Interim Results - Part 2 of 8

Companies

NATWEST GROUP (NWG)

UK 100

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	Page
Forward-looking statements	3
Presentation of information	4
Results summary	6
Results summary - statutory	9
Summary consolidated income statement	10
Summary consolidated balance sheet	12
Analysis of results	13
Net interest income	13
Non-interest income	14
Operating expenses	15
Impairment losses	16
One-off and other items	18
Capital resources and ratios	19
Balance sheet	20
Divisional performance	21

UK Retail	24
UK Corporate	28
Wealth	32
International Banking	35
Ulster Bank	39
US Retail & Commercial	42
Markets	48
Direct Line Group	52
Central items	58
Non-Core	60
Statutory results	68

Condensed consolidated income statement	68
Condensed consolidated statement of comprehensive income	69
Condensed consolidated balance sheet	70
Commentary on condensed consolidated balance sheet	71
Average balance sheet	73
Condensed consolidated statement of changes in equity	76
Condensed consolidated cash flow statement	79
Notes	80

1. Basis of preparation	80
2. Accounting policies	80
3. Analysis of income, expenses and impairment losses	81
4. Loan impairment provisions	83
5. Pensions	84
6. Tax	84
7. (Loss)/profit attributable to non-controlling interests	85
8. Dividends	86
9. Share consolidation	86
10. Earnings per ordinary and B share	87
11. Segmental analysis	88

Notes (continued)	Page

12. Discontinued operations and assets and liabilities of disposal groups	95
13. Financial instruments	97
14. Available-for-sale reserve	110
15. Contingent liabilities and commitments	110
16. Litigation, investigations and reviews	111
17. Other developments	124
18. Related party transactions	127
19. Date of approval	128
20. Post balance sheet events	128
Risk and balance sheet management	129

General overview	129
Balance sheet management	132
Capital	132
Regulatory capital developments	135
Liquidity and funding risk	137
Funding sources	138
Securitisations and asset transfers	142
Conduits	145
Liquidity portfolio	146
Net stable funding ratio	147
Non-traded interest rate risk	148
Interest rate risk	149
Structural hedges	150
Structural foreign currency exposures	151
Risk management	152
Credit risk	152
Financial assets	152
Problem debt management	165
Key credit portfolios	180
- Commercial real estate	180
- Residential mortgages	186
- Ulster Bank Group (Core and Non-Core)	190
Market risk	194
Country risk	201

Independent review report to The Royal Bank of Scotland Group plc	237
Risk factors	239
Statement of directors' responsibilities	241
Additional information	242

Appendix 1 Income statement reconciliations
Appendix 2 Businesses outlined for disposal
Appendix 3 Credit risk assets

·	own credit adjustments;

·	Asset Protection Scheme;

·	Payment Protection Insurance (PPI) costs;

·	sovereign debt impairment;

·	interest rate hedge adjustments on impaired available-for-sale sovereign debt;

·	amortisation of purchased intangible assets;

·	integration and restructuring costs;

·	gain on redemption of own debt;

·	strategic disposals;

·	bonus tax; and

·	RFS Holdings minority interest (RFS MI).

	Half year ended		Quarter ended
	30 June 2012	30 June 2011	30 June 2012	31 March 2012	30 June 2011
	£m	£m	£m	£m	£m

Core
Total income (1)	13,299	14,494	6,437	6,862	6,816
Operating expenses (2)	(7,336)	(7,355)	(3,615)	(3,721)	(3,557)
Insurance net claims	(1,225)	(1,487)	(576)	(649)	(703)
Operating profit before impairment losses (3)	4,738	5,652	2,246	2,492	2,556
Impairment losses (4)	(1,553)	(1,725)	(728)	(825)	(853)
Operating profit (3)	3,185	3,927	1,518	1,667	1,703

Non-Core
Total income (1)	270	1,401	1	269	966
Operating expenses (2)	(525)	(658)	(262)	(263)	(335)
Insurance net claims	-	(218)	-	-	(90)
Operating (loss)/profit before impairment losses (3)	(255)	525	(261)	6	541
Impairment losses (4)	(1,096)	(2,486)	(607)	(489)	(1,411)
Operating loss (3)	(1,351)	(1,961)	(868)	(483)	(870)

