20-F 1 dp21779_20f.htm FORM 20-F


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_______________________________________________


FORM 20-F
 
(Mark One)
 
 
o
REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934
 
OR
x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the fiscal year ended December 31, 2010
 
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
OR
o
SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
   
Commission file number: 001-10306
 
THE ROYAL BANK OF SCOTLAND GROUP plc
 (Exact name of Registrant as specified in its charter)
 
United Kingdom
(Jurisdiction of incorporation or organization)
 
RBS Gogarburn, PO Box 1000, Edinburgh EH12 1HQ, United Kingdom
(Address of principal executive offices)
 
Aileen Taylor, Group Secretary, Tel: +44 (0) 131 626 4099, Fax: +44 (0) 131 626 3081
 
PO Box 1000, Gogarburn, Edinburgh EH12 1HQ
(Name, Telephone, E-mail and/or Facsimile number and Address of Company Contact Person)
 
Securities registered or to be registered pursuant to Section 12(b) of the Act:
 
 
Title of each class
 
Name of each exchange on which registered
American Depositary Shares, each representing 20 ordinary shares, nominal value £0.25 per share
New York Stock Exchange
Ordinary shares, nominal value £0.25 per share
New York Stock Exchange*
American Depositary Shares Series F, H, L, M, N, P, Q, R, S, T and U each representing one Non-Cumulative Dollar Preference Share, Series F, H, L, M, N, P, Q, R, S, T and U respectively
New York Stock Exchange
Dollar Perpetual Regulatory tier one securities, Series 1
New York Stock Exchange
Senior Floating Rate Notes due 2013
New York Stock Exchange
3.400% Senior Notes due 2013
New York Stock Exchange
3.250% Senior Notes due 2014
New York Stock Exchange
3.950% Senior Notes due 2015
New York Stock Exchange
4.875% Senior Notes due 2015
New York Stock Exchange
4.375% Senior Notes due 2016
New York Stock Exchange
5.625% Senior Notes due 2020
New York Stock Exchange
6.125% Senior Notes due 2021
New York Stock Exchange
______________________________________
 
* Not for trading, but only in connection with the registration of American Depositary Shares representing such ordinary shares pursuant to the requirements of the Securities and Exchange Commission.
 
Securities registered or to be registered pursuant to Section 12(g) of the Act:
None
 
 
 

 
_______________
 
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act:
None
_______________
 
Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of December 31, 2010, the close of the period covered by the annual report:
 
Ordinary shares of 25 pence each
58,458,130,868
Non-cumulative dollar preference shares, Series F, H and L to U
209,609,154
B Shares
51,000,000,000
Non-cumulative convertible dollar preference shares, Series 1
64,772
Dividend Access Share
1
Non-cumulative euro preference shares, Series 1 to 3
2,044,418
11% cumulative preference shares
500,000
Non-cumulative convertible sterling preference shares, Series 1
14,866
5½% cumulative preference shares
400,000
Non-cumulative sterling preference shares, Series 1
54,442
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
 
x  Yes      o  No
 
If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
 
o  Yes     x   No
 
Note – Checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 from their obligations under those Sections.
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
 
x  Yes      o  No
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
 
o  Yes     o   No
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer     x                                        Accelerated filer     o                             Non-Accelerated filer  o
 
Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:
 
o  U.S. GAAP
x  International Financial Reporting Standards as issued by the International Accounting Standards Board
o  Other

If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.
 
o  Item 17      o   Item 18

 
If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
 
o  Yes      x  No
 



 
 
 
 

 
SEC Form 20-F cross reference guide


Item
Item Caption
Pages
PART I
   
1
Identity of Directors, Senior Management and Advisers
Not applicable
     
2
Offer Statistics and Expected Timetable
Not applicable
     
3
Key Information
 
 
Selected financial data
8-9, 299-302, 333-334, 341, 375-376
 
Capitalisation and indebtedness
Not applicable
 
Reasons for the offer and use of proceeds
Not applicable
 
Risk factors
7, 352-369
     
4
Information on the Company
12-16, 58, 74-132, 269-270, 273-274, 279-280, 333-341
 
History and development of the Company
5-6, 170-171, 281-282, 380-381, 399
 
Business overview
5-6, 170-171, 318-323, 342-345
 
Organisational structure
5-6, 275
 
Property, plant and equipment
279-280, 345
     
4A
Unresolved Staff Comments
Not applicable
     
5
Operating and Financial Review and Prospects
 
 
Operating results
6, 8-58, 270-272, 342-345
 
Liquidity and capital resources
57-58, 66-84, 241-268, 270-274, 279-280, 301-302, 308, 315-317, 340-341
 
Research and development, patents, licences etc
Not applicable
 
Trend information
5-7, 352-369
 
Off balance sheet arrangements
157-160, 307-308
 
Contractual obligations
74-80, 303-305
     
6
Directors, Senior Management and Employees
 
 
Directors and senior management
166-169
 
Compensation
187-204, 230-237, 324
 
Board practices
173, 175-182, 189-190,197-203
 
Employees
27, 171, 230-231
 
Share ownership
200-202, 205
     
7
Major Shareholders and Related Party Transactions
 
 
Major shareholders
173, 345
 
Related party transactions
324-326
 
Interests of experts and counsel
Not applicable
     
8
Financial Information
 
 
Consolidated statements and other financial information
170, 207-331, 376
 
Significant changes
 6, 326
     


 
i

 



Item
Item Caption
Pages
     
9
The Offer and Listing
 
 
Offer and listing details
374-375
 
Plan of distribution
Not applicable
 
Markets
373
 
Selling shareholders
Not applicable
 
Dilution
Not applicable
 
Expenses of the issue
Not applicable
     
10
Additional Information
 
 
Share capital
Not applicable
 
Memorandum and articles of association
380-389
 
Material contracts
345-350
 
Exchange controls
380
 
Taxation
377-380
 
Dividends and paying agents
Not applicable
 
Statement of experts
Not applicable
 
Documents on display
389
 
Subsidiary information
Not applicable
     
11
Quantitative and Qualitative Disclosure about Market Risk
59-164, 241-265, 270-274
     
12
Description of Securities other than Equity Securities
351
     
     
PART II
   
13
Defaults, Dividend Arrearages and Delinquencies
Not applicable
     
14
Material Modifications to the Rights of Security Holders and Use of Proceeds
Not applicable
     
15
Controls and Procedures
183, 184, 208
     
16
[Reserved]
 
 
A  Audit Committee Financial Expert
179-182
 
B Code of Ethics
171, 389
 
C Principal Accountant Fees and Services
179-182, 237
 
D Exemptions from the Listing Standards for Audit Committees
Not applicable
 
E Purchases of Equity Securities by the Issuer and Affiliated Purchasers
Not applicable
 
F Change in Registrant’s Certifying Accountant
Not applicable
 
G Corporate Governance
175-178
     
PART III
   
17
Financial Statements
Not applicable
 
   
18
Financial Statements
207-331
 
   
19
Exhibits
400-402
     
 
Signature
403
 
 
 
ii

 
 
Form 20-F
Business review
 
Contents

2
Presentation of information
4
Forward-looking statements
5
Description of business
6
Recent developments
6
Competition
7
Risk factors
8
Key financials
9
Summary consolidated income statement
12
Analysis of results
25
Divisional performance
54
Consolidated balance sheet
57
Cash flow
58
Capital resources
59
Risk and balance sheet management
59
  Introduction
66
  Balance sheet management
66
    - Capital
74
    - Funding and liquidity risk
83
    - Interest rate risk
84
    - Structural foreign currency exposures
85
    - Equity risk
86
  Risk management
86
    - Credit risk
133
    - Market risk
139
    - Insurance risk
139
    - Operational risk
142
    - Regulatory risk
143
    - Reputation risk
143
    - Pension risk
144
    - Other risk exposures
161
  Asset Protection Scheme

 
1

 
 
Presentation of information
Business review
 
 
In this document, and unless specified otherwise, the term ‘company’ or ‘RBSG’ means The Royal Bank of Scotland Group plc, ‘RBS’, ‘RBS Group’ or the ‘Group’ means the company and its subsidiaries, ‘the Royal Bank’ means The Royal Bank of Scotland plc and ‘NatWest’ means National Westminster Bank Plc.

The company publishes its financial statements in pounds sterling (‘£’ or ‘sterling’). The abbreviations ‘£m’ and ‘£bn’ represent millions and thousands of millions of pounds sterling, respectively, and references to ‘pence’ represent pence in the United Kingdom (‘UK’). Reference to ‘dollars’ or ‘$’ are to United States of America (‘US’) dollars. The abbreviations ‘$m’ and ‘$bn’ represent millions and thousands of millions of dollars, respectively, and references to ‘cents’ represent cents in the US. The abbreviation ‘€’ represents the ‘euro’, the European single currency, and the abbreviations ‘€m’ and ‘€bn’ represent millions and thousands of millions of euros, respectively.

Certain information in this report is presented separately for domestic and foreign activities. Domestic activities primarily consist of the UK domestic transactions of the Group. Foreign activities comprise the Group's transactions conducted through those offices in the UK specifically organised to service international banking transactions and transactions conducted through offices outside the UK.

The geographic analysis in the Business Review, including the average balance sheet and interest rates, changes in net interest income and average interest rates, yields, spreads and margins in this report have been compiled on the basis of location of office - UK and overseas. Management believes that this presentation provides more useful information on the Group's yields, spreads and margins of the Group's activities than would be provided by presentation on the basis of the domestic and foreign activities analysis used elsewhere in this report as it more closely reflects the basis on which the Group is managed. ‘UK’ in this context includes domestic transactions and transactions conducted through the offices in the UK which service international banking transactions.

The results, assets and liabilities of individual business units are classified as trading or non-trading based on their predominant activity. Although this method may result in some non-trading activity being classified as trading, and vice versa, the Group believes that any resulting misclassification is not material.

International Financial Reporting Standards
As required by the Companies Act 2006 and Article 4 of the European Union IAS Regulation, the consolidated financial statements of the Group are prepared in accordance with International Financial Reporting Standards issued by the International Accounting Standards Board (IASB) and interpretations issued by the International Financial Reporting Interpretations Committee of the IASB (together ‘IFRS’) as adopted by the European Union. They also comply with IFRS as issued by the IASB.

RBS Holdings N.V. (formerly ABN AMRO Holding N.V.)
In 2007, RFS Holdings B.V., which was jointly owned by RBSG, the Dutch State (successor to Fortis) and Santander (the “Consortium Members”) completed the acquisition of ABN AMRO Holding N.V..

RFS Holdings B.V. has now substantially completed the separation of the business units of ABN AMRO Holding N.V.. As part of this reorganisation, on 6 February 2010, the businesses of ABN AMRO Holding N.V. acquired by the Dutch State were legally demerged from those acquired by the Group and were transferred into a newly established company, ABN AMRO Bank N.V. (save for certain assets and liabilities acquired by the Dutch State that were not part of the legal separation and which will be transferred to the Dutch State as soon as possible).

Legal separation of ABN AMRO Bank N.V. occurred on 1 April 2010, with the shares in that entity being transferred by ABN AMRO Holding N.V (renamed RBS Holdings N.V. at legal separation) to a holding company called ABN AMRO Group N.V., which is owned by the Dutch State.

Following legal separation, RBS Holdings N.V. has one direct subsidiary, The Royal Bank of Scotland N.V. (RBS N.V.), a fully operational bank within the Group. RBS N.V. is independently rated and regulated by the Dutch Central Bank. Certain assets within RBS N.V. continue to be shared by the Consortium Members.

