Nov. 25 (Bloomberg) -- During nine years at the helm of Royal Bank of Scotland Group Plc, Fred Goodwin excelled at beating his peers.

In 2000, he pulled in the richest paycheck among British bank chief executive officers. He carried out the world’s largest bank merger, making RBS Europe’s No. 1 lender as of June 2008, with assets of 1.73 trillion pounds. Goodwin even once bragged that the bank topped the corporate tax rolls, paying more to the Inland Revenue than any other U.K. firm.

Under Goodwin’s tutelage, RBS also became Europe’s biggest backer of leveraged buyouts. In November, RBS was about to chalk up one final superlative: It may become the recipient of the largest direct investment by a European government in a bank since the global financial crisis began last summer.

The U.K. was preparing to invest as much as 20 billion pounds ($30 billion) in RBS after the bank wrote down more than 7 billion pounds in bad loans and investments in the first 10 months of 2008 and may report its first-ever annual loss. RBS said in October that Goodwin, 50, would be stepping down the following month.

“It’s absolutely catastrophic,” Stephen Cockburn, managing director of London-based fund manager The Investment Company Plc, says of the bank’s decline. He has watched the RBS shares he bought for 366.5 pence each in March dwindle to 50.8 pence apiece on Nov. 24.

Cockburn blames the straits RBS is in on Goodwin’s breakneck expansion as CEO, which included $140 billion of takeovers, starting with the purchase of National Westminster Bank Plc in 2000. The most recent example was the 72 billion euro ($90 billion) purchase of ABN Amro Holding NV in 2007 with partners Banco Santander SA of Spain and Fortis of Belgium after a bidding war with Barclays Plc.

‘Folly’

“The folly was to go ahead with ABN Amro, to outbid Barclays and then, when the storm clouds were gathering on the horizon, to go ahead with it,” Cockburn says. “It was megalomania on the part of the management.”

Goodwin declined to be interviewed for this article. He’s remaining at the bank until January to smooth the transition for his replacement, Stephen Hester, former CEO of real estate investment trust British Land Co. Hester, 47, says he’ll consider selling RBS assets -- including some bought by Goodwin -- to help repay the bank’s borrowings.

“There are no sacred cows,” he told reporters in October.

Goodwin’s predecessor, George Mathewson, says a series of events felled the bank chief. “It wasn’t just ABN Amro,” Mathewson says. “They expanded the balance sheet too high in the trading part of the business. That meant they were higher leveraged.”

Derivatives Assets

Under Goodwin, the bank expanded trading and investment in derivatives, boosting derivatives assets 44 percent to 483 billion pounds in the first half of 2008. That was more than the bank’s 443 billion pounds of net deposits.

Meanwhile, its reserves of Tier 1 capital, a measure of financial strength and the vital reserve set aside to cover losses, was the lowest among its U.K. rivals at the start of 2008. To help bail out RBS, the government is underwriting a share offering due to close on Nov. 25. The asking price of 65.5 pence was almost 50 percent above the bank’s stock price.

That means the U.K. may wind up owning the shares -- and a controlling stake of about 60 percent. The government will also invest 5 billion pounds in RBS preference shares that pay 12 percent annual interest -- four times the Bank of England’s benchmark lending rate.

At a time when the country is bracing for its first recession since 1991, the U.K. may be taking on loans and advances of 690 billion pounds, equal to about half of its annual gross domestic product.

‘I Gulped’

“I gulped when I looked at the scale of RBS’s balance sheet,” says Carl Emmerson, deputy director of the Institute for Fiscal Studies, a London-based research organization. Emmerson says the government would probably exclude the debts of a state-controlled RBS from its main measure of national debt because the government plans to sell its stakes in state-owned banks eventually.

RBS wasn’t alone in using debt to fund expansion. In 2008, U.K. bank lending exceeded customer deposits by 700 billion pounds, making the banks dependent on foreign capital for funding, according to the Bank of England. In 2001, total lending to customers approximately equaled deposits.

Cross-Border Mergers

RBS’s rise and fall is an extreme example of a decade-long push among European and U.S. banks to get bigger as barriers to cross- border banking fell and the industry consolidated. The introduction of the euro in January 1999 added to pressure on European financial companies to acquire others or be acquired. Goodwin aimed to be in the former category.

