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Summary Report of the Skilled Person on the Proposed Ring-fence Transfer Scheme of Lloyds Banking Group

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Prepared by Michael John Lloyd FCA, FCT

24 November 2017

________________________

Michael John Lloyd FCA, FCT


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Table of Contents

Section Page

1. Introduction 3

2. Overall conclusions 4

3. Background to ring-fencing 7

4. My role as the Skilled Person 8

5. Purpose and overview of the Scheme 9

6. LBG’s approach to ring-fencing 11

7. Implications for Retail Banking customers 14

8. Implications for Consumer Finance customers 14

9. Implications for Commercial Banking customers 16

10. Implications for Other Relevant Persons 34

11. Capital, liquidity and funding 39

12. Governance and risk management 41

13. Operational continuity arrangements 42

14. Recovery and resolution planning 43

15. Information technology and payment implications 44

16. Taxation implications 45

17. Pension arrangements 46

18. Communication approach 47

19. Process to lodge objections to the Scheme 48

Appendix: Glossary 50


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1. Introduction

1.1 I have been appointed as the independent skilled person (“Skilled Person”) to provide the required Scheme Report on the proposed Ring-fencing Transfer Scheme (“RFTS”) to transfer business from Lloyds Bank plc (“LB plc”) and Bank of Scotland plc (“BoS plc”), together known as the “Transferors”, to Lloyds Bank Corporate Markets plc (“LBCM” or the “Transferee”), (the “Scheme”). I have been appointed by LB plc and my appointment has been approved by the Prudential Regulation Authority (“PRA”), following consultation with the Financial Conduct Authority (“FCA”). In this summary report, I will refer to Lloyds Banking Group plc as “LBG plc" and to LBG plc and its subsidiaries, subsidiary undertakings and their associated entities and businesses, together as “LBG”.

1.2 The purpose of this document is to provide customers of LBG, and persons other than the Transferors who may be adversely affected by the Scheme (“Other Relevant Persons”), with a summarised version of my Scheme Report (the “Summary Report”). In particular, it summarises my conclusions on the statutory question (“Statutory Question”) specified in Section 109(A) of the Financial Services and Markets Act 2000 (“FSMA”) as to “(a) whether persons other than the transferor concerned are likely to be adversely affected by the scheme, and (b) if so, whether the adverse effect is likely to be greater than is reasonably necessary in order to achieve whichever of the purposes mentioned in Section 106B(3) is relevant”.

1.3 This is intended to be a standalone summary of my report, but customers and Other Relevant Persons may wish to read my full Scheme Report, which provides more details of the Scheme and its effect on them, and contains a more comprehensive explanation of my conclusions. Section 1 of my full Scheme Report provides details of the scope, my independence, and why I believe that my work has been prepared in line with the relevant regulatory and professional guidance. The information in that section applies equally to this Summary Report. The full version of my Scheme Report can be obtained online at http://www.lloydsbankinggroup.com/our-group/ring-fencing.

Limitations of the work performed

1.4 In performing my review and preparing this Summary Report, and my full Scheme Report, I have relied on data and other information provided to me, both written and verbally, by directors and employees of LBG. I have reviewed the data and information for consistency and reasonableness using my knowledge of the United Kingdom (“UK”) banking industry and asked LBG to explain, confirm and/or clarify aspects of the data and information, where I considered necessary. The data and information have not been subject to independent audit verification by Deloitte LLP (“Deloitte”) or me. All of my questions have been answered to my satisfaction. To the extent that any information on which I have relied, in both this Summary Report and in my full Scheme Report, is subsequently identified to be inaccurate, it may be necessary for me to revise my conclusions.

1.5 I note that the economic position of LBG on the date on which the Scheme becomes effective, currently proposed as 28 May 2018 (the “Effective Date”), cannot be predicted with certainty at this time and may therefore differ from that shown in this Summary Report and in my full Scheme Report. I will continue to keep the position under review in the period leading up to the Sanction Hearing, and will prepare further information in my Supplementary Report to my full Scheme Report, if required.

1.6 Financial information, data and written information on which I have relied is listed in Appendix 2 of my full Scheme Report.

1.7 In preparing both this Summary Report and my full Scheme Report, I have had access to confidential information. Confidential information includes data, such as financial forecasts, capital projections and internal risk limits, which is not in the public domain. I have considered all confidential information with which I have been provided, but in some instances I have not


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included in this Summary Report, or my full Scheme Report, such information that has led to my conclusions for reasons of confidentiality.

Limitations on the use of this Summary Report

1.8 No liability is accepted to any person other than LBG except in so far as any liability arises to the Court from the giving of evidence in my role as the Skilled Person.

1.9 For the avoidance of doubt, Deloitte and I have excluded liability to avoid us having potential liability to an unlimited number of people. Without this exclusion, neither Deloitte nor I would be able to do this work. If you are concerned with the content of this Summary Report, my full Scheme Report or any part of my analysis, you should take urgent advice and, if you wish to raise an objection with the Court in connection with the effect of the Scheme upon you, raise the matter with the Court under one of the procedures set out on the LBG ring-fencing microsite: http://www.lloydsbankinggroup.com/our-group/ring-fencing or otherwise by contacting your usual contact within LBG.

1.10 A copy of this Summary Report, and my full Scheme Report, will be made available to customers of LBG or to any other potentially affected persons as part of the communications process LBG will carry out to bring the Scheme to the attention of such persons, whether by way of being published on the websites of LBG companies or entities, posted to such persons, made available for inspection at the offices of those companies’ or entities’ solicitors or by any other method. This Summary Report will be made available by LBG to its shareholders, customers, policyholders or others with an interest in the Scheme. No other summary of my full Scheme Report may be made without the prior written consent of Deloitte and/or me.

1.11 The Directions Hearing is expected to take place on 4 December 2017, with the final hearing for the Court to decide whether to sanction the Scheme currently scheduled for 27 March 2018. The Scheme will be submitted to the Court for sanction under Part VII of the FSMA. If approved, it is expected that the Scheme will become operative and take effect on the Effective Date. I will continue to assess the impact of the Scheme in the run up to the Scheme’s submission to the Court and, in order to reflect any updated financial information or circumstances nearer to the date of the Sanction Hearing, I will provide a Supplementary Report to my full Scheme Report, if required, setting out any updated opinions in respect of the Scheme.

2. Overall conclusions

2.1 As outlined in paragraph 4.2 of this Summary Report, in assessing the likely effects of the Scheme, I have considered separately the following groups of persons:

• Current customers with products transferring from either of the Transferors to the Transferee under, or whose products are being duplicated pursuant to, the Scheme (“Transferring Customers”);

• Current customers of the Transferors with products that are not transferring under the Scheme (“Non-Transferring Customers”); and

• Other Relevant Persons who are not customers of the Transferors, but who may be directly or indirectly affected by the Scheme, as listed in paragraph 10.5 of this Summary Report.

2.2 In the remainder of this overall conclusion section of my Summary Report I have provided a high-level summary of the likely effects of the Scheme on these groups of persons.


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2.3 I have also considered a number of additional areas that may be relevant to multiple groups of customers and Other Relevant Persons. This analysis looks at the effect of the Scheme on the relevant entities before and after the changes with regards to the following areas:

(a) where I am satisfied that no material adverse effect is likely:

• Capital, liquidity and funding positions of LBG and certain other legal entities;

• Governance and risk management arrangements for LBG plc, the Transferors and LBCM;

• Operational continuity;

• Information technology and payment implications;

• Tax implications; and

• Pension arrangements.

(b) where I have identified a material adverse effect is likely, but am satisfied that the effect is no greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA:

• Recovery and resolution planning.

2.4 For further information on each of the areas considered in paragraph 2.3, refer to the respective sections of this Summary Report, or the respective sections of my full Scheme Report.

Transferring Customers

2.5 Transferring Customers are made up of a portion of the customers of the Commercial Banking division of LBG. LBG’s decision to implement a wide RFBs and narrow NRFB model (as outlined in Section 5 of this Summary Report) will result in the majority of the products and services offered to Commercial Banking customers remaining unchanged and residing within the Transferors. However, approximately 4,0001 customer legal entities (which represents approximately 1.4% of the total number of customer entities in Commercial Banking) will have products transferred under or duplicated pursuant to the Scheme.

2.6 There may be certain customers of LBG (approximately 255 customers across all divisions in LBG) that may have their products curtailed; however, this will not be as a result of the Scheme, which the Court is being asked to sanction, but will be as a consequence of complying with the broader Ring-fencing Regime.

2.7 I have identified a number of potential adverse effects on Transferring Customers as a result of the Scheme, however, where the Scheme will have an adverse effect on Transferring Customers, I am satisfied that the effect is no greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

2.8 For further information of the identified adverse effects on Transferring Customers, refer to Section 9 of this Summary Report, or Section 6 of my full Scheme Report.

1 The customer numbers are based on LBG’s best estimate of the customers that would have their products transferred under, or duplicated pursuant to the Scheme but do not account for (a) multiple fund entities within a customer group that may, or have the option to, participate within lending facilities where LBG data recognises only a single entity as the principal borrower; and (b) approximately 255 customers (across all divisions in LBG) whose products may be curtailed by LBG, but for avoidance of doubt will receive appropriate communications as per the First Witness Statement of Mark George Culmer.


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Non-Transferring Customers

Commercial Banking customers

2.9 It is estimated by LBG that the majority of Commercial Banking customers (more than 98% of the total customer entities) will not have any products transferred under the Scheme. This includes customers of non-European Economic Area (“non-EEA”) entities which may be transferring products, but not via the Scheme.

2.10 For those non-transferring Commercial Banking customers, I am satisfied that they will not experience any adverse effect as a result of the Scheme. In particular, for these customers, I have not identified:

• Changes to the terms and conditions of the existing Commercial Banking products (for example, the economic terms will remain unchanged); and

• Significant changes to the way those customers will interact with LBG or the quality of the service provided. For example, the coverage of these customers by their Relationship

Manager (“RM”) and by product specialists will remain unchanged.

2.11 For further information on non-transferring Commercial Banking customers, refer to Section 9 of this Summary Report, or Section 6 of my full Scheme Report.

Retail Banking, Consumer Finance sub-division and Insurance Sub-group customers

2.12 I have not identified any likely adverse effects of the Scheme on customers of the Retail Banking division and Consumer Finance sub-division2. In particular, I have not identified any material changes to the:

• Terms and conditions of the existing products and services offered to these customers;

• Level of protection afforded by the Financial Services Compensation Scheme (“FSCS”); and

• Manner in which customers will interact with LBG or the quality of the service provided.

2.13 For further information on Retail Banking customers, refer to Section 7 of this Summary Report, or Section 7 of my full Scheme Report, and for further information on Consumer Finance customers refer to Section 8 of this Summary Report, or Section 8 of my full Scheme Report.

2.14 The policies held by customers of the Insurance Sub-group are not transferring under the Scheme. Given this, I do not believe that the Scheme would change the level of benefits that customers would expect to receive, the division’s regulatory capital requirements, risk appetite framework and the applicability of the FSCS to the business in the division and therefore I am satisfied that there are not likely to be any adverse effects of the Scheme on the customers of the Insurance Sub-group.

Other Relevant Persons

2.15 Of the Other Relevant Persons listed in paragraph 10.5 of this Summary Report, I have identified: certain groups of persons connected with customers (as identified in paragraph 10.36); LBG plc, the RFB Sub-group and the NRFB Sub-group; and regulatory authorities, namely the PRA and the FCA, as having a likely adverse effect. However, based on my analysis and the information provided to me, I am satisfied that the adverse effects identified are not greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA. For further information on Other Relevant Persons, refer to Section 10 of this Summary Report, or Section 9 of my full Scheme Report.

2 The Consumer Finance sub-division is, for the purpose of this Summary Report and my full Scheme Report, taken to include a number of smaller sub-divisions of the Retail division. More detail is set out in paragraph 8.1 of this Summary Report.


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Overall conclusion

2.16 For the reasons set out in the remainder of this Summary Report (and in more detail in my full Scheme Report), I am satisfied that either: (a) the Scheme is not likely to adversely affect any persons other than the Transferors or; (b), where the Scheme is likely to have an adverse effect, that the effect is no greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

2.17 The rest of this Summary Report provides a high level overview of and rational for my conclusions. For further detail please refer to my full Scheme Report.

2.18 Within this Summary Report, and in my full Scheme Report, I highlight several matters that I will keep under review until the date of the Sanctions Hearing and I will draw any significant developments or changes that are relevant to my conclusions to the attention of the Court in a Supplementary Report, if required.

3. Background to ring-fencing

3.1 In response to the financial crisis, which started in 2007, the UK Government commissioned Sir John Vickers to consider structural and other reforms to the UK banking sector to improve the resilience and resolvability of banks, as well as to promote financial stability and competition. The Independent Commission on Banking (“ICB”) reported in September 2011 and recommended that banks with retail and small and medium sized enterprise deposits be required to ring-fence their retail and business banking from more complex banking, such as wholesale and investment banking. The UK Government determined that only banks with core deposits over £25bn would be required to implement a ring-fence.

3.2 The Financial Services (Banking Reform) Act 2013 (the “Banking Reform Act”) implemented the recommendations of the ICB and the key recommendations of the Parliamentary Commission on Banking Standards (“PCBS”), which reviewed the professional standards and culture in the banking industry.

3.3 The intention of ring-fencing is to protect retail banking from risks unrelated to the provision of retail banking services and to help ensure that banking groups can be resolved in an orderly manner, thereby avoiding taxpayer liability, minimising the risk of loss to retail customers and maintaining the continuous provision of necessary retail banking services.

3.4 The Excluded Activities and Prohibitions Order 2014 (“EAPO”) and Sections 142D and 142E of the FSMA set out restrictions that are classified as excluded activities and prohibitions. These excluded activities and prohibitions together are termed the “Perimeter Rules”, as they classify what activities can and cannot be conducted by the RFB after 1 January 2019 (the “Statutory Deadline”).

3.5 In very broad terms, and subject to certain exceptions, the Perimeter Rules outline that:

• RFBs must hold the deposits of retail and Small and Medium Sized Enterprises (“SME”) customers within its group; and

• RFBs must not carry on dealings in investments as principal, deal in commodities as principal, incur exposures to Relevant Financial Institutions (“RFI”)3, access payment systems indirectly or have non-EEA branches, subsidiaries or participating interests.

For activities that are not mandated for RFBs, or prohibited/excluded within RFBs, the RFBs have an element of discretion as to whether to carry on such activities.

3 RFIs as defined in Article 2 of the EAPO.


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Please refer to Section 3 in my full Scheme Report for a more detailed overview of what ring-fencing means for RFBs.

4. My role as the Skilled Person

4.1 Section 109A of the FSMA requires that an application to the Court to effect a scheme is accompanied by a Scheme Report from an appropriately Skilled Person. Both the nomination of that Skilled Person and the form of the Scheme Report must be approved by the PRA, having consulted with the FCA, in accordance with the requirement of Section 3.2 of the PRA Policy Statement. This Summary Report is the summary of my Scheme Report, which is the Scheme Report for LBG’s RFTS, and my nomination as Skilled Person has been approved by the PRA, in consultation with the FCA.

4.2 The purpose of my Scheme Report is to assist the Court in reaching a decision as to whether to sanction the Scheme and, in particular, to address the Statutory Question. The Statutory Question requires me to consider the potential effects of the Scheme on all persons other than the transferor(s). In assessing the likely effects of the Scheme, I have considered separately the following groups of persons:

• Transferring Customers: Current customers with products transferring from either of the Transferors to the Transferee under, or whose products are being duplicated pursuant to, the Scheme. Transferring Customers are made up of a portion of the customers of the Commercial Banking division of LBG;

• Non-Transferring Customers: Current customers of the Transferors with products that are not transferring under the Scheme. Non-Transferring Customers are made up of all customers of the Retail Banking division and the Consumer Finance sub-division of LBG and a portion of the customers of the Commercial Banking division of LBG; and

• Other Relevant Persons: Other persons who are not customers of the Transferors, but who may be directly or indirectly affected by the Scheme.

4.3 The Statutory Question is framed by reference to the effect of the Scheme itself on potentially affected persons. However, LBG has been carrying out a large programme of activities, including wider group restructuring, to support compliance with the Banking Reform Act, associated statutory instruments and regulatory rules and guidance, together the “Ring-fencing Regime”. The effect of the Scheme will depend, to an extent, on these wider group restructuring activities. Given the potential interdependencies of the effects of the Scheme with the wider group restructuring activities of LBG, I did not consider it appropriate to limit my analysis solely to the effect of the Scheme in isolation. For example, where part of the wider group restructuring is not directly affected by the Scheme, but has a potential effect on the ongoing viability of a legal entity to which business is being transferred under the Scheme, I considered this aspect within the scope of my Scheme Report.

4.4 In this Summary Report, and my Scheme Report, I have adopted a broad approach to my analysis and my consideration of whether an effect is material from the perspective of the affected person rather than from the perspective of LBG. I have also considered the effect ‘net’ of any mitigants that LBG has applied or the affected persons could reasonably be expected to apply themselves.

4.5 Section 4 of my full Scheme Report provides further details of my approach to the Statutory Question.

4.6 My assessment of the Scheme has focused on its effects, implications and impacts on the following:

• Retail Banking customers;

• Consumer Finance customers;


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• Commercial Banking customers;

• Other Relevant Persons (including customers of the Insurance Sub-group);

• Capital, liquidity and funding;

• Governance and risk management;

• Operational continuity arrangements;

• Recovery and resolution planning;

• Information technology and payments;

• Taxation; and

• Pensions arrangements.

5. Purpose and overview of the Scheme

5.1 The main purpose of the Scheme is to enable LBG, which will include Ring-fenced Bodies (“RFBs"), to restructure its businesses to comply with the Ring-fencing Regime by the Statutory Deadline, as well as to achieve the regulatory objectives to improve the resilience and resolvability of LBG and promote financial stability.

