Royal Bank of Scotland has been accused of engineering loan defaults to transfer solvent businesses into its turnaround division, Global Restructuring Group (GRG), to generate revenue through fees, increased margins and, ultimately, to seize undervalued assets to subsequently sell on at a profit.
Vince Cable, the business secretary, has handed over to City regulators a damming report into the practices of the UK banks with the vast majority of evidence against RBS. The report has been written by Lawrence Tomlinson, an adviser to the Secretary of State for Business, Innovation and Skills.
In the summary of findings, Tomlinson outlined the common alleged malpractices:
- The bank artificially distresses an otherwise viable business and through their actions puts them on a journey towards administration, receivership and liquidation;
- Once transferred into the business support division of the bank the business is not supported in a manner consistent with good turnaround practice and this has a catalytic effect on the business’ journey to insolvency;
- The insolvency process lacks fairness and accountability leading to financial implications and biased outcomes to the detriment of the business owner.
“Much evidence was received about the practices of RBS’ turnaround division, Global Restructuring Group which typifies this behaviour,” wrote Tomlinson, who later in the report described this process as “systematic and institutional”.
He continued: “Once in this part of the bank, the business is trapped with no ability to move or opportunity to trade out of the position – they are forced to stand by and watch an otherwise successful business be sunk by the decisions of the bank.
“The bank extracts maximum revenue from the business, beyond what can be considered reasonable and to such an extent that it is the key contributing factor to the business’ financial deterioration.
“This is not an open and transparent process, nor is it a proportionate response from the bank. During the process businesses are completely in the dark as to what is happening around them until it is too late.”
The Tomlinson Report – entitled Banks’ Lending Practices: Treatment of Businesses in distress – pointed out that banks will argue that to enter the turnaround division, the business must be struggling, but stressed its own dossier of evidence, submitted to City regulators, disproves that existing stress is always a precursor for a transfer into a bank’s turnaround division.
“The trigger point for the business’ move into the business support division is sometimes so insignificant, given the otherwise positive performance of the business, that the reaction by the bank can only be considered as utterly disproportionate at best and manipulative and conspiring at worst.
“In the most shocking circumstances, the distress or breach of banking arrangements is directly caused by a change in loan terms by the bank, such as a sudden reduction in EBITDA multiples creating an equity gap, or the significant undervaluation of an asset.”
Tomlinson wrote that the three most common means of engineering a default were: the re-assessment of a loan to value (LTV); technical breach of covenants; or removal of or change to loan facilities and the move to asset-based finance.
Banks and valuers: uncomfortable evidence
Asset revaluations and new LTVs were the most common complaints to the Tomlinson Report, which put companies into default.
The report states: “Many businesses have submitted evidence demonstrating what appear to be unquestionable under-valuations of properties. They are so stark compared to original and current values of the property that their accuracy has to be called into question as well as the reason behind such an inaccuracy.
“Not only is the undervaluation itself a concern, so is the relationship between the bank and the valuers. Often, much of a valuer’s work will come from the banks and there is therefore an inherent conflict of interest as there is a natural incentive for the valuer to act in the interest of the bank.
“Banks are also able to order valuations as if in the instance of a fire sale, for example, posing the question, ‘how much would we get if the property was sold in the next six weeks?’
“Clearly, under such sales the value of a property, especially a commercial property, will be extremely low comparable to the actual potential sale price under normal circumstance. There is, however, no obligation for the bank to sell the property at speed, even if the valuation is done on that basis.
“Therefore, the artificially low value of the property still counts as a breach of LTV even if the property is not going to be sold at that price.”
The evidence submitted to City regulators, in the Tomlinson Report, alleges that ‘desktop revaluations’ were routinely relied on to put companies into insolvency or administration, only for the assets to be sold on at significantly higher prices than the ‘revaluations’ which placed companies into insolvency or administration.
Furthermore, sale prices of these commercial properties were often at levels which were within the agreed LTV covenants.
Tomlinson’s summary stated that it had evidence of multiple accounts where RBS’ property company subsidiary, West Register, was “buying properties later down the line when the business has gone into insolvency at cut prices”.
“When you look at the inaccuracy of the valuations of many of these assets, there is a potential for easy profit to be made from the cheap purchase of properties that later can be resold nearer the original valuation,” stated Tomlinson’s report.
He continued: “West Register’s portfolio risks being a significant conflict of interest within the bank and from the cases I have heard, there is a clear risk of a perception arising that the intention is to purposefully distress a business to put them in GRG and subsequently take their assets for the West Register.”
Two years ago, CoStar News published a story focusing on two separate legal challenges against RBS’ transfer of property developments into West Register cases.
The first involved Innes Berntsen and Chris Richardson, business partners-turned property developers, which took legal action against RBS subsidiary NatWest for alleging wrongful termination of its bank facility for the development of a four-star Kent hotel.
The second legal challenge was brought to RBS by property developer John Morris who was contesting that RBS reneged on an agreed banking facility to finance final construction works on the Charters luxury apartment scheme in Sunningdale, just south of Windsor.
Both parties are still understood to be pursuing their claims against RBS.
The Tomlinson Report quotes a whistleblowing ex-RBS banker who outlined the process by which asset-carrying businesses were offered to GRG:
“Each month relationship managers would submit the figures for their customers to the credit team in the bank. Should anything flag, it would be passed to the ‘watch’ committee.
“For example if a business is not in breach of its banking agreements but is say 10% down on budgeted performance, they will keep their eye on it.
“They may decide to offer it to GRG, or order a check of the business’ LTV. If GRG want to take it, and see some value from the business for the bank, it would then be passed directly to GRG and the relationship manager would be prevented from contacting the business at all going forward.”
“The points made by the ex-banker suggest that there is a process by which businesses are assessed for their potential value to GRG not their level of distress,” wrote Tomlinson.
An RBS spokesperson said: “In the boom years leading up to the financial crisis, the over-heated property development market became a major threat to the UK economy. RBS did more than its fair share to fuel this and commercial property lending was one of the key drivers of our near collapse as valuations rapidly plummeted.
“Facing up to these mistakes has been a difficult, but essential part of making RBS a safe and strong bank once again. That has been one of GRG’s main tasks.
“GRG successfully turns around most of the businesses it works with, but in all cases is working with customers at a time of significant stress in their lives. Not all businesses that encounter serious financial trouble can be saved.
“We are already committed to an inquiry to investigate how customers are treated by RBS when facing financial difficulties and ensure that we provide them with appropriate support.”
Sir Andrew Large, a former Bank of England deputy governor who published his review of RBS’ SME lending practices today, told the Financial Times this afternoon that all banks should know of the abuses alleged in Tomlinson’s report.
In an open letter in response to Sir Andrew Large’s report today, Ross McEwan, RBS’ new CEO who succeeded Stephen Hester last month, wrote: “We have already committed to fix our lending processes.
“Your report also highlights that when times are tough for our customers, some have said they were angry about the treatment they received. I have asked the law firm, Clifford Chance, to conduct an inquiry into this matter, reporting back to me in the new year.”