“Fred wanted RBS to be up there with a very small number of global banks, and for a while he succeeded,” says Jeremy Peat, RBS’s chief economist from 1993 to 2005. “A dozen years wasn’t enough to grow from a Scottish bank to a British bank, to a European bank, to a global bank.”

The son of an electrical engineer, Goodwin was born and raised in the Scottish town of Paisley, known for its patterned cloth. In 1979, after earning a law degree from the University of Glasgow, he joined accounting firm Touche Ross & Co., now part of Deloitte Touche Tohmatsu.

Touche advised then Prime Minister Margaret Thatcher on the sales of state assets in the 1980s. Goodwin pored over the books of government-owned companies, including Short Brothers Plc, a Belfast, Northern Ireland-based maker of aircraft parts.

Roy McNulty, Short Brothers’ former CEO, remembers Goodwin as the better of two partners from the accounting firm sent to oversee his company’s finances.

‘Very Sharp’

“He was very sharp, very Scottish, very thorough,” McNulty says. “There was nothing but arguing with the other guy. Fred was the island of serenity. He was constantly sensible.”

In 1991, Goodwin worked on the liquidation of Luxembourg-based Bank of Credit & Commerce International, which had collapsed with as much as $16 billion in debt. Deloitte Touche has so far returned $6.3 billion to creditors.

Then in 1995, he joined National Australia Bank Ltd.’s U.K. operations, where he gained the nickname “Fred the Shred” for cutting costs and jobs.

When RBS’s Mathewson hired the 39-year-old Goodwin three years later, his brief was to help expand what was then Britain’s seventh-largest lender into consumer banking in England.

‘Eye for Detail’

“Fred had a remarkable eye for detail, great self-confidence and obviously high intellectual ability,” Mathewson says.

A year after Goodwin arrived, RBS got its chance to charge into England. NatWest, the third-largest U.K. bank, received a hostile 22 billion-pound bid from Bank of Scotland, now part of Edinburgh-based HBOS Plc. RBS, which was about half the size of NatWest, made a hostile bid of its own two months later, offering stock and loan notes initially worth 26.4 billion pounds.

RBS won, drawing on support from longtime ally Emilio Botin, chairman of Banco Santander, then RBS’s largest shareholder. Santander owns 2.3 percent of RBS.

When RBS completed the NatWest takeover in early 2000, Goodwin became CEO while Mathewson, now 68, moved up the ladder, becoming deputy chairman and then chairman.

RBS’s board rewarded Goodwin with a 2.1 million-pound paycheck, which included a bonus of 814,000 pounds for the NatWest takeover. That was more than any other U.K. bank chief received that year. London’s National Association of Pension Funds was critical of the bonus, saying such payouts should be made only for long-term performance.

Fred the Shred

Goodwin’s Fred the Shred persona re-emerged as he slashed 18,000 jobs out of NatWest’s total of about 64,400. He reduced annual costs by 1.44 billion pounds by combining the banks’ computer systems, among other measures. Goodwin’s success at integrating NatWest may have emboldened him, McNulty says.

“Once you’ve done one takeover successfully, you think you can go on and on,” he says. “Maybe he and others got a bit overambitious.”

Goodwin’s acquisitions included the $10.3 billion purchase of Cleveland-based Charter One Financial Inc. in 2004 and the U.K.’s Churchill Insurance Group Plc for 1.1 billion pounds in 2003. Goodwin publicly gloated about his successes.

He told investors in 2001 that while he wanted RBS to become global, he would still be willing to buy struggling lenders in the U.K. “We’re more likely to be involved in mercy killings,” he said of domestic rivals. Goodwin gave RBS some of the trappings of a global brand.

RBS Business School

At Edinburgh Airport, passengers are greeted by a five-story advertisement that reads, “Welcome to Edinburgh. Home of RBS.” The road from the airport passes RBS’s three-year-old, 350 million- pound headquarters, which sprawls like a modern university campus over 100 acres (40 hectares) and includes a Starbucks cafe, a Tesco supermarket, a conference center and the RBS Business School, a training center for bank managers.

