Royal Bank of Scotland

As recently as in the year 2000, Royal Bank of Scotland (RBS) was a solid regional Render, ranked 391 among the world’s banks but today it is ranked as the fifth largest in the world. Much of this growth has been achieved through acquisition and consolidation involving several deals. In 2000, this solid yet modest Scottish Bank was involved in the hostile takeover of one of Britain’s largest banks Nat West which was itself formed through an amalgamation of two banks National Provincial and Westminster. RBS paid _21 billion to accomplish the acquisition.{{more}} A year ago it completed a deal to buy the Dutch Financial group ABN Amro at a reported price of _57 billion.

Rights Issue and Tier 1 Capital

On Monday of this week RBS confirmed its intention to raise more cash from shareholders in a move aimed at strengthening its capital position following the credit crisis and its role in the ABN Amro acquisition. The bank is also expected to report a write-down of between 5 billion pounds and 7 billion pounds of its balance sheet as well as to reveal assets disposal to further show up its capital. A bank’s capital is a measure of its financial strength, with Tier 1 capital being the core measure of the institution’s strength from a regulator’s point of view. It consists of the type of financial capital considered the most reliable and liquid, primarily shareholders equity. Examples of Tier 1 capital are common stock, preferred stock that is irredeemable, and retained earnings. Capital in this sense is related to, but different from the accounting concept of shareholder’s equity. In each jurisdiction, the country regulator, in our case the ECCB, has some discretion over how differing financial instruments may count in the capital calculation. This is appropriate as the legal framework varies in different legal systems.

A rights issue is a common way for companies to raise money. Shareholders have to chance to buy more stock at a discounted price, so shares that may be worth $1.00 could be sold for 80 cents in the rights issue. The number of shares that an investor can buy depends on how many they already have so that the proportions remain largely unchanged. A Chastened RBS has elected to rethink its proportion rather than keeping its tier 1 capital ratio at the minimum of under 5 percent as it has done for the past 15 years. The U.K’s second largest bank is seeking to raise the figure up to between 5.5 and 6 percent, giving itself a cushion and making it one of Europe’s best capitalized banks. To do so it is planning a _ 10 billion to _ 12 billion rights issue, plus the possible sale of its insurance. Business in order to concentrate on its core banking functions. With acquisitions now complete and the capital raised used to repair the balance sheet, RBS’s growth in the coming years will depend on how well this Dutch bank ABN Amro is integrated into the larger corporate entity- This would be no different from the challenges being experienced by a Barclays-CIBC combination and a Royal Bank of Canada-RBTT merger in our jurisdiction.

Regulations’ Response

Authorities in the U.K have signaled their expectations of more banks revealing the extent of their sub-prime losses and announcing plans to raise more cash from shareholders. Shareholders of RBS already dismayed at plans to shore up the institution’s finances by flooding the market with new stock to raise cash, are likely to be angered by the announcement of substantial losses coming on the heals of the overpriced acquisition of ABN Amro. The cash being raised could result in the largest share issue in world financial history. But if there is any consolidation RBS should be first in to the market with a more challenging undertaking.

As the economic outlook takes a more pessimistic turn, all major U.K banks will be looking to place themselves in the queue to top the limited resources. However, in order to maintain the safety and stability of the U.K banking system, both the Bank of England and Prime Minister Gordon Browne are expected to announce a financial package to assist banks in weathering the storm. The lesson for us across the Currency Union is that we must continue to be prudent and watchful in the discharge or our banking functions.