February 23, 2012 8:33 pm

Chief hails RBS progress on asset clean-up

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A near doubling of losses in a year would usually be a cause for concern for bank chief executives.

But Stephen Hester, head of Royal Bank of Scotland, said that in the “Alice in Wonderland world” he was operating in, larger losses could in fact be interpreted as a good thing.

The bank’s pre-tax loss widened from £399m to £766m last year after a weak investment banking performance and one-off charges linked to mis-sold loan insurance in the UK and Greek debt. While acknowledging times were tough – and the RBS recovery was proving harder than expected – Mr Hester was buoyed by the results.

He said the larger losses were in part caused by an acceleration of the clean-up process he embarked on three years ago. Speeding that up – by selling unwanted assets more quickly, which in turn triggered greater losses – had only been made possible because the bank was more stable.

RBS graphic

RBS graphic

Mr Hester told the Financial Times he was now “more than three-quarters of the way” through the clean-up of legacy assets the bank no longer wanted. That process has so far cost £44bn in aggregate, with an estimated £10bn or so still to go.

Analysts expect the bank to take annual write-offs of about £3bn this year and next, plus £1bn-£2bn of restructuring and other charges each year.

For the first time Mr Hester released the performance targets set for him by RBS in 2009, against which the bank has exceeded expectations in some areas. Its funded balance sheet – the value of loans and investments – has shrunk from £1.6tn to £977bn in three years, compared with a target of £1.2tn. Mr Hester stressed that reduction was twice the size of Greece’s total debt burden.

The bank has reduced its portfolio of toxic loans and unwanted businesses more quickly than expected and improved its funding position.

Overall, RBS has generated £24.1bn of operating profits in its core operations – its UK and US retail and commercial divisions and the investment bank – since 2009, which has helped pay the £34.2bn bill for restructuring its non-core portfolio.

But the core businesses are hardly problem-free. Together their operating profit fell 18 per cent in 2011. Mr Hester said the UK retail business was the “big star”. Its profits jumped 45 per cent to £2bn last year.

But this was more than offset by a dire performance at the investment banking arm, where profits more than halved. RBS has launched a thorough overhaul of its investment bank, which will involve removing £70bn of risk-weighted assets at an estimated cost of £550m.

Some analysts expected RBS to launch a more radical shake-up of its investment bank, particularly after the business fell into a loss in the final quarter of the year.

“This is less aggressive restructuring than our scenario analysis and so having outperformed the sector by 18 per cent year-to-date, we expect the stock to give back some of this performance,” said Credit Suisse analysts.

Mr Hester expected to do the bulk of the restructuring – closing down and exiting businesses such as cash equities, equity capital markets and mergers and acquisitions advice – over the next 12 months. Running down the assets could take until 2014, however.

The other black spot in the core business is RBS’s Irish operation, Ulster Bank, where losses rose by a third to exceed £1bn.

Mr Hester said the bank was tackling these “setbacks”. He stressed that impairments in Ireland had stabilised in the second half of last year and, stripping out losses on loans, underlying profits had risen. The US business, Citizens, which was lossmaking in 2009, has also returned to profit.

But profits at the core business will be held back next year as the bank plans to float its insurance division in the second half. The business contributed a profit of £454m in 2011 compared with a loss of £295m in 2010.

Ultimately the turnround of the non-core businesses, including vast portfolios of commercial property and corporate loans, will determine the pace of the bank’s overall recovery over the next two years.

Mr Hester describes the old RBS assets, which were inherited three years ago from his discredited predecessor Sir Fred Goodwin, as “the biggest risk time-bomb ever put on a bank balance sheet”.

The “non-core” portfolio, which now comprises £93bn of risk-weighted assets, down from £154bn a year ago, generated a £4.2bn operating loss. Analysts say that was a more extreme loss than expected, as RBS has ramped up the pace of asset disposals.

The wind-down would now slow, according to finance director, Bruce van Saun. The £44bn reduction of assets in 2011 would be followed by cuts of £30bn this year and about £25bn in 2013. Mr Hester also signalled that although there had been a spike in restructuring losses in the fourth quarter – there should be substantial gains on some disposals this year.

As RBS moves into the final stages of its five-year turnround plan, it hopes the profits generated by its key businesses will no longer be lost down the rabbit hole of restructuring its non-core business.

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