Hubris: How HBOS Wrecked the Best Bank in Britain (30 page)

Lloyds’ takeover was finally completed in January 2009. Only two of the HBOS top team were kept on: Harry Baine, the company secretary, and Jo Dawson, head of retail and insurance. In fact
the purge of HBOS managers was to reach almost Stalinesque proportions. Lloyds committed itself to the replacement of all the senior management responsible for the collapse of HBOS. No ex-HBOS
executives were to be on the new Lloyds Banking Group board and of the nine senior executives reporting to Daniels, only one was ex-HBOS. Further down the organisation, despite HBOS
now making up more than half the enlarged group, ex-HBOS managers accounted for less than a third of the top two layers of management.

In Greek mythology the goddess Nemesis extracted vengeful retribution against those guilty of hubris – arrogance before the gods. Now she visited the HBOS board. Lord Stevenson and all the
non-executive directors were fired. Andy Hornby, whose head had been demanded by Gordon Brown as a condition of the Government bailout, had already gone. He had been retained by Lloyds on a
£60,000 a month consultancy to help with the integration, but a public outcry forced him to give it up.

Colin Matthew and Peter Cummings were the last survivors from the old Bank of Scotland. Cummings’ leaving triggered a wave of vilification in the press that continued for several years. He
was described as a reckless gambler, a man who almost single-handedly wrecked the bank. Reporters door-stepped his home in Dumbarton and photographers lurked to snatch grainy pictures of him and
his wife shopping at the local supermarket. He was bracketed with the Royal Bank of Scotland chief executive Sir Fred Goodwin as the focus for public anger at the collapse of the two banks and,
like Goodwin, his generous pension was seen as an ill-gotten gain.
The Sun
headlined: ‘Bungling Fred “The Shred” Goodwin was last night joined in Britain’s banking
hall of shame – by Pete The Pocket.’
⁹

Nemesis, however, did not force them to go empty-handed. Peter Cummings received £702,080 as a redundancy payment, Mike Ellis £670,500, Philip Gore-Randall £568,000 and Colin
Matthew £656,405. All had also built up large pension funds: Cummings’ £7 million would give him an annual pension of £369,000; Matthew’s £9 million a pension of
£416,000 and Hornby’s £2 million would produce £240,000 on retirement. They had received large salaries and cash incentives, paid as part of a scheme covering 2007 and 2008,
but waived their right to the 2008 payments – the year in which the company was effectively bankrupted. Cummings was revealed in the subsequent annual report to have also waived his right to
£1.3 million ‘earned’ in 2007.

The goddess was not entirely done with HBOS. A year later Paul Moore, who had been head of Group Regulatory Risk at HBOS between 2002 and 2005, gave evidence before the House of Commons Treasury
Select Committee. He alleged that he had repeatedly
warned James Crosby, then chief executive, and other directors that the rapid expansion of the group was exposing it to
grave risks. Moore had been fired by Crosby. His allegations were disputed by HBOS directors, but his evidence was enough to force Crosby’s resignation from the deputy chairmanship of the
FSA.

The demise of HBOS and the clear-out of the board left the way open for attention to be focused on Lloyds. When the final results for HBOS were published it became clear that Lloyds had taken on
far greater liabilities than it had realised. The loss was a staggering £10 billion, with corporate banking accounting for two-thirds of that and further losses on the US mortgage portfolios
for the rest. It was a final nail in the coffins of the reputations of Hornby, Stevenson and Cummings, but it also cast doubt on the judgement of Daniels and Blank. The deal had been rushed because
of the danger that HBOS might collapse before it could be taken over and the Lloyds chief executive admitted that only a third or a fifth of the usual amount of due diligence – the
painstaking detailed forensic examination of the books – had been done. It began to look as though the Devon shareholder at the Lloyds meeting had been right: it had been a corporate ego
trip. Blinded by the scale of the prize, which would give them unrivalled dominance in the British retail banking market, the Lloyds’ board and shareholders had cut too many corners. One
analyst commented: ‘This looks bad for Lloyds as they may have failed to spot the level of toxicity in HBOS’s book. The worry now is that they may have blown up two banks instead of
one.’
¹⁰

Lloyds’ reputation as a cautious bank which had survived the credit crunch in better shape than its rivals was now shattered. The fear was that the mounting losses would eat up all the
extra capital it and HBOS had taken from the Government and that the combined group would be forced to seek more. That could mean the publicly-owned share of the bank rising to above 50 per cent.
The ratings agency Moody’s took a pessimistic view and downgraded Lloyds’ credit status.

