01 Essential reading 02 Our Core businesses 04 Our approach to business 06 Our customers 08 How our businesses work together 09 Our business and our strategy 09 Chairman’s statement 10 Group Chief Executive’s review 12 Q&As on progress 13 Our key targets 14 Progress on our Strategic Plan 16 The economic environment 17 Our approach to risk management 19 Divisional review 20 UK Retail 21 UK Corporate 22 Wealth 23 Global Transaction Services 24 Ulster Bank 25 US Retail & Commercial 26 Global Banking & Markets 27 RBS Insurance 28 Business Services and Central Functions 29 Non-Core Division 30 Sustainability 30 Sustainability principles 31 Our five key themes 31 RBS in the community 32 Business review 250 Governance 305 Financial statements 432 Additional information 465 Shareholder information
RBS has completed the first three years of its recovery plan. Over that period, the Group’s results across our key goals – customers, risk and value – have shown good progress against the plan targets we put together in 2009. But there is plenty more we still have to do.
(1) Operating profit before tax, movements in the fair value of own debt, Asset Protection Scheme, Payment Protection Insurance costs, sovereign debt impairment and related interest rate hedge adjustments, amortisation of purchased intangible assets, integration and restructuring costs, gain on redemption of own debt, strategic disposals, bonus tax, bank levy, writedown of goodwill and other intangible assets and RFS Holdings minority interest.
We helped 18,000 first-time buyers into new homes in the UK
We provided more than 40p in every £1 lent to UK small and medium-sized businesses
Our free online protection software has been downloaded over 6.4 million times
We are a leading provider of banking, finance and risk management services to the corporate and SME (small and medium-sized enterprise) sector in the United Kingdom. We offer a full range of banking products and related financial services.
see page 20 for further information see page 21 for further information
RBS is rooted in the UK but we serve personal, business and institutional customers around the world. Our businesses are strong players in the markets in which we compete. As a Group, the businesses are stronger together than apart, to the benefit of customers and shareholders.
Note: Excluding RBS Insurance, unallocated central items and one-off and other items.
In January 2012, we announced the restructuring of our wholesale businesses into ‘Markets’ and ‘International Banking’.
Our International Banking division includes what had been the Global Banking & Markets corporate banking business and the international elements of what had been Global Transaction Services.
We have three over-riding goals: • to serve customers well; • to restore RBS to a sustainable and conservative risk profile; and
There are important inter-dependencies between these goals. We cannot serve customers well if the Group is not safer and more resilient. We cannot be sustainable without rebuilding shareholder value. And we cannot rebuild shareholder value if we do not serve customers well. So while each of these goals is important on its own, we will succeed only if we consistently achieve them together.
Serving our customers well is the cornerstone of our strategy. We have embedded it in our operational objectives, our Customer Charters and in our ‘How we do business’ framework, which we describe on these pages. Because serving customers well matters to us, we measure how we are doing. We are encouraged that in most of our core franchises we made gains on a variety of measures in 2011. But we are not complacent. Our customers’ needs change over time and good service today does not guarantee good service tomorrow. We face strong competitors in all of our markets. So, we work hard to improve the service we give our customers.
We deliver products and services to millions of customers around the world. So it is important that we are consistent in the way we do business – from how we manage our risks, to how we treat our customers and our employees. To achieve this, we have made six statements about how we aspire to do business. We do not always match our aspirations but these are the standards we set ourselves. These relate to: our customers, our people, our reputation, the security of our environment, the risks we take, and our finances.
Reputation We conduct ourselves in a way that protects our reputation
We deliver essential customer services and critical business processes at all timesSecurity We operate in a secure environment
We identify and manage the level of risk we are prepared to take
Helping customers raise money At its simplest, banking involves giving people who have cash today that they do not want to spend – savers – a safe place to put their money and recycling those resources to people who need to buy or invest but who do not have ready access to cash – borrowers. Our deposit products attract cash from savers. We use that to fund our lending. For example: • credit cards and loans cover smaller lending needs; and
Larger organisations and governments can have more complex needs and for them we provide access, for example, to capital markets.
Providing financial advice Our experienced personal, private and small business banking advisors are on hand to help customers make prudent financial decisions.
UK Retail supported the introduction of internet and mobile banking in Ireland by Ulster Bank.
UK Corporate made 3,000 mortgage referrals to Private Banking & Advice in UK Retail.
Our businesses are strong players in the markets in which we compete. As a Group, the businesses are stronger together than apart, to the benefit of customers and shareholders.
It is the Board’s view that running the business on commercial grounds is the best way to make the bank safer and more valuable for everyone who depends upon it. I do not believe there is a workable alternative if our aim is to provide the opportunity for the UK government to sell its shares in the public markets in a reasonable timescale.
Core bank operating profits were £6.1 billion. Within this total, operating profits in 2011 across RBS’s Retail and Commercial business (excluding Ulster Bank) were up 9% to £4.9 billion. RBS Insurance turned loss into profit, a £749 million improvement on 2010. GBM suffered a 54% fall in profit to £1.6 billion, reflecting tough market conditions, but still a substantial result and one generally in line with other investment banking businesses. Non-Core losses declined 24% to £4.2 billion as the risk run-off continued ahead of schedule. Exceptional charges for past business associated with PPI and Greek write-downs were also taken. £3.8 billion was handed over to HMT/HMRC/Bank of England in fees for APS/Credit Guarantee Scheme, taxes (both on our behalf and on that of our employees) and capital support schemes.
RBS has completed the first three years of its recovery plan. Over that period the Bank’s results across our key goals – Customers, Risk and Value – have exceeded the Plan targets we put together in 2009. This is pleasing and puts the Bank in a vastly better position than before to serve our different constituencies.
RBS has therefore adjusted its business plan to target a still more conservative capital and funding structure overall in order to meet current and prospective market and regulatory challenges. This also includes further reduction in balance sheet, capital usage and expense base in the investment banking area, including exit of the cash equities business, reduction of the Group’s fixed income markets balance sheet and combination of its international corporate banking businesses. We expect these moves to make the client proposition in our wholesale businesses more focused, and so stronger and more sustainable. It will improve the stability of their funding and their prospects for an improved return on equity.
These enduring principles – around Customer, Risk and Shareholder – continue to drive our strategy. The actions they give rise to should enable RBS to prosper over the long term as a leading international bank, anchored firmly in the UK and serving customers, shareholders and society well.
Concluding remarks In this letter a year ago I re-affirmed the path ahead for RBS and how we planned to travel down it. I am pleased to say we remain on that track.
I thank our staff and all our stakeholders for their continued support.
• to restore the Bank to a sustainable and conservative risk profile
Market conditions and regulatory changes, including the Independent Commission on Banking, adversely affected the outlook for our wholesale business as it was structured.
As a result, we announced in January 2012 that we will exit from business areas that are unprofitable and where we have weaker customer positions. We are also scaling back resources in areas where market developments threaten our ability to fund ourselves sustainably and profitably.
We are restructuring our pre-existing GBM and GTS businesses. The result will be: • a Markets business serving the clients of all Group businesses; • an International Banking unit which will incorporate the existing GBM corporate banking business with the international elements of the existing GTS business; and
It remains the Group's ambition to get back to being a safe, normal company. Our intention is to do so as soon as practicable. Economic headwinds currently point to a slower recovery with interest rates low for longer than previously expected. This, together with stringent regulatory changes, means that it could take longer to reach some of our strategic plan targets than we had previously expected.
We remain confident of unlocking the performance potential in our underlying franchises and earning a return for our shareholders above the cost of capital in the medium-term.
Further consideration should be given to the Dividend Access Share held by the UK Government. This commands a dividend on the B shares it owns at the higher of 7%, or 2.5 times the ordinary dividend. This could be a barrier to resuming ordinary dividends in the near-term and could be subject to a discussion with the Government at some time in future.
The level of Group impairments, excluding Greek sovereign debt impairment, fell by 20% in 2011, reflecting our risk reduction efforts and steady underlying improvements in the economic environment. Clearly challenges remain across the economies we serve. As a consequence we remain cautious on future improvements in impairment trends.
The net interest margin in our Retail & Commercial businesses increased by seven basis points in 2011. The expansion was supported by a recovery in asset margins across a number of our businesses. Countering this, liability margins have remained under pressure, reflecting the increasing cost of wholesale funding and strong competition for customer deposits.
We clearly have significant exposure to the Republic of Ireland’s economy through Ulster Bank where total lending was £48.5 billion at 31 December 2011. We remain committed to our core Ulster Bank franchise but have placed £14 billion of loans in our Non-Core division. We are managing this portfolio down over time and, where assets are currently nonperforming, they are being appropriately provisioned.
When we speak to our investors, some questions are asked more often than others. Below we provide a selection of those frequently asked questions and answers.
Key performance indicator Why? How are we doing? Original 2013 target Revised medium-term target
We cannot achieve our ROE target without cost control and margin re-pricing to ensure income is generated efficiently.
We need a strong capital ratio to meet society’s expectations of a safer banking system.
RBS to be based on enduring customer franchises, with each business capable of generating a sustainable return in excess of its cost of equity (>12%)
RBS to deliver its strategy from a stable risk profile and balance sheet, with each banking business self-funding (1:1 loan:deposit ratio)
The chosen business mix to produce an attractive blend of profitability, stability and sustainable growth
Cost control Deliver on the Group’s cost programmes, whilst making essential investments in our businesses. Achieve a cost:income ratio that places RBS among the most efficient of its global peers.
Funding programme Limit over-reliance on wholesale markets to meet the Group’s funding requirements, while building up an appropriate liquidity reserve. Generate a stable deposit base to fund each business.
Focused on retail and commercial banking Activity focused on UK, US and Ireland and supported by significant business investment plans.
Set customer franchise targets for every business Maintain excellent customer service as a core objective of the Group, now defined with reference to a series of targets.
Management change At the centre of its efforts to rebuild the Group, RBS is dedicated to maintaining the strength of its Board and senior management teams.
All our principal Core businesses sustain positions amongst the leaders in their markets.
2011 was a challenging year, as economic conditions in many of the markets the Group operated in deteriorated from 2010. However, our Core Retail & Commercial businesses remained resilient, with income broadly flat compared with 2010 (adjusting for the sale of Global Merchant Services in November 2010).
Each core business is being reshaped to provide improved and, importantly, enduring performance and, we believe, will be strongly positioned to achieve income growth as world markets and economies normalise.
The Group’s cost reduction programme delivered over £3 billion of annualised cost savings by the end of 2011, ahead of where we expected to be by 2013. Lower programme spend than originally projected has allowed us to reinvest savings into enhancing systems infrastructure to support improvements in customer service, enhance product offerings and respond to regulatory changes.
The Core cost:income ratio was 60% for 2011, slightly higher than 2010, reflecting weaker income performance in GBM, but significantly down from a peak of 97% in 2008.
The Group has clearly defined targets for the medium-term, updated to reflect the changed economic and regulatory environment since the introduction of our strategic plan in 2009. Therefore, in the medium term, each of our businesses will be expected to more than cover its cost of equity in line with the overall Group target of >12%, be self-funded, have a targeted average cost:income ratio of between 50 – 55% and to operate within the bounds of an appropriate risk appetite. Divisional progress will continue to be monitored.
The Group’s funded balance sheet fell to £977 billion in 2011. Non-Core reduced its funded assets to £94 billion, ahead of the £96 billion target set for the year. Non-Core’s funded balance sheet has reduced by 64% from the December 2008 portfolio of £258 billion.
We continued to reduce our reliance on short-term wholesale funding. Excluding derivatives collateral, short-term wholesale funding fell from £130 billion in 2010 to £102 billion by the end of 2011.
Retail and commercial businesses generated 64% of the Core operating profit for 2011. We announced in January 2012 that we are restructuring our wholesale businesses in light of the emergence of significant new pressures since the 2009 Strategic Plan was agreed. This restructure will increase our focus on our retail and commercial businesses in the UK, US and Ireland.
GBM operating profit fell by 54% in 2011 compared with 2010, with the year characterised by volatile and deteriorating, credit markets, as the European sovereign debt crisis worsened. GBM operating profit represented 26% of Core Group operating profit for 2011. The wholesale restructure announced in January 2012 seeks to prioritise our resources on those businesses where we are best placed with our customers and can operate most profitably for shareholders.
In 2011, Non-Core also focused on accelerating its de-risking programme and reducing capital exposures to help improve the financial resilience of the Group as a whole.
Performance against the Group’s strategy, can be tracked at our rbs.com website.
We continue to track customer satisfaction scores and market position metrics for each of our core businesses and target improvements. We believe we are making progress, but there is still much we need to achieve, and providing our customers consistently high quality service remains a key priority in our Strategic Plan.
During 2011, the Group appointed three new non-executive directors to the Board. Alison Davies and Baroness Noakes were appointed with effect from 1 August 2011 and are now members of the Group Remuneration Committee and Group Audit Committee respectively. Tony Di Iorio was appointed with effect from 1 September 2011 and is now a member of the Group Audit Committee and Board Risk Committee.
We are committed to restoring the Group to a sustainable and conservative risk profile. The RBS risk management framework, and our risk management teams, are clearly aligned with this Group priority. For an overview of how this is working in practice, see pages 17 and 18.
Keep up with our latest economic research and analysis at www.rbs.com/economics
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 the UK, growth weakened. Total economic activity, as measured by gross domestic product (GDP), grew by 0.8% compared with 2.1% in 2010. At the start of the year, expectations had been more positive, the consensus forecast for growth having been 2.1%. Yet the year ended with the economy contracting.
Unemployment rose sharply, from less than 8% in mid-year to 8.4% in December. Wage growth was subdued and inflation reduced the spending power of earnings.
Against this backdrop, the Bank of England continued its ultra-loose monetary policy stance. Despite persistently above-target inflation, interest rates remained unchanged at a record low of 0.5%, the Bank judging elevated inflation to be the result of temporary factors. In fact, its greater concern was that the weak economy would cause inflation to be too low and in October, the Monetary Policy Committee announced that it would increase its asset purchase programme by £75 billion.
In the United States, GDP growth slowed to 1.7% compared with 3.0% in 2010. Unlike the UK, however, growth accelerated as the year progressed. Unemployment began to fall, although at 8.5% in December it was high compared with previous recoveries.
However, it will take political will and public support to manage the immediate risk of defaults and to tackle the root causes of the acute challenges that have accumulated since the establishment of the single currency in 1999.
Absent the worst outcome for the euro area – a default that cannot be contained in one country and its banking system – growth in our main economies in 2012 will be slow as households and governments continue to labour under substantial debt burdens.
Sources: National statistical agencies Note: Republic of Ireland is first three quarters of 2011 versus first three quarters of 2010
These strategic risk objectives link the Group’s business strategy to the way we set risk appetite and manage risk in our business.
Can include concentration risk – the risk of loss due to the concentration of credit risk to a specific product/asset class, sector or counterparty.
Compliance risk The risk arising from non-compliance with national and international laws, rules and regulations.
Can arise from actions taken by the Group or a failure to take action.
Business risk The risk of lower-than-expected revenues and/or higherthan -expected operating costs.
Pension risk The risk that the Group will have to make additional contributions to its defined benefit pension schemes.
In 2010, we made a public commitment to become the UK’s most Helpful and Sustainable Bank. As part of this, we launched our Customer Charter – a set of specific commitments based on what our customers told us they wanted from their bank. We also pledged to be open and honest about our progress and to publish independently assessed reports along the way.
The results have confirmed that we continued to make strong progress in 2011, meeting 23 of the 25 goals we set ourselves.
• We served 88% of customers in our branches in less than five minutes.
• By November, we had more than 1,200 branches open on Saturdays.
Our commitment to Helpful Banking means we are working to make our customers’ lives easier.
While improvements to our service processes are important, we know that it is our people who deliver Helpful Banking. Helpful employees are professional, proactive and caring. Their job is to make things simple for their customers. As a result of changes we've made in our hiring approach, we will now specifically recruit people who behave like this and reward them for being helpful. We looked closely at how we run our local branches and decided to restructure our business to give more power back to people in each local area. Our local CEOs can now make decisions that they believe are right for their customers and communities.
Impairments fell by 32% to £788 million, in part because of improvements we had made to our risk profile.
Expenses declined by 6%. We began to benefit from a clear management focus on process re-engineering and operational efficiency. As a result, our cost:income ratio improved from 53% to 49%.
Our ‘Working with You’ initiative commits our Business and Commercial relationship managers, and their leaders, to spend at least two days each year working in our customers’ businesses. That helps us to see customers’ challenges through their eyes and understand their ambitions. We use that knowledge to tailor the support and expertise we provide. Between June and the end of the year, we carried out over 4,600 of these visits.
We launched our relationship manager accreditation programme, endorsed by the Chartered Banker Institute, to improve our people’s knowledge and professionalism. By the end of 2011, most of our relationship managers had gained full accreditation under the initial phase of the programme.
• partnering with Capital Enterprise and the London Mayor’s office to sponsor business boot camps, providing intensive support to budding entrepreneurs.
For established businesses, we: • made £100 million of new loans available through our Franchise Fund; • gave businesses access to £1 billion in the fourth quarter through Lombard’s UK Capital Expenditure Fund; and
• led the league tables in debt capital markets and loan markets in deals done for larger corporates.
In February 2010, we signed a lending agreement with the UK Government. Under Project Merlin, UK Corporate, GBM, Ulster Bank and Wealth contributed to the total gross new lending extended to UK businesses in 2011. We increased total gross new lending to businesses by 22% in 2011 compared with 2010, with lending to SME customers up by 4%, exceeding our Merlin intentions. RBS accounted for well over 40% of Merlin SME lending, above our market share.
Auto Decisions uses external risk data to improve the quality and consistency of our decisions for smaller value transactions. We also reduced our real estate exposure.
Impairments grew by 3% to £785 million due mainly to increased specific impairments.
• Cosmopolitan – they will find us in many of the world’s great cities, old and new.
• Connected – we operate across much of the globe and our increasingly sophisticated technology allows clients to reach us and us to serve them.
With Avaloq, we will have a single source of information about clients. That allows us to work more effectively as a team. More importantly, it should free resources so that we can devote more time to the personal service clients value.
We know that many of tomorrow’s clients will be entrepreneurs. That means we need to understand what makes them tick. And they need to know we are committed to them and celebrate their achievements.
• Our report on the role of non-executive directors was another stage in our thought leadership activities.
• Coutts’ refreshed brand expresses our very special way of working and thinking. It communicates the history and heritage of
Assets under management declined 9%, with fund outflows contributing 3% of the decrease and market conditions making up the balance.
Global Transaction Services (GTS) enables customers to make and receive payments, manage their cash and liquidity, and to trade internationally. We process around 4.3 billion worldwide payments per year and deliver 3,800 global trade transactions daily. Our global banking network is present in 36 countries.
An important part of serving our customers well lies in product innovation.
• Our Global Liquidity Solutions Portal helps Corporate Treasurers to manage their global cash positions. It gives our customers a view of their operational and investment balances and rates, enabling them to execute and redeem investments.
One way in which GTS is playing its part in building a sustainable risk profile for the Group is by gathering customer deposits, which grew by 3% to £71.7 billion. Our loan:deposit ratio increased slightly but remained at a low 22%. Our success in boosting deposits reflected product innovations such as a 95-day deposit account; yield call deposit accounts; and growth deposit accounts for our corporate and financial institution clients.
In January 2012, we reaffirmed our commitment to transaction banking. The international elements of the existing GTS business will form part of our International Banking unit. Domestic corporate customers, currently served by GTS, will be managed by our domestic corporate banking businesses in the UK, Ireland and the US.
We developed our Customer Commitments to deliver a more helpful banking service and we measure how we perform against these.
• We supported 20,000 customers with revised repayment arrangements through Flex, our debt management service.
Impairment losses increased by 19%. This largely reflects the deterioration in credit metrics on the mortgage portfolio driven by a combination of higher debt flow and further falls in asset prices.
Risk-weighted assets increased by 15% with the deterioration in credit risk metrics.
In 2011, we continued to position our company to help our customers, colleagues and communities prosper. We view that as our purpose for being in business, and our team has taken significant steps to help us achieve this goal.
We are intent on providing customers with a superior experience. That’s why we introduced our Customer Commitments, built around feedback from our customers. Our four core commitments are: • we listen and get to know you; • we value your time and business; • we put you in control; and
Our colleagues are bringing these commitments to life. YourPlace Banking brings the bank right to our customers and helps them manage their money. It provides financial education, financial reviews and planning tools. This smart, no-cost feature gives customers convenient access to banking where and how they want it.
We also took steps to become more effective and efficient. We formed a Consumer Banking division by combining our retail and consumer lending businesses. This new structure supports ongoing efforts to become our customers’ primary bank.
