FINANCIAL INSTITUTIONS

ISSUER COMMENT29 April 2016

RATINGS

The Royal Bank of Scotland Group plcLT senior unsecured Ba1

Subordinate Ba2

Junior subordinate Ba3 (hyb)

Additional Tier 1 B1 (hyb)

Short term Non-prime

Outlook Positive

Source: Moody's Investors Service.

Contacts

Daniel Forssen 44-20-7772-1553Associate Analystdaniel.forssen@moodys.com

Andrea Usai 4420-7772-1058Senior Vice Presidentandrea.usai@moodys.com

Laurie Mayers 44-20-7772-5582Associate ManagingDirectorlaurie.mayers@moodys.com

Robert Young 212-553-4122MD-FinancialInstitutionsrobert.young@moodys.com

Alessandro Roccati 44-20-7772-1603Senior Vice Presidentalessandro.roccati@moodys.com

THE ROYAL BANK OF SCOTLAND GROUPPLCQ1 2016 Results: Lower Litigation and Conduct ChargesOffset Weaker Revenues And Higher Credit Costs

SUMMARYAll figures in this report relate to Q1 2016 and comparisons are made to Q1 2015, unlessotherwise indicated.

» In Q1 2016, The Royal Bank of Scotland Group plc (RBS, LT senior unsecuredBa1 Positive) reported a net loss of £968 million from a loss of £459 million ayear earlier. The loss reduces to £31 million when excluding the £1.2 billion paymentto retire the Dividend Access Share (DAS) and the effect of fair value movements onown debt. A widened loss in non-core operations and lower revenues were offset bylower litigation and restructuring charges. These quarterly financials are in line with ourexpectations and have no rating implications. As we have highlighted in recent research,we reflect RBS’s material progress towards restructuring in the positive ratings outlook.However, we expect the group’s profitability to remain depressed in the coming quartersas restructuring and additional conduct and litigation costs are incurred.1

» Results by business line were mixed. Operating profit in the UK Personal & BusinessBanking (UK PBB) was 2.5x higher increasing to £509 million, owing to lower litigationand conduct costs, offsetting a 2% drop in revenues. Commercial Banking (CB) revenuesrose 8% on the back of higher asset volumes and internal business transfers, resultingin an operating profit of £401 million, up 7%. The ongoing significant downsizing ofthe Corporate & Institutional Banking (CIB) division, which if completed as planned willbe credit positive for bondholders, led to a sizeable 36% yearly drop in total revenues.The quarterly loss for CIB narrowed to £20 million from £279 million, owing to lowerlitigation and restructuring costs.

» RBS has made further progress towards its restructuring in Q1. RBS furtherreduced its Capital Resolution legacy asset portfolios by 6% to £50.2 billion (fundedassets) in the quarter. The additional disposals of low-quality assets and the overallreduction in exposure to certain cyclical sectors such as oil and gas (residual exposure£5.2 billion), mining and metals (£1.5 billion) and shipping (£7.1 billion) in the quarter,further reduced the group’s overall asset risk. The non-performing loan ratio declined to3.6% at end-March 2016 from 3.9% at end-2015.2 However, management announceda heightened risk of missing the end-2017 deadline for the separation of Williams andGlyn (W&G, unrated), which could lead to financial fines and/or other punitive actionsfor RBS, higher costs and could underscore the complexity of the overall restructuring.

MOODY'S INVESTORS SERVICE FINANCIAL INSTITUTIONS

This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page onwww.moodys.com for the most updated credit rating action information and rating history.

2 29 April 2016 THE ROYAL BANK OF SCOTLAND GROUP PLC: Q1 2016 Results: Lower Litigation and Conduct Charges Offset Weaker Revenues And Higher CreditCosts

» Regulatory capitalisation was down in the quarter but remains good versus that of peers. The retirement of the DASand the recent payment to reduce the pension deficit, prompted a 90 basis point decrease in the fully-loaded Basel III CommonEquity Tier 1 (CET1) ratio in the quarter, to 14.6%. Whilst the current capital ratio is higher than RBS’s target of more than 13% forend-2016, we expect it to decline as a result of future charges from pending high-profile litigations.

In Q1, RBS accounted for £238 million in restructuring costs, £31 million in additional litigation provisions, bringing the total litigationand conduct reserves to £6.1 billion. Following the £500 million charge in the previous quarter, RBS made no further provisions forPayment Protection Insurance (PPI) in Q1. RBS estimates that the current PPI reserve stock (£911 million at end-March 2016) is sufficientto cover future claims. However, we continue to believe that conduct charges, the pattern of which is unpredictable, could materialiseagain in the coming quarters. We also expect further large top-ups of litigation reserves, as RBS approaches the settlement of high-profile pending litigations.