Daniels fought against Government control, but he did not have many cards to play. In March Lloyds was forced to take advantage of a government scheme to insure £260 billion of toxic
loans, 80 per cent of it made up of HBOS mortgages, commercial property and corporate lending. That lifted the pressure on its capital, but there was a heavy price; the insurance premium would cost
several billion pounds. Unless Lloyds could pay that in cash, the Government would
up its stake in the company to a level which would give it 60–70 per cent of the
shares. To avoid this Lloyds went to its own private shareholders to ask for money in a rights issue. Although a quarter refused to buy more shares, the bank raised enough cash to pay the
Government its fee, repay some of its borrowing and avoid nationalisation.

The situation had been saved, but shareholders still wanted someone to pay for the botched takeover. The value of their investment had been reduced by three-quarters by the HBOS acquisition.
Pressure mounted on Sir Victor Blank and at the annual meeting in May he announced his intention to ‘retire’ at the next annual meeting in a year’s time. In fact he did not last
that long and left early to make way for a new chairman, retired banker Sir Win Bischoff, who began a clear-out of the board members who had voted through the HBOS deal. He replaced them with
people with banking experience.

But the misery was not over for Lloyds. In November Eric Daniels had to go back to shareholders again for £13.5 billion in new equity and £7.5 billion in bonds – the biggest
capital-raising exercise ever by a UK company. It meant another injection of £5.9 billion in Government money and another massive dilution for Lloyds’ and HBOS’ shareholders,
reducing the value of their investments yet again. There was more pain to come. The British Government may have waived competition law, but the European Commission was not so compliant. It ordered
Lloyds to work towards the lower-risk strategy it had followed prior to the HBOS acquisition. This included reducing its loan book by £181 billion. To answer monopolies concerns the bank was
also required to sell off 632 of its high-street branches and its TSB and Cheltenham & Gloucester brands. All LloydsTSB branches in Scotland were also to be sold and market share in residential
mortgages and current accounts was to be reduced.

Daniels survived repeated calls for his resignation, but was forced to give up a £2.3 million bonus for 2009 when Lloyds had recorded a £6.3 billion loss. Daniels left Lloyds in
2011, six months before his retirement age and dogged until the last by bad news from his HBOS move. Some £500 million had to be spent compensating 300,000 Halifax customers for badly written
mortgage contracts, and bad debt provisions on Irish loans cost another £2 billion. He spent his last six
months on the Lloyds’ payroll sitting at home while his
successor, Antonio Horta-Osorio ran the bank, but even in retirement he could not escape the ghost of his acquisition. At the beginning of 2012 a retired Scottish sea captain living in New Orleans
raised an action in the US courts against Daniels and Blank claiming that a ‘reckless disregard for the truth’ during the takeover had cost Lloyds shareholders billions of dollars. The
Lloyds board also decided that a share issue worth £840,000 to Daniels for his integration of HBOS should be scrapped.

In 2012 Lloyds estimated that the write-offs from its acquisition of HBOS would total £45–48 billion. Sir Win Bischoff said: ‘With the benefit of hindsight now, obviously it
has not been as good an idea as people thought at the time, and that includes all the shareholders who voted in favour of it.’
¹¹

In any big corporate transaction like this, press attention focuses on the high-profile casualties at the top, while those at the bottom are merely mass statistics. Thousands of HBOS employees
paid for the debacle with their jobs and savings. At the time the deal was struck Lloyds denied that it would lead to 40,000 jobs being lost, although analysts could not see how the bank could save
the £1.5 billion a year in costs it had predicted without this scale of reduction in employment. By the middle of 2011 more than 28,000 jobs had been shed, but it was estimated that a
strategy review by Horta-Osorio could result in a further 15,000.
¹²
Their redundancy payments would be in the thousands rather than the
hundreds of thousands and their pensions a fraction of those their former bosses received. Many of those who lost their jobs would also have lost their savings through having been shareholders in
the HBOS and Lloyds share-save schemes.

