Research Update: Royal Bank of Scotland Ratings Lowered To 'A-/A-2' On Extended Restructuring; Outlook Primary Credit Analyst: Dhruv Roy, London (44) 20-7176-6709; dhruv.roy@standardandpoors.com Secondary Contact: Alexandre Birry, London (44) 20-7176-7108; alexandre.birry@standardandpoors.com Table Of Contents Overview Rating Action Rationale Outlook Ratings Score Snapshot Related Criteria And Research Ratings List WWW.STANDARDANDPOORS.COM/RATINGSDIRECT NOVEMBER 7, 2013 1
Research Update: Royal Bank of Scotland Ratings Lowered To 'A-/A-2' On Extended Restructuring; Outlook Overview On Nov. 1, 2013, following a review by HM Treasury, The Royal Bank of Scotland PLC (RBS) announced significant changes to its restructuring plan, including the creation of an internal "bad bank" to house its riskiest assets. The changes amount to a material extension of RBS' long-running restructuring, further delaying the bank's return to profitability. In addition, considerable uncertainties remain regarding RBS' exposure to future litigation and conduct risk. We are therefore lowering the long- and short-term ratings on RBS to 'A-/A-2' from 'A/A-1'. The negative outlook primarily reflects the negative trend that we see for U.K. banking industry risk. Rating Action On Nov. 7, 2013, Standard & Poor's Ratings Services lowered its long- and short-term counterparty credit ratings on U.K.-based The Royal Bank of Scotland PLC (RBS) and its core operating subsidiaries to 'A-/A-2' from 'A/A-1'. The outlook is negative. At the same time, we affirmed the ratings on RBS' subordinated debt and hybrid instruments. Rationale The lowering of the ratings reflects our view of the changes that RBS has announced to its restructuring plan, which include the creation of an internal "bad bank" and the accelerated disposals of higher-risk assets. In our view, these changes create additional near-term execution risks and further delay the group's return to sustainable organic capital build. Since November 2011, we have incorporated one notch of uplift into the ratings on RBS in recognition of the scale of the group's restructuring and the good progress made against management targets. The extra notch reflected our expectation that RBS' transition would lead us to revise upward our assessment of its stand-alone credit profile (SACP) over the two-year rating horizon. Although we recognize that the new plan has the potential to support RBS' creditworthiness over the longer term, we consider that the extended and WWW.STANDARDANDPOORS.COM/RATINGSDIRECT NOVEMBER 7, 2013 2
expanded restructuring is not consistent with our previous expectations for the group's progress in its transition. Therefore, we have removed the transitional notch of uplift, but not revised the SACP. We also consider that the revised restructuring plan, with its associated large credit losses and execution risks, comes at a time of continued underperformance in the group's core businesses, including the investment banking and international banking divisions. Finally, RBS' potentially substantial exposure to litigation and conduct risk continues to constrain our assessment of its risk position. Our assessment of RBS' business position as "adequate" remains unchanged and balances our view of RBS' leading franchises in U.K. retail, corporate, and private banking with its long-running restructuring program and political influence on the group's strategy. We also note the potential for further restructuring following the conclusion of the group's internal strategic review of all divisions (focusing on revenue growth and cost efficiencies) in February 2014. We continue to view capital and earnings as "adequate." We expect that the group's risk-adjusted capital (RAC) ratio (before diversification adjustments) will remain broadly stable at around 7.4% at end-2013 (7.6% at end-2012). This projection takes into account a 4 billion- 4.5 billion impairment charge in fourth-quarter 2013 as a result of RBS' decision to accelerate the disposal of the bad bank assets (which it estimates will total about 38 billion net of provisions at end-2013). The resulting statutory loss is substantially offset by the group's faster rundown of Standard & Poor's risk-weighted assets (RWAs). The trajectory of the RAC ratio in 2014 and beyond depends to a large extent on the timing of the reduction in RWAs and magnitude of gains from RBS' accelerated divestiture of its U.S. banking business, RBS Citizens Financial Group Inc. (Citizens). The RAC ratio also depends on the disposal losses from the accelerated sales of the bad bank assets, which management expects to be in the range of 1.5 billion to 2 billion over the next two years. The magnitude and timing of conduct- and litigation-related charges add another element of uncertainty to our forecasts. Putting these elements together, under our base-case scenario, we expect the RAC ratio to be in the 8%-8.5% range by end-2015. This forecast assumes a statutory loss in 2014 (albeit narrower than the loss in 2013), a 55%-70% reduction in bad bank assets by 2015 as per RBS' plan, the redemption of the government's Dividend Access Share, and the deconsolidation of