 
2

 
 
Presentation of information continued
Business review

Statutory results
The statutory results of the Group include the results and financial position of RFS Holdings, the entity that acquired ABN AMRO (see page 2). The interests of the State of the Netherlands and Santander are included in non-controlling interests.

Glossary
A glossary of terms is detailed on pages 390 to 395.

 
3

 
 
Forward-looking statements
Business review

 
Certain sections in this document contain ‘forward-looking statements’ as that term is defined in the United States Private Securities Litigation Reform Act of 1995, such as statements that include the words ‘expect’, ‘estimate’, ‘project’, ‘anticipate’, ‘believes’, ‘should’, ‘intend’, ‘plan’, ‘could’, ‘probability’, ‘risk’, ‘Value-at-Risk (VaR)’, ‘target’, ‘goal’, ‘objective’, ‘will’, ‘endeavour’, ‘outlook’, ‘optimistic’, ‘prospects’ and similar expressions or variations on such expressions.

In particular, this document includes forward-looking statements relating, but not limited to: the Group’s restructuring plans, capitalisation, portfolios, net interest margin, capital ratios, liquidity, risk-weighted assets, return on equity (ROE), cost:income ratios, leverage and loan:deposit ratios, funding and risk profile; the Group’s future financial performance; the level and extent of future impairments and write-downs; the protection provided by the Asset Protection Scheme (APS); and the Group’s potential exposures to various types of market risks, such as interest rate risk, foreign exchange rate risk and commodity and equity price risk. These statements are based on current plans, estimates and projections, and are subject to inherent risks, uncertainties and other factors which could cause actual results to differ materially from the future results expressed or implied by such forward-looking statements. For example, certain of the market risk disclosures are dependent on choices about key model characteristics and assumptions and are subject to various limitations. By their nature, certain of the market risk disclosures are only estimates and, as a result, actual future gains and losses could differ materially from those that have been estimated.

Other factors that could cause actual results to differ materially from those estimated by the forward-looking statements contained in this document include, but are not limited to: the full nationalisation of the Group or other resolution procedures under the Banking Act 2009; the global economy and instability in the global financial markets, and their impact on the financial industry in general and on the Group in particular; the financial stability of other financial institutions, and the Group’s counterparties and borrowers; the ability to complete restructurings on a timely basis, or at all, including the disposal of certain Non-Core assets and assets and businesses required as part of the EC State Aid restructuring plan; organisational restructuring; the ability to access sufficient funding to meet liquidity needs; the extent of future write-downs and impairment charges caused by depressed asset valuations; the inability to hedge certain risks economically; costs or exposures borne by the Group arising out of the origination or sale of mortgages or mortgage-backed securities in the United States; the value and effectiveness of any credit protection purchased by the Group; unanticipated turbulence in interest rates, yield curves, foreign currency exchange rates, credit spreads, bond prices, commodity prices, equity prices and basis, volatility and correlation risks; changes in the credit ratings of the Group; ineffective management of capital or changes to capital adequacy or liquidity requirements; changes to the valuation of financial instruments recorded at fair value; competition and consolidation in the banking sector; HM Treasury exercising influence over the operations of the Group; the ability of the Group to attract or retain senior management or other key employees; regulatory or legal changes (including those requiring any restructuring of the Group’s operations) in the United Kingdom, the United States and other countries in which the Group operates or a change in United Kingdom Government policy; changes to regulatory requirements relating to capital and liquidity; changes to the monetary and interest rate policies of the Bank of England, the Board of Governors of the Federal Reserve System and other G7 central banks; impairments of goodwill; pension fund shortfalls; litigation and regulatory investigations; general operational risks; insurance claims; reputational risk; general geopolitical and economic conditions in the UK and in other countries in which the Group has significant business activities or investments, including the United States; the ability to achieve revenue benefits and cost savings from the integration of certain of RBS Holdings N.V.’s (formerly ABN AMRO Holding N.V.) businesses and assets; changes in UK and foreign laws, regulations, accounting standards and taxes, including changes in regulatory capital regulations and liquidity requirements; the participation of the Group in the APS and the effect of the APS on the Group’s financial and capital position; the ability to access the contingent capital arrangements with HM Treasury; the conversion of the B shares in accordance with their terms; limitations on, or additional requirements imposed on, the Group’s activities as a result of HM Treasury’s investment in the Group; and the success of the Group in managing the risks involved in the foregoing.

The forward-looking statements contained in this document speak only as of the date of this announcement, and the Group does not undertake to update any forward-looking statement to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.

The information, statements and opinions contained in this document do not constitute a public offer under any applicable legislation or an offer to sell or solicitation of any offer to buy any securities or financial instruments or any advice or recommendation with respect to such securities or other financial instruments.
 
4

 
 
Business review
Business review
 

Description of business
Introduction
The Royal Bank of Scotland Group plc is the holding company of a large global banking and financial services group. Headquartered in Edinburgh, the Group operates in the United Kingdom, the United States and internationally through its two principal subsidiaries, the Royal Bank and NatWest. Both the Royal Bank and NatWest are major UK clearing banks whose origins go back over 275 years. In the United States, the Group's subsidiary Citizens is a large commercial banking organisation. Globally, the Group has a diversified customer base and provides a wide range of products and services to personal, commercial and large corporate and institutional customers in over 50 countries.

Following placing and open offers in December 2008 and in April 2009, HM Treasury owned approximately 70.3% of the enlarged ordinary share capital of the company. In December 2009, the company issued a further £25.5 billion of new capital to HM Treasury. This new capital took the form of B shares, which do not generally carry voting rights at general meetings of ordinary shareholders but are convertible into ordinary shares and qualify as core tier one capital. Following the issuance of the B shares, HM Treasury's holding of ordinary shares of the company remained at 70.3% although its economic interest rose to 84.4%.

During the year, the company converted non-cumulative convertible preference shares into ordinary shares in the company. As a result, HM Treasury’s holding in the company’s ordinary shares reduced to 67.8% and its economic interest reduced to 82.8%.

The Group had total assets of £1,453.6 billion and owners' equity of £75.1 billion at 31 December 2010. The Group's capital ratios, were a Total capital ratio of 14.0 per cent, a Core Tier 1 capital ratio of 10.7 per cent and a Tier 1 capital ratio of 12.9 per cent, at 31 December 2010.

Organisational structure and business overview
The Group’s activities are organised on a divisional basis as follows:
 
UK Retail offers a comprehensive range of banking products and related financial services to the personal market. It serves customers through the RBS and NatWest networks of branches and ATMs in the United Kingdom, and also through telephone and internet channels. UK Retail launched the Retail Customer Charter in June 2010 and progress against the commitments made will be formally reported every six months.

UK Corporate is a leading provider of banking, finance, and risk management services to the corporate and SME sector in the United Kingdom. It offers a full range of banking products and related financial services through a nationwide network of relationship managers, and also through telephone and internet channels. The product range includes asset finance through the Lombard brand.

Wealth provides private banking and investment services in the UK through Coutts & Co and Adam & Company, offshore banking through
RBS International, NatWest Offshore and Isle of Man Bank, and international private banking through RBS Coutts.
 
Global Transaction Services (GTS) ranks among the top five global transaction services providers, offering global payments, cash and liquidity management, and trade finance and commercial card products and services. It includes the Group's corporate money transmission activities in the United Kingdom and the United States.

Ulster Bank is the leading retail and business bank in Northern Ireland and the third largest banking group on the island of Ireland. It provides a comprehensive range of financial services. The Retail Markets division which has a network of 236 branches, operates in the personal and financial planning sectors. The Corporate Markets division provides services to SME business customers, corporates and institutional markets.

US Retail & Commercial provides financial services primarily through the Citizens and Charter One brands. US Retail & Commercial is engaged in retail and corporate banking activities through its branch network in 12 states in the United States and through non-branch offices in other states.

The divisions discussed above are collectively referred to as Retail & Commercial.

Global Banking & Markets (GBM) is a leading banking partner to major corporations and financial institutions around the world, providing an extensive range of debt and equity financing, risk management and investment services to its customers. The division is organised along six principal business lines: money markets; rates flow trading; currencies and commodities; equities; credit and mortgage markets and portfolio management & origination.

RBS Insurance provides a wide range of general insurance products to consumers through a number of well known brands including; Direct Line, Churchill and Privilege. It also provides insurance services for third party brands through its UKI Partnerships division. In the commercial sector, its NIG and Direct Line for Business operations provide insurance products for businesses via brokers or direct respectively. Through its international division, RBS Insurance sells general insurance, mainly motor, in Germany and Italy. In addition to insurance services, RBS Insurance continues to provide support and reassurance to millions of UK motorists through its Green Flag breakdown recovery service and Tracker stolen vehicle recovery and telematics business.

Central Functions comprises Group and corporate functions, such as treasury, funding and finance, risk management, legal, communications and human resources. The Centre manages the Group's capital resources and Group-wide regulatory projects and provides services to the operating divisions.
 
5

 
 
Business review continued
Business review

 
Non-Core Division manages separately assets that the Group intends to run off or dispose of. The division contains a range of businesses and asset portfolios primarily from the GBM division, linked to proprietary trading, higher risk profile asset portfolios including excess risk concentrations, and other illiquid portfolios. It also includes a number of other portfolios and businesses including regional markets businesses that the Group has concluded are no longer strategic.

Business Services supports the customer-facing businesses and provides operational technology, customer support in telephony, account management, lending and money transmission, global purchasing, property and other services. Business Services drives efficiencies and supports income growth across multiple brands and channels by using a single, scalable platform and common processes wherever possible. It also leverages the Group's purchasing power and is the Group's centre of excellence for managing large-scale and complex change. For reporting purposes, Business Services costs are allocated to the divisions above. It is not deemed a reportable segment.

Business divestments
To comply with EC State Aid requirements the Group has agreed a series of restructuring measures to be implemented over a four year period from December 2009. This will supplement the measures in the strategic plan previously announced by the Group. These include divesting RBS Insurance, 80.01% of Global Merchant Services and substantially all of RBS Sempra Commodities JV business, as well as divesting the RBS branch-based business in England and Wales and the NatWest branches in Scotland, along with the Direct SME customers across the UK.

Recent developments
Gender equality in insurance contracts
On 1 March 2011, the European Court of Justice (ECJ) upheld a ruling that insurers are no longer allowed to use gender as a rating factor across the Insurance industry. This will have a significant impact on the insurance industry in calculating premiums and determining benefits. The Group is currently working through the findings, and any consequences arising will be rectified by December 2012 in line with the ruling from the ECJ. At this stage, it is not possible to estimate the impact which the ECJ's ruling may have on the Group's businesses, financial position or profitability.
 
Budget update
On 23 March 2011, the UK Government announced plans to reduce the main rate of corporation tax by a further 1%. From April 2011, the rate will be reduced from 28% to 26% and, by 2014, it will reach 23%. Also announced, was an increase in the rate of the Bank Levy to 0.078% from January 2012.
 
Personal current accounts
On 29 March 2011, the OFT published its update report in relation to personal current accounts.  This noted further progress in improving consumer control over the use of unarranged overdrafts.  In particular, the Lending Standards Board has led on producing standards and guidance to be included in a revised Lending Code published on 31 March 2011.  The OFT will continue to monitor the market and will consider the need for, and appropriate timing of, further update reports in light of other developments, in particular the work of the Independent Commission on Banking.  The OFT intends to conduct a more comprehensive review of the market in 2012.
 
