Kingdom In the UK, the Group has actively engaged with a large number of legislative and regulatory consultations. Reflecting global developments, financial stability - notably bank prudential requirements and the new regulatory framework - remains a key focus for the UK regulatory authorities.
The Group has continued to participate fully in the analysis of the cause of the financial crisis and the development of potential policy and reform. A wide range of ideas and proposals, aimed at strengthening the resilience of the banking system and addressing perceived shortcomings in existing regulation, have been advanced and continue to be developed. With respect to prudential requirements, the Group provided detailed feedback on the FSA's latest consultation on Strengthening Capital Standards and others, including on the supervisory formula method and liquidity swaps. Other consultations included HM Treasury’s further consultations on the structure of financial regulation, covered bonds and on Recovery and Resolution Plans (“Living Wills”).
The Group has continued to play an active role in the development of requirements affecting products and processes. Examples include the Government’s Review of Consumer Credit and Personal Insolvency, the FSA’s review of mortgages (Mortgage Market Review) and of investment advice (Retail Distribution Review), the FSA’s proposals on Product Intervention and the European Directive on Mortgages. The Group worked closely with the Government (the Department of Business, Innovation and Skills) and the industry to develop and implement annual credit card statements to improve transparency for customers. The Group has also worked closely with the Government on its MyData initiative, with a view to empowering consumers by giving them greater access to their financial data, and on the Government’s proposals to introduce a charitable giving option at ATMs.
The Group also continues to co-operate with the Information Commissioner’s Office, the UK’s independent public body set up to uphold information rights in the public interest, promoting openness by public bodies and data privacy for individuals. The Group monitors legal and regulatory changes and industry best practice and implements timely process improvements to ensure continued protection of individuals’ privacy rights and enhance information security management.
European Union/global developments The Group follows closely the work and recommendations of the G20, as well as international standard setters such as the Basel Committee on Banking Supervision. Of note were the developments, particularly in Europe, to implement the proposals from the Basel Committee on Banking Supervision for an enhanced capital and liquidity framework. The Basel Committee also developed proposals for additional capital for globally systemically important banks. The Group remains closely involved in all aspects of the proposals on capital and liquidity, as well as on other related policy areas, such as countercyclical capital buffers and contingent capital.
United States In the US, the Group continues to engage constructively with regulators and other bodies on regulatory and legislative change and seeks to ensure proper implementation and compliance. Current issues include regulatory implementation of US financial regulatory reform legislation, mortgage and credit card lending and consumer disclosures, debit card interchange fees, and account overdraft protection.
Material contracts The company and its subsidiaries are party to various contracts in the ordinary course of business. Material contracts include the following: Consortium and Shareholders Agreement (CSA) On 28 May 2007, Fortis Bank Nederland, the company, Santander and RFS Holdings entered into the CSA. Fortis Bank Nederland acceded to the CSA on 26 July 2007. On 3 October 2008, the Dutch State acquired Fortis Bank Nederland. On 24 December 2008 the Dutch State acceded to the CSA following its acquisition of the shares held by Fortis Bank Nederland in RFS Holdings pursuant to a Deed of Accession entered into between RFS Holdings, the company, Fortis Bank Nederland, Santander and the Dutch State. On 1 April 2010 the CSA was restated. It was the subject of a further amendment on 18 July 2011. The CSA (as amended and restated) governs the relationships amongst the parties thereto in relation to the acquisition by RFS Holdings of ABN AMRO (now RBS Holdings N.V.). The CSA (as amended and restated) details, inter alia, the equity interests in RFS Holdings, the governance of RFS Holdings, the arrangements for the transfer of certain ABN AMRO businesses, assets and liabilities to the Dutch State (previously Fortis Bank Nederland), the company and Santander, further funding obligations of the Dutch State, the company and Santander where funding is required by regulatory authorities in connection with the ABN AMRO businesses, the allocation of taxes and conduct of tax affairs and the steps that the Dutch State, the company and Santander expect to take to enable the company to become the sole shareholder of RFS Holdings.
HM Treasury is entitled to novate its rights under the Second Placing and Open Offer Agreement to any entity that is owned, directly or indirectly, by HM Treasury.
The Royal Bank undertook to HM Treasury, among other things, to: (i) provide all such assistance and information and data as is reasonably requested which is pertinent to the implementation of the APS and the Royal Bank's potential participation in the APS; (ii) provide, as soon as practicable, an indicative list of the assets, commitments and exposures that the Royal Bank propose to include within the APS with a view to agreeing such list by 30 April 2009; (iii) provide, as promptly as practicable, information and data relating to the Proposed Assets reasonably requested for due diligence purposes and to provide certain other information concerning the Group's business and the financial performance and risk of the Proposed Assets; (iv) provide access to the Group's premises, books, records, senior executives, relevant personnel and professional advisers on reasonable terms; (v) consult with HM Treasury regarding the management and operations of the Proposed Assets and to ensure that the management of the
The company's commitments described in this section have been superseded by the Scheme Rules and the Accession Agreement (for details of the Accession Agreement see page 448), with the exception of a commitment to inform the Department for Business, Innovation and Skills prior to making significant reductions in the level of lending being made available to certain borrowers or counterparties, which will apply until 28 February 2011, in line with the duration of the commitments under the Lending Commitments Letter described below.
The company may, subject to certain conditions, at any time terminate the Contingent Subscription in whole or in part, with the consent of the FSA. The company is required to pay an annual fee, for the Contingent Period, in relation to the Acquisitions and the Contingent Subscription of £320 million less four per cent per annum of the value of any B shares subscribed for under the Contingent Subscription. Such fee is payable in cash or, with HM Treasury's consent, by waiving certain UK tax reliefs that are treated as deferred tax assets or through a further issue of B shares to HM Treasury. The annual fee ceases to be payable on termination of the Contingent Subscription and if the company terminates the Contingent Subscription in part, the fee will reduce proportionately.
HM Treasury has agreed that it shall not be entitled to vote the B shares or the Dividend Access Share to the extent that votes cast on such B shares and the Dividend Access Share, together with any other votes which HM Treasury is entitled to cast in respect of any other ordinary shares held by or on behalf of HM Treasury, would exceed 75 per cent of the total votes eligible to be cast on a resolution proposed at a general meeting of the company.
Under the APS, HM Treasury is liable to make payments to the company in respect of a pre-defined pool of assets and exposures (the "Covered Assets"). Payments under the APS are intended to protect the company, over time, for 90% of the amount by which cumulative losses on the whole portfolio of Covered Assets (as reduced by cumulative recoveries on the portfolio) exceed a fixed first loss threshold of £60 billion. Cumulative losses (as reduced by cumulative recoveries) below the first loss threshold, and a 10% vertical slice of any cumulative losses (as reduced by cumulative recoveries) exceeding the first loss threshold, are for the account of the company.
The company has the right, in certain circumstances, to withdraw from the APS permanently all or part of a Covered Asset. In addition, the company contractually has the right to terminate the APS exercisable at any time provided that the FSA has confirmed in writing to HM Treasury that it has no objection to the proposed termination. An exit fee and, potentially, a refund of HM Treasury's net payments under the APS may be payable by the company upon such termination. The Scheme Conditions also contain various provisions and restrictions on the management and administration of the Covered Assets and certain related assets. The company is obliged to manage certain such assets (those that are identified by reference to a ‘focus list’) in accordance with the asset management objective, which is to maximise the expected net present value of such assets (discounted at an HM Treasury rate), including by minimising losses and potential losses and maximising recoveries and potential recoveries. The company also has monitoring and reporting obligations under the Scheme Conditions which are aimed at transparency in respect of the Covered Assets to enable HM Treasury to manage and assess its exposure under the APS. In addition, the company has to establish a separate governance structure for the purposes of the APS. Further, the Scheme Conditions and the Accession Agreement also contain requirements for the development of a remuneration policy for the Group and specific remuneration requirements for certain officers and employees of the company.
There are material restrictions on the form and substance of announcements or public statements (including any required by law or the rules of any securities exchange) made by the Group in relation to the APS or to HM Treasury in connection with the APS without HM Treasury's consent.