RBS’s quarterly (reported) divisional performance was mixed in Q1, as shown in Exhibit 1.

Exhibit 1

Results By Business Line Was Mixed in Q1RBS: Quarterly operating profits by business line

Source: RBS’s Q1 2016 Results and Excel data supplement. Results for Private Banking are included in ‘Other’.

Results by main divisions were as follows:

The UK Personal & Business Banking (UK PBB) division, one of the group’s key credit strengths, reported an operating profit of £509million relative to a profit of £201 million. The absence of litigation and conduct charges drove this increase, which more than offset a2% decline in total income and a 3% rise in underlying operating expenses. The gross loan portfolio was up around 1.5% in the quarterto £123.4 billion, mainly as a result of higher mortgage lending.

Ulster Bank (Ulster Bank Ireland Limited, LT deposits Baa3 stable, BCA b2) generated an operating profit of £78 million – from a profitof £83 million a year earlier – due to lower loan impairment releases and a 7% rise in operating expenses which were only partly offsetby a non-recurring gain (EUR28 million) on asset disposals. The business still exhibited a relatively high cost-to-income ratio (70% inQ1 – including part of the one-off gain), partly as a result of the low-yielding tracker mortgage book (EUR11.6 billion), which remainsa drag on its overall performance.

RBS’s Commercial Banking (CB) division, another key business for RBS, which has a strong market share in the UK, reported an operatingprofit of £401 million, up 7% on the year. Total income was up 8% to £853 million, reflecting higher asset volumes as well as the impactof business transfers. CB's gross loan book increased by £5.5 billion during the quarter to £97.5 billion. We note that growth in the CBbook was 4.3%, much higher than the market at 2.4%.

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3 29 April 2016 THE ROYAL BANK OF SCOTLAND GROUP PLC: Q1 2016 Results: Lower Litigation and Conduct Charges Offset Weaker Revenues And Higher CreditCosts

The Corporate & Institutional Banking (CIB) division reported an operating loss of £20 million, compared with a loss of £279 million.Lower litigation and restructuring costs offset a 36% decline in revenues as a result of the ongoing restructuring and reduced marketactivity. At product level, declines in Rates (-49%) and Financing (-68%) overshadowed an improved Currency performance (+60%). RBScontinues to downsize its capital markets business, which is credit positive for RBS’s bondholders because these activities carry earningsvolatility and tail risk. Despite this reduction, however, the group remains fully committed to certain product lines – FX, Rates, DCM,Structured Finance and Loans – that it deems important to support its corporate client base.

Progress on the ongoing restructuring continued in Q1 but Williams & Glyn separation could be delayedRBS made further progress on its restructuring initiatives in the first quarter of 2016. Funded assets in RBS’s non-core unit CapitalResolution declined by £3.2 billion to £50.2 billion; the corresponding reduction in RWAs was 3% to £47.6 billion. The disposal of poor-quality assets has contributed to a large decline in the group’s overall non-performing ratio to 3.6% at end-March 2016, from 3.9% atend- 2015 and 6.8% at end-2014. In addition, adjusted operating expenses were down 7%, which management believes it is on track toachieve the targeted £800 million cost reduction in 2016. Management has also reiterated its targeted reduction in Capital Resolution’sRWAs to £30 billion by end-2016, which we consider achievable. However, we note that the pace of quarterly reduction slowed downcompared to recent periods, which we believe was due to challenging market conditions.

However, RBS has said that the end-2017 deadline agreed with the European Commission (EC) for the divestment of Williams & Glyn(W&G, unrated) could be missed. This could ultimately have an adverse impact on the business and increase the costs associated withthe W&G separation. RBS currently employs around 6,000 full time staff on the W&G project, with an estimated annual cost of around£630 million per year. Total costs incurred to December 2015 amounted to £1.2 billion.

Capital ratios reduced in the quarter but remain well positioned compared to peersRBS’s capital position is currently one of the strongest among domestic and global peers, with a CET1 ratio of 14.6% at end-March2016 (Exhibit 2). While we consider the group's overall restructuring plans to be realistic, we continue to believe that RBS's capital ratioscould experience some volatility in the coming quarters while the plan is executed, and other expenses, such as litigation, restructuringcosts and other regulatory fines, continue to be incurred. This is despite the recent large improvement in the group’s regulatory capitalbase resulting from the ongoing deleveraging.