5.2 LBG intends to conduct a single scheme rather than multiple schemes to enable transfer of assets, liabilities and customers from the Transferors to the Transferee, LBCM. If it is approved by the Court, in broad terms the Scheme will transfer from the Transferors to the Transferee:

• Derivatives business which cannot be conducted within the Transferors (subject in some cases to permitted exceptions such as for own risk management) and some non-complex customer derivatives business (which may be conducted within the Transferors but which has been selected for transfer in any case, for example, to ensure consistency of treatment for groups of customers, with treatment depending on customer categorisation). Special rules (including in some cases the offer by LBG of optionality to clients) apply to derivatives entered into prior to 1 January 2019, that mature prior to 1 January 2021, and which are therefore eligible to benefit from the transitional (or “Grandfathering”4) provisions for such trades permitting the RFB to retain or sell investments after the Statutory Deadline;

• Certain loan and liquidity facilities (and certain sub-participations entered into in connection with such facilities) that involve an exposure to an RFI or that the relevant Transferor would be prohibited from holding under the EAPO5;

• Liquidity facilities provided by the Transferors to RFIs to support the credit ratings of transferrable securities;

• Trade finance instruments where the customer that grants the counter-indemnity, or is subject to the reimbursement obligations in favour of the Transferor, is an RFI, and the corresponding counter-indemnity or reimbursement obligations themselves;

• Receivable Purchase Arrangements which create a prohibited exposure to an RFI; and

• Certain other assets and liabilities, such as guarantees, security, data, claims, receivables and other rights attributable to the Transferring Business.

5.3 If sanctioned by the Court, it is expected that the Scheme will become effective on the Effective Date and the Transferring Business will transfer from the Transferors to LBCM on that date. The Scheme also provides for certain assets and liabilities that form part of the transferred business (the “Residual Assets” and the “Residual Liabilities”) to be transferred after the

4 Article 21 of the EAPO. 5 The EAPO and Sections 142D and 142E of the FSMA set out restrictions that are classified as excluded activities and prohibitions. These excluded activities and prohibitions together are termed the “Perimeter Rules”, as they classify what activities can and cannot be conducted by the RFB after the Statutory Deadline.


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Effective Date, if there is any reason for which the transfer of those Residual Assets or Residual Liabilities needs to be delayed, but provided such assets and liabilities will be automatically transferred on 31 December 2018 to LBCM, if required for the Transferors to be compliant with the EAPO prior to the Statutory Deadline.

5.4 The precise asset and liability values to be transferred via the Scheme will be subject to change up until the point the Scheme is effected. Table 1 shows indicative values of assets and liabilities to be transferred via the Scheme based on LBG’s forecasted transfer values at the point of transfer on the Effective Date.

Table 1: RFTS transfers6

Assets £bn

Loans and Advances to Customers 6.0

Loans and Advances to Banks 0.0

Collateral Posted 5.2

Other Customer Assets (Derivatives) 13.5

Total Assets 24.7

Liabilities £bn

Collateral Received 3.7

Other Customer Liabilities (Derivatives) 12.9

Total Liabilities 16.6

5.5 In addition to the Scheme, LBG will implement a group-wide reorganisation in order to put in place a legal entity structure that is compliant with other requirements of the Ring-fencing Regime prior to the Statutory Deadline (the “Reorganisation”). This Reorganisation will be carried out both before and after the Effective Date of the Scheme. An overview of the target structure of LBG is illustrated in Diagram 1.

6 The table herein has been extracted from the First Witness Statement of Mark George Culmer and shows only those assets and liabilities that are expected to transfer via the Scheme and not the full balance sheet of LBCM at the point of transfer on the Effective Date.


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Diagram 1: Overview of the target structure

LLOYDS BANKING GROUP PLC

RFB SUB-GROUP

Key legal entities

• Lloyds Bank plc and Bank of Scotland plc

• EEA branches/subsidiaries which carry out permitted activities

Key assets/products

• All mandated activities (core services/activities)

• Vast majority of deposit taking (not just individuals and Small and Medium Sized

Enterprises (“SMEs”))• Permitted products –

assets/products which: (i) are not captured by prohibitions or excluded activities; and (ii) fall into the exemptions to prohibitions or excluded activities

NRFB SUB-GROUP

Key legal entities

• Lloyds Bank Corporate Markets plc

Non – EEA entities:• The United States • Singapore • Crown Dependencies

Key assets/products

• All excluded/prohibited banking activities

• Products that Transferors choose not to provide (even though Transferors are not prevented from offering these under the Ring-fencing Regime)

• Term deposits for Global Corporates (“GC”) and Financial Institutions (“FI”) which are also offered by Transferors (the client has the choice of which entity to use)

INSURANCE SUB-GROUP

Key legal entities

• Scottish Widows Group Limited and its relevant subsidiaries

Key assets/products

• Insurance business

EQUITY INVESTMENTS SUB-GROUP

Key legal entities

• Lloyds Development Capital (Holdings) Limited and its subsidiaries

• The Housing Growth Partnership group

• Uberior Investments Limited and its subsidiaries

• Other strategic minority interests, including Banco de Sabadell and Standard Life Aberdeen

Key assets/products

• All excluded/prohibited equity investment activities

5.6 All costs and expenses incurred by LBG in preparing and implementing the Scheme (including the cost of the Skilled Person) will be borne by LBG.

5.7 Subject to the limitations in LBG’s Scheme Document, LBG will also make payments of “Reimbursed Amounts” to its customers who suffer costs as a result of the Scheme for a period of up to seven months following the Relevant Date in certain circumstances, further information on which is set out in my full Scheme Report and in LBG’s Scheme Document.

6. LBG’s approach to ring-fencing

6.1 LBG evaluated three possible high-level ring-fencing design structures that it believed would achieve compliance with the Ring-fencing Regime:

• Wide RFBs and narrow Non Ring-fenced Body (“NRFB”) model: under this model, as many products and services would be kept inside the RFBs as is permissible under the Ring-fencing Regime;

• RFBs only Group: this would seek to create the widest RFBs possible, with any prohibited business that could not be accommodated within them either to be exited, unwound or allowed to run-off. As part of this option, LBG considered whether it could enter into a partnership with other banks and institutions to provide prohibited products, thereby allowing customers to continue to have access to these products; and

• Narrow RFBs and wide NRFB model: this option would create narrower RFBs, with all transactions with large Global Corporates (“GC”) (with a turnover exceeding £500m), services to Financial Institutions (“FI”) and other wholesale lending business in the NRFB.

6.2 Through my review of the information provided to me by LBG it was evident that the following high-level design principles underpinned the choice of ring-fencing structure:


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• Compliance with the requirements of the legislation: as I would expect, the choice of ring-fencing structure has been shaped by the requirements of the Ring-fencing Regime and, particularly, the activities prohibited under the EAPO;

• The expected effect on customers: the information provided includes clear consideration of the expected effect on customers of the various options available; and

• The commercial and strategic implications of the structure: the information provided includes consideration of how the ring-fencing options align with LBG’s business model, as a UK-focused, retail and commercial bank. The information also considers the commercial viability of the resultant structure and, as part of this, the likely credit ratings of the various entities after the restructure.

6.3 The Board of LBG plc concluded that the wide RFBs and narrow NRFB model was the optimal option, as it is expected to minimise the strategic, operational, business and legal disruption to LBG’s customers while complying with the regulatory requirements. In reaching this decision, LBG considered the consistency of the various options with their high level design principles, as well as detailed analysis on the likely commercial and operational effects of each of the options considered.

6.4 The wide RFBs and narrow NRFB model was viewed by LBG as minimising disruption to customers, as it allows the Scheme to be structured in such a way to minimise the number of customers who are transferred, whilst the narrow RFBs and wide NRFB model would result in a large proportion of customers transferring, and the RFBs only Group model would have resulted in customers with prohibited products and services no longer having access to these from within LBG. LBG’s analysis notes that providing customers with a consistent customer proposition was a factor in the choice of decision. As part of this, customers of both the NRFB and the RFBs will have a single RM, who will be able to source products from across both the RFBs and the NRFB. Such a service model would have been more challenging or impractical under the RFBs only Group approach.

6.5 The majority of the product types that will be transferred are required to be transferred by the Ring-fencing Regime. This is in line with LBG’s high-level choice of wide RFBs and narrow NRFB model. The main discretion exercised by LBG relates to the exceptions to this rule, which reflect strategic decisions made by LBG to transfer Permitted Derivatives traded by GC7 and FI customers and certain foreign exchange rate products. While the individual products themselves are not prohibited, the Permitted Derivative instruments are being transferred under the Scheme to achieve compliance with the Relevant Risk Requirement Limit (“RRR Limit”) set out in the EAPO. Note that the foreign exchange rate products transferring to LBCM are a mixture of permitted and prohibited derivative instruments that LBG would typically expect to be held by customers to help manage their risk exposures. Retaining all of these in the Transferors could lead to some customers having their products split across two banks.

6.6 The EAPO sets out quantitative limits for the Relevant Risk Requirement (“RRR”) which is a measure of the market risk capital requirement for the relevant positions. This acts as a constraint on the level of derivative activity within the RFBs.

6.7 In theory, in the absence of the RRR Limit, all Permitted Derivatives transacted with non-RFI customer entities in the five Commercial Banking segments (SME, Mid-Markets (“MM”), GC, FI and Client Asset Management (“CAM”)) could remain in the Transferors. However, if the Transferors were to do so, the analysis performed by LBG suggests that the RRR Limit would be breached by several times the regulatory limit. This would prevent the Transferors from complying with applicable regulations and, therefore, necessitates the transfer of some Permitted Derivatives to LBCM, with LBG proposing to transfer all derivatives (subject to application of the Grandfathering rules) held by customers in the FI segments and all derivatives held by customers in the GC (excluding CRE Private Group) segment with a maturity date after

7 Excludes Commercial Real Estate Private Group (“CRE Private Group”) customers belonging to the GC segment as they will be treated like MM customers from a transferring derivatives perspective (for example, Permitted Derivatives will not transfer subject to certain optionality).


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31 December 2020, and subject, in each case, to the application of optionality granted to these customers in respect of any short-dated derivatives.

6.8 As a result, LBG has decided to transfer to LBCM all the derivatives held by customers in the FI segments and those held by customers in the GC segment (excluding CRE Private Group) with a maturity date after 31 December 2020. LBG has further decided to keep in the Transferors all Permitted Derivatives transacted with non-RFI entities of the SME, MM, CRE Private Group and CAM segments and short-dated derivatives held by customers in the GC segment, subject to offering an option on Grandfathering or otherwise transferring certain transactions. This allows the Transferors to meet the RRR Limit requirements and provides room for future derivatives activity of non-RFI entities for SME, MM, CRE Private Group and CAM customers.

6.9 LBG considered the consistency of the various ring-fencing approaches with its strategy. As a UK-focused, mainly retail bank, LBG’s opinion was that a narrow RFBs and wide NRFB model would be inconsistent with that strategy. Further, the choice of a wide RFBs and narrow NRFB model is expected to result in less disruption to customers than would be the case for the RFBs only model or the narrow RFBs and wide NRFB model, which is in line with the stated strategy of being the “Best Bank for Customers”.

6.10 The credit rating of LBCM is an important factor for customers and Other Relevant Persons that will have exposure to LBCM and has an effect on the commercial viability of LBCM. LBG believes the choice of a wide RFBs and narrow NRFB model is more likely to lead to the target credit ratings being achieved than a wider NRFB. While there remains uncertainty on the final credit ratings of LBCM, two of the main credit rating agencies provided preliminary or expected ratings on 17 July 2017, with Standard & Poor’s (“S&P”) and Fitch rating LBCM as “A-” and “A” respectively. Moody’s provisional rating for LBCM of “A2” was published on 7 November 2017.

6.11 LBG also considered the expected operational implications of the choice of ring-fencing approach. Following the Effective Date, LBG will be providing products and services from a new bank, namely LBCM. In order to limit the duplication of infrastructure and functions that would occur if LBCM was to provide these products and services by relying only on services, infrastructure and functions that it owns directly, LBG is intending to adopt a Shared Service Model (“SSM”). Under the SSM, the critical infrastructure and functions for service provisions are held within the Transferors, which will then provide these services to LBCM (as well as the Insurance Sub-group and Equity Investments Sub-group). This reflects LBG’s desire to avoid unnecessary duplication of systems and services, which would otherwise increase the one-off and ongoing cost of the changes. It also reduces the risk of the RFBs and NRFB competing for business.

6.12 I note that a wide RFBs and narrow NRFB model leads to a dependence on the Transferors by LBCM, which could lead to challenges in the viability of LBCM as a stand-alone bank should the Transferors fail. I also note that the overall approach to ring-fencing, and particularly the relative size of the Transferors, the heavy alignment to LBG and that the Transferors will provide the critical services, could potentially lead to governance challenges, as it could be difficult to split the interests of the Transferors and LBCM. I consider this in further detail in Section 11 of my full Scheme Report, but note that LBCM will have its own governance framework, which will be led by the LBCM Board.

6.13 Overall, I am satisfied that the choice of ring-fencing structure, by minimising adverse effects on customers to a relatively small cohort of customers, is consistent with LBG’s high-level design principles. This choice has been supported by the consideration of a wide range of possible alternative structures and the analysis and governance on the likely outcomes under the various structures. Based on the information I have seen, I am satisfied that the LBG plc Board was appropriately involved in the key decisions that have shaped the approach to ring-fencing. As I would have expected, the topic was frequently discussed, particularly in more recent years when the key decisions were being made. In general terms, I am satisfied that the design chosen is reasonable in nature, such that any identified adverse effect arising as a direct result solely of the high-level design of the change programme that LBG has in place to execute the changes to meet the Ring-fencing Regime, and the Scheme, will not be greater than


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reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

7. Implications for Retail Banking customers

7.1 I have considered the likely effect of the Scheme on the Retail Banking customers of LBG. The Retail Banking division of LBG offers retail products and services to approximately 38 million customers. Retail Banking customers are primarily individuals, sole traders and small businesses, typically with a turnover of less than £1m. Small business customers are served through Retail Business Banking (“RBB”), which is a sub-division of LBG’s Retail Banking division. The Consumer Finance sub-division is another sub-division of the Retail Banking division, which is considered separately in Section 8 of my full Scheme Report.

7.2 LBG’s ring-fencing structure will result in no products or services provided to Retail Banking customers being transferred under the Scheme. Based on my analysis of the information provided to me by LBG, I have not identified any likely adverse effects of the Scheme on Retail Banking customers. In particular, I have not identified any material changes to the:

• Terms and conditions of the existing Retail Banking products and services offered;

• Level of protection afforded by the Financial Services Compensation Scheme (“FSCS”); and


7.3 I have therefore concluded that Retail Banking customers are not likely to be adversely affected by the Scheme.

7.4 As part of my analysis, I have noted the following matters that are not an effect of the Scheme itself but that are a likely effect of compliance with the Ring-fencing Regime on certain groups of Retail Banking customers:

• RBB customers classified as RFIs: an estimated 67 RBB customers meet the definition of

an RFI and LBG has decided to reclassify such RBB RFIs into the SME division of the

Commercial Banking division (expected to be undertaken prior to the Directions Hearing). Certain RBB customers who are RFIs which have exposure bearing products such as credit

cards, charge cards and overdrafts, and existing lending products will have such products curtailed;

• Customers of legal entities and branches in non-EEA locations: customers of legal

entities and branches in non-EEA locations, along with customers of Lloyds Bank Gibraltar Limited (“LGIB”), will be transferred outside of the RFB Sub-group, however these customers will not be transferred via the Scheme but will instead be transferred through a wider group

restructuring; and

• Birmingham Midshires’ customers affected by a change to their payment mechanisms: the payment mechanism used for Birmingham Midshires’ customers will

change as, under the Ring-fencing Regime, it is no longer allowed to operate in its current form. A small number of customers may experience a degree of inconvenience whilst these changes are implemented.

7.5 Whilst the above changes may result in an adverse effect on certain groups of Retail Banking customers, any such effect will not be as a result of the Scheme, but a consequence of complying with the broader Ring-fencing Regime.

8. Implications for Consumer Finance customers

8.1 I have considered the likely effect of the Scheme on the Consumer Finance customers of LBG. The Consumer Finance sub-division of LBG, which forms part of the Retail Banking division but


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is managed separately, provides unsecured personal loans and credit/charge cards to approximately 10 million consumer and commercial customers, the significant majority of whom are UK based. The Consumer Finance sub-division acquired the MBNA credit cards business with approximately 2.3 million active customers on 1 June 2017. The Retail Banking division also has smaller sub-divisions, two of which provide motor finance products and International Mortgage Services (a closed book of mortgage loans which is in run off). For the purpose of this Summary Report, and my full Scheme Report, I have included these small sub-divisions of the Retail Banking division within the Consumer Finance sub-division.

8.2 LBG’s ring-fencing structure will not result in any products or services provided to Consumer Finance customers being transferred under the Scheme. Based on my analysis of the information provided to me by LBG, I have not identified any likely adverse effects of the Scheme on Consumer Finance customers. In particular, I have not identified any material changes to the:

• Terms and conditions of the existing products and services offered by the Consumer Finance sub-division; and


8.3 I have therefore concluded that Consumer Finance customers are not likely to be adversely affected by the Scheme.

8.4 As part of my analysis, I have noted the following matters that are not an effect of the Scheme itself but that are a likely effect of compliance with the Ring-fencing Regime on certain groups of Consumer Finance customers:

• Consumer Finance customers classified as RFIs: as at 20 October 2017, an estimated

231 Consumer Finance customers meet the definition of an RFI. Of those 231 Consumer

Finance customers, 169 hold a corporate or business charge card and 19 hold a commercial credit card, which gives rise to a prohibited lending exposure and therefore LBG has taken

the decision not to offer these products in LBCM and instead to work with these customers to explore resolution options, such as novating to non-RFI entities of the customer group. If

no resolution can be found, LBG will terminate the agreement with the identified RFI. LBG envisages that these types of customers will be able to find alternative credit or charge cards readily available through other providers who are not restricted in selling to RFIs. Of

the remaining 43 Consumer Finance customers, 42 such customers hold products with Lex Autolease, which will remain in the RFB Sub-group (relying on an exemption to the

prohibition on RFI exposures under the EAPO), and a solution has been agreed with the remaining one Consumer Finance customer with a Black Horse Onshore product such that it can also remain with the Transferors; and

• Customers of legal entities and branches in non-EEA locations: customers of legal

entities and branches in non-EEA locations will be transferred outside of the RFB Sub-group, however these customers will not be transferred via the Scheme but will instead be

transferred through a wider group restructuring.

8.5 Whilst the above changes may result in an adverse effect on certain groups of Consumer Finance customers, any such effect will not be as a result of the Scheme, but a consequence of complying with the broader Ring-fencing Regime.


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9. Implications for Commercial Banking customers

9.1 I have considered the likely effect of the Scheme on the Commercial Banking customers of LBG. Commercial Banking customers are defined by LBG as any business with a turnover greater than £1m, which holds products or services offered by LBG. LBG divides the Commercial Banking customer base into five main segments, which are defined by their sub-segments, as shown in Table 2 on the next page.


