'The failure of the Royal Bank of Scotland'

Even the title of this report carries the sense of gloom that fell upon the streets of many of the cities and towns in the UK in the autumn of 2008. Royal Bank of Scotland, one of the world's largest banking groups following its acquisition of National Westminster Bank at the end of the 1990s, had gone too far when it led a consortium of bank to buy and break up the Dutch bank ABN Amro. That deal – combined with the subprime crisis - was its undoing. Three years later, and after much prodding, the Financial Services Authority has released a blockbuster report – detailing the bank's and the regulator's failings – in the affair. While the global market context played an important role, the FSA devoted consideration space to the problems of leadership and governance at RBS, and noting: "banks are run by people and those in board and senior management positions are responsible for the decisions they make. It is only with hindsight that it is clear that there were specific decisions taken by the RBS Board and senior management which placed RBS in a more vulnerable position than other banks when the financial crisis developed between 2007 and 2008." The expression "only with hindsight" may be that the regulator's foresight wasn't very good at the time, when quite a few people, including some shareholders, wondered whether RBS had taken a step too far. The FSA says that beyond the mistakes in the ABN Amro takeover, the errors at the top included:

• Capital: Keeping RBS lightly capitalised in order to maintain an "efficient" balance sheet.
  
• Funding: Adopting a business model that was highly dependent on wholesale funding and therefore choosing to run with a high level of liquidity risk.;
  
• Lending: Expanding commercial real estate lending with inadequate monitoring and mitigation of concentration risk.
  
• Asset allocation: Rapidly increasing lending in a number of other sectors which subsequently gave rise to substantial losses, eroding RBS’s capital resources.
  
• Structured credit: Expanding the structured credit business in 2006 and early 2007 when signs of underlying deterioration in the market were already starting to emerge.

These are first-level errors, but they point to underlying factors that made them systemic. The FSA inquiry went beyond board minutes, pursuing through interviews and other means to reach a view about how the culture, management and governance led to such a catastrophic situation. It does not make happy reading, especially for a bank that nominally complied with pretty much all the demands of the UK Combined Code.

"The FSA announced in December 2010 that, in the context of its enforcement work:

'We did not identify …… a failure of governance on the part of the Board.'

"However, it is important to note that this conclusion was reached in the context of whether there was a basis for the FSA successfully to bring an enforcement case in relation to the issues that were investigated," the FSA continues. "It should not be regarded as providing a positive assessment by the FSA of the general quality of corporate governance at RBS during the Review Period." Perhaps that's another sign of the failings at the FSA.

Source document: The index page for the report provides links to a section-by-section breakdown as well as the full 452-page document.