Sale of RBS England and Wales and NatWest Scotland branch based business to Santander UK plc On 4 August 2010, the Royal Bank, NatWest Plc and National Westminster Home Loans Limited entered into a Sale and Purchase Agreement with Santander UK plc pursuant to which the Royal Bank, NatWest Plc and National Westminster Home Loans Limited agreed to sell 311 Royal Bank of Scotland branded branches in England and Wales, seven NatWest branded branches in Scotland, the retail and SME customer accounts attached to these branches, the Direct SME business, and certain mid-corporate businesses and associated assets and liabilities to Santander UK plc for a premium of £350 million to net assets at closing. The parties agreed certain amendments to the Sale and Purchase Agreement on 30 August 2011. The consideration will be paid in cash and is subject to certain closing adjustments, including those relating to the performance of the business. The transaction is subject to regulatory, anti-trust and other conditions.
On 20 September 2010, the Group announced that RBS Sempra Commodities JV had agreed to sell its Sempra Energy Solutions business line to Noble Americas Gas & Power Corp. for consideration of approximately US$317 million in cash, plus the assumption of approximately US$265 million in debt. The Group’s share of the consideration is approximately 51 per cent, or US$162 million. The transaction closed on 1 November 2010.
On 7 October 2010, the Group announced that RBS Sempra Commodities JV had agreed to sell substantial assets of its commodities trading North American Power and Gas business lines to JPMorgan. The transaction closed on 1 December 2010 and JPMorgan acquired these net assets for consideration of US$220 million in cash based on the 30 June 2010 balance sheet, of which the Group’s share is approximately 51 per cent, i.e. US$112 million. The value of the gross assets acquired by JPMorgan was US$6 billion (unaudited) as of 30 June 2010.
Sale of Global Merchant Services business On 6 August 2010, the Royal Bank, Citizens Financial Group, Inc., RBS Netherlands Holdings B.V., Ulster Bank Limited, Ulster Bank Ireland Limited, NatWest Plc and Ship Bidco Limited (a company representing Advent International (‘Advent’) and Bain Capital (‘Bain’) which has now changed its name to WorldPay (UK) Limited) entered into a Transfer Agreement pursuant to which the Royal Bank (either directly or through its group companies) sold 80.01 per cent of its Global Merchant Services business for an enterprise value of up to £2.025 billion. Approximately £1.45 billion (subject to customary post-closing adjustments) was received in cash on closing of the sale of the 80.01 per cent interest. Up to £200 million is receivable in the future if the returns realised by Advent and Bain exceed certain thresholds. The sale completed on 30 November 2010.
Sale of RBS Aviation Capital to Sumitomo Mitsui Banking Corporation On 16 January 2012, the Royal Bank and Sumitomo Mitsui Banking Corporation (SMBC) entered into a Sale and Purchase Agreement pursuant to which the Royal Bank agreed to sell its aircraft leasing business, RBS Aviation Capital, to SMBC, acting on behalf of a consortium comprising its parent, Sumitomo Mitsui Financial Group, and Sumitomo Corporation. As a result of the sale, the consortium will acquire RBS Aviation Capital for an approximate consideration of US$7.3 billion (£4.7 billion). The consideration will be paid in cash and will be subject to certain closing adjustments. The transaction is subject to regulatory and anti-trust conditions and it is expected that the sale will complete before the end of the third quarter of 2012.
In Europe, countries such as Ireland, Italy, Greece, Portugal and Spain have been particularly affected by the recent financial and economic conditions. The perceived risk of default on the sovereign debt of those countries intensified in the latter part of 2011 particularly in relation to Greece and has continued into 2012. This raised concerns about the contagion effect such a default would have on other EU economies as well as the ongoing viability of the euro currency and the EMU. Yields on the sovereign debt of most EU member states have recently been volatile and trended upward. The EU, the European Central Bank and the International Monetary Fund have prepared rescue packages for some of the affected countries and a number of European states, including Ireland, Italy and Spain, are taking actions to stabilise their economies and reduce their debt burdens. The EU has also taken policy initiatives intended to address systemic stresses in the eurozone. Despite these actions, the long-term ratings of a majority of eurozone countries have recently been downgraded and further downgrades are possible. Furthermore, the effectiveness of these actions is not assured and the possibility remains that the euro could be abandoned as a currency by countries that have already adopted its use, or in an extreme scenario, abandonment of the euro could result in the dissolution of the EMU. This would lead to the re-introduction of individual currencies in one or more EMU member states.
The effects on the European and global economies of the potential dissolution of the EMU, exit of one or more EU member states from the EMU and the redenomination of financial instruments from the euro to a different currency, are impossible to predict fully. However, if any such events were to occur they would likely: result in significant market dislocation; heighten counterparty risk; affect adversely the management of market risk and in particular asset and liability management due, in part, to redenomination of financial assets and liabilities; and have a material adverse effect on the Group’s financial condition, results of operations and prospects.
Risk factors continued The Group’s ability to meet its obligations including its funding commitments depends on the Group’s ability to access sources of liquidity and funding Liquidity risk is the risk that a bank will be unable to meet its obligations, including funding commitments, as they fall due. This risk is inherent in banking operations and can be heightened by a number of factors, including an over reliance on a particular source of wholesale funding (including, for example, short-term and overnight funding), changes in credit ratings or market-wide phenomena such as market dislocation and major disasters. Credit markets worldwide have experienced severe reductions in liquidity and term-funding during prolonged periods in recent years. In particular, funding in the interbank markets, a traditional source of unsecured short-term funding, has been severely disrupted. Although credit markets generally improved during the first half of 2011, wholesale funding markets have continued to suffer, particularly for European banks as the sovereign debt crisis worsened during the second half of 2011. As a result, a number of banks were reliant on central banks as their principal source of liquidity and central banks increased their support provisions to banks with the European Central Bank providing significant liquidity in the last few months of 2011 (including long-term refinancing operations facilities (offering loans with a term of up to three years) and broader access to US dollar funding). Although these efforts appear to be having a positive impact, global credit markets remain disrupted. The market perception of bank credit risk has changed significantly recently and banks that are deemed by the market to be riskier have had to issue debt at a premium to the equivalent cost of debt for other banks that are perceived by the market as being less risky. Any uncertainty regarding the perception of credit risk across financial institutions may lead to further reductions in levels of interbank lending and associated term maturities and may restrict the Group’s access to traditional sources of liquidity.
Like many banking groups, the Group relies increasingly on customer deposits to meet a considerable portion of its funding and it is actively seeking to increase the proportion of its funding represented by customer deposits. However, such deposits are subject to fluctuation due to certain factors outside the Group’s control, such as a loss of confidence, increasing competitive pressures for retail customer deposits or the encouraged or mandated repatriation of deposits by foreign wholesale or central bank depositors, which could result in a significant outflow of deposits within a short period of time. There is currently heavy competition among UK banks for retail customer deposits, which has increased the cost of procuring new deposits and impacted the Group’s ability to grow its deposit base and such competition is expected to continue. An inability to grow, or any material decrease in, the Group’s deposits could, particularly if accompanied by one of the other factors described above, have a materially adverse impact on the Group’s ability to satisfy its liquidity needs.
The Group’s ability to implement its strategic plan depends on the success of the Group’s refocus on its core strengths and its balance sheet reduction programme As a result of the global economic and financial crisis that began in 2008 and the changed global economic outlook, the Group is engaged in a financial and core business restructuring which is focused on achieving appropriate risk-adjusted returns under these changed circumstances, reducing reliance on wholesale funding and lowering exposure to capitalintensive businesses. A key part of this restructuring is the programme announced in February 2009 to run-down and sell the Group’s non-core assets and businesses and the continued review of the Group’s portfolio to identify further disposals of certain non-core assets and businesses. Assets identified for this purpose and allocated to the Group’s Non-Core division totalled £258 billion, excluding derivatives, at 31 December 2008. At 31 December 2011, this total had reduced to £93.7 billion (31 December 2010 - £137.9 billion), excluding derivatives, as further progress was made in business disposals and portfolio sales during the course of 2011. This balance sheet reduction programme continues alongside the disposals under the State Aid restructuring plan approved by the European Commission. As part of its core business restructuring, in January 2012 the Group announced changes to its wholesale banking operations, including the reorganisation of its wholesale businesses and the exit and downsizing of selected existing activities (including cash equities, corporate banking, equity capital markets, and mergers and acquisitions).