• We increased the number of customers who bank with us online, a key driver of customer retention.
• Our retail customer satisfaction scores remain higher than the average of our peer group.
• As at 31 December 2011, Citizens Financial Group’s Tier 1 Common Capital ratio of 13.85% ranked at the top of its peer group.
Operating profit increased by 57% to £479 million. Net interest income fell by 1%. Net interest margin improved by 21 basis points to 3.06% reflecting changes in deposit mix, continued discipline around deposit pricing and the positive impact from the balance sheet restructuring programme combined with strong commercial loan growth.
We plan to build on the progress we have made by focusing our efforts on five priorities.
We believe this will position us to create even more value for our customers, colleagues and communities and live our brand, which emphasises that “good banking is good citizenship.”
Market conditions were difficult in 2011. We focused on giving our clients the solutions they needed. Sometimes we did that by changing how we work to best serve our clients and we also harnessed new technologies. We maintained leading positions in our chosen markets.
We worked closely with our clients to help them build their businesses and create value for their own customers.
The Housing Finance Corporation (HFC) makes loans to housing associations that provide affordable houses to tenants. We helped the HFC to take advantage of low borrowing costs through the sale of a 32-year bond. The HFC lent the money to seven housing associations so that they could fund affordable housing.
Heathrow is one of the world’s busiest airports. With our help, BAA, its operator, raised US$1 billion to invest in improvements. This was the first bond the company had sold in US dollars and the first secured UK corporate transaction in US dollars.
In China, we raised capital for our clients in the Hong Kong renminbi bond market and enhanced the products we offer in this offshore currency so that we can take advantage of its increasing use. The Chinese weekly newspaper, The Economic Observer named us Best Offshore RMB House.
Our customers valued the work we did for them and rewarded us accordingly. We were named Global Securitisation House of the Year and EMEA Loan House of the Year by the International Financing Review. We also achieved number one rankings in sterling denominated bonds (Dealogic), in global e-trading of high-frequency accounts (Euromoney FX Survey) and in US dollar/sterling foreign exchange options (Risk Interdealer).
We reduced our reliance on unsecured funding. Third party assets fell from £396.7 billion in 2010 to £361.7 billion. The 3% increase in risk-weighted assets reflected the impact of regulatory changes, largely offset by risk management and efficient capital deployment.
Operating profit fell by 54% to £1,561 million, driven by a 25% decline in revenue, much of this reflecting the deterioration in credit markets in the second half of the year as the European sovereign debt crisis intensified. Our return on equity was 7.7%, down from
Whether it's a major flooding event, a snow storm in winter, an earthquake or an erupting volcano, our combined efforts make us experts in dealing with crises. Last year we were on the ground in Tottenham just a few days after it was hit by the riots to share our expertise with those in need, and we made sure, via constituency MPs, that those affected in other areas knew the best way to submit their claims.
NIG, our commercial broker business, increased its gross written premium by 4% compared with 2010. They also unveiled a new brand identity, which underpinned the work they have done to improve their product offering and service to brokers within their key segments. Direct Line for Business, our direct SME insurer, continued to perform well, achieving 100,000 policies for its residential property owners’ product.
We also serve our customers by campaigning on important issues. During the year, we: • continued our work with Brake, the road safety charity, and commissioned reports which we hope will reduce road deaths and injuries; • sponsored Brake’s Parliamentarian of the Year Award for MPs who campaign on road safety; and
We continued to enhance our efficiency: • combining our four legal underwriting identities into one; • exiting seven more sites, bringing our total exited to 15 since 2010; and
• restructuring our Green Flag rescue service, enabling members to benefit from greater visibility of the Green Flag brand on UK roads.
Operating profit rose by £749 million in 2011, principally due to the non-repeat of the bodily injury reserve strengthening in 2010, derisking of the motor book, exit of certain business segments and more benign weather in 2011. Gross written premium fell by 5% as we reduced volumes in unattractive markets. Our return on equity was 10.3% compared with a loss of 6.8% in 2010.
We continued to make good progress on plans to divest from the RBS Group, in line with the obligation to meet the European Commission’s divestment deadline. This includes preparing the standalone systems and functions that will be required as a separate business.
Business Services provides services that allow the rest of RBS to concentrate on serving our customers.
• Our property team helped to develop the new counter design.
• Our legal teams made sure the branch was accessible to all customers.
What’s more, we delivered the new branch from a blank shell in 11 weeks and under budget.
The feedback from customers and employees alike has been positive. The Westfield branch showcases a new approach to branch banking and it complements other things we are doing to work together, helping UK Retail to meet their Customer Charter promises.
Building sustainable value We helped the Group to reduce its costs.
• Our new telephony system has already reduced costs by more than £86 million.
From property to technology and mobile banking to smarter ways of working in operations, Business Services looks to innovate continuously, finding solutions that improve the service our customers receive and helping the Group control its costs.
Risk Management Risk Management owns and develops the risk management frameworks and tools which the Group uses. It oversees the identification and management of risks. In 2011, the Group adopted its risk appetite framework and we began to embed Economic Capital and Stress Testing into our Annual Business Planning cycle.
Human resources HR is responsible for creating performance through people and sets the strategic agenda for recruitment, development and remuneration. In 2011, we heard from 81% of our workforce through our global annual opinion survey, successfully hired hundreds of new graduates and delivered over 150 restructure projects globally across 39 jurisdictions.
Communications Communications manages our relationships with external stakeholders and makes sure we keep our employees informed about developments in the business. RBS wants to be open to stakeholders and, during the year, Communications helped elected officials, commentators and others gain a better understanding of our business and our plans.
We sold £22 billion of third party assets (TPAs) and negotiated the repayment of £22 billion of TPAs. This balance of asset sales and run-off means that we are not dependent on one way of reducing assets. That has been important in difficult market conditions.
We reduced our derivatives portfolio by £5 billion to £11 billion. It was £85 billion at the start of 2009.
Our impairments fell again. That reflected the reduction in assets as well as how we managed the remaining portfolio. Although we faced challenges in our real estate and Ulster Bank portfolios, impairments were down by £1.6 billion from 2010.
Our operating loss of £4,203 million in 2011 was £1,302 million lower than the loss in 2010. The continued divestment of Non-Core businesses and portfolios has reduced revenue streams as well as the cost base. The improvement in other income reported for 2011 reflected fewer losses on disposal and lower downward valuation movements.
In January 2012, the Group Sustainability Committee agreed a set of principles we are putting in place to guide the way we do business.
We are rebuilding an RBS that is stronger and safer. The work we are doing on sustainability is an integral part of this, contributing to the long-term performance of the company and the return to ongoing profitability.
Within the Bank there is a robust governance framework in place for the management of sustainability. The Group Sustainability Committee (GSC) is a Board level committee, chaired by our Senior Independent Director, Sir Sandy Crombie. The GSC reviews sustainability strategy, values and policy.
Our stakeholder engagement programme allows us to understand the issues that matter most to those who have an interest in our business. The outcome of these engagements informs decision making across the Group. Treating customers fairly, supporting enterprise, being a good employer, keeping customer money and data safe, and managing our wider ethical, social and environmental impacts remain among the key concerns of our stakeholders. Through our ongoing opinion research we continue to measure the views of stakeholders including the general public, opinion formers (politicians, regulatory and industry bodies, journalists, media) and employees.
Supporting the communities we work in Respecting human rights throughout our sphere of influence Upholding environmental responsibility within the Bank, and through our customers and suppliers
A Good Employer Providing our people with the tools and support to do their jobs effectively and develop their skills
Valuing and promoting diversity in all areas of recruitment and employment
Our five key themes We focus our actions across five key themes within our business.
We met 23 out of the 25 goals in our UK customer charter and made good progress with our Ulster Bank and Citizens commitments. We have also taken steps to proactively identify people who may get into financial difficulty so we can work with customers to improve their situation. We have reviewed and simplified our charging structure and extended our mortgage offers as we aim to place customers at the heart of our business decisions.
Being a good employer is fundamental to our success as a business. Our employees are a diverse and talented group which we support and encourage through internal networks and training. We were included in The Times Top 50 Employers for Women in 2011 and received a Gold rating from Opportunity Now, an external gender network. Our new Board has a range of skills and experience. Three of our board members are women, compared with one in 2010.
RBS in the community Being a good corporate citizen is also about supporting the communities in which we operate. Our Group community programmes are mainly focused around supporting enterprise, financial education and employee engagement.
We have worked with The Prince’s Trust (PT) for over ten years to support the UK’s next generation of entrepreneurs. Our partnership with PT won a number of awards last year, recognising the strength and depth of our relationship. In Scotland, we are strong supporters of The Prince’s Scottish Youth Business Trust, where our sponsorship focuses on grants for small businesses and investment in entrepreneurs from disadvantaged backgrounds.
For more information on sustainability and community initiatives, please visit www.rbs.com/sustainability.html
Business review 33 Presentation of information 35 Forward-looking statements 36 Description of business 38 Competition 39 Risk factors 40 Key financials 41 Summary consolidated income statement 42 Results summary 46 Analysis of results 60 Divisional performance 90 Consolidated balance sheet 94 Cash flow 95 Capital resources 96 Reconciliations of managed to statutory income statements and balance sheets 100 Risk and balance sheet management 100 Introduction 110 Balance sheet management 110 – Capital management 116 – Liquidity and funding risk 131 – Interest rate risk 133 – Structural foreign currency exposures 133 – Equity risk 134 Risk management 134 – Credit risk 208 – Country risk 229 – Market risk 236 – Insurance risk 236 – Operational risk 239 – Compliance risk 244 – Reputational risk 244 – Business risk 245 – Pension risk 247 Asset Protection Scheme
In the Report and Accounts, and unless specified otherwise, the term ‘company’ or ‘RBSG’ means The Royal Bank of Scotland Group plc, ‘RBS’, ‘RBS Group’ or the ‘Group’ means the company and its subsidiaries, ‘the Royal Bank’ means The Royal Bank of Scotland plc and ‘NatWest’ means National Westminster Bank Plc.
Managed results The financial information on a managed basis, prepared using the Group’s accounting policies, shows the underlying performance of the Group which excludes certain one-off and other items. This information is provided to give a better understanding of the results of the Group’s operations.
There are no significant differences between managed and statutory results other than the presentational aspects discussed below. The 2009 balance sheet information has been presented excluding those ABN AMRO businesses subsequently transferred to other Consortium Members (previously labelled as ‘pro forma’). This provides a more meaningful comparison.
Consistent with the manner in which the Group is managed, Group operating profit on a managed basis excludes: movements in fair value of own debt; Asset Protection Scheme; 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; write-down of goodwill and other intangible assets; and
Reconciliations between managed and statutory results are detailed on pages 96 to 99.
Certain sections in this document contain ‘forward-looking statements’ as that term is defined in the United States Private Securities Litigation Reform Act of 1995, such as statements that include the words ‘expect’, ‘estimate’, ‘project’, ‘anticipate’, ‘believes’, ‘should’, ‘intend’, ‘plan’, ‘could’, ‘probability’, ‘risk’, ‘Value-at-Risk (VaR)’, ‘target’, ‘goal’, ‘objective’, ‘will’, ‘endeavour’, ‘outlook’, ‘optimistic’, ‘prospects’ and similar expressions or variations on such expressions.
In particular, this document includes forward-looking statements relating, but not limited to: the Group’s restructuring plans, divestments, capitalisation, portfolios, net interest margin, capital ratios, liquidity, risk weighted assets (RWAs), return on equity (ROE), profitability, cost:income ratios, leverage and loan:deposit ratios, funding and risk profile; certain ring-fencing proposals; sustainability targets; the Group’s future financial performance; the level and extent of future impairments and write-downs, including sovereign debt impairments; the protection provided by the Asset Protection Scheme (APS); and the Group’s potential exposures to various types of market risks, such as interest rate risk, foreign exchange rate risk and commodity and equity price risk. These statements are based on current plans, estimates and projections, and are subject to inherent risks, uncertainties and other factors which could cause actual results to differ materially from the future results expressed or implied by such forward-looking statements. For example, certain market risk disclosures are dependent on choices about key model characteristics and assumptions and are subject to various limitations. By their nature, certain of the market risk disclosures are only estimates and, as a result, actual future gains and losses could differ materially from those that have been estimated.
Banking Act 2009; deteriorations in borrower and counterparty credit quality; costs or exposures borne by the Group arising out of the origination or sale of mortgages or mortgage-backed securities in the United States; the extent of future write-downs and impairment charges caused by depressed asset valuations; the value and effectiveness of any credit protection purchased by the Group; unanticipated turbulence in interest rates, yield curves, foreign currency exchange rates, credit spreads, bond prices, commodity prices, equity prices and basis, volatility and correlation risks; changes in the credit ratings of the Group; ineffective management of capital or changes to capital adequacy or liquidity requirements; litigation and regulatory investigations; changes to the valuation of financial instruments recorded at fair value; competition and consolidation in the banking sector; the ability of the Group to attract or retain senior management or other key employees; regulatory or legal changes (including those requiring any restructuring of the Group’s operations) in the United Kingdom, the United States and other countries in which the Group operates or a change in United Kingdom Government policy; changes to regulatory requirements relating to capital and liquidity; changes to the monetary and interest rate policies of central banks and other governmental and regulatory bodies; changes in UK and foreign laws, regulations, accounting standards and taxes, including changes in regulatory capital regulations and liquidity requirements; impairments of goodwill; pension fund shortfalls; general operational risks; HM Treasury exercising influence over the operations of the Group; insurance claims; reputational risk; the ability to access the contingent capital arrangements with HM Treasury; the participation of the Group in the APS and the effect of the APS on the Group’s financial and capital position; the conversion of the B Shares in accordance with their terms; limitations on, or additional requirements imposed on, the Group’s activities as a result of HM Treasury’s investment in the Group; and the success of the Group in managing the risks involved in the foregoing.
The forward-looking statements contained in this document speak only as of the date of this announcement, and the Group does not undertake to update any forward-looking statement to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.
Global Transaction Services (GTS) ranks among the top tier of global transaction banks, offering payments, cash and liquidity management, trade finance and commercial card products and services. Through the network and extensive partner bank agreements, GTS is able to support and connect customers across 128 countries.
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, 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.
The domestic small and mid-size corporates currently served within GTS will be managed within RBS's domestic corporate banking businesses in the UK, Ireland (Ulster Bank) and the US (US Retail and Commercial).
Our wholesale business will be retaining its international footprint to ensure that it can serve our customers' needs globally. We believe, that despite current challenges to the sector, wholesale banking services can play a central role in supporting cross border trade and capital flows, financing requirements and risk management and we remain committed to this business.
Going forward the Group will comprise the following segments: Retail and Commercial - UK Retail - UK Corporate - Wealth - US Retail and Commercial - Ulster Bank - International Banking Markets RBS Insurance Group Centre Core Non-Core
Competition The Group faces strong competition in all the markets it serves. Banks’ balance sheets have strengthened whilst loan demand has been subdued as many customers have sought to delever and the UK economy has remained weak. Competition for retail deposits remains intense as institutions continue to target strong and diverse funding platforms for their balance sheets.
Competition for corporate and institutional customers in the UK is from UK banks and from large foreign financial institutions who are also active and offer combined investment and commercial banking capabilities. In asset finance, the Group competes with banks and specialist asset finance providers, both captive and non-captive. In European and Asian corporate and institutional banking markets the Group competes with the large domestic banks active in these markets and with the major international banks.
Risk factors Set out below is a summary of certain risks which could adversely affect the Group; it should be read in conjunction with the Risk and balance sheet management section of the Business review (pages 100 to 249). This summary should not be regarded as a complete and comprehensive statement of all potential risks and uncertainties. A fuller description of these and other risk factors is included on pages 451 to 464.
The Group’s ability to implement its Strategic Plan depends on the success of its efforts to refocus on its core strengths and its balance sheet reduction programme. As part of the Group’s Strategic Plan and implementation of the State Aid restructuring plan agreed with the European Commission and HM Treasury, the Group is undertaking an extensive restructuring which may adversely affect the Group’s business, results of operations and financial condition and give rise to increased operational risk and may impair the Group’s ability to raise new Tier 1 capital due to restrictions on its ability to make discretionary dividend or coupon payments on certain securities.
The occurrence of a delay in the implementation of (or any failure to implement) the approved proposed transfers of a substantial part of the business activities of RBS N.V. to the Royal Bank may have a material adverse effect on the Group.
The Group’s business performance, financial condition and capital and liquidity ratios could be adversely affected if its capital is not managed effectively or as a result of changes to capital adequacy and liquidity requirements, including those arising out of Basel III implementation (globally or by European or UK authorities), or if the Group is unable to issue Contingent B Shares to HM Treasury under certain circumstances.
As a result of the UK Government’s majority shareholding in the Group it can, and in the future may decide to, exercise a significant degree of influence over the Group including on dividend policy, modifying or cancelling contracts or limiting the Group’s operations. The offer or sale by the UK Government of all or a portion of its shareholding in the company could affect the market price of the equity shares and other securities and acquisitions of ordinary shares by the UK Government (including through conversions of other securities or further purchases of shares) may result in the delisting of the Group from the Official List.
Funded balance sheet (5) 977,249 1,026,499 1,084,282 1,255,032 Total assets 1,506,867 1,453,576 1,522,481 1,696,486 Loans and advances to customers 515,606 555,260 595,694 728,393 Deposits 611,759 609,483 636,252 756,346 Owners' equity 74,819 75,132 77,736 77,736 Risk asset ratios - Core Tier 1 10.6% 10.7% 11.0% 11.0% - Tier 1 13.0% 12.9% 14.4% 14.1% - Total 13.8% 14.0% 16.3% 16.1%
Notes: (1) Total income on a managed basis excludes movements in fair value of own debt, Asset Protection Scheme, gain on redemption of own debt, strategic disposals and RFS MI. In the statutory consolidated income statement, these items are included in total income. (2) Operating profit on a managed basis excludes movements in the fair value of own debt, Asset Protection Scheme, 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, write-down of goodwill and other intangible assets and RFS MI.
(3) Cost:income ratio on a managed basis represents operating expenses excluding amortisation of purchased intangibles, Payment Protection Insurance costs, sovereign debt impairment, integration and restructuring costs, bonus tax, bank levy, gains on pensions curtailment, interest rate hedge adjustments on impaired available-for-sale Greek government bonds, write-down of goodwill and other intangible assets and RFS MI expressed as a percentage of total income as defined in (1) above and after netting insurance claims against income. On a statutory basis, cost:income ratio represents operating expenses expressed as a percentage of total income.
Overview of results The results of RFS Holdings B.V., the entity that acquired ABN AMRO, are fully consolidated in the Group’s financial statements. The interests of the State of the Netherlands and Santander in RFS Holdings are included in non-controlling interests. Legal separation of ABN AMRO Bank N.V. took place on 1 April 2010. As a result, RBS presents the interests of the Consortium Members in ABN AMRO as discontinued operations.
Fair value of own debt 1,846 174 (142) — — — Asset Protection Scheme (906) (1,550) — — — — Payment Protection Insurance costs (850) — — — — — Sovereign debt impairment (1,099) — — — — — Amortisation of purchased intangible assets (222) (369) (272) — — — Integration and restructuring costs (1,064) (1,032) (1,286) — — — Gain on redemption of own debt 255 553 3,790 — — —
Tax (charge)/credit (1,250) (634) 429 (1,250) (634) 429 Loss from continuing operations (2,016) (1,033) (2,218) (2,016) (1,033) (2,218) Profit/(loss) from discontinued operations, net of tax 47 (633) (105) 47 (633) (105)
Loss attributable to ordinary and B shareholders (1,997) (1,125) (3,607) (1,997) (1,125) (3,607)
Basic loss per ordinary and B share from continuing operations (1.8p) (0.5p) (6.3p) (1.8p) (0.5p) (6.3p) Fair value of own debt (1.3p) (0.1p) 0.2p Asset Protection Scheme 0.6p 1.1p — Payment Protection Insurance costs 0.6p — — Sovereign debt impairment 1.0p — — Amortisation of purchased intangible assets 0.1p 0.2p 0.4p Integration and restructuring costs 0.6p 0.8p 1.6p Gain on redemption of own debt (0.2p) (1.0p) (6.8p) Strategic disposals 0.1p (0.1p) (0.2p) Bonus tax — 0.1p 0.4p Bank levy 0.3p — — Gains on pensions curtailment — — (3.0p) Interest rate hedge adjustments on impaired available-for-sale Greek government bonds 0.2p — — Write-down of goodwill and other intangible assets — — 0.7p Adjusted earnings/(loss) per ordinary and B share from continuing operations 0.2p 0.5p (13.0p)
Results summary 2011 compared with 2010 - managed Operating profit Group operating profit, excluding movements in the fair value of own debt, Asset Protection Scheme, 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, interest rate hedge adjustments on impaired available-for-sale Greek government bonds, write-down of goodwill and other intangible assets and RFS MI, was £1,892 million compared with £1,913 million in 2010. Adjusting for the impact of the disposal of GMS in 2010, which recorded an operating profit of £207 million, Group operating profit was up 11%. The improvement was driven by a strong Retail & Commercial (R&C) operating performance and the return to profit of RBS Insurance. Ulster Bank and GBM faced more difficult conditions, leaving total Core operating profit at £6,095 million. Non-Core operating loss in 2011 was 24% lower compared with 2010, despite the acceleration of disposals in the second half of the year.