Citizens in 2015. We also continue to view the group's risk position as "moderate," reflecting the risk of larger-than-expected disposal losses on the bad bank portfolio, the continued high impairment losses, and the continued exposure to conductand litigation-related risks. As a result of the large impairment charge in fourth-quarter 2013, we expect credit losses (measured by new loan-loss provisions to average customer loans) to be around 190 basis points (bps) for full-year 2013, a reversal of the declining trend. We expect this ratio to decline to around 75 bps in 2014, a level still significantly higher than peers'. Key unresolved conduct risk items include securitization-related litigation in the U.S. (brought by the Federal Housing Finance Agency), LIBORand foreign exchange-related investigations in certain jurisdictions, and WWW.STANDARDANDPOORS.COM/RATINGSDIRECT NOVEMBER 7, 2013 3
shareholder litigation. In addition, top-ups to the provisions for the misselling of interest rate hedging products and payment protection insurance are probable. We assess RBS' SACP at 'bbb'. We factor into the rating two notches of uplift from the SACP, reflecting our view that the bank's "high" systemic importance in the U.K. remains unchanged. Outlook The negative outlook on RBS reflects the negative trend that we see for U.K. banking industry risk. We could lower the ratings on RBS if our assessment of U.K. industry risk worsens, resulting in a lowering of the anchor for a bank operating primarily in the U.K. to 'bbb' from 'bbb+'. We could also lower the ratings if we revise downward our assessment of RBS' business position. This could happen if the execution of RBS' revised restructuring plan (in particular the rundown of the bad bank and the divestiture of Citizens) falters or its core businesses continue to underperform. A revision of the outlook to stable would likely require us to revise our negative assessment of U.K. banking industry risk. Finally, we note the U.K. authorities' measures to ensure that, over the long term, its provision of wide-ranging support to highly systemic banking groups in a crisis would stem from choice rather than necessity. We continue to monitor developments, but for now we remain unconvinced that the government would risk the potential adverse economic consequences of allowing a major financial institution to default. However, we could lower the ratings on RBS and/or affiliated entities if we saw diminished prospects that the government would provide support to the bank to the benefit of senior creditors. Ratings Score Snapshot To From Issuer Credit Rating A-//A-2 A//A-1 SACP bbb bbb Anchor bbb+ bbb+ Business Position Adequate (0) Adequate (0) Capital and Earnings Adequate (0) Adequate (0) Risk Position Moderate (-1) Moderate (-1) Funding and Liquidity Average Average and Adequate (0) and Adequate (0) Support 2 2 WWW.STANDARDANDPOORS.COM/RATINGSDIRECT NOVEMBER 7, 2013 4
GRE Support 0 0 Group Support 0 0 Sovereign Support 2 2 Additional Factors 0 1 Related Criteria And Research Assessing Bank Branch Creditworthiness, Oct. 14, 2013 Revised Market Risk Charges For Banks In Our Risk-Adjusted Capital Framework, June 22, 2012 Group Rating Methodology, May 7, 2013 Banks: Rating Methodology And Assumptions, Nov. 9, 2011 Banking Industry Country Risk Assessment Methodology And Assumptions, Nov. 9, 2011 Bank Hybrid Capital Methodology And Assumptions, Nov. 1, 2011 Bank Capital Methodology And Assumptions, Dec. 6, 2010 Ratings List Downgraded To From The Royal Bank of Scotland PLC The Royal Bank of Scotland N.V. Royal Bank of Scotland PLC (Connecticut Branch) (The) Royal Bank of Scotland N.V. (Milan Branch) RBS Securities Inc. National Westminster Bank PLC Counterparty Credit Rating A-//A-2 A//A-1 The Royal Bank of Scotland PLC The Royal Bank of Scotland N.V. Certificate Of Deposit A-/A-2 A/A-1 The Royal Bank of Scotland PLC Senior Unsecured cnaa- cnaa+ Senior Unsecured A- A Commercial Paper A-2 A-1 RBS Holdings USA Inc. Commercial Paper A-2 A-1 The Royal Bank of Scotland Group PLC Senior Unsecured B+ A- The Royal Bank of Scotland N.V. Senior Unsecured A- A Downgraded; Ratings Affirmed WWW.STANDARDANDPOORS.COM/RATINGSDIRECT NOVEMBER 7, 2013 5
To From The Royal Bank of Scotland Group PLC Counterparty Credit Rating B+//A-2 A-//A-2 Ratings Affirmed Ulster Bank Ireland Ltd. Ulster Bank Ltd. Counterparty Credit Rating Ulster Bank Ireland Ltd. Certificate Of Deposit The Royal Bank of Scotland PLC Subordinated Junior Subordinated National Westminster Bank PLC Subordinated Junior Subordinated Preference Stock RBS Capital Funding Trust V RBS Capital Funding Trust VI RBS Capital Funding Trust VII RBS Capital Trust A RBS Capital Trust B RBS Capital Trust C RBS Capital Trust D RBS Capital Trust I RBS Capital Trust II RBS Capital Trust III B+//A-2 B+/A-2 B- + B- + + + + + WWW.STANDARDANDPOORS.COM/RATINGSDIRECT NOVEMBER 7, 2013 6