The occurrence of any of the risks described above could negatively affect the Group’s ability to implement its strategic plan and could have a material adverse effect on the Group’s business, results of operations, financial condition, capital ratios and liquidity and could result in a loss of value in its securities.
The process for implementing the proposed transfers is complex and any failure to satisfy any conditions or complete any preliminary steps to each proposed transfer may cause a delay in its completion (or result in its non-completion). If any of the proposed transfers are delayed (or are not completed) for any reason, such as a failure to secure required regulatory approvals, it is possible that the relevant regulatory authorities could impose sanctions which could adversely impact the minimum regulatory requirements for capital and liquidity of RBS N.V. and the Royal Bank. In addition, the FSA may impose additional capital and liquidity requirements in relation to the Royal Bank to the extent that such a delay in implementation (or non-completion) of any of the proposed transfers has consequential financial implications for the Royal Bank (for example increased intra-group large exposures). A delay in implementation of (or any failure to implement) any of the proposed transfers may therefore adversely impact RBS N.V.’s and the Royal Bank’s capital and liquidity resources and requirements, with consequential adverse impacts on their funding resources and requirements.
The Group is subject to a variety of risks as a result of implementing the State Aid restructuring plan, including required asset disposals. In particular, the Group agreed to undertake a series of measures to be implemented over a four year period from December 2009, including the disposal of all or a controlling portion of RBS Insurance (with disposal of its entire interest in RBS Insurance required by 31 December 2014), Global Merchant Services (GMS), its interest in RBS Sempra Commodities LLP, and the Royal Bank branch-based business in England and Wales and the NatWest branches in Scotland, along with the direct and other small and medium-size enterprise (SME) customers and certain mid-corporate customers across the UK. While the disposal of GMS is completed and the disposal of RBS Sempra Commodities is largely completed, the sale processes in respect of the Royal Bank and NatWest branch-based business and RBS Insurance continue to progress. There is no assurance that the price that the Group receives or has received for any assets sold pursuant to the State Aid restructuring plan will be or has been at a level the Group considers adequate or which it could obtain in circumstances in which the Group was not required to sell such assets in order to implement the State Aid restructuring plan or if such sale were not subject to the restrictions contained in the terms thereof. Further, if the Group fails to complete any of the required disposals within the agreed timeframes for such disposals, under the terms of the State Aid approval, a divestiture trustee may be empowered to conduct the disposals, with the mandate to complete the disposal at no minimum price.
Furthermore, if the Group is unable to comply with the terms of the State Aid approval, it could constitute a misuse of aid. In circumstances where the European Commission doubts that the Group is complying with the terms of the State Aid approval, it may open a formal investigation. At the conclusion of any such investigation, if the European Commission decided that there had been misuse of aid, it could issue a decision requiring HM Treasury to recover the misused aid, which could have a material adverse impact on the Group.
The Group and its UK bank subsidiaries may face the risk of full nationalisation or other resolution procedures under the Banking Act 2009 which may result in various actions being taken in relation to any securities Under the Banking Act 2009, substantial powers have been granted to HM Treasury, the Bank of England and the FSA (together, the “Authorities”) as part of a special resolution regime. These powers enable the Authorities to deal with and stabilise UK incorporated institutions with permission to accept deposits pursuant to Part IV of the FSMA that are failing, or are likely to fail, to satisfy the threshold conditions (within the meaning of section 41 of the FSMA, which are the conditions that a relevant entity must satisfy in order to obtain its authorisation to perform regulated activities). The special resolution regime consists of three stabilisation options: (i) transfer of all or part of the business of the relevant entity and/or the securities of the relevant entity to a private sector purchaser; (ii) transfer of all or part of the business of the relevant entity to a “bridge bank” wholly-owned by the Bank of England; and (iii) temporary public ownership (nationalisation) of the relevant entity. HM Treasury may also take a holding company of the relevant entity into temporary public ownership where certain conditions are met. The Banking Act also provides for two new insolvency and administration procedures for relevant entities. Certain ancillary powers include the power to modify (including imposing additional obligations) and cancel certain contractual arrangements in certain circumstances.
The financial performance of the Group has been, and continues to be, materially affected by deteriorations in borrower and counterparty credit quality and further deteriorations could arise due to prevailing economic and market conditions and legal and regulatory developments The Group has exposure to many different industries and counterparties, and risks arising from actual or perceived changes in credit quality and the recoverability of monies due from borrowers and counterparties are inherent in a wide range of the Group’s businesses. In particular, the Group has significant exposure to certain individual counterparties in weakened business sectors and geographic markets and also has concentrated country exposure in the UK, the US and across the rest of Europe (particularly Ireland) and within certain business sectors, namely personal finance, financial institutions and commercial real estate. For a discussion of the Group’s exposure to country risk see pages 208 to 228. Furthermore, the Group expects its exposure to the UK to increase proportionately as its business becomes more concentrated in the UK, with exposures generally being reduced in other parts of its business as it implements its strategy, including the reduction of, and exit from, certain businesses in its GBM business.
Risk factors continued Financial services institutions that deal with each other are inter-related as a result of trading, investment, clearing, counterparty and other relationships. Within the financial services industry, the default of any one institution could lead to defaults by other institutions. Concerns about, or a default by, one institution could lead to significant liquidity problems and losses or defaults by other institutions, as the commercial and financial soundness of many financial institutions may be closely related as a result of this credit, trading, clearing and other relationships. Even the perceived lack of creditworthiness of, or questions about, a counterparty may lead to market-wide liquidity problems and losses for, or defaults by, the Group. This systemic risk may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms and exchanges with which the Group interacts on a daily basis, all of which could have a material adverse effect on the Group’s access to liquidity or could result in losses which could have a material adverse effect on the Group’s financial condition, results of operations and prospects or result in a loss of value in its securities.
Changes in interest rates, foreign exchange rates, credit spreads, bond, equity and commodity prices, basis, volatility and correlation risks and other market factors have significantly affected and will continue to affect the Group’s business and results of operations Some of the most significant market risks the Group faces are interest rate, foreign exchange, credit spread, bond, equity and commodity prices and basis, volatility and correlation risks. Changes in interest rate levels (or extended periods of low interest rates), yield curves and spreads may affect the interest rate margin realised between lending and borrowing costs, the effect of which may be heightened during periods of liquidity stress. Changes in currency rates, particularly in the sterling-US dollar and sterling-euro exchange rates, affect the value of assets, liabilities, income and expenses denominated in foreign currencies and the reported earnings of the Group’s non-UK subsidiaries and may affect the Group’s reported consolidated financial condition or its income from foreign exchange dealing. For accounting purposes, the Group values some of its issued debt, such as debt securities, at the current market price. Factors affecting the current market price for such debt, such as the credit spreads of the Group, may result in a change to the fair value of such debt, which is recognised in the income statement as a profit or loss.
The Group’s borrowing costs, its access to the debt capital markets and its liquidity depend significantly on its and the UK Government’s credit ratings The credit ratings of the Group, the Royal Bank and other Group members have been subject to change and may change in the future, which could impact their cost of, access to and sources of financing and liquidity. A number of UK and other European financial institutions, including the Group, the Royal Bank and other Group members, were downgraded during the course of 2011 in connection with a review of systemic support assumptions incorporated into bank ratings and the likelihood, in the case of UK banks, that the UK Government is more likely in the future to make greater use of its resolution tools to allow burden sharing with bondholders, and in connection with a general review of rating agencies’ methodologies. Rating agencies continue to evaluate the rating methodologies applicable to UK and European financial institutions and any change in such rating agencies’ methodologies could materially adversely affect the credit ratings of Group companies. Any further reductions in the long-term or short-term credit ratings of the Group or one of its principal subsidiaries (particularly the Royal Bank) would increase its borrowing costs, require the Group to replace funding lost due to the downgrade, which may include the loss of customer deposits, and may also limit the Group’s access to capital and money markets and trigger additional collateral requirements in derivatives contracts and other secured funding arrangements. At 31 December 2011, a one notch downgrade in the Group’s credit rating would have required the Group to post an estimated additional £12.5 billion of collateral without taking account of mitigating action by management. Furthermore, given the extent of the UK Government ownership of the Group, any downgrade in the UK Government’s credit ratings could materially adversely affect the credit ratings of Group companies and may have the effects noted above. Credit ratings of the Group, the Royal Bank, RBS N.V., Ulster Bank Limited and Citizens Financial Group Inc. are also important to the Group when competing in certain markets, such as over-the-counter derivatives. As a result, any further reductions in the Group’s long-term or short-term credit ratings or those of its principal subsidiaries could adversely affect the Group’s access to liquidity and its competitive position, increase its funding costs and have a material adverse impact on the Group’s earnings, cash flow and financial condition or result in a loss of value of its securities.
