/ 21 January 2008

UK backs Northern Rock bonds, seeks rescue bids

Britain set a two-week deadline for a private-sector rescue of Northern Rock on Monday, as it confirmed plans to convert its billions of pounds of loans to the stricken bank into bonds in a bid to smooth a deal.

The financing package will tie the government to Northern Rock, Britain’s biggest casualty of the global credit crunch, for years to come.

But it also increases the prospect of a private-sector takeover, which would avoid a politically damaging nationalisation for Prime Minister Gordon Brown, who has seen his popularity slump in opinion polls in recent weeks.

Details of the plan sent Northern Rock’s battered shares soaring. By 8.20am GMT they were up 44% at 93 pence, valuing the bank at £390-million ($765,7-million).

The financing package will be available to the three front-runners for a private-sector deal — Richard Branson’s Virgin Group, a rival consortium led by investment firm Olivant, and an in-house solution under new Northern Rock management — and any other potential suitors.

The finance ministry said in a statement it wants suitors to submit detailed proposals by February 4.

The bank will be temporarily nationalised if none of the offers is acceptable, it said, but it warned shareholders they would be likely to get little or nothing under such a move.

The government said it would require ”an appropriate share in potential upside equity returns” under a takeover after criticism that taxpayers would be guaranteeing billions of pounds while a successful bidder reaps most of the reward.

As a result it is likely to be offered an equity stake, possibly by the bidder offering it warrants. Under Olivant’s proposal it would offer the government warrants over 5% of the enlarged company for it to benefit from any revival.

Billions borrowed

Under the proposed structure, Northern Rock would sell a pool of its assets to a financing vehicle, which would fund the purchase through bonds sold on to private investors and backed by government guarantees. The deal will need to comply with European Union rules on state aid for private companies.

Northern Rock is estimated to owe the Bank of England £24-billion ($47-billion) since seeking emergency funds in mid-September after being unable to raise cash in financial markets. News of the emergency loans prompted the first run on the deposits of a major British bank for over 140 years and kick-started the auction for the lender.

”This is a perfectly good solution to the Northern Rock problem, but may have significant further ramifications for other lending institutions,” said Simon Maughan, analyst at MF Global, referring to other lenders who may want to issue bonds but are not backed by a government guarantee.

He said the financing was good news for shareholders as rescue proposals such as Virgin’s can be sweetened, based on the prospect of cheaper borrowing costs for Northern Rock and higher profitability. – Reuters