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Making sense out of the Dunfermline debacle

The protracted termination of the Dunfermline and its ‘rescue’ by Nationwide raises some interesting questions, uncertainty about a building society’s future used to be kept under wraps until a suitable takeover partner had been found and the merger was a done deal.

This has not been the case with Dunfermline where media stories about a £26m loss have been linked with a government bailout and in some cases it’s even been portrayed as the building society sector’s very own Royal Bank of Scotland.

Obviously the deal has been executed under the new arrangements contained in the Banking Act 2009 but it would seem that everybody was playing politics.

Even the Prime Minister jumped on that bandwagon on Monday accusing the society as being “an author of its own mistakes”, though it sounded more like a mei culpa moment when he went on to refer to mistaken judgements, mistaken investments and mistaken policies.

Then to add to this toxic mix on Sunday the society’s chairman Jim Faulds went on television (Politics Show, Scotland) suggesting that the government’s treatment of the Dunfermline owed something to the fact that it knew “the building society sector has more worries to come”.

His view is that with the help of a £30m government loan the society could have traded its way out of its current troubles. He also seems irked that other building societies which have reported losses this year have been allowed to continue in business.

The most notable of these is the much larger Chelsea which just weeks ago reported a loss of £29.2m, mainly as a result of having £55m invested in two failed Icelandic banks. It has set aside £44.3m for the potential non-recovery of the money.

The Chelsea has also set aside a provision of £10.2 m for its contribution to the Financial Services Compensation Scheme and written off the goodwill of £15.4m associated with its acquisition of BCS Loans and Mortgages. As the society stated at the time: “To put this in context, the loss for the year is less than the profit after tax of £45.4m added to reserves in 2007”.

The Chelsea group’s underlying profit before tax amounted to £41.1m (2007 £68.8m) and with capital in excess of £700m it has adequate capital to sustain the business.

In other words the two societies’ losses may be broadly similar in terms of size but their problems are substantially different and during the much quoted £26m loss sustained by the Dunfermline appears to be just the tip of the iceberg.

This would explain why the government had to take on its balance sheet the dodgy commercial loans of the failed society (approximately £650m), along with an estimated £150m of sub-prime mortgages it acquired from GMAC-RFC and Lehman Brothers.

Nationwide will obviously benefit from the acquisition of the Dunfermline’s mainstream mortgage book and retail savings but as the facts are beginning to emerge it seems certain that it would have done its members a huge disservice if it had jumped in early with a more comprehensive rescue package.

That might have initially saved ‘face’ for both the Dunfermline and the sector as a whole but as we saw with the rushed deal to save HBOS, expediency can come at a massive price. Now at least Nationwide has £1.6bn in the bank as compensation for liabilities not covered by Dunfermline’s assets. Even better, the dodgy loans and its £500m social housing book are now the government’s problem.

However the scale of Dunfermline’s problems serves as a reminder that building societies may not be driven by profits but when it comes to making errors of judgement the form of ownership is irrelevant.

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