Total
Total income (1)	13,569	15,895	6,438	7,131	7,782
Operating expenses (2)	(7,861)	(8,013)	(3,877)	(3,984)	(3,892)
Insurance net claims	(1,225)	(1,705)	(576)	(649)	(793)
Operating profit before impairment losses (3)	4,483	6,177	1,985	2,498	3,097
Impairment losses (4)	(2,649)	(4,211)	(1,335)	(1,314)	(2,264)
Operating profit (3)	1,834	1,966	650	1,184	833
Own credit adjustments	(2,974)	(236)	(518)	(2,456)	324
Asset Protection Scheme	(45)	(637)	(2)	(43)	(168)
Payment Protection Insurance costs	(260)	(850)	(135)	(125)	(850)
Sovereign debt impairment	-	(733)	-	-	(733)
Other items	(60)	(304)	(96)	36	(84)
Loss before tax	(1,505)	(794)	(101)	(1,404)	(678)

	Half year ended		Quarter ended
Key metrics	30 June 2012	30 June 2011	30 June 2012	31 March 2012	30 June 2011

Performance ratios
Core
- Net interest margin	2.16%	2.24%	2.20%	2.12%	2.19%
- Cost:income ratio (5)	61%	57%	62%	60%	58%
- Return on equity	10.2%	13.9%	9.3%	11.0%	11.9%
- Adjusted earnings per ordinary and B share from continuing operations (6)	10.4p	14.0p	4.4p	6.0p	6.9p
- Adjusted earnings per ordinary and B share from continuing operations assuming a normalised tax rate of 24.5% (2011 - 26.5%) (6)	21.3p	26.8p	9.7p	11.6p	11.6p
Non-Core
- Net interest margin	0.28%	0.77%	0.24%	0.31%	0.83%
- Cost:income ratio (5)	194%	56%	nm	98%	38%
Group
- Net interest margin	1.92%	2.00%	1.95%	1.89%	1.97%
- Cost:income ratio (5)	64%	56%	66%	61%	56%
Continuing operations
- Basic loss per ordinary and B share (6,7)	(18.2p)	(13.2p)	(4.2p)	(14.0p)	(8.3p)

	30 June 2012	31 March 2012	Change	31 December 2011	Change

Capital and balance sheet
Funded balance sheet (8)	£929bn	£950bn	(2%)	£977bn	(5%)
Total assets	£1,415bn	£1,403bn	1%	£1,507bn	(6%)
Loan:deposit ratio - Core (9)	92%	93%	(100bp)	94%	(200bp)
Loan:deposit ratio - Group (9)	104%	106%	(200bp)	108%	(400bp)
Risk-weighted assets - gross	£488bn	£496bn	(2%)	£508bn	(4%)
Benefit of Asset Protection Scheme (APS)	(£53bn)	(£62bn)	(15%)	(£69bn)	(23%)
Risk-weighted assets - net of APS	£435bn	£434bn	-	£439bn	(1%)
Total equity	£75bn	£75bn	-	£76bn	(1%)
Core Tier 1 ratio*	11.1%	10.8%	30bp	10.6%	50bp
Tier 1 ratio	13.4%	13.2%	20bp	13.0%	40bp
Risk elements in lending (REIL)	£40bn	£40bn	-	£41bn	(2%)
REIL as a % of gross loans and advances (10)	8.6%	8.6%	-	8.6%	-
Tier 1 leverage ratio (11)	15.6x	16.3x	(70bp)	16.9x	(130bp)
Tangible equity leverage ratio (12)	6.0%	5.8%	20bp	5.7%	30bp
Tangible equity per ordinary and B share (6,13)	489p	488p	-	501p	(2%)

(1)	Excluding own credit adjustments, Asset Protection Scheme, gain on redemption of own debt, strategic disposals and RFS Holdings minority interest.
(2)	Excluding Payment Protection Insurance costs, amortisation of purchased intangible assets, integration and restructuring costs, bonus tax and RFS Holdings minority interest.
(3)	Operating profit before tax, own credit adjustments, Asset Protection Scheme, Payment Protection Insurance costs, sovereign debt impairment and related interest rate hedge adjustments, amortisation of purchased intangible assets, integration and restructuring costs, gain on redemption of own debt, strategic disposals, bonus tax and RFS Holdings minority interest.
(4)	Excluding sovereign debt impairment and related interest rate hedge adjustments on impaired available-for-sale sovereign debt.
(5)	Cost:income ratio is based on total income and operating expenses as defined in (1) and (2) above and after netting insurance claims against income.
(6)	Prior period data have been adjusted for the sub-division and one-for-ten consolidation of ordinary shares, which took effect in June 2012. Refer to page 86.
(7)	Loss from continuing operations attributable to ordinary and B shareholders divided by the weighted average number of ordinary and effect of convertible B shares in issue. Prior period data have been adjusted for the sub-division and one for ten consolidation of ordinary shares, which took effect in June 2012. Refer to page 87.
(8)	Funded balance sheet represents total assets less derivatives.
(9)	Net of provisions, including disposal groups and excluding repurchase agreements.
(10)	Gross loans and advances to customers include disposal groups and exclude reverse repurchase agreements.
(11)	Tier 1 leverage ratio is total tangible assets (after netting derivatives) divided by Tier 1 capital.
(12)	Tangible equity leverage ratio is total tangible equity divided by total tangible assets (after netting derivatives).
(13)	Tangible equity per ordinary and B share is total tangible equity divided by the number of ordinary and effect of convertible B shares in issue.