US dollar clearing activities
On 31 March 2011, the U.S. Department of Justice and RBS N.V. filed a joint status report with the U.S. District Court notifying it that the parties would seek an extension of the duration of RBS N.V.’s deferred prosecution agreement until 31 December 2011. The request states that RBS N.V. and the Department of Justice have agreed to seek the extension to allow RBS N.V. sufficient time to fulfil its obligations under the agreement.
 
Competition
The Group faces strong competition in all the markets it serves. Banks’ balance sheets have strengthened whilst loan demand has been subdued as many customers have sought to de-lever and the UK economy has proved slow to recover. Competition for retail deposits remains intense as institutions continue to target strong and diverse funding platforms for their balance sheets.

Competition for corporate and institutional customers in the UK is from UK banks and from large foreign financial institutions who are also active and offer combined investment and commercial banking capabilities.

In asset finance, the Group competes with banks and specialised asset finance providers, both captive and non-captive. In European and Asian corporate and institutional banking markets the Group competes with the large domestic banks active in these markets and with the major international banks. In the small business banking market, the Group competes with other UK clearing banks, specialist finance providers and building societies.

In the personal banking segment, the Group competes with UK clearing banks and building societies, major retailers and life assurance companies. In the mortgage market, the Group competes with UK clearing banks and building societies. The ambitions of non-traditional players in the UK market remain strong with retailers and new entrants forming aggressive expansion plans. The Group's life assurance businesses compete with Independent Financial Advisers and life assurance companies.

In the UK credit card market large retailers and specialist card issuers, including major US operators are active in addition to the UK banks. In addition to physical distribution channels, providers compete through direct marketing activity and the internet.

In Wealth Management, The Royal Bank of Scotland International competes with other UK and international banks to offer offshore banking services. Coutts and Adam & Company compete as private banks with UK clearing and private banks, and with international private banks. Competition in wealth management remains strong as banks maintain their focus on competing for affluent and high net worth customers.

RBS Insurance competes in personal lines insurance and, to a more limited extent, in commercial insurance. There is strong competition from a range of insurance companies which now operate telephone and internet direct sales businesses. Competition in the UK motor market remains intense, and price comparison internet sites now play a major role in the marketplace. These sites are now extending their scope to home insurance and other lines. RBS Insurance also competes with local insurance companies in the direct motor insurance markets in Italy and Germany.

In Ireland, Ulster Bank competes in retail and commercial banking with the major Irish banks and building societies, and with other UK and international banks and building societies active in the market. The challenging conditions in the Irish economy persist and many of the domestic Irish banks have required State support and are engaged in significant restructuring actions.

In the United States, Citizens competes in the New England, Mid-Atlantic and Mid-West retail and mid-corporate banking markets with local and regional banks and other financial institutions. The Group also competes in the US in large corporate lending and specialised finance markets, and in fixed-income trading and sales. Competition is principally with the large US commercial and investment banks and international banks active in the US. The economic recovery in the US is proving weaker than expected and loan demand is weak in Citizens’ markets which in turn has dampened the level of competitive pressure in the deposit markets as funding pressures have eased.
 
6

 
 
Business review continued
Business review

Risk factors
Set out below is a summary of certain risks which could adversely affect the Group. These should not be regarded as a complete and comprehensive statement of all potential risks and uncertainties. A fuller description of these and other risk factors is included on pages 352 to 369.

· 
RBSG or any of its UK bank subsidiaries may face the risk of full nationalisation or other resolution procedures and various actions could be taken by or on behalf of the UK Government, including actions in relation to any securities issued, new or existing contractual arrangements and transfers of part or all of RBSG’s businesses.

· 
The Group’s ability to implement its strategic plan depends on the success of its efforts to refocus on its core strengths and its balance sheet reduction programme. As part of the Group’s strategic plan and implementation of the State Aid restructuring plan agreed with the EC and HM Treasury, the Group is undertaking an extensive restructuring which may adversely affect the Group’s business, results of operations and financial condition and give rise to increased operational risk and may impair the Group’s ability to raise new Tier 1 capital due to restrictions on its ability to make discretionary dividend or coupon payments on certain securities.

· 
The Group’s businesses, earnings and financial condition have been and will continue to be affected by geopolitical conditions, the global economy, the instability in the global financial markets and increased competition. These have resulted in significant changes in market conditions including interest rates, foreign exchange rates, credit spreads, and other market factors and consequent changes in asset valuations.

· 
The Group requires access to sources of liquidity, which have been constrained in recent years, and a failure to access liquidity due to market conditions or otherwise could adversely affect the Group’s financial condition. In addition, the Group’s borrowing costs and its access to the debt capital markets and other sources of liquidity depend significantly on its and the UK Government’s credit ratings.

· 
The actual or perceived failure or worsening credit of the Group’s counterparties (including monolines or other credit insurers) or borrowers and depressed asset valuations resulting from poor market conditions have adversely affected and could continue to adversely affect the Group.

· 
The value of certain financial instruments recorded at fair value is determined using financial models incorporating assumptions, judgements and estimates that may change over time or may ultimately not turn out to be accurate.

· 
The Group’s insurance businesses are subject to inherent risks involving claims on insured events.

· 
The Group’s business performance, financial condition and capital and liquidity ratios could be adversely affected if its capital is not managed effectively or as a result of changes to capital adequacy and liquidity requirements, including those arising out of Basel III implementation (globally or by UK authorities), or if the Group is unable to issue Contingent B Shares to HM Treasury under certain circumstances.

· 
The Group could fail to attract or retain senior management, which may include members of the Board, or other key employees, and it may suffer if it does not maintain good employee relations.

· 
Any significant developments in regulatory or tax legislation could have an effect on how the Group conducts its business and on its results of operations and financial condition, and the recoverability of certain deferred tax assets recognised by the Group is subject to uncertainty.

· 
The Group is subject to substantial regulation and oversight, and any significant regulatory or legal developments could have an adverse effect on how the Group conducts its business and on its results of operations and financial condition. In addition, the Group is and may be subject to litigation and regulatory investigations that may impact its business, results of operations and financial condition.

· 
Operational and reputational risks are inherent in the Group’s operations.

· 
The Group may be required to make contributions to its pension schemes and government compensation schemes, either of which may have an adverse impact on the Group’s results of operations, cash flow and financial condition.

· 
As a result of the UK Government’s majority shareholding in the Group they can, and in the future may decide, to exercise a significant degree of influence over the Group including suspending dividends and certain coupon payments, modifying or cancelling contracts or limiting the Group’s operations. The offer or sale by the UK Government of all or a portion of its shareholding in the company could affect the market price of the equity shares and other securities and acquisitions of ordinary shares by the UK Government (including through conversions of other securities or further purchases of shares) may result in the delisting of the Group from the Official List.

· 
The Group’s participation in the APS is costly and complex and may not produce the benefits expected and the occurrence of associated risks may have a material adverse impact on the Group’s business, capital or tax position, financial condition and results of operations. Any changes to the regulatory treatment of the APS may negatively impact the Group’s capital position and any withdrawal from, or termination of, the APS will be costly.
 
7

 
 
Business review continued
Business review

 
Key financials
 
2010 
£m 
2009 
£m 
2008 
£m 
for the year ended 31 December
Total income
31,868 
33,026 
20,730 
Operating loss before tax
(399)
(2,647)
(25,691)
Loss attributable to ordinary and B shareholders
(1,125)
(3,607)
(24,306)
Cost:income ratio
57% 
53% 
169% 
Basic loss per ordinary and B share from continuing operations (pence)
(0.5p)
(6.3p)
(146.2p)


 
2010 
£m 
2009 
£m 
2008 
£m 
at 31 December
Total assets
1,453,576 
1,696,486 
2,401,652 
Funded balance sheet (1)
1,026,499 
1,255,032 
1,409,093 
Loans and advances to customers
555,260 
728,393 
874,722 
Deposits
609,483 
756,346 
897,556 
Owners' equity
75,132 
77,736 
58,879 
Risk asset ratio        
 
- Core Tier 1
10.7% 
11.0% 
6.6% 
 
- Tier 1
12.9% 
14.1% 
10.0% 
 
- Total
14.0% 
16.1% 
14.1% 
Note:
(1)
Funded balance sheet represents total assets less derivatives.

Overview of results
The results of RFS Holdings B.V., the entity that acquired ABN AMRO, are fully consolidated in the Group’s financial statements. The interests of the State of the Netherlands and Santander in RFS Holdings are included in non-controlling interests. Legal separation of ABN AMRO Bank N.V. took place on 1 April 2010.
 
 
8

 
 
Business review continued
Business review


Summary consolidated income statement
 
2010 
2009 
2008 
 
£m 
£m 
£m 
Net interest income
14,209 
13,388 
15,482 
Fees and commissions receivable
8,193 
8,738 
8,855 
Fees and commissions payable
(2,211)
(2,790)
(2,444)
Other non-interest income
6,549 
8,424 
(6,872)
Insurance net premium income
5,128 
5,266 
5,709 
Non-interest income
17,659 
19,638 
5,248 
Total income
31,868 
33,026 
20,730 
Operating expenses
(18,228)
(17,417)
(35,065)
Profit/(loss) before other operating charges and impairment losses
13,640 
15,609 
(14,335)
Insurance net claims
(4,783)
(4,357)
(3,917)
Impairment losses
(9,256)
(13,899)
(7,439)
Operating loss before tax
(399)
(2,647)
(25,691)
Tax (charge)/credit
(634)
429 
2,167 
Loss from continuing operations
(1,033)
(2,218)
(23,524)
Loss from discontinued operations, net of tax
(633)
(105)
(11,018)
Loss for the year
(1,666)
(2,323)
(34,542)
Non-controlling interests
665 
(349)
10,832 
Other owners’ dividends
(124)
(935)
(596)
Loss attributable to ordinary and B shareholders
(1,125)
(3,607)
(24,306)
       
Basic loss per ordinary and B share from continuing operations
(0.5p)
(6.3p)
(146.2p)

 
9

 
 
Business review continued
Business review


2010 compared with 2009

Operating loss
Operating loss before tax for the year was £399 million compared with a loss of £2,647 million in 2009. The improvement in performance is primarily driven by stronger Core Retail & Commercial operating profits offsetting more normal results from Global Banking & Markets, coupled with lower impairments in the Non-Core division.

After tax, non-controlling interests and preference share and other dividends, the loss attributable to ordinary and B shareholders was £1,125 million, compared with an attributable loss of £3,607 million in 2009.

Total income
Total income decreased 4% to £31,868 million reflecting the return to more normal levels in Global Banking & Markets, compared with the favourable market conditions seen in 2009. This was offset by good growth in Core Retail & Commercial and lower Non-Core trading losses as underlying asset prices recovered and credit spreads tightened.

Net interest income
Net interest income increased by 6% to £14,209 million reflecting improvements in net interest margin which more than offset lower interest-earning assets and interest-bearing liabilities. Group net interest margin increased from 1.83% to 2.06% largely reflecting expanding asset margins in UK Retail and UK Corporate divisions as well as in US Retail & Commercial. The run-off of low-yielding Non-Core assets also contributed to this increase. The Group net interest margin was also affected by increased funding costs.

Non-interest income
Non-interest income decreased to £17,659 million from £19,638 million in 2009. This included movements in the fair value of the Asset Protection Scheme - credit default swap resulting in a £1,550 million charge and gain on redemption of own debt of £553 million (2009 - £3,790 million). Excluding these items, non-interest income was up 18% primarily reflecting an increase in income from trading activities.
 