Net interest income Group net interest income fell 11% to £12,689 million largely driven by the run-off of balances and exit of higher margin, higher risk segments in Non-Core. Group NIM was 9 basis points lower, reflecting the cost of carrying a higher liquidity portfolio and by the impact of non-performing assets in the Non-Core division. However, R&C NIM was up 7 basis points, with strengthening asset margins in the first half of the year offsetting the impact of a competitive deposit market.
Operating expenses Total operating expenses, excluding Payment Protection Insurance costs, amortisation of purchased intangible assets, integration and restructuring costs, bonus tax, bank levy, write-down of goodwill and other intangible assets and RFS MI, fell by 7% to £15,478 million, driven by cost savings achieved as a result of the cost reduction programme and Non-Core runoff, largely reflecting the disposal of RBS Sempra and specific country exits. Staff costs fell 9%, driven by lower GBM variable compensation as a result of its decrease in revenues, and in Non-Core, given the impact of a 32% reduction in headcount and continued business disposals and country exits. The Group cost:income ratio was 62% in 2011 compared with 60% in 2010.
Insurance net claims General insurance claims were £1,730 million lower, mainly due to the non-repeat of bodily injury reserve strengthening in 2010, de-risking of the motor book, more benign weather in 2011 and claims in Non-Core decreasing as legacy policies ran-off.
Non-operating items A gain on the movement in fair value of own debt of £1,846 million was recorded in 2011 as Group credit spreads widened, partially offsetting the 2011 charges. This compares with a smaller gain of £174 million in 2010.
A charge of £850 million was booked in relation to Payment Protection Insurance (PPI) claims following the British Banking Association decision, in May 2012 not to appeal the findings of the Judicial Review.
Tax The tax charge was £1,250 million in 2011, compared with £634 million in 2010. The high tax charge in the year reflects profits in high tax regimes (principally US) and losses in low tax regimes (principally Ireland), losses in overseas subsidiaries for which a deferred tax asset has not been recognised (principally Ireland and the Netherlands) and the effect of the two reductions of 1% in the rate of UK corporation tax enacted in March 2011 and July 2011 on the net deferred tax balance.
Non-interest income Non-interest income decreased to £16,258 million from £17,659 million in 2010. This included movements in the fair value of the Asset Protection Scheme resulting in a £906 million charge, gain on redemption of own debt of £255 million (2010 - £553 million) and movements in the fair value of own debt of £1,846 million (2010 - £174 million). Excluding these items, non-interest income was down 19% primarily reflecting a reduction in income from trading activities and lower net fees and commissions.
Net insurance claims Bancassurance and general insurance claims, after reinsurance, reduced by 38% to £2,968 million.
Operating expenses Operating expenses decreased to £18,026 million (2010 - £18,228 million) of which integration and restructuring costs were £1,064 million compared with £1,032 million in 2010. Write-down of goodwill and other intangible assets was £91 million compared with £10 million in 2010.
Tax The tax charge for 2011 was £1,250 million (2010 - £634 million).
Results summary continued 2010 compared with 2009 - managed Operating profit/(loss) Group operating profit, excluding fair value of own debt, amortisation of purchased intangible assets, integration and restructuring costs, gain on redemption of own debt, strategic disposals, bonus tax, gains on pensions curtailment, fair value changes in the Asset Protection Scheme, write-down of goodwill and other intangible assets and RFS MI, was £1,913 million, compared with a loss of £6,090 million in 2009. The improvement in performance is primarily driven by stronger Core Retail & Commercial operating profits offsetting more normal results from Global Banking & Markets, coupled with lower impairments in the Non-Core division.
After fair value of own debt, amortisation of purchased intangible assets, integration and restructuring costs, gain on redemption of own debt, strategic disposals, bonus tax, gains on pensions curtailment, write-down of goodwill and other intangible assets and RFS MI, the Group recorded a loss before tax of £399 million, compared with a loss before tax of £2,647 million in 2009.
After tax, non-controlling interests and preference share and other dividends, the loss attributable to ordinary and B shareholders was £1,125 million, compared with an attributable loss of £3,607 million in 2009.
Operating expenses Total operating expenses, excluding amortisation of purchased intangible assets, integration and restructuring costs, bonus tax, gains on pensions curtailment, write-down of goodwill and other intangible assets and RFS MI, fell by 4% to £16,710 million, largely reflecting the recognition of benefits from the Group-wide efficiency programme. The programme continues to deliver material savings which have been funding investments to strengthen our Core franchises. Premises and equipment costs fell by 8% in the year largely driven by efficiency cost savings, significant one-off property impairments recognised in 2009 and country exits following Non-Core disposals. The Group cost:income ratio improved by 9 percentage points in 2010 to 60%.
Impairment losses Impairment losses were £9,256 million, compared with £13,899 million in 2009.
Tax The tax charge for 2010 was £634 million compared with a tax credit of £429 million in 2009.
Gross yield on interest-earning assets of the banking business (5) 3.24 3.29 3.50 3.23 3.29 3.51 Cost of interest-bearing liabilities of the banking business (1.63) (1.48) (1.95) (1.63) (1.48) (1.96) Interest spread of the banking business (6) 1.61 1.81 1.55 1.60 1.81 1.55 Benefit from interest-free funds 0.31 0.20 0.21 0.32 0.19 0.19 Net interest margin of the banking business (7) 1.92 2.01 1.76 1.92 2.00 1.74
Yields, spreads and margins of the banking business % % % % % %
Assets Loans and advances to banks - UK 31,985 293 0.92% 22,578 223 0.99 - Overseas 41,840 404 0.97% 30,143 369 1.22 Loans and advances to customers - UK 294,711 12,108 4.11% 311,060 11,907 3.83 - Overseas 172,177 5,871 3.41% 197,340 6,936 3.51 Debt securities - UK 62,416 1,454 2.33% 66,734 1,467 2.20 - Overseas 59,093 1,295 2.19% 62,103 1,791 2.88 Interest-earning assets - UK 389,112 13,855 3.56% 400,372 13,597 3.40 - Overseas 273,110 7,570 2.77% 289,586 9,096 3.14 Total interest-earning assets - banking business (1,2,3) 662,222 21,425 3.24% 689,958 22,693 3.29 - trading business (9) 278,975 276,330 Interest-earning assets 941,197 966,288 Non-interest-earning assets (1,2) 593,958 705,916 Total assets 1,535,155 1,672,204
Assets Loans and advances to banks - UK 21,373 278 1.30 - Overseas 30,384 553 1.82 Loans and advances to customers - UK 333,408 11,864 3.56 - Overseas 242,065 9,493 3.92 Debt securities - UK 53,955 1,466 2.72 - Overseas 71,851 2,736 3.81 Interest-earning assets - UK 408,736 13,608 3.33 - Overseas 344,300 12,782 3.71 Total interest-earning assets - banking business (1,2,3) 753,036 26,390 3.50 - trading business (9) 291,092 Interest-earning assets 1,044,128 Non-interest-earning assets (1,2) 979,352 Total assets 2,023,480
Assets Loans and advances to banks - UK 31,985 293 0.92% 22,578 223 0.99 - Overseas 41,840 404 0.97% 30,146 369 1.22 Loans and advances to customers - UK 294,711 12,108 4.11% 311,060 11,907 3.83 - Overseas 172,027 5,864 3.41% 196,453 6,900 3.51 Debt securities - UK 62,416 1,454 2.33% 66,735 1,467 2.20 - Overseas 59,093 1,295 2.19% 64,011 1,837 2.87 Interest-earning assets - UK 389,112 13,855 3.56% 400,373 13,597 3.40 - Overseas 272,960 7,563 2.77% 290,610 9,106 3.13 Total interest-earning assets - banking business (1,2,3) 662,072 21,418 3.23% 690,983 22,703 3.29 - trading business (9) 278,975 276,330 Interest-earning assets 941,047 967,313 Non-interest-earning assets (1,2) 594,108 704,891 Total assets 1,535,155 1,672,204
Liabilities Deposits by banks - UK 17,224 242 1.41% 21,816 334 1.53 - Overseas 47,371 740 1.56% 59,799 999 1.67 Customer accounts: demand deposits - UK 112,522 664 0.59% 120,796 621 0.51 - Overseas 43,177 483 1.12% 39,127 607 1.55 Customer accounts: savings deposits - UK 76,719 1,177 1.53% 68,142 935 1.37 - Overseas 25,257 130 0.51% 25,587 213 0.83 Customer accounts: other time deposits - UK 44,243 481 1.09% 42,818 431 1.01 - Overseas 34,371 594 1.73% 45,080 914 2.03 Debt securities in issue - UK 119,735 2,755 2.30% 123,729 2,186 1.77 - Overseas 42,473 765 1.80% 72,247 1,065 1.47 Subordinated liabilities - UK 17,345 409 2.36% 19,998 480 2.40 - Overseas 6,226 189 3.04% 9,336 252 2.70 Internal funding of trading business - UK (40,242) 149 (0.37%) (41,451) (140) 0.34 - Overseas (8,783) (40) 0.46% (6,864) (41) 0.60 Interest-bearing liabilities - UK 347,546 5,877 1.69% 355,848 4,847 1.36 - Overseas 190,092 2,861 1.51% 244,312 4,009 1.64 Total interest-bearing liabilities - banking business (1,2,4) 537,638 8,738 1.63% 600,160 8,856 1.48 - trading business (9) 307,564 293,993 Interest-bearing liabilities 845,202 894,153 Non-interest-bearing liabilities: Demand deposits - UK 46,495 29,022 - Overseas 19,909 23,994 Other liabilities (2,9) 548,510 648,129 Owners' equity 75,039 76,906 Total liabilities and owners' equity 1,535,155 1,672,204
UK 87 (17) 70 87 (17) 70 Overseas 124 (89) 35 124 (89) 35 Loans and advances to customers
UK 66 26 92 66 26 92 Overseas 201 60 261 197 62 259 Customer accounts: demand deposits
Overseas 3 80 83 3 80 83 Customer accounts: other time deposits
UK 63 8 71 63 8 71 Overseas 92 (29) 63 92 (29) 63 Internal funding of trading business
Increase/(decrease) due to changes in: Increase/(decrease) due to changes in: Average volume
UK 150 222 372 187 185 372 Overseas 41 165 206 41 164 205 Internal funding of trading business
Note: (1) Managed basis excludes movements in fair value of own debt, Asset Protection Scheme, gain on redemption of own debt, strategic disposals and RFS MI.
Insurance net premium income fell by 17% largely driven by RBS Insurance’s exit from certain business segments, along with reduced volumes driven by the de-risking of the motor book. Insurance net premium income in Non-Core also decreased as legacy policies ran-off.
2011 compared with 2010 - statutory Non-interest income decreased by £1,401 million in 2011 principally driven by lower trading income in GBM and Non-Core and a fall in insurance net premium income, partially offset by a higher gain on movements in the fair value of own debt.
Volatile market conditions led to a reduction in GBM trading income, driven by the deterioration in global credit markets as sovereign difficulties in the eurozone grew.
Income from trading activities, excluding fair value movements in the Asset Protection Scheme, rose substantially during the year by £2,306 million to £6,067 million. Trading revenues in GBM were lower than 2009, which saw unusually buoyant market conditions as rapidly falling interest rates generated significant revenue opportunities. This was more than offset by the improvement in Non-Core trading losses from £5,161 million for 2009 to £31 million for 2010 as underlying asset prices recovered and monoline spreads tightened. The unwinding of some banking book hedges also helped reduce trading losses.
The Asset Protection Scheme is accounted for as a credit derivative, and movements in the fair value of the contract are recorded as income from trading activities. The charge of £1,550 million in 2010 reflects improving credit spreads on the portfolio of covered assets.
General insurance 2,968 4,698 4,223 2,968 4,698 4,223 Bancassurance — 85 134 — 85 134 Insurance net claims 2,968 4,783 4,357 2,968 4,783 4,357
Note: (1) Managed basis excludes Payment Protection Insurance costs, amortisation of purchased intangible assets, integration and restructuring costs, bonus tax, bank levy, gains on pensions curtailment, write-down of goodwill and other intangible assets and RFS MI.
Staff costs fell 9%, driven by lower GBM variable compensation as a result of its decrease in revenues, and in Non-Core, given the impact of a 32% reduction in headcount and continued business disposals and country exits.
Insurance net claims increased 10% to £4,783 million, driven by an overall increase in bodily injury reserves, reflecting prior year claims and more claims being settled as periodic payment orders. Severe weather experienced during the first and fourth quarters of 2010 also drove up claims in the year.
Staff costs, excluding pension schemes curtailment gains, fell by £322 million to £9,671 million, driven by savings in Global Banking & Markets, UK Retail and Non-Core partially offset by higher costs in Group Centre.
Note: (1) Integration costs for 2011 above exclude a £2 million charge included within net interest income and a loss of £3 million within other operating income in respect of integration activities.
2010 compared with 2009 Integration costs were £376 million compared with £859 million in 2009. The fall in integration costs primarily relates to RBS N.V., as they migrate onto RBS systems.
Staff costs - redundancy — 8 (8) — Staff costs - other — 30 (30) — Premises and equipment 24 6 (19) 11 Other administrative expenses — 51 (48) 3 Depreciation and amortisation — 11 (11) — 24 106 (116) 14
Accruals in relation to restructuring costs are set out below. At Currency Charge Utilised At 1 January translation to income during 31 December 2011 adjustments statement the year 2011 £m £m £m £m £m
Accruals in relation to divestment costs are set out below. At Charge Utilised At 1 January to income during 31 December 2011 statement the year 2011 £m £m £m £m
Staff costs - redundancy 22 36 (13) 45 Staff costs - other 8 59 (66) 1 Premises and equipment — 11 (11) — Other administrative expenses 2 59 (40) 21 32 165 (130) 67
New impairment losses 7,966 9,667 14,224 9,236 9,667 14,224 Less: recoveries of amounts previously written-off (527) (411) (325) (527) (411) (325)
Retail & Commercial impairment losses fell by £153 million, driven by improving credit metrics in UK Retail and US Retail & Commercial partially offset by increases in Ulster Bank, largely reflecting a deterioration in credit metrics on the mortgage portfolio, and a single name provision in GTS.
The Group holds Greek government bonds with a notional amount of £1.45 billion. As a result of Greece’s continuing fiscal difficulties, the Group recorded impairment charges on these bonds totalling £1,099 million during the year. These charges were recorded to write the bonds down to their market price as at 31 December 2011 (c.21% of notional).
2010 compared with 2009 - managed and statutory Impairment losses were £9,256 million, compared with £13,899 million in 2009. The 33% decrease reflects an overall improvement in the economic environments in which the Group operates.
2010 compared with 2009 - managed and statutory The high tax charge in 2010 reflects profits in high tax regimes and losses in low tax regimes, together with £450 million relating to losses in overseas subsidiaries for which a deferred tax asset has not been recognised, and £311 million mainly in respect of losses on disposal of businesses for which no tax relief if available. This was offset in part by the non-taxable gain arising on the disposal of 80.01% of the GMS business.
UK Retail 1,991 1,372 229 UK Corporate 1,414 1,463 1,125 Wealth 321 304 420 Global Transaction Services 743 1,088 973 Ulster Bank (1,024) (761) (368) US Retail & Commercial 479 306 (113) Retail & Commercial 3,924 3,772 2,266 Global Banking & Markets 1,561 3,364 5,758 RBS Insurance 454 (295) 58 Central items 156 577 385 Core 6,095 7,418 8,467 Non-Core (4,203) (5,505) (14,557) Operating profit/(loss) 1,892 1,913 (6,090) Fair value of own debt 1,846 174 (142) Asset Protection Scheme (906) (1,550) — Payment Protection Insurance costs (850) — — Sovereign debt impairment (1,099) — — Amortisation of purchased intangible assets (222) (369) (272) Integration and restructuring costs (1,064) (1,032) (1,286) Gain on redemption of own debt 255 553 3,790 Strategic disposals (104) 171 132 Bonus tax (27) (99) (208) Bank levy (300) — — Gains on pensions curtailment — — 2,148 Interest rate hedge adjustments on impaired available-for-sale Greek government bonds (169) — — Write-down of goodwill and other intangible assets (11) (10) (363) RFS Holdings minority interest (7) (150) (356) Loss before tax (766) (399) (2,647)
UK Retail 788 1,160 1,679 UK Corporate 785 761 927 Wealth 25 18 33 Global Transaction Services 166 9 39 Ulster Bank 1,384 1,161 649 US Retail & Commercial 325 517 702 Retail & Commercial 3,473 3,626 4,029 Global Banking & Markets 49 151 640 RBS Insurance — — 8
UK Retail 3.92 3.91 3.59 UK Corporate 2.58 2.51 2.22 Wealth 3.59 3.37 4.38 Global Transaction Services 5.52 6.73 9.22 Ulster Bank 1.77 1.84 1.87 US Retail & Commercial 3.06 2.85 2.37 Retail & Commercial 3.21 3.14 2.89 Global Banking & Markets 0.73 1.05 1.38 Non-Core 0.64 1.16 0.69
UK Retail 27,700 28,200 30,000 UK Corporate 13,500 13,100 12,300 Wealth 5,700 5,200 4,600 Global Transaction Services 2,600 2,600 3,500 Ulster Bank 4,200 4,200 4,500 US Retail & Commercial 15,200 15,700 15,500 Retail & Commercial 68,900 69,000 70,400 Global Banking & Markets 17,000 18,700 17,900 RBS Insurance 14,900 14,500 13,900 Central items 6,200 4,700 4,200 Core 107,000 106,900 106,400 Non-Core 4,700 6,900 15,100 111,700 113,800 121,500 Business Services 34,000 34,400 38,600 Integration and restructuring 1,100 300 500 RFS Holdings minority interest — — 300 Group 146,800 148,500 160,900
Net interest income 4,272 4,078 3,452 Net fees and commissions 1,066 1,100 1,244 Other non-interest income (net of insurance claims) 140 237 257 Non-interest income 1,206 1,337 1,501 Total income 5,478 5,415 4,953 Direct expenses
Operating profit before impairment losses 2,779 2,532 1,908 Impairment losses (788) (1,160) (1,679)
Notes: (1) Divisional return on equity is based on divisional operating profit after tax divided by average notional equity (based on 9% of the monthly average of divisional RWAs, adjusted for capital deductions). (2) Adjusted cost:income ratio is based on total income after netting insurance claims, and operating expenses. (3) Includes disposal groups: loans and advances to customers - £7.3 billion; customer deposits - £8.8 billion; risk elements in lending - £0.5 billion.
UK Retail continued In 2010, UK Retail set out an aspiration to become the UK’s most helpful bank and launched the Customer Charter. In 2011, we made good progress on our Customer Charter commitments and the roll-out of innovation that actually helps customers. In December 2011, UK Retail refined its staff incentive scheme to further strengthen the role of customer service and to help build long lasting customer relationships.
Progress against the Customer Charter commitments is independently assessed and has shown encouraging results. By the end of 2011, we achieved the goal of serving 80% of our customers in less than 5 minutes in our busiest branches. Branch opening hours have also been extended and standardised, which means that our branches are now open for an additional 5,000 hours per week at times our customers have told us suit them.
Non-interest income declined 10% to £1,206 million, primarily driven by lower investment and protection income as a result of the dissolution of the bancassurance joint venture. In addition, a number of changes have been made to support delivery of Helpful Banking, such as ‘Act Now’ text alerts, which have decreased fee income.
Overall expenses decreased by 6%, with the adjusted cost:income ratio improving from 53% to 49%. Cost reductions were driven by a clear management focus on process re-engineering and operational efficiency together with benefits from the dissolution of the bancassurance joint venture, partly offset by higher inflation rates in utility and mail costs.
Customer deposits grew 10% on 2009, reflecting the strength of the UK Retail customer franchise, which outperformed the market in an increasingly competitive environment. Savings balances grew by £8 billion or 13% with 1.8 million accounts opened, outperforming the market total deposit growth of 3%. Personal current account balances increased by 3% on 2009.