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Table 2: Commercial Banking customer segments as at 20 October 2017

Segment Sub-segment Customer definition

Number of entities

affected by the Scheme*

Small and Medium Sized Enterprises (“SME”)

Business Turnover of £1m - £25m or

Lending of £75k - £12.5m 38

Mid-Markets (“MM”)

Business Turnover of £25m - £750m (or up to £500m in London)

285 Education, Charities and Government

Higher and further education institutions, charities and local government organisations

Social Housing Business

Housing Associations who build and manage more than 1,000 residential housing units

Global Corporates (“GC”)

Business Turnover in excess of £750m (or £500m in London)

603 Commercial Real Estate (“CRE”)

Real Estate companies with asset values in excess of £25m or LBG lending in excess of £12.5m

CRE Private Group

Subset of CRE consisting of entrepreneurs and smaller property companies

Financial Institutions (“FI”)

Banks Banks (including correspondent, agency, UK “challenger” banks and other international banks) and Building Societies

2,493

Insurance UK-based life, non-life and composite insurance companies, international insurers with a UK presence and brokers

Pensions, Wealth and Stockbrokers

UK-based pension administrators, wealth managers and stockbrokers

Financial Sponsors

Private market investment managers (and funds)

Institutional Investors

Asset Managers and Sovereign, Supranational and Agency bodies

Intermediaries Brokerage firms, clearing and settlement firms, exchanges and market data firms

Specialist Finance

Specialist lenders and debt purchasers

Group Subsidiaries

LBG entities

Government Bodies

UK central Government and Government Bodies

Client Asset Management (“CAM”) 30

TOTAL 3,449

Source: Information provided by LBG. * Includes customer entities with products subject to mandatory transfers, optional transfers and duplicating empty agreements.


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9.2 Commercial Banking customers use a wide variety of financial products and this typically varies by the segments identified. For example, an SME’s needs are generally simpler than that of a large FI and this is reflected in the complexity of products that they require. This section of the Summary Report contains a broad overview of the key potential adverse effects to Commercial Banking customers and my view of those effects. However, due to the complexity of Commercial Banking and the technical nature of the products offered by LBG’s Commercial Banking division, I would encourage anyone who is interested in my assessment as to whether Commercial Banking customers will be affected by the Scheme, to read my full Scheme Report in its entirety.

Non-Transferring Customers - Commercial Banking

9.3 LBG’s decision to implement a wide RFBs and narrow NRFB model, designating LB plc and BoS plc within its RFB Sub-group, will result in the majority of the products and services offered to Commercial Banking customers remaining unchanged and continuing to reside within the Transferors. It is estimated by LBG that the majority of Commercial Banking customers (more than 98% of the total customer entities) will not have any products transferred under the Scheme. This includes customers of non-EEA entities which may be transferring products but not via the Scheme.

9.4 For those non-transferring Commercial Banking customers, I am satisfied that they will not experience any adverse effect as a result of the Scheme. In particular, for these customers, I have not identified:

• Changes to the terms and conditions of the existing Commercial Banking products (for example, the economic terms will remain unchanged); and

• Significant changes to the way those customers will interact with LBG or the quality of the service provided. For example, the coverage of these customers by their RM and by product specialists will remain unchanged.

9.5 As part of the wider group restructuring, LBG will transfer other Commercial Banking business from the various non-EEA entities and branches (including in the United States of America (“USA”), Singapore and the Crown Dependencies). Whilst these customers may experience a change, any such change will not be a result of the Scheme, which the Court is being asked to sanction, but will be as a consequence of complying with the broader Ring-fencing Regime.

Transferring Customers - Commercial Banking

9.6 Based on the information as at 20 October 2017, there would be 3,449 customer legal entities, mainly GC and FI customers that would have products transferred to LBCM, and/or have contracts duplicated, as a result of the Scheme. LBG estimates that, based on the likely growth in customers between 20 October 2017 and the Effective Date, the total number of affected customers on the Effective Date will be approximately 4,000. This represents approximately 1.4% of the total number of customer entities in Commercial Banking. It should be noted that this estimate does not account for: (i) multiple fund entities within a customer group that may, or have the option to, participate within lending facilities where LBG data recognises only a single entity as the principal borrower; and (ii) approximately 255 customers (across all divisions in LBG) whose products may be curtailed by LBG (which, in any event, is not a result of the Scheme).

9.7 Customers will have products transferred to LBCM under the Scheme due to four key restrictions in the Ring-fencing Regime:

• An RFB must not maintain or establish a branch in any country or territory which is not an European Economic Area (“EEA”) member state, therefore products currently booked to the non-EEA branches of the Transferors must be moved;

• An RFB cannot have any exposure to customer entities defined as an RFI, unless subject to exemptions such as holding the position for its own risk management or liquidity purposes;


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• Some customer product types (such as complex derivatives) are prohibited from being held in an RFB; and

• An RFB is required to comply with the RRR Limit set out in the EAPO. This is analysed in more detail in Section 5 of my full Scheme Report.

9.8 A summary of the approach taken by LBG with respect to the division between the Transferors and LBCM is shown in Diagram 2.

Diagram 2: Commercial Banking product and customer booking view

Source: Information provided by LBG.

SMESME

RFIMM

MM

RFIGC

GC

RFIFI

FI

RFISME

SME

RFIMM

MM

RFIGC

GC

RFIFI

FI

RFI

Spot foreign exchange

Permitted Products

Excluded Products

Permitted Products

Excluded Products

Conduit

Warehouse Financing

Term Securitisation

Key: Product not offered

Permitted exposure booked to RFB

Excluded exposure booked to LBCM

Non-EEA exposure booked to LBCM international branches

Permitted exposure booked to LBCM based on strategic booking choice

Product not planned to be offered

Product booked under exceptions in EAPO

Future proposition to be determined

CB

Mark

ets

Fin

an

cin

g

Bonds

Asset

Securitisation

Strategic Debt Finance

Loan Markets

CB

Mark

ets

Tra

ded

Pro

du

cts

Foreign

exchange

Rates

Commodities

Repurchase Agreements

Money Markets

Liabilities Management

Credit

Glo

bal T

ran

sacti

on

Ban

kin

g

Cash Management and Payments

Overdrafts

Asset Finance

Invoice Finance

Trade Finance & Supply Chain

Trade Services

RFB LBCM

Len

din

g

Variable rate loans

Fixed rate loans

Revolving Credit Facilities

Business mortgages

Inflation-linked loans


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Effect of Grandfathering on the Scheme

9.9 Under Article 21 of the EAPO, prohibited derivatives that were executed before 1 January 2019 and mature before 1 January 2021 do not need to be transferred to LBCM. This is referred to as the Grandfathering exemption for which LBG has adopted the following default position by customer segment for all:

• SME, MM, CRE Private Group and CAM customers: the Grandfathering exemption will be applied, subject to a client opt-in for their prohibited derivatives to be included in the Scheme and transferred to LBCM. Further optionality will also be provided for some customers with derivatives split across the ring-fence;

• GC customers (excluding CRE Private Group): the Grandfathering exemption will be applied, subject to a client opt-in for all (permitted and prohibited) derivatives to be included in the Scheme and transferred to LBCM; and

• FI customers: all derivative trades with FIs, other than those entered into by the Transferors for their own risk management purposes, will be moved to LBCM via the Scheme, subject to a client opt-out to keep all of those Grandfathered derivatives in either LB plc or BoS plc, where they are currently booked. The default Grandfathering position for FIs has been selected to maximise the extent of net settlement available to FIs potentially outweighing the disadvantage of being exposed to LBCM with an expected weaker credit profile than the Transferors. This is explained further in Section 6 of my full Scheme Report. In some cases, the availability of netting might mean that a customer’s exposure to LBCM is lower. It is, however, recognised that the analysis will not necessarily be the same for all FIs and therefore they will be given the ability to opt-out of the default position.


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9.10 My analysis of the potential adverse effects to Commercial Banking customers is set out as follows:

CategoryMain cause of potential

adverse effectSpecific areas of potential adverse effect

Financial

LBCM credit profile

Customer fair value

Regulatory capital from the customer perspective

Credit rating triggers

Split banking

Set-off rights

Netting

Credit lines

LBCM size Large exposure rules

LBCM funding strategy Customer monitoring or hedging of LBCM credit risk

Future business model Future business model of LBCM

Product transfer

Events triggered by the transfer of derivatives

Transfer implications for trade finance

Contractual provisions being overridden

Product

Commercial decisions Product curtailment

Split banking

Product linking

Product alternatives information

Foreign law security

Operational Split banking Operational effects

Transitional Product transfer Transitional effects

LBCM credit profile

9.11 Customers with products being transferred to LBCM could potentially suffer from an adverse effect because LBCM is expected to have a weaker credit profile than LB plc or BoS plc before the Scheme. The credit ratings of LB plc and BoS plc are not expected to change as a result of the Scheme.

9.12 Public credit ratings from agencies such as Moody’s, S&P and Fitch are commonly used by customers and market participants but are not the only source to assess credit exposure, with some undertaking their own analysis to evaluate credit risk. Determining creditworthiness involves some subjectivity and judgement. The public guidance published by S&P and Fitch shows that their ratings for LBCM will be based on a top-down approach, which assumes implicit support from the wider group. Given that this support will not be backed up by any contractual guarantee, a customer or market participant may place less reliance on that implicit support and conclude that the creditworthiness of LBCM is different to that represented by the public credit rating. For example, S&P analysis dated 17 July 2017 assigned LBCM a preliminary rating of “A-” but also assessed the stand-alone credit profile at “BBB”. Fitch published an expected rating on 17 July 2017, which was “A”.


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9.13 In contrast Moody’s uses a bottom-up approach, firstly analysing LBCM as a stand-alone entity and then adjusting for potential support from LBG. Moody’s published a provisional rating on 7 November 2017 of “A2”, which is equivalent to the expected rating from Fitch and one notch better than S&P’s preliminary rating. However, Moody’s provisional rating is two notches weaker than their current rating for LB plc of Aa3 (as at the date of my full Scheme Report), whereas S&P and Fitch are both one notch weaker than their current rating for LB plc (at “A” and “A+” respectively).

9.14 LBG expects that the creditworthiness of LBCM will be considered by customers and by market participants to be lower than that of the Transferors prior to the Scheme. I believe that it is reasonable to expect that LBCM, with a narrow business model and greater susceptibility to certain stress situations, will be considered riskier than the Transferors.

9.15 I considered where customers could suffer adverse effects as a result of LBCM’s credit profile and these can be summarised into three areas: (i) Customer fair value, (ii) Customer regulatory capital and (iii) Credit rating triggers.

Customer fair value

9.16 I considered the potential adverse change in fair value of financial products held by current Commercial Banking customers before and after the Scheme. Fair value is a measure at a point in time of the market price that would be received for a financial product in an orderly transaction between market participants. This can be driven by a number of factors including the creditworthiness of the counterparty.

9.17 In many cases the effect arising from the change in fair value might be small and immaterial but in some instances could be material, and there may be second order effects that might result in the customer facing a potentially undesirable situation, such as a need to raise capital, breaching existing debt clauses or losing the trust of key stakeholders (for example, lenders, investors, customers, suppliers, etc.). The effect and significance of the change in fair value will vary from customer to customer.

9.18 Customers could be affected by a change in the creditworthiness from the Transferors to LBCM as a result of the Scheme for a number of products but the main potential impact will be for uncollateralised derivatives. The component of the fair value of derivatives that reflects the creditworthiness of the counterparty is usually referred to as the Credit Valuation Adjustment (“CVA”), and is commonly calculated from current prices in the Credit Default Swap (“CDS”) market. Based on my analysis the change in fair values for customers as a result of the Scheme is expected to be relatively minor in the context of historical market movements.

9.19 However, the significance to each customer depends on its own individual circumstances and it is possible that it will be material to some customers, which leads to part B of the Statutory Question for any customers that do suffer a material adverse effect. From my analysis, I am satisfied with the approach taken by LBG in designing LBCM and that there are no reasonable alternative Scheme structures that would have achieved LBG’s design principles for ring-fencing and resulted in a better credit profile of LBCM relative to the Transferors. To the extent that customers have uncollateralised prohibited derivatives being transferred I am therefore satisfied that any adverse effect will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

9.20 For Permitted Derivatives of GC (excluding CRE Private Group) and FI customers also being transferred in order to comply with the RRR Limit, I have considered whether LBG could have adopted a different approach, or transferred other customers’ Permitted Derivatives to LBCM instead of those Permitted Derivatives of GC and FI customers, to achieve compliance with this requirement. The only other reasonably possible solution would be for LBG to transfer sub-segments of GC and FI customers’ Permitted Derivatives instead. However, not transferring all the derivatives entered into by all customers in the same segment would mean inconsistent treatment of customers with similar characteristics. Additionally, a partial transfer may not leave


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sufficient room for future SME and MM derivative business to be conducted by the Transferors. I concur with that position and am satisfied that any adverse effect on GC and FI customers of Permitted Derivatives being transferred will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Regulatory capital from the customer perspective

9.21 I have considered the potential effect of the Scheme on those Commercial Banking FI customers that are required to hold minimum capital levels because they are themselves regulated (for example, banks, insurance and asset management entities in the FI segment). The calculation of regulatory capital requirements is highly technical and depends on whether the FI is a bank, an insurer or an asset manager. For these groups of customers the expected weaker creditworthiness of LBCM relative to that of LB plc or BoS plc before the Scheme is likely to result in the customer recognising a larger amount of Risk Weighted Assets (“RWAs”) than pre-Scheme. This will lead to an adverse effect of lower capital ratios or having to hold more capital.

9.22 I have reviewed the types of financial products entered into by customers with LBG and note that, although repurchase agreements and collateralised derivatives may create a credit exposure for these customers to LBCM, the RWA effect will be minimal due to their collateralised nature, resulting in very limited exposure to LBCM. RWAs on uncollateralised derivatives being transferred to LBCM are likely to be more significantly affected by the Scheme. LBG has identified 549 customer entities as at 30 June 2017 from the FI segment whose derivatives will be transferred to LBCM as part of the Scheme and 165 of those entities have uncollateralised derivatives.

9.23 It is possible that some FI customers may experience an adverse effect in their regulatory capital levels as a result of the transfer of uncollateralised derivatives to LBCM as part of the Scheme. Whilst some customers may perceive the adverse effect as material, I cannot conclude on the materiality of any such adverse effects due to the different methodologies that FIs are permitted to use by their regulator to calculate capital requirements for uncollateralised derivatives, the uncertainty regarding LBCM’s credit rating and the specific circumstances of each customer.

9.24 This would lead me to part B of the Statutory Question for any customers that do suffer a material adverse effect. From my analysis, I am satisfied that the approach taken by LBG in designing LBCM was reasonable and that there were no reasonable alternative Scheme structures that would have achieved LBG’s design principles for ring-fencing and resulted in a better credit profile of LBCM relative to the Transferors. To the extent that customers have uncollateralised prohibited derivatives being transferred, I am satisfied that any adverse effect will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

9.25 As referred to in paragraph 9.20 of this Summary Report, for Permitted Derivatives of GC (excluding CRE Private Group) and FI customers also being transferred in order to comply with the RRR Limit, I have considered whether LBG could have adopted a different approach, or transferred other customers’ Permitted Derivatives to LBCM instead of those Permitted Derivatives of GC and FI customers, to achieve compliance with this requirement. I concur that not transferring all the derivatives entered into by all customers in the same segment would mean inconsistent treatment of customers with similar characteristics, and therefore am satisfied that any adverse effect on GC and FI customers of Permitted Derivatives being transferred will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Credit rating triggers

9.26 I have considered the potential triggering of credit rating clauses in contracts currently held by Commercial Banking customers as a result of the Scheme. Credit rating triggers are provisions


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in transactions which allow, or require, a defined action to be taken, if one of the counterparties’ credit rating declines below a predetermined level.

Table 3: Contractual clauses potentially relevant to the Scheme

Financial products Clauses identified by LBG due diligence that are potentially relevant to the Scheme

Derivatives

• “Credit Event upon Merger Termination Event” for which an event includes the transfer of all or substantially all of the Transferor’s assets (or, in the case of a 2002 ISDA Master Agreement, a substantial part of the assets comprising the business conducted by the relevant party as at the date of the International Swaps and Derivatives Association Master Agreement (“ISDA Master Agreement”)) and the creditworthiness of the transferee is materially weaker.

• Credit rating triggers identified under Termination Events.

• Collateral-related Triggers.

• Minimum rating requirements for hedge counterparties.

Liquidity facilities supporting bond securitisations

• Credit rating triggers identified for liquidity facilities supporting the ratings of certain notes issued by securitisation SPVs.

Third party contracts • Not part of LBG’s due diligence (as LBG is not privy to these contracts).

Source: Information provided by LBG.

Derivatives

9.27 The credit rating trigger clauses identified in derivatives documentation were all exercisable at the customer’s option, which in my view is a benefit rather than an adverse effect as they can be exercised at the customer’s sole discretion.

Liquidity facilities for securitisations

9.28 LBG has entered into transactions where the customer entities are Special Purpose Vehicles (“SPVs”) set up for securitisation transactions. These securitisation structures were set up by a variety of GC and FI clients as a means of raising secured funding against assets they placed into the SPV. The assets used include residential and commercial mortgages as well as whole businesses, like utility companies. Securitisation structures are typically financed by rated bonds or commercial paper of varying maturities issued to institutional investors in the capital markets. A liquidity facility is often provided by a bank to the SPV to provide it with access to liquidity in the event it suffers a short-term funding deficit.

9.29 As the credit rating of LBCM is expected to be lower than LB plc before the Scheme, where applicable, this will trigger the requirement of the liquidity facilities to be drawn down, unless an alternative provider can be found. Where the liquidity facility is drawn, for whatever reason, it may increase costs to the SPV since (i) the margin on the drawn amount may be higher than any undrawn fee previously being paid and/or; (ii) the cost of borrowing from LBCM, a lower-rated entity, under the liquidity facilities, will generally be higher than it was prior to the liquidity facility being transferred to LBCM. I understand that LBCM intends to comply with its obligations to fund such drawdowns under the liquidity facilities. Consequently, customers may experience an adverse effect. The liquidity facilities are being moved as part of the Scheme as the securitisation SPVs are classified as RFIs and are required to be transferred in order to comply with the Ring-fencing Regime. Therefore I consider that the adverse effect to customers as a result of credit rating triggers being activated will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.


