Britain is set to announce on Tuesday a long-awaited deal with its bailed-out banks, including a record rights issue for Lloyds Banking Group and hefty disposals for Royal Bank of Scotland to appease the EU competition regulator and boost competition.
Part-nationalised RBS and Lloyds, 43 percent state-owned, have for months been under the scrutiny of the European Commission, investigating the impact on competition of the billions of pounds received in state aid.
In an attempt to minimize further state aid which would require even bigger disposals to satisfy the Commission, the banks have also been negotiating with the UK government over its Asset Protection Scheme (APS) to insure their riskier loans.
Both lenders are set to detail a final deal with the state on Tuesday in a complex package that will include disposals to satisfy the EU, sources close to the matter have told Reuters.
RBS said it will make an announcement on Tuesday on the key terms of entry into the APS and other aid it will receive from the government.
RBS and Lloyds signed up earlier this year to join the Asset Protection Scheme but a better than feared economic backdrop, the costs of participating and the concerns of the EU competition regulator have prompted both to reconsider.
Lloyds is now set to get regulatory clearance to escape the APS altogether, instead plugging a capital hole of more than 20 billion pounds by raising cash in what is expected to be the biggest ever rights issue totaling more than 12 billion pounds ($19.6 billion) and converting some existing debt into so-called contingent capital which becomes equity in any future crisis.
RBS, 70-percent state-owned, does not aim to avoid the APS entirely but under revised terms is expected to be allowed to avoid an upfront fee agreed in March of up to 17.5 billion pounds to join the APS for five years.
Instead the bank will pay annually, under a pay-as-you-go arrangement whereby the premium depends on the toxic assets needing to be insured, sources close to the deal said.
Under the terms of the original deal RBS also is set to issue 19.5 billion pounds in B -- non-voting -- shares to the government, taking the state's economic stake in the bank to 82 percent, though its voting stake is capped.
Both banks also will face asset sales to satisfy Brussels.
RBS said on Monday it will be forced to sell more assets than expected but said it was sticking to its turnaround plan.
It also said it would axe another 3,700 jobs from its UK retail business. RBS has already shed 16,000 of its 165,000 staff globally since October 2008, including 10,000 job cuts in Britain.
EU authorities are set to force RBS to sell its insurance arm, to dispose of over 300 branches to cut back its slice of the small and medium enterprise banking market, and to shrink its investment bank, people familiar with the matter said.
RBS is already shrinking the balance sheet of its Global Banking and Markets investment banking arm, but could be forced to dispose of assets including Sempra, its commodities unit.
The deal should, however, avoid the sale of its prized U.S. retail arm Citizens, sources close to the deal said on Saturday.
The harsher than expected terms sent RBS shares tumbling, to close 7.8 percent lower on Monday at 38.5p, off earlier lows.
Markets have been worried that Brussels is taking a hard line with banks who took state aid, after imposing big changes on Dutch bancassurer ING Group NV last week.
Lloyds, whose merger with rival HBOS was brokered by the UK government last year, could get off more lightly.
It is set to be told to sell its Cheltenham & Gloucester branch network, Lloyds TSB Scotland and Internet banking unit Intelligent Finance, sources familiar with the matter have said.
Crucially, it is set to keep its Halifax mortgage brand.
The UK government has indicated it could close off the sales of these assets to existing entrants, a move it hopes will encourage new players and more competition.
Virgin Group said on Monday it was interested in looking at assets of the three rescued banks, including Northern Rock.
Britain's leading retailer Tesco, as well as overseas banks Santander, owner of Abbey, and National Australia Bank, are also possible suitors.
(Additional reporting by David Sheppard; Editing by Greg Mahlich and Carol Bishopric)