FINAL NOTICE

To:

Bank of Scotland plc

Address:
The Mound, Edinburgh, EH1 1YZ


1.
ACTION

1.1.
For the reasons given in this Final Notice, the Authority hereby imposes on Bank
of Scotland plc (“BOS”) a financial penalty of £45,500,000 pursuant to section
206 of the Act for contravening regulatory requirements between 3 May 2007 and
16 January 2009 (“the Relevant Period”).

1.2.
BOS agreed to resolve this matter and qualified for a 30% (stage 1) discount under
the Authority’s executive settlement procedures. Were it not for this discount, the
Authority would have imposed a financial penalty of £65,000,000 on BOS.

2.
SUMMARY OF REASONS

2.1.
During the Relevant Period BOS failed to be open and cooperative with the
Authority and failed to disclose information appropriately (in breach of Principle 11)
in relation to BOS’s suspicions that fraud may have taken place within its London
and South East Regional Impaired Assets office headquartered in Reading (“IAR”).
On 4 June 2010, the Authority appointed investigators to start looking at BOS’s
misconduct but, at the request of Thames Valley Police (“TVP”), the investigation
was placed on hold on 21 August 2013 until after the criminal prosecution of
relevant individuals had been completed. The Authority’s investigation was
therefore only restarted in February 2017.

2.2.
A serious control breakdown was discovered in early 2007 by BOS in IAR. The
Director of IAR in the region, Lynden Scourfield, had been sanctioning limits and
additional lending facilities beyond the scope of his authority undetected for at least
three years. The additional facilities had been provided to businesses that were in
financial distress, and involved the use of turnaround consultants, Quayside
Corporate Services Limited (“QCS”).

2.3.
By 3 May 2007, BOS had identified suspicious conduct, including suspicions of
fraud. On a number of occasions during the Relevant Period, internal reports within
BOS referred to the issues that had been identified as the `Reading fraud’.
However, it was not until July 2009, and after BOS became part of the merged
Lloyds Banking Group (“LBG”) on 16 January 2009, that BOS provided the Authority
with full disclosure in relation to its suspicions and the report of the investigation
that it had conducted.

2.4.
It was later established, after investigation by TVP, that a fraud had occurred. In
2017, six individuals, including Mr Scourfield and another BOS employee, Mark
Dobson, were convicted for the fraud involving QCS. Whilst during the Relevant
Period BOS did not have access to all the evidence of fraud that subsequently
resulted in the convictions, BOS had identified sufficient information that raised
suspicions.

2.5.
Pursuant to Principle 11 it is a fundamental obligation that a regulated firm must
deal with its regulators in an open and cooperative way and disclose appropriately
anything relating to the firm of which those regulators would reasonably expect
notice. In addition, a specific rule (SUP 15.3.17R) requires a firm to notify the
Authority immediately if the firm becomes aware that an employee may have
committed a significant fraud against it. Further, near the start of the Relevant
Period the Authority explicitly told BOS it expected to be updated about the control
failings and any fraud that may have occurred, so BOS should also have considered
any such potential fraud committed against IAR customers.

2.6.
Whilst BOS did provide some limited information about the suspicious conduct it
had identified to the Authority during the Relevant Period, it failed to be open and
cooperative and did not disclose appropriately information when providing these
communications. For example:

(1)
on 12 May 2007, after issues in IAR came to the attention of the press, BOS
emailed the Authority describing the matter as a failure in controls. The
email was followed shortly afterwards with a briefing from BOS by
telephone;

(2)
on 14 May 2007, the Authority specifically told BOS that it wished to be
updated about the control failings and any fraud that may have occurred.
BOS confirmed that it would ensure that the Authority was advised of
developments, particularly around control failings and should any
suggestion of fraud be identified. On three occasions in 2007 BOS informed
the Authority that it had found no evidence of fraud. In fact, BOS had
identified suspicious conduct suggesting an inappropriate and potentially
corrupt relationship. As a result of these communications the Authority
believed that BOS had been emphatic that there was no evidence that Mr
Scourfield was acting fraudulently or corruptly and asked for some more
details on BOS’s reasons for this belief and the steps taken by BOS to
investigate; and

(3)
in response to this request, on 24 October 2007 BOS provided a brief
summary of its investigation including that suspicious emails and an exit fee
had been identified which appeared to be owed to BOS being re-directed to
an account controlled by a director of QCS. However, BOS failed to provide
all relevant details and did not disclose the report of its investigation into
the issues. It was not until July 2009, after another request from the
Authority, that full details were provided to the Authority.