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Third party contracts with credit rating triggers

9.30 If a customer had contracted with its own clients or investors to only have counterparties above a certain rating threshold, they may be forced to terminate the contract and find a new counterparty. In this scenario the magnitude of adverse effect will depend on the customers’ ability to enter into a new contract on similar terms and conditions, or to novate the contract, which might be influenced by financial market conditions prevailing at the time. Consequently customers may experience an adverse effect. Whilst it is not possible to know what clauses exist I am satisfied that, to the extent that customers do suffer a material adverse impact, there are no reasonable alternative Scheme structures that would have achieved LBG’s design principles for ring-fencing and resulted in a better credit profile of LBCM relative to the Transferors. Therefore any adverse effects will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Set-off rights

9.31 The Scheme may result in Commercial Banking customers experiencing a reduction in their set-off rights. A set-off is the right of a debtor to balance mutual debts with a creditor (for example, a bank). Where applicable, general law implied set-off rights for customers are based on the principle of “same name, same rights” and allow customers to set-off exposures for mutual debts with the same entity in the case of insolvency. In certain jurisdictions, including England, if a customer has exposure to a creditor that defaults, the customer would automatically have the right to set-off its mutual debts with the creditor.

9.32 Before the Scheme, if a customer had exposures to, say, LB plc and it subsequently defaulted, the customer would automatically have the right to offset its mutual debts with LB plc as the customer would have exposure to a single banking entity. Following the implementation of the Scheme, customers undertaking transactions with both the Transferors and LBCM may have mutual debts split across the ring-fence, preventing the customer from being able to set-off exposures as they are with separate banks. For example, if a customer has a loan from the Transferors and holds a derivative with a positive exposure to LBCM (i.e. the customer would be owed money if the derivative is closed out), then in the event that LBCM defaults, the customer will not be able to offset the loan with the derivative as they are with different legal entities. As a further example, some customers may experience an adverse effect as derivatives transferred to LBCM cannot be set-off against deposits in the RFBs.

9.33 This leads me to part B of the Statutory Question for any customers that do suffer a material adverse effect. The natural structural mitigant would be to book all products of the customer in either the Transferors or LBCM. LBG’s ring-fencing design seeks to maximise the products remaining in the Transferors but, due to the Ring-fencing Regime, it is not possible to keep the prohibited products and those booked in non-EEA jurisdictions in the Transferors. Therefore, the products being transferred to LBCM are a consequence of the Ring-fencing Regime, including those moved to meet the RRR Limit. Consequently, I consider that any material adverse effect on Commercial Banking customers as a result of a loss of set-off rights will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Netting

9.34 The contracts for derivative transactions typically use a master agreement that sets out the terms on which parties may agree to enter into transactions. The most common of which follow a framework set by the International Swaps and Derivatives Association (“ISDA”). The ISDA Master Agreement, i.e. the standard documentation for derivatives, states that the ISDA Master Agreement and any Transactions entered into under it form a single agreement between the parties, often referred to as a “netting set”.


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9.35 If a customer’s derivative trades are split across the ring-fence the customer’s netting sets will be broken. Customers could have greater exposure to LBCM as a result of this splitting of the netting sets. In addition, this could lead to adverse effects such as increased operational burden, increased settlement risk, increased regulatory capital requirements or the need to post more collateral. However, for FI and GC (excluding CRE Private Group) customers, long-term derivatives (maturity from 1 January 2021) will be booked in LBCM and the shorter term trades can also be booked in LBCM under the Grandfathering optionality which seeks to keep the netting sets intact. Additionally SME, MM, CRE Private Group and CAM segments that entered into permitted and prohibited derivatives without the knowledge of the potential split netting set will be given the option to transfer all their derivatives to LBCM.

9.36 SME, MM, CRE Private Group and CAM customers may, by accepting default actions, find themselves in a position where their derivatives are split across the ring-fence. This could occur where prohibited derivatives (not subject to Grandfathering) are transferred to LBCM to comply with the Ring-fencing Regime, but Permitted Derivatives remain with the Transferors. Customers in these segments have the option to opt out of the Grandfathering exemption and move their short-dated (maturity before 1 January 2021) prohibited derivatives to LBCM. Additionally, for those customers that do have a split netting set as at 1 December 2017, LBG will offer them the ability to transfer all their derivatives to LBCM, thereby keeping their netting set intact. As at 30 June 2017, there are 65 customer entities across SME, MM, CRE Private Group and CAM with a split netting set that would be offered the option to move all derivatives to LBCM. Additionally, as per the data available as at 30 June 2017, there are 10 customers from these segments that only have prohibited derivatives but who may have created a split netting set prior to, or as at, the Effective Date. They will also be offered the same optionality to mitigate the possibility of a split netting set.

9.37 Given the optionality that will be offered to customers, they can all avoid breaking their netting sets for existing trades, with the exception of the Transferors’ own hedging trades with FIs, which is an allowed exemption within the EAPO. Consequently, the adverse effects of a split netting set due to the Scheme can mostly be eliminated by ensuring all derivatives are in one entity. However, this does require the derivatives to be transferred to LBCM, which is expected to have a weaker credit profile and this could result in reduced fair values. This may be considered an adverse effect by some customers but I do not consider it to be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Credit lines

9.38 An adverse effect could potentially exist if a customer’s credit lines are cut due to LBCM’s smaller balance sheet or the need to split positive and negative exposures across the ring-fence. However, I understand that LBG will not reduce any credit lines already utilised and consequently I do not consider that an adverse effect is likely. The exception will be credit line reductions to avoid customers exceeding the large exposures limit (as further explained below).

LBCM size

Large exposure rules

9.39 As at 30 June 2017, LBG has identified 14 customer groups, across the GC and FI segments, that will be impacted by LBCM’s requirement to comply with the large exposure regulatory rules, which states that the total amount of its exposure to any counterparty, group of connected clients or connected counterparties should not exceed 25% of its eligible capital. LBG is exploring a number of options with these customers to reduce the existing exposures below the limit. Ultimately the customers affected cannot be forced to change their contract to reduce the exposure and I understand LBG has no intention of using the Scheme to do so. If LBG is unable to reduce these large exposures to below the regulatory threshold then LBCM would be required to make a deduction to its regulatory capital resources and the customers’ existing contract will remain in place. However, customers may still experience adverse effects if


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uncommitted facilities are reduced, if they are asked to rebook trades with the Transferors or if their future business is restricted.

9.40 This leads me to part B of the Statutory Question for any customers that do suffer a material adverse effect. Any material adverse effect is a result of the transfer of products to LBCM, which is an inherent consequence of the requirements of the Ring-fencing Regime. The derivatives either need to be moved as they are prohibited products or, despite being permitted, will be transferred to comply with the RRR Limit.

9.41 Based on the rationale above, I consider that the adverse effect caused by the reduction of exposures to customers exceeding the large exposures limits will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Customer monitoring or hedging of LBCM credit risk

9.42 Customers may look at the traded levels of their counterparties’ bonds to monitor the market’s view of credit risk or use CDSs to hedge their exposure to a particular counterparty. LBCM is planning to establish a funding programme, in order to build a stand-alone funding market presence and diversify its funding sources. However, on the Effective Date, CDSs on LBCM will not be available to customers that seek to manage their credit risk exposure to LBCM. This situation is likely to continue until LBCM has a substantial amount of public bonds outstanding and there exists a CDS market for LBCM’s bond risks.

9.43 In my view, it is likely that the adverse effect of no public debt outstanding or a lack of a CDS market for LBCM bonds will be immaterial for many customers. However, it is possible that a customer may currently hold CDS against LB plc to hedge their exposure and, on the Scheme implementation, will need to close out their position and will be unable to buy CDS against their new exposure to LBCM. This could result in the Scheme having a material adverse effect for some customers, which leads me to part B of the Statutory Question.

9.44 From my analysis, I am satisfied that there are no reasonable alternative Scheme structures that would have achieved LBG’s design principles for ring-fencing and resulted in a better credit profile of LBCM relative to the Transferors. Additionally, it is not practical for LBCM to issue a significant amount of public debt on the Effective Date. To the extent that customers have credit exposures being transferred to LBCM and there is a lack of a CDS market on LBCM, I am satisfied that any adverse effect will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Future business model

Future business model of LBCM

9.45 LBCM will set future customer product prices independently of the RFBs and will be influenced by factors such as its own cost of funds. Under the terms of the existing agreements that will be transferred, it is only where reference is made to rates based on internally-derived rates, i.e. rates determined by individual entities within LBG that LBCM has the ability to set a different rate to that which might have been set by the Transferors. LBG identified the following circumstances where this may be the case for products being transferred:

• Liquidity facilities for securitisations may permit higher funding costs of LBCM to be passed onto the securitisation issuer;

• Default interest rates under an ISDA Master Agreement are based on the cost of funding of the payee, which could increase costs for a customer that defaults;

• Loan documents may contain “market disruption” or “increased cost” provisions, which allow the interest rate charged to the customer to be increased if the cost of funding of a lender or lenders exceeds a fixed benchmark; and


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• Derivative transactions that are terminated early due to an event of default or termination event will be calculated in accordance with the terminology set out in the ISDA Master Agreement, which includes factors that may be driven by the creditworthiness of the Transferors and LBCM.

9.46 It is possible that, in these circumstances, customers may have to pay more than they would with the Transferors and therefore suffer an adverse effect. In all the cases identified the products being transferred are required to be so in order to comply with the Ring-fencing Regime. I am therefore satisfied that any adverse effect will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Product transfer

Events triggered by the transfer of derivatives

9.47 The transfer of derivative trades could trigger certain events that may result in adverse effects, for customers under local rules, in the following scenarios:

• Tax implications: Derivative transfers could result in the crystallisation of taxable gains as they will be treated as a novation by some tax authorities (and it is not possible for the Scheme to avoid this treatment). To the extent this generates a tax payment for a customer it may be able to mitigate the effect through tax planning. However, it is not possible for me to have knowledge of customers’ overall tax positions;

• Clearing and margin requirements: Customers may be subject to local rules regarding clearing and margin requirements which may result in adverse effects. For example, the Dodd-Frank Wall Street Reform and Consumer Protection Act 2010 (“Dodd-Frank”) in the USA introduced rules regarding the margin requirements for new derivative trades (if they are not cleared at a clearing house). This is the minimum amount the Federal Reserve Bank requires a customer to have on deposit, either in cash or approved securities as collateral with their counterparty. The rules did not apply to trades outstanding before the legislation was enacted. However, this benefit may be lost as the Scheme could potentially trigger an event so that a customer’s existing derivative trades are treated like a new transaction and will be subject to the margin requirements. This will only impact clients classified as US Persons or US Person “Lites” under Dodd-Frank who have English law documents transferring through the Scheme. As at 30 September 2017 LBG identified 153 trades that would be impacted. In my view it is possible that this may represent a material adverse effect for some customers. It is also possible that the transfer of derivatives under the Scheme could result in the loss of grandfathering under other local derivatives clearing and margining rules; and

• Hedge accounting: The change of the counterparty and the potential change in derivative fair values may trigger the discontinuation of hedge accounting.

9.48 This takes me to part B of the Statutory Question for the events explained above. The adverse effect is a result of derivatives being transferred to LBCM which is a direct requirement of the Scheme. Consequently, I am satisfied that any adverse effect will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Transfer implications for trade finance

9.49 In relation to Trade Instruments issued by the Transferors at the request of their customers, the lower credit rating of LBCM could cause the customer to be in breach of the underlying contract between it and the beneficiary of the Trade Instrument, pursuant to which the customer was required to procure the issue of a letter of credit or guarantee. If such underlying contract prescribes an identity, rating or other requirement of the entity which issues the Trade Instrument, which is not met by the Transferee, the customer could be in breach of that


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underlying contract which could potentially have an adverse effect from the perspective of the customer.

9.50 Trade Instruments may have claims made under them by purely making a demand in the required form. The physical instruments themselves may not be updated to reflect the transfer. As such there is a risk that the beneficiary of the instrument could, after the Effective Date, assign the benefit of that instrument to a third party without informing the third party that the issuing bank is LBCM and not the Transferor. This could be an adverse effect for the third party on the basis of the lower rating of LBCM versus the Transferor.

9.51 It is possible that any transfer of a Trade Instrument that has been pledged in favour of a third party might affect the validity of any existing security interest and leave the pledgee unsecured. This could result in an adverse effect to the pledgee and potentially the beneficiary if it had been required to grant security as part of a contract. There could also be an adverse effect for the pledgee on the basis of the lower rating of LBCM versus the Transferor.

9.52 Transfer implications for Trade Instruments all represent potential adverse effects that may be material, which takes me to part B of the Statutory Question. The adverse effect is a result of prohibited Trade Instruments being transferred to LBCM, which is a direct requirement of the Ring-fencing Regime. Consequently, I am satisfied that any adverse effect will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Contractual provisions being overridden

9.53 The legal documentation of some products being transferred contain prohibitions, restrictions or consent requirements that would normally entitle the customer to a contractual remedy for breaching the agreement, however, the Scheme will override some of these provisions. This could be considered as an adverse effect from the customer’s perspective, as it may lead to a loss of remedy, such as a termination right. The clauses that will be overridden as part of the Scheme include:

• Restrictions or specific requirements for transfer: the Scheme may override prohibitions, transfer restrictions or requirements (including procuring prior written consent from the customer or relevant third parties, requirements to give notices or to enter into accession deeds) on the ability of a party to assign or transfer its rights and obligations pursuant to the product documents;

• Change of account: the Scheme may override restrictions on changing the accounts the parties use to receive payments or deliveries under the contract; and

• Confidentiality: the Scheme allows the sharing of confidential information between parties in certain circumstances. In order to mitigate this potential adverse effect, I have been informed that LBCM will adhere to the same confidentiality standards as applicable to the Transferors prior to the Scheme.

9.54 These changes in provisions are a consequence of the transfer of the products in order to comply with the Ring-fencing Regime and the customers will not be in a materially different situation as a result of the Scheme. As a result I am satisfied that the overriding of contractual provisions does not represent a material adverse effect of the Scheme.

Commercial decisions

Product curtailment

9.55 I have considered the potential effect of the Scheme on Commercial Banking customers as a result of LBG curtailing its product offering at implementation of the Scheme. Whilst the LBG’s principle is to retain the current service provision wherever possible, there are several products that will no longer be offered to customers post-Scheme. Product curtailment is important to


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customers, as those affected may need to either seek these products from other banks, forgo entering into them or migrate to other products

9.56 Whilst the product offering from the Transferors will not be affected by the Scheme, LBG does not plan to offer the following products from LBCM given commercial and operational considerations:

• Overdraft facilities;

• Credit and charge cards;

• Consumer Finance products (however, Black Horse Offshore Limited (“BHOL”) will continue to offer these products whilst forming part of the NRFB Sub-group);

• Loans linked to the BoE base rate or fixed rate loans;

• Conduit lending facilities;

• Lending schemes offered by the UK Government; and

• Asset Finance and Invoice Finance.

9.57 In addition, LBG does not plan to offer any facilities offering multiple drawing alternatives including: RPI loans (see paragraphs 9.61 and 9.63 for more information), fixed interest rate loans or other variable interest rate loans (for example, LIBOR based). For these facilities, if there is an outstanding RPI loan on the Effective Date, the entire facility will be transferred to LBCM under the Scheme. When no RPI loan is outstanding on the Effective Date the facility will not be transferred and customers will be informed that RPI loans can no longer be provided from the Transferors. Any customer wishing to draw an RPI loan under their facility would need to arrange the product through LBCM or an alternative provider.

9.58 These product curtailments will affect RFIs only as they are exposure bearing products which an RFI cannot hold with the Transferors. It should be noted that the Transferors intend to continue offering these products to non-RFI customers.

9.59 Customers affected by the withdrawal of these products will receive communication of the proposed changes. This communication, which will take place in advance of the Effective Date, will provide information on the changes to their banking products and should enable the customers affected by these product curtailments to make arrangements to repay any outstanding balances in advance of 1 January 2019 and to consider whether to make arrangements to access these products from alternative providers. It is reasonable to expect that such alternative arrangements would be available to the majority, if not all, of the affected RFIs.

9.60 Whilst these product curtailments are likely to result in an adverse effect for these customers, any such change will not be as a result of the Scheme, which the Court is being asked to sanction, but is the result of a commercial decision taken as a consequence of complying with the broader Ring-fencing Regime and which will be implemented as part of the wider group restructuring.

Split banking

Product linking

9.61 Banks offer linked financial products in a large variety of ways. In the case of LBG, linked financial products take place in the form of Retail Price Index (“RPI”) loans and deposits securing loans or derivatives.

9.62 A loan with interest payments linked to RPI is called an “RPI loan”. Certain customers operate with income based on RPI, and take out an RPI loan to hedge their exposure to future


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movements in RPI. Under the EAPO exposure-bearing products related to RPI are prohibited “investments” in the RFBs.

9.63 For some RPI loans the underlying documents state that, upon transfer of the mortgage or security relating to the RPI loans, the principal money owed by the counterparty is increased in proportion to any increase in RPI in the month of the transfer. This could potentially result in an adverse effect as it could increase the principal amount owed by a customer. However, LBG’s Scheme document will override the requirement that the principal amount is recalculated in the event of the transfer, therefore mitigating the potential adverse effect.

9.64 A deposit may be linked with a loan or a derivative in order to reduce LBG’s exposure to a potential customer default. For example, for a deposit and a derivative transacted separately with the same customer, LBG could use the customer’s deposit to secure fully a potential default of the customer on the derivative giving LBG set off rights over the deposit. The customer may not withdraw the deposited amount until the derivative is unwound or expires. By linking the deposit and the derivative, LBG is able to fully mitigate the credit risk of the customer and permits the customer to obtain more favourable pricing from LBG and utilise approved credit lines for other products. In addition, linking deposits and derivatives (or loans) allows a customer with a notably weak credit profile to enter into the derivative (or loan) when it may not have been able otherwise to transact with LBG.

9.65 As a result of the Scheme, an inability to link these deposits with loans or derivatives may result in increased product pricing from LBG or, in the case of customers with notably weak credit risk profiles, an inability to transact with LBG.

9.66 This would take me to answering part B of the Statutory Question for any customers that do suffer a material adverse effect. In Section 6 of this Summary Report, I summarise my analysis of LBG’s approach to its design of LBCM. From that analysis I am satisfied with the approach taken by LBG in designing LBCM and that there are no reasonable alternative Scheme structures that would have achieved LBG’s design principles for ring-fencing and allowed customers to link these products. To the extent that customers have product links which must be broken I am therefore satisfied that any adverse effect will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

Product alternatives information

9.67 Commonly customers take into account information on product alternatives provided by their banks when making decisions on financial products. In particular when raising financing through loans or hedging financial risks with derivatives.

9.68 Loans and other financial products are negotiated between the customer and the customer’s RM at LBG. Prior to the Scheme, each customer has an RM that serves as their main point of contact and who provides the customer with pricing and other information on alternative types of loans (for example, variable rate vs. fixed rate loans, amortising vs. non-amortising notional). Post-Scheme, customers may transact with both the Transferors and LBCM. For example, an RFI entity of a customer group may have a loan booked in LBCM while a non-RFI entity of the same group may hold a loan booked in the Transferors. Post-Scheme, I understand that LBG’s delivery model to customers will be an integrated customer model. It will rely on a bank agnostic relationship management model in which customers have a single point of contact, the RM, when seeking products from LBG (including the Transferors and LBCM).

