Evidence Submitted by Sir Andrew Large to the SME Lending Inquiry
8 July 2014
Mr Andrew Tyrie MP
Chairman, Treasury Select Committee
Houses of Parliament
London
SW1A 0AA

Dear Andrew
Many thanks for your letter of 26 June 2014 and the opportunity to respond.
I have read the transcript from the Committee’s hearing on 17 June 2014, and I have refreshed my
memory, both on the events which led up to the publication of my Report on 25 November 2013
and on the subsequent Committee hearing which I attended on 22 January 2014.
I was surprised by some of the evidence given by RBS to your Committee. As you will see from my
comments below, I am confident that the terminology used in my Report is appropriate, particularly
given the definitions I took care to include. The descriptions of GRG both as an ‘internal profit
centre’ and as having ‘ultimate authority’ in the transfer of clients accurately reflect the findings of
the Independent Lending Review, were employed in correspondence to us by senior members of
GRG and were at no point objected to by RBS, despite a governance process established to ensure
factual accuracy. Furthermore, RBS’s own testimony to the Committee seems to corroborate in the
main the substance of the findings, which I sought to reflect in the terminology I used in my Report.
I can only surmise that RBS’s testimony was based on a different understanding of what is meant by
an ‘internal profit centre’. It is possible that RBS has focused on the fact that GRG is not constituted
as a profit centre for the purposes of financial reporting or in a statutory sense. I do not dispute this:
indeed, that is why I took trouble to define the term carefully, to ensure that this could not be
concluded from my usage of it.
As to the difference of view on the governance surrounding GRG, I stand by what I said in my Report.
Banks do clearly need to pay particular attention to process and governance when dealing with
SMEs entering into financial distress. And the assertions surrounding RBS in that respect, both from
our own research as well as published by Dr Tomlinson, suggested that all was not well. So I
reviewed the situation at RBS, and – although I found no evidence to support Dr Tomlinson’s
hypothesis that there was “an element of intent in the bank’s decision to distress […] businesses” – I
did conclude that governance processes in this area, including the combination that GRG is both an
internal profit centre and has the ultimate authority to transfer SMEs to it, does not do enough to
address potential or perceived conflicts of interest.

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 This was why I recommended that forensic work should be undertaken in relation to all the
assertions made. Firstly, this would enable substantiation or refutation to take place, whether in
relation to the very serious ‘central or principal allegation’ made by Dr Tomlinson of systematic and
institutional behaviour, or more generally in relation to what in fact did occur in relation to
individual cases. But secondly, I felt that it would enable lessons to be learned and provide context
for reconsidering the governance arrangements which surround decision making with respect to
SME customers in distress, particularly with a view to minimizing any perceived conflicts of interest
or reputational damage for the future.
In the event, as stated in a number of published documents, firstly RBS accepted my
recommendations, as well as undertaking to address all the issues that my Report raises. And
secondly, I was relieved to learn that Clifford Chance’s report refuted the ‘Principal Allegation’
against RBS. The more broadly scoped FCA Section 166 review – which will consider RBS’s treatment
of a sample of GRG customers – has, however, yet to conclude. RBS has not sought to keep me
informed as to their progress in reviewing internal governance relating to GRG.
I have set out a more detailed response to your questions overleaf.
Yours sincerely

Sir Andrew Large

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 Question One. Does it remain your view that GRG was run as an internal profit centre?
Yes. My description of GRG as acting as an 'internal profit centre' was based on several factors.
Firstly, the interviews and research undertaken as part of the Independent Lending Review indicated
that this was the case. Indeed, this terminology was employed both by my team and by members of
GRG themselves in correspondence between us.
Secondly, we set up a process, consistent with my independence, to ensure amongst other things
that my final Report (published on 25 November 2013) would be accurate as to matters of fact or
description. The procedures outlined on pages 66 and 67 in Appendix B of the Report were followed
in full. The terminology ‘internal profit centre’ was used in various working papers and drafts over
the period between September and immediately before publication of my Report. These papers
were shared with RBS, and the sections on GRG were subjected to particular scrutiny on at least
three occasions.
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Drafting of the Summary and Recommendations document (October 2013). Prior to
publication of the Summary and Recommendations document on 1 November, the Review
engaged extensively with the bank, including with GRG itself, to ensure factual accuracy of
its description of GRG’s activities.