The Group’s business performance could be adversely affected if its capital is not managed effectively or as a result of changes to capital adequacy and liquidity requirements Effective management of the Group’s capital is critical to its ability to operate its businesses, and to pursue its strategy of returning to standalone strength. The Group is required by regulators in the UK, the US and other jurisdictions in which it undertakes regulated activities to maintain adequate capital resources. The maintenance of adequate capital is also necessary for the Group’s financial flexibility in the face of continuing turbulence and uncertainty in the global economy and specifically in its core UK, US and European markets. Accordingly, the purpose of the issuance of the £25.5 billion of B shares and the grant of the Contingent Subscription in 2009 and the previous placing and open offers completed in 2008 and 2009 was to allow the Group to strengthen its capital position.
Risk factors continued In November 2011, the Basel Committee proposed that global systemically important banks be subject to an additional common equity Tier 1 capital requirement ranging from 1-2.5%, depending on a bank’s systemic importance. To provide a disincentive for banks facing the highest charge to increase materially their global systemic importance in the future, an additional 1% surcharge would be applied in such circumstances.
On 4 November 2011 the Financial Stability Board published its policy framework for addressing the systemic risks associated with global systemically important financial institutions (GSIFI). In this paper the Group was identified as a GSIFI. As a result the Group will be required to meet resolution planning requirements by the end of 2012 as well as have additional loss absorption capacity of 2.5% of risk-weighted assets which will need to be met with common equity. In addition, GSIFIs are to be subjected to more intensive and effective supervision. The additional capital requirements are to be applied to GSIFIs identified in 2014 (the Financial Stability Board will update its list every three years) and phased in beginning in 2016.
The ICB recommendations and the UK Government’s response supporting such recommendations includes proposals to increase capital and loss absorbency to levels that exceed the proposals under Basel III/CRD IV. These requirements, as well as the other recommendations of the ICB, are expected to be phased in between 2015 and 2019. As the implementation of the ICB recommendations will be the subject of legislation not yet adopted, the Group cannot predict the impact such rules will have on the Group’s overall capital requirements or how they will affect the Group’s compliance with capital and loss absorbency requirements of Basel III/CRD IV.
To the extent the Group has estimated the indicative impact that Basel III reforms may have on its risk-weighted assets and capital ratios, such estimates are preliminary and subject to uncertainties and may change. In particular, the estimates assume mitigating actions will be taken by the Group (such as deleveraging of legacy positions and securitisations, including non-core, as well as other actions being taken to de-risk market and counterparty exposures), which may not occur as anticipated, in a timely manner, or at all.
Pursuant to the acquisition and contingent capital agreement entered into between the Royal Bank and HM Treasury on 29 November 2009, the Group will also be subject to restrictions on payments on its hybrid capital instruments should its Core Tier 1 ratio fall below 6% or if it would fall below 6% as a result of such payment. At 31 December 2011, the Group’s Tier 1 and Core Tier 1 capital ratios were 13.0% and 10.6%, respectively, calculated in accordance with FSA requirements. Any change that limits the Group’s ability to manage effectively its balance sheet and capital resources going forward (including, for example, reductions in profits and retained earnings as a result of write-downs or otherwise, increases in risk-weighted assets, delays in the disposal of certain assets or the inability to syndicate loans as a result of market conditions, a growth in unfunded pension exposures or otherwise) or to access funding sources, could have a material adverse impact on its financial condition and regulatory capital position or result in a loss of value of its securities.
The Group operates in markets that are highly competitive and its business and results of operations may be adversely affected The competitive landscape for banks and other financial institutions in the UK, the US and throughout the rest of Europe is subject to rapid change and recent regulatory and legal changes are likely to result in new market participants and changed competitive dynamics in certain key areas, such as in retail banking in the UK. The competitive landscape in the UK will be particularly influenced by the recommendations on competition included in the ICB’s final report, and the UK Government’s implementation of the recommendations, as discussed above. In order to compete effectively, certain financial institutions may seek to consolidate their businesses or assets with other parties. This consolidation, in combination with the introduction of new entrants into the markets in which the Group operates, is likely to increase competitive pressures on the Group.
In addition, certain competitors may have access to lower cost funding and/or be able to attract deposits on more favourable terms than the Group and may have stronger and more efficient operations. Furthermore, the Group’s competitors may be better able to attract and retain clients and key employees, which may have a negative impact on the Group’s relative performance and future prospects. In addition, future disposals and restructurings by the Group and the compensation structure and restrictions imposed on the Group may also have an impact on its ability to compete effectively. These and other changes to the competitive landscape could adversely affect the Group’s business, margins, profitability, financial condition and prospects or result in a loss of value of its securities.
In addition to the effects of such measures on the Group’s ability to retain senior management and other key employees, the marketplace for skilled personnel is becoming more competitive, which means the cost of hiring, training and retaining skilled personnel may continue to increase. The failure to attract or retain a sufficient number of appropriately skilled personnel could place the Group at a significant competitive disadvantage and prevent the Group from successfully implementing its strategy, which could have a material adverse effect on the Group’s financial condition and results of operations or result in a loss of value of its securities.
Each of the Group’s businesses is subject to substantial regulation and oversight. Significant regulatory developments, including changes in tax law, could have an adverse effect on how the Group conducts its business and on its results of operations and financial condition The Group is subject to extensive financial services laws, regulations, corporate governance requirements, administrative actions and policies in each jurisdiction in which it operates. All of these are subject to change, particularly in the current regulatory and market environment, where there have been unprecedented levels of government intervention (including nationalisations and injections of government capital), changes to the regulations governing financial institutions and reviews of the industry, in the UK, the US and many European countries. In recent years, there has also been increasing focus in the UK, US and other jurisdictions in which the Group operates on compliance with anti-bribery, anti-money laundering, anti-terrorism and other similar sanctions regimes.
As a result of the environment in which the Group operates, increasing regulatory focus in certain areas and ongoing and possible future changes in the financial services regulatory landscape (including requirements imposed by virtue of the Group’s participation in government or regulator-led initiatives), the Group is facing greater regulation and scrutiny in the UK, the US and other countries in which it operates.
Although it is difficult to predict with certainty the effect that recent regulatory developments and heightened levels of public and regulatory scrutiny will have on the Group, the enactment of legislation and regulations in the UK, the other parts of Europe in which the Group operates and the US (such as the bank levy in the UK or the Dodd-Frank Wall Street Reform and Consumer Protection Act in the US) is likely to result in increased capital and liquidity requirements and changes in regulatory requirements relating to the calculation of capital and liquidity metrics or other prudential rules relating to capital adequacy frameworks, and may result in an increased number of regulatory investigations and actions. Any of these developments could have an adverse impact on how the Group conducts its business, applicable authorisations and licences, the products and services it offers, its reputation, the value of its assets, its funding costs and its results of operations and financial condition or result in a loss of value in its securities.
