Update: Major shake-up of RBS and Lloyds

The government today announced long-awaited plans to invest billions more pounds in the banks and sell-off large chunks of their assets.  

Royal Bank of Scotland is in for a further £25.5 billion injection - making it the most bailed out bank in the world - while Lloyds will receive another £5.7 billion.

Both banks will also have to make divestments of "significant parts of their businesses over the next four years" to meet the demands of the European Commission .

RBS will sell off 318 branches in the UK - equating to 14% of its branch network. This will include its RBS branch network in England and Wales - originally Williams & Glyn's -and its NatWest brand in Scotland.
 
It will also offload its card payment business RBS Insurance and Global Merchant Services and its stake in commodities trader RBS Sempra Commodities.

Meanwhile Lloyds will have to sell at least 600 branches, which account for around 4.6% of the total market share of UK current accounts.

As expected, this includes the TSB branch in England, Wales and Scotland and mortgage broker Cheltenham & Gloucester, as well as the Intelligent Finance online business.

These account for around £30 billion of customer deposits and £70 billion of lending.

The sales will take places over the coming years to boost the chances of the taxpayer getting a decent return on their investments. 

David Buik, market commentator at BGC Partners said the plans were "short-sighted". "To create three more 'Boring Bank Plcs' makes no sense.  The government seems to have forgotten that the damage inflicted on the banking system was caused by subprime lending, their derivatives and cheap mortgages.  

"If there is to be a recovery then surely investment banking which generates fees and earnings is a pre-requisite to entice investors to buy banking shares."

Lloyds calls for cash

Lloyds will raise £21 billion to avoid taking part in the government's asset protection scheme.
 
This will take the form of a £13.5 billion rights issue and a £7.5 billion debt swap.

"As a result of the confidence provided by the APS, and improved market conditions, Lloyds can now raise sufficient capital through the market to meet the FSA's capital requirements without the need for additional support from the APS," the Treasury said.

Lloyds will have to pay a £2.5 billion fee to exit the scheme after initially agreeing to insure £260 billion worth of assets in March.

Richard Buxton of head of UK equities at Schroders says: "To have remained within the APS would only have made economic sense if roughly a fifth of the insured assets needed to be written off. The fee for participation in APS since March is high, but a one-off, and the value-creating opportunities of the businesses retained remain in perpetuity."

Sir Winfried Bischoff, chairman of Lloyds Banking Group, said: "These proposals provide a significantly more attractive, market-based alternative to participating in GAPS and offer superior economic value to shareholders. 

"We believe that this represents a significant step towards meeting our, and the government's, objective that the group operates as a wholly privately-owned, self supporting commercial enterprise."

Lloyds added it is confident that overall impairments peaked in the first half of the year and that the group is on track to deliver results in line with expectations.

RBS plays it safe

Meanwhile Royal Bank of Scotland will participate in the scheme under better terms that "improve incentives and deliver better risk-sharing with the private sector." 

It will now insure £282 billion rather than the initial £325 billion agreed back in February following an improvement in market conditions. This will take the taxpayer stake in the bank to 84% from 70%. 

However, RBS can still exit the APS when it wants if the City watchdog approves, if the first loss has not been exceeded and if it pays an exit fee of either £3.5 billion or 10% of the actual regulatory capital relief received by RBS while it was in the APS.

It is liable for the first £60 billion, up from £42.2 billion, with the taxpayer picking up the tab for 90% after that. 

In return, it will it will pay an annual fee to the government of £0.7 billion for the first three years followed by a £0.5 billion charge a year for the life of the scheme.

Chief executive Stephen Hester says: "We are now more confident that we will be able to navigate the years ahead without recourse to claims under APS but the decision to participate is necessary to meet the FSA framework and will give us the stability we need to deliver our strategic plan."

However, for now shareholders are left out in the cold with RBS not paying investors any dividends or coupons on existing hybrid capital instruments for two years.   

City Minister Lord Myners said that RBS was "the worst managed major bank this country has ever seen".

"RBS was not brought to its knees by bad regulation, but by bad management and bad governance," he added.

Bonuses on hold

In return for the taxpayer support, the banks have promised not to pay discretionary cash bonuses in relation to 2009 performance to any staff earning above £39,000. 

Meanwhile, executive members of both boards have agreed to defer all bonuses payments due for 2009 until 2012, to ensure that their remuneration is better aligned with the long-term performance of their banks 

Both banks will maintain their existing commitments to increase lending to businesses and homeowners by £39 billion. 

However, economists warn that toay's measures will take a long time to filter through. Vicky Redwood of Capital Economics says: "The latest round of public support for the banks highlights that the banking system is still a long way from standing on its own two feet. And until it starts to operate normally again, it is wishful thinking to expect the banks to start lending at decent growth rates."

"The amount of capital that the government has directly injected into RBS, Lloyds and Northern Rock now adds up to more than £70 billion. And we would not be surprised if the government has to inject even more capital into the banks over the next couple of years. As the IMF recently calculated, UK banks have still absorbed only 40% of their likely losses," she adds.