Decision Making: the failure of the Royal Bank of Scotland

The decision taken in 2007 by the RBS Board to acquire ABN AMRO is now generally acknowledged to have been a critical strategic error.  

There were multiple factors behind RBS’s failure. Some of these were generic factors which made the entire global financial system vulnerable to crisis. These included unconstrained credit booms in several countries, inadequate global capital and liquidity requirements for banks and an inadequate regulatory response to the rapid growth of complex and opaque credit securities markets. But there were also factors specific to RBS that explain why it was among the banks that failed as the crisis developed.

While external factors were undoubtedly important in RBS’s failure, banks are run by people and those in board and senior management positions are responsible for the decisions they make. It is only with hindsight that it is clear that there were specific decisions taken by the RBS Board and senior management which placed RBS in a more vulnerable position than other banks when the financial crisis developed between 2007 and 2008. They included:

l Keeping RBS lightly capitalized in order to maintain an ‘efficient’ balance sheet

l Adopting a business model that was highly dependent on wholesale funding and therefore choosing to run with a high level of liquidity risk

l Expanding commercial real estate lending with inadequate gave rise to substantial losses, eroding RBS’s capital resources

l Rapidly increasing lending in a number of other sectors which subsequently gave rise to substantial losses, eroding RBS’s capital resources

l Expanding the structured credit business in 2006 and early 2007 when signs of underlying deterioration in the market were already starting to emerge

l Proceeding with the ABN AMRO acquisition without sufficient understanding of the risks involved

l Funding that acquisition primary by debt, which in turn made RBS’s capital position worse than it might otherwise have been

l Adopting the role of lead partner in the ABN AMRO acquisition, thereby initially acquiring all the assets and risks on behalf of the consortium

These decisions need to be considered in the context of what was, at the time, a widely held, but erroneous, view about the stability of the global financial system. Some of the decisions appeared reasonable at the time and were not dissimilar to those taken by other banks. They turned out badly for RBS once the benefit of hindsight. Other decisions could, in the opinion of the Review Team, be considered ‘poor’ or at least questionable at the time, for example where they seem to have been based on an inadequate appreciation of the risks involved.

In summary, the Review Team concluded that the judgment of the RBS Board in respect of the ABN AMRO acquisition was not characterized by the degree of moderation and sensitivity to strategic risk appropriate to bank.