Changing the way we work To achieve its objectives, the company needs to change not just the business we do but how we do business. That includes our governance arrangements. The directors decided that a restructured Board with fewer members would be better able to engage in the restructuring process which the company will undertake. As a result, a number of Non-Executive Directors resigned from the Board in February 2009. I would like to thank each of them for their service to the company. In particular, I wish to acknowledge the contribution of Sir Tom McKillop who chaired RBS through testing times with great dedication and integrity.
Strategic Restructuring Plan We have embarked on a sweeping restructuring of the Group that will fit our activities to the goals above. While the details of the Strategic Plan will be refined over the coming weeks, we are now able to announce the following: • We will create a “non-core” Division of RBS during the second quarter of 2009, separately managed, but within the existing legal structures of the Group and matrix-managed to donating Divisions where necessary. This Division will have approximately £240 billion of third party assets, £145 billion of derivative balances and £155 billion of risk-weighted assets, comprising individual assets, portfolios and businesses of the Group that we intend to run off or dispose of during the next three to five years. The specific timetable will vary in each case, consistent with optimising shareholder value and risk. Approximately 90% of the Non-Core Division will consist of GBM assets, primarily linked to proprietary portfolios, excess risk concentrations and illiquid ‘originate and hold’ asset portfolios. The remainder will be risk concentrations, ‘out of footprint’ assets and smaller, less advantaged businesses within our Regional Markets activities across the world.
I believe RBS can come to be regarded again as one of the world’s premier financial institutions. My special thanks go to all my colleagues around the world serving our customers everyday, and redoubling their efforts to move RBS forward again.
A business mix more biased than before to stable customer businesses
Global Transaction Services Global Transaction Services (‘GTS’) ranked among the top five global transaction services providers in 2008, offering global payments, cash and liquidity management, as well as trade finance, United Kingdom and international merchant acquiring and commercial card products and services. It includes the Group’s corporate money transmission activities in the United Kingdom and the United States.
The GTS business successfully exploits economies of scale and scope. On scale: • International Cash Management processes over one billion payments and collections annually; • Domestic Cash Management processes three billion BACS transactions in the UK each year; • Trade Finance processes 1.1 million collections and letters of credit annually; and
• Under the Mortgage Repossession Initiative, RBS has extended the options for customers unable to meet their mortgage payments following a change in circumstances, such as loss of employment, by allowing more flexibility to agree reduced payments for a period or short payment holidays.
• Specifically to provide advice to customers and others concerned about their personal finances, 2008 saw an extension of our long-standing MoneySense programme. 1,000 MoneySense advisers were introduced to NatWest and RBS branches, all of whom have received training accredited by the independent charity Consumer Credit Counselling Service.
The business plans to respond to this environment by reducing cost and increasing productivity through investment in online service channels, automation of activities and re-design of endto -end processes. The business will tailor the cost of service for different client segments more closely to their value generation.
The E&ME Retail and Commercial franchises outside of Ireland lack scale and breadth. They would require a very significant investment of capital and management resource to be able to achieve levels of shareholder return equivalent to those possible from more established core franchises in the Group. We have commenced a review to consider future options for these businesses, including options for sale.
Volatile market conditions reduced demand among clients for structured and equity fund products and led to a slowing in affluent banking income. Despite this, Royal Preferred Banking, which was launched in a number of countries during the year, saw client numbers increase by 13% and assets under management in the affluent segment grew by 3%. Royal Wealth Management was launched in India, emphasising our commitment to that market.
Building financial capability is important for adults as well as young people. That is why the programme was extended to include MoneySense for Adults. It offers advice and guidance
Other factors that could cause actual results to differ materially from those estimated by the forward-looking statements contained in this document include, but are not limited to: general economic conditions in the UK and in other countries in which the Group has significant business activities or investments, including the United States; the monetary and interest rate policies of the Bank of England, the Board of Governors of the Federal Reserve System and other G7 central banks; inflation; deflation; unanticipated turbulence in interest rates, foreign currency exchange rates, commodity prices and equity prices; changes in UK and foreign laws, regulations and taxes; changes in competition and pricing environments; natural and other disasters; the inability to hedge certain risks economically; the adequacy of loss reserves; acquisitions or restructurings; technological changes; changes in consumer spending and saving habits; and the success of the Group in managing the risks involved in the foregoing.
For a further discussion of certain risks faced by the Group, see Risk factors on pages 27 to 34.
The UK wealth management arm offers high quality private banking and investment services through the Coutts, Adam & Company, RBS International and NatWest Offshore brands.
RBS Insurance competes in personal lines insurance and, to a limited extent, in commercial insurance. There is strong competition from a range of insurance companies which now operate telephone and internet direct sales businesses. Competition in the UK motor market remains particularly intense, and price comparison internet sites now play a major role in the marketplace. RBS Insurance also competes with local insurance companies in the direct motor insurance markets in Spain, Italy and Germany.