‘I estimate that 90 per cent of HBOS staff had shares,’ said one Bank of Scotland manager. ‘Some had tens of thousands in savings. If any of us had suspected things were that
bad we would have sold, but we didn’t. Andy Hornby kept telling us it was a safe bank; the message was worded slightly differently, but it was the same every month – and we believed
him.’

While this was going on Lloyds also began dismantling the property portfolio and the equity stakes built up by Bank of Scotland Corporate under Peter Cummings. At one stage Lloyds had 1,000
people unwinding the HBOS property book. A number of property
companies to which HBOS had lent collapsed into administration or receivership, or the bank was forced to
accept equity in exchange for loans which could not be repaid. Others were sold at fractions of the levels at which they had been valued just a few years before, giving the bank some of its money
back.

To try to recover some value on the Cummings’ ‘nest egg’ share stakes, Lloyds entered into a joint venture with Coller Capital, a private equity firm, to try to sell the
holdings. The new venture, in which Lloyds had a minority share, was headed by Graeme Shankland, formerly head of HBOS’s integrated finance unit. An anonymous commentator told the
Financial Times
: ‘These guys made some horrendous mistakes, but that doesn’t make them incompetent. They know the assets better than anyone else and are best placed to clear up
their own mess.’
¹³

It was not all fire sales. In 2010 PSN, an oilfield services company which had been a management buyout backed by HBOS and Tom Hunter in 2006, was sold to the Wood Group for £600 million
and the following year Mint Hotels (formerly City Inn) was sold to Blackstone for £600 million. In both deals Lloyds recovered debt and equity.

In 2010 Lloyds gave Bank of Scotland branches a makeover. The Halifax name was removed and a new advertising campaign sought to focus on ‘traditional banking values’. Television
commercials voiced by actor Dougray Scott followed a couple from their meeting, through marriage, having a family and buying a home. Its brand promise: ‘With you all the way’ echoed the
‘Friend for Life’ campaign of a quarter of a century before. Media consultant Richard Gold commented: ‘In the context of recent crises, the claim and the homely way it is
delivered may seem almost ironic – it is as if the past couple of years never happened. Yet viewed within the context of the bank’s centuries-old relationship with Scottish people (it
was founded in 1695), and at a time when a host of new entrants are trying to establish a high street banking presence to take advantage of public mistrust of the incumbents, it is a bold and
sensible approach.

‘Bank of Scotland is digging deep into its DNA to recapture and amplify the institution’s most appealing brand assets.’
¹⁴

Hungry for risk

What went wrong? In the next few chapters I will attempt to find some answers to this question. To say what happened is easier than to say why it happened. In trying to
discover the latter I have been hampered by the fact that, although many senior managers and some non-executive board members have been ready to speak to me, the key executives, including Sir James
Crosby, first chief executive of HBOS, Andy Hornby, his successor, and Mike Ellis, finance director, have all declined to meet me. I do not criticise them for this: mine is a personal rather than
an official inquiry and they did not know how objective or how accurate I would be. But I mention it as a qualification to my conclusions. Their actions are, to a large extent, documented and well
known. We can guess at their motivations, but without any certainty because they have refused to speak. Peter Cummings also declined to explain his part, but with a specific justification. At the
time of writing he was the only HBOS executive to be notified of possible ‘enforcement’ actions by the FSA and is understandably talking to no one until the result of that action is
known.

I am not the only person seeking answers. The House of Commons Treasury Select Committee conducted extensive hearings and produced two comprehensive reports on the failure of UK banks, including
HBOS and the Royal Bank of Scotland. The European Commission touched on the reasons for the HBOS failure in its report on the competition issues raised by the Lloyds takeover. The Independent
Commission on Banking has also examined the components of the collapse and suggested ways in which they would be mitigated in the future. I shall draw on all these, plus numerous press and academic
reports. The FSA initially said its report on the collapse of HBOS would be internal only and not made public, but under pressure from MPs and the press it has conceded it will be published.
When is another matter. The FSA will give no guidance. At the time of writing (Spring 2012) it looks as though it will be at least 2013 – four years after the collapse
of HBOS – before the financial regulator gives a full account.