Finance and Accounting: Royal Bank of Scotland Group - Essay Example

?Finance and Accounting A sea change has been noticed over the last few years, in the economic judgments across the developed nations of the world. The recent financial crisis has exposed that the prevailing western economic standards were flawed. The implications of the situation are much wider than we can see. It extends to the governance of the companies and the economy as a whole. In this study, the discussion would focus on several issues in relation to corporate governance and its effect on the financial health of a company. According to the Cadbury report (1992), corporate governance is a general phase for the system which is used by the companies to direct and control their business functions. It deals with structuring and allocating responsibilities within the companies or organization. For this purpose the Royal Bank of Scotland Group (RBS) is chosen to continue the discussion. So the corporate governance issues that exploded within the organization which resulted in major financial misbalances would be analyzed. A critical evaluation regarding the risk associated in this case would be made, so as to understand the identified risks and the approaches that were made from the side of management to combat the risks. Furthermore, a detailed analysis of the viewpoints of different stakeholders of the company would be included. The external and internal shareholders, their role and their view for such situation would be considered. Also the auditors of the firm, the government agencies involved and the shareholder’s association’ viewpoint regarding governance problems at Royal Bank of Scotland would be discussed. The purpose of conducting such detailed investigation is to understand the significance of corporate governance in an organization and understand the effects that it might have when corrupt governance practices creeps in. The failure of Royal Bank of Scotland was primarily due to liquidity issues, which rose from defective business strategies that not only damaged the status, but also the integrity of the bank. Though it might be felt that the root cause was totally financial in nature, but the initiation was improper governance issues within the organization, which came out after the crisis news got revealed in public. An interesting fact that has been noticed in case of RBS is that a very close link has been shown between the liquidity, strategic and operational risks. Though liquidity risk is the major issues, but the faulty strategies and ill-governance were due to operational risks such as weak challenges, insufficient insight or administration, unconstrained ambitions, poor attentiveness, and majorly due to lack of corporate governance. The report stated by Financial Services Authority (FSA) states that due to poor decisions of the board and the management of RBS, the organization went through financial crisis. It was clearly mentioned in the report that there were deficiencies in the governance arrangements, mechanism for challenges and oversight, culture, and the attitude of the management to balance the growth and risk of the company. FSA was the body responsible for investigating the case of RBS. They studied the situations of RBS and filed a report for the same. Though it was said RBS was a victim of a series of bad management decisions, but they also mentioned that no individual was responsible for such condition of the organization and hence cannot be held accountable for. This was considered to be a manipulated verdict by many corporate governance experts. The RBS board presented a strategic growth plan in the year 2006, but it was not presented after conducting a detailed analysis. The report showed that the RBD management or board has detailed idea or knowledge about the relevant market or conditions that would lead to such growth, or the key risk factors involved. It was vague or superficial reports that were presented. The next governance question that comes to mind is that, how the risk management team or department of the organization could not provide any evidence for the significant risks or challenges that the organization would face if such big strategic decisions are taken. The documents when by provided by the risk management department of the bank contained bullet points mentioning the summary for each initiative, but how those risks can be identified or addressed was not there. These are few issues that are mentioned just to demonstrate the wrong practices of the board, management and the other departments who had the responsibility for governance in the organization. Corporate governance had a direct effect on the financial position of the organization. According to the FSA reports, judging management styles or boardroom decisions would be subjective and also difficult to assess. Despite these drawbacks, it can be said that RBS was the victim of governance and culture which played a major role in the failure story. Though FSA did not find any fault with the legal system of the bank’s governance process, but the organization has no formal committee for risk management. It was said that the Board and the Chairman committee of RBS was ultimately responsible for the series of judgments that resulted in liquidity crunch for the bank. The report raised several doubt on the board which shook the foundation of corporate governance in RBS (Hill, 2010). The failure of the Royal Bank of Scotland in October 2008 has imposed huge cost on the people of UK. The government of UK invested 45.5 billion to prevent the bank for collapsing totally. The