Operating expenses
Operating expenses increased to £18,228 million (2009 - £17,417 million). The main driver of this 5% increase was the impact of a £2,148 million gains on pension curtailment in 2009. This was partially offset by gains on the recognition of benefits from the Group-wide efficiency programme. The programme continues to deliver material savings which have been funding investments to strengthen our Core franchises. Annualised savings are now just ahead of the £2.5 billion target for 2011 and are forecast to exceed £3 billion by 2013. Integration and restructuring costs were £1,032 million compared with £1,286 million in 2009. Write-down of goodwill and other intangible assets was £10 million compared with £363 million in 2009. Premises and equipment costs fell by 7% in the year largely driven by efficiency cost savings, significant one-off property impairments recognised in 2009 and country exits following Non-Core disposals.

Net insurance claims
Bancassurance and general insurance claims, after reinsurance, increased by 10% to £4,783 million.

Impairment losses
Impairment losses were £9,256 million, compared with £13,899 million in 2009 with Core impairments falling by £898 million and Non-Core by £3,745 million. The decrease reflects an overall improvement in the economic environment. Impairments fell in all businesses, except Ulster Bank, which has faced an economic environment that remains challenging.

Risk elements in lending and potential problem loans represented 7.4% of gross loans and advances to customers excluding reverse repos at 31 December 2010 (2009 - 5.5%).

Provision coverage of risk elements in lending and potential problem loans was 46% (2009 - 45%).

Tax
The tax charge for 2010 was £634 million compared with a tax credit of £429 million in 2009.

Earnings
Basic earnings per ordinary share, including discontinued operations, was a loss of 0.5p per share compared with a loss of 6.4p for 2009.
 
 
10

 
 
Business review continued
Business review


2009 compared with 2008

Operating loss
Operating loss before tax for the year was £2,647 million compared with a loss of £25,691 million in 2008. The reduction in the loss is primarily a result of a substantial increase in non-interest income and a substantial fall in the write-down of goodwill and other intangible assets partially offset by a significant increase in impairment losses and lower net interest income.

After tax, non-controlling interests and preference share and other dividends, the loss attributable to ordinary and B shareholders was £3,607 million, compared with an attributable loss of £24,306 million in 2008.

Total income
Total income increased 59% to £33,026 million in 2009 primarily reflecting a significant reduction in credit and other market losses and a gain on redemption of own debt. Increased market volatility and strong customer demand in a positive trading environment also contributed to this improvement. While income was down marginally in UK Corporate and held steady in Retail & Commercial Banking and RBS Insurance, a significant improvement occurred in Global Banking & Markets, reflecting the reduced credit and other market losses and a more buoyant trading market during the year compared to 2008.

Net interest income
Net interest income fell by 14% to £13,388 million, with average loans and advances to customers stable and average customer deposits down 1%. Group net interest margin fell from 2.12% to 1.83% largely reflecting the pressure on liability margins, given rates on many deposit products already at floors in the low interest rate environment, and strong competition, particularly for longer-term deposits and the build up of the Group’s liquidity portfolio.

Non-interest income
Non-interest income increased to £19,638 million from £5,248 million in 2008, largely reflecting the sharp improvement in income from trading activities, as improved asset valuations led to lower credit market losses and GBM benefited from the restructuring of its business to focus on core customer franchises. The Group also recorded a gain of £3,790 million on a liability management exercise to redeem a number of Tier 1 and upper Tier 2 securities. However, fees and commissions fell as a result of the withdrawal of the single premium payment protection insurance product and the restructuring of UK current account overdraft fees, offset by higher fees in businesses attributable to RFS Holdings minority interest.

Operating expenses
Total operating expenses decreased from £35,065 million in 2008 to £17,417 million, largely resulting from the substantial decrease in the write-down of goodwill and other intangible assets, down to £363 million compared with £16,911 million in 2008. Staff costs, excluding curtailment gains, were up 12% with most of the movement relating to adverse movements in foreign exchange rates and some salary inflation. Changes in incentive compensation, primarily in Global Banking & Markets, represented most of the remaining change. This was offset by a gain of £2,148 million arising from the curtailment of prospective pension benefits in the defined benefit scheme and certain other subsidiary schemes. The Group cost:income ratio improved to 53%, compared with 169% in 2008.

Net insurance claims
Bancassurance and general insurance claims, after reinsurance, increased by 11% to £4,357 million.

Impairment losses
Impairment losses increased to £13,899 million from £7,439 million in 2008, with Core bank impairments rising by £2,182 million, Non-Core by £4,285 million off set by a decrease in RFS Holdings minority interest of £7 million. Signs that impairments might be plateauing appear to have been borne out in the latter part of the year, and there are indications that the pace of downwards credit rating migration for corporates is slowing. Nonetheless, the financial circumstances of many consumers and businesses remain fragile, and rising refinancing costs, whether as a result of monetary tightening or of increased regulatory capital requirements, could expose some customers to further difficulty.

Impairments represented 1.9% of gross loans and advances, excluding reverse repos, in 2009 compared with 0.8% in 2008.

Risk elements in lending and potential problem loans at 31 December 2009 represented 5.4% of loans and advances, excluding reverse repos, compared with 2.5% a year earlier. Provision coverage was 45%, compared with 51% at 31 December 2008 as a consequence of the growth in risk elements in lending being concentrated in secured, property-related loans. These loans require relatively lower provisions in view of their collateralised nature.

Tax
The effective tax rate for 2009 was 16.2% compared with 8.4% in 2008.

Earnings
Basic earnings per ordinary and B share, including discontinued operations, improved from a loss of 146.7p to a loss of 6.4p.

 
11

 
 
Business review continued
Business review


Analysis of results
Net interest income

 
2010 
2009 
2008 
 
£m 
£m 
£m 
Interest receivable
22,776 
33,836 
49,522 
Interest payable
(8,567)
(17,332)
(30,847)
Net interest income
14,209 
16,504 
18,675 
       
 
% 
% 
Gross yield on interest-earning assets of the banking business (1)
3.30 
3.76 
5.61 
Cost of interest-bearing liabilities of the banking business
(1.47)
(2.18)
(3.79)
Interest spread of the banking business (2)
1.83 
1.58 
1.82 
Benefit from interest-free funds
0.23 
0.25 
0.30 
Net interest margin of the banking business (3)
2.06 
1.83 
2.12 
       
Yields, spreads and margins of the banking business
% 
% 
Gross yield (1)
     
  - Group
3.30 
3.76 
5.61 
  - UK
3.42 
3.35 
5.72 
  - Overseas
3.15 
4.09 
5.54 
Interest spread (2)
     
  - Group
1.83 
1.58 
1.82 
  - UK
2.01 
1.50 
1.92 
  - Overseas
1.59 
1.67 
1.76 
Net interest margin (3)
     
  - Group
2.06 
1.83 
2.12 
  - UK
2.22 
1.81 
2.39 
  - Overseas
1.84 
1.85 
1.91 
       
The Royal Bank of Scotland plc base rate (average)
0.50 
0.64 
4.67 
London inter-bank three month offered rates (average)
     
  - Sterling
0.70 
1.21 
5.51 
  - Eurodollar
0.34 
0.69 
2.92 
  - Euro
0.75 
1.21 
4.63 
 
Notes:
(1)
Gross yield is the interest rate earned on average interest-earning assets of the banking business.
(2)
Interest spread is the difference between the gross yield and the interest rate paid on average interest-bearing liabilities of the banking business.
(3)
Net interest margin is net interest income of the banking business as a percentage of average interest-earning assets of the banking business.

 
12

 
 
Business review continued
Business review

Average balance sheet and related interest
   
2010
 
2009
   
Average 
 balance 
Interest  
Rate 
 
Average 
 balance 
Interest 
Rate 
   
£m 
£m 
% 
 
£m 
£m 
% 
Assets
               
Loans and advances to banks
- UK
22,714 
222 
0.98 
 
21,616 
310 
1.43 
 
- Overseas
30,148 
369 
1.22 
 
32,367 
613 
1.89 
Loans and advances to customers
- UK
310,712 
11,989 
3.86 
 
333,230 
11,940 
3.58 
 
- Overseas
195,858 
6,900 
3.52 
 
376,382 
16,339 
4.34 
Debt securities
- UK
66,765 
1,459 
2.19 
 
52,470 
1,414 
2.69 
 
- Overseas
63,334 
1,837 
2.90 
 
84,822 
3,220 
3.80 
Interest-earning assets
- UK
400,191 
13,670 
3.42 
 
407,316 
13,664 
3.35 
 
- Overseas
289,340 
9,106 
3.15 
 
493,571 
20,172 
4.09 
Total interest-earning assets
- banking business (2,3)
689,531 
22,776 
3.30 
 
900,887 
33,836 
3.76 
 
- trading business (4)
276,330 
     
291,092 
   
Interest-earning assets
 
965,861 
     
1,191,979 
   
Non-interest-earning assets (2,3)
 
706,343 
     
831,501 
   
Total assets
 
1,672,204 
     
2,023,480 
   
                 
Percentage of assets applicable to overseas operations
44.0% 
     
47.4%
   
                 
Liabilities
               
Deposits by banks
- UK
21,816 
334 
1.53 
 
24,837 
679 
2.73 
 
- Overseas
59,799 
999 
1.67 
 
104,396 
2,362 
2.26 
Customer accounts: demand deposits
- UK
120,796 
621 
0.51 
 
110,294 
569 
0.52 
 
- Overseas
39,127 
607 
1.55 
 
82,177 
1,330 
1.62 
Customer accounts: savings deposits
- UK
68,142 
935 
1.37 
 
54,270 
780 
1.44 
 
- Overseas
25,587 
213 
0.83 
 
83,388 
2,114 
2.54 
Customer accounts: other time deposits
- UK
39,934 
431 
1.08 
 
68,625 
932 
1.36 
 
- Overseas
43,996 
914 
2.08 
 
71,315 
2,255 
3.16 
Debt securities in issue
- UK
111,277 
2,212 
1.99 
 
116,536 
2,830 
2.43 
 
- Overseas
72,175 
1,065 
1.48 
 
117,428 
2,500 
2.13 
Subordinated liabilities
- UK
19,442 
398 
2.05 
 
26,053 
834 
3.20 
 
- Overseas
8,714 
19 
0.22 
 
12,468 
656 
5.26 
Internal funding of trading business
- UK
(41,451)
(140)
0.34 
 
(60,284)
(317)
0.53 
 
- Overseas
(6,864)
(41)
0.60 
 
(14,845)
(192)
1.29 
Interest-bearing liabilities
- UK
339,956 
4,791 
1.41 
 
340,331 
6,307 
1.85 
 
- Overseas
242,534 
3,776 
1.56 
 
456,327 
11,025 
2.42 
Total interest-bearing liabilities
- banking business (2,3)
582,490 
8,567 
1.47 
 
796,658 
17,332 
2.18 
 
- trading business (4)
293,993 
     
331,380 
   
Interest-bearing liabilities
 
876,483 
     
1,128,038 
   
Non-interest-bearing liabilities:
               
Demand deposits
- UK
46,692 
     
38,220 
   
 
- Overseas
23,994 
     
27,149 
   
Other liabilities (3,4)
 
648,129 
     
772,770 
   
Owners' equity
 
76,906 
     
57,303 
   
Total liabilities and owners' equity
 
1,672,204 
     
2,023,480 
   
                 
Percentage of liabilities applicable to overseas operations
41.7% 
     
45.8% 
   

Notes:
(1)
The analysis into UK and Overseas has been compiled on the basis of location of office.
(2)
Interest-earning assets and interest-bearing liabilities include the Retail bancassurance assets and liabilities attributable to policyholders.
(3)
Interest income and interest expense do not include interest on financial assets and liabilities designated as at fair value through profit or loss.
(4)
Interest receivable and interest payable on trading assets and liabilities are included in income from trading activities.

