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ResearchReport:

Discount to net assets back at peaks

ADVISORY PORTFOLIO

Report Date

30th May 2012

Analyst

Ravi Lockyer MSc Llb

Collins Sarri StathamInvestments Ltd

Stock Rating: BUY

Target Price............35pShare Price.........19.95pYr Hi/Low 42.6p/17.34pShares o/s........59.987mMarket Cap..... 11.96bnAvg Daily Vol........45.1MDividend Yield....... naFiscal Year 31 July 2012Website: www.rbs.com

Stymied by a host of UK regulatory issues, ( ring-fencing/ PPI ) the prospect of Grexitand new concerns about exposure to Italian and Spanish debt the UK banking sectoris suffering again though the issues are not as severe as 2008. For RBS capital issufficient ahead of Basle III, impairments remain in a downtrend and black spot areas,like Ulster Bank is slowly improving. Loan demand is slack with 2012 seeing acontinuation of 2011s trend towards consumer deleveraging.

RBS since FY2009 i.e. post UK government recapitalisation has seen:-a) Resilience in TNAV (tangible net asset value/ the preferred valuation metric in

the absence of EPS) the TNAV value has moved from 52.8p to 48.8p withthe recent pressure due to PPI (1.2bn), EU sovereign debt impairment(1.1bn) and bank levy (0.3bn).

b) The outlook for shareholder value in our view has improved due to first the rundown in Non-Core and declining impairment losses generally. Our expectationis a gain in net assets back to above 52p over the next 12-18 months.

c) Core Tier 1 capital (10.8% Q1 2012) has moved within a range of 10.5%-11.1% since 2010 helped by the dividend block and the reduction in balancesheet risk weighted assets.

d) RBS discount to net assets (green bar) (the difference between share priceand TNAV) had been in a narrow channel from 2010 to mid 2011 beforewidening out dramatically at the end of 2011 to 58%. There is modest comfortto be drawn from the move down in the discount to 43.3% at the time of theRBS IMS statement (4

thMay 2012) though the discount (black arrow) has since

widened out again to around 59% (a new record discount to TNAV).e) We are tempted to suggest the recent widening out of the discount due to

diverse Grexit/ Spanish issues could, if the crisis abates, narrow back to a discount in the 20%-30% range. The uncertainty is largely when this will takeplace. Optimists point to Q2/Q3 2012, pessimists suggest clarity by H1 2013.

The fly remains the soft UK economy and the risk of further weakness postthe Olympics.

EQUITY RESEARCH

RBS - BUY

RBS is a majorglobal bank tradingas Royal Bank ofScotland, Nat West,ABN Amro and

Citizens Bank.

Key Risks to PriceTarget

1. RBS is exposed todeteriorating creditconditions in the globaleconomy resulting inlarger loan lossprovisions.2. The UK governmenthas a significantshareholding in RBSwhich may result inincreasinggovernmentalinterference, possiblestock overhangs andvolatility in the publiclyavailable shares.3. RBS capital costs andaccess to capital isdependent on themaintenance of its

credit rating.

52.8 51.1 50.3 50.1 48.8

24.1 23.521.1

58.1

43.4

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

H1 10 FY 10 H1 11 FY 11 Q1 12

Share

Px (p)

Tnav

(P)

Dis NA

(%)

CT1

RBS 2010- Q1 2012 SHARE PRICE, TANGIBLE NET ASSETS / DISCOUNT

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Decline in RWA and other positive operating trends.RBS job remains to cut risk weighted assets, run down Non-Core and reduce thebalance sheet. This is proceeding more or less on track and we note RBSssubstantially reduced RWA and interbank funding requirements (core loan deposit ratio106% v 116% in March 2011). The board flagged non-core (funded assets) shoulddecline to 78bn over Q2 2012.

Forward positives include APS exit and impairments/ PPI

FY 2012 should see continued trend improvement in overall impairment (blue) down toapprox 3bn and another positive is the cost of the UK Governments Asset ProtectionScheme (red) drops out in September 2012.

RBS payment protection insurance (Q1 provision 125m) is also trending lower ourFY12 expectation is for 500m of PPI costs v to date charges of 1.2bn RBS haslower PPI provisions than both Barclays (1.3bn) and Lloyds (3.575bn) hence is roomfor disappointment that RBS PPI will turn out higher for FY12. Overall the expectationis RBS improvement in impairments remains intact and holds out the prospect of a very

good FY13 as APS, PPI and possibly sovereign debt drop out entirely.

400

410

420

430

440

450

460

470

480

H1 10 FY10 H1 11 FY11 Q112

RBS risk weighted assets (bn)

RWA

Linear (RWA)

3780

3520

3000

1550

906

300

850

500

1099

500

0

500

1000

1500

2000

2500

3000

3500

4000

FY10 FY11 FY12 E

Impairment

APS costs

PPI costs

Sovereign Debt

Impairment

Trendline

RBS impairment/ APS/ PPI/ Sov debt charges

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The UK holding is locked in and dormant, why does thegovernment pretend otherwise?Recent commentary relating to ongoing negotiations with UKFI over the sale of asignificant interest (possibly 25%) in RBS to Abu Dhabi we view with some scepticismon a number of grounds:-

a) A 15bn RBS share sale at 32p (mooted December 2011) would still triggerlosses for the taxpayer of 2.7bn.

b) In terms of timing the UK government is not under any pressure, mid-term toliquidate/ reduce its RBS holding, it has every incentive to hold for FY2013which would suggest the earliest possible sale would be March 2014.

c) RBS proximity to dividends in our view RBS could resume an annualdividend in FY2013. A 1p-2p dividend would enhance RBS shares appeal tothe taxpayer.

d) Given the EU crisis the UK governments 50.2p cost per share is unlikely to berecouped in the short-term anyway, the strategy should be for the UKgovernment to state a holding period of say 2-3 years this would stop theshort-term speculation of a stock overhang that arguably has damaged theshare price.