stake of RBS was about 20 billion. This was a minimal cost that rose from the financial crisis. The actual cost was due to the recession that occurred because of the crisis. RBS received funds from Emergency Liquidity Assistance (ELA), which was an initiative of the Bank of England. This measure was taken because the wholesale and retail corporate depositors were not taking any more responsibility for funding the bank. So RBS has to raise capital for its sustainability. In October 2008 RBS raised about 20 billion capital. RBS faced the operating loss of about ?6,938 million in the year 2008, but the loss was not the only explanation for the failure of such a bank. In the ?6,938 million, it includes the intangible asset that is the goodwill, which no longer was the same. This was a signal for the shareholders that they would not receive the same value in future. This amount also included the Fortis shares of ABN AMRO and the rest amount of the goodwill was written off by the company. It also included the actual operating loss that RBS had and it resulted because of the reduction of the standard regulatory measures (The Royal Bank of Scotland Group, 2009, p. 5). So the scenario depicts that the financial loss was not borne by the company only but also by the people of UK and the government. Corporate governance as discuss earlier, consist of a framework or system which is built to control and monitor the business functions. It helps in projecting the risk associated with the investment, or regarding any strategic decision of the organization. Right governance is like a backbone for the organization. All the departments function smoothly due to right governance, so it’s the life-blood. The effect of corrupt practices and imbalances in corporate governance led RBS to a liquidity crisis situation. On top of that the wrong decisions of the management to revive the situation through acquisition made the matter worse. The strategic risk management plan would be to maintain adequate amount of capital, deliver stable earning growths, ensure liquidity of the firm, and maintain the confidence of the stakeholders. All these criteria that can be included in risk management of organization was absent in case of RBS. Neither a risk appetite was not set to manage the risk at business, nor was authority delegated to other officials to also take part in such situation. RBS had to face the heat of its deficiency in the capital and the liquidity. In this situation the decision of acquiring ABN AMRO was taken. ABN AMRO’s acquisition by RBS is also considered as a wrong step by the analysts around the world. It was a deal of 71.1 billion and it is considered to be the largest takeover in the banking history. In this deal RBS got the smaller share and considered as the key factor for the failure of RBS (ICMR, 2009). The reason for that was, the accusation exposed RBS to risky trading of the assets and mainly the structured credit and other leveraged assets. RBS had to bear losses on credit trading for ABN AMRO. RBS’s exposure to such risks resulted in huge losses. The board of directors and the management of RBS took the decision to finance their acquisition mainly through the debts than the equity. As most of the debts were short term, it reduced capital ratio of the bank. RBS could have never anticipated its ability to meet the capital requirement, if ABN AMRO had not received the Basel II credit risk model. Let us now discuss the view points of the internal and external shareholders, auditors, government agencies and the stock exchanges regarding the financial position of RBS. The external shareholder group of RBS consisted of near about 12,300 retail investors, who owned the shares of the bank. They claimed that the bank authorities were involved in making misleading and untrue statements. They also claim that RBS failed to reveal their confidence on the Federal Reserve finances. The internal shareholders consisted of mainly the board of directors or the top management was already taking wrong and illegal decision of hiding their financial status through policies like issuing right shares to ease the liquidity crunch. It was mentioned in the report issued by the FSA, that decisions made by the management were flawed. In this context the role of the auditors can also be assessed because the external auditors such as PricewaterhouseCoopers (PwC), KPMG, Deloitte, and Ernst & Young are the four major auditing houses in the world. Everyone presented a clean bill of financial heath, just after which the organization collapsed. This proves that the external auditors also issued flawed reports regarding the governance and effect of such faulty governance on the financial status of the firm. The internal auditors and their views need not to be discussed because it can be assumed that they worked according to the decisions of the management of RBS. Now if we take the views of the government bodies, it has been already discussed how the FSA issued a manipulative report regarding RBS after crisis. The stock prices were surely affected and it has also affected the economic position of the country. References Cadbury Report., 1992. Report of the Committee on Financial Aspects of Corporate Governance. London: Gee Publishing. Hill, A., 2010. FSA ensures lessons of RBS boardroom stay unlearnt. Daily Mail, [online] (Last updated 6:55 PM on 2nd December 2010) Available at: [Accessed on 30 August 2012]. Royal Bank of Scotland Group, 2012. Managing risk. [Online] Available at: < http://www.rbs.com/about/business-strategy/managing-risk.html> [Accessed 30 August 2012]. Read More