9.69 When products are notably complex, RMs rely on product specialists to transact with the customer. In the case of derivatives, each customer is currently covered by a derivatives salesperson. The derivatives salesperson will provide the customer with different alternatives on how to hedge an exposure with derivatives, such as (in the case of floating rate exposure) fixing the interest rate with an interest rate swap, limiting the maximum interest rate to be paid using a cap or limiting both the maximum and the minimum interest rate to be paid with a


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combination of a cap and a floor. Post-Scheme, I understand that LBG’s plan is to continue providing each customer with a primary derivatives salesperson.

9.70 As the RM will be shared by the Transferors and LBCM and performance will be measured against customer activity with the two banks and the performance of the SME and MM customer derivatives salesperson will be measured against the overall customer derivatives activity with the two banks, I conclude the quality of the information on alternatives to be provided by LBG to the customer when raising financing and entering into derivatives is unlikely to be adversely affected by the Scheme.

Foreign law security

9.71 Where security documents are governed by the law of a jurisdiction other than England and Wales, Scotland or Northern Ireland, they may not be effectively transferred via the Scheme, and in such case would need to be manually transferred in accordance with the law of that jurisdiction. If such transfer is not completed by 23.59 hours on 30 December 2018, the underlying obligation will transfer to the Transferee without the benefit of such security. If such security is not manually transferred, LBG have identified that there is a risk that the Scheme may adversely affect the validity or enforceability of security governed by certain foreign jurisdictions and, as a result, an event of default under the underlying agreement may be triggered. In order to mitigate this potential adverse effect, LBG will endeavour to transfer any security which will require to be transferred manually on the Effective Date, or failing that, by 23.59 hours on 31 December 2018. As this potential adverse effect can be mitigated through a manual transfer agreed with the customer, which LBG has confirmed they will endeavour to do, I believe it is reasonable to assume that customers can mitigate this adverse effect.

Operational effects

9.72 A customer’s interaction with the Bank may be impacted as they are conducting business with a new entity and may have a split banking relationship. The potential effects are summarised below:

Conducting business with a new entity (LBCM)

9.73 Customers will need to conduct an end-to-end process review of their current processes to assess what changes will need to be made to documentation, controls and IT systems to reflect that they will be transacting with a new entity (LBCM). There are a number of changes that customers may need to make, such as updating of static data, making changes to IT systems and performing Know Your Customer (“KYC”) checks on LBCM.

Complexity of a split banking relationship

9.74 Customers may perceive that they have a more complicated banking relationship as a result of the Scheme and this may give rise to a range of potential adverse operational effects, such as additional costs in trading with the new entity, LBCM, and amending their internal processes.

9.75 Whilst some customers will experience some operational changes as a result of the Scheme, I am satisfied that LBG is doing everything reasonably possible to mitigate the effect. In my view none of the issues identified are material relative to changes a customer may experience in dealing with any new counterparty and, consequently, customers are not likely to be materially adversely affected by the Scheme.

Security trust structures

9.76 Following the Scheme, some security (including guarantees and other forms of credit support) will need to be shared between the relevant Transferor and LBCM to secure liabilities owed to both banks. This arises (a) where some products are transferred to LBCM via the Scheme and other products remain with the Transferor; and/or (b) where security is provided in relation to


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existing agreements that are being duplicated pursuant to the Scheme. In such situations, LBG intends to use the Scheme to create a security trust arrangement (where permitted by law) between the Transferors and LBCM (i) for both existing products that transfer to LBCM via the Scheme and those that remain with the Transferor and/or; (ii) in relation to any duplicated agreement, for all liabilities owed to the Transferor under the existing agreement (including new transactions after the Effective Date) and for all liabilities owed to LBCM under the duplicated agreement (including all transactions transferred to LBCM pursuant to the Scheme and all new transactions entered into between LBCM and the customer under such duplicated agreements after the Effective Date). The relevant Transferor will act as security trustee for the Transferor and LBCM in respect of this security trust. Customers may experience impacts from a time or cost perspective (for example, costs of obtaining independent legal advice) as a result of this and may incur registration fees. Further information on these arrangements is set out in Section 6 of my full Scheme Report, including the ways in which the Transferors and LBCM will seek to mitigate the impacts of these arrangements, and I have concluded that I am satisfied that the proposed security trust structures will not have any material adverse effect on customers.

Transitional effects

9.77 I considered the transitional changes consisting of the one-off effects required when financial products are transferred to LBCM and/or their contractual arrangements being duplicated under the Scheme, rather than business as usual (“BAU”) changes. In principle, Commercial Banking customers could experience adverse impact due to:

• Branding: inadequate explanations provided to customers about changes in branding result in customers not understanding changes, and downstream adverse effects;

• Standard Settlement Instructions (“SSI”): customers are required to change their SSI to ensure correct settlement of payments;

• Re-papering: some financial products that are transferred to LBCM will inevitably require customers to enter into new documentation with LBCM;

• IT updates: customers will need to set up new data and systems as previously discussed in the operational effect subsection;

• Shared security: customers with split banking as a result of the Scheme may have security agreements in place such as cross guarantees or debentures. LBG intends to utilise security trusts for this purpose. Establishing these structures may have some transitional effects;

• Syndicated loans: the change of a group entity within syndicated loan deals may require approvals from other lenders in the syndicate and from other borrowers in the loan. The Scheme will override the need to obtain borrower (and any lender, if any) consent;

• Collateral: recalculation of collateral using the ISDA Credit Support Annex (“CSA”) methodology and posting of additional collateral if required;

• Trade reporting: in order to ensure that the records of trade repositories are up to date, customers will need to notify relevant trade repositories of the transfer (or modification) of the derivatives pursuant to the Scheme; and

• Payment instructions: customers are required to change in their systems the details for payment to LBCM where applicable.

9.78 Whilst customers will experience some transitional effects as a result of the Scheme, I am satisfied that LBG are doing everything reasonably possible to mitigate those effects. In my view none of the issues identified are material relative to changes a customer may experience in dealing with any new counterparty and, consequently, customers are not likely to be materially adversely affected by the Scheme.


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10. Implications for Other Relevant Persons

10.1 As part of my role as Skilled Person, I have considered the effect of the Scheme on Other Relevant Persons. The Ring-fencing Regime requires consideration of the effect on persons other than the Transferor who may be adversely affected by the Scheme. This definition includes customers of LBG, as considered above, but also a wide range of other parties.

10.2 In making my assessment, I have considered the likely adverse effects of the Scheme, on what I have evaluated as all potentially affected classes of persons. The definition in the legislation is broad and I have not sought to limit the persons who are within the scope of my analysis. I have considered “persons” in the broad sense and have included legal entities as well as individuals.

10.3 As part of this I have identified the groups of Other Relevant Persons that I believe may be adversely affected by the Scheme. My categories and sub-groups reflect that I am considering the Scheme in the context of the wider group restructuring (for example, the scope of potentially affected persons includes those who may be affected by the establishment of LBCM and implementation of the SSM).

10.4 I have considered the effects of the Scheme on significant groups or cohorts of persons with homogenous characteristics who I would expect to be affected by the Scheme in the same manner, as it would be impractical to assess the effects on all individual persons separately. Within this analysis, I have considered all types of potential effects, including operational, transitional and financial effects.

10.5 The categories of Other Relevant Persons identified as part of my analysis are as follows:

• Persons with a direct financial interest in LBG and sub-groups:

(a) External shareholders;

(b) Creditors; and

(c) Fixed income investors.

• Other parties with an indirect financial interest in LBG and sub-groups:

(a) Employees;

(b) Users and providers of Financial Market Infrastructure (“FMI”); and

(c) Third party suppliers and intermediaries.

• Other legal entities in LBG, joint ventures and partnerships.

• Competitors using LBG’s facilities.

• Regulatory, government and financial bodies:

(a) Regulatory Authorities: PRA and FCA;

(b) FSCS; and

(c) Tax authorities: Her Majesty’s Revenue and Customs (“HMRC”) and other overseas tax authorities.

• Future customers and future Other Relevant Persons.

• Customers of the Insurance Sub-group.

• Persons connected with customers.

10.6 I would encourage anyone who is interested in my assessment as to whether the above identified Other Relevant Persons have been affected by the Scheme to read my full Scheme Report in its entirety.


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External shareholders

10.7 I have not identified any likely material adverse operational or transitional effects of the Scheme on external shareholders who have a direct interest in the financial performance of LBG. There is likely to be a marginal increase in LBG’s total operating expenses as a result of unavoidable costs associated with the implementation of the Scheme, as well as inefficiencies as a result of having to run a separate LBCM entity, due to the costs of holding additional capital to support LBCM and limited duplication of roles and governance structures. However, given the scale of these costs in the context of LBG’s overall cost base, I would not expect this to have a significant impact on shareholder value.

10.8 My expectation is that the share price prior to the approval of the Scheme will reflect the market’s view of the effect of carrying out ring-fencing on the value of LBG plc’s shares as the requirements of ring-fencing will have been understood by the market for a number of years and I would not expect the approval of the Scheme to have a material additional effect on the share price. I am satisfied that the Scheme, of itself, is not likely to have a material adverse effect on shareholder value for external shareholders.

Creditors

10.9 Creditors, who have extended credit to LBG (for example, holders of guarantees and warranties issued by LBG), have an ongoing interest in receiving payments as they fall due and a claim on LBG’s assets in the case of bankruptcy or default of LBG. I have not identified any likely material adverse operational or transitional effects of the Scheme on creditors.

10.10 The Scheme will transfer relatively riskier assets from the Transferors to LBCM, however, the transfer of assets is expected to be relatively small. On 17 July 2017, Fitch assigned LBCM an expected credit rating of “A”, which is lower than LB plc and BoS plc’s current credit ratings of “A+”. Similarly, S&P assigned LBCM a provisional rating of “A-”, which is lower than LB plc and BoS plc’s current rating of “A”. Moody’s provisional rating for LBCM of “A2” was published on 7 November 2017, which is two notches weaker than their current rating for LB plc of Aa3. However, I do not consider it is likely that the change will have any material bearing on LBG’s ability to meet its obligations to creditors. My analysis of the creditor hierarchy is included in paragraph 14.7 to 14.11 of this Summary Report.

Fixed income investors

10.11 Fixed income investors are a particular subset of creditors, who hold a debt instrument that has been issued by an entity within LBG, with a direct interest in the relevant issuers’ ability to meet the payments due in respect of the debt instruments held. While no change in such ability is expected, the Scheme could potentially have an effect on the credit rating of the relevant issuers in LBG and compliance with its covenants (conditions imposed by lenders, such as requirements to stay within certain financial limits or thresholds), which could have an effect on either the current valuation of the fixed interest investment, the order in which claims are paid or the likelihood of the payments being made. I have considered that possibility as part of my analysis. I have also considered whether the Scheme is likely to have any operational effect on these investors.

10.12 There are no plans, or requirements arising as a result of ring-fencing, including the Scheme, for any transfers of issuances between entities, and sub-entities, or changes to operational processes and procedures, therefore, no change is expected to the way these would be handled by LBG.

10.13 I have considered whether the Scheme is likely to have an adverse financial effect on holders of LBG plc issuances. The considerations here are similar in nature to those for external shareholders of LBG plc. I have, to date, not seen anything to suggest that the credit rating of LBG plc is likely to change as a result of the Scheme or ring-fencing more widely, but it will not be possible to confirm that until such time as the rating agencies have provided updated ratings


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that reflect the details of ring-fencing. As a result, and subject to any updates to the credit ratings, I am satisfied that there is not likely to be any material adverse financial effect as a result of the implementation of ring-fencing on these LBG plc issuance holders. I will continue to monitor the position of the credit ratings and will provide an update in my Supplementary Report, if required.

10.14 I have also considered whether the Scheme is likely to have an adverse financial effect on holders of other bank issuances. There is no indication that the credit ratings of the Transferors are likely to change. Also, whilst it is true that holders of LB plc and BoS plc (as well as HBoS plc) issuances no longer have a direct exposure to the risks in LBCM, they have more exposure to the Transferors than they did previously as they will be funding a higher proportion of these entities than they did in the former LB plc or BoS plc (or HBoS plc). As a result, they could potentially be funding a higher proportion of these entities than they did previously, however, I do not expect the effect to be material. As a result, and subject to any updates to the credit ratings, I am satisfied that there is not likely to be any material adverse effect as a result of the implementation of ring-fencing on these fixed income investors. I will continue to monitor the position of the credit rating and will provide an update in my Supplementary Report, if required

10.15 LBG is continuing to analyse the likely effect of the Scheme on SPVs and has identified that there are seven transactions where amendments may be required to the transaction documents or where a restructure of the relevant transaction may be required. Any such required changes will be discussed with the affected persons, including the fixed income investors themselves, if relevant. The Scheme will not be used to make any of these changes. I currently have no reason to expect such changes to result in a material adverse effect on this group of fixed income investors.

10.16 LBG’s due diligence identified no terms and conditions within the covered bonds that are not compliant with, or require amendment as a result of, the Ring-fencing Regime. As previously mentioned, there is also no indication that the credit rating of the Transferors is likely to change. LBG has confirmed that all covered bond programmes will continue to remain within the Transferors and no intra-group funding facilities with LBCM exist within the transaction structures. Therefore, the rating of LBCM is not a relevant factor for covered bond holders.

10.17 Overall I have not identified any likely material adverse effects of the Scheme on fixed income investors.

Employees

10.18 Employees of LBG could be affected by additional work and training required as a result of the implementation of the Scheme. However, I would expect it to be managed as part of the ongoing operation of LBG and, as such, do not view this as a material effect of the Scheme. There will be no changes to their underlying terms of employment such as remuneration and benefits as a result of the Scheme and I am satisfied that the Scheme is unlikely to affect in any significant way the ability of LBG and sub-groups to honour payments due to employees. As such, I have not identified any likely material adverse effects of the Scheme on employees of LBG.

Financial Market Infrastructure

10.19 FMI providers deliver services in relation to the clearance and settlement of transactions as well as the movement of moneys and securities for LBG. I have not identified any likely material adverse effects of the Scheme on FMI providers and users.

Third party suppliers and intermediaries

10.20 Third party suppliers provide goods and/or services to LBG and intermediaries refer business on to LBG for a fee or commission, such as those intermediaries who provide introductions across different areas of business, such as mortgages, commercial (hire purchase and leasing, discount factoring and lending), car financing, insurance and cards.


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10.21 LBG has performed due diligence to identify whether any contracts with suppliers and intermediaries will need to be amended as a result of the Scheme. No such requirement has been identified to date. If any such requirements were identified, the effect is likely to be short-term and minimal (restricted to the transitional effect of establishing the new terms) for most suppliers/intermediaries as their underlying contracts and terms of business should remain unchanged. The effect would be greatest for any RFI suppliers/intermediaries whose contracts may need to be terminated.

10.22 LBG has performed due diligence to identity suppliers and intermediaries who are RFIs. For the contracts with suppliers and intermediaries who have been identified as RFIs, LBG has not identified a supplier or intermediary that they cannot apply an exemption to address any prohibited exposure nor does it anticipate having to cancel any of those supplier or intermediary contracts with these RFIs. LBG has not identified any third party suppliers and intermediaries that are expected to suffer any adverse effects as a consequence of the Scheme.

10.23 I am satisfied that there is not likely to be any material adverse effect as a result of the Scheme on these suppliers and intermediaries.

Other legal entities in LBG, joint ventures and partnerships

10.24 LBG plc, the RFB Sub-group and the NRFB Sub-group, are likely to be affected as a result of the Scheme. For LBG plc, the setup of LBCM and transfer of the Insurance Sub-group and Equity Investments Sub-group to LBG plc has necessitated changes to LBG’s governance structure. The RFB Sub-group and NRFB Sub-group will be serviced by the SSM and there is an additional requirement to set up Ring-fence Control Teams (“RFCTs”) to monitor the ring-fence perimeter and new procedures to maintain independence.

10.25 It is also likely that the NRFB Sub-group entities will experience a financial effect of the Scheme, such as the potential net financial effects of assets and liability transfers, consequences of design decisions taken by LBG in order to comply with the Ring-fencing Regime, and the relative rating of LBCM versus the Transferors. These changes are a direct result of the design of the Scheme and are needed to effect the Ring-fencing Regime and, as a result, I consider these effects to be not greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

10.26 I have not identified any other likely material adverse effects of the Scheme on other legal entities in LBG, joint ventures and partnerships.

Competitors using LBG’s facilities

10.27 Some of LBG’s competitors, such as TSB Bank plc and Sainsbury’s Bank plc, use LBG’s facilities, such as their FMI. I have not identified any likely material adverse effects of the Scheme on Competitors using LBG’s facilities.

Regulatory, government and financial bodies

Regulatory authorities

10.28 The PRA and FCA will be affected by the operational, structural and financial changes to LBG to accommodate the Scheme, such as the requirement to set up a banking licence and the assessment of the Statutory Question.

10.29 There is likely to be additional workload on the PRA and FCA as a result of implementing the Scheme, such as increases in the level of reporting, monitoring and supervision required, as well as the additional one-off workload of LBCM applying for a banking licence. The effect is expected to be material, particularly over the short-term, as LBCM becomes established. However, the requirement for the creation of LBCM is a direct consequence of the legislative requirements. I consider these operational and transitional effects will not be greater than


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reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA. I am satisfied that there will not be any direct effect on Crown Dependency and other overseas regulatory authorities, as no non-UK business will be transferred via the Scheme.

FSCS

10.30 The FSCS protects customers’ eligible deposits in the event that authorised entities, such as BoS plc and LB plc, fail. I have not identified any likely material adverse effects of the Scheme on the FSCS as there are likely to be no changes to the fees payable to the FSCS and no deposits will be transferred under the Scheme.

Tax authorities

10.31 I am satisfied that there is not likely to be any material adverse operational or transitional effect on UK tax authorities as a result of the Scheme. I have assessed the financial effect of the Scheme on tax authorities in Section 16 of this Summary Report (and in further detail in Section 15 of my full Scheme Report).

10.32 I am also satisfied that there will be no effect on the tax authorities of EEA Branches as a result of the Scheme as all EEA Branch activity is expected to remain within the RFB Sub-group and therefore will not be transferred via the Scheme. There will be no adverse effect on Crown Dependency and overseas tax authorities as a result of the Scheme either, as the non-UK business will not be transferred via the Scheme.

