Matt Morton
The taxpayer is stumping up a further £31 billion in shares and guarantees as part of a £54 billion refinancing to help Lloyds Banking Group and Royal Bank of Scotland reshape themselves for a brave new world of banking.
The state backing will allow the two partially state-owned lenders, which were rescued in October 2008 at a cost of £37 billion, to put themselves on a steadier footing, even as they sell parts of their businesses to meet European Union demands.
MSN Money's full coverage of the banking breakup and what it means
Harsher landscape
As smaller banks, but with a larger capital cushion, they will face a harsh competitive and regulatory landscape: restrictions on bonuses, restrictions on payments to share and bondholders, rules enforcing more lending to business, but onerous terms for covering further losses.
"It is pretty much as expected," Gary Jenkins, head of fixed income research at Evolution Securities, told MSN.
On top of all this, if the government gets its way they will face a host of new rivals, from supermarkets to foreign banks, who will be buying up the businesses they shed and looking to poach more.
See yesterday's story on the businesses to be sold
Different routes to salvation
The two banks are going different routes. Lloyds is making a £13.5 billion rights issue, which will ask for new money from existing shareholders.
As the state is owner of 43% of Lloyds that means an extra £5.8 billion of state money to keep the stake intact. Lloyds is also issuing £7.5 billion of innovative contingent bonds, which will be used to replace existing preference shares and bonds.
"This option represents better value for money for taxpayers, as the private sector will now provide the majority of the capital required to protect Lloyds from the downside risks to its balance sheet," the Treasury said.
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Most expensive bank bailout
The government will buy £25.5 billion of 'B' shares in RBS which will increase its economic holding from 70% to 84%. The total of taxpayer cash committed to RBS since 2008 is now £45.5 billion, making it the world's most pricey bank bailout ever.
Both RBS and Lloyds have agreed to increase lending to businesses and property owners by a total of £39 billion.
They have also reluctantly acceded to government demands not to pay bonuses to staff earning more than £39,000 on their performance in 2009 and for directors to defer all bonuses until 2012.
"We don't want to demonise people in banking," City minister Paul Myners told the BBC. "But at the top of banking, we're going to bear down on remuneration."
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Lloyds to escape onerous scheme
The capital-raising will allow Lloyds to escape the government's Asset Protection Scheme (APS), though it will pay £2.5 billion, a kind of one-off insurance premium, for having been sheltered by it since February.
RBS will remain within the APS and subject to its onerous rules. For this it will pay £700 million a year during the first three years of membership, and £500 million a year thereafter.
It can exit anytime at a cost of £2.5 billion. The APS will cover £282 billion of assets on RBS's balance sheet, down from £325 billion when the APS was first mooted in February.
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Tougher terms
RBS will shoulder the first £60 billion of losses, up from £42 billion when the APS was first set up. It will also pick-up the first 10% of any subsequent loss with the state picking up the rest.
There will be a new £8 billion 'contingent equity fund' from the government which will trigger further support should RBS's capital position weaken.
However, RBS said in a trading statement that losses appeared to be plateauing and it saw the risk of a "stressed scenario...as receding".
In its trading statement, Lloyds chief executive Eric Daniels said the group was "in line with guidance in all key areas of the business". The bank still expects to report a loss before tax for 2009, before non-cash credits.
Outlook for banks chilly
Lloyds shares were 2% higher in recognition of its elegant funding construction, but RBS and the rest of the banking sector were a little weaker.
With all the good news long ago in the price, bank shares now have to face a grim winter of regulatory demands, by shedding balance sheet lending weight and adding protective capital, all of which are likely to hit returns.
The big risk is that when economic stimuli are withdrawn, we could enter a double dip recession with further losses on both business and property loans.
However, though it appears that there is more money state money at risk, there might ultimately by less of a chance of losing it. This would be excellent news for taxpayers.
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But lower taxpayer losses?
"The Treasury estimates that it will lower the long-term cost of intervention, because they are providing less insurance," Gemma Tetlow of the Institute of Fiscal Studies told MSN.
She added that the Treasury's £20-£50 billion range for the long-term losses borne by the taxpayer for banking intervention, given in the last Budget, might now come down.
As the Treasury rightly noted in today's statement: "The announcement of the APS [ back in February] has helped to restore confidence in the banking system and banks are now able to secure capital support from the private sector in a way that was not possible six months ago."
The Lloyds deal
The Lloyds capital raising will include some pretty clever innovations to get round EU rules which preclude payments of dividends, bond coupons or repayments of capital for two years after state aid has been received.
The £7.5 billion issue for bond and preference share holders will change them into contingent capital on which payments can be made, but there is a chance of forced conversion to ordinary shares if the capital position weakens.
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An offer you can't refuse
"Lloyds is making bondholders an offer they can't refuse. That is the certainty of coupons in the near term against the risk that the bonds may become ordinary shares in the long term if Lloyds breaches its capital limits," said Evolution's Gary Jenkins.
Difficult times, difficult choices. It's true for bondholders and shareholders as well as the banks themselves. Above all, it's been a tough choice for the government which wanted to punish the banks for having dragged us into this mess, but couldn't afford to let them die.
Today's Gordian knot of rules, pay limits and charges levied on those banks that needed taxpayer cash are the nearest to payback we are likely to get.
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