In addition, the Group will continue to be exposed to the risk of loss if major corporate borrowers or counterparty financial institutions fail or are otherwise unable to meet their obligations. The Group’s performance may also be affected by future recovery rates on assets and the historical assumptions underlying asset recovery rates, which may no longer be accurate given the unprecedented market disruption and general economic instability. The precise nature of all the risks and uncertainties the Group faces as a result of current economic conditions cannot be predicted and many of these risks are outside the Group’s control.
(2) Underlying profit represents pro forma profit before tax, credit market write-downs and one-off items impairment losses on reclassified assets, purchased intangibles amortisation, write-down of goodwill and other intangible assets, integration costs, restructuring costs and share of shared assets.
Basic earnings per ordinary share (2) (61.0p) 40.8p (145.7p) 64.0p Intangibles amortisation 0.9p 0.6p Write-down of goodwill and other intangible assets 41.1p — Credit market write-downs and one-off items 10.8p 2.4p Integration costs 1.9p 0.5p Share of shared assets 0.5p 0.2p Restructuring costs 0.6p — Adjusted earnings per ordinary share (2) (5.2p) 44.5p
Credit market losses Losses for 2008 relating to the Group’s previously identified credit market exposures totalled £7,781 million, net of hedging gains of £1,642 million. This includes impairment losses of £466 million incurred on credit market assets reclassified out of the ‘held-for-trading’ category in line with the amendments to IAS 39 ‘Financial Instruments: Recognition and Measurement’ issued in October. While the majority of these write-downs were incurred in the first half of 2008, the severity of the financial market dislocation intensified in the fourth quarter, resulting in further losses in particular on the Group’s structured credit portfolios.
Internal funding of trading business – UK (85,664) (3,445) 4.02 (68,395) (3,307) 4.84
Owners’ equity 58,544 43,359 Total liabilities and owners’ equity 2,040,685 1,122,972
2008 compared with 2007 – pro forma Non-interest income, excluding credit market write-downs and one-off items, decreased by 48%, £10,246 million to £10,936 million. Non-interest income was severely affected by the weakness in financial markets experienced over the course of the year. While the decline was particularly marked in Global Banking & Market's credit markets and equities businesses, with reduced business volumes and mounting mark-to-market trading losses, Regional Markets also saw non-interest income fall in the latter part of the year as declining consumer confidence led to lower demand for credit and other financial products.
Staff costs 503 18 Premises and equipment 25 4 Other administrative expenses 486 26 Depreciation and amortisation 36 60
Expected tax (credit)/charge (2,316) 2,689 (11,590) 2,950 Non-deductible goodwill impairment — 12 8,292 12
Taxable foreign exchange movements 80 16 80 16 Reduction in deferred tax liability following change in the rate of UK corporation tax — (99) — (189) Foreign profits taxed at other rates 271 (189) 203 (25) Losses in year not recognised 942 2 942 2 Losses brought forward and utilised (11) (11) (11) (11) Adjustments in respect of prior periods (352) (367) (352) (367) Actual tax (credit)/charge (1,280) 1,709 (2,323) 2,044
Although GBM took steps to reduce underlying risk-weighted assets, these measures were masked by the impact of foreign exchange movements and of Basel II pro-cyclicality, with the result that RWAs at 31 December 2008 totalled £279 billion, up 31% from a year earlier, or 14% at constant exchange rates.
Business review continued 2008 compared with 2007 – pro forma and statutory UK Retail and Commercial Banking retains an extremely strong franchise and represents the core of the RBS Group. However, the external environment over the next few years will present significant challenges with pressure on income as a result of very low interest rates, lower fee income, and impairment costs likely to increase further.
Net interest income 7,090 6,668 6,668 Net fees and commissions – banking 2,886 3,030 3,030 Other non-interest income* 838 890 890 Non–interest income 3,724 3,920 3,920
Regional Markets – UK Retail & Commercial Banking UK Retail Banking
Outside Ireland, Europe & Middle East Retail & Commercial Banking continued to trade satisfactorily, although our markets in the United Arab Emirates, Romania and Kazakhstan have also experienced a marked slowdown in the past year. In UAE, where we are a market leader in credit cards with over 430,000 cards in issue, credit card revenue increased 22% in the year.
RBS Coutts’ offering of private banking and investment services continued to deliver good income growth of 19% and strong levels of client acquisition, up 5% in the year. Net interest income grew 56% on the back of strong banking volumes, though this was offset in part by weaker sales of equity-related investment products and lower assets under management. Despite adverse financial markets and significant levels of client deleveraging, assets under management in the international wealth business grew by 8%.