 
13

 
 
Business review continued
Business review


Average balance sheet and related interest continued
   
2008
   
Average 
balance 
Interest 
Rate 
   
£m 
£m 
% 
Assets
       
Loans and advances to banks
- UK
19,039 
939 
4.93 
 
- Overseas
31,388 
1,417 
4.51 
Loans and advances to customers
- UK
319,696 
19,046 
5.96 
 
- Overseas
393,405 
22,766 
5.79 
Debt securities
- UK
33,206 
1,276 
3.84 
 
- Overseas
85,625 
4,078 
4.76 
Interest-earning assets
- UK
371,941 
21,261 
5.72 
 
- Overseas
510,418 
28,261 
5.54 
Total interest-earning assets
- banking business (2,3)
882,359 
49,522 
5.61 
 
- trading business (4)
425,454 
   
Interest-earning assets
 
1,307,813 
   
Non-interest-earning assets (2,3)
 
732,872 
   
Total assets
 
2,040,685 
   
         
Percentage of assets applicable to overseas operations
 
48.6% 
   
         
Liabilities
       
Deposits by banks
- UK
46,217 
1,804 
3.90 
 
- Overseas
113,592 
4,772 
4.20 
Customer accounts: demand deposits
- UK
99,852 
2,829 
2.83 
 
- Overseas
70,399 
1,512 
2.15 
Customer accounts: savings deposits
- UK
42,870 
1,708 
3.98 
 
- Overseas
72,473 
2,203 
3.04 
Customer accounts: other time deposits
- UK
94,365 
4,011 
4.25 
 
- Overseas
105,660 
4,097 
3.88 
Debt securities in issue
- UK
101,520 
4,095 
4.03 
 
- Overseas
132,699 
5,846 
4.41 
Subordinated liabilities
- UK
26,300 
1,356 
5.16 
 
- Overseas
12,385 
788 
6.36 
Internal funding of trading business
- UK
(85,664)
(3,445)
4.02 
 
- Overseas
(18,090)
(729)
4.03 
Interest-bearing liabilities
- UK
325,460 
12,358 
3.80 
 
- Overseas
489,118 
18,489 
3.78 
Total interest-bearing liabilities
- banking business (2,3)
814,578 
30,847 
3.79 
 
- trading business (4)
466,610 
   
Interest-bearing liabilities
 
1,281,188 
   
Non-interest-bearing liabilities:
       
Demand deposits
- UK
37,568 
   
 
- Overseas
17,625 
   
Other liabilities (3,4)
 
645,760 
   
Owners' equity
 
58,544 
   
Total liabilities and owners' equity
 
2,040,685 
   
         
Percentage of liabilities applicable to overseas operations
 
47.2% 
   

Note:
(1)
The analysis into UK and Overseas has been compiled on the basis of location of office.
(2)
Interest-earning assets and interest-bearing liabilities include the Retail bancassurance assets and liabilities attributable to policyholders.
(3)
Interest income and interest expense do not include interest on financial assets and liabilities designated as at fair value through profit or loss.
(4)
Interest receivable and interest payable on trading assets and liabilities are included in income from trading activities.

 
14

 
 
Business review continued
Business review

Analysis of change in net interest income - volume and rate analysis
Volume and rate variances have been calculated based on movements in average balances over the period and changes in interest rates on average interest-earning assets and average interest-bearing liabilities. Changes due to a combination of volume and rate are allocated pro rata to volume and rate movements.
 
 
2010 over 2009
 
Increase/(decrease) due to changes in:
 
Average 
 volume 
Average 
 rate 
Net 
 change 
 
£m 
£m 
£m 
Interest-earning assets
     
Loans and advances to banks
     
  UK
15 
(103)
(88)
  Overseas
(40)
(204)
(244)
Loans and advances to customers
     
  UK
(836)
885 
49 
  Overseas
(6,776)
(2,663)
(9,439)
Debt securities
     
  UK
342 
(297)
45 
  Overseas
(716)
(667)
(1,383)
Total interest receivable of the banking business
     
  UK
(479)
485 
  Overseas
(7,532)
(3,534)
(11,066)
 
(8,011)
(3,049)
(11,060)
Interest-bearing liabilities
     
Deposits by banks
     
  UK
75 
270 
345 
  Overseas
845 
518 
1,363 
Customer accounts: demand deposits
     
  UK
(54)
(52)
  Overseas
670 
53 
723 
Customer accounts: savings deposits
     
  UK
(192)
37 
(155)
  Overseas
965 
936 
1,901 
Customer accounts: other time deposits
     
  UK
336 
165 
501 
  Overseas
708 
633 
1,341 
Debt securities in issue
     
  UK
123 
495 
618 
  Overseas
799 
636 
1,435 
Subordinated liabilities
     
  UK
180 
256 
436 
  Overseas
152 
485 
637 
Internal funding of trading business
     
  UK
(83)
(94)
(177)
  Overseas
(75)
(76)
(151)
Total interest payable of the banking business
     
  UK
385 
1,131 
1,516 
  Overseas
4,064 
3,185 
7,249 
 
4,449 
4,316 
8,765 
Movement in net interest income
     
  UK
(94)
1,616 
1,522 
  Overseas
(3,468)
(349)
(3,817)
 
(3,562)
1,267 
(2,295)

Note:
(1)
The analysis into UK and Overseas has been compiled on the basis of location of office.

 
15

 
 
Business review continued
Business review


Analysis of change in net interest income - volume and rate analysis continued

 
2009 over 2008
 
Increase/(decrease) due to changes in:
 
Average 
 volume 
Average 
 rate 
Net 
 change 
 
£m 
£m 
£m 
Interest-earning assets
     
Loans and advances to banks
     
  UK
113 
(742)
(629)
  Overseas
43 
(847)
(804)
Loans and advances to customers
     
  UK
775 
(7,881)
(7,106)
  Overseas
(949)
(5,478)
(6,427)
Debt securities
     
  UK
594 
(456)
138 
  Overseas
(38)
(820)
(858)
Total interest receivable of the banking business
     
  UK
1,482 
(9,079)
(7,597)
  Overseas
(944)
(7,145)
(8,089)
 
538 
(16,224)
(15,686)
Interest-bearing liabilities
     
Deposits by banks
     
  UK
683 
442 
1,125 
  Overseas
360 
2,050 
2,410 
Customer accounts: demand deposits
     
  UK
(268)
2,528 
2,260 
  Overseas
(228)
410 
182 
Customer accounts: savings deposits
     
  UK
(369)
1,297 
928 
  Overseas
(306)
395 
89 
Customer accounts: other time deposits
     
  UK
881 
2,198 
3,079 
  Overseas
1,175 
667 
1,842 
Debt securities in issue
     
  UK
(540)
1,805 
1,265 
  Overseas
609 
2,737 
3,346 
Subordinated liabilities
     
  UK
13 
509 
522 
  Overseas
(5)
137 
132 
Internal funding of trading business
     
  UK
(795)
(2,333)
(3,128)
  Overseas
(112)
(425)
(537)
Total interest payable of the banking business
     
  UK
(395)
6,446 
6,051 
  Overseas
1,493 
5,971 
7,464 
 
1,098 
12,417 
13,515 
Movement in net interest income
     
  UK
1,087 
(2,633)
(1,546)
  Overseas
549 
(1,174)
(625)
 
1,636 
(3,807)
(2,171)

Note:
(1)
The analysis into UK and Overseas has been compiled on the basis of location of office.

 
16

 
 
Business review continued
Business review

Non-interest income
 
2010 
2009 
2008 
 
£m 
£m 
£m 
Fees and commissions receivable
8,193 
8,738 
8,855 
Fees and commissions payable
(2,211)
(2,790)
(2,444)
Income/(loss) from trading activities
     
  - excluding Asset Protection Scheme credit default swap - fair
     value changes
6,067 
3,761 
(9,025)
  - Asset Protection Scheme credit default swap - fair value changes
(1,550)
— 
— 
Gain on redemption of own debt
553 
3,790 
— 
Other operating income
1,479 
873 
2,153 
Non-interest income (excluding insurance net premium income)
12,531 
14,372 
(461)
Insurance net premium income
5,128 
5,266 
5,709 
Total non-interest income
17,659 
19,638 
5,248 

2010 compared with 2009
Net fees and commissions increased by £34 million to £5,982 million primarily due to improved performance in GBM (£139 million), driven by higher portfolio management and origination income, and UK Corporate (£94 million), principally reflecting strong refinancing levels and increased operating lease activity This increase was partially offset by reduced fees in UK Retail (£160 million) and Ulster Bank (£72 million) principally reflecting the restructuring of current account overdraft fees.

Income from trading activities, excluding fair value movements in the Asset Protection Scheme credit default swap, rose substantially during the year by £2,306 million to £6,067 million. Trading revenues in GBM were lower than 2009, which saw unusually buoyant market conditions as rapidly falling interest rates generated significant revenue opportunities. This was more than offset by the improvement in Non-Core trading losses from £5,123 million for 2009 to £16 million for 2010 as underlying asset prices recovered and monoline spreads tightened. The unwinding of some banking book hedges also helped reduce trading losses.

The Asset Protection Scheme is accounted for as a credit derivative, and movements in the fair value of the contract are recorded as income from trading activities. The charge of £1,550 million in 2010 reflects improving credit spreads on the portfolio of covered assets.
 
A gain of £553 million was booked associated with the liability management exercise undertaken in May 2010, through which the Group strengthened its Core Tier 1 capital base by repurchasing existing Tier 1 securities and exchanging selected existing Upper Tier 2 securities for new senior debt securities. A similar series of exchange and tender offers concluded in April 2009 resulted in a gain of £3,790 million.

Other operating income increased by £606 million to £1,479 million. This improvement principally reflected a profit on sale of securities of £496 million compared with £162 million in 2009, higher profits from associated entities and an increased credit of £249 million compared with £51 million in 2009 relating to movements in fair value of own debt. These were partially offset by losses in the fair value of securities and investment properties.

Insurance net premium income fell by £138 million to £5,128 million principally reflecting lower general insurance premiums, driven by a managed reduction in the risk of the UK motor book, largely offset by price increases.

 
17

 
 
Business review continued
Business review


Non-interest income continued

2009 compared with 2008
Net fees and commissions fell by £463 million primarily due to the withdrawal of the single premium payment protection insurance product and the restructuring of current account overdraft fees within UK Retail during the year, as well as to reduced fees received in Non-Core. This was partially offset by improved performance in GBM (£171 million) and US Retail & Commercial (£50 million).

Income from trading activities rose substantially during the year by £12,786 million, principally due to lower credit market losses reflecting improved underlying asset prices compared with 2009. Increased market volatility and strong customer demand in a positive trading environment also contributed to this improvement.

In the second quarter of 2009 the Group recorded a gain of £3,790 million on a liability management exercise to redeem a number of Tier 1 and upper Tier 2 securities.

Other operating income decreased by £1,280 million. This reflected changes in the fair value of own debt of £926 million together with lower profits on sales of securities and properties and reduced dividend income. Included in 2008 is a gain of £600 million on the sale of Angel Trains.

Insurance net premium income fell by £443 million reflecting lower bancassurance fees, and lower general insurance premiums.
 
