Oct. 30 (Bloomberg) -- Lloyds Banking Group Plc Chief Executive Officer Eric Daniels discussed merging with ABN Amro Holding NV about a year before Royal Bank of Scotland Group Plc’s takeover, according to the Dutch lender’s former CEO.

London-based Lloyds held discussions with ABN Amro in early 2006, former ABN Amro CEO Rijkman Groenink said in a telephone interview. Lloyds ended talks with the Amsterdam-based lender, suspecting rival bidders would emerge offering terms that it couldn’t match, said two people familiar with the negotiations, who declined to be identified.

RBS led a group that paid 72 billion euros ($106 billion) for ABN in 2007, beating a competing bid from London-based Barclays Plc. The deal, completed at the start of the credit crisis, accounted for more than half of RBS’s 24 billion-pound ($40 billion) loss in 2008, the biggest posted by a U.K. company. It also led the government to take a 70 percent stake in RBS.

“What happened to RBS could have happened to Lloyds,” said Lothar Mentel, chief investment officer at Octopus Investments Ltd., which oversees $2 billion, including a stake in Lloyds. U.K. banks at that time “were all frantic about increasing their empires.”

Lloyds bought HBOS Plc, Britain’s largest mortgage lender, in September 2008 after its rival’s funding dried up in the wake of Lehman Brothers Holdings Inc.’s bankruptcy. The acquisition, encouraged by the U.K. government, left Lloyds with 10 billion pounds of losses in the 12 months to June 30, most of which it attributed to HBOS.

Treasury Talks

Daniels, 58, is now negotiating with the government, which took a 43 percent stake in Lloyds, to raise about 11 billion pounds to cover losses from its HBOS takeover, another person familiar with the talks said. The fundraising may enable the bank to avoid a taxpayer-backed insurance program that would give the government a 62 percent stake.

Lloyds rose 3.2 pence, or 3.7 percent, to 89.15 pence as of 8:15 a.m. in London. The stock is down 5 percent this year, compared with a 28 percent gain in the five-member FTSE 350 Banks Index.

Judging the merits of a merger with ABN Amro is using the “benefit of hindsight,” said Richard Champion, who helps manage $2 billion, including Lloyds shares, at Principal Investment Management Ltd. in Sevenoaks, England. “They didn’t do the deal. You have to give them credit for that.”

Brigitte Seegers, a spokeswoman for ABN Amro, declined to comment. A spokesman for Lloyds also declined to comment.

“I would have thought a decision like that would be utterly foolhardy and is a ridiculous piece of empire building,” said Paul Mumford, a fund manager at Cavendish Asset Management, which manages about $1 billion and who holds Lloyds stock. “Banks didn’t look cheap at that stage and the whole idea is completely flawed.”

‘Long Period of Decline’

Groenink said Lloyds was “pretty conservatively managed,” before it acquired HBOS, and called Daniels “very prudent.” ABN didn’t enter formal negotiations with Lloyds, he said.

“We didn’t continue discussions because we were uncomfortable with the position of Lloyds being limited totally to the U.K. market,” Groenink said. The bank was “afraid that increasing competition in the U.K. would lead to a long period of decline.”

Daniels, who declined to be interviewed, has indicated he was under pressure to burnish the bank’s conservative image when he became CEO in 2003.

“The newspapers were carrying headlines about the lame horse, the horse being a donkey and so on,” he told the House of Lords Economic Affairs Committee in March. “As you know, the symbol of Lloyds TSB is the black horse.”

To contact the reporter on this story: Jon Menon in London at jmenon1@bloomberg.net; Andrew Macaskill in London at amacaskill@bloomberg.net; Simon Clark in London at sclark4@bloomberg.net

Last Updated: October 30, 2009 04:16 EDT