1. On 27 January 2004 the Board of HBOS
plc was told by the Group Finance Director, Mike Ellis, that,
in the view of the Financial Services Authority (FSA):
the Group's growth had outpaced
the ability to control risks. The Group's strong growth, which
was markedly different than the position of the peer group, may
have given rise to "an accident waiting to happen".
Neither the FSA nor HBOS followed through
on the implications of this characterisation. The accident happened.
HBOS failed, with dramatic consequences for its shareholders and
for the taxpayer. In this Report we examine why HBOS failed and
what that failure says about culture and standards in UK banking.
2. At its peak in 2007, HBOS had a market
capitalisation of over £40 billion, when its tangible book
value was £18 billion.
Former HBOS shareholders have seen 96 per cent of its peak value
disappear, and what remains is the result of support from the
UK taxpayer and the acquisition by Lloyds TSB. The taxpayer has
injected £8.5 billion directly into HBOS. Lloyds Banking
Group (LBG) has provided a further £20.5 billion for HBOS
and has itself also received £12 billion from the taxpayer.
The total of £20.5 billion provided by the taxpayer to both
groups has therefore all been channelled into HBOS.
The market value of the Treasury holding in LBG is still £5
billion below the £20.5 billion invested.
There have also been wider effects of the catastrophe, with HBOS
weakened in its ability to lend to retail customers and small-
and medium-sized enterprises (SMEs) and the banking market less
of the three large domestic bank failures of the banking crisis
in the UK have previously been the subject of detailed scrutiny.
The retail bank run on Northern Rock and its consequences were
subject to near contemporaneous consideration by the Treasury
Committee. At the initiative
and insistence of the Treasury Committee, the FSAwhich
had initially published only a 300 word press release to accompany
the conclusion of its enforcement processpublished a substantial
Report into the failure of RBS, which was, also at the instigation
of the Treasury Committee, subject to independent review by specialist
advisers appointed by that Committee. Subsequently the Treasury
Committee produced its own Report following that from the FSA.
The fall of HBOS has so far received less public scrutiny, consideration
being largely limited to sections in a Report by the Treasury
Committee in 2009. 
4. In July 2011 the Chairman of the
FSA wrote to the Chairman of the Treasury Committee describing
progress with the Authority's report on RBS and the "extremely
valuable" role of the independent reviewers. In view of the
public interest in knowing what happened at HBOS, and probably
in anticipation of the foreseeable requirement of the Treasury
Committee, he said that it was the FSA's intention also to produce
a further report on the collapse of HBOS once the enforcement
process was complete.
In evidence to the Treasury Committee in January 2012 Lord Turner
acknowledged that it had been a mistake on the part of the FSA
not to have decided earlier to produce a public accountability
report on RBS, and repeated his intention of producing a report
on HBOS equivalent to that which the FSA had published on RBS.
5. On 9 March 2012, the Financial Services
Authority (FSA) announced that it had completed its investigation
of HBOS and that the firm had been guilty of very serious misconduct.
Given the exceptional circumstances of the firm being part-owned
by the taxpayer, the FSA decided not to levy a fine. Instead the
FSA issued a public censure.
The FSA concluded its remaining enforcement action in September
2012, through an action in relation to an individual which we
consider later in this Report.
6. In response, the Treasury Committee
exercised its powers in a novel way. It wrote to the FSA welcoming
Lord Turner's commitment to producing a report into the failure
of HBOS, requiring that it be a "comprehensive assessment
of the reasons for the bank's failure", and envisaging that
the Treasury Committee would appoint external advisers, employed
during the drafting process, to provide assurance that the report
was a fair and balanced reflection of the evidence.
The FSA acceded to this requirement.
The Treasury Committee has recently announced the terms of reference
for the independent reviewers, which are to:
a) review and report on the extent
to which the FSA report on the failure of HBOS is a fair and balanced
reflection of the available evidence;
b) review and report on whether
the FSA's report is a fair and balanced summary of the Authority's
regulatory and supervisory activities in the run up to the failure
7. The report by the FSA into the failure
of HBOS and the independent review on behalf of the Treasury Committee
are unlikely to be published before this Commission publishes
its final Report. In order to ensure that a full picture of the
UK bank failures in the financial crisis was available to us,
we decided to examine HBOS ourselves as a case study of banking
failure, in order to identify lessons for our wider work on banking
standards and culture.
