May 9, 2013 7:45 pm

RBS chief focuses on escape from state’s clutches

Stephen Hester, chief executive officer of Royal Bank of Scotland©Bloomberg

Stephen Hester: an appetite to see the job through

Stephen Hester is clearly feeling chirpier. Despite the bad news of Royal Bank of Scotland’s first-quarter numbers last week, which saw analysts downgrade annual earnings expectations, the RBS chief executive is convinced the lender is entering its last phase of repair ahead of reprivatisation.

“We’ve gone from bust bank to pretty close to normal bank,” says Mr Hester in an interview at RBS’s Bishopsgate headquarters in the City of London. “What we hope we can do next, with the confidence and energy that is being released, is to build a really good bank.”

That is hardly a knockout marketing line for potential investors. But for RBS, which still racked up £5bn of losses last year in what should be its penultimate year of restructuring after its 2008 collapse, expectations have been set at a low level.

Mr Hester believes that in a relatively commoditised market, doing what RBS already does – but better – should be sufficient to attract new shareholder interest. “Banking doesn’t have patents,” he says. “Everyone can copy everyone else. Even if we wanted to, we wouldn’t come up with a unique strategy. What we have to develop over time is to do similar things to other people but a bit better. Then you can have a bank that stands out from the pack.”

Results last week showed RBS standing out from the pack – but still in a bad way. The bank made an £826m pre-tax profit in the three months to March, but that tally was £400m short of expectations, after a collapse in volumes at the group’s investment banking unit.

The performance goes to the heart of the dilemma that has faced RBS throughout its restructuring – with the bank having to balance the need to wind down its legacy “non-core” business, maintain its ongoing operations and all the while deal with the political pressures to lend more to small British businesses and shrink unpopular investment banking.

Mr Hester was speaking – flanked by finance director Bruce van Saun – as Mr van Saun confirmed a long-planned move to hand over his brief to risk chief Nathan Bostock while himself heading back to his native US to run RBS subsidiary Citizens.

Between them the three men, seen as the core RBS team, will have a busy time of it over the next year or two, with central roles to play in getting the bank in financial shape for that all-important reprivatisation.

Mr van Saun’s responsibility, once he moves in October, will be to prepare Citizens for a partial flotation, and in the meantime agree a programme with regulators at the US Federal Reserve to free up as much capital as possible.

Citizens has a core tier one capital ratio – a key measure of strength – of 14 per cent compared with a typical peer group number of 10 or 11 per cent. That elevated capital position, enforced by the US regulator in part because of RBS’s own troubles at home, has in turn held back Citizens’ return on equity to about 5.5 per cent, half the level Mr van Saun hopes could be achieved ahead of a float late next year.

Mr Bostock, meanwhile, will be left to take over the task of building RBS’s overall capital strength to a level that satisfies UK regulators. It stands towards the lower end of European peers, with a core tier one ratio under incoming Basel III definitions, of 8.2 per cent. The Prudential Regulation Authority is expected to tell the bank within the coming week or two exactly how much more capital it must raise.

Many analysts believe RBS has the biggest capital deficit among Britain’s banks following a recent exercise conducted by the Bank of England’s Financial Policy Committee, which found a £25bn black hole across the sector. The bank may need to shrink further – potentially compounding its investment banking revenue problems from the first quarter – while also issuing new capital, probably in the form of so-called contingent convertible debt, or cocos. “We are prepared to issue cocos if regulators want us to,” Mr Hester says. “We stand ready.”

Capital pressures are not the only challenges ahead for Mr Hester and Mr Bostock. There is also the EU-ordered divestment of more than 300 branches, expected to be whittled down to the last couple of bidders next week; the sale of the remaining 49 per cent of the Direct Line insurance business; and renegotiation with EU authorities of a clause that in effect blocks the bank from restarting dividends.

Within a year or so, though, RBS is convinced it will be ready for the government to begin selling down its 82 per cent stake – assuming George Osborne, the UK chancellor, agrees.

Mr Hester clearly cannot wait. He describes long-term state ownership as a “psychological impediment to vibrancy in the workforce”, though with no direct suggestion the description applies to himself. So does he definitely have the appetite to see through the job – make RBS that “really good bank” and lead the reprivatisation process? Tapping a tubby stomach with a wry smile, he concludes: “Do I look like I have a problem with my appetite?”

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