RBS’s CET1 ratio fell by 90 basis points in the quarter to 14.6%, which was driven by the payment related to the DAS retirement, therecent payment to reduce its pension deficit and a slight rise in risk-weighted assets due to new lending.

Exhibit 2CET1 ratios for Global Investment Banks, as at end-March 2016

(*): figures as at Q4 2015. (**) as per Swiss capital regime.Source: Banks’ investor presentations.

RBS targets a CET1 ratio of more than 13% by 2016, after the settlement of large pending litigations and the remaining budgetedrestructuring costs (above £1 billion), of which £800 million more will likely be accounted for in 2016. We consider these targets as

MOODY'S INVESTORS SERVICE FINANCIAL INSTITUTIONS

4 29 April 2016 THE ROYAL BANK OF SCOTLAND GROUP PLC: Q1 2016 Results: Lower Litigation and Conduct Charges Offset Weaker Revenues And Higher CreditCosts

achievable and recognise the proven track record of the group’s restructuring, which we expect to continue as planned in the absenceof major headwinds.

The retirement of the Dividend Access Share and increased leverage exposures resulted in a fall in RBS’s leverage ratio of 30 basis points inthe quarter to 5.3%. This is well above the current 3% minimum level that the UK Prudential Regulatory Authority (PRA) currently requires.

Ratings ConsiderationsWe rate RBS's long-term debt rating Ba1 and the supported long-term deposit and senior unsecured ratings of its main operating entity,The Royal Bank of Scotland plc, A3. The ratings outlook is positive, reflecting the substantial progress the firm has made in its restructuringplan and our expectation that its credit fundamentals will continue to improve over the next 12-18 months.

MOODY'S INVESTORS SERVICE FINANCIAL INSTITUTIONS

5 29 April 2016 THE ROYAL BANK OF SCOTLAND GROUP PLC: Q1 2016 Results: Lower Litigation and Conduct Charges Offset Weaker Revenues And Higher CreditCosts

Moody's Related ResearchCredit Opinions:

» The Royal Bank of Scotland Group

» Ulster Bank

» Ulster Bank Ireland

Special Reports:

» Dividend Access Share Retirement Weakens RBS’s Capitalisation But Is Evidence of Further Progress On Restructuring

» Q4 2015 Results: Significant Charges Drive A Large Quarterly Loss But Restructuring Continues to Progress

» RBS Announces Various Large Charges, a Credit Negative

» Large Charges Highlight Ongoing Restructuring Challenges

» Substantial Restructuring Progress Underpins Our Positive Outlook

» RBS’s Plan to Shrink CIB Will Make the Group Less Risky, but Is Costly and Complex

» RBS Sells Its Residual Stake in Citizens, a Credit Positive for Both Banks

Company Profiles:

» The Royal Bank of Scotland Group

» Ulster Bank

» Ulster Bank Ireland

To access any of these reports, click on the entry above. Note that these references are current as of the date of publication of thisreport and that more recent reports may be available. All research may not be available to all clients.

MOODY'S INVESTORS SERVICE FINANCIAL INSTITUTIONS

6 29 April 2016 THE ROYAL BANK OF SCOTLAND GROUP PLC: Q1 2016 Results: Lower Litigation and Conduct Charges Offset Weaker Revenues And Higher CreditCosts

Endnotes1 Please see our Issuer In-depth report ‘The Royal Bank of Scotland Group plc: Substantial Restructuring Progress Underpins Our Positive Outlook',

published on 11 January 2016.

2 RBS’s internal definition or Risk Element In Lending.

MOODY'S INVESTORS SERVICE FINANCIAL INSTITUTIONS

7 29 April 2016 THE ROYAL BANK OF SCOTLAND GROUP PLC: Q1 2016 Results: Lower Litigation and Conduct Charges Offset Weaker Revenues And Higher CreditCosts

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8 29 April 2016 THE ROYAL BANK OF SCOTLAND GROUP PLC: Q1 2016 Results: Lower Litigation and Conduct Charges Offset Weaker Revenues And Higher CreditCosts

Contacts

Daniel Forssen 44-20-7772-1553Associate Analystdaniel.forssen@moodys.com

Andrea Usai 4420-7772-1058Senior Vice Presidentandrea.usai@moodys.com

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