Results from partnerships and broker business confirmed the Group’s strategy of refocusing on the more profitable opportunities in this segment, where we provide underwriting and processing services to third parties. The Group did not renew a number of rescue contracts and pulled back from some less profitable segments of the broker market. As a result partnership and broker in-force policies have fallen by 9% over the last year with a corresponding 9% reduction in income, yet contribution grew by 27%.
Departmental costs rose by 7% to £665 million, reflecting an increase in central function headcount as well as higher Basel II costs.
Deferred tax assets increased £3.7 billion, to £5.4 billion principally due to carried forward trading losses.
Retirement benefit liabilities increased £1.3 billion to £1.5 billion due to reduced asset values only partly offset by the effect of increased discount rates.
Accruals, deferred income and other liabilities decreased £2.7 billion, 8%, to £31.5 billion primarily as a result of disposals.
The major factors contributing to the net cash outflow from operating activities of £75,338 million were the net operating loss before tax of £36,459 million from continuing and discontinued operations, the decrease of £42,219 million in operating liabilities less operating assets, and the elimination of foreign exchange differences of £41,874 million, partly offset by the write down of goodwill and other intangible assets, £32,581 million and other non-cash items, £8,603 million.
Less: investments in insurance subsidiaries, associated undertakings and other supervisory deductions (4,155) (10,283) (10,583) (7,282) (5,165)
In the presentation of the pro forma income statement credit market write-downs, goodwill payments in respect of current account administration fees and the gains on sale of Southern Water in 2007 and certain other assets have been shown in aggregate in income and expenses as appropriate.
Assets Cash and balances at central banks 11,830 570 — 12,400 Loans and advances to banks 129,408 8,698 91 138,197 Net loans and advances to customers 691,876 143,433 100 835,409 Reverse repurchase agreements and stock borrowing 39,289 24 — 39,313 Loans and advances to customers 731,165 143,457 100 874,722
Whilst the international stabilisation efforts led by various governments since September 2008 have helped, the knock-on economic impacts are now evident in markets globally. 2009 will see further strains for financial institutions. Whilst the liquidity crisis is likely to stabilise, the level of impairments will increase as recession spreads worldwide.
Basel II is cyclical, unlike Basel I where RWAs are stable through the cycle. Changes in RWA totals are driven by external economic factors and their impact on the risk profile of the underlying portfolio of assets, rather than changes in the asset mix. Whilst Basel II tries to reduce this variation by incorporating measures correlated to downturn conditions, it remains sensitive to cyclical variations.
The Group will publish its Pillar 3 (Market disclosures) on the external website, providing a range of additional information relating to Basel II and risk and capital management across the Group. The disclosures focus on Group level capital resources and adequacy, discuss a range of credit risk approaches and their associated risk weighted assets (under various Basel II approaches) such as credit risk mitigation, counterparty credit risk and provisions. Detailed disclosures are also made on equity, securitisation, operational and market risk, as well as providing Interest Rate Risk in the Banking Book disclosures.
At Group level, a series of stress events are monitored on a regular basis to assess the potential impact of an extreme yet plausible event on the Group. There are two core elements of scenario stress testing: • Recessionary stress testing considers the impact on both earnings and capital of a range of recessionary scenarios. These are multiyear systemic shocks to assess the Group’s ability to meet its capital requirements and liabilities as they fall due under a significant but plausible downturn in the business cycle and/or macroeconomic environment. The summary results are included within the monthly risk report to the Board and discussed in separate papers on a halfyearly basis.
Insurance risk The risk of financial loss through fluctuations in the timing, Frequent small losses. frequency and/or severity of insured events, relative to the expectations at the time of underwriting. Infrequent material losses.
• Retail businesses: the retail business makes a large volume of small value credit decisions. Credit decisions will typically involve an application for a new or additional product or a change in facilities on an existing product. The majority of these decisions are based upon automated strategies utilising industry standard credit and behaviour scoring techniques.
The validation results are a key factor in deciding whether a model is recommended for ongoing use. The frequency, depth and extent of the validation are consistent with the materiality and complexity of the risk being managed. The Group’s validation processes include: • Developmental evidence: to ensure that the credit risk model adequately discriminates between different levels of risk and delivers accurate risk estimates.
Credit risk mitigation (audited) The Group takes a number of steps to mitigate credit risk. The key risk mitigants are as follows: • Real estate: the most common form of security held is real estate within the consumer and wholesale businesses.
RBS Insurance 4.6 5.1 Other 2.0 — Group before RFS Holdings minority interest 855.0 626.6 RFS Holdings minority interest 176.8 206.0
Facilities included within RFS Holdings minority interests have not been migrated to RBS risk systems, as they will not be part of the Group following separation of the ABN AMRO business.