18

 
 
Business review continued
Business review


Operating expenses
 
2010 
2009 
2008 
 
£m 
£m 
£m 
Staff costs
     
  - excluding gains on pensions curtailment
9,671 
9,993 
8,898 
  - gains on pensions curtailment
— 
(2,148)
— 
Premises and equipment
2,402 
2,594 
2,163 
Other
3,995 
4,449 
4,716 
Administrative expenses
16,068 
14,888 
15,777 
Depreciation and amortisation
2,150 
2,166 
2,377 
Write-down of goodwill and other intangible assets
10 
363 
16,911 
Operating expenses
18,228 
17,417 
35,065 
       
General insurance
4,698 
4,223 
3,733 
Bancassurance
85 
134 
184 
Insurance net claims
4,783 
4,357 
3,917 
       
Staff costs as a percentage of total income
30% 
30%
43%

2010 compared with 2009
The main driver of a 7% decrease in operating expenses, excluding gains on pensions curtailment, is the recognition of benefits from the Group-wide efficiency programme. The programme continues to deliver material savings which have been funding investments to strengthen our Core franchises.  Annualised savings are now just ahead of the £2.5 billion target for 2011 and are forecast to exceed £3 billion by 2013.

Staff costs, excluding pension schemes curtailment gains, fell by £322 million to £9,671 million, driven by savings in Global Banking & Markets, UK Retail and Non-Core partially offset by higher costs in Group Centre.

Premises and equipment costs fell by 7% in the year to £2,402 million largely driven by efficiency cost savings, significant one-off property impairments recognised in 2009 and country exits following Non-Core disposals.

Other expenses fell by £454 million to £3,995 million principally reflecting continued savings from the Group’s efficiency programme.

Insurance net claims increased 10% to £4,783 million, driven by an overall increase in bodily injury reserves, reflecting prior year claims and more claims being settled as periodic payment orders. Severe weather experienced during Q1 and Q4 2010 also drove up claims in the year.

2009 compared with 2008
Staff costs, excluding pension schemes curtailment gains, were up £1,095 million with most of the movement relating to adverse movements in foreign exchange rates and some salary inflation. Changes in incentive compensation, primarily in Global Banking & Markets, represented most of the remaining change.

Pension curtailment gains of £2,148 million were recognised in 2009 arising from changes to prospective pension benefits in the defined benefit scheme and certain other subsidiary schemes.

Premises and equipment costs rose by £431 million primarily due to the impact of expanded Group premises in London and the US.

Other expenses fell by £267 million due to integration benefits in GBM partially offset by increased deposit insurance levies in the US.
 
19

 
 
Business review continued
Business review


Integration costs
 
2010 
2009 
2008 
 
£m 
£m 
£m 
Staff costs
210 
365 
503 
Premises and equipment
78 
25 
Other administrative expenses
143 
398 
486 
Depreciation and amortisation
20 
18 
36 
 
376 
859 
1,050 

2010 compared with 2009
Integration costs were £376 million compared with £859 million in 2009. The fall in integration costs primarily relates to RBS N.V. (formerly ABN AMRO), as they migrate onto RBS systems.
 
2009 compared with 2008
Integration costs in 2009 were £859 million compared with £1,050 million in 2008. Integration costs decreased primarily due to lower RBS N.V. (formerly ABN AMRO) integration activity during the year.
 
Accruals in relation to integration costs are set out below.
 
At 
31 December 
Charge 
to income 
Utilised 
during 
At 
31 December 
 
2009 
statement 
the year 
2010 
 
£m 
£m 
£m 
£m 
Staff costs - redundancy
— 
55 
(55)
— 
Staff costs - other
— 
155 
(155)
— 
Premises and equipment
40 
(19)
24 
Other
1 
163 
(164)
— 
 
41 
376 
(393)
24 

Restructuring costs
 
2010 
2009 
2008 
 
£m 
£m 
£m 
Staff costs
353 
328 
251 
Premises and equipment
117 
48 
15 
Other administrative expenses
104 
51 
41 
 
574 
427 
307 

2010 compared with 2009
Restructuring costs were £574 million compared with £427 million in 2009. The increase is a result of the number of restructuring projects being undertaken.
 
2009 compared with 2008
Restructuring costs were £427 million compared with £307 million in 2008. The number of restructuring projects increased during the year, as a result of ongoing strategic review being undertaken by the Group.

Accruals in relation to restructuring costs are set out below.
 
At 
Charge 
Utilised 
At 
 
31 December 
to income 
during 
31 December 
 
2009 
statement 
the year 
2010 
 
£m 
£m 
£m 
£m 
Staff costs - redundancy
255 
255 
(309)
201 
Staff costs - other
4 
98 
(85)
17 
Premises and equipment
37 
117 
(37)
117 
Other
35 
104 
(93)
46 
 
331 
574 
(524)
381 

 
20

 
 
Business review continued
Business review

Divestment costs
 
2010 
2009 
2008 
 
£m 
£m 
£m 
Staff costs
51 
— 
— 
Premises and equipment
— 
— 
Other administrative expenses
25 
— 
— 
 
82 
— 
— 

2010 compared with 2009
Divestment costs of £82 million in the year relate to the European Commission mandated divestments.

Accruals in relation to divestment costs are set out below.

 
At 
Charge 
Utilised 
At 
 
31 December 
to income 
during 
31 December 
 
2009 
statement 
the year 
2010 
 
£m 
£m 
£m 
£m 
Staff costs - redundancy
— 
28 
(6)
22 
Staff costs - other
— 
23 
(15)
Premises and equipment
— 
(6)
— 
Other
— 
25 
(23)
 
— 
82 
(50)
32 

 
21

 
 
Business review continued
Business review


Impairment losses
 
2010 
2009 
2008 
 
£m 
£m 
£m 
New impairment losses
9,667 
14,224 
7,700 
Less: recoveries of amounts previously written-off
(411)
(325)
(261)
Charge to income statement
9,256 
13,899 
7,439 
       
Comprising:
     
Loans and advances
9,144 
13,090 
6,478 
Securities
112 
809 
961 
Charge to income statement
9,256 
13,899 
7,439 

2010 compared with 2009
Impairment losses were £9,256 million, compared with £13,899 million in 2009. The 33% decrease reflects an overall improvement in the economic environments in which the Group operates.

Impairments fell in all Core businesses, except Ulster Bank Group, which faced an economic environment that remains challenging, with rising default levels across both personal and corporate portfolios.

Impairments for Ulster Bank Group (Core and Non-Core) increased to £3,843 million compared with £1,927 million in 2009.

A significant proportion of the reduction in Core impairments relates to lower specific and latent provisions in UK Corporate, US Retail & Commercial and GBM.

Non-Core impairments fell by 41% in 2010 reflecting the gradual improvement in the economic environment through 2010 and lower specific provisions, alongside a non-repeat of the large single name losses seen in 2009.

2009 compared with 2008
Impairment losses were £13,899 million compared with £7,439 million. Impairment losses in the Core divisions increased by £2,182 million, Non-Core losses increased by £4,285 million off-set by a decrease in RFS Holdings minority interest of £7 million.

In the Core business, the biggest increases were in UK Retail, UK Corporate and Ulster Bank, reflecting the difficult economic environment.

Non-Core losses also increased substantially, particularly across the corporate and property sectors.

 
22

 
 
Business review continued
Business review


Credit market exposures
 
2010 
£m 
2009 
£m 
2008 
£m 
Credit and other market (losses)/gains (1)
Monoline exposures
(5)
(2,387)
(3,093)
CDPCs (2)
(141)
(957)
(615)
Asset-backed products
235 
(288)
(4,778)
Other credit exotics
77 
(558)
(947)
Equities
(17)
(47)
(948)
Leveraged finance
— 
— 
(1,088)
Banking book hedges
(82)
(1,727)
1,642 
Other
(455)
(188)
(268)
Net credit and other market losses
(388)
(6,152)
(10,095)

Notes:
(1)
Included in 'Income from trading activities', significantly all in Non-Core.
(2)
Credit derivative product companies.

2010 compared with 2009
Tightening credit spreads, a recovery in underlying asset prices and gains on sales of asset-backed products during 2010 contributed to significantly lower losses in 2010. Unwinding of some banking book hedges in 2010 also resulted in lower losses. Monoline losses of £2,387 million in 2009 reflected the widening credit spreads and lower recovery rates. CDPC losses were higher in 2009 due to losses on market risk hedges.

Other losses include credit valuation and other reserves against derivative counterparties other than monolines and CDPCs. Losses increased due to rating downgrades as well as other losses on specific deals.

2009 compared with 2008
Losses relating to monoline exposures were £2,387 million in 2009 compared with £3,093 million in 2008.

· 
The credit quality of the monolines has continued to deteriorate and the level of CVA held against exposures to monoline counterparties has increased from 52% to 62% during the year. This was driven by a combination of wider credit spreads and lower recovery rates.

· 
The gross exposure to monoline counterparties has decreased primarily due to a combination of higher prices of underlying reference instruments and restructuring certain exposures.

· 
The increase in CVA resulting from the credit quality deterioration was partially offset by the decrease in CVA requirement following the reduction in gross exposure due to higher prices of underlying reference instruments. Consequently the net losses incurred in this regard were lower than in 2008 when there was both an increase in gross exposure and deterioration in credit quality.

Losses relating to CDPC exposures were £957 million in 2009 compared with £615 million in 2008.

· 
The credit quality of the CDPCs has continued to deteriorate and the level of CVA held against exposures to CDPC counterparties has increased from 27% to 39% during the year.

· 
The gross exposure to CDPC counterparties has reduced primarily due to a combination of tighter credit spreads of the underlying reference loans and bonds, and a decrease in the relative value of senior tranches compared with the underlying reference portfolios.

· 
The decrease in CVA requirement following the reduction in gross exposure was partially offset by the increase in CVA requirement resulting from the credit quality deterioration. Consequently there were net gains in this regard in 2009 compared with losses in 2008 when there was both an increase in gross exposure and deterioration in credit quality.

· 
Net losses were incurred in 2009 due to hedges put in place at the end of 2008 and during 2009 which effectively cap the exposure to certain CDPCs. As the exposure to these CDPCs has reduced, losses have been incurred on the hedges.

Losses relating to asset-backed products were £288 million in 2009 compared with £4,778 million in 2008.

· 
Losses reported in 2009 primarily relate to super senior CDOs. The significant price declines of the underlying predominantly mortgage-backed securities seen in 2008 were not repeated in 2009.

· 
Losses on other mortgage backed securities were greatly reduced in 2009 as many of these positions were sold or substantially written down in 2008 resulting in reduced net exposure in 2009.

Losses relating to other credit exotics were £558 million in 2009 compared with £947 million in 2008. These losses were reduced in 2009 as hedges were put in place to mitigate the risk.

Leveraged finance assets were reclassified on 1 July 2009. Changes in the fair value of these assets are only recognised in the income statement to the extent that they are considered impairments.

Losses relating to banking book hedges were £1,727 million in 2009 compared with profits of £1,642 million in 2008. These trades hedge counterparty risk that arises from loans and bonds on the regulatory banking book. As credit spreads have generally tightened in 2009 the value of these hedges has decreased resulting in losses. These hedges gave rise to gains in 2008 due to credit spreads generally widening.
 
