The bank props up football clubs, political parties and property investors
Iain Dey Published: 25 August 2013
NEIL LENNON is under pressure. After Celtic’s shock 2-0 midweek defeat to Shakhter Karagandy from Kazakhstan in a Champions League qualifier, fans of the 125-year-old Glasgow football club are calling for the manager to sign a new striker.
Lennon need not worry too much about the costs of bringing in new talent, however. Celtic have access to lots of cheap money. The club does not have a Russian oligarch or a Gulf sheikh to fall back on, but it does have the Co-operative Bank.
Celtic have loans and overdraft facilities from the Co-op of almost £34m, roughly as much as their wage bill. The interest rate on these loans is only 1.5% — a rate most businesses of a similar size would be delighted to receive. For years, the Co-op bank has stood by Celtic. It’s about history as well as business. It’s no less than one would expect from a bank that has ranked ethics and communities above the profit motive.
The Co-op bank’s business model is changing, however. This week, it will reveal first-half results that are expected to show further write-downs running to hundreds of millions of pounds.
It is now scrambling to raise £1.5bn of new capital to prop up its finances, at the behest of the Bank of England’s Prudential Regulation Authority (PRA).
About £1bn will come from the Co-operative Group, the mutually owned supermarkets-to-funerals parent company. The rest will come from a debt restructuring that will hit thousands of small investors who bought bonds from the bank and see the lender list on the stock exchange by the end of the year.
Niall Booker, a former HSBC executive parachuted in to run the bank, and Euan Sutherland, the new chief executive of the Co-op group, are planning a wholesale restructuring. They have already warned that the bank will stop dealing with larger corporate customers.
Yet it is not quite clear what that means. Will the Co-op continue to offer generous terms to the likes of Celtic? What about the Labour party, which has been kept afloat over the years through Co-op bank loans?
“This whole process has raised some questions about the purpose of the Co-op bank,” said a source close to the mutual. “You can see clear areas where there is a need for an ethical bank to provide services that others will not; basic bank accounts for the financially excluded, for example. It’s less clear why the Co-op should be competing with other banks to offer lower rates on commercial property loans.”
The bank lost a staggering £673m last year. It may not sound much relative to the multibillion-pound losses run up by Royal Bank of Scotland or Lloyds at the peak of the crisis, but the Co-op is a much smaller institution. Last year’s losses equate to about one-third of the Co-op bank’s equity. RBS would have to dive more than £30bn into the red to match the Co-op’s losses.
Based on the size of the problem identified by the PRA, it seems possible that the Co-op bank could admit to new bad debt charges and write-downs of up to £1bn. Yet it may not be quite that bad.
Giles Edwards, a banking analyst at Standard & Poor’s, the credit rating agency, said: “Conceivably, some of the potential losses that have been pencilled in by the PRA may never actually be realised.
“It does not necessarily follow that the losses reported will catch up to the £1.5bn capital shortfall found by the PRA. And even if they do, it could well happen over an extended time frame.”
An analysis of the bank’s official regulatory disclosures confirms that the bulk of its problems lie in property. The Co-op has loaned more than £3.5bn to commercial property investors. Repayments have been missed or other loan terms breached on about 40% of those loans.
These bad loans almost trebled last year. A further £460m was lent to buy-to-let property investors, of which about 25% encountered problems of some kind.
Yet the Co-op has backed an eclectic mix of businesses. Some are not surprising: it has lent more than £1bn to housing associations, for example, plus more than £600m to renewable energy projects and about £280m to the care sector. Most of its loans are standard household mortgages. The bank also lent close to £1.3bn to Private Finance Initiative projects — usually the preserve of international investment banks and pension funds.
At the opposite extreme, it has an exposure of more than £100m to the motor trade, and a total exposure to football clubs of £47.2m, of which £19.2m is potentially bad debts. It has lent £832m to hotels and restaurants, and about 35% of these loans are in trouble of some kind.
“The losses have been found in the commercial real estate book because that’s where the Bank of England decided to look first,” said a senior financier. “They had only got through a detailed analysis of about a quarter of the total loan book when they came up with the £1.5bn figure.
“Co-op has huge exposures to the retail sector, worth about half a billion pounds. I’ll bet that when they get round to looking at that it will be full of struggling small businesses in deserted market towns. Has that been properly marked down?”
Here is where the the Co-op bank hits another dilemma. As a high street lender owned by an ethically minded mutual, it would want to be supportive of struggling small retailers. With the Bank of England breathing down its neck, however, it may have to take a more commercial approach.
Having breached the regulator’s capital rules, it has lost the right to be picky.
The proposed rescue raises similar issues. The bank is forcing some of its debt-holders to exchange their bonds for shares in the new bank. Thousands of small investors who bought securities from Britannia Building Society, which was bought by the Co-op in 2009, will be hit harder in the exchange than hedge funds that have piled into a different class of Co-op bank bonds since the rescue was announced.
They would stand to lose even more, however, if there were no deal on the table. It seems that the Co-op is determined to push ahead with the exchange deal, even if it does upset some grannies along the way.
The Co-op bank has gone to great pains to emphasise that it will retain its ethical identity, even after it has become a publicly listed company. The very rescue itself, however, raises questions about that commitment.