Automotive The automotive sector exposure totals £14.5 billion, the majority falling within GBM (£9.1 billion), RBS UK (£3.3 billion) and CFG (£1.3 billion). The exposure is spread across the following segments and geographies: Credit book Segment £bn %
Given the current economic outlook, it is particularly important that potential problems are identified early and referred to GRG as the Group’s past experience has shown that the sooner specialists in restructuring are engaged, the greater the likelihood of a successful outcome. Early identification of potential problems therefore has a benefit to the borrower as well as to the Group.
Service industries and business activities 190,537 24,355 25,933 2,470 243,295 10,858
Individuals: Finance leases and instalment credit 22,355 23 25 — 22,403 119
Finance leases and instalment credit 2,228 — — — 2,228 —
Finance leases and instalment credit 18 — 254 45 317 —
Group before RFS Holdings minority interest 7,432 1,930 RFS Holdings minority interest 640 38
Transfer to disposal groups — — — — — (222) (351) (194) (767) — Currency translation and
• In September 2008, the major central banks announced coordinated action to improve US$ liquidity. As part of this action, the Bank of England and ECB commenced US dollar repo operations. Eligible collateral consists of securities routinely eligible in the Bank of England’s and ECB’s short-term repo open market operations together with conventional US Treasuries. The Bank of England concluded a reciprocal swap agreement (swap line) with the US Federal Reserve. On 3 February 2009, the Bank of England announced the extension of this facility until 30 October 2009.
Total customer accounts and long term funds 815,184 60 662,093 55 756,680 53 610,460 49
Risk control (audited) All divisions that are exposed to market risk in the course of their business are required to comply with the requirements of the Group’s Market Risk Policy Standards (MRPS). The main risk management tools are delegated authorities, specifically hard limits and discussion triggers, independent model valuation, a robust and efficient risk system and timely and accurate management information.
Monthly returns by the Group’s business units, collated as part of month-end reporting by Group Treasury to GALCO, are used to build a Group IRRBB VaR position and to ensure businesses comply with materiality limits on a pre and post hedge basis for interest rates, as stipulated by Group Treasury.
The capital resources covering the regulatory requirement are not transferable to other areas of the Group. To ensure that the capital requirement is satisfied at all times, each company holds a voluntary buffer above the regulatory minimum. Reserving risk is managed for life businesses through detailed analysis of historical and industry claims data and robust control procedures around reserving models. The Group uses exclusively proportional reinsurance, quota share and surplus, for its life insurance entities.
The Group is not exposed to price, currency, credit, or interest risk on unit linked life contracts but it is exposed to variation in management fees. In the UK, the Group also writes insurance contracts with minimum guaranteed death benefits that expose it to the risk that declines in the value of underlying investments may increase the Group’s net exposure to mortality risk.
The Group uses base tables of standard mortality appropriate to the type of contract being written and the territory in which the insured person resides. These are adjusted to reflect the Group’s experience and expectations for future mortality improvements as appropriate.
Reinsurance The Group uses various types of reinsurance to transfer risk that is outside the Group`s risk appetite, including: • Per individual risk excess of loss reinsurance.
Operational Risk Responsible for the implementation and maintenance of the operational risk framework, tools and methodologies.
• Scenario analysis: scenarios for operational risk are used to assess the possible impact of extreme but plausible operational risk loss events. Scenario assessments provide a forward-looking basis for managing exposures that are beyond the Group’s risk appetite.
GALCO monitors pension obligation risk which is assessed by estimating the potential funding deficit of the scheme with a twelve month risk horizon, and with a number of different confidence levels. Monte Carlo simulations are used, based on assumptions of statistical distribution of future equity returns, future real and nominal interest rates, sensitivity of asset and liability values to changes in equity returns and real and nominal interest rates, the impact of an adverse change in longevity assumptions and mitigation available to the Group.
During 2008, certain assets identified as being high risk were also transferred to a centrally managed asset unit, set up to provide specific management of this portfolio of higher risk assets. Transferred assets are predominantly ABS and associated protection purchased from monoline insurers and other counterparties.
Residential mortgage-backed securities (audited) Residential mortgage backed securities (RMBS) are securities that represent an interest in a portfolio of residential mortgages. Repayments made on the underlying mortgages are used to make payments to holders of the RMBS. The risk of the RMBS will vary primarily depending on the quality and geographic region of the underlying mortgage assets and the credit enhancement of the securitisation structure.
(2) Prime guaranteed exposures and carrying values include: • £7.6 billion (2007 – £6.0 billion) available-for-sale exposures guaranteed by the Dutch government
Loans and securities 352 — — 208 560 — — — — —
Some of these assets (£7.0 billion) were reclassified from held-fortrading category to the loans and receivables (£1.8 billion) and available-for-sale categories during the year (£5.2 billion).