Overall there is little to be gained in our view from the periodic speculation over RBSthat emanates from government sources. The government should clarify an investmenthorizon.

ConclusionWe remain encouraged that impairment losses should remain on trend resulting in abetter H2 12 and FY13 income statement. Notwithstanding increased UK regulatorypressure the RBS business should benefit from GBM division withdrawal fromunderweight areas and other cost reduction initiatives.

RBS provided 733m against Greek debt in H1 211 with a further 224m in Q4 2011as these debt instruments were considered impaired. RBS has said Ireland, Italy,Portugal and Spain is facing less acute difficulties and has not considered theseimpaired. In terms of exposure RBS held 16.3bn of BBB - to A-, 6.16bn of non-

investment grade (RBS did not provide categories of junk) and 2.54bn of unrated(some of which is CCC-D).

The EU debt crisis has cast a significant short-term cloud over UK banking stocks andvaluations returning discounts to TNAV to record highs. Whilst the contagion effect isreal, should Greece exit the Euro, we expect an actual withdrawal will be avoided. Inour view the discount to net assets is too high and we would expect RBS shares torebound to 35p in the next 12-18 months.

Source; Yahoo! Finance; 5 year chart

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Collins Sarri Statham Investments Ltd Rating System as at 28th September 2009:ANALYST RATING DEFINITIONS:

BUY: A buy rating is applied to companies with established businesses that are profitable and where there is further profit growthexpected. A buy recommendation means the analyst expects the share to appreciate by 20% or otherwise to reach the share price targeton the note.HOLD: The companys valuation appears to reflect investor expectations in the short-term. Alternatively the company is awaiting keydevelopments that will impact on the share price. Investors are advised to await the resolution of these key developments.SELL: The companys valuation appears too high having regard to material uncertainties, declining profit prospects or has sizeable fundingrequirements. A sell recommendation may also be applied where the board have failed in key objectives or appear to be frequently changing

strategy. A sell recommendation means the analysts expects the shares to fall by up to 20% or to fall to the price target on the note orotherwise to underperform the FTSE All Share Index.LONG :- The stock/ security is expected to appreciate to the targets within the short termSHORT : The stock/security is expected to decline to expected targets within the short termNEUTRAL (NR) Collins, Sarri Statham does not maintain a view in either direction

Key to Material Interests:Below are the six standard disclosures of Material Interests. Of these disclosures, the following are relevant to this research report:

RBS Relevant disclosures: 6

1. The analyst has a personal holding of the securities issued by the company or of derivatives linked to the price of the companyssecurities.

2. Collins Sarri Statham Investments Ltd or an affiliate owns more than 5% of the issued share capital of the company.3. Collins Sarri Statham Investments Ltd or an affiliate is party to an agreement with the company relating to the provision of broking

services, or has been party to such an agreement within the last 12 months. Our broking services agreements include a provisionthat we prepare and publish research at such times as we consider appropriate.

4. Collins Sarri Statham Investments Ltd or an affiliate has been a lead manager or co-lead manager of a publicly disclosed offer ofsecurities for the company within the last 12 months.

5. Collins Sarri Statham Investments Ltd is a market maker or liquidity provider in the securities issued by the company.6. Collins Sarri Statham Investments Ltd has clients who hold either shares or CFD positions in this security

Analyst Certification:The author certifies that this research report accurately states his/her personal views about the subject securities, which are reflected inthe ratings as well as the substance of the report.

Research Disclaimer:This document has been issued by Collins Sarri Statham Investments Ltd for information purposes only and should not be construed in any

circumstances as an offer to sell, or solicitation of any offer to buy any security or other financial instrument, nor shall it, on the fact of itsdistribution, form the basis of, or be relied upon in connection with any contract relating to such action. This document has no regard foryour specific investment objectives, financial situation or needs. The information contained herein is based on materials and sources that webelieve to be reliable however Collins Sarri Statham Investments Ltd makes no representation or warranty, either express or implied, inrelation to the accuracy, completeness or reliability of the information contained herein. Opinions expressed are our current opinions as ofthe date of this document. Any opinions expressed are subject to change without notice. Collins Sarri Statham Investments Ltd is under noobligation to update the information contained herein. Neither Collins Sarri Statham Investments Ltd, nor its affiliates, nor its employeesshall have any liability whatsoever for any indirect or consequential loss or damage arising from the use of this document.This document has been prepared and issued by Collins Sarri Statham Investments Ltd on the basis of publicly available information,internally developed data and other public sources believed to be reliable. All reasonable care is taken to ensure that the facts are accurateand the opinions given are fair and reasonable.

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