Future customers and Other Relevant Persons

10.33 Given that future customers and Other Relevant Persons, with no existing relationship to LBG, do not currently have any direct or indirect interests in LBG, I am satisfied that it is not possible for the Scheme to have an adverse effect on the current interests of these persons. To the extent that these persons become customers or Other Relevant Persons in the future, they will do so in the knowledge of the effect of the Scheme and so will not be affected by the Scheme.

Customers of the Insurance Sub-group

10.34 The policies held by customers of the Insurance Sub-group are not transferring under the Scheme. Given this, I do not believe that the Scheme would change the level of benefits that customers would expect to receive, the division’s regulatory capital requirements, risk appetite framework and the applicability of the FSCS to the business in the division.

10.35 Overall, I am satisfied that there are not likely to be any adverse effects on the customers of the Insurance Division.

Persons connected with customers

10.36 LBG has identified certain Other Relevant Persons who are connected with customers, rather than being customers themselves:

• Securitisation noteholders and other secured creditors: where the Transferor has entered into a liquidity facility with a securitisation SPV, I have considered the potential adverse effects for holders of securitisation notes in paragraphs 9.28 and 9.29 of this Summary Report (and in more detail in paragraphs 6.64 to 6.71 of my full Scheme Report). Where a Transferor has entered into a liquidity facility or a derivative with a securitisation SPV, the bankruptcy remote and limited recourse nature of the SPV may mean that the adverse effects on the customer (i.e. the SPV), which are identified throughout Section 9 of this Summary Report (and in more detail throughout Section 6 of my full Scheme Report), are passed on to the holders of the SPV’s notes and other secured creditors. I am satisfied


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that my conclusion in respect of those customers extends to these identified persons connected with customers;

• Third party beneficiaries or pledgees of a Trade Instrument: I have considered the potential adverse effects for third party beneficiaries or pledgees of a Trade Instrument in paragraphs 9.49 to 9.52; and

• Persons who have granted security or provided a guarantee to a Transferor; agents in bilateral or syndicated structures; third party syndicate members in syndicated structures; Governmental entities with consent or notification rights in respect of transfers or modifications of swaps between a Transferor and an SPV; and customers’ insurers (including monoline insurers):

The potential adverse effect on these persons is in relation to: provisions in a contract with a customer being overridden by the Scheme, and the consequential effect this may have on a person connected to that customer; foreign law security issues; and certain transitional effects of the Scheme.

The effect on customers of these contractual provisions being overridden is considered in paragraphs 9.53 to 9.54; the effect on customers of foreign law security issues are considered in paragraph 9.71; and the relevant transitional effects on customers are considered in paragraphs 9.77 to 9.78. In each case I am satisfied that my conclusion in respect of those customers extends to these identified persons connected with customers.

11. Capital, liquidity and funding

11.1 I have considered the effect of the Scheme on the capital and liquidity positions of LBG and

relevant subsidiary entities before and after the changes to determine whether I believe they are likely to lead to an adverse effect on any stakeholders.

11.2 I considered the effect of the Scheme on all stakeholders as the adequacy of capital and liquidity in the entities after the implementation of the Scheme has the potential to affect all stakeholders rather than any one single stakeholder group. Inadequate capital could result in a bank being

unable to absorb losses and therefore be vulnerable to market stress. Inadequate liquidity and funding could result in a bank not being able to meet its payment obligations. For example,

bondholders not receiving full repayment of their investment, depositors not being able to withdraw their deposits or suppliers not being paid.

11.3 Although LB plc and BoS plc are separately regulated entities, for the purposes of drawing my

conclusions I have focused on reviewing the effect of the Scheme on the following entities and not at the individual legal entity level:

• LBG on a consolidated basis;

• The RFB Sub-group; and

• LBCM.

11.4 To enable me to make a comprehensive assessment of the adequacy of capital and liquidity, I have used a variety of metrics for each of the three post-Scheme grouping of entities, and

compared each of them with the position of LBG prior to the implementation of the Scheme. The Scheme ultimately results in separation of entities to reduce the risk of failure of the RFB

Sub-groups across the consolidated group. It is my view, therefore, that assessing the effect on a range of different but relevant capital and liquidity measures at the respective group and

sub-groups’ consolidations, rather than at an individual entity by entity level, is a reasonable way in which to consider the potential for adverse effects arising from the implementation of the Scheme.


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11.5 I have analysed the financial viability of LBG post-Scheme, the RFB Sub-group and LBCM, and I have considered any potential adverse effects to stakeholders, in detail in Section 10 of my

full Scheme Report.

11.6 From these considerations, I have concluded that there are two potential adverse effects to

stakeholders that may arise from the change in financial viability of the post-Scheme entities, as follows:

• That LBCM is perceived as a relatively riskier entity; and

• The RFB Sub-group will be responsible for all the defined benefit (“DB”) pension obligation risk that might otherwise be borne by LBCM.

11.7 The Scheme is not expected to affect materially the capital or liquidity position of LBG or the

RFB Sub-group.

11.8 However, the comparison of capital ratios between LBG pre-Scheme implementation and

LBCM identifies that LBCM has lower ratios for total capital in both the base case and stress case scenarios. In both base and stress case scenarios, the capital position of LBCM remains above regulatory minimum requirements, but with less headroom above regulatory

requirements than is the case for LBG pre-Scheme. The reduction in headroom indicates that LBCM is a relatively riskier entity than LBG pre-Scheme.

11.9 Similarly, analysis of the liquidity position of LBCM highlights that LBCM has a different and potentially relatively riskier liquidity profile than LBG pre-Scheme, given the expectation that the projected liquidity ratios result in some use of the liquid asset buffer at the low point of the stress

scenario (with BAU regulatory requirements being met within a year of the low point of the stress scenario) and the sources of funding of LBCM having the potential to become more

expensive than is the case for LBG pre-Scheme.

11.10 In light of the mitigating considerations, which are (a) that regulatory capital minimum

requirements are projected to be met; (b) following a stressed situation, LBCM is able to recover to above regulatory liquidity requirements as a result of management actions that are projected to be available in a stressed situation to reduce the severity of the effect of a potential liquidity

stress case; and (c) that LBCM stakeholders are likely to be sophisticated, have a greater understanding of risk and have access to multiple banks, I do not consider these potential

adverse effects, caused by the perception that LBCM is a relatively risker entity, to be material.

11.11 With regards to the DB pension obligation, pre-Scheme individual subsidiaries of LBG who are participating employers are legally responsible for their respective obligations to the DB pension

schemes. Post-Scheme, the pension obligation risk of the DB pension schemes will be, subject to regulatory confirmations, borne entirely by the RFB Sub-group, although costs in respect of

those employees working outside of the RFB Sub-group will be recharged to the relevant entities, such as LBCM.

11.12 Based on the analysis of the financial strength of LBCM, detailed within Section 10 of my full

Scheme Report, I consider the possibility of LBCM not being able to make payments (such as if LBCM were to default) on costs charged under the SSM, as being remote. As such, the

pension liability borne by the RFB Sub-group, in relation to employees that could otherwise have remained employees outside of the RFB Sub-group, is not material and does not present

an adverse effect on customers and Other Relevant Persons in the context of the financial viability of the RFB Sub-group and its ability to meet pension obligations as and when they become due.


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12. Governance and risk management

12.1 I have considered the governance and risk management arrangements of the Transferors, LBCM and LBG plc, together “the entities”, in order to determine whether, in my opinion, the changes in these arrangements as a result of the Scheme could lead to an adverse effect on customers and Other Relevant Persons.

12.2 Under the Scheme, LBG plc will retain responsibility for the governance of LBG. Its board membership and responsibilities will remain unchanged from current arrangements, and will include the recent appointment of Lord Lupton as the Chairman of LBCM. Separate legal entity boards and the relevant board committees are already in place and operating for the Transferors and will be established for LBCM. These boards will sit beneath the LBG plc Board and board committees and will be “siblings” of each other and of the Insurance Sub-group and Equity Investments Sub-group. Board meetings will be held covering matters pertaining to LBG plc and the Transferors concurrently, however, board attendees will only exercise their responsibilities in relation to matters pertaining to the entity or entities for which they have board membership. Separate board meetings will be held in respect of LBCM only. To achieve this governance structure, LBG has applied for modifications from certain requirements of the PRA’s Ring-fencing Rules. As at the date of this Summary Report, the PRA’s approval of the modification application remains outstanding. In November 2017, the PRA considered the Transferors’ proposed modification application and has granted, subject to certain conditions, an “in principle” decision with respect to all but one of the modifications sought. The PRA has requested that the Transferors provide, and the Transferors have agreed to provide, an updated application in relation to that final element of the modification application in January 2018. This would support the PRA’s final decision in respect of all aspects of the modification application later in 2018.

12.3 Under the Scheme, LBCM will set and operate within its own risk appetite statement, risk management framework and risk profile. LBCM must also operate within LBG limits.

12.4 As part of my analysis, detailed in Section 11 of my full Scheme Report, I identified three areas of potential adverse effects due to the governance and risk management arrangements under the Scheme:

• The independence of the Transferors from LBG plc as a result of shared board representation;

• The influence of LBCM at the LBG plc Board as a result of LBCM having comparatively less representation at the LBG plc Board; and

• The ability of LBCM and the Transferors to operate independently up to the maximum limits of their own risk appetite statements, whilst taking into consideration the restrictions that would be required on the operations of the Transferors and/or LBCM. I have observed that the sum of the two risk appetites exceeds LBG’s overall limits, as documented within the proposed Transferors’ and LBCM risk appetite statements.

12.5 I have considered safeguards in place, including but not limited to directors’ responsibilities under the Companies Act 2006, separation of board materials, including separate risk appetite statements, and the presence of three “RFB-only” independent non-executive directors on the Transferors’ boards, to ensure that the boards of LBG plc, the Transferors and LBCM can act independently of each other. I have also considered the responsibility of the LBG plc Board for LBG risk appetite and the conflict of interest escalation processes which are in place to identify, manage and resolve conflicts of interest within LBG.

12.6 After consideration of the safeguards, detailed in Section 11 of my full Scheme Report, which will be implemented by LBG to mitigate the potential adverse effects identified above, I am satisfied that changes to governance and risk management arrangements as a result of the Scheme will not lead to an adverse effect on customers or Other Relevant Persons.


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13. Operational continuity arrangements

13.1 I have considered the likely effect of the Scheme on the quality of the operational continuity arrangements of LBG and on the ability of LBG to continue to provide services to its customers in a resolution situation.

13.2 Operational continuity, in the context of UK banking regulations, refers broadly to the regulatory requirements implemented by the PRA relating to the operational arrangements for what are referred to as “critical services”, being those services that need to be available to one or more business units of an organisation or entity of a group in order for that group to continue to provide functions critical to the economy.

13.3 My analysis, detailed further in Section 12 of my full Scheme Report, focuses on whether LBG will become any less able to continue the provision of its critical services as a result of the Scheme. I have not sought to conclude on whether LBG would currently be, or will be after the Scheme is effected, able to continue the provision of critical services in the face of a severe financial deterioration, as that is outside of the scope of my full Scheme Report.

13.4 The Ring-fencing Regime places restrictions on the entities from which RFBs are permitted to receive services and access facilities. As a consequence of this, as was the case with the pre-ring-fencing structure of LBG, the majority of services and supply arrangements will remain with the Transferors and will be passed through via the internal SSM to the rest of LBG. As a result, customers and Other Relevant Persons that will become exposed to LBCM as a result of the Scheme will be reliant on the RFB Sub-group, under the SSM, for the critical services required for LBCM to continue in operation. The three most significant resources or other arrangements that the RFB Sub-group will use to provide services to LBCM are:

• Staff resources;

• Third party contractual arrangements, excluding FMIs; and

• Access to FMIs.

13.5 Staff resources are a key component of service provision. As with physical assets, these resources will be employed within the RFB Sub-group, and provided to the appropriate legal entity depending on need and the type of staff. It is not possible to determine with certainty how the availability of staff resources will affect operational continuity in a period of stress, due to a wide range of possible stress scenarios and possible responses. However, the proposed legal and governance provisions which LBG has outlined in the master intra-group agreement, and people services agreement (“PSA”), and plans to implement should help to ensure that staff resources remain available to support the operational continuity of LBG and that any significant conflicts are appropriately identified and resolved. In addition, the contractual arrangements set out in the master intra-group agreement, and the PSA, including the termination and the recovery and resolution provisions, will include clauses specifically designed to ensure the continuity of service provision under the SSM in the event of LB plc entering recovery or resolution.

13.6 Due to LBG’s Standard Terms of Business (“STOB”), which contains provisions allowing for the services under the STOB to be provided to other entities within LBG, I have no reason to believe that access to services provided via third party contractual arrangements would materially adversely change as a result of the Scheme.

13.7 LBCM will require indirect access to a number of FMIs, where the direct membership will be held by one of the Transferors. The resolution strategy for the Transferors would be designed to ensure operational continuity in resolution for both of the Transferors, as those entities both provide functions that are regarded as critical to the UK economy. As such, when combined with the recovery and resolution provisions of the SSM, it is reasonable to assume that LBCM


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would continue to have access to FMIs, even where that access is provided indirectly via the Transferors.

13.8 Overall, I am satisfied that the Scheme is not likely to result in a material adverse effect on the quality of the operational continuity arrangements of LBG or on the ability of LBG to continue to provide core services to its customers.

14. Recovery and resolution planning

14.1 I have considered the likely effect of the Scheme on LBG’s recovery and resolution planning and the ability of LBG to be resolved in the event of LBG’s failure.

14.2 Recovery and resolution planning rules, which are set by the PRA:

• Require the industry to be better prepared for future financial stress through credible and robust recovery planning;

• Help the Bank of England (“BoE”) in its role as the UK Resolution Authority by requiring firms to provide information to be used in resolution plans; and

• Ensure the feasibility of bailing-in creditors including, in respect of certain liabilities, by requiring the contractual recognition of bail-in.

14.3 The rules require banks, building societies, qualifying parent undertakings and PRA-regulated investment firms to produce recovery plans (identification of options to recover financial strength in stress situations) and resolution packs (information to support resolution planning by the UK Resolution Authority).

14.4 The focus of my analysis, detailed further in Section 13 of my full Scheme Report, has been on the effect of the Scheme on LBG’s recovery and resolution planning, including whether LBG will become any less able to be resolved in a way that meets the objectives of the UK Resolution Authority as a result of the Scheme. I have also considered whether the Scheme results in a deterioration in the relative position of creditors of the Transferors or LBCM in the creditor hierarchy, in the event of resolution.

14.5 I have reviewed LBG’s 2017 Recovery Plan and the draft Recovery Plan for LBCM. The draft Recovery Plan for LBCM contains an initial list of 16 recovery options, split across those internal to the NRFB Sub-group (i.e. not reliant on LBG support or decisions or other counterparties or customers), those external to the NRFB Sub-group (those not reliant on LBG support or decisions but that involve other counterparties external to LBG), and intra-group actions. Those recovery options are consistent with those I would expect to see for an institution of the size and nature of LBCM. Indeed, the additional and more granular analysis of recovery options available to LBG that the creation of a specific Recovery Plan for LBCM will necessitate could be regarded as an enhancement to recovery planning. As such, I am satisfied that the Scheme will not have an adverse effect on the recovery planning of LBG.

14.6 With respect to resolvability, the resolution strategy is and will remain a decision for the UK Resolution Authority. However, the resolution strategy for LBG is not expected to change as a result of the Scheme. In the event of LBG entering resolution, notwithstanding the changes to LBG’s structure that complying with the Ring-fencing Regime will result in, I have not identified a material adverse change in the likely approach to resolution of LBG and nor have I identified any aspect of the Scheme that is likely to adversely affect the resolution process. As a result, I am satisfied that the ability of LBG to be resolved is not adversely affected by the Scheme.

14.7 With respect to the creditor hierarchy, for creditors (such as bondholders in particular) potential adverse effects may arise should the Scheme result in a relative weakening of their position in the creditor hierarchy from the position before the Scheme to their position after the Scheme is implemented (that is, moving the order in which creditors are paid in the event of an insolvency).


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This adverse effect may affect creditors of both the Transferors and NRFB Sub-group and creditors of the ultimate parent company, LBG plc. In order to consider the potential effect of the Scheme on creditors’ relative positions in the creditor hierarchy, I have analysed the liabilities and equity of each of LBG plc, the current LB plc entity, the future RFB Sub-group headed by LB plc and the future NRFB Sub-group headed by LBCM and compared their position before and after the Scheme. Whilst the overall liability mix in both the Transferors and in LBCM will change as a result of the Scheme, all of the creditors’ actual positions in terms of their respective seniority will stay the same, for example, subordinated debt will remain as subordinated debt and will remain junior to senior unsecured funding in each entity.

14.8 For creditors of the Transferors, I have considered whether there would be an adverse effect as a result of assets being transferred under the Scheme at less than their fair value. Whilst there are a large number of asset and legal entity transfers taking place as a result of LBG seeking to comply with the Ring-fencing Regime, the Scheme itself is only transferring assets from the Transferors to LBCM. The majority of these assets will be transferred at their fair value, because that is the value at which they are held by the Transferors. For those assets that are being transferred at amortised cost, I am satisfied that the difference between amortised cost and fair value is unlikely to be material in the context of considering any adverse effects to creditors.

14.9 Creditors of LBG plc are potentially more exposed to the losses of LBCM post-Scheme as there could be some scenarios where they are affected financially earlier than they would be prior to the implementation of ring-fencing. This would only be the case if a loss incurred by LBCM were significant enough to result in LBG being placed into resolution and, given the relatively small size of LBCM relative to LBG, I do not consider this to be a likely event.

14.10 For creditors of LBCM, the relative proximity to actual losses, should they occur, will be similar in percentage terms to that before the Scheme. For example, circa 10% of the Transferors’ total liabilities are expected to be more junior than senior unsecured funding, whereas for LBCM the comparable figure is 11%. However, creditors of LBCM arguably may be more susceptible to actual losses after the Scheme than before, given the smaller size of LBCM’s balance sheet, narrower business focus and susceptibility to specific stress events. This potential adverse effect would only be applicable in the case of insolvency of LBCM. The insolvency of LBCM is not expected. However, it is possible that a creditor could perceive that they will suffer an adverse effect.

14.11 This leads me to part B of the Statutory Question for any creditors that do suffer a material adverse effect. I am satisfied that the approach taken by LBG in designing LBCM was reasonable and that there were no reasonable alternative Scheme structures that would have achieved LBG’s design principles for ring-fencing and resulted in less of an effect on creditors of LBCM. To the extent that a creditor of LBCM’s risk increases, I am satisfied that any adverse effect will not be greater than reasonably necessary in order to achieve the relevant ring-fencing purpose, as set out in Section 106B(3)(a) of the FSMA.