•

Preparation of working papers (early November 2013). Subsequent to the publication of
the Summary and Recommendations, my support team produced a working paper which
set out to describe the RBS process and governance for financially distressed customers.
This paper was submitted for review by RBS, and was accepted by RBS as being an accurate
description.

•

Commercial sensitivity review of the Report (late November 2013). As one of the final steps
in the governance process, close-to-final drafts of the Report were shared with RBS so that
the bank could review them for commercially sensitive information.

Throughout this process, no objection was made to the term ‘internal profit centre’.
Perhaps as important as the terminology employed is the substance of what it means. The Glossary
of Terms (page 93) describes ‘profit centre’ as used in the Report as ’internal organizational
boundaries defined to measure the financial contribution of a particular area of a larger
organization‘. The particular area in question in this instance is, of course, GRG.
The use of the word ‘internal’ was important. The Report makes it clear that for both GRG and the
bank this was an ‘internal’ matter since the actual assets and income/losses accrue to the donor
department (see pages 11, 33, 38). There was no suggestion that there was a formal basis in which
GRG acted as a profit centre, or for the purposes of statutory financial reporting.
Internal profit centres of this sort – which can of course be loss making – are a perfectly normal
mechanism used to assist in determining the performance of units within banks and other forms of
enterprise when those units perform some service on behalf of either other departments or the
enterprise as a whole. They are usually constructed using ‘management information’ (rather than
the ‘financial information’ used for statutory reporting).

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 Beyond usage of the term ‘internal profit centre’ itself and consistent with it, an internal or 'shadow'
profit and loss or income statement was referred to by the bank. To use words sent to us by GRG:
“GRG has a 'shadow' P&L which tracks contribution based on incremental income generated
(reflecting the increased risk and capital consumption of distressed assets) and the costs of
providing support - predominantly staff costs”
I was always clear that this was only one of a number of metrics used to determine performance,
again in accordance with normal practice in banks.
Does the recent testimony alter my view? The answer is no.
Of course I appreciate that overall GRG is loss making. Given the nature of its responsibilities, it would
be most surprising and alarming if that was not the case. But nothing that was said alters my view
that the description used and defined in the Report is a fair one, whatever other terminology might
be applied. Profit centres can, and do, make losses in many cases where the term is employed.
The important thing is that a mechanism exists which includes not only costs but also revenues, and
that this mechanism is used to assist in enabling performance to be determined. The fact that
income (or ‘contribution’) was and is so included in such a mechanism was confirmed by your
witnesses on 17 June, and in the note sent to the Clerk of the Treasury Select Committee by the RBS
Communications department on 21 February 2014.
Given that there seems to be basic agreement on the substance, the possibility remains that the
bank feels that the term ‘profit centre’ in some way adds to any public perception that the presence
of such a mechanism leads to systematic abuse of the bank’s position, by encouraging institutional
behaviour in artificially distressing otherwise viable businesses. This is the general line of argument
that was asserted by Dr Tomlinson, amongst others. It was partly to avoid any possible interpretation
of this sort that, as mentioned above, the reference was made to this being an internal, rather than a
statutory, matter.
My statement was questioned by your witnesses on 17 June 2014 not only as to whether GRG was
an internal profit centre, but also as to whether the second element of concern, namely that GRG
possesses the authority to transfer SMEs to it, was flawed.
As with the description of GRG as an internal profit centre, I based the statement that GRG has the
ultimate authority over which firms come to it on the research and interviews I undertook as part of
the Independent Lending Review, and on the correspondence and email traffic between GRG and my
team. I also relied on the process of verification referred to above, where the words and terminology
used in the Report were never challenged as being inappropriate or inaccurate.
Indeed GRG told us that:
“GRG has ultimate decision making to insist on a transfer in order to protect the Bank and
ensure early engagement. There is a theoretical risk that frontline credit teams may wish to
delay a transfer to avoid an impairment being recognised, particularly if a transaction has
gone wrong within a few months of being approved by frontline Risk. That is why the
ultimate decision rests with GRG, although as I note, any disagreements would be rare and
would be fully debated before any decision was taken.”