Non-interest income declined 11% to £1,337 million, principally reflecting the restructuring of current account overdraft fees in the final quarter of 2009.
RBS continues to progress towards a more convenient, lower cost operating model, with over 4.8 million active users of online banking and a record share of new sales achieved through direct channels. More than 7.8 million accounts have switched to paperless statements and 276 branches now utilise automated cash deposit machines.
Impairment losses decreased 31% to £1,160 million primarily reflecting the recovery in the economic environment.
The mortgage impairment charge was £177 million (2009 - £124 million) on a total book of £91 billion. Mortgage arrears rates marginally increased in 2010 but remain below the industry average, as reported by the Council of Mortgage Lenders. Repossessions showed only a small increase on 2009, as the Group continues to support customers facing financial difficulties.
The unsecured lending impairment charge was £983 million (2009 - £1,555 million) on a total book of £18 billion.
Analysis of impairments by sector Banks and financial institutions 20 20 15 Hotels and restaurants 59 52 98 Housebuilding and construction 103 131 106 Manufacturing 34 1 51 Other 163 127 150 Private sector education, health, social work, recreational and community services 113 30 59 Property 170 245 259 Wholesale and retail trade, repairs 85 91 76 Asset and invoice finance 38 64 113 Total impairment losses 785 761 927
Performance ratios Return on equity (1) 12.4% 12.1% 9.4% Net interest margin 2.58% 2.51% 2.22% Cost:income ratio 43% 43% 43%
- banks and financial institutions 5.7 6.1 6.3 - hotels and restaurants 6.1 6.8 6.7 - housebuilding and construction 3.9 4.5 4.3 - manufacturing 4.6 5.3 5.9 - other 32.6 31.0 29.9 - private sector education, health, social work, recreational and community services 8.7 9.0 6.5 - property 28.2 29.5 33.0 - wholesale and retail trade, repairs 8.5 9.6 10.2 - asset and invoice finance 10.4 9.9 8.8 108.7 111.7 111.6
Note: (1) Includes disposal groups: loans and advances to customers - £12.2 billion; customer deposits - £21.8 billion; risk elements in lending - £1.0 billion.
In 2011, UK Corporate focused on supporting its customers through challenging economic times. As a result of over 5,000 hours of customer research, UK Corporate launched the ‘Ahead for Business’ promise to its small and medium-sized enterprise (SME) customers.
To deliver on this, the division launched a number of initiatives to improve the service it offers to customers. For example, the ‘Working with You’ initiative, has seen over 4,600 visits to customer businesses since its launch in Q2 2011. Additionally, following the launch of the relationship manager accreditation programme, also in Q2 2011, almost all relationship managers have gained full accreditation in the initial phase.
UK Corporate continued to support new and existing businesses during 2011: launching its best ever fixed rate loan product for SMEs; reacting quickly after the August riots to give affected businesses access to special interest rate and fee free lending products; answering over 4,000 calls on the Start-up Hotline, offering free advice and a complementary business plan review service; and supporting more debt capital and loan market deals for larger corporates than any other bank.
Non-interest income decreased by 4% as a result of lower GBM crosssales and fee income, partially offset by increased Invoice Finance and Lombard income.
Excluding the £29 million OFT penalty in 2010, total costs increased by 1%, largely reflecting increased investment in the business and higher costs of managing the non-performing book.
Impairments of £785 million were 3% higher due to increased specific impairments and collectively assessed provisions, partially offset by lower latent loss provisions.
Operating profit before impairment losses 346 322 453 Impairment losses (25) (18) (33)
Analysis of income Private banking 975 857 916 Investments 202 199 193 Total income 1,177 1,056 1,109
Capital and balance sheet Loans and advances to customers (gross) - mortgages 8.3 7.8 6.5 - personal 6.9 6.7 4.9 - other 1.7 1.6 2.3 16.9 16.1 13.7 Customer deposits (2) 38.2 37.1 35.7 Assets under management (excluding deposits) (2) 30.9 33.9 32.5 Risk elements in lending 0.2 0.2 0.2 Loan:deposit ratio (excluding repos) (2) 44% 43% 38% Risk-weighted assets 12.9 12.5 11.2
Notes: (1) Divisional return on equity is based on divisional operating profit after tax divided by average notional equity (based on 9% of the monthly average of divisional RWAs, adjusted for capital deductions). (2) 2010 and 2009 comparatives have been revised to reflect the current reporting methodology.
Key strategic changes in 2011 included: A refreshed Coutts brand bringing Coutts UK and RBS Coutts under one single contemporary brand.
Further development of client propositions as well as the portfolio of products and services for key international markets.
Strengthening the connectivity between Wealth and other Group divisions including referrals in international jurisdictions and improved connectivity with UK Corporate.
Continued activity to ensure the division responds to new or expected regulatory changes with proactive solution design and preparation.
2011 compared with 2010 Operating profit increased by 6% on 2010 to £321 million, driven by an 11% growth in income partially offset by increases in expenses and impairments.
Income increased by £121 million with a 24 basis points improvement in lending margins, strong treasury income and increases in lending and deposit volumes. Non-interest income rose 3%, with investment income growing 2% despite turbulent market conditions.
2010 compared with 2009 2010 operating profit fell by 28% driven by lower net interest income and higher expenses, partly offset by a 45% decline in impairments in the year.
Global Transaction Services (GTS) recognises the important role international trade plays in a strong global economy and throughout 2011 the division supported UK companies, both in the UK and overseas, to do more business internationally. This support included delivering a series of UK Government-backed ‘Doing Business in Asia’ events.
During the year, GTS invested in improving existing products and services and also in developing new ones. To help corporate treasurers manage their global positions, the division launched a global Liquidity Solutions Portal, giving its customers a view of their operational and investment balances and rates all in one place, improving transparency, and enabling them to execute and redeem investments effectively.
2011 compared with 2010 Operating profit was down 32%, partly reflecting the sale of Global Merchant Services (GMS) which completed on 30 November 2010. Adjusting for the disposal, operating profit decreased 16%, driven by an impairment provision on a single name in 2011.
Impairment losses increased to £166 million compared with £9 million in 2010 reflecting a single name impairment.
For the eleven months in 2010 before completion of the disposal, GMS generated income of £451 million, total expenses of £244 million and an operating profit of £207 million.
For the eleven months before disposal, GTS booked income of £451 million and total expenses of £244 million for GMS, generating an operating profit of £207 million.
Income was up 3%, or 6% excluding GMS, reflecting higher deposit volumes in the International Cash Management business, growth in the Trade Finance business and improved Commercial Card transaction volumes.
Third party assets increased by £6.8 billion, or £7.6 billion excluding GMS, as Yen clearing activities were brought in-house and loans and advances increased.
Net interest income 696 761 780 Net fees and commissions 142 156 228 Other non-interest income 69 58 26 Non-interest income 211 214 254 Total income 907 975 1,034 Direct expenses
Operating profit before impairment losses 360 400 281 Impairment losses (1,384) (1,161) (649)
Analysis of income by business Corporate 435 521 580 Retail 428 465 412 Other 44 (11) 42 Total income 907 975 1,034
Note: (1) Divisional return on equity is based on divisional operating loss after tax divided by average notional equity (based on 9% of the monthly average of divisional RWAs, adjusted for capital deductions).
Following a review of the cost base and operating model, 950 proposed job losses were announced in January 2012, the majority of which are expected by the end of 2012. This decision is a necessary part of the changes required to build a stronger sustainable business for the future.
2011 compared with 2010 Operating profit before impairment losses decreased by £40 million in 2011 with lower income partially mitigated by cost savings. Impairment losses of £1,384 million increased by 19% from 2010 resulting in an operating loss of £1,024 million, 35% higher than 2010.
Income fell by 7% driven by a contracting performing loan book coupled with higher funding costs. Loans and advances to customers decreased by 5% in constant currency terms during 2011.
Expenses fell by 5% reflecting tight management of the cost base across the business.
Impairment losses increased by 19% largely reflecting the deterioration in credit metrics on the mortgage portfolio driven by a combination of higher debt flow and further fall in asset prices.
Despite intense competition, retail and small business deposit balances have grown strongly throughout 2011, driven by the benefits of a focused deposit gathering strategy. However, total customer deposit balances fell by 4% in constant currency terms largely driven by the outflow of wholesale customer balances due to rating downgrades.
Risk-weighted assets increased by 15% in 2011 reflecting the deterioration in credit risk metrics.
Ulster Bank continued 2010 compared with 2009 Overall performance deteriorated in 2010, largely as a result of an increase in impairment losses of £512 million. Operating profit before impairment increased to £400 million, up 50% in constant currency terms, driven by the culmination of a bank-wide cost saving programme during 2010.
Net interest income increased by 1% on a constant currency basis as actions to increase asset margins were largely eroded by tightening deposit margins due to intensive market competition.
Expenses at constant exchange rates were 22% lower. The strong yearon -year performance in expenses was primarily driven by an increased focus on active management of the cost base, and the benefits derived from the business restructuring and cost-saving programme which commenced in 2009.
Operating profit before impairment losses 1,290 1,272 925 804 823 589 Impairment losses (521) (799) (1,099) (325) (517) (702)
Capital and balance sheet Total third party assets 115.3 110.5 122.3 74.5 71.2 75.4 Loans and advances to customers (gross)
US R&C continued to focus on its back-to-basics strategy, with good progress made in developing the division’s customer franchise during 2011. The bank continued to re-energise the franchise through new branding, product development and competitive pricing.
To enhance the customer experience, in Q4 2011, Consumer Banking introduced four core Customer Commitments, built around feedback received from customers in Massachusetts. In Q1 2012, the Commitments will be rolled out to Citizens Financial Group’s (CFG’s) entire branch footprint.
The Durbin Amendment lowers the allowable interchange on debit transactions to $0.23-$0.24 per transaction. The current annualised impact of the Durbin Amendment is estimated at $150 million.
Net interest income was up $80 million, or 3%. Net interest margin improved by 21 basis points to 3.06% reflecting changes in deposit mix, continued discipline around deposit pricing and the positive impact from the balance sheet restructuring programme carried out during Q3 2010 combined with strong commercial loan growth, partially offset by run-off of consumer loans.
Non-interest income was up 7% reflecting higher mortgage banking and debit card income, commercial banking fees and higher gains on securities realisations. This was partially offset by lower deposit fees which were impacted by Regulation E legislative changes in 2010. In addition, gains of £213 million ($330 million) were recognised on the sale of available-for-sale securities as part of the balance sheet restructuring exercise, but these were almost wholly offset by losses crystallised on the termination of swaps hedging fixed-rate funding.
Operating profit/(loss) before impairment losses 1,610 3,515 6,398 Impairment losses (49) (151) (640)
Analysis of income by product Rates - money markets (212) 65 1,714 Rates - flow 1,668 1,985 3,142 Currencies 868 870 1,277 Credit and asset-backed markets 1,424 2,215 2,255 Fixed income & currencies 3,748 5,135 8,388 Portfolio management and origination 1,343 1,777 1,185 Equities 781 933 1,474 Total excluding fair value derivative liabilities 5,872 7,845 11,047 Fair value derivative liabilities 69 67 11 Total income 5,941 7,912 11,058
Notes: (1) Divisional return on equity is based on divisional operating profit after tax divided by average notional equity (based on 10% of the monthly average of divisional RWAs, adjusted for capital deductions). (2) Compensation ratio is based on staff costs as a percentage of total income.
During Q4 2011, the market environment continued to weaken. Market volatility remained elevated and liquidity depressed as markets reacted to developments in the European sovereign debt crisis. Deal flow was weak reflecting investor pessimism about the outlook for the world economy. Throughout the year, GBM continued to deliver core products and innovative solutions to clients, while also focusing on management of its cost base and on tight control of its risk positions.
Total costs fell by 2% despite increased investment costs in 2011, which included a programme to meet new regulatory requirements. The compensation ratio in GBM excluding discontinued businesses was 39%, driven by fixed salary costs and prior year deferred awards. Variable compensation accrued in the first half of the year were reduced in the second half of the year, leaving the 2011 variable compensation awards 58% lower than 2010, compared with a 54% fall in operating profit, as detailed on page 78.
Third party assets fell from £396.7 billion in 2010 to £361.7 billion in 2011 as a result of lower levels of activity and careful management of balance sheet exposures.
A 3% increase in risk-weighted assets reflected the impact of significant regulatory changes, with a £21 billion uplift as a result of CRD III, largely offset by the impact of the division’s focus on risk management.
Higher revenue across the Rates and Currencies businesses during 2009 was driven by rapidly falling interest rates and wide bid-offer spreads generating exceptional revenue opportunities, which have not been repeated in 2010. The Credit Markets business remained broadly flat, supported by strong Mortgage Trading income where customer demand remained buoyant during 2010. Increased revenue from Portfolio Management was driven by disciplined lending alongside a reduction in balance sheet management activities and associated costs.
Net premium income 3,969 4,311 4,354 Fees and commissions (400) (410) (367) Instalment income 138 159 171 Other income 100 179 151 Total income 3,807 4,239 4,309 Net claims (2,772) (3,932) (3,606)
Impairment losses — — (8) Investment income 265 277 305 Operating profit/(loss) 454 (295) 58
The second phase of the RBS Insurance transformation plan, to build competitive advantage, is underway and tangible benefits are already being delivered. All new Churchill, Direct Line and Privilege motor claims, as well as all new Churchill home claims, are now being processed through a new claims management system. Within motor, the rollout of a new rating engine and new pricing tools ensured more accurate and tailored pricing with the aim of generating greater value from RBS Insurance's multi-brand, multi-distribution strategy.
Marking a significant new partnership, RBS Insurance signed a five-year contract with Sainsbury’s Finance in 2011 to provide underwriting, sales, service and claims management for its car insurance customers. Following the successful launch and development of the car insurance partnership, a further contract was signed early in 2012 to provide home insurance for Sainsbury’s customers. Building on RBS Insurance’s established successful relationship with Nationwide Building Society, a deal was concluded to extend its provision of home insurance until the end of 2015. RBS Insurance is also concluding terms with RBS Group’s UK Retail bank on the details of a five-year agreement for the continued provision of general insurance products post separation. The term would commence from the point of initial divestment.
RBS Insurance’s international division showed strong growth in gross written premiums primarily in Italy, assisted by the first full year of its sales agreements with FGA Capital, a joint venture between Fiat and Credit Agricole. The German business also showed good growth following improvements in the second half of 2011 to its direct and partnership business, including strengthening its relationship with Renault.
Ahead of the planned divestment in the second half of 2012, RBS Insurance has begun separating its activities and operations from RBS Group. Its corporate functions have been strengthened, arm’s length agreements are under discussion with the Group where appropriate, a new corporate brand, Direct Line Group was announced on 15 February 2012 and a new risk and control framework has been implemented, in readiness for standalone status.
2011 compared with 2010 Operating profit rose by £749 million in 2011, principally due to the non repeat of the bodily injury reserve strengthening in 2010, de-risking of the motor book, exit of certain business segments and more benign weather in 2011.
Gross written premium fell £200 million, 5%, as the business continued to drive improved profitability through reduced volumes in unattractive segments. This was partially offset by growth in Commercial and International.
Net claims fell £1,160 million, 30%, due to the non recurrence of bodily injury reserve strengthening in 2010, actions taken to de-risk the book, the exit of certain business segments and more benign weather in 2011. Total direct expenses rose by £9 million principally driven by project activity to support the transformation plan.
Income was down 2% (£70 million) against 2009, driven by a managed reduction in the risk of the UK motor book, largely offset by significant price increases: This de-risking was achieved by a combination of rating action to reduce the mix of higher-risk drivers, and the partial or total exit of higher risk business lines (significantly scaling back the fleet and taxi business and the exit of personal lines business sold through insurance brokers). As a result in-force motor policies fell 14% compared with 2009.
Even with the significant reduction in the risk mix of the book, average motor premiums were up 7% in the year, due to significant price increases. The prices of like-for-like policies have increased by 35-40% over the last year. These increases were in addition to the significant increases achieved in 2009.
Initiatives to grow ancillary income were also implemented during the year resulting in revenues of £46 million in 2010 (£25 million in 2009). Away from UK motor, overall home gross written premiums grew by 2%. This included the exit from less profitable business in line with overall strategy. Our underlying own brands business continues to grow successfully, with gross written premiums increasing 4%.
Funding and operating costs have been allocated to operating divisions, based on direct service usage, requirement for market funding and other appropriate drivers where services span more than one division.
2011 compared with 2010 Central items not allocated represented a credit of £156 million in 2011, a decline of £421 million compared with 2010.
2010 compared with 2009 Central items not allocated including available-for-sale (AFS) gains of £237 million and one-off VAT recovery in 2010 of £170 million, amounted to a net credit of £577 million, an increase of £192 million on 2009.
Net interest income 881 1,959 1,534 Net fees and commissions (38) 471 510 Loss from trading activities (721) (31) (5,161) Insurance net premium income 286 702 784 Other operating income
Operating (loss)/profit before insurance net claims and impairment losses (89) 708 (4,748) Insurance net claims (195) (737) (588)
Analysis of income/(loss) by business Banking & portfolios 1,474 1,673 (155)
Third party assets (excluding derivatives) Banking & portfolios 81.3 113.9 58.2 International businesses 2.9 4.4 43.8 Markets 9.5 19.6 69.3 93.7 137.9 171.3
Notes: (1) Includes RBS Sempra Commodities JV (2011 third party assets, excluding derivatives (TPAs) £0.1 billion, RWAs £1.6 billion; 2010 TPAs £6.7 billion, RWAs £4.3 billion). (2) Excluding disposal groups. (3) Disposals of £0.2 billion have been signed as at 31 December 2011 (2010 - £12 billion).
Impairment losses by donating division and sector 2011 £m £m £m
UK Retail Mortgages 1.4 1.6 1.9 Personal 0.1 0.4 0.7 Total UK Retail 1.5 2.0 2.6
Ulster Bank Mortgages — — 6.0 Commercial real estate - investment 3.9 4.0 2.1 - development 8.5 8.4 6.3 Other corporate 1.6 2.2 1.3 Other EMEA 0.4 0.4 1.0 Total Ulster Bank 14.4 15.0 16.7
US Retail & Commercial Auto and consumer 0.8 2.6 3.2 Cards 0.1 0.1 0.5 SBO/home equity 2.5 3.2 3.7 Residential mortgages 0.6 0.7 0.8 Commercial real estate 1.0 1.5 1.9 Commercial and other 0.4 0.5 0.9 Total US Retail & Commercial 5.4 8.6 11.0
Non-Core third party assets fell to £94 billion, below the revised year end target of £96 billion and significantly ahead of the original guidance of £118 billion. Further reductions will include the sale of RBS Aviation Capital for £4.7 billion, which was signed in January 2012. Since the division was formed in 2009, the reduction totals £164 billion, or 64%. By the end of 2011, the Non-Core funded balance sheet equated to less than 10% of the Group funded balance sheet compared with 21% when the division was created.
Losses from trading activities increased by £690 million compared with 2010, principally as a result of the disposal of RBS Sempra Commodities in 2010 and costs incurred as part of the division’s focus on reducing capital intensive trading assets and mitigating future regulatory uplifts in risk-weighted assets.
Headcount declined by 2,189 (32%) to 4,669 in 2011, largely reflecting the divestment activity in relation to Asia, Non-Core Insurance and RBS Sempra Commodities.
Assets Cash and balances at central banks 79,269 57,014 51,548 52,261 Net loans and advances to banks 43,870 57,911 48,777 56,656 Reverse repurchase agreements and stock borrowing 39,440 42,607 35,097 35,097 Loans and advances to banks 83,310 100,518 83,874 91,753 Net loans and advances to customers 454,112 502,748 554,654 687,353 Reverse repurchase agreements and stock borrowing 61,494 52,512 41,040 41,040 Loans and advances to customers 515,606 555,260 595,694 728,393
Prepayments, accrued income and other assets 10,976 12,576 18,604 20,985 Assets of disposal groups 25,450 12,484 18,432 18,542
Cash and balances at central banks were up £22.3 billion, 39%, to £79.3 billion due to improvements in the Group’s structured liquidity position during 2011.
Loans and advances to customers were down £39.7 billion, 7%, to £515.6 billion. Within this, reverse repurchase agreements were up £9.0 billion, 17%, to £61.5 billion. Customer lending decreased by £48.7 billion, 10%, to £454.1 billion or £46.9 billion, 9%, to £473.9 billion before impairment provisions. This reflected the transfer to disposal groups of £19.5 billion of customer balances relating to the UK branch-based businesses. There were also planned reductions in Non-Core of £28.1 billion, together with declines in UK Corporate, £2.9 billion and Ulster Bank, £2.0 billion, together with the effect of exchange rate and other movements, £1.9 billion. These were partially offset by growth in Global Banking & Markets, £0.2 billion, Global Transaction Services, £1.5 billion, Wealth, £0.7 billion, UK Retail, £2.3 billion and US Retail & Commercial, £2.8 billion.