RBS Capital Trust IV The Royal Bank of Scotland Group PLC Senior Unsecured B+ Subordinated + Junior Subordinated Preference Stock Commercial Paper A-2 The Royal Bank of Scotland N.V. Subordinated B- Ulster Bank Finance PLC Commercial Paper A-2 Ulster Bank Ireland Ltd. Certificate Of Deposit A-2 Additional Contact: Financial Institutions Ratings Europe; FIG_Europe@standardandpoors.com Complete ratings information is available to subscribers of RatingsDirect at www.globalcreditportal.com and at spcapitaliq.com. All ratings affected by this rating action can be found on Standard & Poor's public Web site at www.standardandpoors.com. Use the Ratings search box located in the left column. Alternatively, call one of the following Standard & Poor's numbers: Client Support Europe (44) 20-7176-7176; London Press Office (44) 20-7176-3605; Paris (33) 1-4420-6708; Frankfurt (49) 69-33-999-225; Stockholm (46) 8-440-5914; or Moscow 7 (495) 783-4009. WWW.STANDARDANDPOORS.COM/RATINGSDIRECT NOVEMBER 7, 2013 7
Copyright 2013 by Standard & Poor's Financial Services LLC. All rights reserved. No content (including ratings, credit-related analyses and data, valuations, model, software or other application or output therefrom) or any part thereof (Content) may be modified, reverse engineered, reproduced or distributed in any form by any means, or stored in a database or retrieval system, without the prior written permission of Standard & Poor's Financial Services LLC or its affiliates (collectively, S&P). The Content shall not be used for any unlawful or unauthorized purposes. S&P and any third-party providers, as well as their directors, officers, shareholders, employees or agents (collectively S&P Parties) do not guarantee the accuracy, completeness, timeliness or availability of the Content. S&P Parties are not responsible for any errors or omissions (negligent or otherwise), regardless of the cause, for the results obtained from the use of the Content, or for the security or maintenance of any data input by the user. The Content is provided on an "as is" basis. S&P PARTIES DISCLAIM ANY AND ALL EXPRESS OR IMPLIED WARRANTIES, INCLUDING, BUT NOT LIMITED TO, ANY WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE OR USE, FREEDOM FROM BUGS, SOFTWARE ERRORS OR DEFECTS, THAT THE CONTENT'S FUNCTIONING WILL BE UNINTERRUPTED, OR THAT THE CONTENT WILL OPERATE WITH ANY SOFTWARE OR HARDWARE CONFIGURATION. In no event shall S&P Parties be liable to any party for any direct, indirect, incidental, exemplary, compensatory, punitive, special or consequential damages, costs, expenses, legal fees, or losses (including, without limitation, lost income or lost profits and opportunity costs or losses caused by negligence) in connection with any use of the Content even if advised of the possibility of such damages. Credit-related and other analyses, including ratings, and statements in the Content are statements of opinion as of the date they are expressed and not statements of fact. S&P's opinions, analyses, and rating acknowledgment decisions (described below) are not recommendations to purchase, hold, or sell any securities or to make any investment decisions, and do not address the suitability of any security. S&P assumes no obligation to update the Content following publication in any form or format. The Content should not be relied on and is not a substitute for the skill, judgment and experience of the user, its management, employees, advisors and/or clients when making investment and other business decisions. S&P does not act as a fiduciary or an investment advisor except where registered as such. While S&P has obtained information from sources it believes to be reliable, S&P does not perform an audit and undertakes no duty of due diligence or independent verification of any information it receives. To the extent that regulatory authorities allow a rating agency to acknowledge in one jurisdiction a rating issued in another jurisdiction for certain regulatory purposes, S&P reserves the right to assign, withdraw, or suspend such acknowledgement at any time and in its sole discretion. S&P Parties disclaim any duty whatsoever arising out of the assignment, withdrawal, or suspension of an acknowledgment as well as any liability for any damage alleged to have been suffered on account thereof. S&P keeps certain activities of its business units separate from each other in order to preserve the independence and objectivity of their respective activities. As a result, certain business units of S&P may have information that is not available to other S&P business units. S&P has established policies and procedures to maintain the confidentiality of certain nonpublic information received in connection with each analytical process. S&P may receive compensation for its ratings and certain analyses, normally from issuers or underwriters of securities or from obligors. S&P reserves the right to disseminate its opinions and analyses. S&P's public ratings and analyses are made available on its Web sites, www.standardandpoors.com (free of charge), and www.ratingsdirect.com and www.globalcreditportal.com (subscription) and www.spcapitaliq.com (subscription) and may be distributed through other means, including via S&P publications and third-party redistributors. Additional information about our ratings fees is available at www.standardandpoors.com/usratingsfees. WWW.STANDARDANDPOORS.COM/RATINGSDIRECT NOVEMBER 7, 2013 8