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 I find this explanation to be understandable. I also question its wisdom when dealing with SMEs,
which was what lay behind my suggestion that the governance structure does not do enough to
address the potential conflict of interest. There would surely be other ways to address the potential
forbearance issue referred to, whilst ensuring that the decision was taken independently of the
party whose performance is then in part measured on the success of income or ‘contribution’
generated.
I can also understand that the approach may originally have been designed with large corporates in
mind. However, both in written communications between us and my recollection of verbal
discussion, the suggestion that this somehow does not apply to SMEs was absent.
I would also add that the significance of such a power does not automatically become irrelevant
because it may rarely, if ever, be formally asserted. Just because a power is not used explicitly does
not mean that its existence is irrelevant. On the contrary, powers do not need to be nuclear to be
effective. The very fact that they are known to exist can be quite potent as a determinant of
behaviour.
It follows that, since I believe that GRG was acting as an internal profit centre, whatever the
semantics, and that GRG has ultimate authority over which firms come to it, even if that authority
has never been used, the combination of the two stands as well. My judgement is that the two
combined provide the justification for my suggestion as to flawed governance, and that RBS would
be unwise to permit these circumstances to persist. This remains the case even if – as Clifford
Chance have set out in their report of 11 April 2014 – the assertion that they result in negative
‘systematic and institutional behaviour’ has been found to be without substance in practice.
Question Two. Did RBS raise with you its view that GRG does not act as a profit centre when it saw
your review in draft?
No. The first time I became aware of any concern about the terminology was on 21 February 2014
when RBS’s Communications department sent me a copy of the note that was submitted to the Clerk
of the Treasury Select Committee in advance of the planned hearing before you (which in the event
was delayed until 17 June 2014).
Question Three. Might those dealing with GRG, including its customers, have reasonably
concluded that its actions were influenced by the fact that it was a profit centre?
Whether reasonable or not may be a matter of judgement.
But the context needs to be remembered. As confirmed at the hearings on 17 June 2014,
experiencing distress or ultimately failure is a very stressful time for small businesses. Unlike larger
corporates which fail, most SMEs do not have access to the sort of legal or pastoral support that can
help to get through personal traumas. It is for that reason that banks, which ultimately need to take
the interests of their own shareholders into account, also need to pay particular attention to the
process and governance behind actions they take for SMEs that are in distress. Otherwise
perceptions as to their motivation can arise, leading to the sort of assertions which were levelled at
RBS.
In this respect, I deliberately pointed to the two stages involved in the process on pages 47 and 48 of
the Report. Firstly, where the firm experiences distress, but where, as happens in many cases, it can
be successfully brought back into the mainstream, in the main the interests of the Bank and the
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 customer are elided. This is something which GRG appears to do with success. And secondly, when a
decision needs to be made as to non-viability, the point at which the interests of the SME and the
Bank on behalf of the shareholders’ interests diverge, and the latter have to be directly asserted in
the resolution process. Again, the actual implementation of resolution is something which GRG
appears to do with success. The process of authority for handover in that second case however
requires particular care, for obvious reasons.
Based on the above , unless – as referred to on page 52 of the Report – governance and process is
both well founded and clear, it is quite understandable for SMEs to perceive that the bank is bearing
down on them in an unfair way, and acting in its own interests rather than theirs.
As reiterated in my response to Question One above, the flawed governance I referred to in my
Report was the combination of GRG acting as an internal profit centre and the fact that they have
the ultimate authority as to both who is transferred to GRG and who is resolved.
It is unlikely that this governance structure is immediately transparent to the SMEs who enter GRG.
However, the customer research undertaken as part of the Review clearly indicated that a small
minority of customers hold a deep distrust of GRG’s motivations. Furthermore, social media and the
like mean that views of this sort are capable of developing currency if they are not clearly and simply
answerable. The findings in the Clifford Chance report also highlight that the fees charged by GRG
are opaque. This too can stoke up resentment.
In addition, Dr Tomlinson’s document makes the assertion that the bank has been systematically