2.7.
The Authority considers the failings to be serious. Whilst BOS did not intend to
breach Principle 11, it failed to give proper consideration to the need to disclose
the suspicious information that it had identified to the Authority.

2.8.
The failures of BOS were not due to the actions of any one individual or group of
individuals. Instead, there was insufficient challenge, scrutiny or inquiry across the
organisation which meant that an assessment of the information as a whole, which
ought to have revealed its importance, was never performed. Moreover, there was
no assessment or understanding of the impact that failing to give a full and
complete picture to the Authority was likely to have.

2.9.
The Authority considers the Firm’s failings to be serious because:

(1)
the suspicions related to potentially serious misconduct. Following
investigation by TVP, staff at BOS and QCS were convicted of serious
criminal offences;

(2)
BOS was aware before its first communication with the Authority in May
2007 that the impact of Mr Scourfield’s misconduct was significant and would
result in substantial losses to BOS. By June 2007, BOS had estimated the
losses were approximately £50 million. It was later assessed that the total
losses to BOS were £245 million;

(3)
following the criminal convictions, LBG has estimated it will pay £115 million
in compensation to customers who have been identified as being affected
by the criminal behaviour. This compensation programme is currently
subject to an independent quality assurance review (see further below);

(4)
when issues arise, the Authority expects firms to conduct thorough
investigations to understand what has transpired, and to make full inquiry
into matters that raise suspicions of possible misconduct, particularly where
there are suspicions of fraud. BOS did not disclose to the Authority that the
investigation had been closed on 13 August 2007 despite there being a
number of unanswered questions and despite the investigation team
recommending that further investigative work should be conducted. It was
agreed by BOS and the Authority in July 2009 that BOS’s investigation report
was ‘woefully inadequate’;

(5)
the Authority specifically told BOS on 14 May 2007 that it wished to be
updated about any fraud that may have occurred and BOS confirmed that it
would ensure that the Authority was informed should any suggestion of
fraud be identified. BOS had numerous opportunities to inform the Authority
about all the information it had identified suggesting that there may have
been a fraud, but did not do so. Whilst BOS provided a brief summary in
October 2007, following a request by the Authority, the information was only
finally disclosed in full at the request of Authority, after a period of around
two years, in July 2009;

(6)
full disclosure of the issues within IAR would have enabled the Authority at
an earlier opportunity to properly assess BOS’s response to the identification
of the issues, changes to its procedures, its approach to the complaints
received from customers and consideration of any losses either to BOS or
its customers; and

(7)
BOS did not report its suspicions to any other law enforcement agency such
as the police, despite BOS being contacted by two police forces in 2008
about allegations of fraud. Instead it was the Authority that submitted a

Suspicious Activity Report (“SAR”) in relation to relevant issues in June
2009. If BOS had communicated its suspicions appropriately to the
Authority, as it should have done, the criminal misconduct could have been
identified much earlier. This delay risked creating difficulties for TVP when
obtaining and reviewing evidence years after the fraud had taken place and
risked prejudicing the interests of justice.

2.10. BOS received complaints from several IAR customers before, during and after the

Relevant Period alleging concerns about the conduct of Mr Scourfield and QCS.
When responding to complaints during the Relevant Period BOS did not consider
that its own investigation had identified information which raised similar concerns,
including suspicions of fraud, as the allegations raised by customers. As the
corporate lending at the heart of the complaints is unregulated the Authority does
not have jurisdiction to investigate and determine whether those complaints were
assessed appropriately and has therefore made no findings in that regard.

2.11. Following the convictions of Mr Scourfield and others, LBG implemented a review

of customers who may have been affected by the fraud. The review was conducted
voluntarily by LBG, and is outside the Authority’s remit as the corporate lending
involved was unregulated.

2.12. LBG announced on 7 February 2017 that customer cases that are within the scope

of the review include:

(1)
those cases referred by the convicted former BOS employees to QCS;

(2)
customer cases that involved or were managed by QCS; and

(3)
all previous and any new customer complaints regarding the convicted
former BOS employees and/or QCS as they relate to IAR.

2.13. LBG appointed an independent reviewer, Professor Russel Griggs, to review the

information provided, with the assistance of legal and accountancy/insolvency
advisers, and determine the appropriate amount of redress for customers (“the
Griggs Review”). In addition to reviewing the records held by LBG, customers were
asked to provide information about their personal experiences.

