RBS 2012 Annual Report Download - page 515

RBS GROUP 2012
513
Under the US Federal Reserve’s proposal to change how it regulates the
US operations of large foreign banking groups, foreign banking
organisations with total global consolidated assets of $50 billion or more
(“Large FBOs”) would have to create a separately capitalised top-tier US
intermediate holding company (IHC) that would hold all US bank and
non-bank subsidiaries. The IHC would be subject to US capital, liquidity
and other enhanced prudential standards on a consolidated basis.
Among other things, an IHC would be subject to the same US risk based
and leverage capital standards that apply to a US bank holding company.
The adoption of such a regime would likely result in the Group being
subject to multiple capital regimes where the US has departed from the
international Basel Capital Framework as adopted in the UK and Europe.
The imposition of US capital, liquidity and other enhanced prudential
standards on an IHC of a Large FBO that is subject to home country
capital standards on a group-wide consolidated basis would likely give
rise to challenging organisational and compliance issues. The foregoing
is only one example of issues that the Group might confront if its US
operations were to be subject to these proposals. Under the current
proposals the Group’s US operations would be subject to these
heightened requirements.
If any of the proposals described above are adopted, major changes to
the Group’s corporate structure, its business activities conducted in the
UK and the US and potentially other jurisdictions where the Group
operates, as well as changes to the Group’s business model, might be
required. The changes are likely to include ring-fencing certain banking
activities in the UK from other activities of the Group as well as
restructuring other operations within the Group in order to comply with
these proposed new rules and regulations. The proposals, if adopted, are
expected to take an extended period of time to put into place, would be
costly to implement and may lack harmonisation, all of the effects of
which could have a material adverse effect on the Group’s structure,
results of operations, financial condition and prospects.
The Group is subject to a number of legal and regulatory actions and
investigations. Unfavourable outcomes in such actions and investigations
could have a material adverse effect on the Group’s operating results or
reputation
The Group’s operations are diverse and complex and it operates in legal
and regulatory environments that expose it to potentially significant
litigation, regulatory investigation and other regulatory risk. As a result,
the Group is, and may in the future be, involved in a number of legal and
regulatory proceedings and investigations in the UK, the EU, the US and
other jurisdictions.
The Group is involved in ongoing class action litigation, LIBOR related
litigation and investigations, securitisation and securities related litigation,
and anti-money laundering, sanctions, mis-selling and compliance related
investigations, in addition to a number of other matters. In respect of the
LIBOR investigations, the Group reached a settlement on 6 February
2013 with the Financial Services Authority, the Commodity Futures
Trading Association and the US Department of Justice. In addition to this
settlement, the Group continues to cooperate with these and other
governmental and regulatory authorities, including in the US and Asia,
into its submissions, communications and procedures relating to the
setting of LIBOR and other trading rates, and the probable outcome is
that it will incur additional financial penalties. For more detail on the
Group’s ongoing legal and regulatory proceedings, see page 455. Legal
and regulatory proceedings and investigations are subject to many
uncertainties, and their outcomes, including the timing and amount of
fines or settlements, which may be material, are often difficult to predict,
particularly in the early stages of a case or investigation. Adverse
regulatory proceedings or adverse judgments in litigation could result in
restrictions or limitations on the Group’s operations or have a significant
effect on the Group’s reputation or results of operations.
The Group may be required to increase provisions in relation to ongoing
legal proceedings, investigations and regulatory matters. In 2012,
provisions were required to cover costs of redress in respect of past sales
of interest rate hedging products to the Group’s small and medium sized
businesses, having regard to the FSA report issued in January 2013
outlining the principles to which it wishes the Group and other UK banks
to adhere in conducting the review and redress exercise. Additional
provisions were required in 2012 to cover increased costs associated
with Payment Protection Insurance sales practices. Provision was also
required in respect of the redress paid to customers following the June
2012 technology incident which resulted in delays in the processing of
certain customer accounts and payments. Significant increases in
provisions may harm the Group’s reputation and may have an adverse
effect on the Group’s financial condition and results of operations.
The Group, like many other financial institutions, has come under greater
regulatory scrutiny in recent years and expects that environment to
continue for the foreseeable future, particularly as it relates to compliance
with new and existing corporate governance, employee compensation,
conduct of business, anti-money laundering and anti-terrorism laws and
regulations, as well as the provisions of applicable sanctions
programmes.
Financial reporting related risks
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
Under International Financial Reporting Standards (IFRS), the Group
recognises at fair value: (i) financial instruments classified as held-for-
trading or designated as at fair value through profit or loss; (ii) financial
assets classified as available-for-sale; and (iii) derivatives. Generally, to
establish the fair value of these instruments, the Group relies on quoted
market prices or, where the market for a financial instrument is not
sufficiently active, internal valuation models that utilise observable market
data. In certain circumstances, the data for individual financial
instruments or classes of financial instruments utilised by such valuation
models may not be available or may become unavailable due to
prevailing market conditions. In such circumstances, the Group’s internal
valuation models require the Group to make assumptions, judgements
and estimates to establish fair value, which are complex and often relate
to matters that are inherently uncertain. These assumptions, judgements
and estimates will need to be updated to reflect changing facts, trends
and market conditions. The resulting change in the fair values of the
financial instruments has had and could continue to have a material
adverse effect on the Group’s earnings and financial condition.