The Group may be required to make further contributions to its pension schemes if the value of pension fund assets is not sufficient to cover potential obligations The Group maintains a number of defined benefit pension schemes for past and a number of current employees. Pensions risk is the risk that the assets of the Group’s various defined benefit pension schemes which are long-term in nature do not fully match the timing and amount of the schemes’ liabilities, as a result of which the Group is required or chooses to make additional contributions to the schemes. Pension scheme liabilities vary with changes to long-term interest rates, inflation, pensionable salaries and the longevity of scheme members as well as changes in applicable legislation. The schemes’ assets comprise investment portfolios that are held to meet projected liabilities to the scheme members. Risk arises from the schemes because the value of these asset portfolios, returns from them and any additional future contributions to the schemes, may be less than expected and because there may be greater than expected increases in the estimated value of the schemes’ liabilities. In these circumstances, the Group could be obliged, or may choose, to make additional contributions to the schemes, and during recent periods, the Group has voluntarily made such contributions to the schemes. Given the recent economic and financial market difficulties and the prospect that they may continue over the near and medium term, the Group may experience increasing pension deficits or be required or elect to make further contributions to its pension schemes and such deficits and contributions could be significant and have an adverse impact on the Group’s results of operations or financial condition or result in a loss of value in its securities. The most recent funding valuation at 31 March 2010 was agreed during 2011. It showed the value of liabilities exceeded the value of assets by £3.5 billion at 31 March 2010, a ratio of assets to liabilities of 84%.
Operational risks are inherent in the Group’s businesses The Group’s operations are dependent on the ability to process a very large number of transactions efficiently and accurately while complying with applicable laws and regulations where it does business. The Group has complex and geographically diverse operations and operational risk and losses can result from internal and external fraud, errors by employees or third parties, failure to document transactions properly or to obtain proper authorisation, failure to comply with applicable regulatory requirements and conduct of business rules (including those arising out of anti-bribery, anti-money laundering and anti-terrorism legislation, as well as the provisions of applicable sanctions programmes), equipment failures, business continuity and data security system failures, natural disasters or the inadequacy or failure of systems and controls, including those of the Group’s suppliers or counterparties. Although the Group has implemented risk controls and loss mitigation actions, and substantial resources are devoted to developing efficient procedures, to identify and rectify weaknesses in existing procedures and to train staff, it is not possible to be certain that such actions have been or will be effective in controlling each of the operational risks faced by the Group. Any weakness in these systems or controls, or any breaches or alleged breaches of such laws or regulations, could result in increased regulatory supervision, enforcement actions and other disciplinary action, and have an adverse impact on the Group’s business, applicable authorisations and licences, reputation, results of operations and the price of its securities. Notwithstanding anything contained in this risk factor, it should not be taken as implying that the Group will be unable to comply with its obligations as a company with securities admitted to the Official List of the UK Listing Authority (the “Official List”) nor that it, or its relevant subsidiaries, will be unable to comply with its or their obligations as supervised firms regulated by the FSA.
Risk factors continued HM Treasury (or UK Financial Investments Limited (UKFI) on its behalf) may be able to exercise a significant degree of influence over the Group and any proposed offer or sale of its interests may affect the price of securities issued by the Group The UK Government, through HM Treasury, currently holds 66.9% of the issued ordinary share capital of the Group. On 22 December 2009, the Group issued £25.5 billion of B Shares to the UK Government. The B Shares are convertible, at the option of the holder at any time, into ordinary shares. The UK Government has agreed that it shall not exercise the rights of conversion in respect of the B Shares if and to the extent that following any such conversion it would hold more than 75% of the total issued shares in the Group. Any breach of this agreement could result in the delisting of the Group from the Official List and potentially other exchanges where its securities are currently listed and traded. HM Treasury (or the UKFI on its behalf) may sell all or a part of the ordinary shares that it owns at any time. Any offers or sale of a substantial number of ordinary shares or securities convertible or exchangeable into ordinary shares by or on behalf of HM Treasury, or an expectation that it may undertake such an offer or sale, could negatively affect prevailing market prices for the securities.
The Group’s insurance businesses are subject to inherent risks involving claims Future claims in the Group’s insurance business may be higher than expected as a result of changing trends in claims experience resulting from catastrophic weather conditions, demographic developments, changes in the nature and seriousness of claims made, changes in mortality, changes in the legal and compensatory landscape and other causes outside the Group’s control. These trends could affect the profitability of current and future insurance products and services. The Group reinsures some of the risks it has assumed and is accordingly exposed to the risk of loss should its reinsurers become unable or unwilling to pay claims made by the Group against them.
In addition, to the extent that other jurisdictions where the Group operates have introduced or plan to introduce similar compensation, contributory or reimbursement schemes (such as in the US with the Federal Deposit Insurance Corporation), the Group may make further provisions and may incur additional costs and liabilities, which may have an adverse impact on its financial condition and results of operations or result in a loss of value in its securities.
The recoverability and regulatory capital treatment of certain deferred tax assets recognised by the Group depends on the Group’s ability to generate sufficient future taxable profits and there being no adverse changes to tax legislation, regulatory requirements or accounting standards In accordance with IFRS, the Group has recognised deferred tax assets on losses available to relieve future profits from tax only to the extent that it is probable that they will be recovered. The deferred tax assets are quantified on the basis of current tax legislation and accounting standards and are subject to change in respect of the future rates of tax or the rules for computing taxable profits and allowable losses. Failure to generate sufficient future taxable profits or changes in tax legislation or accounting standards may reduce the recoverable amount of the recognised deferred tax assets. In April 2011, the UK Government commenced a staged reduction in the rate of UK corporation tax from 28% to 23% over a four-year period. Such a change in the applicable tax rate will reduce the recoverable amount of the recognised deferred tax assets. There is currently no restriction in respect of deferred tax assets recognised by the Group for regulatory purposes. Changes in regulatory capital rules may restrict the amount of deferred tax assets that can be recognised and such changes could lead to a reduction in the Group’s Core Tier 1 capital ratio. In particular, on 16 December 2010, the Basel Committee published the Basel III rules setting out certain changes to capital requirements which include provisions limiting the ability of certain deferred tax assets to be recognised when calculating the common equity component of Tier 1 capital. CRD IV which will implement Basel III in the EU includes similar limitations. The implementation of the Basel III restrictions on recognition of deferred tax assets within the common equity component of Tier 1 are subject to a phased-in deduction starting on 1 January 2014, to be fully effective by 1 January 2018.
Ultimately, there is a risk that the amounts received under the APS may be less than the costs of participation. In addition, the aggregate effect of the joining, establishment, operational and exit costs and fees and expenses of, and associated with, the APS may significantly reduce or even eliminate the aggregate benefit of the APS to the Group.
The Group’s choice of assets or exposures to be covered by the APS was based on certain predictions and assumptions at the time of its accession to the APS. There is therefore, a risk that the Covered Assets will not be those with the greatest future losses or with the greatest need for protection and the Group’s financial condition, income from operations and the value of any securities may still suffer due to further impairments and credit write-downs. Notwithstanding the Group’s participation in the APS, the Group remains exposed to a substantial first loss amount of £60 billion (net of recoveries) in respect of the Covered Assets and for 10% of Covered Assets losses after the first loss amount. There is therefore, no assurance that the Group’s participation in the APS will achieve the Group’s goals of improving and maintaining the Group’s capital ratios in the event of further losses. Moreover, the Group continues to carry the risk of losses, impairments and write-downs with respect to assets not covered by the APS.
Lastly, the APS is treated as a credit derivative accounted for at fair value, which exhibits counter-cyclical behaviour. As a result, improving market conditions result in a charge to the income statement, and vice versa. Therefore, changes in the fair value of the APS can have a significant adverse impact on the Group’s results of operations.
If HM Treasury seeks to exercise its right to appoint one or more step-in managers in relation to the management and administration of Covered Assets held by RBS Holdings N.V. or its wholly-owned subsidiaries, RBS Holdings N.V. will, in certain circumstances, need to seek consent from the Dutch Central Bank to allow it to comply with such step-in. If this consent is not obtained by the date on which the step-in rights must be effective, and other options to effect compliance are not possible, those assets would need to be withdrawn by the Group from the APS where possible. If the Group cannot withdraw such Covered Assets from the APS, it would be likely to lose protection in respect of these assets under the APS and/or may be liable under its indemnity to HM Treasury.
Additionally pursuant to the accession agreement between HM Treasury and the Group relating to the accession to the APS, HM Treasury has the right to require the Royal Bank to appoint one or more Special Advisers (“SOC Special Advisers”) to exercise oversight functions over certain assets in the APS. On 18 June 2010, the Asset Protection Agency required that the Royal Bank appoint SOC Special Advisers in relation to certain assets and business areas in order to provide additional support to the Senior Oversight Committee of the Royal Bank. There have been four such appointments to date granting certain oversight rights in relation to certain specified assets and the work of each of the SOC Special Advisers is now substantially completed.
