Allister Heath

ref="http://www.cityam.com/company/lloyds-banking-group">LLOYDS Banking Group, which yesterday successfully completed a record-breaking £13.5bn rights issue, is preparing to pay out its bonus pool in full. The move, which follows mounting anger in the City over the government’s super-tax, will see the firm having to hand over an estimated £100m in payments to the Treasury as part of the 50 per cent levy.

The payment of the bonuses, the bulk of which will be for amounts between £20,000 and £40,000, will surprise government ministers who expected most banks to rethink compensation policies in the light of the imposition of the bank bonus supertax in last week’s pre-Budget Report.

Lloyds’ bonus pool is expected to reach between a quarter and a third of that of Royal Bank of Scotland (RBS). Only a very small number of its staff are in line for very large, £1m-plus payouts.

But City A.M. has learnt that Lloyds, which is still 43 per cent owned by the government, is determined to bite the bullet and pay bonuses it feels its staff deserve even if that means taking a substantial hit.

Just as remarkably, most other banks in the City are now preparing to follow suit, according to sources that have been involved in discussions between the different institutions. This is especially likely to be the case at many US firms, which feel they cannot allow massive pay differences to arise between London and New York.

One of the main exceptions is likely to be RBS, which could reduce the amount it pays out as a result of the tax, partly because the government’s stake in the firm is much higher than it is in Lloyds.

The government, which expected to raise around £550m in total from the tax, is now likely to make far more than that, sources said yesterday. PricewaterhouseCoopers has already raised its estimate for the tax take to £2.5bn.

But the news that it is set to cash in will be bittersweet to the Treasury, which has repeatedly said it wants financial institutions to pay staff less and retain more capital.

Lloyds’ decision will be interpreted in the City as the latest sign that the bank is returning to rude health, having been brought low by its disastrous acquisition of HBOS.

Chief executive Eric Daniels, whose reputation in the City was at a low ebb last year, is increasingly being seen as one of the surprise winners from the credit crunch.

Many of those close to Lloyds now expect UKFI, the institution which holds the Lloyds shares on behalf of the government, to offload a significant portion of its shareholding in the first few months of 2010. The exact timing will depend on market conditions.

They argue that the government will be keen to show it has made a return on its investment before the election and consider a profitable exit price to be anything over 64p a share, compared to yesterday’s closing price of 55p. Some banking analysts have a target price of 100p for the Lloyds share price, which, if correct, could see the government selling shares at a healthy profit.

Lloyds’ estimates of the level at which a reprivatisation would be profitable is drastically different to what was being discussed just a few months ago.

In June this year, UKFI calculated that its break-even exit price was 122.6p per Lloyds share. But following implementation of Project Seaview – the nickname given by Lloyds insiders to yesterday’s fundraising and exit from the asset protection scheme – and UKFI’s take up of its rights, the government’s break-even exit price will be reduced to 73.5p, Lloyds believes. This falls to 64p once all other payments are included.

The bank calculates the government has so far spent £20.3bn on it. From that it subtracts the £144m fees paid to the government for the underwriting of the rights issue, as well as the £2.5bn break fee from the asset protection scheme, leaving a net outlay by the Treasury of £17.6bn. This sum would be recouped if the government sells all of its shares at just 64p.

Banking sources believe that the government may use an unusual method to reprivatise all or part of Lloyds – largely because the market would be unable to cope with huge numbers of shares put on sale all at once.

One option would be to access the convertible market through an equity-linked security with a debt component (either government debt or Lloyds debt) and a call option or warrant over UKFI’s ordinary shares.

Alistair Darling was said last night to be adamant that he will not soften the 50 per cent tax on bonuses, even as a growing number of banks and brokers threaten to move offshore.