Equity shares decreased £7.0 billion, 32%, to £15.2 billion which largely reflects the closure of positions to reduce the Group’s level of unsecured funding requirements to mitigate the potential impact of unfavourable market conditions.
Property, plant and equipment declined £4.7 billion, 28%, to £11.9 billion, primarily as a result of the transfer of RBS Aviation Capital’s operating lease assets to disposal groups.
Debt securities in issue were down £55.8billion, 26% to £162.6 billion driven by reductions in the level of certificates of deposit and commercial paper in Global Banking & Markets and Group Treasury.
Settlement balances declined £3.5 billion, 32%, to £7.5 billion and short positions were down £2.1 billion, 5%, to £41.0 billion due to decreased customer activity.
Commentary on consolidated balance sheet - managed 2010 compared with 2009 Total assets of £1,453.6 billion at 31 December 2010 were down £68.9 billion, 5%, compared with 31 December 2009. This principally reflects the continuing planned disposal of Non-Core assets, together with a reduction in the level of debt securities and mark-to-market value of derivatives in Global Banking & Markets.
The reduction in assets and liabilities of disposal groups resulted from completion of disposals of certain of the Group’s Asian and Latin American businesses, and substantially all of the RBS Sempra Commodities JV business.
The Group’s non-controlling interests decreased by £0.5 billion, 23%, to £1.7 billion, primarily reflecting the disposal of the majority of the RBS Sempra Commodities JV business, £0.6 billion, and the life assurance business, £0.2 billion partially offset by RFS minority interests, £0.3 billion.
Commentary on consolidated balance sheet - statutory 2010 compared with 2009 Total assets of £1,453.6 billion at 31 December 2010 were down £242.9 billion, 14%, compared with 31 December 2009. This principally reflects the disposal of the RFS minority interest, the continuing planned disposal of Non-Core assets, together with a reduction in the level of debt securities and the mark-to-market value of derivatives.
Loans and advances to banks increased by £8.8 billion, 10%, to £100.5 billion. Adjusting for the disposal of the RFS minority interest, the increase was £16.6 billion, 20%. Reverse repurchase agreements and stock borrowing (‘reverse repos’) were up £7.5 billion, 21% to £42.6 billion and bank placings rose £9.1 billion, 19%, to £57.9 billion, primarily as a result of the investment of surplus liquidity in short-term assets.
Loans and advances to customers decreased £173.1 billion, 24%, to £555.3 billion. Excluding the disposal of the RFS minority interest, lending to customers was down £40.4 billion, 7%. Within this, reverse repurchase agreements were up £11.5 billion, 28%, to £52.5 billion. Customer lending decreased by £51.9 billion to £502.7 billion or £48.9 billion before impairment provisions. This reflected planned reductions in Non-Core of £39.7 billion along with declines in Global Banking & Markets, £16.7 billion, US Retail & Commercial, £2.6 billion and Ulster Bank, £2.0 billion. These were partially offset by growth in UK Retail, £5.4 billion, Wealth, £2.4 billion and Global Transaction Services, £1.7 billion, together with the effect of exchange rate and other movements, £2.6 billion.
The value of derivative assets were down £14.4 billion, 3%, to £427.1 billion, primarily reflecting a decrease in interest contracts, movements in five to ten year interest yields, and the combined effect of currency movements, with Sterling weakening against the dollar but strengthening against the Euro.
Deposits by banks declined £43.4 billion, 31%, to £98.8 billion or £66.1 billion, 36% following the disposal of the RFS minority interest, with reduced inter-bank deposits, down £49.7 billion, 43%, to £66.1 billion and lower repurchase agreements and stock lending (‘repos’), down £5.3 billion, 14%, to £32.7 billion.
Customer accounts decreased £103.5 billion, 17%, to £510.7 billion but excluding the disposal of the RFS minority interest were up £28.1 billion, 6%. Within this, repos increased £13.7 billion, 20%, to £82.1 billion. Excluding repos, customer deposits were up £14.3 billion, 3%, to £428.6 billion, reflecting growth in UK Corporate, £12.2 billion, Global Transaction Services, £7.8 billion, UK Retail, £7.0 billion, Ulster Bank, £1.7 billion and Wealth, £0.8 billion, together with exchange rate and other movements of £3.0 billion. This was partially offset by decreases in Global Banking & Markets, £8.3 billion, US Retail & Commercial, £4.0 billion and Non-Core, £5.9 billion.
Debt securities in issue were down £49.2 billion, 18%, to £218.4 billion. Excluding the RFS minority interest disposal, they declined £28.0 billion, 11%, to £218.4 billion. Reductions in the level of certificates of deposit and commercial paper in Global Banking & Markets were partially offset by a programme of new term issuances totalling £38.4 billion.
Subordinated liabilities decreased by £10.6 billion, 28% to £27.1 billion or £4.5 billion, 14% excluding the disposal of the RFS minority interest. This reflected the redemption of £2.6 billion undated loan capital, debt preference shares and trust preferred securities under the liability management exercise completed in May, together with the conversion of £0.8 billion US dollar and Sterling preference shares and the redemption of £1.6 billion of other dated and undated loan capital, which were partially offset by the effect of exchange rate movements and other adjustments of £0.5 billion.
The Group’s non-controlling interests decreased by £15.2 billion, primarily reflecting the disposal of the RFS minority interest, £14.4 billion, the majority of the RBS Sempra Commodities JV business, £0.6 billion, and the life assurance business, £0.2 billion.
Owner’s equity decreased by £2.6 billion, 3%, to £75.1 billion. This was driven by the partial redemption of preference shares and paid-in equity, £3.1 billion less related gains of £0.6 billion, the attributable loss for the period, £1.1 billion, together with an increase in own shares held of £0.7 billion and higher losses in available-for-sale reserves, £0.3 billion. Offsetting these reductions were the issue of £0.8 billion ordinary shares on conversion of US dollar and Sterling non-cumulative preference shares classified as debt and exchange rate and other movements, £1.2 billion.
The major factors contributing to the net cash inflow from operating activities of £3,325 million were the elimination of foreign exchange differences of £2,702 million, depreciation and amortisation of £1,875 million and inflow from other items of £2,900 million, partially offset by the net operating loss before tax of £708 million from continuing and discontinued operations and the decrease of £3,444 million in operating assets and liabilities.
Net cash flows from investing activities of £54 million relate to the net sales and maturities of securities of £2,899 million and a net cash inflow of £105 million in respect of other acquisitions and disposals less the net cash outflow on disposals of property, plant and equipment of £2,950 million.
Capital base Tier 1 capital 56,990 60,124 76,421 69,847 44,364 Tier 2 capital 8,546 9,897 15,389 32,223 33,693 Tier 3 capital — — — 260 200 65,536 70,021 91,810 102,330 78,257 Less: Supervisory deductions (4,828) (4,732) (4,565) (4,155) (10,283)
It is the Group's policy to maintain a strong capital base, to expand it as appropriate and to utilise it efficiently throughout its activities to optimise the return to shareholders while maintaining a prudent relationship between the capital base and the underlying risks of the business. In carrying out this policy, the Group has regard to the supervisory requirements of the Financial Services Authority (FSA). The FSA uses Risk Asset Ratio (RAR) as a measure of capital adequacy in the UK banking sector, comparing a bank's capital resources with its risk-weighted assets (the assets and off-balance sheet exposures are 'weighted' to reflect the inherent credit and other risks); by international agreement, the RAR should be not less than 8% with a Tier 1 component of not less than 4%. At 31 December 2011, the Group's total RAR was 13.8% (2010 - 14.0%) and the Tier 1 RAR was 13.0% (2010 12. 9%). For further information refer to Balance sheet management: Capital management on pages 110 to 115.
Reconciliations of managed to statutory income statements and balance sheets Basis of preparation of managed results The financial information on a managed basis, prepared using the Group’s accounting policies, shows the underlying performance of the Group which excludes certain one-off and other items. This information is provided to give a better understanding of the results of the Group’s operations.
Net interest income 13,567 (179) 13,388 Non-interest income (excluding insurance net premium income) 10,734 3,638 14,372 Insurance net premium income 5,266 — 5,266 Non-interest income 16,000 3,638 19,638 Total income 29,567 3,459 33,026 Operating expenses (17,401) (16) (17,417) Profit before insurance net claims and impairment losses 12,166 3,443 15,609 Insurance net claims (4,357) — (4,357) Operating profit before impairment losses 7,809 3,443 11,252 Impairment losses (13,899) — (13,899)
In this section (pages 100 to 249) of the Business review, certain information has been audited and is part of the Group’s financial statements as permitted by IFRS 7. Other disclosures are unaudited and are labelled with an asterisk (*). In this section, the 2009 data relate to the Group before RFS Holdings minority interest (RFS MI).
Risk management plays an integral role in the delivery of the Group’s strategic goal to be a safe and secure banking group. The implementation of a stronger and more effective culture of risk management and control provides the platform necessary to address historical vulnerabilities, rebuild upon the Group’s core strengths and position it on a sustainable and profitable path for future growth.
Given this central aim, in 2009 the Group Board set out four key strategic risk objectives, aligned to the Group’s Strategic Plan. These are to: Given this central aim, in 2009 the Group Board set out four key strategic risk objectives, aligned to the Group’s Strategic Plan. These are to: maintain capital adequacy: to ensure that the Group has sufficient (and easily accessible) capital resources to meet regulatory requirements and to cover the potential for unexpected losses in its asset portfolio; maintain capital adequacy: to ensure that the Group has sufficient (and easily accessible) capital resources to meet regulatory requirements and to cover the potential for unexpected losses in its asset portfolio; deliver stable earnings growth: to ensure that strategic growth is based around a longer-term risk versus reward consideration, with significantly lower volatility in underlying profitability than was seen over the previous five years; deliver stable earnings growth: to ensure that strategic growth is based around a longer-term risk versus reward consideration, with significantly lower volatility in underlying profitability than was seen over the previous five years; ensure stable and efficient access to funding and liquidity: such that the Group has sufficient funding to meet its obligations, taking account of the constraint that some forms of funding may not be available when they are most needed; and ensure stable and efficient access to funding and liquidity: such that the Group has sufficient funding to meet its obligations, taking account of the constraint that some forms of funding may not be available when they are most needed; and maintain stakeholder confidence: to ensure that stakeholders have confidence in the Group’s recovery plan, its ability to deliver its strategic objectives and the effectiveness of its business culture and operational controls.
The task of setting a comprehensive risk appetite and aligning it with the Group’s business strategy demands a clear understanding of the types of risk the Group faces and their potential size. With this goal in mind, over the past year the Group has developed a catalogue of the risks it faces (a risk taxonomy) and undertaken a Group-wide material risk assessment to analyse the scale of each risk and the potential interactions between them (for a detailed discussion of risk appetite, see page 101).
Effective risk management also requires a robust governance framework. During 2011, the roles and responsibilities of the Executive Risk Forum and its supporting committees were reviewed and more clearly defined (see pages 104 to 106).
The Group has launched a common set of values for the risk community that impact directly on behaviours and help to engender a risk management function that is widely respected and valued across the Group. A Group-wide policy that explicitly aligns remuneration with effective risk management has also been put in place.
The focus is now on fully embedding the Group’s strategy for risk management into the day-to-day management of its businesses, as well as preparing the Group to face future challenges in a rapidly evolving external environment. More detailed discussions on how the Group strengthened its approach to risk management in 2011 and the areas of focus going forward is contained within the relevant sub-sections on the following pages.
Risk appetite* The Group’s focus on setting a clear risk appetite and embedding a strong culture of risk management and control is designed to ensure it is able to proactively identify and reduce risk exposures and has the resilience to respond effectively to any unforeseen shocks.
The Group’s risk appetite identifies and establishes the level and type of risks that it is able and willing to take in order to: meet its strategic objectives - this includes the Group’s stated objective of achieving and sustaining a standalone credit rating in line with those of its strongest international peers; and meet its wider obligations to stakeholders - the Group’s Strategic Plan is built on the core foundations of serving its customers well, acting responsibly and creating sustainable value for its shareholders.
Approach and key principles The Strategic Plan set key performance indicators for capital, leverage, liquidity and funding, aligned with the Group’s strategic objectives. It also established a Non-Core division to manage, dispose of and run-off assets that the Group was seeking to exit from, which by definition were outside its appetite.
Under this framework, risk appetite targets - based on both the quantitative and qualitative aspects of risk - have been set by the Group Board, aligned with Group and divisional strategic objectives. These targets support and augment the strategic, financial and risk controls that are already in place and help to shape the way the Group operates at all levels. Clear roles and responsibilities are established to measure, cascade and report performance against risk appetite and to provide assurances that business is being conducted within approved risk limits and tolerances.
Design to delivery The Group’s risk appetite has been set by the Group Board and is now operational. Significant progress has been made in establishing the underlying framework and rolling it out across the Group and its divisions.
The Group regards the implementation of its risk appetite framework as an essential step in driving the cultural change required to achieve its strategic objectives and a dynamic, ongoing process. The Board Risk Committee (see the Report of the Board Risk Committee on pages 268 to 271) reviews both the targets and the framework on a regular basis, to ensure they remain aligned to strategic objectives, business performance, emerging risks and changes in the external environment.
Internal stress tests The Group’s stress testing framework is designed to embed stress testing as a key risk management technique into mainstream risk reporting, capital planning and business processes at both Group and divisional levels.
Stress testing forms part of the Group’s risk and capital management framework and is a major component of the Basel III requirements. It highlights to senior management potential adverse unexpected outcomes related to a mixture of risks and provides an indication of how much capital might be required to absorb losses should adverse scenarios materialise.
Stress testing is used at both divisional and Group levels to assess risk concentrations and estimate the impact of stressed earnings, impairments and write-downs on capital as well as the liquidity and funding position of the Group. It determines overall capital adequacy under a variety of adverse scenarios.
Portfolio analysis, using historical performance and forward-looking indicators of change, uses stress testing to assess potential exposure to events and seeks to quantify the impact of an adverse change in factors that drive the performance and profitability of a portfolio.
In December 2011, the European Banking Authority published the results of its recapitalisation exercise - a review of banks’ actual capital positions on sovereign exposures - showing the Group had no overall capital shortfall after including the sovereign capital buffer.
Group Policy Framework* Achieving and sustaining a robust control framework in line with those of the Group’s strongest international peers is critical to achieving the successful delivery of the Group’s risk objectives.
With this goal in mind, the Group Policy Framework (GPF) has been revised and broadened. The GPF consolidates a large number of individual policies under a consistent and structured overarching framework for conduct, control and governance. It provides clear guidance and controls on how the Group does business, linked to its risk appetite, its business conduct and compliance responsibilities and its focus on delivering a control environment consistent with best practice against relevant external benchmarks.
The GPF and related initiatives aim to ensure that: the Group has clear control standards and ethical principles to cover the risks that it faces to support effective risk management and meet regulatory and legal requirements; policies are followed across the Group and compliance can be clearly evidenced, assessed and reported by line management; and the control environment is monitored and overseen through good governance.
Communication and training programmes are provided to all relevant staff as the policies are embedded, ensuring that staff are aware of their responsibilities. The GPF is structured to ensure that policy standard owners and sponsors review their policies on a regular basis, with any identified shortfalls against industry best practice documented and addressed within an agreed time frame.
Risk governance* Risk governance* The Group is committed to the highest standards of corporate governance in every aspect of the business, including risk management. The Group is committed to the highest standards of corporate governance in every aspect of the business, including risk management. A key aspect of the Group Board’s responsibility as the main decision making body at Group level is the setting of Group risk appetite to ensure that the levels of risk that the Group is willing to accept in the attainment of its strategic business and financial objectives are clearly understood.
A key aspect of the Group Board’s responsibility as the main decision making body at Group level is the setting of Group risk appetite to ensure that the levels of risk that the Group is willing to accept in the attainment of its strategic business and financial objectives are clearly understood.
Notes: Notes: (1) The Capital and Stress Testing Committee is a sub-committee of the Group Asset and Liability Management Committee. (1) The Capital and Stress Testing Committee is a sub-committee of the Group Asset and Liability Management Committee. (2) The following specialist sub-committees report directly to the Group Risk Committee: Global Markets Risk Committee, Group Country Risk Committee, Group Models Committee, Group Credit Risk
During 2011, the roles and responsibilities of the Executive Risk Forum and its supporting committees were reviewed and more clearly defined, to meet the future needs of the Group.
The improvements made in 2011 provide further clarity of roles and responsibilities, as well as clear reporting lines and accountabilities. They promote clearer and timelier decision making and more effective risk management and oversight.
The role and remit of the Group committees is set out below. These committees are supported at a divisional level by a risk governance structure embedded in the business.
The Executive Committee considers recommendations on risk management matters referred by the Executive Risk Forum and/or Group Risk Committee, including recommendations on risk appetite, risk policies and risk management strategies.
The Board Risk Committee provides oversight and advice to the Group Board on current and potential future risk exposures of the Group and future risk strategy, including determination of risk appetite and tolerance. It also provides a risk review of remuneration arrangements and provides advice to the Remuneration Committee. It operates under delegated authority from the Group Board.
At least three independent non-executive directors, one of whom is the Chairman of the Group Audit Committee.
Group Audit Committee The Group Audit Committee reviews accounting policies and practices, controls and procedures established by management for compliance with regulatory and financial reporting requirements and requirements of external regulations. It has responsibility for monitoring relationships with regulatory authorities. It operates under delegated authority from the Group Board.
At least three independent non-executive directors, at least one of whom is a financial expert as defined in the SEC rules under the US Exchange Act and one of whom is Chairman of the Board Risk Committee.
The Executive Risk Forum approves the most material limits and decisions above defined thresholds and delegates decisions below these thresholds to sub-committees and appropriate individuals.
Group Chief Executive Group Finance Director Chief Administrative Officer Chief Executive Officers of divisions Head of Restructuring and Risk Deputy Chief Risk Officer
The Group Risk Committee is a sub-committee of the Executive Risk Forum. It is an oversight committee which reviews and challenges risks and limits across the functional areas and plays a key role exercising and demonstrating effective risk oversight across the Group. It reviews risks and issues on a thematic as well as a specific basis and focuses on forward-looking, emerging risks. It considers the overall risk profile across the Group and identifies any key issues for escalation to the Executive Risk Forum.
Deputy Chief Risk Officer Divisional Chief Risk Officers Key Group Risk function heads
Group B members (1) Group Chief Executive Group Finance Director Chief Executive officers of divisions
Divisional Risk and Audit Committees report to the Board Risk Committee and the Group Audit Committee on a quarterly basis. Their main responsibilities are to: monitor the performance of the divisions relative to divisional and Group risk appetite; review matters relative to accounting policies, internal control, financial reporting, internal audit, external audit and regulatory compliance as set out in their terms of reference; and assist on such other matters as may be referred to them by the relevant divisional Executive Committee, the Group Audit Committee or the Board Risk Committee.
Active run-off of capital intensive assets in Non-Core and other risk mitigation left the Core Tier 1 ratio strong at 10.6%, despite a £21 billion uplift in RWAs from the implementation of CRD III in December 2011. Refer to pages 110 to 115.
Can include concentration risk - the risk of loss due to the concentration of credit risk to a specific product, asset class, sector or counterparty.
The Group’s framework for managing insurance risk, with associated risk appetite and policy frameworks, is designed to ensure insurance risks are appropriately identified, controlled, managed, monitored, reported and mitigated.
Procedures are in place to address any issues, such as breaches of risk appetite that are identified through monitoring and reporting activities. If a breach occurs, an action plan to address the issue is developed, implemented and monitored to ensure the risk is adequately mitigated or a decision is taken to accept it.
During 2011, focus on insurance risk appetite resulted in the de-risking and significant re-pricing of certain classes of business and exiting some altogether. Refer to page 236.
The objective of operational risk management is to manage it to an acceptable level. Processes to achieve this objective take into account the cost of minimising the risk against the resultant reduction in exposure.
During 2011, the Group took steps to enhance its management of operational risks. This was particularly evident in respect of risk appetite, the Group Policy Framework, risk assessment, scenario analysis and statistical modelling for capital requirements.
Reputational risk The risk of brand damage arising from financial and nonfinancial events arising from the failure to meet stakeholders’ expectations of the Group’s performance and behaviour.
