Co-op Bank ‘left defenceless’ by regulators in ill-fated takeover deal

A “sorry saga” of failings by the then financial regulator left Manchester’s Co-operative Bank “defenceless” in its disastrous 2009 takeover of the Britannia Building Society, a Treasury-commissioned report claims.

Four years after the deal, in the wake of a banking system meltdown requiring a massive taxpayer-backed bailout, the bank almost collapsed and had to be saved by a group of US hedge funds and the wider Co-op group after a £1.5bn hole in its finances was discovered.

An inquiry into the crisis was commissioned by the then Chancellor, George Osborne, led by Mark Zelmer, a former official at Canada’s central bank and the International Monetary Fund.

The report, published this week, said the Financial Services Authority identified “vulnerabilities” before approving the Co-op’s merger with Britannia.

But it said it backed the deal because of the risks to the financial sector if Britannia had failed, and, according to the report, saw the Co-op as the “best available safe harbour”.

Mr Zelmer’s report looked at the role played by regulators in what he described as “this sorry saga”.

He acknowledged that, between 2008 and 2013, the then FSA was “busy fighting many fires on a number of fronts” during and after the global financial crisis.

But his report said: “The FSA approved the merger in 2009 knowing that there would be vulnerabilities in the merged bank’s balance sheet and that there was a risk that the bank would need more capital in coming years.”

Mr Zelmer’s report stated that a “significant level” of potential weaknesses was discovered when the FSA carried out stress tests ahead of the Co-op’s Britannia deal.

But the deal was nodded through by the FSA “in the context of unprecedented conditions that prevailed in the UK financial system”.

The report added: “It mainly approved the merger to contain the risk of a major loss of confidence on the UK financial system.”

Mr Zelmer said: “The approach taken by the FSA towards the merger … left the Co-op Bank relatively defenceless.”

And he said if the FSA had challenged the Co-op over its own due diligence assessment ahead of the Britannia deal, that “might have been helpful” to the lender which was lacking in expertise and suffering “broader governance weaknesses” at the time.

Mr Zelmer has recommended improving how regulators consider a banking merger and to continually adapt stress tests.

The FSA has since been replaced by the Financial Conduct Authority (FCA) and the Prudential Regulatory Authority (PRA), the latter an arm of the Bank of England.

PRA chief executive Sam Woods said: “We will make sure that we use the lessons from this case to strengthen our approach to prudential supervision.”