·	Income of £11,263 million for H1 2012.

·	Operating loss before tax of £1,505 million for H1 2012.

(1)	Excluding reverse repurchase agreements and stock borrowing.
(2)	Excludes disposal groups (see page 96).
(3)	Includes disposal groups (see page 96).
(4)	Excluding repurchase agreements and stock lending.
(5)	Tangible equity is equity attributable to ordinary and B shareholders less intangible assets.

(1)	For further analysis and details of adjustments refer to pages 74 and 75.
(2)	Retail & Commercial (R&C) comprises the UK Retail, UK Corporate, Wealth, International Banking, Ulster Bank and US Retail & Commercial divisions.

·	Group net interest income decreased by £547 million, 8%, driven by a 5% fall in Retail & Commercial and a 62% fall in Non-Core.

·	Retail & Commercial net interest income fell £286 million, reflecting the impact of lower long-term interest rate hedges and the impact of a competitive savings market on UK Retail. International Banking net interest income was also lower, as loans and advances to customers reduced by £15 billion. The decrease in Non-Core reflects continued run-down.

·	Group net interest margin (NIM) declined by 8 basis points, largely reflecting the cost of precautionary liquidity and funding strategies adopted in the latter part of 2011.

·	Group NIM increased by 6 basis points, benefiting from lower liquidity and funding costs as average short-term wholesale funding fell and low-yielding portfolios were managed down across the Group.

·	Group net interest income fell by 1%, driven by a £24 million decrease in Retail & Commercial, largely reflecting the roll-off of low yielding portfolios in International Banking.

·	Non-interest income fell by £1,771 million, or 19%, driven by a decrease of £807 million in Non-Core, which reflects significant gains recorded in H1 2011, and lower Markets non-interest income, down £470 million (15%). The Markets' fall reflects sluggish market conditions relative to a year ago, as investor confidence has waned.

·	Retail & Commercial non-interest income of £2,924 million compares with £3,150 million in H1 2011. In UK Retail, lower card transaction volumes and changing customer behaviours drove a 20% decline. International Banking non-interest income fell as a result of lower revenue share from Markets as client activity levels were down.

·	Insurance net premium income decreased by 17% to £1,867 million driven by a decrease in volumes written by Direct Line Group during 2011, reflecting a planned decrease in the Motor book, the exit of certain business lines and the run-off of legacy policies.

·	Group non-interest income declined by 16%, primarily reflecting lower Markets revenues following a seasonal uplift in the first quarter.

·	Non-Core recorded a £39 million loss on disposals in Q2 2012, compared with gains of £182 million in Q1 2012.

·	Retail & Commercial non-interest income increased by £80 million, or 6%, largely driven by a gain of £47 million on the sale of Visa B shares in US Retail & Commercial.

·	Group operating expenses decreased by 2%, largely driven by the on-going run-down of the Non-Core division and lower revenue-linked staff expenses in Markets.

·	Retail & Commercial expenses were broadly flat as benefits from the Group cost reduction programme were largely offset by a litigation settlement of £88 million ($138 million) in US Retail & Commercial in Q1.

·	Insurance net claims of £1,225 million were £480 million lower than H1 2011 as Direct Line Group loss ratios improved, reflecting reduced exposure, tight underwriting discipline and reserve releases from prior years. Legacy business run-off also contributed to the reduction.