Stakeholder engagement was broadened with the implementation of formal sessions between the Group Sustainability Committee and relevant advocacy groups and non-governmental organisations. Refer to page 244.
Business risk The risk of lower-than-expected revenues and/or higher-thanexpected operating costs.
Forecasts of revenues and costs are tested against a range of stress scenarios to identify key risk drivers and the appropriate actions to address and manage them.
Business risk is incorporated within the Group's risk appetite target for earnings volatility that was set in 2011. Refer to page 244.
In 2011, the Group focused on improved stress testing and risk governance mechanisms. This included the establishment of the Pension Risk Committee and the articulation of its view of risk appetite for the various Group pension schemes. Refer to pages 245 and 246.
Balance sheet management All disclosures in this section (pages 110 to 133) are audited unless otherwise indicated by an asterisk (*).
Capital management Introduction* The Group aims to maintain an appropriate level of capital to meet its business needs and regulatory requirements as capital adequacy and risk management are closely aligned. The Group operates within an agreed risk appetite whilst optimising the use of shareholders’ funds to deliver sustainable returns.
Governance* The Group Asset and Liability Management Committee (GALCO) is responsible for ensuring the Group maintains adequate capital at all times. The newly established Capital and Stress Testing Committee (CAST) is a cross-functional body driving and directing integrated risk capital activities including stress testing economic capital and capital allocation. These activities have linkages to capital planning, risk appetite and regulatory change. CAST reports through GALCO and comprises senior representatives from Risk Management, Group Finance and Group Treasury.
Determining appropriate capital* The minimum regulatory capital requirements are identified by the Group through the Internal Capital Adequacy Assessment Process and then agreed between the Group Board and the appropriate supervisory authority.
The Group operates a rigorous capital planning process aimed at ensuring the capital position is controlled within the agreed parameters. This incorporates regular re-forecasts of the capital positions of the regulated entities and the overall Group. In the event that the projected position deteriorates beyond acceptable levels, the Group would issue further capital and/or revise business plans accordingly.
Stress testing approaches are used to determine the level of capital required to ensure the Group remains adequately capitalised.
The FSA uses the risk asset ratio as a measure of capital adequacy in the UK banking sector, comparing a bank’s capital resources with its RWAs (the assets and off-balance sheet exposures are weighted to reflect the inherent credit and other risks); by international agreement the risk asset ratios should not be less than 8% with a Tier 1 component of not less than 4%.
Capital adequacy* The Group’s RWAs and risk asset ratios, calculated in accordance with FSA definitions, are set out below.
APS relief decreased by £36.5 million, reflecting pool movements, assets moving into default and changes in risk parameters.
Shareholders’ equity per balance sheet 74,819 75,132 77,736 77,736 Preference shares - equity (4,313) (4,313) (7,281) (7,281)
Non-controlling interests Non-controlling interests per balance sheet 1,234 1,719 16,895 2,227 Non-controlling preference shares (548) (548) (656) (656) Other adjustments to non-controlling interests for regulatory purposes (259) (259) (497) (497)
Tier 1 deductions 50% of material holdings (340) (310) (601) (310) Tax on excess of expected losses over impairment provisions 915 758 1,020 1,020 * unaudited
UK Retail 41.1 — — 7.3 48.4 (9.4) 39.0 UK Corporate 69.4 — — 6.7 76.1 (15.5) 60.6 Wealth 10.9 — 0.1 1.9 12.9 — 12.9 Global Transaction Services 12.4 — — 4.9 17.3 — 17.3 Ulster Bank 33.6 0.6 0.3 1.8 36.3 (6.8) 29.5 US Retail & Commercial 53.4 1.0 — 4.4 58.8 — 58.8 Retail & Commercial 220.8 1.6 0.4 27.0 249.8 (31.7) 218.1 Global Banking & Markets 45.1 39.9 50.6 15.5 151.1 (8.5) 142.6 Other 9.9 0.2 — 0.7 10.8 — 10.8 Core 275.8 41.7 51.0 43.2 411.7 (40.2) 371.5 Non-Core 65.6 20.2 13.0 (5.5) 93.3 (28.9) 64.4 Group before RFS MI 341.4 61.9 64.0 37.7 505.0 (69.1) 435.9 RFS MI 2.9 — — 0.2 3.1 — 3.1 Group 344.3 61.9 64.0 37.9 508.1 (69.1) 439.0
UK Retail 41.7 — — 7.1 48.8 (12.4) 36.4 UK Corporate 74.8 — — 6.6 81.4 (22.9) 58.5 Wealth 10.4 — 0.1 2.0 12.5 — 12.5 Global Transaction Services 13.7 — — 4.6 18.3 — 18.3 Ulster Bank 29.2 0.5 0.1 1.8 31.6 (7.9) 23.7 US Retail & Commercial 52.0 0.9 — 4.1 57.0 — 57.0 Retail & Commercial 221.8 1.4 0.2 26.2 249.6 (43.2) 206.4 Global Banking & Markets 53.5 34.5 44.7 14.2 146.9 (11.5) 135.4 Other 16.4 0.4 0.2 1.0 18.0 — 18.0 Core 291.7 36.3 45.1 41.4 414.5 (54.7) 359.8 Non-Core 91.3 31.8 34.9 (4.3) 153.7 (50.9) 102.8 Group before RFS MI 383.0 68.1 80.0 37.1 568.2 (105.6) 462.6 RFS MI 2.9 — — — 2.9 — 2.9 Group 385.9 68.1 80.0 37.1 571.1 (105.6) 465.5
Regulatory capital impact of the APS* Methodology The regulatory capital requirements for assets covered by the Scheme are calculated using the securitisation framework under the FSA prudential rules. The calculation is as follows (the output is known as ‘the uncapped amount’): First loss - the residual first loss, after impairments and write-downs, to date, is deducted from available capital split equally between Core Tier 1 and Tier 2 capital; HM Treasury share of covered losses - after the first loss has been deducted, 90% of assets covered by HM Treasury are risk-weighted at nil; and RBS share of covered losses - the remaining 10% share of loss is borne by RBS and is risk-weighted in the normal way.
Adjustments to the regulatory capital calculation can be made for either currency or maturity mismatches. These occur where there is a difference between the currency or maturity of the protection and that of the underlying asset. These mismatches will have an impact upon the timing of the removal of the cap and level of regulatory capital benefit on the uncapped amount, but this effect is not material.
Other regulatory capital changes* The Group is in the process of implementing changes to the RWA requirements for commercial real estate portfolios consistent with revised industry guidance from the FSA. This is projected to increase RWA requirements by circa £20 billion by the end of 2013, of which circa £10 billion will apply in 2012.
The net impact of these changes is expected to be manageable as the aggregation of these drivers is projected to be lower by 2014 and declining during the phase-in period.
Balance sheet management: Liquidity and funding risk All disclosures in this section (pages 116 to 133) are audited unless otherwise indicated with an asterisk (*).
Liquidity risk Liquidity risk is the risk that the Group is unable to meet its obligations, including financing maturities as they fall due. Liquidity risk is heavily influenced by the maturity profile and mix of the Group’s funding base, as well as the quality and liquidity value of its liquidity portfolio.
Liquidity risk is dynamic, being influenced by movements in markets and perceptions that are driven by firm specific or external factors. Managing liquidity risk effectively is a key component of the Group’s risk reduction strategy. The Group's 2011 performance demonstrates continued improvements in managing liquidity risk and reflects actions taken in light of an uncertain economic outlook, which resulted in improvements in key measures: Deposit growth - Core Retail & Commercial deposits rose by 9%, and together with Non-Core deleveraging, took the Group loan:deposit ratio to 108%, compared with 118% at the end of 2010.
Short-term wholesale funding (STWF) - the overall level of STWF fell by £27 billion to £102 billion, below the 2013 target of circa £125 billion.
Liquidity portfolio - the liquidity portfolio of £155 billion was maintained above the 2013 target level of £150 billion against a backdrop of heightened market uncertainty in the second half of the year and was higher than STWF. This represents a £53 billion cushion over STWF.
The Group has been a regular issuer in the debt capital markets in both secured and unsecured arrangements. 2011 net new term debt issuance was £21 billion, with 49% secured and 51% unsecured, of which 71% were public transactions and 29% were private.
Stress testing The strength of a bank’s liquidity risk management can only be evaluated based on its ability to survive under stress. The Group evaluates the survivability of the major legal entities and legal entity groups when subjected to simulated stress conditions.
Stress scenarios are applied to both on-balance sheet and off-balance sheet commitments, to provide a comprehensive view of potential cash flows.
Contingency planning The Group has a Contingency Funding Plan (CFP), which is updated as the balance sheet evolves. The CFP is linked to stress test results and forms the foundation for liquidity risk limits. Limits in the business-asusual environment are bounded by capacity to satisfy the Group’s liquidity needs in the stress environments. The CFP provides a detailed description of the availability, size and timing of all sources of contingent liquidity available to the Group in a stress event. These are ranked in order of economic impact and effectiveness to meet the anticipated stress requirement. The CFP includes documented procedures and signoffs for actions that may require businesses to provide access to customer assets for collateralised borrowing, securitisation or sale. Roles and responsibilities for the effective implementation of the CFP are also documented.
Liquidity reserves The Group maintains liquidity reserves sufficient to satisfy cash requirements, in the event of a severe disruption in its access to funding sources. The reserves consist of cash held on deposit at central banks, high quality unencumbered government securities and other unencumbered collateral. Government securities vary by type and jurisdiction based on local regulatory considerations. The currency mix of the reserves reflects the underlying balance sheet composition.
Regulatory developments* There have been a number of significant developments in the regulation of liquidity risk.
After an observation period beginning in 2011, the LCR, including any revisions, will be introduced on 1 January 2015. The NSFR, including any revisions, will move to a minimum standard by 1 January 2018.
Disposal group deposits included above - banks 1 266 618 - customers 22,610 2,267 8,907 22,611 2,533 9,525
Deposits 32.9 34.7 77.3 Notes issued 69.5 95.0 139.0 STWF excluding derivative collateral 102.4 129.7 216.3 Derivative collateral 31.8 28.1 32.6 STWF including derivative collateral 134.2 157.8 248.9
The table below shows the Group’s debt securities in issue and subordinated liabilities by remaining maturity.
Less than 1 year 11,164 21,396 36,302 — 27 68,889 624 69,513 36.8 1-3 years — 278 26,595 2,760 479 30,112 3,338 33,450 17.7 3-5 years — 2 16,627 3,673 — 20,302 7,232 27,534 14.6 More than 5 years — 1 26,185 2,674 14,458 43,318 15,125 58,443 30.9 11,164 21,677 105,709 9,107 14,964 162,621 26,319 188,940 100.0
Less than 1 year 17,320 46,051 30,589 — 88 94,048 964 95,012 38.7 1-3 years — 702 47,357 1,078 12 49,149 754 49,903 20.3 3-5 years — 12 21,466 1,294 34 22,806 8,476 31,282 12.8 More than 5 years — 5 31,614 1,728 19,022 52,369 16,859 69,228 28.2 17,320 46,770 131,026 4,100 19,156 218,372 27,053 245,425 100.0
Key point Debt securities in issue with a maturity of less than one year declined £25.1 billion from £94.0 billion at 31 December 2010 to £68.9 billion at 31 December 2011, largely due to the maturity of £20.1 billion of notes issued under the UK Government’s Credit Guarantee Scheme (CGS). The remaining notes issued under the CGS are due to mature in 2012, £15.6 billion in the first quarter of the year and £5.7 billion in the second quarter.
Notes: (1) Excludes derivative cash collateral of £41 billion at 31 December 2011 (2010 - £38 billion; 2009 - £33 billion), 2011 average of £35 billion (2010 - £34 billion; 2009 - £40 billion). (2) Excludes Federal Home Loan Bank’s long-term borrowings of £1 billion at 31 December 2011 (2010 - £1 billion), 2011 average of £1 billion (2010 - £1 billion).
As the Group delevers, with Non-Core and GBM third party assets decreasing and Retail & Commercial deposits increasing, net term debt issuance decreased from £32 billion in 2010 to £21 billion in 2011. The net requirement in 2012 is not expected to exceed £10 billion as further deleveraging should cover the differences.*
The Group undertakes voluntary buybacks of its privately issued debt in order to maintain client relationships and as part of its normal market making activities. These transactions are conducted at prevailing market rates.
The table below shows the currency breakdown of public and private long-term debt securities issued.
The Group has issued approximately £2.8 billion since year end, including a £1 billion public covered bond issuance and a US$1.2 billion securitisation.
Liquidity management Liquidity risk management requires ongoing assessment and calibration of: how the various sources of the Group’s liquidity risk interact with each other; market dynamics; and regulatory developments to determine the overall size of the Group’s liquid asset buffer. In addition to the size determination, the composition of the buffer is also important. The composition is reviewed on a continuous basis in order to ensure that the Group holds an appropriate portfolio of high quality assets that can provide a cushion against market disruption and dislocation, even in the most extreme stress circumstances.
Cash and balances at central banks 74,711 69,932 53,661 51,500 Treasury bills 5,937 — 14,529 30,010 Central and local government bonds (1) - AAA rated governments and US agencies 37,947 29,632 41,435 30,140 - AA- to AA+ rated governments (2) 3,074 14,102 3,744 2,011 - governments rated below AA 925 955 1,029 1,630 - local government 4,779 4,302 5,672 5,706 46,725 48,991 51,880 39,487 Other assets (3) - AAA rated 21,973 25,202 17,836 20,246 - below AAA rated and other high quality assets 12,102 11,205 16,693 29,418
Notes: (1) Includes FSA eligible government bonds of £36.7 billion at 31 December 2011 (2010 - £34.7 billion; 2009 - £19.9 billion). (2) Includes AAA rated US government guaranteed and US government sponsored agencies. The US government was downgraded from AAA to AA+ by S&P on 5 August 2011, although not by
Moody’s or Fitch. These securities are reflected here. (3) Includes assets eligible for discounting at central banks.
Liquidity and funding metrics The Group continues to improve and augment liquidity and funding risk management practices, in light of market experience and emerging regulatory and industry standards. The Group monitors a range of liquidity and funding indicators. These metrics encompass short and long-term liquidity requirements under stress and normal operating conditions. Two key structural ratios are described below.
Note: (1) Loans are net of provisions, excluding repos. For Group before RFS MI only for 2009.
2011 2010 2009 ASF(1) ASF(1) ASF(1) Weighting £bn £bn £bn £bn £bn £bn %
Equity 76 76 77 77 80 80 100 Wholesale funding > 1 year 124 124 154 154 144 144 100 Wholesale funding < 1 year 134 — 157 — 250 — — Derivatives 524 — 424 — 422 — — Repurchase agreements 129 — 115 — 106 — — Deposits - Retail and SME - more stable 227 204 172 155 166 149 90 - Retail and SME - less stable 31 25 51 41 50 40 80 - Other 179 89 206 103 199 99 50 Other (2) 83 — 98 — 105 — — Total liabilities and equity 1,507 518 1,454 530 1,522 512
Notes: (1) Available stable funding. (2) Deferred tax, insurance liabilities and other liabilities. (3) Prepayments, accrued income, deferred tax and other assets.
Available stable funding decreased by £12 billion in the year as a result of a £30 billion reduction in long-term wholesale funding, including the move into short-term of approximately £20 billion of balances under the CGS. This was offset by a £19 billion increase in qualifying deposit balances, including classification of certain deposits as more stable, as some assumptions and methodologies were refined.
Refer to Note 30 on the consolidated accounts on page 396 for the asset categories, together with the carrying value of the assets and associated liabilities for those securitisations and other asset transfers, other than conduits (refer to page 125), where the assets continue to be recorded on the Group's balance sheet.
The Group’s involvement in conduits takes a number of forms. It may: Sponsor an ABCP programme i.e. establish the programme and approve the sellers permitted to participate in the programme and the asset pools to be purchased by the programme; Administer an ABCP programme; Provide the ABCP conduit with liquidity facilities; Provide the ABCP conduit with a programme-wide credit enhancement facility; or
£m Non-Core £m Total £m Core £m Non-Core £m Total £m Core £m Non-Core £m Total £m
The average maturity of ABCP issued by the Group’s conduits at 31 December 2011 was 42.6 days (2010 - 69.4 days; 2009 - 58.4 days).
Balance sheet management: Liquidity and funding risk continued Conduits continued The Group has not utilised its own-asset conduit with a committed liquidity of £26 billion (2010 - £26 billion) to access the Bank of England’s open market operations for contingent funding purposes. This conduit is not included above, or in the tables on pages 126 and 127.
Auto loans 4,943 346 5,289 2,964 — 8,253 Corporate loans 115 2,340 2,455 106 — 2,561 Credit card receivables 2,088 — 2,088 1,209 — 3,297 Trade receivables 761 — 761 1,090 — 1,851 Student loans 757 — 757 532 (132) 1,157 Consumer loans 1,889 — 1,889 111 — 2,000 Mortgages - prime 2,569 3 2,572 752 — 3,324 - non-conforming 1,371 — 1,371 20 — 1,391 - sub-prime 103 — 103 19 — 122 - commercial 210 450 660 76 (21) 715 Other 1,072 997 2,069 (1) (10) 2,058 15,878 4,136 20,014 6,878 (163) 26,729
Balance sheet management: Liquidity and funding risk continued Assets and liabilities by contractual cash flow maturity The tables below show the contractual undiscounted cash flows receivable and payable, up to a period of twenty years, including future receipts and payments of interest of on-balance sheet assets by contractual maturity. The balances in the table below do not agree directly with the consolidated balance sheet, as the table includes all cash flows relating to principal and future coupon payments, presented on an undiscounted basis. The tables have been prepared on the following basis: The contractual maturity of on-balance sheet assets and liabilities highlights the maturity transformation which underpins the role of banks to lend long-term, but to fund themselves predominantly by short-term liabilities such as customer deposits. This is achieved through the diversified funding franchise of the Group across an extensive retail, wealth and SME customer base, and across a wide geographic network. In practice, the behavioural profiles of many assets and liabilities exhibit greater stability and longer maturity than the contractual maturity.
The principal amounts of financial assets and liabilities that are repayable after twenty years or where the counterparty has no right to repayment of the principal are excluded from the table, as are interest payments after twenty years.
Guarantees and commitments notional amount Guarantees (1) 24,886 — — — — — Commitments (2) 239,963 — — — — —
Interest rate risk The banking book consists of interest bearing assets, liabilities and derivative instruments used to mitigate risks which are accounted for on an accrual basis, as well as non-interest bearing balance sheet items, which are not subjected to fair value accounting.
However, mismatches in these sensitivities give rise to net interest income (NII) volatility as interest rates rise and fall. For example, a bank with a floating rate loan portfolio and largely fixed rate deposits will see its NII rise as interest rates rise and fall as rates decline. Due to the longterm nature of many banking book portfolios, varied interest rate repricing characteristics and maturities, it is likely the NII will vary from period to period, even if interest rates remain the same. New business volumes originated in any period will alter the interest rate sensitivity of a bank if the resulting portfolio differs from portfolios originated in prior periods.
The Group assesses interest rate risk in the banking book (IRRBB) using a set of standards to define, measure and report the market risk. It is the Group’s policy to minimise interest rate sensitivity in banking book portfolios and where interest rate risk is retained, to ensure that appropriate measures and limits are applied. Key measures used to evaluate IRRBB are subjected to approval of divisional Asset and Liability Management Committees (ALCOs) and the Group Asset and Liability Management Committee (GALCO).
Citizens and GBM manage their own IRRBB exposures within approved limits to satisfy their business objectives.
A breakdown of the Group’s IRRBB VaR by currency is shown below.
The reduction in US dollar VaR reflects, in part, changes in holding period assumptions following changes in Non-Core assets.*
Balance sheet management: Interest rate risk continued Sensitivity of net interest income* The Group seeks to mitigate the effect of prospective interest rate movements, which could reduce future net interest income (NII) in the Group’s businesses, whilst balancing the cost of such activities on the current net revenue stream. Hedging activities also consider the impact on market value sensitivity under stress.
The reported sensitivity will vary over time due to a number of factors such as market conditions and strategic changes to the balance sheet mix and should not therefore be considered predictive of future performance.
Structural foreign currency exposures Structural foreign exchange exposures represent net investment in subsidiaries, associates and branches, the functional currencies of which are currencies other than sterling. The Group hedges structural foreign currency exposures only in limited circumstances. The Group’s objective is to ensure, where practical, that its consolidated capital ratios are largely protected from the effect of changes in exchange rates. The Group seeks to limit the sensitivity to its Core Tier 1 ratio to 20 basis points in a 10% rate shock scenario. The Group’s structural foreign currency position is reviewed by GALCO regularly.