Commercial mortgage-backed securities (audited) Commercial mortgages backed securities (CMBS) are securities that are secured by mortgage loans on commercial land and buildings. The securities are structured in the same way as an RMBS but typically the underlying assets referenced will be of greater individual value. The performance of the securities are highly dependent upon the sector of commercial property referenced and the geographical region.
High grade super senior exposures As shown in the table below, the majority of the Group’s high grade super senior exposures, represent securities retained in CDO structures originated by the Group.
Other asset backed securities (audited) Other assets backed securities are securities issued from securitisation vehicles, similar to those in RMBS and CMBS structures, which reference cashflow generating assets other than mortgages. The wide variety of referenced underlying assets result in diverse asset performance levels.
The tables below present a comparison of the protected assets and the fair value and CVA of the CDPC protection.
Upon redemption of the preference shares as noted above, the restriction on payment of ordinary dividends will be removed. However, it is not the Board’s intention to pay a dividend on ordinary shares in 2009.
There are no restrictions on the transfer of ordinary shares in the company other than certain restrictions which may from time to time be imposed by laws and regulations (for example, insider trading laws). Pursuant to the Listing Rules of the Financial Services Authority, certain employees of the company require the approval of the company to deal in the company’s shares.
The company has reviewed its corporate governance arrangements and is satisfied that these are consistent with the NYSE’s corporate governance listing practices, with the exception that the Chairman of the Board is Chairman of the Nominations Committee and is a member of the Remuneration Committee, both of which are permitted by the UK Combined Code (since the Chairman was considered independent on appointment). The company’s Audit, Nomination and Remuneration Committees are otherwise composed solely of non-executive directors deemed by the Board to be independent. The NYSE’s corporate governance listing standards also require that a compensation committee has direct responsibility to review and approve Group Chief Executive remuneration. The Board, rather than the Remuneration Committee, reserves the authority to make the final determination of the remuneration of the Group Chief Executive.
The names of directors standing for election at the 2009 Annual General Meeting are included on page 151 and further information will be given in the Chairman’s letter to shareholders in relation to the company’s Annual General Meeting.
A number of initiatives are already underway aimed at improving the overall performance and effectiveness of the Board, including further Board appointments, restructuring Board agendas and allowing more time at Board meetings to consider strategic issues. In addition, a number of actions have already been taken to enhance reporting to the Board and Audit Committee on risk matters, liquidity and funding.
The effectiveness of the Group’s internal control system is reviewed regularly by the Board and the Audit Committee. Executive management committees or boards of directors in each of the Group’s businesses receive regular reports on significant risks facing their business and how they are being controlled. In addition, the Board receives monthly risk management reports. Additional details of the Group’s approach to risk management are given in the Risk, capital and liquidity management section of the Business review on pages 78 to 144. The Board received a number of reports from Group Internal Audit and external consultants focussed on certain areas of the business that have been particularly exposed to loss as a result of the market turmoil. The Group Audit Committee has received confirmation that management has taken, or is taking, the necessary action to remedy failings or weaknesses identified in these reports and through the operation of the Group’s framework of control.
Accordingly, in conjunction with the Board and independent advisers and in consultation with shareholders, the Remuneration Committee is undertaking a comprehensive review of its remuneration policy which it will complete during 2009.
The chart above shows the make up of remuneration opportunity for ontarget annual performance, and with long term incentive awards shown at their fair value at the date of grant. Short term incentive payments earned in relation to 2009 performance will be deferred and will vest, subject to satisfactory performance, over the following three years. The actual value of the share option and MPP awards will depend on performance over the period 2009 – 2011 and the share price at the time awards vest.
Long-term incentives The company provides long-term incentives in the form of share options and share or share equivalent awards. Their objective is to encourage the creation of value over the long term and to align the rewards of the executive directors with the returns to shareholders. The Remuneration Committee is formulating proposals under which awards may be made in the future under two plans; the Medium-term Performance Plan and the Executive Share Option Plan. Any awards will be subject to rigorous performance conditions on which shareholders will be consulted.
Executive directors Mr Hester 4 November 2008 see note (1) 12 months Mr Pell 20 February 2006 12 months 6 months Mr Whittaker 19 December 2005 12 months 12 months
Gordon Pell is a member of The Royal Bank of Scotland Group Pension Fund (the RBS Fund) and is contractually entitled to receive all pension benefits in accordance with its terms. The RBS Fund rules allow all members, including executive directors, who retire early at the request of their employer to receive a pension based on accrued service with no discount applied for early retirement. The provision for an undiscounted pension on early retirement at employer request will not apply to any executive director appointed in the future. The RBS Fund is closed to employees, including any executive directors, joining the Group after 30 September 2006.