23

 
 
Business review continued
Business review

Credit market exposures continued
Additional disclosures on these and other related exposures can be found in the following sections:

Disclosure
Section
Sub-section
Page
Further analysis of credit market exposures
Risk and balance sheet management
Other risk exposures
144
Valuation aspects
Financial statements
Note 12 Financial instruments - valuation
251
 
Financial statements
Critical accounting policies
225
Reclassification of financial instruments
Financial statements
Note 11 Financial instruments - classification
247


Tax
 
2010 
2009 
2008 
 
£m 
£m 
£m 
Tax (charge)/credit
(634)
429 
2,167 
       
 
% 
% 
UK corporation tax rate
28.0 
28.0 
28.5 
Effective tax rate
nm 
16.2 
8.4 

nm = not meaningful

The actual tax (charge)/credit differs from the expected tax credit computed by applying the standard rate of UK corporation tax as follows:

 
2010 
2009 
2008 
 
£m 
£m 
£m 
Expected tax credit
112 
741 
7,322 
Non-deductible goodwill impairment
(3)
(102)
(3,826)
Unrecognised timing differences
11 
274 
(274)
Items not allowed for tax
     
  - losses on strategic disposals and write downs
(311)
(152)
(108)
  - other
(328)
(356)
(270)
Non-taxable items
     
  - gain on sale of Global Merchant Services
221 
— 
— 
  - gain on redemption of own debt
11 
693 
— 
  - other
341 
410 
491 
Taxable foreign exchange movements
1 
(80)
Foreign profits taxed at other rates
(517)
(276)
(509)
UK tax rate change - deferred tax impact
(82)
— 
— 
Losses in year where no deferred tax asset recognised
(450)
(780)
(942)
Losses brought forward and utilised
94 
11 
Adjustments in respect of prior years
355 
(118)
352 
Actual tax (charge)/credit
(634)
429 
2,167 

2010 compared with 2009
The high tax charge in 2010 reflects profits in high tax regimes and losses in low tax regimes, together with £450 million relating to losses in overseas subsidiaries for which a deferred tax asset has not been recognised, and £311 million mainly in respect of losses on disposal of businesses for which no tax relief is available. This was offset in part by the non-taxable gain arising on the disposal of 80.01% of the GMS business.

2009 compared with 2008
The low tax credit in 2009 reflects profits in high tax regimes and losses in low tax regimes, together with £780 million relating to losses in overseas subsidiaries for which a deferred tax asset has not been recognised, and £152 million mainly in respect of losses on disposal of business for which no tax relief is available.
 
 
24

 
Business review continued
Business review
 
Divisional performance
The results of each division are set out below. The results are stated before fair value of own debt, amortisation of purchased intangible assets, integration and restructuring costs, gain on redemption of own debt, strategic disposals, bonus tax, Asset Protection Scheme credit default swap - fair value changes, gains on pensions curtailment, write-down of goodwill and other intangible assets and RFS Holdings minority interest.

Business Services directly attributable costs have been allocated to the operating divisions, based on their service usage. Where services span more than one division an appropriate measure is used to allocate the costs on a basis which management considers reasonable. Business Services costs are fully allocated and there are no residual unallocated costs.
 
Group Centre directly attributable costs have been allocated to the operating divisions, based on their service usage. Where services span more than one division, the costs are allocated on a basis management considers reasonable. The residual unallocated costs remaining in the Group Centre relate to volatile corporate items that do not naturally reside within a division.

Treasury costs are allocated to operating divisions as follows: term funding costs are allocated or rewarded based on long term funding gap or surplus; liquidity buffer funding costs are allocated based on share of overall liquidity buffer derived from divisional stresses; and capital cost or benefit is allocated based on share of divisional risk-adjusted risk-weighted assets (RWAs).

 
2010 
2009  
2008 
 
£m 
£m  
£m 
UK Retail
1,372 
229 
723 
UK Corporate
1,463 
1,125 
1,781 
Wealth
304 
420 
348 
Global Transaction Services
1,088 
973 
1,002 
Ulster Bank
(761)
(368)
218 
US Retail & Commercial
306 
(113)
528 
Retail & Commercial
3,772 
2,266 
4,600 
Global Banking & Markets
3,364 
5,758 
(2,153)
RBS Insurance
(295)
58 
584 
Central items
577 
385 
150 
Core
7,418 
8,467 
3,181 
Non-Core
(5,505)
(14,557)
(11,351)
 
1,913 
(6,090)
(8,170)
       
Reconciling items:
     
Fair value of own debt
174 
(142)
1,232 
RFS Holdings minority interest
(150)
(356)
(484)
Amortisation of purchased intangible assets
(369)
(272)
(443)
Integration and restructuring costs
(1,032)
(1,286)
(1,357)
Gain on redemption of own debt
553 
3,790 
— 
Strategic disposals
171 
132 
442 
Gains on pensions curtailment
 
2,148 
— 
Bonus tax
(99)
(208)
— 
Asset Protection Scheme credit default swap - fair value changes
(1,550)
 
 
Write-down of goodwill and other intangible assets
(10)
(363)
(16,911)
Group operating loss before tax
(399)
(2,647)
(25,691)
 
 
 
25

 
 
Business review continued
Business review
 

Divisional performance continued
 
2010 
£m 
2009 
£m 
2008 
£m 
Impairment losses by division
UK Retail
1,160 
1,679 
1,019 
UK Corporate
761 
927 
319 
Wealth
18 
33 
16 
Global Transaction Services
39 
54 
Ulster Bank
1,161 
649 
106 
US Retail & Commercial
517 
702 
437 
Retail & Commercial
3,626 
4,029 
1,951 
Global Banking & Markets
151 
640 
522 
RBS Insurance
— 
42 
Central items
(19)
Core
3,780 
4,678 
2,496 
Non-Core
5,476 
9,221 
4,936 
 
9,256 
13,899 
7,432 
Reconciling item:
     
RFS Holdings minority interest
— 
— 
Group
9,256 
13,899 
7,439 


 
2010 
% 
2009 
2008 
Net interest margin by division
UK Retail
3.91 
3.59 
3.58 
UK Corporate
2.51 
2.22 
2.40 
Wealth
3.37 
4.38 
4.51 
Global Transaction Services
6.73 
9.22 
8.25 
Ulster Bank
1.84 
1.87 
1.89 
US Retail & Commercial
2.85 
2.37 
2.68 
Retail & Commercial
3.14 
2.89 
3.00 
Global Banking & Markets
1.05 
1.38 
1.34 
Non-Core
1.16 
0.69 
0.87 
       
Group
2.06 
1.83 
2.12 


 
2010 
2009 
2008 
Risk-weighted assets by division
£bn 
£bn 
£bn 
UK Retail
48.8 
51.3 
45.7 
UK Corporate
81.4 
90.2 
85.7 
Wealth
12.5 
11.2 
10.8 
Global Transaction Services
18.3 
19.1 
17.4 
Ulster Bank
31.6 
29.9 
24.5 
US Retail & Commercial
57.0 
59.7 
63.9 
Retail & Commercial
249.6 
261.4 
248.0 
Global Banking & Markets
146.9 
123.7 
151.8 
Other
18.0 
9.4 
7.1 
Core
414.5 
394.5 
406.9 
Non-Core
153.7 
171.3 
170.9 
Group before benefit of Asset Protection Scheme
568.2 
565.8 
577.8 
Benefit of Asset Protection Scheme
(105.6)
(127.6)
— 
Group before RFS Holdings minority interest
462.6 
438.2 
577.8 
RFS Holdings minority interest
2.9 
102.8 
118.0 
Group
465.5 
541.0 
695.8 

 
26

 
 
Business review continued
Business review
 
 
Employee numbers at 31 December
(full time equivalents in continuing operations rounded to the nearest hundred)

 
2010 
2009 
2008 
UK Retail
23,800 
25,500 
28,400 
UK Corporate
13,100 
12,300 
13,400 
Wealth
5,200 
4,600 
5,200 
Global Transaction Services
2,600 
3,500 
3,900 
Ulster Bank
4,200 
4,500 
5,400 
US Retail & Commercial
15,700 
15,500 
16,200 
Retail & Commercial
64,600 
65,900 
72,500 
Global Banking & Markets
18,700 
17,900 
17,500 
RBS Insurance
14,500 
13,900 
14,500 
Central items
4,700 
4,200 
4,300 
Core
102,500 
101,900 
108,800 
Non-Core
6,900 
15,100 
19,000 
 
109,400 
117,000 
127,800 
Business services
38,800 
43,100 
46,600 
Integration
300 
500 
900 
RFS Holdings minority interest
— 
300 
200 
Group
148,500 
160,900 
175,500 


 
27

 
 
Business review continued
Business review
 

UK Retail
 
2010 
2009 
2008 
 
£m 
£m 
£m 
Net interest income
4,078 
3,452 
3,187 
Net fees and commissions
1,160 
1,320 
1,577 
Other non-interest income
252 
309 
358 
Non-interest income
1,412 
1,629 
1,935 
Total income
5,490 
5,081 
5,122 
Direct expenses
     
  - staff
(778)
(845)
(924)
  - other
(474)
(453)
(548)
Indirect expenses
(1,621)
(1,741)
(1,724)
 
(2,873)
(3,039)
(3,196)
Insurance net claims
(85)
(134)
(184)
Impairment losses
(1,160)
(1,679)
(1,019)
Operating profit
1,372 
229 
723 
       
Analysis of income by product
     
Personal advances
993 
1,192 
1,244 
Personal deposits
1,102 
1,349 
2,037 
Mortgages
1,984 
1,214 
500 
Bancassurance
314 
380 
401 
Cards
962 
869 
831 
Other
135 
77 
109 
Total income
5,490 
5,081 
5,122 
       
Analysis of impairment by sector
     
Mortgages
177 
124 
31 
Personal
682 
1,023 
568 
Cards
301 
532 
420 
Total impairment losses
1,160 
1,679 
1,019 
       
Loan impairment charge as % of gross customer loans and advances (excluding reverse repurchase
  agreements) by sector
     
Mortgages
0.2% 
0.1% 
— 
Personal
5.8% 
7.5% 
3.7%
Cards
4.9% 
8.6% 
6.7%
 
1.1% 
1.6% 
1.1%
       
Performance ratios
     
Return on equity (1)
18.0% 
3.0% 
11.1%
Net interest margin
3.91% 
3.59% 
3.58%
Cost:income ratio
52% 
60% 
62%
Adjusted cost:income ratio (2)
53% 
61% 
65%
       
 
£bn 
£bn 
£bn 
Capital and balance sheet
     
Loans and advances to customers (gross)
     
  - mortgages
90.6 
83.2 
72.2 
  - personal
11.7 
13.6 
15.3 
  - cards
6.1 
6.2 
6.3 
 
108.4 
103.0 
93.8 
Customer deposits (excluding bancassurance)
96.1 
87.2 
78.9 
Assets under management (excluding deposits)
5.7 
5.3 
5.7 
Risk elements in lending
4.6 
4.6 
3.8 
Loan:deposit ratio (excluding repos)
110% 
115% 
116% 
Risk-weighted assets
48.8 
51.3 
45.7 

Notes:
(1)
Divisional return on equity is based on divisional operating profit after tax divided by average notional equity (based on 9% of the monthly average of divisional RWAs, adjusted for capital deductions).
(2)
Adjusted cost:income ratio is based on total income after netting insurance claims, and operating expenses.
 
 
28

 
 
Business review continued
Business review
 
 
UK Retail continued

2010 compared with 2009
Operating profit recovered strongly from the low levels recorded in 2008 and 2009 to £1,372 million. Profit before impairments was up £624 million or 33% and impairments fell by £519 million as the economic environment continued to recover.

The division has continued to focus in 2010 on growing secured lending while at the same time building customer deposits, thereby reducing the Group’s reliance on wholesale funding. Loans and advances to customers grew 5%, with a change in mix from unsecured to secured as the Group actively sought to improve its risk profile. Mortgage balances grew by 9% while unsecured lending contracted by 10%.

·
Mortgage growth was due to good retention of existing customers and new business, the majority of which comes from the existing customer base. Gross mortgage lending market share remained broadly in line with 2009 at 12%, with the Group on track to meet its Government target on net mortgage lending.