The obligations of the Group and the rights of HM Treasury may, individually or in the aggregate, impact the way the Group runs its business and may serve to limit the Group’s operations with the result that the Group’s business, results of operations and financial condition will suffer. In addition, the market’s reaction to such controls and limitations may have an adverse impact on the price of its securities.
Any changes to the expected regulatory capital treatment of the APS, the B Shares or the Contingent B Shares may have a material adverse impact on the Group One of the key objectives of the APS and the issuance of £25.5 billion of B Shares and, if required, the £8 billion Contingent B Shares was to improve capital ratios at a consolidated level for the Group and at an individual level for certain relevant Group members. In that context, the Group has entered and may in the future enter into further back-to-back arrangements with Group members holding assets or exposures to be covered by the APS in order to ensure the capital ratios of these entities are also improved by virtue of the APS. However, there is a risk that the regulatory capital treatment applied by relevant regulators may differ from that assumed by the Group in respect of the APS (including any back-toback arrangements), the treatment of the B Share issuance and the £8 billion Contingent B Shares (if required).
If the Group is unable to issue the Contingent B Shares to HM Treasury, it may have a material adverse impact on the Group’s capital position, liquidity, operating results and future prospects In the event that the Group’s Core Tier 1 capital ratio declines to below 5 per cent., HM Treasury is committed to subscribe for up to an additional £8 billion of Contingent B Shares if certain conditions are met. If such conditions are not met and are not waived by HM Treasury, and the Group is unable to issue the Contingent B Shares, the Group will be required to find alternative methods for achieving the requisite capital ratios. There can be no assurance that any of these alternative methods will be available or would be successful in increasing the Group’s capital ratios to the desired or requisite levels. If the Group is unable to issue the Contingent B Shares, the Group’s capital position, liquidity, operating results and future prospects will suffer, its credit ratings may drop, its ability to lend and access funding will be further limited and its cost of funding may increase. The occurrence of any or all of such events may cause the price of its securities to decline.
Dividends Payment dates Cumulative preference shares 31 May and 31 December 2012 30 March, 29 June, 28 September and 31 December 2012
Ex-dividend date Cumulative preference shares 2 May 2012 Record date Cumulative preference shares 4 May 2012
For further information on the payment of dividends, see page 471.
Shareholder enquiries Shareholdings in the company may be checked by visiting the ‘Shareholder information’ section of our website www.rbs.com/shareholder. You can also manage your shareholding online via the Investor Centre www.investorcentre.co.uk. You will need the shareholder reference number printed on your share certificate or tax voucher to gain access to this information.
Shareholders may also download forms from the ‘Shareholder information’ section of our website www.rbs.com/shareholder
Should you wish to donate your shares to charity in this way you should contact ShareGift for further information: ShareGift, The Orr Mackintosh Foundation 17 Carlton House Terrace, London SW1Y 5AH Telephone: +44 (0)20 7930 3737 www.sharegift.org
Trading market Non-cumulative dollar preference shares On 26 March 1997, 8 February 1999, 30 September 2004, 26 August 2004, 19 May 2005, 9 November 2005, 25 May 2006, 27 December 2006, 28 June 2007, 27 September 2007 and 4 October 2007, the company issued the following Series of American Depository Shares (ADSs) representing noncumulative dollar preference shares of the company, in the United States, of which the following were outstanding at 31 December 2011: 6,255,408 Series F ("Series F ADSs") representing 6,255,408 non-cumulative dollar preference shares, Series F; 9,687,654 Series H ("Series H ADSs") representing 9,687,654 non-cumulative dollar preference shares, Series H; 30,027,877 Series L ("Series L ADSs") representing 30,027,877 non-cumulative dollar preference shares, Series L; 23,125,869 Series M (“Series M ADSs”) representing 23,125,869 non-cumulative dollar preference shares, Series M; 22,113,160 Series N ("Series N ADSs") representing 22,113,160 non-cumulative dollar preference shares, Series N; 9,883,307 Series P ("Series P ADSs") representing 9,883,307 non-cumulative dollar preference shares, Series P; 20,646,938 Series Q ("Series Q ADSs") representing 20,646,938 non-cumulative dollar preference shares, Series Q; 10,163,932 Series R ("Series R ADSs") representing 10,163,932 non-cumulative dollar preference shares, Series R; 26,449,040 Series S ("Series S ADSs") representing 26,449,040 non-cumulative dollar preference shares, Series S; 51,245,839 Series T ("Series T ADSs") representing 51,245,839 non-cumulative dollar preference shares, Series T; and 10,130 Series U ("Series U ADSs") representing 10,130 non-cumulative dollar preference shares, Series U.
In May 2010, the Group redeemed certain subordinated debt securities and equity preference shares in exchange for cash or senior debt, resulting in the number of securities in issue reducing to the amounts shown above.
January 2012 High 8.71 2011: Q4 High 9.06 2011 High 15.83 Low 6.25 Low 5.36 Low 5.36
December 2011 High 7.12 2011: Q3 High 12.86 2010 High 17.30 Low 5.95 Low 6.43 Low 9.89 November 2011 High 7.44 2011: Q2 High 14.48 2009 High 18.95 Low 5.36 Low 11.34 Low 3.33 October 2011 High 9.06 2011: Q1 High 15.83 2008 High 149.05 Low 6.68 Low 12.40 Low 12.20 September 2011 High 8.32 2010: Q4 High 15.67 Low 6.76 Low 11.76 August 2011 High 11.16 2010: Q3 High 16.68 Low 6.43 Low 12.14 2010: Q2 High 17.30 Low 11.91 2010: Q1 High 13.61 Low 9.89
With effect from 7 November 2008, the ratio of one ADS representing one ordinary share changed to one ADS representing 20 ordinary shares. The prices in the table for 2008 were adjusted accordingly.
Non-cumulative preference shares of US$0.01 - Series E (redeemed January 2007) (1) — — — — — 0.04 - Series F (1) 1.91 1.19 1.06 1.22 1.04 0.96 - Series G (redeemed January 2007) (1) — — — — — 0.04 - Series H (1) 1.81 1.13 1.03 1.15 0.99 0.91 - Series K (redeemed January 2007) (1) — — — — — 0.04 - Series L (1) 1.44 0.90 0.86 0.92 0.78 0.72 - Series M (2) — — 0.26 1.02 0.89 0.80 - Series N (2) — — 0.26 1.01 0.88 0.79 - Series P (2) — — 0.25 0.99 0.87 0.78 - Series Q (2) — — 0.27 1.07 0.94 0.84 - Series R (2) — — 0.25 0.97 0.85 0.77 - Series S (2) — — 0.27 1.05 0.92 0.41 - Series T (2) — — 0.29 1.15 1.01 0.23 - Series U (2) — — 2,474 5,019 3,935 — Non-cumulative convertible preference shares of US$0.01 - Series 1 (1) 91.18 56.87 59.98 60.33 49.66 45.58 Non-cumulative preference shares of €0.01 - Series 1 (2) — — — 49.46 46.53 39.63 - Series 2 (2) — — — 46.00 41.79 35.52 - Series 3 (2) — — — 3,125 2,782 — Non-cumulative convertible preference shares of £0.01 - Series 1 (1) 118.48 73.87 73.87 73.87 73.87 73.87 Non-cumulative preference shares of £1
The Group has undertaken that, unless otherwise agreed with the European Commission, neither the company nor any of its direct or indirect subsidiaries (other than companies in the RBS Holdings N.V. group, which are subject to different restrictions) will pay external investors any dividends or coupons on existing hybrid capital instruments (including preference shares, B shares and upper and lower tier 2 instruments) from 30 April 2010 for a period of two years thereafter ("the Deferral period"), or exercise any call rights in relation to these capital instruments between 24 November 2009 and the end of the deferral period, unless there is a legal obligation to do so. Hybrid capital instruments issued after 24 November 2009 will generally not be subject to the restriction on dividend or coupon payments or call options.