(5) From 1 January 2008 until 30 April 2008, Mr Fish was an executive director of the company. He became a non-executive director on 1 May 2008 and ceased to be a director on 31 December 2008. Throughout this period, he was non-executive chairman of RBS America and Citizens. Mr Fish is a non-executive director of Textron Inc. and Tiffany & Co. and retained the fees paid to him in this respect. For 2008, he received remuneration from Textron Inc. of US$260,500, including deferred fees. He received an annual fee of US$48,500 from Tiffany & Co.
(6) Mr Fisher ceased to be a director on 21 November 2008 and will cease employment with the Group on 6 March 2009. In line with the its international assignment policy, costs such as additional tax and accommodation incurred as a result of Mr Fisher’s assignment to the Netherlands are met by the Group. These additional costs are shown in ‘Benefits’ above.
We review whether the corporate governance statement reflects the company’s compliance with the nine provisions of the 2006 Combined Code specified for our review by the Listing Rules of the Financial Services Authority, and we report if it does not.
Net cash flows from financing activities 15,102 29,691 (1,516) 28,416 536 (3,515) Effects of exchange rate changes on cash and cash equivalents 29,209 6,010 (3,468) 761 62 (52)
In October 2008, the IASB issued and, the European Union endorsed, amendments to IAS 39 ‘Financial Instruments: Recognition and Measurement’ to permit the reclassification of financial assets out of the held-for-trading (HFT) and available-for-sale (AFS) categories subject to certain restrictions. Transfers must be made at fair value and this fair value becomes the instruments’ new cost or amortised cost. The amendments are effective from 1 July 2008. Reclassifications made before 1 November 2008 were backdated to 1 July 2008; subsequent reclassifications were effective from the date the reclassification was made.
Gains and losses arising from changes in the fair value of a derivative are recognised as they arise in profit or loss unless the derivative is the hedging instrument in a qualifying hedge. The Group enters into three types of hedge relationship: hedges of changes in the fair value of a recognised asset or liability or firm commitment (fair value hedges); hedges of the variability in cash flows from a recognised asset or liability or a forecast transaction (cash flow hedges); and hedges of the net investment in a foreign operation.
At 31 December 2008, gross loans and advances to customers totalled £885,611 million (2007 – £834,987 million) and customer loan impairment provisions amounted to £10,889 million (2007 – £6,449 million).
Notes: Trading income comprises gains and losses on financial instruments held for trading, both realised and unrealised, interest income and dividends and the related funding costs. The types of instruments include: (1) Foreign exchange: spot foreign exchange contracts, currency swaps and options, emerging markets and related hedges and funding.
Premises and equipment 2,593 1,703 1,421 Other administrative expenses 5,464 2,969 2,658
Integration costs included in operating expenses comprise expenditure incurred in respect of cost reduction and revenue enhancement programmes set in connection with the various acquisitions made by the Group.
Increase/(decrease) Increase/(decrease) in pension in obligation in pension in obligation cost for the year at 31 December cost for the year at 31 December £m £m £m £m £m £m £m £m 25 bps increase in the discount rate (37) (41) (696) (874) (53) (49) (1,161) (1,318)
Fees payable for the audit of the Group’s annual accounts 1.2 1.2 Fees payable to the auditors and their associates for other services to the Group: – The audit of the company’s subsidiaries pursuant to legislation (1) 37.4 15.8
Expected tax (credit)/charge (11,590) 2,950 2,756 Non-deductible goodwill impairment 8,292 12 — Unrecognised timing differences 274 29 — Other non-deductible items 330 222 288 Non-taxable items (491) (595) (251) Taxable foreign exchange movements 80 16 5 Foreign profits taxed at other rates 203 (25) 63 Reduction in deferred tax liability following change in the rate of UK corporation tax — (189) — Losses in year not recognised 942 2 — Losses brought forward and utilised (11) (11) 14 Adjustments in respect of prior periods (1) (352) (367) (186) Actual tax (credit)/charge (2,323) 2,044 2,689
Total dividends paid on ordinary equity shares 19.3 27.0 21.6 2,312 3,044 2,470 9 Profit dealt with in the accounts of the company As permitted by section 230(3) of the Companies Act 1985, the primary financial statements of the company do not include an income statement. Condensed information is set out below: Company £m £m £m
Interest receivable from subsidiaries 793 460 516 Interest payable to subsidiaries (495) (307) (246) Other net interest payable and operating expenses (796) (526) (515) Write-down of investments in subsidiaries (14,321) — — Operating (loss)/profit before tax (10,017) 2,372 3,486
The numbers of ordinary shares in issue in prior years have been adjusted retrospectively for the bonus element of the rights issue completed in June 2008 and the capitalisation issue in September 2008. None of the convertible securities had a dilutive effect in 2008. All convertible securities had a dilutive effect in 2007 and 2006 and have been included in the computation of diluted earnings per share.