·
Customer deposits grew 10% on 2009, reflecting the strength of the UK Retail customer franchise, which outperformed the market in an increasingly competitive environment. Savings balances grew by £8 billion or 13% with 1.8 million accounts opened, outperforming the market total deposit growth of 3%. Personal current account balances increased by 3% on 2009.

Net interest income increased significantly by 18% to £4,078 million, driven by strong balance sheet growth and repricing. Net interest margin improved by 32 basis points to 3.91%, with widening asset margins partially offset by contracting liability margins in the face of a competitive deposit market.

Non-interest income declined 13% to £1,412 million, principally reflecting the restructuring of current account overdraft fees in the final quarter of 2009.
 
Expenses decreased by 5%, with the cost:income ratio (net of insurance claims) improving from 61% to 53%.

·
Direct staff costs declined by 8%, largely driven by a clear management focus on process re-engineering enabling a 7% reduction in headcount.

·
RBS continues to progress towards a more convenient, lower cost operating model, with over 4.8 million active users of online banking and a record share of new sales achieved through direct channels. More than 7.8 million accounts have switched to paperless statements and 276 branches now utilise automated cash deposit machines.

Impairment losses decreased 31% to £1,160 million primarily reflecting the recovery in the economic environment.

·
The mortgage impairment charge was £177 million (2009 - £124 million) on a total book of £91 billion. Mortgage arrears rates marginally increased in 2010 but remain below the industry average, as reported by the Council of Mortgage Lenders. Repossessions showed only a small increase on 2009, as the Group continues to support customers facing financial difficulties.

·
The unsecured lending impairment charge was £983 million (2009 - £1,555 million) on a total book of £18 billion.

Risk-weighted assets decreased by 5% to £48.8 billion, with lower unsecured lending, improving portfolio credit metrics and small procyclicality benefits more than offsetting growth in mortgages.
 
29

 
Business review continued
Business review
 
 
UK Retail continued

2009 compared with 2008
Operating profit of £229 million was £494 million lower than in 2008. Profit before impairments was up £166 million or 10%, but impairments rose by £660 million as the economic environment deteriorated, albeit with signs of conditions stabilising in the second half of the year.

The division has focused in 2009 on growing secured lending to meet its Government targets while at the same time building customer deposits, thereby reducing the Group's reliance on wholesale funding. Loans and advances to customers grew 10%, with a change in mix from unsecured to secured as the Group sought actively to reduce its risk profile, with 15% growth in mortgage lending and an 8% reduction in unsecured lending.

·
Mortgage growth was due to good retention of existing customers and new business sourced predominantly from the existing customer base. Gross mortgage lending market share increased to 12% from 7% in 2008, with the Group on track to exceed its Government targets on net lending by £3 billion.

·
Customer deposits grew 11% on 2008 reflecting the strength of the UK Retail customer franchise, which outperformed the market in an increasingly competitive environment. Savings balances grew by £6 billion or 11% and account acquisition saw a 20% increase, with 2.2 million accounts opened. Personal current account balances increased by 12% on 2008 with a 3% growth in accounts to 12.8 million.

Net interest income increased significantly by 8% to £3,452 million, driven by strong balance sheet growth. Net interest margin was flat at 3.59%, with decreasing liability margins in the face of stiff competition for deposits offsetting wider asset margins. The growth in mortgages and the reduction in higher margin unsecured balances also had a negative impact on the blended net interest margin.

Non-interest income declined 16% to £1,629 million, principally reflecting the withdrawal of the single premium payment protection insurance product and the restructuring of current account overdraft fees in the final quarter of 2009, with the annualised impact of the overdraft fee restructuring further affecting income in 2010. The weak economic environment presented little opportunity in 2009 to grow credit card, private banking and bancassurance fees.

Expenses decreased by 5%, with the cost:income ratio improving from 62% to 60%.

·
Direct staff costs declined by 9%, as the division benefited from strong cost control, a focus on process re-engineering and a 10% reduction in headcount.

·
RBS continues to progress towards a more convenient, lower cost operating model, with over 4 million active users of online banking and a record share of new sales achieved through direct channels. More than 5.5 million accounts have switched to paperless statements and 254 branches now utilise automated cash deposit machines.

Impairment losses increased 65% to £1,679 million reflecting the deterioration in the economic environment, and its impact on customer finances.

·
The mortgage impairment charge was £124 million (2008 - £31 million) on a total book of £83.2 billion. Mortgage arrears rates stabilised in the second half of 2009 and remain well below the industry average, as reported by the Council of Mortgage Lenders. Repossessions show only a small increase on 2008, as the Group continues to support customers facing financial difficulties.

·
The unsecured lending impairment charge was £1,555 million (2008 - £988 million) on a book of £19.8 billion. Industry benchmarks for cards arrears showed a slightly improving trend in the final quarter of 2009, which is consistent with the Group's experience. RBS continues to perform better than the market on arrears.

Risk-weighted assets increased by 12% to £51.3 billion due to higher lending and the upward pressure from procyclicality, more than offsetting the adoption of a through-the-cycle loss given default approach for mortgages.

 
30

 
 
Business review continued
Business review
 

UK Corporate
 
2010 
2009 
2008 
 
£m 
£m 
£m 
Net interest income
2,572 
2,292 
2,448 
Net fees and commissions
952 
858 
829 
Other non-interest income
371 
432 
460 
Non-interest income
1,323 
1,290 
1,289 
Total income
3,895 
3,582 
3,737 
Direct expenses
     
  - staff
(778)
(753)
(801)
  - other
(359)
(260)
(318)
Indirect expenses
(534)
(517)
(518)
 
(1,671)
(1,530)
(1,637)
Impairment losses
(761)
(927)
(319)
Operating profit
1,463 
1,125 
1,781 
       
Analysis of income by business
     
Corporate and commercial lending
2,598 
2,131 
2,094 
Asset and invoice finance
617 
501 
312 
Corporate deposits
728 
986 
1,266 
Other
(48)
(36)
65 
Total income
3,895 
3,582 
3,737 
       
Analysis of impairment by sector
     
Banks and financial institutions
20 
15 
Hotels and restaurants
52 
98 
25 
House building and construction
131 
106 
42 
Manufacturing
51 
14 
Other
127 
150 
53 
Private sector education, health, social work, recreational and community services
30 
59 
15 
Property
245 
259 
24 
Wholesale and retail trade, repairs
91 
76 
37 
Asset and invoice finance
64 
113 
100 
Total impairment losses
761 
927 
319 
       
Loan impairment charge as % of gross customer loans and advances (excluding reverse repurchase
  agreements) by sector
     
Banks and financial institutions
0.3% 
0.2% 
0.2% 
Hotels and restaurants
0.8% 
1.5% 
0.4% 
House building and construction
2.9% 
2.5% 
0.8% 
Manufacturing
— 
0.9% 
0.3% 
Other
0.4% 
0.5% 
0.1% 
Private sector education, health, social work, recreational and community services
0.3% 
0.9% 
0.2% 
Property
0.8% 
0.8% 
0.1% 
Wholesale and retail trade, repairs
0.9% 
0.7% 
0.4% 
Asset and invoice finance
0.6% 
1.3% 
1.2% 
 
0.7% 
0.8% 
0.3% 
       
Performance ratios
     
Return on equity (1)
12.1% 
9.4% 
15.9% 
Net interest margin
2.51% 
2.22% 
2.40% 
Cost:income ratio
43% 
43% 
44% 

Note:
(1)
Divisional return on equity is based on divisional operating profit after tax divided by average notional equity (based on 9% of the monthly average of divisional RWAs, adjusted for capital deductions).
 
 
31

 
 
Business review continued
Business review
 

UK Corporate continued
 
2010 
2009 
2008 
 
£bn 
£bn 
£bn 
Capital and balance sheet
     
Total third party assets
114.6 
114.9 
121.0 
Loans and advances to customers (gross)
     
  - banks and financial institutions
6.1 
6.3 
5.4 
  - hotels and restaurants
6.8 
6.7 
6.1 
  - housebuilding and construction
4.5 
4.3 
5.2 
  - manufacturing
5.3 
5.9 
5.3 
  - other
31.0 
29.9 
38.1 
  - private sector education, health, social work, recreational and community services
9.0 
6.5 
7.4 
  - property
29.5 
33.0 
31.8 
  - wholesale and retail trade, repairs
9.6 
10.2 
9.1 
  - asset and invoice finance
9.9 
8.8 
8.5 
 
111.7 
111.6 
116.9 
Customer deposits
100.0 
87.8 
82.0 
Risk elements in lending
4.0 
2.3 
1.3 
Loan:deposit ratio (excluding repos)
110% 
126% 
142% 
Risk-weighted assets
81.4 
90.2 
85.7 

2010 compared with 2009
Operating profit grew by £338 million, 30%, compared with 2009, driven by strong income growth and significantly lower impairments, partially offset by higher costs.

UK Corporate performed strongly in the deposit market, with customer deposit balance growth of £12 billion contributing to a 16 percentage point improvement in the loan to deposit ratio in 2010. While customer lending increased only marginally (with gross lending largely offset by customer deleveraging) net interest income rose by £280 million, 12%, and net interest margin rose by 29 basis points driven primarily by the good progress made on loan repricing.

Non-interest income increased 3% reflecting strong refinancing levels and increased operating lease activity, partially offset by lower sales of financial market products.

Total costs increased 9% (£141 million) or 5% excluding the OFT penalty in 2010, legal recovery in 2009 and the normalisation of staff compensation phasing.

Impairments were 18% lower, primarily as a result of higher charges taken during the first half of 2009 to reflect potential losses in the portfolio not yet specifically identified.

Return on equity increased from 9.4% to 12.1%, reflecting higher operating profit and lower RWAs as a result of improved risk metrics.

2009 compared with 2008
Operating profit of £1,125 million was £656 million lower than in 2008, largely due to an increase of £608 million in impairments.

Net interest margin levels were rebuilt during the second half as asset pricing was amended to reflect increased funding and credit costs. For the year as a whole net interest margin was 18 basis points lower than in 2008, reflecting higher funding costs and continued competitive pricing for deposits.

Gross new lending to customers remained resilient in 2009, with a noticeable acceleration of lending activity in the second half of the year. However, as customers have deleveraged and turned increasingly to capital markets, repayments have accelerated even more sharply. Loans and advances to customers, therefore, declined by 5% to £111.6 billion.

Initiatives aimed at increasing customer deposits have been successful, with balance growth of 7%, although margins declined as a result of increased competition for balances.

Non-interest income was flat, with stable fee income from refinancing and structuring activity.

A reduction in costs of 7% was driven by lower staff expenses as a result of the Group's restructuring programme, together with restraint on discretionary spending levels.

Impairment losses increased substantially reflecting both a rise in the number of corporate delinquencies requiring a specific impairment and a higher charge to recognise losses not yet specifically identified.

Risk-weighted assets grew 5% despite the fall in customer lending, reflecting the impact of procyclicality, which was most pronounced in the first half of 2009.
 
32

 
 
Business review continued
Business review
 

Wealth
 
2010 
2009 
2008 
 
£m 
£m 
£m 
Net interest income
609 
663 
578 
Net fees and commissions
376 
363 
405 
Other non-interest income
71 
83 
76 
Non-interest income
447 
446 
481 
Total income
1,056 
1,109 
1,059 
Direct expenses
     
  - staff
(382)
(357)
(377)
  - other
(142)
(144)
(178)
Indirect expenses
(210)
(155)
(140)
 
(734)
(656)
(695)
Impairment losses
(18)
(33)
(16)
Operating profit
304 
420 
348 
       
Analysis of income
     
Private banking
857