Lloyds Wins U.K. Top Court Suit on 3.3 Billion-Pound Bonds

  • Majority of five judge rules in favor of early redemption
  • Convertible notes first sold in 2009 after capital shortfall

Lloyds Banking Group Plc won a U.K. Supreme Court ruling Thursday over whether it was permitted to do an early redemption of 3.3 billion pounds ($4.7 billion) of bonds, ending a disagreement springing from the bank’s attempts to weather the financial crisis.

Lloyds could redeem the bonds because a regulatory review counted as a so-called capital-disqualification event that affected the terms, according to a ruling supported by three of the five-judge panel. The contingent-convertible notes, which converted into shares as a way to absorb losses, were issued after U.K. regulators found a 29 billion-pound shortfall in Lloyds’ core capital.

The battle over the bonds was one of the remnants of the global financial crisis working through London courts. Lloyds Chief Executive Officer Antonio Horta-Osorio is under pressure to intensify cost-cutting to boost profit as the bank’s profit margins suffer amid record low interest rates and concerns over slowing economic growth. The bank took a 790 million-pound charge to ax the enhanced capital notes in its first-quarter earnings.

“The fact that it was 3-2 shows how close Lloyds were to the edge of the law,”said Mark Holman, CEO of TwentyFour Asset Management in London, which oversees 6 billion pounds and once invested in the notes. “Given that they were totally reliant on debt holders to avoid falling fully into the hands of U.K. taxpayers, to treat them in this way was not just.”

Stress Test

The terms allow the bonds to be redeemed at face value in the event of regulatory changes, which Lloyds says occurred when the U.K. Prudential Regulation Authority decided not to count them in stress tests.

Lloyds shares declined 68 pence, or 1.1 percent to 62.32 pounds at 10:54 a.m. in London, after falling as much as 2.7 percent. They’ve lost 14 percent of their value this year.

Investors in the Enhanced Capital Notes won the first round of the dispute in June when a judge said a capital-disqualification event hadn’t occurred. A higher court ruled that the bank had the right to redeem the notes early.

Getting rid of the contingent-capital bonds -- which paid more than 10 percent -- has helped Lloyds to boost its profit margins as it sheds expensive interest payments on the debt and because it can now access cheaper wholesale market financing.

Shareholder Interests

"Throughout this process, the group has sought to balance the interests of all stakeholders including our 2.6 million shareholders, as it takes steps to meet the requirements of the changing regulatory landscape and manage its capital requirements efficiently,” Lloyds said in a statement.

The two dissenting members of the Supreme Court disagreed, and found that the notes shouldn’t have been redeemed early.

"These were long-dated securities, which cannot have been intended to be redeemed early except in some extreme event undermining their intended function and requiring their replacement with some form of capital," Judge Jonathan Sumption said in the ruling disagreeing with the majority.

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