David Davis says The Treasury must come clean over Lloyds

As published in The Times;

“These are not good times for the Treasury’s banking strategy. The surprise departure of Stephen Hester from the Royal Bank of Scotland — coming just as preparations to privatise the bank get under way — drew widespread praise for the respected chief executive and a flurry of accusations of political interference by the Treasury.

In that context, tomorrow’s Treasury select committee hearing on the collapsed Co-op/Lloyds deal, which would have seen the Co-operative Bank buy more than 600 Lloyds branches, is of great importance. It follows a nightmarish period for the Co-op, which posted a £674 million loss in March, pulled out of the Lloyds deal in April and had its credit rating downgraded six notches in May.

Now the dust has settled, the inquiries can begin. The decision to let the Co-op bid for Lloyds branches looked odd from the outset. It was a bad deal for Lloyds and the taxpayer, and the Government has questions to answer about its role in Britain’s latest banking debacle.

In return for receiving a bailout in 2009, Lloyds is required by EU rules to sell 632 branches by the end of this year. Just over two years ago, the Lloyds boss António Horta-Osório invited bids. In the first round, a proposal came from NBNK Investments. Backed by some of the most respected investors in London, and led by the City grandee Lord Levene of Portsoken, it was set up to provide a new conservatively-managed bank focused on high street banking and lending to small business. The Co-op did not enter a bid and its chief executive was reported as opposing the idea. The deadline for second-round bids came and went, and NBNK was the only show in town. Everything seemed set for a deal by the end of 2011.

Yet suddenly, more than a month after the deadline, the Co-op (under a new chief executive) was allowed to bid for the branches. A few weeks later, Lloyds announced that the Co-op had won. This was an astonishing outcome. NBNK, which still awaits an explanation for why its bid failed, had offered £730 million, to be paid as soon as the ink was dry on the contract. The Co-op offered just £350 million upfront. However, the Co-op did promise some “add-ons” that, if the branches made big enough profits, could have been worth another £400 million over the next 15 years. In the long term, assuming the best-case scenario, the Co-op could have ended up buying the Lloyds branches for £750 million.

That figure carries a whiff of suspicion. Just £20 million higher than the NBNK bid, it allowed Lloyds’ preference for the Co-op bid to be justified politically, while allowing for the fact that the Co-op did not have the funds to match NBNK’s offer.

But why would Lloyds reject an upfront payment of £730 million in favour of a deal that guaranteed less than half that and would only have paid further amounts (if any) quite possibly as late as 2028? NBNK asked the same question.

Shortly before Lloyds reached a conclusion, NBNK sent it a report on the fatal flaws in the Co-op’s plan. NBNK’s predictions proved almost unerringly accurate. Its report warned that the Co-op could not fund the deal, lacked leadership and was expanding too fast. It even predicted the possibility of a ratings downgrade.

Eighteen months later, the Co-op/Lloyds deal was off, the Co-op’s latest chief executive had resigned and its credit rating was classed as “junk”. If a competitor could see that the bid would fail, why could neither the Government nor Lloyds? It is said in the City that the Financial Services Authority and the Bank of England both expressed doubts at the time about the Co-op’s ability to cope.

The Co-op is not the only victim. Lloyds is spending £1.6 billion preparing to split off and sell the surplus branches. With no deal on the table, that money has been wasted. As the Government has a 39 per cent stake in the Lloyds Banking Group, this is a blow for the public finances and the taxpayer, too.

When the Lloyds chairman and chief executive appear before the select committee tomorrow, they will face tough questions. Was the outcome of the Co-op/NBNK bidding war predetermined? If not, was the bidding process biased towards the Co-op? Why was the Co-op’s bid allowed after the deadline, and why was its bid chosen when it meant less cash upfront (and almost certainly less cash in total) for both Lloyds and the taxpayer?

As for the Treasury, it should of course take a close interest in the future of the part-nationalised banks. However, its interventions must be accountable and subject to the rule of law. It must now come clean about the extent of its influence over how these banks are run. There are suggestions that the RBS board wanted to keep Stephen Hester in charge but was overruled by the Treasury. The circumstances surrounding the Co-op bid point to the invisible hand of HMT. The Treasury should explain its role in the branches bidding process.

Creating a strong and competitive banking sector is crucial to Britain’s recovery. It is also vital, as the nationalised banks are returned to private ownership, that the Treasury secures the best deal for the taxpayers whose bailouts saved them. Neither will be achieved by playing politics with Britain’s banks.

Sir David Davis was the Chairman of the Future of Banking Commission in 2010, and Chairman of the Public Accounts Committee 1997-2001.”