Notes: (1) Each American Depository Share represents 20 ordinary shares. As discussed under Trading market, the American Depository Shares were issued in October 2007 and consequently did not receive any dividends prior to the final dividend in respect of 2007. (2) In 2008, the company issued new ordinary shares by way of a capitalisation issue rather than paying an interim dividend. (3) Final dividends were proposed in the indicated year and paid in the following year.
Taxation for US Holders The following discussion summarises certain US federal and UK tax consequences of the ownership and disposition of ordinary shares, ADSs representing ordinary shares (ordinary ADSs), ADSs representing noncumulative dollar preference shares (preference ADSs) or PROs by a beneficial owner that is a citizen or resident of the United States or that otherwise will be subject to US federal income tax on a net income basis in respect of the ordinary shares, ordinary ADSs, preference ADSs or PROs (a “US Holder”). This summary assumes that a US Holder is holding ordinary shares, ordinary ADSs, preference ADSs or PROs, as applicable, as capital assets. This summary does not address the tax consequences to a US Holder (i) that is resident (or, in the case of an individual, ordinarily resident) in the UK for UK tax purposes, (ii) that carries on a trade, profession or vocation through a branch, agency or permanent establishment in the UK in connection with which their ordinary shares, ordinary ADSs, preference ADSs or PROs are held, used or acquired, or (iii) generally, that is a corporation which alone or together with one or more associated companies, controls, directly or indirectly, 10% or more of the voting stock of the company, nor does this summary address the tax consequences to US Holders subject to special rules, such as certain financial institutions, dealers or traders in securities who use a mark-to-market method of tax accounting, persons holding ordinary shares, ordinary ADSs, preference ADSs or PROs as part of a hedging transaction, straddle, wash sale, conversion transaction or integrated transaction or persons entering into a constructive sale with respect to such securities, persons whose functional currency for US federal income tax purposes is not the US dollar, entities classified as partnerships for US federal income tax purposes, tax-exempt entities or persons that own or are deemed to own 10% or more of the voting stock of the company.
The following discussion assumes that the company is not, and will not become, a passive foreign investment company - see ‘Passive Foreign Investment Company (PFIC) considerations’ on page 475.
The company is not required to withhold UK tax at source from dividend payments it makes or from any amount (including any amounts in respect of accrued dividends) distributed by the company. US Holders who are not resident or ordinarily resident in the UK and who do not carry on a trade, profession or vocation in the UK through a branch, agency or permanent establishment in connection with which their ordinary shares, ordinary ADSs or preference ADSs are held, used or acquired will not be subject to UK tax in respect of any dividends received on the relevant shares or ADSs.
Subject to applicable limitations that may vary depending upon a holder's individual circumstances, dividends paid to certain non-corporate US Holders in taxable years beginning before 1 January 2013 will be taxable at a maximum tax rate of 15%. Non-corporate US Holders should consult their own tax advisers to determine whether they are subject to any special rules that limit their ability to be taxed at this favourable rate.
Taxation of capital gains A US Holder that is not resident (or, in the case of an individual, ordinarily resident) in the UK will not normally be liable for UK tax on capital gains realised on the disposition of an ordinary share, an ordinary ADS or a preference ADS unless at the time of the disposal, in the case of a corporate US Holder, such US Holder carries on a trade in the UK through a permanent establishment or, in the case of any other US Holder, such US Holder carries on a trade, profession or vocation in the UK through a branch or agency and, in each case, such ordinary share, ordinary ADS or preference ADS is or has been used, held or acquired by or for the purposes of such trade (or profession or vocation), carried on through such permanent establishment, branch or agency. Special rules apply to individuals who are temporarily not resident or ordinarily resident in the UK.
Taxation for US Holders continued PROs United States Payments of interest on a PRO (including any UK withholding tax, as to which see below) will constitute foreign source dividend income for US federal income tax purposes to the extent paid out of the current or accumulated earnings and profits of the company, as determined for US federal income tax purposes. Because the company does not maintain calculations of its earnings and profits under US federal income tax principles, it is expected that distributions will be reported to US Holders as dividends. Payments will not be eligible for the dividends-received deduction generally allowed to corporate US holders. A US Holder who is entitled under the Treaty to a refund of UK tax, if any, withheld on a payment will not be entitled to claim a foreign tax credit with respect to the refundable tax.
Subject to applicable limitations that may vary depending upon a holder's individual circumstances, dividends paid to certain non-corporate US Holders in taxable years beginning before 1 January 2013 will be taxable at a maximum tax rate of 15%. Non-corporate US Holders should consult their own tax advisers to determine whether they are subject to any special rules that limit their ability to be taxed at this favourable rate. A US Holder will, upon the sale, exchange or redemption of a PRO, generally recognise capital gain or loss for US federal income tax purposes (assuming that in the case of a redemption, such US Holder does not own, and is not deemed to own, any ordinary shares or ordinary ADSs of the company) in an amount equal to the difference between the amount realised (excluding any amount in respect of mandatory interest and any missed payments which are to be satisfied on a missed payment satisfaction date, which would be treated as ordinary income) and the US Holder's tax basis in the PRO.
withholding tax, US Holders may be able to recover the tax deducted under the Treaty. Any paying agent or other person by or through whom interest is paid to, or by whom interest is received on behalf of an individual, may be required to provide information in relation to the payment and the individual concerned to HM Revenue & Customs. HM Revenue & Customs may communicate this information to the tax authorities of other jurisdictions.
HM Revenue & Customs confirmed at around the time of the issue of the PROs that interest payments would not be treated as distributions for UK tax purposes by reason of (i) the fact that interest may be deferred under the terms of issue; or (ii) the undated nature of the PROs, provided that at the time an interest payment is made, the PROs are not held by a company which is 'associated' with the company or by a 'funded company'. A company will be associated with the company if, broadly speaking, it is part of the same group as the company. A company will be a 'funded company' for these purposes if there are arrangements involving that company being put in funds (directly or indirectly) by the company, or an entity associated with the company. In this respect, HM Revenue & Customs has confirmed that a company holding an interest in the PROs which incidentally has banking facilities with any company associated with the company will not be a 'funded company' by virtue of such facilities.
Inheritance tax In relation to PROs held through Depository Trust Company (DTC) (or any other clearing system), the UK inheritance tax position is not free from doubt in respect of a lifetime transfer, or death of, a US Holder who is not domiciled nor deemed to be domiciled in the UK for inheritance tax purposes; HM Revenue & Customs is known to consider that the situs of securities held in this manner is not necessarily determined by the place where the securities are registered. In appropriate circumstances, there may be a charge to UK inheritance tax as a result of a lifetime transfer at less than market value by, or on the death of, such US Holder. Inheritance tax is not generally chargeable on gifts to individuals made more than seven years before the death of the donor. However, exemption from, or a reduction of, any such UK tax liability may be available under the Estate Tax Treaty (see below). US Holders should consult their professional advisers in relation to such potential liability. PROs beneficially owned by an individual, whose domicile is determined to be the United States for the purposes of the Estate Tax Treaty and who is not a national of the UK, will not be subject to UK inheritance tax on the individual's death or on a lifetime transfer of the PRO, except in certain cases where the PRO (i) is comprised in a settlement (unless, at the time of the settlement, the settlor was domiciled in the United States and was not a national of the UK); (ii) is part of the business property of a UK permanent establishment of an enterprise; or (iii) pertains to a UK fixed base of an individual used for the performance of independent personal services. The Estate Tax Treaty generally provides a credit against US federal estate or gift tax liability for the amount of any tax paid in the UK in a case where the PRO is subject to both UK inheritance tax and US federal estate or gift tax.
There are no restrictions under the Articles of Association of the company or under UK law, as currently in effect, which limit the right of non-UK resident owners to hold or, when entitled to vote, freely to vote the company's securities.
Memorandum and Articles of Association The company's Memorandum and Articles of Association as in effect at the date of this annual report are registered with the Registrar of Companies of Scotland. The Articles of Association were last amended on 19 April 2011. Copies can be obtained from Companies House in the UK or from the Group’s website (www.rbs.com).
