Update On UK’s Banking Bailout Plan

Here is a quick update on the latest developments with the British Government’s plans to bailout its banking system:

From the FT:

Britain was on Sunday preparing to pump about £39bn into three of the country’s largest banks in a broad-based recapitalisation that could see the UK government end up with controlling stakes in Royal Bank of Scotland (RBS) and HBOS (HBOS.L).

Top executives from RBS , HBOS, Lloyds TSB (LYB) and Barclays (BCS) were last night locked in talks with government officials in a frantic attempt to hammer out details of the capital increase before the markets reopen on Monday.

Under the plans being discussed, RBS is likely to raise as much as £20bn in fresh capital. Of this, £15bn would come in the form of a placing of ordinary shares with the government, with the remainder in the form of preferred shares. Existing RBS shareholders will given an opportunity to buy the shares, but if they do not the government is expected to be left with a controlling stake in the bank.

Sir Fred Goodwin, RBS’s embattled chief executive, is expected to step down, to be replaced by Stephen Hester, the former banker who is currently chief executive of British Land. Sir Fred will become by far British banking’s biggest casualty of the credit crisis.

HBOS is expected to raise around £12bn, of which £9bn would be in the form of ordinary shares while Lloyds TSB - with which it is due to merge - is expected to raise a total of around £7bn. The capital increase and the prospect of a large government shareholding may also prompt Lloyds to rethink the terms of its planned takeover of HBOS, announced last month.

Barclays executives were also last night locked in negotiations with the government over its capital needs. The bank is maintaining it will raise around £7bn in new capital but is asking for the time to find the money without calling on the government.

The fundraising talks come just a few days after the government unveiled a £400bn bailout package designed to recapitalise the banks and unfreeze the inter-bank lending markets in an effort to avert a severe recession. However, the recapitalisation envisaged in the earlier scheme would only have given the government preferred shares with no voting rights.

The government is expected to inject equity in the banks by creating a Bank Reconstruction Fund, which could provide at least £50bn of capital.

It’s going to be interesting to see how all of this is going to play out, as the overall cost of receiving funds from the Government (monetary, loss of control, various mandates on pay, behavior, etc) will undoubtedly motivate the banks to pull out all the stops to raise capital. On the other hand receiving an infusion of capital from the government may very well assist with those capital raising efforts, as it could give potential investors more confidence .

Either way I like the fact that the bank aren’t especially excited about participating in the plan and will only participate when they have no other options, because not only will it motivate the banks to save themselves but it will also motivate them to raise the cash necessary to back any loans, buy back the preferred shares, etc.

Like I said before if you’re going to bailout companies because it’s necessary for the health of the economy structure it in a way that is painful for the companies receiving help, so it motivates them to either find a way save themselves without government assistance and/or to repay their debt to the taxpayer as soon as possible.

You can read more here.

Source:

The Financial Times: “U.K. to inject £39bn into banks” — Peter Thai Larsen, Jane Croft, Jean Eaglesham and Kate Burgess, October 13, 2008.

Disclosure: at the time of publishing the author didn’t own a position in any of the companies mentioned in this article; the ideas expressed are solely the opinions of the author and shouldn’t be viewed as financial or investment advice.

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