Wednesday, 7 July 2010

Accounting for failure of Bradford & Bingley

The BBC and other parts of the news media (including Accountancy Age!) have reported that the shareholders of Bradford & Bingley will receive no compensation for the forced nationalisation of the failed bank but they have made no attempt to account for the difference between the shareholders' claim and the assessed value of the business.

Fortunately for us, the information behind these somewhat limited news reports is readily available in the form of the Assessment Notice from the independent valuer, Peter Clokey. Like many other official insolvency documents this not only describes what the financial outcome is likely to be for the creditors and shareholders but also tells the story of how the business failed so catastrophically.

Bradford & Bingley had a tier 1 capital ratio (the key measure of financial security for a bank) of 7.6% in June 2008 and equity of £1.144bn. Both the ratio and the total capital had fallen during the preceding year due to trading losses but the capital ratio compared favourably with other UK banks and it would take many years of losses to use up more than a billion pounds of shareholders' funds. As such Bradford & Bingley shouldn't have been an early casualty of the September 2008 financial meltdown. Unfortunately, although it hadn't traded as recklessly as Northern Rock, for instance, it had been expanding and had financed that expansion by borrowing on the money market moving away from retail deposits as its main source of finance. The directors had assumed that money market funds would be available indefinitely and had no contingency plans. When interbank lending suddenly dried up in 2008 Bradford & Bingley was forced to resort to the Bank of England's Special Liquidity Scheme (SLS) borrowing £4.9bn from the UK taxpayer by 16 September 2008. The Bank of England restricted participation in the SLS to institutions that had the very highest borrowing credentials but the ratings agencies, Moody's and Fitch, had identified Bradford & Bingley as a bank that would need help to survive and were in the process of downgrading its credit rating. Unable to borrow from the money market or the Bank of England, Bradford & Bingley stood on the edge and, when retail depositors began to withdraw their savings, could no longer satisfy the FSA's funding conditions for taking deposits so, on Saturday 27 September, the FSA told the bank to close its doors on Monday morning.

The options open to the directors that weekend were administration or "a transfer of Bradford & Bingley into public ownership or the brokering of a deal with one or more third parties to sell all or part of Bradford & Bingley". The solicitors went ahead, drafted the administration papers and put the appropriate people on notice for Monday morning. Before Monday morning part of Bradford & Bingley, the deposit business part, was sold to Abbey but only with billions of pounds of support from HM Treasury. There had never been any other interested parties when banks around the world were rushing to shelter their precious cash resources.

In the end an administration was not the best option for the creditors and shareholders of Bradford & Bingley. The bank had sold its soul in the months leading up to September 2008. If Bradford & Bingley went into administration many of its debts, including the SLS funds, would need to be settled immediately and for the bank in administration to borrow money instantly on the open market would be prohibitively expensive. So expensive that it would absorb all the shareholders' funds leaving them with nothing. Public ownership hasn't proved any more rewarding for the shareholders but it was better than the alternative which would have been chaos.

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