	30 June 2012	31 March 2012	31 December 2011
	£m	£m	£m

Loans and advances to banks (1,2)	39,436	36,064	43,870
Loans and advances to customers (1,2)	434,965	440,406	454,112
Reverse repurchase agreements and stock borrowing	97,901	91,129	100,934
Debt securities and equity shares	200,717	213,534	224,263
Other assets (3)	155,738	168,534	154,070

Funded assets	928,757	949,667	977,249
Derivatives	486,432	453,354	529,618

Total assets	1,415,189	1,403,021	1,506,867

Bank deposits (2,4)	67,619	65,735	69,113
Customer deposits (2,4)	412,769	410,207	414,143
Repurchase agreements and stock lending	128,075	128,718	128,503
Debt securities in issue	119,855	142,943	162,621
Settlement balances and short positions	53,502	54,919	48,516
Subordinated liabilities	25,596	25,513	26,319
Other liabilities (3)	51,812	53,821	57,616

Liabilities excluding derivatives	859,228	881,856	906,831
Derivatives	480,745	446,534	523,983

Total liabilities	1,339,973	1,328,390	1,430,814
Owners' equity	74,016	73,416	74,819
Non-controlling interests	1,200	1,215	1,234

Total liabilities and equity	1,415,189	1,403,021	1,506,867

Memo: Tangible equity (5)	54,386	53,901	55,217

	Half year ended		Quarter ended
	30 June 2012	30 June 2011	30 June 2012	31 March 2012	30 June 2011
Operating expenses	£m	£m	£m	£m	£m

Staff expenses	4,257	4,419	2,036	2,221	2,099
Premises and equipment	1,073	1,119	523	550	563
Other	1,755	1,699	936	819	834

Administrative expenses	7,085	7,237	3,495	3,590	3,496
Depreciation and amortisation	776	776	382	394	396

Operating expenses	7,861	8,013	3,877	3,984	3,892

Insurance net claims	1,225	1,705	576	649	793

Staff costs as a % of total income	31%	28%	32%	31%	27%

	Half year ended		Quarter ended
	30 June 2012	30 June 2011	30 June 2012	31 March 2012	30 June 2011
Impairment losses	£m	£m	£m	£m	£m

Loan impairment losses	2,730	4,135	1,435	1,295	2,237
Securities impairment losses	(81)	76	(100)	19	27

Group impairment losses	2,649	4,211	1,335	1,314	2,264

Loan impairment losses
- individually assessed	1,690	3,119	945	745	1,834
- collectively assessed	1,129	1,311	534	595	591
- latent	(113)	(295)	(56)	(57)	(188)

Customer loans	2,706	4,135	1,423	1,283	2,237
Bank loans	24	-	12	12	-

Loan impairment losses	2,730	4,135	1,435	1,295	2,237

Core	1,515	1,662	719	796	810
Non-Core	1,215	2,473	716	499	1,427

Group	2,730	4,135	1,435	1,295	2,237

Customer loan impairment charge as a % of gross loans and advances (1)
Group	1.1%	1.6%	1.2%	1.1%	1.8%
Core	0.7%	0.8%	0.7%	0.8%	0.8%
Non-Core	3.6%	5.2%	4.2%	2.7%	6.0%

·	Group operating expenses fell by 3%, with staff expenses down £185 million, largely driven by a seasonal fall in Markets revenues. This was partially offset by a 14% increase in other expenses, which includes a £125 million provision for customer redress relating to the technology incident in June 2012.

·	Retail & Commercial expenses declined 5%, principally reflecting the litigation settlement of £88 million ($138 million) in Q1 in US Retail & Commercial, and reductions in International Banking as a result of a planned reduction in headcount following the Q1 2012 restructuring.

·	Insurance net claims decreased by £73 million largely reflecting prior year reserve releases.

·	Group operating expenses were flat compared with Q2 2011, as Non-Core run-down and lower expenses in Markets, largely driven by headcount reductions, were offset by the £125 million provision relating to the Q2 2012 technology incident.

·	Retail & Commercial expenses decreased by 3% as a result of savings achieved as part of the Group cost reduction programme.

·	Insurance net claims fell by 27% reflecting legacy business run-off and reduced exposures, particularly in Motor. Tightened claims management also supported prior year reserve releases.

·	Group loan impairment losses fell 34% to £2,730 million, compared with £4,135 million in H1 2011, driven by a significant reduction in Non-Core and improvements in Retail & Commercial.

·	Non-Core loan impairment losses were 51% lower, reflecting the substantial provisioning of development land values in the Ulster Bank portfolio during H1 2011.

·	Retail & Commercial loan impairment losses decreased by £206 million, 12%, driven by an overall improvement in asset quality reflecting risk appetite tightening in UK Retail and an improved credit environment for US Retail & Commercial.