US dollar 17,137 2 17,135 (1,820) 15,315 (4,058) 11,257 Euro 8,443 33 8,410 (578) 7,832 (2,305) 5,527 Other non-sterling 5,320 244 5,076 (4,135) 941 — 941 30,900 279 30,621 (6,533) 24,088 (6,363) 17,725 2009 US dollar 15,589 (2) 15,591 (3,846) 11,745 (5,696) 6,049 Euro 21,900 13,938 7,962 (2,351) 5,611 (3,522) 2,089 Other non-sterling 5,706 511 5,195 (4,001) 1,194 — 1,194 43,195 14,447 28,748 (10,198) 18,550 (9,218) 9,332
Note: (1) The economic hedges represent US dollar and euro preference shares in issue that are treated as equity under IFRS, and do not qualify as hedges for accounting purposes.
Changes in foreign currency exchange rates will affect equity in proportion to structural foreign currency exposure. A 5% strengthening in foreign currencies against sterling would result in a gain of £1.27 billion (2010 - £1.27 billion; 2009 - £0.98 billion) in equity, while a 5% weakening would result in a loss of £1.15 billion (2010 - £1.15 billion; 2009 - £0.88 billion) in equity.
Equity risk The Group holds equity positions in the banking book in order to achieve strategic objectives, such as membership of an exchange or clearing house, or to support venture capital transactions or customer restructuring arrangements. The Group is exposed to market risk on these banking book equity positions because they are measured at fair value. Fair values are based on available market prices where possible. In the event that market prices are not available, fair value is based on appropriate valuation techniques or management estimates.
The table below sets out the Group’s banking book equity positions. Listed Unlisted Total 2011 £m £m £m
Note: (1) The table above excludes equity exposures held-for-trading and those held by insurance/assurance entities.
Credit risk All the disclosures in this section (pages 134 to 160) are audited unless otherwise indicated by an asterisk (*).
Credit risk is the risk of financial loss owing to the failure of a customer to meet its obligation to settle outstanding amounts. The quantum and nature of credit risk assumed across the Group’s different businesses vary considerably, while the overall credit risk outcome usually exhibits a high degree of correlation with the macroeconomic environment.
Responsibility for development of Group-wide policies, credit risk frameworks, Group-wide portfolio management and assessment of provision adequacy, sits within the Group Credit Risk (GCR) function under the management of the Group Chief Credit Officer. Execution of these policies and frameworks is the responsibility of the risk management functions, located within the Group’s business divisions. These divisional credit risk functions work together with GCR to ensure that the Group Board’s expressed risk appetite is met, within a clearly defined and managed control environment. The credit risk function within each division is managed by a Chief Credit Officer, who reports jointly to a divisional Chief Risk Officer and to the Group Chief Credit Officer. Divisional activities within credit risk include credit approval, transaction and portfolio analysis, early problem recognition and ongoing credit risk stewardship.
Risk appetite Credit concentration risk is managed and controlled through a series of frameworks designed to limit concentration by product/asset class, sector, single name and country. These are supported by a suite of Group-wide and divisional policies, setting out the risk parameters within which business units may operate. Information on the Group’s credit portfolios is reported to the Group Board by way of the divisional and Group-level risk committees.
Throughout 2011, GCR’s emphasis was on embedding the new risk management frameworks introduced in 2009 and 2010 and on ensuring alignment with the strategic risk objectives being pursued across the Group. Risk appetite has been expressed by the Group Board by reference to earnings volatility and stable capital and these principles underpin the frameworks that GCR has established, and is continuing to refine, to manage the Group’s concentration risks in the Core balance sheet, by product/asset class, sector, single name and country.
Product/asset class concentration framework Retail - a formal framework establishes Group-level statements and thresholds that are cascaded through all retail franchises in the Group and to granular business lines. These include measures that relate both to aggregate portfolios and to asset quality at origination, which are tracked frequently to ensure consistency with Group standards and appetite. This appetite setting and tracking then informs the processes and parameters employed in origination activities, which require a large volume of small-scale credit decisions, particularly those involving an application for a new product or a change in facilities on an existing product. The majority of these decisions are based upon automated strategies utilising credit and behaviour scoring techniques. Scores and strategies are typically segmented by product, brand and other significant drivers of credit risk. These data driven strategies utilise a wide range of credit information relating to a customer including, where appropriate, information across customer holdings. A small number of credit decisions are subject to additional manual underwriting by authorised approvers in specialist units. These include higher-value, more complex, small business and personal unsecured transactions and some residential mortgage applications.
Sector concentration framework Across wholesale portfolios, exposures are assigned to, and reviewed in the context of, a defined set of industry sectors. Through this sector framework, appetite and portfolio strategies are agreed and set at aggregate and more granular levels where exposures have the potential to represent excessive concentration or where trends in both external factors and internal portfolio performance give cause for concern. Formal periodic reviews are undertaken at Group or divisional level depending on materiality. These may include an assessment of the Group’s franchise in a particular sector, an analysis of the outlook (including downside outcomes), identification of key vulnerabilities and stress/scenario tests. Specific reporting on trends in sector risk and on status versus agreed appetite and portfolio strategies is provided to senior management and to the Group Board.
As a result of the reviews carried out in 2011, the Group has reduced its risk appetite in the higher-risk sectors of leisure, media, commercial real estate, construction, automotive, and airlines and aerospace.
The impact of the eurozone crisis has been felt most significantly in the financial institutions sector, where widening credit spreads and regulatory demand for increases in Tier 1 capital have exacerbated the risk management challenges already posed by the sector’s continued weakness, as provisions and write-downs remain elevated. A material percentage of global banking activity in risk mitigation now passes through the balance sheets of the top global players, increasing the systemic risks to the sector. The Group’s exposures to these banks continue to be closely managed. The increased use of central clearing houses to reduce counterparty credit risk, including settlement risk, among the larger banks is a welcome move but one that will bring its own challenges. The weaker banks in the eurozone have also been the subject of heightened scrutiny and the Group’s risk appetite for these banks was adjusted continuously throughout 2011.
Credit approval authority is discharged by way of a framework of individual delegated authorities, which requires at least two individuals to approve each credit decision, one from the business and one from the credit risk management function. Both parties must hold sufficient delegated authority under the Group-wide authority grid. Whilst both parties are accountable for the quality of each decision taken, the credit risk management approver holds ultimate sanctioning authority. The level of authority granted to individuals is dependent on their experience and expertise, with only a small number of senior executives holding the highest authority provided under the framework. Daily monitoring of individual counterparty limits is undertaken.
Risk management: Credit risk continued Risk appetite continued Since 2009, the Group has been managing its corporate exposures to reduce concentrations and align its appetite for future business to the Group’s broader strategies for its large corporate franchises. In the last quarter of 2011, the Group announced further refinements to the single name exposure management controls already in place, which brings them more closely in line with market best practice and which allows the Group to differentiate more consistently between the different risk types. These changes are expected to be implemented during the first quarter of 2012. The Group is continually reviewing its single name concentration framework to ensure that it remains appropriate for current economic conditions and in line with improvements in the Group’s risk measurement models.
Controls and assurance* A strong independent assurance function is an important element of a sound control environment. During 2011, the Group took the decision to strengthen its credit quality assurance (CQA) activities and moved all divisional CQA resources under the centralised management of Group Credit Risk. The benefits of this action are already apparent in greater consistency of standards and cross utilisation of resources. Reviews planned for 2012 will benefit from the availability of subject matter experts across all material products and classes and an improved ability to track control breaches and strengthen processes.
The Group Credit Risk function launched an assurance process to provide the Group Chief Credit Officer with additional evidence of the effectiveness of the controls in place across the Group to manage risk. The results of these reviews will be provided to the Executive Risk Forum and to the Board Risk Committee on a regular basis in support of the selfcertification that Group Credit Risk is obliged to complete under the Group Policy Framework (refer to Operational risk on page 236 to 239).
Customers identified through either the EWIs or annual review are reviewed by portfolio management and/or credit officers within the division, who determine whether or not the customer’s circumstances warrant placing the exposure on the Watchlist process (detailed below).
For all Watchlist Red cases, the division is required to consult with the GRG on whether the relationship should be transferred to the GRG (see more on the GRG below). Relationships managed by the divisions tend to be with companies operating in niche sectors such as airlines or products such as securitisation special purpose vehicles. The divisions may also manage those exposures when subject matter expertise is available in the divisions rather than within the GRG.
At 31 December 2011, exposure to customers reported as Watchlist Red and managed within the divisions totalled £4.9 billion.
Strategies that are available within divisions include granting the customer various types of concessions. Any decision to approve a concession will be a function of the division’s specific country and sector appetite, the key credit metrics of the customer, the market environment and the loan structure/security. Only those concessions deemed to be outside current market norms are reported as restructurings in the discussions below.
Other potential outcomes of the review of the relationship are to: take the customer off Watchlist and return it to the mainstream loan book; offer further lending and maintain ongoing review; transfer the relationship to the GRG for those customers requiring such stewardship; or exit the relationship altogether.
The following table shows a sector breakdown of these exposures: Watchlist Red credit risk assets under GRG management Core £m Non-Core £m Total £m
Types of wholesale restructurings A number of options are available to the Group when corrective action is deemed necessary. The Group may offer a temporary covenant waiver, a recalibration of covenants and/or an amendment of restrictive covenants to mitigate a potential or actual covenant breach. Such relief is usually granted in exchange for fees, increased margin, additional security, or a reduction in maturity profile of the original loan. Such covenant-related concessions are not included in the quantitative loan restructuring disclosures below.
The reported restructurings comprise the following types of concessions: Variation in margin - the contractual margin may be amended to bolster the customer’s day-to-day liquidity, with the aim of helping to sustain the customer’s business as a going concern. This would normally be seen as a short-term solution and is typically accompanied by the Group receiving an exit payment, a payment in kind or a deferred fee.
Forgiveness of all or part of the outstanding debt - debt may be forgiven or exchanged for equity in cases where a fundamental shift in the customer’s business or economic environment means that the customer is incapable of servicing current debt obligations and other forms of restructuring are unlikely to succeed in isolation. Debt forgiveness is often an element in leveraged finance transactions, which are typically structured on the basis of projected cash flows from operational activities, rather than underlying tangible asset values. Provided that the underlying business model and strategy are considered viable, maintaining the business as a going concern with a sustainable level of debt is the preferred option, rather than realising the value of the underlying assets.
The vast majority of the restructurings reported by the Group take place within the GRG. Forgiveness of debt and exchange for equity is only available to customers in the GRG.
Notes: (1) Probability of default less than 100%. (2) Probability of default is 100%.
Provisioning for impaired loans Any one of the above types of restructuring may result in the value of the outstanding debt exceeding the present value of the estimated future cash flows from the restructured loan resulting in the recognition of an impairment loss. Restructurings that include forgiveness of all or part of the outstanding debt account for the majority of such cases.
Provisions on exposures greater than £1 million are individually assessed by the GRG. Exposures smaller than £1 million are deemed not to be individually significant and are assessed collectively by the originating division.
Refer to Impairment loss provision methodology on pages 202 and 203.
Recoveries and active insolvency management The ultimate outcome of a restructuring strategy is unknown at the time of execution. It is highly dependent on the cooperation of the borrower and the continued existence of a viable business. The following are generally considered to be options of last resort: Enforcement of security or otherwise taking control of assets - where the Group holds collateral or other security interest and is entitled to enforce its rights, it may take ownership or control of the assets. The Group’s preferred strategy is to consider other possible options prior to exercising these rights.
Insolvency - where there is no suitable restructuring option or the business is no longer regarded as sustainable, insolvency will be considered. Insolvency may be the only option that ensures that the assets of the business are properly and efficiently distributed to relevant creditors.
Retail customers Early problem recognition and collections There are collections functions in each of the retail businesses. Their role is to provide support and assistance to customers who are experiencing difficulties in meeting their financial obligations to the Group. Evidence of such difficulties includes, for example, a missed payment on their loan, or a balance that is in excess of the agreed credit limit. Additionally, in UK Retail and Ulster Bank, a dedicated support team aims to identify and help customers who may be facing financial difficulty but who are current with their payments.
Types of retail forbearance A number of forbearance options are utilised by the Group’s retail businesses. These include, but are not limited to, reduced repayments, payment holidays, capitalisations of arrears, term extensions and conversions to interest only. Within UK Retail, interest only conversions are generally made available only to those customers who are current on payments and have a defined repayment source.
The principal types of forbearance granted in RBS Citizens’ mortgage portfolio are the US government mandated HAMP (Home Affordable Modification Program) and Citizens’ proprietary modification programme. Both programmes typically feature a combination of term extensions, capitalisations of arrears, temporary interest rate reductions and conversions from interest only to amortising. These tend to be permanent changes to contractual terms. Borrowers seeking a modification must meet government specified qualifications for HAMP and internal qualifications for Citizens’ modification programme. Both are designed to evidence that the borrower is in financial difficulty as well as demonstrating willingness to pay.
The mortgage forbearance population is reviewed regularly to ensure that customers are meeting the agreed terms of the arrangement. Key metrics have been developed to record the proportion of customers who fail to meet the agreed terms over time as well as the proportion of customers who return to a performing state with no arrears.
Risk management: Credit risk continued Problem debt management continued The mortgage arrears information for retail accounts in forbearance and related provision arrangements are shown in the table below: No missed payments 1-3 months in arrears >3 months in arrears Total
Arrears status and provisions £m £m £m £m £m £m £m £m % 2011
UK Retail (1,2) 3,677 16 351 13 407 59 4,435 88 4.7 Ulster Bank (1,2) 893 78 516 45 421 124 1,830 247 9.1 Citizens — — 91 10 89 10 180 20 0.8 Wealth 121 — — — 2 — 123 — 1.3 Total 4,691 94 958 68 919 193 6,568 355 4.4
UK Retail (1) Ulster Bank (1) Citizens Wealth Total (2) Forbearance arrangements £m £m £m £m £m 2011
Notes: (1) Comprises the current stock position of forbearance deals agreed since January 2008 for UK Retail and since July 2008 for Ulster Bank. (2) As an individual case can include more than one type of arrangement, the analysis in the table above can exceed the total forbearance.
For unsecured portfolios in UK Retail, 1.1% of the total unsecured population was subject to forbearance at 31 December 2011 and comprises either debt consolidation loans provided to customers subject to collections activity who do not meet the Group’s standard underwriting criteria or repayment arrangements where the customer's overdraft limit is increased to accommodate account excesses and/or loan arrears. Additionally, support is provided to customers experiencing financial difficulties through breathing space initiatives’ on all unsecured products, including credit cards, whereby a 30-day period is given to allow customers to establish a debt repayment plan. During this time, the Group suspends collection activity and a further extension of 30 days can be granted if progress is made and discussions are continuing. Arrears continue to accrue for customer loans benefiting from breathing space.
Within Citizens, granting of forbearance is significantly less extensive for non real estate portfolios, as it is predominantly restricted to the granting of short-term (1-3 months) loan extensions to customers to alleviate the financial burden caused by temporary hardship. Such extensions are offered only if a customer has demonstrated a capacity and willingness to pay following the extension term. The number and frequency of extensions are limited per customer. Additionally, in the case of loans secured by vehicles and credit cards, Citizens may offer temporary interest rate modifications but no principal reduction. For loans secured by vehicles, this is now restricted to three-month interest rate modifications. For credit cards, customers may be offered shortterm (6-12 months) or longer-term (up to 60 months) interest rate modifications. Citizens may also provide forbearance to student loan borrowers consistent with the policy guidelines of the US Office of the Comptroller of the Currency.
Non-performing mortgage accounts that have been granted forbearance carry the same provision rate as non-forborne accounts.
Credit risk mitigation Introduction* The Group employs a number of structures and techniques to mitigate credit risk. Netting of debtor and creditor balances is undertaken in accordance with relevant regulatory and internal policies. Exposure on over-the-counter derivative and secured financing transactions is further mitigated by the exchange of financial collateral and the use of market standard documentation. Further mitigation may be undertaken in a range of transactions, from retail mortgage lending to large wholesale financing. This can include: structuring a security interest in a physical or financial asset; use of credit derivatives, including credit default swaps, credit-linked debt instruments and securitisation structures; and use of guarantees and similar instruments (for example, credit insurance) from related and third parties. Such techniques are used in the management of credit portfolios, typically to mitigate credit concentrations in relation to an individual obligor, a borrower group or a collection of related borrowers.
The use and approach to credit risk mitigation varies by product type, customer and business strategy. Minimum standards applied across the Group cover: The suitability of qualifying credit risk mitigation types and any conditions or restrictions applicable to those mitigants; The means by which legal certainty is to be established, including required documentation and all necessary steps required to establish legal rights; Acceptable methodologies for initial and any subsequent valuations of collateral and the frequency with which collateral is to be revalued and the use of collateral haircuts; Actions to be taken in the event that the value of mitigation falls below required levels; Management of the risk of correlation between changes in the credit risk of the customer and the value of credit risk mitigation; Management of concentration risks, for example, by setting thresholds and controls on the acceptability of credit risk mitigants and on lines of business that are characterised by a specific collateral type or structure; and
Risk management: Credit risk continued Credit risk mitigation continued Corporate exposures The type of collateral taken by the Group’s commercial and corporate businesses and the manner in which it is taken will vary according to the activity and assets of the customer.
The Group uses industry-standard loan and security documentation wherever possible. Non standard documentation is typically prepared by external lawyers on a case-by-case basis. The Group’s business and credit teams are supported by in-house specialist documentation teams.
Retail exposures Within the Group’s retail book, mortgage and home equity lending portfolios are secured by residential property. The Group’s portfolio of US automobile loans is secured by motor cars or other vehicles. Student loans and credit card lending are all unsecured. The vast majority of personal loans are also unsecured.
The value of a property intended to secure a mortgage is assessed during the loan underwriting process using industry-standard methodologies. Property values supporting home equity lending reflect either an individual appraisal or valuations generated by statistically valid automated valuation models. Property values are updated each quarter using the relevant house price index (the Halifax Quarterly Regional House Price Index in the UK, the Case-Shiller Home Value Index in the US, and the Central Statistics Office Residential Property Price Index and the Nationwide House Price Index in Ireland).
The existence of collateral has an impact on provisioning levels. Once a secured loan is classified as non-performing, the realisable value of the underlying collateral and the costs associated with repossession are used to estimate the provision required.
Residential mortgages The table below shows period end LTVs for the Group’s residential mortgage portfolio split between performing and non-performing and calculated on a value basis. Loan balances are as at the end of the year whereas property values are calculated using the appropriate index at 30 September 2011.
Total portfolio average LTV (by value) 73.2% 101.4% 72.4% 91.7% 73.5% 90.1%
Risk management: Credit risk continued Credit risk measurement* Credit risk models are used throughout the Group to support the quantitative risk assessment element within the credit approval process, ongoing credit risk management, monitoring and reporting and portfolio analytics. Credit risk models used by the Group may be divided into three categories, as follows.
Exposure at default Facility usage models estimate the expected level of utilisation of a credit facility at the time of a borrower’s default. For revolving and variable draw down type products which are not fully drawn, the exposure at default (EAD) will typically be higher than the current utilisation. The methodologies used in EAD modelling provide an estimate of potential exposure and recognise that customers may make more use of their existing credit facilities as they approach default.
Counterparty credit risk exposure measurement models are used for derivatives and other traded instruments, where the amount of credit risk exposure may be dependent upon one or more underlying market variables, such as interest or foreign exchange rates. These models drive internal credit risk management activities such as limit and excess management.
Loss given default These models estimate the economic loss that may be experienced (the amount that cannot be recovered) by the Group on a credit facility in the event of default. The Group’s loss given default models take into account both borrower and facility characteristics for unsecured or partially unsecured facilities, as well as the quality of any risk mitigation that may be in place for secured facilities, the cost of collections and a time discount factor for the delay in cash recovery.
Reverse repurchase agreements and issuer risk (primarily debt securities - refer to pages 175 to 177) are excluded. Where relevant and unless otherwise stated, the data reflect the effect of credit mitigation techniques.
Global Transaction Services 34,719 35,462 32,428 Ulster Bank 37,781 40,750 42,042 US Retail & Commercial 56,412 51,699 52,104
Asset quality Using the probability of default models described previously, customers are assigned credit grades and scores, which are used for internal management reporting across portfolios, including a Group level asset quality scale, as shown below.