acting against the interests of its customers a matter of public record:
“The amount of profit business lending generates for the bank is extremely low compared to
the revenue targets bankers are incentivised to meet – lending to businesses alone will not
create large revenue increases. Therefore, rather than supporting a business, there are
times when it is more profitable for a bank to stress the business. […] This value may come
from the fees generated in business support divisions of the bank, increasing margins or
taking the assets from the business. These sections of the bank should be turnaround
divisions, aimed at improving business performance but the evidence received indicates the
opposite and that these are being used as profit centres for the bank.” (Page 3 of “Banks’
Lending Practices: Treatment of Businesses in distress” by Dr Lawrence Tomlinson)
I found no evidence to support Dr Tomlinson’s hypothesis that there is “an element of intent in the
bank’s decision to distress these businesses” (page 5 of Dr Tomlinson’s document). Subsequently,
the Clifford Chance report of 11 April 2014 has also refuted the ‘Principal Allegation’ that GRG was
guilty of 'systematic and institutional' behaviour in artificially distressing otherwise viable businesses,
putting its customers 'on a journey towards administration, receivership and liquidation'.
However, if the governance structure was altered, I believe – as implied in my Report – that RBS
would be less vulnerable to the sort of assertions being made. The fact that such assertions and
accusations occurred in the case of RBS (with attendant negative publicity) is well documented in the
Report, which referred both to our own research and the document published by Dr Tomlinson.
Adverse publicity of this sort can impact the overall ability of the bank to lend to support the UK
economy, as it otherwise intends.
For these reasons, I not only recommended that the specific accusations made by individual
customers should be investigated, but I also raised as an issue that RBS governance processes in this
area did not do enough to address potential conflicts of interest. I therefore recommended that RBS
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 “establish and embed safeguards to ensure both that customers receive fair and appropriate
treatment, and that RBS can evidence this” (Recommendation 2 on page 58 of the Report).
For the avoidance of doubt, let me repeat that my Report was addressing “perceptions” about
governance at GRG and highlighting “potential” conflicts of interest. I did not attempt to reach a
judgement on this (as Dr Tomlinson did), since this needed a forensic study which I recommended
should be undertaken.
Question Four. Do you have any view on the determination of RBS to address the problems that
you identified?
RBS has acted on my recommendation (Recommendation 3 on page 58 of the Report) that they
instigate a forensic enquiry to substantiate or refute the serious accusations that have been made
against them. This – or, to be specific, whether the ‘Principal Allegation’ holds that there was
negative systematic and institutional behaviour, as stated in Dr Tomlinson’s document – was the
subject of the Clifford Chance report that published on 11 April and which was referred to in the
hearing on 17 June.
The FCA has also initiated a Section 166 report, the terms of reference of which are broader than
this ‘Principal Allegation’. Indeed, the first stage of the review will consider RBS’s treatment of a
sample of customers referred to GRG. This will include some cases where customers have already
raised concerns with Dr Tomlinson, the Department of Business, Innovation and Skills or the FCA.
The review will also consider whether any poor practices identified are widespread and systematic. If
this is the case, the second stage of the review will identify the root cause of these issues and make
recommendations to address any shortcomings identified. The FCA is scheduled to publish the
outcomes from the review in Q3 2014. This will no doubt shed further light on the matter.
As to the issue I raised, that RBS governance processes in this area did not do enough to address
potential conflicts of interest, and that potential conflicts of interest in processes and governance
structures are a particular concern for SME customers (as set out on page 52 of my Report), I would
hope that this is an area that the bank is addressing seriously, and that progress has been made in
establishing better safeguards. The bank has not sought to keep me informed of its actions in this
regard (nor has it been under any obligation to do so).
Question Five. Do you have any other observations?
I was of course surprised by some of the remarks made on matters which had been aired so
extensively as to fact and description in the lead up to the publication of my Report. Nothing that
was said at the hearing or documented in the Clifford Chance report has altered my views or the
recommendations I made as expressed in the Report, though I acknowledge that the judgements
made are my own.
I hope that the comments and clarifications above may be of some value.

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