·	Total Ulster Bank (Core and Non-Core) loan impairments were £1,166 million, compared with £2,540 million in H1 2011, driven by the fall in Non-Core. Core Ulster Bank impairments decreased by 2%.

·	The Group customer loan impairment charge as a percentage of loans and advances fell to 1.1% compared with 1.6% for H1 2011. For Core, the comparable percentages were 0.7% and 0.8%.

·	Group loan impairment losses increased 11%, driven by Non-Core, where loan impairments rose by £217 million, largely reflecting one large provision in the Project Finance portfolio.

·	Retail & Commercial showed continuing improvement in credit trends, with loan impairment losses down 10%. This largely reflected a decrease in Ulster Bank, where significant provisions were recorded in Q1 2012 in respect of retail mortgages. UK Retail impairments also declined, with lower default volumes in both mortgages and unsecured lending reflecting risk appetite tightening.

·	Core and Non-Core Ulster Bank loan impairments totalled £512 million, a decrease of £142 million. Credit conditions remained difficult leading to a deterioration in asset quality. However, the level of deterioration of mortgages in default and the rate of decline in house prices slowed during the quarter.

·	Group loan impairment losses decreased by 36%, driven by a decline in Non-Core impairments, due to the non repeat of the Q2 2011 development land provisions in Ulster Bank.

·	Retail & Commercial loan impairment losses were down £147 million, or 17%. Excluding Ulster Bank, R&C loan impairment losses declined by £201 million reflecting broad strengthening in credit metrics.

·	H1 2012 included a £2,974 million charge in relation to own credit adjustments, given the significant tightening in the Group's credit spreads. This compares with a smaller charge of £236 million in H1 2011.

·	Additional provisions totalling £260 million were taken in relation to Payment Protection Insurance in H1 2012, bringing the cumulative charge to £1.3 billion.

·	Integration and restructuring costs totalled £673 million, driven by the restructure of Markets and International Banking, Group property exits and expenditure incurred in preparation for the divestment of Direct Line Group and the sale of branches to Santander.

·	H1 2012 includes £577 million gain on the redemption of own debt completed during the first quarter.

·	A net gain on strategic disposals of £152 million in H1 2012 largely reflects the sale of RBS Aviation Capital in June 2012.

·	The Group's Core Tier 1 ratio improved to 11.1%. Core Tier 1 capital increased by £1.4 billion. This reflected the issue of new shares and the sale of surplus shares held by the Group's Employee Benefit Trust to fund deferred employee incentive awards, £0.5 billion, together with lower regulatory deductions, including APS, of £0.9 billion.

·	The impact of the Asset Protection Scheme (APS) on the Core Tier 1 ratio continued to decline, from 85 basis points at 31 March 2012 to 77 basis points at 30 June 2012.

·	Gross risk-weighted assets (RWAs) fell by £8 billion, reflecting a significant reduction in market risk coupled with Non-Core run-off and disposals.

·	The Core Tier 1 ratio increased by 50 basis points compared with 31 December 2011, driven by attributable profits (net of movements in fair value of own debt), issuance of new shares, lower regulatory capital deductions, and a 4% reduction in gross risk-weighted assets.

·	Gross risk-weighted assets fell by £20 billion, excluding the effect of the APS. Post APS, RWAs decreased by £4 billion.

·	Group funded assets fell by £21 billion during Q2 2012 to £929 billion. Non-Core further reduced third party assets by £11 billion, including the disposal of RBS Aviation Capital.

·	The Group loan:deposit ratio improved to 104% compared with 106% at 31 March 2012, as customer deposits increased by £3 billion through successful deposit-gathering initiatives. A credit rating downgrade during Q2 2012 had negligible impact.

·	Short-term wholesale funding decreased by £18 billion in Q2 2012 to £62 billion, while a significant liquidity portfolio of £156 billion was maintained, a coverage ratio of 2.5 times.

·	Funded assets decreased by £48 billion to £929 billion, reflecting the Group's programme of deleveraging and reducing capital intensive assets. Non-Core funded assets fell by £22 billion primarily reflecting disposals and run-off, and Markets reduced its assets by £11 billion.

·	Loans and advances to customers were £19 billion lower, reflecting net customer repayments in International Banking, weak customer credit demand and Non-Core run-down and disposals.

·	The Group loan:deposit ratio improved to 104% compared with 108% at 31 December 2011. The Core loan:deposit ratio improved to 92%.