UK Retail 5,097 4.6 5,017 4.6 4,846 4.7 UK Corporate 5,469 5.3 5,130 4.8 5,604 5.1 Wealth 12 0.1 9 — 11 0.1 Global Transaction Services 275 0.8 349 1.0 242 0.7 Ulster Bank 6,305 16.7 4,348 10.7 2,741 6.5 US Retail & Commercial 646 1.1 599 1.2 506 1.0 Retail & Commercial 17,804 4.9 15,452 4.3 13,950 3.9 Global Banking & Markets 2,314 1.4 2,551 1.5 2,806 1.4 Core 20,118 3.4 18,003 3.2 16,756 3.0 Non-Core 25,020 27.0 25,005 19.9 22,666 14.3 45,138 6.6 43,008 6.2 39,422 5.5
Key points Trends in the asset quality of the Group’s credit risk exposures in 2011 reflected changes in the composition of the Core portfolio in line with the re-balancing achieved through the Group’s sector concentration framework, the run-off of Non-Core assets and changes in the external environment. Significant deposits were placed with central banks and this resulted in a large increase in the Group’s exposures within the AQ1 band.
Portfolio by sector and geographical region Sector analysis plays an important part in assessing the potential for concentration risk in the loan portfolio. Particular attention is given to sectors where the Group believes there is a high degree of risk or potential for volatility in the future.
The table below details credit risk assets by sector and geographical region. Sectors are based on mappings aligned to the Group’s sector concentration framework. Geographical region is based on country of incorporation.
Credit risk assets by sector and geographical region 2011 UK £m
Other financial institutions 14,800 14,125 17,697 4,820 8,441 1,473 61,356 43,762 17,594 Sovereign (2) 18,172 27,421 4,038 3,950 414 2,217 56,212 53,595 2,617 Property 72,768 35,558 11,221 3,507 3,127 1,440 127,621 74,892 52,729 Natural resources 7,876 9,460 9,817 3,029 3,523 4,972 38,677 26,058 12,619 Manufacturing 11,197 14,875 8,718 3,695 1,306 2,633 42,424 33,400 9,024 Transport (3) 14,097 7,033 7,287 5,294 2,604 7,140 43,455 28,362 15,093 Retail and leisure 25,811 8,236 6,148 3,602 1,205 1,691 46,693 35,580 11,113 Telecommunications, media and technology 6,128 8,340 4,854 2,040 680 1,409 23,451 13,645 9,806 Business services 20,497 6,772 6,950 1,137 1,439 903 37,698 32,375 5,323 319,389 192,122 119,385 41,569 24,180 26,912 723,557 565,058 158,499
Notes: (1) Comprises Central and Eastern Europe, Middle East, Central Asia and Africa, and supranationals such as the World Bank. (2) Includes central bank exposures. (3) Excludes net investment in operating leases in shipping and aviation portfolios as they are accounted for as property, plant and equipment. However, operating leases are included in the monitoring and management of these portfolios. (4) 2010 data were restated due to supranational counterparties being re-mapped from Western Europe to Other.
The other financial institutions sector comprises traded and nontraded products and is spread across a wide range of financial companies including insurance companies, securitisation vehicles, financial intermediaries including central counterparties (CCPs), financial guarantors - monolines and credit derivative product companies (CDPCs) - and unleveraged, hedge and leveraged funds. The size and asset quality of this portfolio are stable and have not changed materially since 2010. However, entities in this sector remain vulnerable to market shocks or contagion from the banking sector crisis. Credit risk for these sectors is managed through both the sector concentration and asset and product class frameworks, with specific sector and product caps introduced where there is a perception of heightened credit risk, such as with leveraged funds and insurance holding companies. Additionally, policies were tightened for riskier products to entities in this portfolio, such as committed lending, to reduce risks from a customer default. During the year, a comprehensive securitisation framework was established to cap the securitisation portfolio and to control concentrations to the underlying asset classes and originators. The Group is currently reassessing its risk appetite framework for CCPs to reflect increases in activity with these entities, as a result of regulatory requirements for derivatives to be cleared through CCPs. In 2011, the Group continued to manage down its exposures to monolines and CDPCs and was successful in commuting trades with entities in this portfolio.
The Group’s exposure to the property sector totals £102 billion (a reduction of 10% during the year), the majority of which is commercial real estate (refer to page 150 for further detail). The remainder comprises lending to construction companies, housing associations and building material companies. The majority of property exposure (with the exception of Non-Core) is within UK Corporate (63%). Asset quality in other property sub-sectors remained stable during the year and whilst there are some material single name concentrations in the construction sector due to industry consolidation, overall appetite remains controlled through the sector concentration limits framework.
The exposure to the retail sector attracts heightened scrutiny due to its cyclical nature. Stress testing has confirmed that the retail sector has an above average vulnerability to a high UK inflation and interest rate scenario. Certain sub-sectors have proven less vulnerable to macroeconomic volatilities (e.g. food and beverage) as have larger retailers with well established brands and multiple channel offerings. Total exposure declined 6% during 2011. Despite recent high profile failures of UK high street retailers, loss experience on the RBS retail portfolio over 2011 was low, following the earlier exit from some parts of the portfolio. The portfolio is generally well diversified by geography and by counterparty.
The Group’s transport sector includes £11.7 billion of asset-backed exposure to ocean-going vessels. The downturn observed in the shipping sector since 2008 continued during 2011, with further pressure on second-hand values and deliveries of new build vessels into poor markets. A key protection for the Group is the minimum security covenant. This covenant is tested each quarter on an individual vessel basis to ensure that prompt remedial action is taken if values fall significantly below agreed loan coverage ratios. At 31 December 2011, 1% of the Group’s exposure to this sector was in Watchlist Red.
Exposure to the healthcare and education sectors is included in the business services sector and totalled £13.4 billion at year-end. It is mostly UK focused and is heavily biased towards the health sector, which represents 74% of the exposure. The sector has performed well despite the difficult economic conditions but there are continuing uncertainties over the impact of Government spending reductions. Key concerns remain over the nursing home sub-sector, where the lower end of the elderly care home book saw an increased rate of customers being placed on Watchlist and higher defaults over 2011. Actions were taken to rebalance the portfolio towards the stronger operators.
UK (excluding NI) (1) 32,334 7,255 1,520 8,288 49,397 26,168 13,421 5,997 3,811 49,397 Ireland (ROI & NI) (1) 5,056 1,148 2,785 6,578 15,567 3,159 3,044 963 8,401 15,567 Western Europe 10,568 643 25 42 11,278 409 10,802 25 42 11,278 US 7,345 1,296 69 175 8,885 4,636 4,005 173 71 8,885 RoW 1,622 25 138 498 2,283 244 1,404 488 147 2,283 56,925 10,367 4,537 15,581 87,410 34,616 32,676 7,646 12,472 87,410
Note: (1) Excludes commercial real estate lending in Wealth as these loans are generally supported by personal guarantees in addition to collateral. This portfolio, which totalled £1.3 billion at 31 December 2011 continues to perform in line with expectations and requires minimal provision.
Key points In line with the Group’s strategy, exposure to commercial real estate was reduced during 2011, affecting mainly the UK and Western Europe given that these regions account for the majority of the portfolio. Overall this portfolio decreased circa 25% from the end of 2009 to the end of 2011.
Most of the decrease is in Non-Core due to run-off and asset sales. The Non-Core portfolio totalled £34.3 billion (46% of the portfolio) at 31 December 2011 (2010 - £45.1 billion, or 52% of the portfolio) and includes exposures in Ulster Bank as discussed on page 160.
With the exception of exposure in Spain and in Ireland, the Group has minimal commercial real estate exposure to other eurozone periphery countries. Exposure in Spain is predominantly in the NonCore portfolio and totals £2.3 billion, of which 36% is in AQ1-AQ9. The remainder of the Spanish portfolio has already been subject to material write-off and provision levels have been assessed based on re-appraised values. There are significant differences in values based on geographic location and asset type.
The UK portfolio is focused on London and the South East (44%), with the remainder well spread across the UK regions.
Notes: (1) Includes on demand and past due assets. (2) Predominantly comprises multi-option facilities for which there is no single maturity date.
Breakdown of portfolio by asset quality (AQ) band AQ1-AQ2 AQ3-AQ4 AQ5-AQ6 AQ7-AQ8 AQ9 AQ10 Total 2011 £m £m £m £m £m £m £m
Key points Approximately 13% of the commercial real estate exposure is within the AQ1-AQ4 bands. This includes unsecured lending to property companies and real estate investment trusts. The high proportion of the exposure in the AQ10 band is driven by Ulster Bank Group (Core and Non-Core) and GBM (Non-Core).
Of the total portfolio of £74.8 billion at 31 December 2011, £34.7 billion (2010 - £45.1 billion) is managed within the Group’s standard credit processes and £5.9 billion (2010 - £9.2 billion) is receiving varying degrees of heightened credit management under the Group Watchlist process (this includes all Watchlist Amber cases and Watchlist Red cases managed outside the Global Restructuring Group (GRG)). A further £34.3 billion (2010 - £33.1 billion) is managed within the GRG and includes both Watchlist and non-performing exposures. The increase in the portfolio managed by the GRG is driven by Ulster Bank Group (Core and Non-Core).
The table below analyses commercial real estate lending by loan-to-value (LTV). Due to market conditions in Ireland and to a lesser extent in the UK, there is a shortage of market based data. In the absence of external valuations, the Group deploys a range of alternative approaches including internal expert judgement and indexation.
LTVs AQ1-AQ9 £m AQ10 £m AQ1-AQ9 £m AQ10 £m AQ1-AQ9 £m AQ10 £m
The average interest coverage ratios (ICR) for UK Corporate (Core and Non-Core) and GBM (Non-Core) investment properties are 2.37x and 1.25x respectively. The US Retail & Commercial portfolio is managed on the basis of debt service coverage, which includes scheduled principal amortisation. The average debt service interest coverage for this portfolio on this basis was 1.24x at 31 December 2011. There are a number of different approaches used within the Group and across the industry to calculate ICR. Ratios for different portfolio types, and organisations may not therefore be comparable.
UK Retail - cards, loans and overdrafts 16,004 18,072 20,316 Ulster Bank
Residential mortgages The tables below detail the distribution of residential mortgages by indexed LTV. LTV averages are calculated by transaction volume and transaction value. Refer to the section on Ulster Bank Group on page 159 for analysis of residential mortgages.
LTV distribution calculated on a value basis 2011 £m £m £m £m £m £m
Total portfolio average LTV at 31 December 67.2% 68.1% 70.4% 75.9% 75.4% 74.7%
Residential mortgages which are three months or more in arrears (by volume) 2011
Consistent with the way the Council of Mortgage Lenders publishes member arrears information, the 3+ months arrears rate now excludes accounts in repossession and cases with shortfalls post property sale.
Gross new mortgage lending in 2011 remained strong at £14.7 billion. The average LTV for new business during 2011 declined in comparison to 2010 and the maximum LTV available to new customers remained at 90%. Based on the Halifax House Price index at September 2011, the book average indexed LTV improved marginally when compared to December 2010, with the proportion of balances with an LTV over 100% also lower. Refer to the table on page 159, which details LTV information on a volume and value basis.
The arrears rate (more than three payments in arrears, excluding repossessions and shortfalls post property sale) has remained broadly stable since late 2009 at 1.6%.
Default and arrears rates remain sensitive to economic developments and are currently supported by the low interest rate environment and strong book growth, with recent business yet to fully mature.
Citizens Citizens’ residential mortgage portfolio totalled £23.8 billion at 31 December 2011, a reduction of 3% from 2010 (£24.6 billion).
Risk management: Credit risk continued Key credit portfolios* continued Retail credit assets: Personal lending The Group’s personal lending portfolio includes credit cards, unsecured loans, auto finance and overdrafts. The majority of personal lending exposures exist in the UK and the US. Impairment charges as a proportion of average loans and receivables are shown in the following table.
The UK personal lending portfolio, of which 99.4% is in Core businesses, comprises credit cards, unsecured loans and overdrafts, and totalled £16.0 billion at 31 December 2011 (2010 - £18.1 billion).
The decrease in portfolio size of 11.6% was driven by continued subdued loan recruitment activity and a continuing general market trend of customers repaying unsecured debt.
The Non-Core portfolio consists of the direct finance loan portfolios (Direct Line, Lombard, Mint and Churchill) and totalled £0.1 billion at 31 December 2011 (2010 - £0.4 billion). In the last quarter of 2011, a portfolio of £170 million of balances was disposed of.
Risk appetite continues to be actively managed across all products with investment in collection and recovery processes continuing, addressing both continued support for the Group’s customers and the management of impairments.
Support continues for customers experiencing financial difficulties through ‘breathing space initiatives’. Refer to the disclosures on forbearance on page 140 for more information.
The impairment charge on unsecured lending was £579 million for the year, down 42% on 2010, reflecting the effect of risk appetite tightening. The sale of the direct finance loan book gave rise to a one-off benefit of approximately £30 million.
Core The impairment charge for the year of £1,384 million (2010 - £1,161 million; 2009 - £649 million) reflects the difficult economic climate in Ireland, with elevated default levels across both mortgage and other corporate portfolios. The mortgage sector accounted for £570 million (41%) of the total 2011 impairment charge.
Core Mortgages 16,199 558 102 3.4 18 0.6 74 3 Personal unsecured 2,433 174 145 7.2 83 6.0 66 27 Commercial real estate - investment 6,131 250 105 4.1 42 1.7 84 — - development 3,838 428 284 11.2 66 7.4 221 4 Other corporate 11,106 850 326 7.7 38 2.9 204 — 39,707 2,260 962 5.7 43 2.4 649 34
Non-Core Mortgages 6,002 324 51 5.4 16 0.8 42 — Commercial real estate - investment 2,061 1,498 308 72.7 21 14.9 286 — - development 6,271 3,840 822 61.2 21 13.1 732 — Other corporate 1,373 1,126 322 82.0 29 23.5 217 —
Key points REIL increased by £3.5 billion during the year, which reflects continuing difficult conditions in both the commercial and residential sectors in Ireland. Growth moderated in the last two quarters of 2011 as default trends for corporate portfolios declined.
At 31 December 2011, 68% of REIL was in Non-Core (2010 - 74%; 2009 - 75%). The majority of the Non-Core commercial real estate development portfolio (89%) is REIL with a 57% provision coverage.
LTV distribution calculated on a value basis 2011 £m £m £m
Ulster Bank is assisting customers in this difficult environment. Mortgage forbearance policies which are deployed through the Flex’ initiative are aimed at assisting customers in financial difficulty. At 31 December 2011, 9.1% (by value) of the mortgage book (£1.8 billion) was on a forbearance arrangement compared with 5.8% (£1.2 billion) at 31 December 2010. The majority of these forbearance arrangements are in the performing book (77%) and not 90 days past due.
Within its early problem management framework, Ulster Bank may agree various remedial measures with customers whose loans are performing but who are experiencing temporary financial difficulties. During 2011, commercial real estate loans amounting to £0.8 billion (exposures greater than £10 million) benefited from such measures.
Credit concentration: Sector and geographical region The tables on pages 161 to 170 analyse total financial assets gross of provisions by sector (for Group before RFS MI) and geographical region (for Group before RFS MI and RFS MI). Geographical regions are based on the location of the lending or issuing office.
The tables below and on pages 162 and 163 analyse total financial assets by sector.
Central and local government 2,247 8,359 1,383 9,742 126,604 328 126,932 5,541 641 145,103 1,098 144,005 Finance - banks 39,345 43,374 619 43,993 16,940 — 16,940 — 79,269 179,547 18,693 160,854 - other (3) 58,478 46,452 3,229 49,681 60,453 5,618 66,071 497,993 7,437 679,660 508,481 171,179 Residential mortgages — 138,509 5,102 143,611 — — — 48 — 143,659 — 143,659 Personal lending — 31,067 1,556 32,623 — — — 52 52 32,727 7 32,720 Property — 38,704 38,064 76,768 573 175 748 4,599 1 82,116 1,274 80,842 Construction — 6,781 2,672 9,453 50 53 103 946 — 10,502 1,139 9,363 Manufacturing 254 23,201 4,931 28,132 664 1,938 2,602 3,786 306 35,080 2,214 32,866 Service industries and business activities - retail, wholesale and repairs — 21,314 2,339 23,653 645 2,652 3,297 1,134 18 28,102 1,671 26,431 - transport and storage 436 16,454 5,477 21,931 539 74 613 3,759 — 26,739 241 26,498 - health, education and recreation — 13,273 1,419 14,692 310 21 331 885 — 15,908 973 14,935 - hotels and restaurants — 7,143 1,161 8,304 116 5 121 671 — 9,096 184 8,912 - utilities — 6,543 1,849 8,392 1,530 554 2,084 3,708 30 14,214 450 13,764 - other 23 24,228 3,772 28,000 1,655 3,893 5,548 6,300 595 40,466 855 39,611 Agriculture, forestry and fishing — 3,471 129 3,600 25 11 36 121 — 3,757 148 3,609 Finance lease and instalment credit — 8,440 6,059 14,499 145 2 147 75 — 14,721 16 14,705 Interest accruals 151 675 116 791 1,219 — 1,219 — — 2,161 — 2,161 Total gross of provisions 100,934 437,988 79,877 517,865 211,468 15,324 226,792 529,618 88,349 1,463,558 537,444 926,114 Provisions — (8,414) (11,469) (19,883) (2,388) (141) (2,529) — — (22,412) n/a (22,412)
Comprising: Repurchase agreements 15,246 Derivative balances 478,848 Derivative collateral 31,368 Other 11,982 537,444
Service industries and business activities - retail, wholesale and repairs — 21,974 3,191 25,165 520 41 561 1,124 — 26,850 2,468 24,382
Reverse repos Core Non-Core Total Debt Equity Total Derivatives Other (1) Total
Central and local government 260 6,128 1,532 7,660 142,032 780 142,812 6,998 205 157,935 1,725 156,210 Finance - banks 34,698 47,574 1,360 48,934 24,550 — 24,550 — 52,261 160,443 2,546 157,897 - other (3) 40,188 50,673 9,713 60,386 68,824 6,627 75,451 409,452 12,110 597,587 369,797 227,790 Residential mortgages — 127,975 12,932 140,907 — — — 11 — 140,918 7 140,911 Personal lending — 35,313 6,358 41,671 1 — 1 38 40 41,750 21 41,729 Property — 49,054 50,372 99,426 4,028 469 4,497 4,184 108 108,215 1,114 107,101 Construction — 9,502 5,258 14,760 295 320 615 923 63 16,361 1,450 14,911 Manufacturing 182 30,272 14,402 44,674 878 1,076 1,954 5,353 116 52,279 3,184 49,095 Service industries and business activities - retail, wholesale and repairs — 23,385 5,082 28,467 602 283 885 996 29 30,377 2,550 27,827 - transport and storage — 16,693 8,812 25,505 607 198 805 1,820 17 28,147 201 27,946 - health, education and recreation 22 18,797 3,743 22,540 2,055 188 2,243 1,300 — 26,105 1,057 25,048 - hotels and restaurants — 9,699 1,710 11,409 418 595 1,013 832 90 13,344 284 13,060 - utilities — 6,772 3,106 9,878 1,298 2,379 3,677 2,613 296 16,464 445 16,019 - other 293 25,092 11,185 36,277 2,814 3,082 5,896 3,619 362 46,447 1,274 45,173 Agriculture, forestry and fishing — 3,726 553 4,279 44 210 254 44 9 4,586 76 4,510 Finance lease and instalment credit — 8,147 11,956 20,103 291 15 306 16 — 20,425 39 20,386 Interest accruals 494 1,179 549 1,728 1,571 — 1,571 — — 3,793 — 3,793 Total gross of provisions 76,137 469,981 148,623 618,604 250,308 16,222 266,530 438,199 65,706 1,465,176 385,770 1,079,406 Provisions — (6,921) (8,252) (15,173) (1,198) (277) (1,475) — — (16,648) n/a (16,648) Group before RFS MI 76,137 463,060 140,371 603,431 249,110 15,945 265,055 438,199 65,706 1,448,528 385,770 1,062,758 RFS MI gross of provisions — — — 142,688 18,144 3,586 21,730 3,255 9 167,682 55 167,627 RFS MI provision — — — (2,110) — (3) (3) — — (2,113) n/a (2,113)
Personal sector lending (residential mortgages and other lending) remained broadly flat.
Loans and advances to customers - UK 351,147 374,822 386,798 - US 90,329 90,752 93,209 - Europe 74,045 83,586 102,571 - RoW 19,845 24,155 28,132 Group before RFS MI 535,366 573,315 610,710 RFS MI — — 134,809 535,366 573,315 745,519
Group before RFS MI 618,799 673,958 694,741 RFS MI — 2 142,688 Group 618,799 673,960 837,429
Note: (1) Loans and advances to banks includes £95 million of accrued interest (2010 - £36 million; 2009 - £339 million).
The tables on pages 165 to 170 analyse financial assets by geographical region (location of office) and sector.