8. There have been a number of unusual
features of the way in which we have carried out our work on HBOS
compared with the general working practices of parliamentary committees.
a) The Commission appointed Counsel,
David Quest and Rory Phillips QC of 3 Verulam Buildings, to participate
in the examination of witnesses, the first use of Counsel by a
parliamentary committee of this kind;
b) We gathered a much larger amount
of original documentary material than is customary for select
committees, including papers of the HBOS Board and correspondence
between HBOS and the FSA which would usually be confidential;
c) We established a panel to undertake
the initial phase of our work, led by Lord Turnbull, to collect
initial written statements from those invited to give oral evidence
d) The panel then held 8 meetings
between 30 October and 30 November and took evidence from 16 witnesses
who had worked for HBOS, served on its Board or been involved
in its supervision, enabling evidence to be collected from a broader
range of witnesses than can usually be examined by a parliamentary
committee for a particular case study;
e) The panel heard evidence on two
occasions from witnesses in private, on one occasion due to the
personal circumstances of a witness and on another occasion to
maintain the anonymity of a witness from the FSA below executive
f) We deployed high quality bank
analysts as staff to assess the evidence on what happened and
to provide advice.
In the light of the panel's evidence-gathering,
the Commission heard evidence from Sir James Crosby, Chief Executive
of HBOS from its creation until 2006, Andy Hornby, its last Chief
Executive, and Lord Stevenson of Coddenham, Chairman of HBOS throughout
its short life; Counsel also took a lead role in the examination
of these witnesses.
9. We are most grateful to all those
who assisted us in our work, and in particular to Lloyds Banking
Group (LBG) and the FSA for their cooperation on the production
of documents, and to Rory Phillips QC, David Quest and their supporting
team from 3 Verulam Buildings.
10. The work we have undertaken on HBOS
will continue to inform our consideration of banking standards
and culture in advance of our final Report. We have decided to
report separately in advance on HBOS in order to ensure due prominence
to some of the lessons from its failure and in order to help shape
the agenda for the forthcoming Report by the FSA on the failure
of HBOS, the external review of it and subsequent consideration
by the Treasury Committee. This Report identifies issues which
the FSA should further examine in that Report, but does not contain
broader public policy recommendations arising from the case study;
these will form part of our final Report.
1 B Ev w 363; emphasis in the original. For attribution
of the last phrase, see Q 1328 and BQq 330-332. Back
HBOS, 2007 Annual Report and Accounts: Delivering our strategy...,
pp 154, 155, 207 Back
National Audit Office, HM Treasury Resource Accounts 2011-12:
The Comptroller and Auditor General's Report to the House of Commons,
July 2012, p 10 Back
Lloyds Banking Group, 2011 Annual Report and Accounts: Becoming
the Best Bank for Customers, pp 290, 303 Back
Treasury Committee, Fifth Report of Session 2007-08, The Run
on the Rock, HC 56 Back
Treasury Committee, Fifth Report of Session 2012-13, The FSA's
report into the failure of RBS, HC 640 (heareafter cited as
HC (2012-13) 640), paras 1-8 and passim; FSA, The failure of
the Royal Bank of Scotland: Financial Services Authority Board
Report, December 2011 Back
Treasury Committee, Seventh Report of Session 2008-09, Banking
Crisis: dealing with the failure of the UK banks , HC
416, paras 39-47, 120-128 Back
Letter from Chairman of the FSA to Chairman of the Treasury Committee,
11 July 2011, www.parliament.uk/treascom Back
Oral evidence taken before the Treasury Committee on 30 January
2012, HC (2012-13) 640-I, Qq 88,90 190 Back
"FSA publishes censure against Bank of Scotland plc in respect
of failings within its Corporate Division between January 2006
and December 2008", FSA Press Notice 024/2012, 9 March 2012 Back
See paras 130 -135 Back
HC (2012-13) 640, para 121 Back
"Treasury Committee appoints specialists to review FSA report
into HBOS", Treasury Committee News, 1 March 2013 Back
In addition to David Quest and Rory Phillips QC, Ian Higgins,
Kate Holderness and Anne Jeavons of 3 Verulam Buildings were also
appointed as specialist advisers for the Commission's work on