Deferred taxation — — — — 3 3 Prepayments, accrued income and other assets — — 489 489
The principal inputs to these valuation techniques are listed below. Values between and beyond available data points are obtained by interpolation and extrapolation. When utilising valuation techniques, the fair value can be significantly affected by the choice of valuation model and underlying assumptions made concerning factors such as the amounts and timing of cash flows, discount rates and credit risk.
Debt securities categorised as level 3 at the end of the year include £5.2 billion of asset-backed securities and £1.7 billion of corporate and other debt securities. The decrease during the year reflects termination of a deal in early 2008, reclassification of illiquid mortgage-backed securities (MBS) to loans and receivables, fair value changes, and the transfer of certain previous illiquid MBS, primarily sub-prime from level 3 to level 2.
Gains on financial assets/liabilities designated as at fair value through profit or loss (901) 1,074 573 Gains on disposal or settlement of loans and receivables 4 3 21
Financial assets Cash and balances at central banks 12,400 12,400 17,866 17,866 — — — —
On balance sheet liabilities Group 0-3 months 3-12 months 1-3 years 3-5 years 5-10 years 10-20 years 2008 £m £m £m £m £m £m
Notes on the accounts continued 13 Derivatives (continued) The following tables show for interest rate swaps in cash flow hedges, when the hedged cash flows are expected to occur and when they will affect profit or loss.
Exchange rate contracts — 225 — 54 Interest rate contracts 193 — — —
Notes: (1) Includes securities issued by US federal agencies and government sponsored entities.
16 Investments in Group undertakings Investments in Group undertakings are carried at cost less impairment. Movements during the year were as follows: Company £m £m
Goodwill intangibles intangibles software Total 2008 £m £m £m £m £m
The recoverable amount of the Global Transaction Services business based on a 3% terminal growth rate and 15.7% pre tax risk discount rate exceeded its carrying value by more than 100% and was insensitive to a reasonably possible change in key assumptions. The goodwill arises principally from the global payments business acquired through the ABN AMRO acquisition along with cash management and corporate money transmission businesses previously in Citizens and Regional businesses.
The goodwill in Europe & Middle East Retail and Commercial Banking arose from the Group’s interests in Ulster Bank Group principally arising out of the acquisitions of NatWest and First Active. The Irish economy stalled in 2008, with the Government providing rescue packages to local banks, and forecasts within the eurozone economies have reduced accordingly. The impairment review, based on a 3% terminal growth rate and 14.1% pre-tax risk discount rate, showed all goodwill associated with the business was impaired. The result was insensitive to reasonably possible changes in key assumptions.
Further developments in the Group’s US businesses have led to the separation of the transaction services business, with the retail and commercial business being managed as a single unit. The 2007 impairment review indicated the recoverable amount of Citizens exceeded its carrying value by over £2.5 billion ($5 billion) using a terminal growth rate of 5% and a pre tax discount rate of 16.5%. In 2008, rates of 5% and 18% were used respectively and the recoverable amount indicated an impairment of £4.4 billion ($6.4 billion). A 1% change in discount rate or the terminal growth rate would change the recoverable amount and hence goodwill impairment by over £1 billion ($2 billion) and £0.7 billion ($1 billion) respectively. In addition, a 5% change in forecast pre-tax earnings would change the recoverable amount by approximately £0.5 billion ($0.8 billion).
Long Short Computers Operating Investment Freehold leasehold leasehold and other lease properties premises premises premises equipment assets Total 2008 £m £m £m £m £m £m £m
(b) Cash flows attributable to discontinued operations Included within the Group’s cash flows are the following amounts attributable to discounted operations: £m £m
New business contribution (1) 14 5 Operating assumption changes 2 6 Investment return variances (46) (14) Economic assumption changes (2) —
Liability in respect of prior years 42 Claims handling costs 113 Net general insurance claims liability 5,191
Limitations of sensitivity analysis: the above tables demonstrate the effect of a change in a key UK assumption whilst other assumptions remain unaffected. In reality, such an occurrence is unlikely, due to correlation between the assumptions and other factors. It should also be noted that these sensitivities are non-linear, and larger or smaller impacts should not be interpolated or extrapolated from these results. The sensitivity analyses do not take into consideration that assets and liabilities are actively managed and may vary at the time that any actual market movement occurs.
The following tables analyse the remaining maturity of subordinated liabilities by (1) the final redemption date; and (2) the next callable date.