Incorporation and registration The company was incorporated and registered in Scotland under the Companies Act 1948 as a limited company on 25 March 1968 under the name National and Commercial Banking Group Limited, and changed its name to The Royal Bank of Scotland Group Limited on 3 September 1979. On 10 March 1982 it was re-registered under the Companies Acts 1948 to 1980 as a public company with limited liability. The company is registered under Company No. SC45551.
Bank levy - a levy that applies to certain UK banks, building societies and the UK operations of foreign banks from 1 January 2011. The levy is payable based on a percentage of the chargeable equity and liabilities of the bank as at the balance sheet date.
Basel II - the capital adequacy framework issued by the Basel Committee on Banking Supervision in June 2006 in the form of the ‘International Convergence of Capital Measurement and Capital Standards’.
Commercial paper conduit - a special purpose entity that issues commercial paper and uses the proceeds to purchase or fund a pool of assets. The commercial paper is secured on the assets and is redeemed either by further commercial paper issuance, repayment of assets or liquidity drawings.
Credit enhancements - techniques that improve the credit standing of financial obligations; generally those issued by an SPE in a securitisation. External credit enhancements include financial guarantees and letters of credit from third-party providers. Internal enhancements include excess spread - the difference between the interest rate received on the underlying portfolio and the coupon on the issued securities; and overcollateralisation - on securitisation, the value of the underlying portfolio is greater than the securities issued.
Credit risk - the risk that the Group will incur losses owing to the failure of customers to meet their financial obligations to the Group.
Credit risk mitigation - techniques such as the taking of collateral or obtaining a guarantee or other form of credit protection from a related or third party that reduce the credit risk associated with an exposure.
Credit risk spread - the difference between the coupon on a debt instrument and the benchmark or the risk-free interest rate for the instrument's maturity structure. It is the premium over the risk-free rate required by the market for the credit quality of a particular debt instrument.
Glossary of terms continued Currency swap - an arrangement in which two parties exchange specific principal amounts of different currencies at inception and subsequently interest payments on the principal amounts. Often, one party will pay a fixed rate of interest, while the other will pay a floating rate (though there are also fixed-fixed and floating-floating arrangements). At the maturity of the swap, the principal amounts are usually re-exchanged.
Forbearance - the term generally applied to an agreement, principally in relation to secured loans with retail customers experiencing temporary financial difficulty, to a payment moratorium, to reduced repayments or to roll up arrears. Forbearance loans are a subset of Renegotiated loans.
Futures contract - a contract which provides for the future delivery (or acceptance of delivery) of some type of financial instrument or commodity under terms established at the outset. Futures differ from forward contracts in that they are traded on recognised exchanges and rarely result in actual delivery; most contracts are closed out prior to maturity by acquisition of an offsetting position.
Guaranteed mortgages - mortgages guaranteed by a government or government agency. In the US, government loan guarantee programmes are offered by the Federal Housing Administration, the Department of Veterans Affairs and the Department of Agriculture's Rural Housing Service. In the Netherlands, the Gemeentegarantie programme is run partly by the central government and partly by the municipalities.
Home equity loan - a type of loan in which the borrower uses the equity in their home as collateral. A home equity loan creates a charge against the borrower's house.
Glossary of terms continued Impairment allowance - see Loan impairment provisions.
Insurance risk - the risk of financial loss through fluctuations in the timing, frequency and/or severity of insured events, relative to the expectations at the time of underwriting.
Level 3: valuation technique with significant unobservable inputs - level 3 financial instruments are valued using a valuation technique where at least one input which could have a significant effect on the instrument’s valuation, is not based on observable market data. Where inputs can be observed from market data without undue cost and effort, the observed input is used. Otherwise, the Group determines a reasonable level for the input. Level 3 financial instruments include cash instruments which trade infrequently, certain syndicated and commercial mortgage loans, unlisted equity shares, certain residual interests in securitisations, super senior tranches of high grade and mezzanine CDOs, other mortgage-based products and less liquid debt securities, certain structured debt securities in issue, and OTC derivatives where valuation depends upon unobservable inputs such as certain credit and exotic derivatives.
Liquidity coverage ratio (LCR) - the ratio of the stock of high quality liquid assets to expected net cash outflows over the following 30 days. Highquality liquid assets should be unencumbered, liquid in markets during a time of stress and, ideally, be central bank eligible. These include, for example, cash and claims on central governments and central banks. The Basel III rules require this ratio to be at least 100% and it is expected to apply from 2015.
Loan-to-deposit ratio - the ratio of loans and advances to customers net of provision for impairment losses and excluding reverse repurchase agreements to customer deposits excluding repurchase agreements.
Market risk - the risk that the value of an asset or liability may change as a result of a change in market factors such as foreign exchange rates and commodity prices, interest rates, credit spreads and equity prices.
Net stable funding ratio (NSFR) - introduced by Basel III, the NSFR is the ratio of available stable funding to required stable funding over a one year time horizon, assuming a stressed scenario. The ratio is required to be over 100% with effect from 2015. Available stable funding would include such items as equity capital, preferred stock with a maturity of over one year and liabilities with a maturity of over one year. The required amount of stable funding is calculated as the sum of the value of the assets held and funded by the institution, multiplied by a specific required stable funding factor assigned to each particular asset type, added to the amount of potential liquidity exposure multiplied by the associated required stable funding factor. The NSFR is subject to an observation period and to review to address any unintended consequences.
Private equity investments - equity investments in operating companies not quoted on a public exchange. Capital for private equity investment is raised from retail or institutional investors and used to fund investment strategies such as leveraged buyouts, venture capital, growth capital, distressed investments and mezzanine capital.
Renegotiated loans - loans are generally renegotiated either as part of the ongoing banking relationship with a creditworthy customer or in response to a borrower's financial difficulties. In the latter case, renegotiation encompasses not only revisions to the terms of a loan such as a maturity extension, a payment moratorium, a concessionary rate of interest but also the restructuring of all or part of the exposure including debt forgiveness or a debt for equity swap. Loans renegotiated as part of the ongoing banking relationship with a creditworthy customer are treated as new loans.
Retail loans - loans made to individuals rather than institutions. The loans may be for car purchases, home purchases, medical care, home repair, holidays and other consumer uses.
Student loan related assets - assets that are referenced to underlying student loans.
Subordinated liabilities - liabilities which, in the event of insolvency or liquidation of the issuer, are subordinated to the claims of depositors and other creditors of the issuer.
Tangible net asset value (TNAV) - owners’ equity attributable to ordinary and B shareholders less intangible assets divided by the number of ordinary and B shares in issue.
Accounting Accounting developments 325 Accounting policies 314 Critical accounting policies 323
Business divestments Business review 37 Notes on the consolidated accounts 376
Cash flow statement Business review 94 Consolidated 313 Notes on the consolidated accounts 409, 410 Parent company 423 Parent company notes 430, 431
Corporate governance Compliance with the UK Corporate Governance Code 296 Risk management 17 The Board and its committees 252
Debt securities in issue Risk and balance sheet management 175 Notes on the consolidated accounts 368
Financial instruments Accounting policies 318 Critical accounting policies 324 Notes on the consolidated accounts 340
Goodwill Accounting policies 316 Notes on the consolidated accounts 370, 415
Impairment Accounting policies 319 Business review 58 Critical accounting policies 323 Notes on the consolidated accounts 364
Loans and advances Loans and advances to banks 340 Loans and advances to customers 340
Operating expenses Business review 55 Notes on the consolidated accounts 329
Parent company Balance sheet 420 Cash flow statement 423 Income statement 424 Statement of changes in equity 421 Statement of comprehensive income 424 Notes 424
Risk and balance sheet management Business risk 244 Capital management 110 Compliance risk 239 Country risk 208 Credit risk 134 Equity risk 133 Insurance risk 236 Interest rate risk 131 Liquidity and funding risk 116 Market risk 229 Operational risk 236 Pension risk 245 Reputational risk 244 Structural foreign currency exposures 133
Citizens Citizens Financial Group, Inc. One Citizens Plaza Providence RI 02903 USA
Ulster Bank 11-16 Donegall Square East Belfast BT1 5UB George's Quay Dublin 2
Direct Line Insurance (formerly RBS Insurance) Churchill Court Westmoreland Road Bromley Kent BR1 1DP