15. Information technology and payment implications

15.1 I have considered the effect of the Scheme on the operation and support of LBG’s IT and payment systems along with the associated processes, together with the possible effect on customers and Other Relevant Persons following the implementation of the required changes under the Scheme.

15.2 The implementation of the Scheme will require a number of changes to IT and payment systems along with associated processes. However, the significant majority of changes can only be implemented after the Scheme has been sanctioned by the Court. Consequently, my review has primarily consisted of a review of planning, design and testing documentation, together with meetings with LBG’s management responsible for the implementation of these changes.


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15.3 The planned IT changes that are required as a result of the Scheme, and as a consequence of the wider group restructuring in order to comply with the broader Ring-fencing Regime, are:

• Configuration and code changes to the existing IT infrastructure to accommodate LBCM;

• Changes to allow BoS Isle of Man branch customers with mortgage products to be migrated to BoS plc UK branches due to the closure of the BoS Isle of Man branch;

• Changes to provide LBCM with access to UK Payment Schemes and FMIs through direct membership, or an indirect access arrangement via LB plc or external providers; and

• Separate Visa membership is required for LBCM in order to provide independent resolvability between LB plc and LBCM, to comply with Visa scheme requirements.

15.4 My analysis was designed to identify whether the proposed IT change programme would be likely to result in adverse effects on customers or Other Relevant Persons and included consideration of: IT and payment system changes and the implementation programme; the availability and experience of resource to implement the IT change programme within the timeframe required; and the IT governance and risk management arrangements within LBG to support the IT changes.

15.5 The scope of my work is necessarily limited to a review of activities planned to occur following the approval of the Scheme. I have reviewed the IT change plans, the resources required, the governance around the plans and enquired about LBG’s history in dealing with changes similar to these in the past.

15.6 It is not possible to determine with any certainty the success or otherwise of the proposed IT changes because, as with any IT change, there will always be some risk associated with the execution. However, I am satisfied that LBG’s approach to designing, building, testing and executing their IT change programme is reasonable and I do not believe it is likely to result in any material adverse effects on customers or Other Relevant Persons.

15.7 In respect of the BoS Isle of Man customer migration, the timing and migration plan is still under discussion as at the time of this Summary Report. However, LBG has significant experience in undertaking and successfully completing large scale IT customer migration projects, such as the divestment of its TSB Bank plc business in 2013. The migration of circa 1,000 BoS Isle of Man customers is significantly smaller in comparison. Based on the information I have reviewed and the explanations I have been provided with, there may be adverse effects on customers due to changes in sort codes and account numbers. Whilst this change may result in a degree of inconvenience for the affected customers, any such change will not be as a result of the Scheme, which the Court is being asked to sanction, but is a consequence of the wider group restructuring in order to comply with the broader Ring-fencing Regime.

15.8 I am also satisfied that the proposed changes to payment arrangements, including the changes to the Visa membership and the changes to provide LBCM with access to UK Payment Schemes and FMIs, do not affect customer access to payment services, the types of payments that can be made or received or the ways in which those payments can be made. Therefore, I do not expect any likely adverse effects to customers or Other Relevant Persons due to any changes to payment arrangements as a result of the Scheme.

16. Taxation implications

16.1 I have considered the effect of the Scheme on customers and Other Relevant Persons (specifically bondholders, employees, LBG’s pension schemes, pension scheme members and tax authorities) from a tax perspective and whether either might be adversely affected by any changes in tax charged, or likely to be charged.


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16.2 Based on my discussions with LBG, LBG does not consider there is likely to be any change to the underlying status of customers, and therefore, believes that there should be no potential adverse tax effects. However, it is not possible, either for me or LBG, to confirm with any certainty that there will be no such effects as LBG is not necessarily party to any arrangements that may result in tax effects on customers. It is expected, however, that the communication strategy proposed may identify adverse effects since it gives customers the opportunity to raise any concerns arising from the Scheme with LBG. To date, there is an effect that has been identified through this process where there may be a tax detriment as a result of the Scheme. This matter is considered in paragraph 9.47 of this Summary Report. Should any further material adverse effects be identified by customers I will discuss these matters with LBG and will provide an update, if required, in my Supplementary Report.

16.3 Other than as described in paragraph 16.2, I am satisfied that there should be no material adverse tax effect for customers or Other Relevant Persons as a result of the Scheme.

17. Pension arrangements

17.1 I have considered the effect of the Scheme on pension stakeholders with regards to occupational pension arrangements provided by LBG. There are two types of occupational pension schemes that LBG has:

• DB pension schemes, where members accrue future benefits at a defined level; and

• Defined contribution (“DC”) pension schemes, where an employer’s obligations to members are limited to making contributions, at a defined level, to the members’ benefits funds on a regular basis, over a period agreed between the employer and the trustees.

17.2 The Ring-fencing Regime does not place the same restrictions on DC schemes as it does on DB schemes. As a result, the Scheme and ring-fencing more generally are not expected to have any effect on the operation of DC pension schemes and I have not considered them in detail in my analysis.

17.3 Pension stakeholders in the context of my Summary Report are:

• Scheme members – members of the various pension schemes, including active members (who are still accruing benefits), deferred members (members who are no longer accruing benefits, but who are yet to retire and take their pension) and retired members with pensions in payment;

• Trustees of the schemes – who have responsibility for ensuring that the pension scheme is run properly and that members' benefits are secure;

• Employers (and their owners) – who have some obligation to contribute to the scheme to support the ongoing payment of benefits;

• The Pension Protection Fund (“PPF”) – a fund independent of LBG plc that provides compensation to members of eligible DB pension schemes, where the employer becomes insolvent; and

• The Pensions Regulator – who is primarily concerned with the security of members’ benefits and avoiding the need for claims on the PPF.

17.4 I have identified the following changes where I believe that the effect of the Scheme and ring-fencing on pension arrangements could have a potentially material effect on the interests of pension stakeholders:

• Three employers that currently participate in at least one of the schemes will cease to participate in those schemes;

• The principal employer of the Scottish Widows Retirement Benefits Scheme (“SWRBS”) will be changed from Scottish Widows Limited (“SWL”) to LB plc; and


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• Certain subsidiaries of LB plc will be sold to and become direct subsidiaries of LBG plc, which will immediately reduce the reported equity of LB plc. This could have an effect on the strength of the employer covenant provided by LB plc.

17.5 With regards to the exit of the three employers, the intention is that a small number of current employees of LBIL and employees of BHOL, that are active members of one of the pension schemes, will be offered employment within the RFBs to allow them to continue active membership of their current pension scheme. These members will see no change in their benefit expectations. However, employees of the third employer, Foundation, do not need to be offered employment within the Transferor. By 2025, I would not expect any Foundation employees to be active members in the pension schemes.

17.6 I do not expect that this change is likely to lead to an adverse effect on stakeholders associated with the affected pension schemes. I will continue to discuss these outstanding matters with LBG and will provide an update in my Supplementary Report, if required.

17.7 With regards to the change in principal employer from SWL to LB plc, given that LB plc, which is one of the two Transferors, is the main employer for the affected schemes, I am satisfied that the RFB being responsible for all the pension schemes is an appropriate operational structure and that, in isolation, the operational changes are not likely to lead to a material adverse effect on any stakeholders of SWRBS.

17.8 The ability of the participating employer or employers to meet the pension liabilities is called the employer covenant. The pension scheme trustees take into account the employer’s duty to support the schemes, the employer’s financial ability to fund the scheme and their willingness to do so. The extent of any change in the employer covenant depends on a number of factors, including the effect of the transfer on the financial position of LB plc; the ability of LB plc to generate future profits and cash to grow capital organically; and the extent to which any mitigating might be agreed with the trustees.

17.9 The strength of the LB plc employer covenant after the Scheme has been implemented and following the sale of LB plc subsidiaries, which is necessary to comply with the broader Ring-fencing Regime, will change. Whilst its balance sheet size and future profitability will fall post-Scheme, it will have stronger capital ratios and therefore there is arguably less risk of failure. The trustees will need to assess the impact of changes brought about by ring-fencing and consider whether there is a material detriment to the pension schemes. To the extent that the pension scheme trustees have any concerns over the changes to the employer covenant, they might look to agree a mitigation package with the employers to address this. Whilst this should minimise the impact on the pension schemes, it may have an effect on capital reserves and shareholder returns of LBG. Overall, at this stage, I conclude that there will not be a material adverse effect on stakeholders of the affected pension schemes.

18. Communication approach

18.1 Since 30 January 2017, LBG has been engaging in initial communications, separate to the Scheme Communication Programme noted in paragraph 18.2, with customers who, in LBG’s view, are likely to be affected by the Scheme (“Initial Communication Programme”). The Initial Communications Programme is expected to continue until 30 November 2017 and in any event will have been completed no later than the date on which customers receive the detailed individual notifications to be sent to those customers following the Directions Hearing. The overall aim of the Initial Communication Programme is to inform customers about the impacts of LBG’s implementation of the Scheme on them.

18.2 As part of LBG’s Scheme Communication Programme, individual notices will be sent to customers with transferring business and/or duplicated agreements under the Scheme (referred to in paragraph 9.6 of this Summary Report) and customers whose products are being


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curtailed, with no equivalent product being offered following the Effective Date. These individual notices will cover issues relevant to the customers and provide further details of the Scheme. Individual notices are to be sent to unaffected customers of the Commercial Banking division, and limited individual notifications are to be sent through available BAU communications to certain Retail and Consumer Finance customers. In addition, the Scheme Communication Programme includes a public communications strategy (i.e. through branch leaflets, online content, ATM receipts and national newspapers) for all unaffected customers of LBG, including (though not targeted in particular to them) Insurance customers. Other Relevant Persons (namely certain employees; fixed income investors; certain legal entities within LBG; shareholders of the Parent Company; certain pension trustees; and persons connected with customers) will typically receive notice by way of a brief statement made through the channels and methods of communication that they typically receive from LBG, i.e. the BAU channels (except for certain groups of persons where this is not possible, for example where LBG do not hold the necessary contact details).

18.3 I have identified a possible effect of the Scheme in relation to the risk of fraudulent activity. Each of the banks required to comply with the Ring-fencing Regime will adopt different approaches in order to achieve a compliant business by the Statutory Deadline. This means that different groups of customers may be affected in different ways and at different times. For example, for some UK banks implementing ring-fencing, it is understood that their retail banking customers are likely to experience some change, including, for example, changes to sort codes of their accounts. As a result, these retail banking customers may receive individual communications explaining the effect to them, whereas the Scheme will not result in such a change to LBG’s Retail Banking customers. As a result, there is an increased risk of confusion around what the Scheme means to LBG’s customers individually, which could result in them becoming more susceptible to fraudulent communications.

18.4 The information provided via the channels referred to in paragraph 18.2 aims to raise awareness of ring-fencing and LBG’s proposed model, and includes information that encourages customers to “be extra vigilant about fraud” due to the period of change in UK banking as a result of the Ring-fencing Regime. While it is not possible for me to conclude that there will be no additional cases of fraud as a result of the existence of the ring-fencing programme, I am satisfied that the materials provided assist to mitigate the likelihood of such fraudulent activities occurring and, through the notification of relevant customer groups, there is not likely to be a material adverse effect from an increased risk of fraud as a result of the Scheme.

18.5 I have reviewed LBG’s communication approach, including actual communications issued to date and templates and/or drafts of communications planned to be issued and I am satisfied that LBG’s communication plan, and the actual and draft or template communications I have seen to date, are clear, fair and not misleading. I note that many of the communications will be sent to or otherwise made available to customers and Other Relevant Persons after my full Scheme Report is issued and my conclusion is therefore based on the proposed communications rather than the actual communications that will be issued by LBG. Should the actual communications differ appreciably from the proposed communications I have reviewed, I will reconsider this in my Supplementary Report, if required

19. Process to lodge objections to the Scheme

19.1 Under Sections 110(3)–(5) of the FSMA, any person who alleges that they would be adversely affected by the carrying out of the Scheme is entitled to be heard at the hearing to sanction such a scheme if, before the hearing, they have filed with the Court a written statement of representation that they wish the Court to consider, and have served copies of the statement on the PRA and the Transferors concerned.

19.2 In order to facilitate the timely consideration of objections before the Sanction Hearing date on 27 March 2018, the Court directed that written statements of representation be filed with the


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Court and copies served on the PRA on or before 28 February 2018. Both Transferors have agreed with the Court that a copy of any statement filed with the Court does not need to be served on them.

19.3 Where objections made in writing are received prior to the date of my Supplementary Report, I will consider those objections alongside any other additional evidence in my further comments on the Scheme.


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Appendix: Glossary

Amortised cost is the amount at which the financial asset or financial liability is measured at initial recognition, minus principal repayments, plus or minus the cumulative amortisation using the effective interest method of any difference between that initial amount and the maturity amount, and minus any reduction (directly or through the use of an allowance account) for impairment.

Asset Finance is financing for assets such as vehicles or equipment.

Bail-in is a process of rescuing an FI on the brink of failure by making its creditors and depositors take a loss on their holdings.

Bank of England (BoE) is the central bank in the United Kingdom. The BoE has a wide range of responsibilities, it acts as the Government's bank and is the lender of last resort. The BoE issues sterling currency and oversees monetary policy.

Bank of Scotland plc (BoS plc) is a subsidiary of HBoS plc and is to be an RFB.

Banking Reform Act refers to the Financial Services (Banking Reform) Act 2013 which implemented the recommendations of the ICB and the key recommendations of the PCBS, which reviewed the professional standards and culture in the banking industry.

Base case is the BAU environment or the expected scenario. If all things proceed normally, this is what the outcome is expected to look like.

Black Horse Offshore Limited (BHOL) is the Jersey regulated Consumer Finance business of LBG.

Board is the principal decision-making body in relation to all matters affecting the institution/organisation.

Bonds are debt investments in which an investor lends money to an entity (typically corporate or governmental) which borrows the funds for a defined period of time at a variable or fixed interest rate.

Business as usual (BAU) is the normal execution of operations within an organisation, i.e. the state of having things continuing in the usual or normal way.

Capital refers to financial assets or the financial value of assets.

Client Asset Management (CAM) are customers that hold products that form part of the portfolios that are in the process of being run off by the Transferors.

Commercial Banking is a form of banking that offers Wholesale and Investment Banking services to companies as opposed to individuals.

Commercial Real Estate (CRE): see definition for Global Corporates.

Commercial Real Estate Private Group (CRE Private Group): see definition for Global Corporates.

Commodities are goods of a fungible nature that can be delivered including metals, ores and alloys, agricultural products, and energy such as electricity.

Conduit is the funding of customer receivables with asset backed commercial paper.


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Consumer Finance is a sub-division of Retail Banking and a form of banking that offers unsecured personal loans and credit/charge cards to individual customers. The Retail Banking division also has smaller sub-divisions, two of which provide motor finance products and International Mortgage Services (a closed book of mortgage loans which is in run off), and for the purpose of my Scheme Report I have included these two small sub-divisions of the Retail Banking division within the Consumer Finance sub-division.

Contingency Funding Plan (CFP) is a liquidity crisis management document that is prepared as a response plan in the event of a financial emergency.

Core deposit is defined in Article 2(2) of the FSMA (Ring-fenced Bodies and Core Activities) Order 2014.

Core services are facilities for deposit taking, withdrawing money and making payments and overdrafts, all services relate to an account which is a core deposit.

Corporation tax (CT) is a levy placed on the profit of a firm to raise taxes.

Counterparty is the opposite party in a transaction.

Court is the High Court of England and Wales.

Credit refers to market-making in corporate bonds and loans.

Credit Default Swap (CDS) is a type of credit derivative in which one party, the credit protection buyer who is seeking credit protection against a third party, makes a series of regularly scheduled payments to the other party, the credit protection seller.

Credit Event upon Merger is a credit provision in an ISDA Master agreement where there is a designated event and this results in a big reduction in their creditworthiness, allowing the affected party to terminate all transactions under the agreement.

Credit line is considered to be the risk limit approved by a bank to allow a customer to transact with it in products on which it may be exposed to the customer (for example simple loans, derivatives, etc.).

Credit profile is an evaluation of the credit risk of a prospective debtor displaying their ability to pay back the debt, and an implicit forecast of the likelihood of the debtor to default.

Credit rating agency is an independent company that evaluates the financial condition of issuers of debt instruments and then assigns a rating that reflects its assessment of the issuer's ability to make the debt payments.

Credit Support Annex (CSA) is the annex to the ISDA Master Agreement which sets out the calculation of collateral.

Credit Valuation Adjustment (CVA) represents the difference between the risk-free portfolio value and the true portfolio value that takes into account the possibility of a counterparty's default.

Creditor hierarchy refers to a defined hierarchy of creditors when a firm becomes insolvent. In case of insolvency, secured creditors are at the top of the creditor hierarchy.

Critical services, in the context of UK banking regulation, critical services are those services that need to be available to one or more business units of a firm or entity of a group in order for that group to continue to provide functions that are critical to the economy.

Defined benefit (DB) is a type of pension plan in which an employer promises to pay a specific amount, such as an ongoing regular payment, lump sum or combination thereof (i.e. the defined benefit) to employees on retirement.


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Defined contribution (DC) is a type of pension plan in which an employer, employee, or combination of the two, make specific payments (i.e. defined contribution) on a regular basis which is set aside by the employer for the benefit of the employees. These funds are paid to employees on retirement according to certain pre-defined conditions.

Deloitte LLP (Deloitte) is the United Kingdom affiliate of Deloitte NWE LLP, a member firm of Deloitte Touche Tohmatsu Limited (DTTL). DTTL is a UK private company limited by guarantee and its network of member firms. DTTL and each of its member firms are legally separate and independent entities. DTTL and Deloitte NWE LLP do not provide services to clients.

Derivative instruments include any of the instruments listed in Articles (4) to (10) of Section C of Annex 1 to the markets in financial instruments directive.

Directions Hearing is the hearing at the High Court of Justice of England and Wales at which the timetable for the applicant to notify the public of the Scheme application and receive any submissions from interested parties is set.

Dodd-Frank relates to the Dodd-Frank Wall Street Reform and Consumer Protection Act 2010 in the USA, which introduced rules regarding the margin requirements for new derivative trades (if they are not cleared at a clearing house). This is the minimum amount the Federal Reserve Bank requires a customer to have on deposit, either in cash or approved securities as collateral with their counterparty. The rules did not apply to trades outstanding before the legislation was enacted.

Effective Date is the date on which the Scheme becomes effective, currently proposed as 28 May 2018.