National Westminster Bank Plc US$500 million primary capital floating rate notes, Series A (callable on any interest payment date) 343 251 US$500 million primary capital floating rate notes, Series B (callable on any interest payment date) 347 256 US$500 million primary capital floating rate notes, Series C (callable on any interest payment date) 346 255 €400 million 6.625% fixed/floating rate undated subordinated notes (callable October 2009) 388 303 €100 million floating rate undated step-up notes (callable October 2009) 97 74 £325 million 7.625% undated subordinated step-up notes (callable January 2010) 363 357 £200 million 7.125% undated subordinated step-up notes (callable October 2022) 201 205 £200 million 11.5% undated subordinated notes (callable December 2022) (4) 269 269
Currency translation and other adjustments 1,694 140 1,834 Acquisition of ABN AMRO 31,317 928 32,245 Profit attributable to minority interests 10 153 163 Dividends paid — (121) (121) Losses on available-for-sale securities, net of tax (59) (505) (564) Movements in cash flow hedging reserves, net of tax 26 — 26 Actuarial gains recognised in retirement benefit schemes, net of tax 19 — 19
US$950 million 5.512% (redeemable September 2014) 529 529 US$1,000 million 3 month US$ LIBOR plus 0.80% (redeemable September 2014) 555 555
Non-voting deferred shares of £0.01 2,660,556 2,660,556 2,660,556 32,300,000 32,300,000 32,300,000 Additional Value Shares of £0.01 — — — 2,700,000 2,700,000 2,700,000 Non-cumulative preference shares of US$0.01 308,015 308,015 240,000 516,000 419,500 419,500 Non-cumulative convertible preference shares of US$0.01 1,000 1,000 1,000 3,900 3,900 3,900 Non-cumulative preference shares of €0.01 2,526 2,526 2,500 66,000 66,000 66,000 Non-cumulative convertible preference shares of €0.01 — — — 3,000 3,000 3,000 Non-cumulative convertible preference shares of £0.25 — — — 900,000 900,000 900,000 Non-cumulative convertible preference shares of £0.01 200 200 200 1,000 1,000 1,000
Other disputes, legal proceedings and litigation Members of the Group are engaged in other litigation in the United Kingdom and a number of overseas jurisdictions, including the United States, involving claims by and against them arising in the ordinary course of business. The Group has reviewed these other actual, threatened and known potential claims and proceedings and, after consulting with its legal advisers, does not expect that the outcome of these other claims and proceedings will have a material adverse effect on its consolidated net assets, operating results or cash flows in any particular period.
Liabilities of disposal groups (1) (2,377) (24,123) — — (26,500) Net identifiable assets and liabilities 21,630 — 3,932 (596) 24,966 Minority interests (242) Goodwill on acquisition 23,851 Consideration 48,575
Fair value given for businesses acquired (1,810) (280) (21) Cash and cash equivalents acquired — 5 — Non-cash consideration (17) — — Net outflow of cash in respect of purchases (1,827) (275) (21)
Ulster Bank provides a comprehensive range of financial services across the island of Ireland. Its retail banking arm has a network of branches and operates in the personal, commercial and wealth management sectors, while its corporate markets operations provide services in the corporate and institutional markets.
RFS Holdings minority interest comprises those activities of ABN AMRO that are attributable to the other consortium members.
Note: (1) Segmental results for 2007 and 2006 have been restated to reflect transfers of businesses between segments in 2008.
Summary consolidated balance sheet – IFRS $m £m £m £m £m £m
Average loans and advances to customers (gross) 858,333 567,900 445,766 402,473 299,430
Amounts written-off (net of recoveries) – customers 0.33% 0.29% 0.36% 0.46% 0.44%
Analysis of closing loan impairment provisions The following table analyses customer loan impairment provisions by geographical area and type of domestic customer.
In July 2008, the Office of Fair Trading (OFT) published the results of its market study into personal current accounts and is now consulting on remedial action in the three key areas of transparency, complexity of charging structure and switching. The OFT is also continuing its inquiry into credit and debit card interchange fees.
Certain of the conditions may be waived by HM Treasury at its discretion. Prior to Admission, HM Treasury may terminate the Second Placing and Open Offer Agreement in certain circumstances. On a termination event arising, neither UBS nor Merrill Lynch International are entitled to effect the termination of the Second Placing and Open Offer Agreement but each may terminate its obligations under the Second Placing and Open Offer Agreement.
Shareholder enquiries Shareholdings in the company may be checked by visiting our website (www.rbs.com/shareholder). You will need the shareholder reference number printed on your share certificate or tax voucher to gain access to this information.
• the basic entitlement under the 1 December 2008 open offer, the adjusted 31 March 1982 base value of one ordinary share held currently is 73p.
In September 2008, the company issued new ordinary shares by way of a capitalisation issue rather than paying an interim dividend.