The engineer’s son hobnobbed with the royal family, becoming chairman of the Prince’s Trust, which Prince Charles founded to help young people get jobs and training. In 2004, Queen Elizabeth II knighted Goodwin for services to banking.

He also irked shareholders by promising one thing and then doing the opposite. In March 2007, Goodwin dismissed takeover talk.

“We’ve got no plans to make any large acquisitions,” he said on a conference call with analysts. Two months later, he led the joint bid for ABN Amro.

Changing Course

In February 2008, he told investors he had no plans to sell new shares. “There are no plans for any inorganic capital raisings or anything of the sort,” he said. Two months later, he announced a share sale.

“I would have expected him to have gone -- having made that acquisition and said that they don’t need a rights issue and then having to come back and admit yes, they do need a rights issue,” Jane Coffey, who oversees $10.5 billion as head of equities at Royal London Asset Management Ltd., told Bloomberg Television.

A big part of ABN Amro’s attraction for Goodwin was the Dutch bank’s U.S. unit, Chicago-based LaSalle, which he wanted so he could expand RBS further in North America. When ABN Amro’s sale of the unit to Bank of America Corp. was approved by the Dutch Supreme Court in July 2007, Goodwin stayed in the bidding.

Sandy Chen, a London-based analyst at Panmure Gordon & Co., told Bloomberg News he saw “a worrying eagerness to win the ABN takeover battle, potentially at the expense of current Royal Bank shareholders.”

In his pursuit of growth, Goodwin ignored naysayers. “We certainly have been criticized for making acquisitions and putting growth ahead of short-term returns,” Goodwin said in a U.S. Securities and Exchange Commission filing in June 2007. “But I think that it is my job.”

Subprime Meltdown

When Goodwin’s group won ABN Amro the following month, the subprime meltdown in the U.S. was just starting to stain banks’ balance sheets.

RBS’s share of the prize was ABN Amro’s wholesale banking unit, which had outposts from London to the U.S., and offered products such as asset-backed securities, equity and interest-rate derivatives, trade finance, bonds and loans. RBS also acquired ABN Amro’s Asian banking units.

The ABN Amro units contributed a third of the 5.9 billion pounds of writedowns RBS took a few months later.

To most Scots, Goodwin remained a local boy made good. Investor Colin McLean, CEO of SVM Asset Management Ltd. in Edinburgh, says he criticized Goodwin’s expansion strategy at a lunch at the city’s New Club in November 2007.

‘Stunned Silence’

“Someone said, ‘If there was anything wrong with RBS, Fred would tell us,’” McLean recalls. McLean responded that RBS was so stretched it could no longer afford to pay a dividend. “There was a stunned silence for 30 seconds,” he says.

As RBS’s prospects waned in early 2008, Goodwin announced Europe’s biggest-ever rights offering. On June 9, RBS sold 12.3 billion pounds of ordinary shares.

Four months later, the bleeding continued. On Oct. 6, RBS fell 20 percent after Standard & Poor’s cut its credit rating to AA- from AA. The U.K. had already nationalized building society Bradford & Bingley Plc and brokered a takeover of HBOS by Lloyds TSB Group Plc amid concerns about both lenders’ ability to fund themselves.

On Oct. 13, RBS said the government would invest in it, too. The bank added that Goodwin would be leaving.

“I’m sad,” Goodwin told reporters on a conference call that day. “Nobody will ever tell you that they feel good the day they have to step down.”

Chairman Tom McKillop said the RBS board had demanded Goodwin’s departure and said Goodwin would stay on until January to help his successor. “Leverage is great in boom times,” McKillop said. “It can be awfully dangerous when things get difficult.”

RBS’s balance sheet has continued to worsen. Risk-weighted assets -- for which a proportion of capital must be set aside -- rose 10 percent to 543.1 billion pounds in the third quarter of 2008.

RBS said on Nov. 4 it was abandoning its profit forecast for 2008. By the time RBS discloses whether it made a loss for the year, the man responsible will be gone as CEO.

To pay off the debt Goodwin piled up building the RBS empire, his successor may have to tear it down.

To contact the reporter on this story: Simon Clark in London at sclark4@bloomberg.net

Last Updated: November 24, 2008 19:01 EST