Equity Investments Sub-group is the sub-group containing LBG Equity Investments Limited and its relevant subsidiaries, including Uberior Investments Limited, Lloyds Development Capital (Holdings) Limited, LDC (Managers) Limited, Housing Growth Partnership Manager Limited and certain strategic and other investments and shareholdings of LBG. LBG Equity Investments Limited is held directly by the parent company.

European Economic Area (EEA) comprises the EU and Iceland, Lichtenstein and Norway.

European Union (EU) is an economic and political union between 28 European countries.

Excluded Activity / Excluded Activities - The EAPO includes two categories of Excluded Activities that may not be conducted by the RFBs that are relevant to this Scheme:

• Excluded activities: dealing in investments as principal

The activity of dealing in investments as principal described in Article 14 of the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 is an excluded activity even where it is not a regulated activity by virtue of Articles 15, 19 or 20 of that Order, except where it is carried on in accordance with any of Articles 6 to 12 of the EAPO.

• Dealing Excluded activities: commodities trading

Dealing in commodities is an excluded activity, except where it is carried on in accordance with this Article, or any of Articles 6, 8, 9, 10, 11 and 12.

• The EAPO also sets out exemptions to these excluded activities that are available to Ring-fence banks.

Excluded Activities and Prohibitions Order 2014 (EAPO) refers to the FSMA (Excluded Activities Prohibitions) Order 2014 as amended by the Financial Markets Act 2000 (Ring-fenced Bodies, Core Activities, Excluded Activities and Prohibitions) (Amendment) Order 2016.

Exposure is a financial position that could change (either a loss or gain) depending on market price movements. Exposure is also defined in Article 1(4) of the EAPO.


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Fair value is a measure of the market price that would be received for a financial product in an orderly transaction between market participants, whether that is selling an asset or discharging a liability.

Financial asset is a resource with economic value that an individual, corporation or country owns or controls with the expectation that it will provide future benefit.

Financial Conduct Authority (FCA) is the UK conduct regulator for financial services’ firms and financial markets and the prudential regulator for a subset of these firms.

Financial Institutions (FI): LBG defines this customer segment as being:

• Banks: Banks (including correspondent, agency, UK “challenger” banks and other international banks) and Building Societies;

• Insurance: UK-based life, non-life and composite insurance companies, international insurers with a UK presence and brokers;

• Pensions, Wealth and Stockbrokers: UK based pension administrators, wealth managers and stockbrokers;

• Financial Sponsors: Private market investment managers (and funds);

• Institutional Investors: Asset Managers and Sovereign, Supranational and Agency bodies;

• Intermediaries: Brokerage firms, clearing and settlement firms, exchanges and market data firms;

• Specialist Finance: Specialist lenders and debt purchasers;

• Group Subsidiaries: LBG entities; and

• Government Bodies: UK central Government and Government Bodies.

Financial Market Infrastructure (FMI) is central to the clearance and settlement of transactions in the financial markets as well as the movement of money and securities around the world.

Financial product is a product purchased with the expectation of earning a favourable return.

Financial Services Compensation Scheme (FSCS) is the UK’s statutory compensation scheme for customers of authorised financial services firms.

Foreign exchange has spot and forward financial products to address the risk of a change in value of an asset or liability denominated in a foreign currency due to a change in exchange rates.

FSMA, or the Act, refers to the Financial Services and Markets Act 2000, the key statute that regulates the financial services industry in the United Kingdom.

Global Corporates (GC) are a customer segment of LBG which has two sub-segments:

• Business: Turnover in excess of £750m (or £500m in London); and

• Commercial Real Estate: Real Estate companies with asset values in excess of £25m or LBG lending in excess of £12m (of which there is a subset categorised as Commercial Real Estate Private Group (CRE Private Group) consisting of entrepreneurs and smaller property companies.

Government or UK Government is the central government of the United Kingdom of Great Britain and Northern Ireland.


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Grandfathering, refers to Article 21 of the EAPO which is a "transitional provision" stating:

“A ring-fenced body does not carry on an excluded activity or contravene a prohibition imposed by this Order by holding or selling any investments on or after 1st January provided that:

• The investment in question was created or acquired by the ring-fence body before 1st January 2019; and

• The period remaining until the investment matures is less than 2 years at 1st January 2019.”

Her Majesty’s Revenue and Customs (HMRC) is HM Revenue and Customs, the Government department responsible for collecting and administering taxes.

Independent Commission on Banking (ICB) is the commission appointed by the UK Government and chaired by Sir John Vickers to consider structural and related non-structural reforms to the UK banking sector to promote financial stability and competition.

Insurance Sub-group is the sub-group, containing Scottish Widows Group Limited and its relevant subsidiaries carrying on insurance-related activities (Scottish Widows Ltd, Lloyds Bank General Insurance Holdings Ltd, Scottish Widows Financial Services Holdings, HBoS Financial Services Ltd, Halifax Financial Services (Holdings) Ltd, Legacy Renewal Company Ltd, Halifax General Insurance Services Ltd, Lloyds Bank Insurance Services Ltd, Lloyds Bank General Insurance Ltd and St. Andrews Insurance plc).

International Swaps and Derivatives Association (ISDA) is a trade organisation of participants in the market for over-the-counter derivatives.

International Swaps and Derivatives Association Master Agreement (ISDA Master Agreement) is the most commonly used master service agreement for over the counter derivatives transactions. The ISDA master agreement is published by the International Swaps and Derivatives Association.

Invoice Finance is funding using invoices as collateral.

LBG includes LBG plc and its subsidiaries, subsidiary undertakings and their associated entities and businesses.

LBG plc is Lloyds Banking Group plc.

LBIL is Lloyds Bank International Limited.

LGIB is Lloyds Bank Gibraltar Limited.

LIBOR (London Inter-Bank Offer Rate) is a benchmark rate that some of the world’s leading banks charge each other for short-term loans. LIBOR serves as base for calculating interest rates on various loans.

Lloyds Bank Corporate Markets plc (LBCM) is the NRFB, a principal subsidiary of LBG plc.

Lloyds Bank plc (LB plc) is a principal subsidiary of LBG plc and is to be an RFB.

LDC (Managers) Limited is Lloyds Development Capital (Managers) Limited.

Management actions are tools that are used to mitigate and / or remediate risks that arise during periods of stress. These actions are intended to protect the financial viability of banks and potential adverse effects to stakeholders. Management actions can be quantitative or qualitative in nature and are documented in the CFP and recovery and resolution documents.


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Mid-Markets (MM) are a customer segment of LBG which is divided into three sub-segments:

• Business: Turnover of £25m - £750m (or up to £500m in London);

• Education, Charities and Government: Higher and further education institutions, charities and local government organisations; and

• Social Housing Business: Housing Associations who build and manage more than 1,000 residential housing units.

Mortgage is a loan taken out to buy property or land.

Non–European Economic Area (non-EEA) are countries that are not in the EEA.

Non Ring-fenced Bank Sub-group (NRFB Sub-group) is the NRFB sub-group containing LBCM and its subsidiaries which can perform the EAPO excluded/prohibited activities.

Non ring-fenced body (NRFB), as per Article 14(3) of RBCAO (2014 No. 1960), a non ring-fenced body means a UK deposit-taker which is not: a ring-fenced body, or an institution which is exempt from the definition of a ring-fenced body by virtue of Section 142A(2) of the 2000 Act or any order made under that section.

Non-Transferring Customers are current customers of the Transferors with products that are not transferring under the Scheme.

Other Relevant Persons are persons other than the Transferors, including customers of LBG, who may be adversely affected by the Scheme.

Overdrafts refer to business overdrafts for short-term funding.

Parent company is LBG plc.

Parliamentary Commission on Banking Standards (PCBS) was established by the UK Parliament to consider and report on professional standards and culture in the UK banking sector.

Payment Schemes are bodies that set the rules and technical standards for the execution of payment transactions using the underlying payment systems. Payment Schemes manage the day-to-day operations of the payment systems and processes and ensure any regulatory requirements associated with the processing of payments are met.

Pension Protection Fund (PPF) is a fund independent of LBG plc that provides compensation to members of eligible DB pension schemes, where the employer becomes insolvent.

Pensions Regulator is the regulator of trust based occupational pension scheme provision in the UK.

People services agreement (PSA) sets out the contractual framework by which personnel are provided by the RFB Sub-group to the NRFB Sub-group on a dedicated basis.

Perimeter Rules classify what activities cannot be conducted by a ring-fenced body after the Statutory Deadline of 1 January 2019. These activities and prohibitions are set out by the FSMA (Excluded Activities and Prohibitions) Order 2014 (EAPO).

Permitted Derivatives are trades or transactions which the relevant Transferor has determined:

(a) Are permitted client derivatives transactions pursuant to Articles 9-12 of the EAPO (for the purposes of this paragraph (a), it being assumed that the conditions set out in Articles 12(1) (a), (b) and (c) of the EAPO are satisfied); and

(b) Do not involve a Transferor having Financial Institution Exposure.


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Post-Scheme means after the implementation of the Scheme.

PRA Policy Statement refers to the PRA Policy Statement 10/16 “The Implementation of ring-fencing: the PRA’s approach to ring-fencing transfer schemes”, which came into effect in March 2016.

Pre-Scheme means prior to the implementation of the Scheme.

Prohibited products are those products that an RFB is not permitted to provide to customers. Part 3 of the EAPO imposes a number of prohibitions on ring-fenced bodies, and provides for exemptions to those prohibitions.

Prudential Regulation Authority (PRA) together with the FCA, replaced the FSA on 1 April 2013. The PRA is responsible for the prudential regulation and supervision of banks, building societies, credit unions, insurers and major investment firms.

Ring-fenced Bodies and Core Activities (RBCAO) refers to the FSMA (Ring-fenced Bodies and Core Activities) Order 2014.

Receivable Purchase Arrangement comprises a purchase by the relevant Transferor of receivables from a customer; and may incorporate a repurchase of those receivables by the customer from the relevant Transferor.

Recovery options are credible measures to restore an institution’s financial position following a significant deterioration of its financial situation. The recovery options are outlined in an institution’s Recovery Plan.

Recovery Plan is a detailed document outlining an institution’s approach of identifying, measuring, monitoring and responding to key risks that may threaten the survival of the institution.

Regulator(s) is/are the PRA, the FCA and the BoE (collectively or individually).

Relationship Manager (RM) is the main point of contact within a bank for a customer, responsible for managing a customer, designing solutions to addressing the customer’s banking needs.

Relevant Date in respect of:

• A Transferring Asset or an Assumed Liability in the Transferring Business, or a Duplicated Agreement, the Effective Date; and

• A Residual Asset or a Residual Liability in the Transferring Business, the applicable Subsequent Transfer Date.

Relevant Financial Institution (RFI) is defined in Article 2 of the FSMA (Exclude Activities and Prohibitions Order) Order 2014.

Relevant Risk Requirement (RRR) is the position risk requirement calculated in accordance with Chapter 2 of title IV of Part Three of the prudential requirements regulation as if the positions associated with those investments are all held in the trading book of the ring-fenced body. It is a measure of the market risk capital requirement for the relevant positions.

Relevant Risk Requirement Limit (RRR Limit) is a limit placed by Article 12(1) of the EAPO on the volume of derivative transactions that each Transferor may enter into with its account holders, calculated by reference to the Relevant Risk Requirements attributable to the derivative transactions.

Reorganisation refers to LBG-wide reorganisation LBG will implement in order to put in place a legal entity structure that is compliant with the requirements of the Ring-fencing Regime prior to the Statutory Deadline. The Reorganisation will be carried out both before and after the Effective Date of the Scheme.

Residual Assets means additional assets that form part of the transferred business.


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Residual Liabilities means additional liabilities that form part of the transferred business.

Resolution is the process by which regulatory authorities can intervene to manage the failure of an institution.

Resolution Authority – the BoE is the Resolution Authority for the UK credit institutions and investment firms.

Resolution strategy is defined approach to deal with a failing institution, depending, for example, on its size and risk profile.

Resolvability is a centrepiece of the new banking regulatory framework, both within the EU and globally which aims to ensure that banks can fail in an orderly manner.

Retail Banking means the Retail division of LBG which provides retail products and services primarily to individuals and RBB (within that division) provides products to (generally) business customers with a turnover of less than £1m.

Retail Business Banking (RBB) is a sub-division of LBG’s Retail Banking division which serves small business customers.

Retail Price Index (RPI) is a measure of inflation published monthly by the Office for National Statistics. It measures the change in the cost of a representative sample of retail goods and services.

Ring-fence Control Teams (RFCTs) will have responsibility for conducting control effectiveness reviews and ensuring accountabilities are conducted in line with relevant mandates.

Ring-fenced Bank Sub-group (RFB Sub-group) is the ring-fenced sub-group containing: (i) LB plc and BoS plc; and (ii) EEA branches / subsidiaries which carry out permitted / mandated activities.

Ring-fenced body (RFB) is a UK authorised bank which complies with the requirements of the EAPO.

Ring-fencing is the separation of the traditional retail banking services from the associated investment banking activities within an FI to protect the more stable banking activities, such as consumer deposit account activities, from the riskier activities that are more likely to result in losses or potential bank failure.

Ring-fencing Regime refers to the Banking Reform Act, the FSMA, associated statutory instruments and regulatory rules and guidance.

Ring-fencing Transfer Scheme (RFTS) Part VII of the FSMA provides for a process leading to a court order to facilitate transfers of business. The Banking Reform Act legislated for an additional type of transfer of business known as an RFTS. Its purpose is to enable firms to restructure their businesses in order to comply with the Ring-fencing Regime that will apply from 1 January 2019.

Risk appetite statement defines the amount and type of risk that a bank is willing to take in order to meet its strategic objectives. It provides boundaries within which the bank wishes to operate, thereby defining the risk it is willing to assume (for example in terms of overall tolerance or maximum acceptable risk), and its target risk (for example the levels within its stated tolerance within which it is comfortable to operate).

Risk Weighted Assets (RWAs) are computed by applying a risk weight to convert the exposure of a bank into a measure that regulators are able to apply consistently across banks.

S&P refers to Standard & Poor’s, one of the three biggest credit rating agencies.


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Sanction Hearing is the hearing at the High Court of Justice of England and Wales at which the final decision whether or not to sanction the Scheme is made.

Scheme refers to the RFTS to be undertaken by LBG.

Scheme Document is a document produced by a bank which sets out the terms of the proposed Ring-fenced Transfer Scheme.

Scheme Report is a report prepared in accordance with Section 109A of the FSMA.

Securitisation is the process of taking an illiquid asset, or group of assets, and through financial engineering, transforming them into a security.

Shared Service Model (SSM) is the provision of a service by one part of an organisation or group, where that service had previously been found, in more than one part of the organisation or group. Thus the funding and resourcing of the service is shared and the providing department effectively becomes an internal service provider.

Shareholders are an individual, group or organisation that owns one or more shares in a company, and in whose name the share is issued.

Skilled Person is an independent person who prepares a report on the terms of the scheme (Scheme Report) that has to accompany an application to the Court (under Section 106B of the FSMA), in respect of an RFTS. The appointment of the Skilled Person has to be approved by the PRA, following consultation with the FCA.

Small and Medium Sized Enterprises (SME): LBG defines this customer segment as being those businesses with turnover of £1m - £25m or lending of £75k - £12.5m.

Special Purpose Vehicle (SPV) is a subsidiary company with an asset/liability structure and legal status that makes its obligations secure even if the parent company goes bankrupt.

Standard settlement instructions (SSI) are payments instructions that have been agreed in advance, and that are to be used every time a trade is made.

Standard Terms of Business (STOB) is a type of contract. It shows types of businesses that party A provides to counterparties.

Statutory Deadline is 1 January 2019 which is the legislated date that LBG will have to have implemented LBG-wide Reorganisation in order to put in place a proposed legal entity structure that is compliant with the requirements of the Ring-fencing Regime.

Statutory Question is specified in Section 109(A) of the FSMA as to “(a) whether persons other than the transferor concerned are likely to be adversely affected by the scheme, and (b) if so, whether the adverse effect is likely to be greater than is reasonably necessary in order to achieve whichever of the purposes mentioned in Section 106B (3) is relevant.”

Stress case is a situation where a bank is exposed to a form of shock which could either be idiosyncratic, led by market events or a combination of the two.

Stress scenario: See definition for stress case.

Supplementary Report is a report prepared by the Skilled Person reflecting any updated financial information or circumstances nearer to the date of the Sanction Hearing, setting out any updated opinions in respect of the Scheme.

SWL is Scottish Widows Limited.


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SWRBS is the Scottish Widows Retirement Benefits Scheme.

Tax includes CT, VAT, stamp taxes, employment taxes and operational taxes.

Taxation is all forms of taxation including all statutory, governmental, state, provincial, local governmental or municipal impositions, duties, contributions and levies and whether levied by reference to income, profits, gains, net wealth, asset values, turnover, added value or otherwise, whenever and wherever imposed and whether chargeable directly or primarily against or attributable directly or primarily to the Transferors or any other person, together with all penalties and interest relating thereto.

Trade Instrument is a letter of credit, standby letter of credit, performance guarantee or financial guarantee issued by the Transferors.

Trade finance and Supply chain:

• Trade Finance relates to the process of financing certain activities related to commerce and international trade. Trade finance includes such activities as lending, issuing letters of credit, factoring, export credit and insurance. Companies involved with trade finance include importers and exporters, banks and financiers, insurers and export credit agencies, and other service providers; and

• Supply chain finance is a set of technology-based business and financing processes that link the various parties in a transaction - the buyer, seller and financing institution - to lower financing costs and improved business efficiency.

Transferee is LBCM.

Transferors are LB plc and BoS plc.

Transferring Business is the part of the banking business of the Transferors that will transfer pursuant to the Scheme, which is further described in Part B, Section 4 of the Scheme Document.

Transferring Customers are current customers with products transferring from either of the Transferors to the Transferee under, or whose products are being duplicated pursuant to, the Scheme.

Uncollateralised derivatives retain counterparty risk and can be valued using well-understood methods. Collateralised derivative trades reduce counterparty risk and therefore must be valued using a risk-free rate.

Value Added Tax (VAT) is a type of consumption tax that is placed on a product whenever value is added at a stage of production and at final sale.

Wide RFBs and narrow NRFB model is the model where as many products and services would be kept inside the Transferors as is permissible under the Ring-fencing Regime, with only prohibited products or services being transferred to LBCM.

Wider group restructuring refers to the Reorganisation of LBG and other changes LBG are making, outside of the Scheme, in order to comply with the Ring-fencing Regime. Other changes include changes to IT systems, processes, contractual arrangements, roles and responsibilities of some employees. The wider group restructuring will be carried out both before and after the Effective Date of the Scheme.


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