2.14. The number of businesses participating in the Griggs Review as at May 2019 was

71 which includes 191 directors of those businesses. All of those in the review have
had an outcome communicated to them. The compensation offered ranges from
£100,000 to in excess of £5 million. As at May 2019, the total compensation offered
to customers is £93 million of which £71 million has been calculated as relating to
distress and inconvenience. As at May 2019 98% of customers participating in the
review have accepted the offers made. LBG has estimated that the total
compensation amount to all customers (including those outside the review) could
be up to £115 million.

2.15. It was announced on 18 December 2018 that LBG has commissioned an

independent review to provide assurance that the Griggs Review methodology is
delivering fair and reasonable outcomes for customers. The Assurance Review will
be led by Sir Ross Cranston and LBG has committed to publish in full the findings
of that review once it is completed.

2.16. A public censure was issued by the Authority against BOS on 9 March 2012 in

relation to failings within the Corporate Division between January 2006 and March
2008. Those failings were in part illustrated by the control failings within IAR and
are not the subject of this Notice.

2.17. The Authority hereby imposes on BOS a financial penalty of £45,500,000 pursuant

to section 206 of the Act.

3.
DEFINITIONS

3.1.
The definitions below are used in this Notice:

“the Act” means the Financial Services and Markets Act 2000

“the Authority” means the body corporate previously known as the Financial
Services Authority and renamed on 1 April 2013 as the Financial Conduct Authority

“BOS” means Bank of Scotland plc. BOS was owned by HBOS and was the entity
within the HBOS Group that was regulated by the Authority during the Relevant
Period.

“CFCP Team” means the Corporate Financial Crime Prevention team within BOS.
CFCP was the specialist team within the Corporate Division that was involved in
undertaking investigations into suspected financial crimes.

the “Corporate Division” means the Corporate Banking Division of BOS

“GFCP” means HBOS Group Risk Financial Crime Prevention

“HBOS” means the Halifax Bank of Scotland plc

“HBOS Group” means the group of companies owned by Halifax Bank of Scotland
plc, which included BOS

“IAR” means the impaired assets office for London and South of England region
that was headquartered in Reading and had another office in Bishopsgate.

“LBG” means Lloyds Banking Group, a group of companies formed after Lloyds TSB
Group plc acquired the HBOS Group after its failure in October 2008

“SAR” means Suspicious Activity Report

“SOCA” means Serious Organised Crime Agency

“Lloyds TSB” means Lloyds TSB Group plc

Senior Manager A, Senior Manager B, Senior Manager C, Senior Manager D, Senior
Manager E, Senior Manager F, Senior Manager G, Senior Manager H and Senior
Manager I are individuals who, using the term in the ordinary sense, were involved
at different levels of management and oversight within BOS.

CFCP Team Member X held a position within the CFCP Team

“QCS” means Quayside Corporate Services Limited

“the Tribunal” means the Upper Tribunal (Tax and Chancery Chamber)

“TVP” means Thames Valley Police

4.
FACTS AND MATTERS

4.1.
Following the merger of the Halifax Group plc and Bank of Scotland in 2001, BOS
became part of the merged group known as HBOS Group. BOS has been authorised
by the Authority since 1 December 2001 to perform a number of regulated
activities. Following the failure of the HBOS Group in October 2008 it was formally
acquired by Lloyds TSB on 16 January 2009 and BOS became part of the merged
LBG.

4.2.
The Authority’s investigation has focused on BOS’s conduct before it became part
of LBG. After the merger there were significant changes to the operation and
management of BOS including a change in the key staff communicating with the
Authority.

The Authority’s supervision of BOS

4.3.
During the Relevant Period, BOS was the subject of a ‘close and continuous’
supervisory relationship. This meant that BOS had been identified by the Authority
as a high impact firm due to the risks it posed to the Authority’s statutory
objectives, therefore requiring close and continuous monitoring. Pursuant to
Principle 11, like all regulated firms, BOS was required to be open and cooperative
with the Authority and to disclose appropriately anything relating to BOS of which
the Authority would reasonably expect notice. That duty included disclosing matters
relating to the activity of IAR, notwithstanding that the corporate lending involved
was not a regulated activity. The `close and continuous’ supervisory relationship
meant that BOS had specific individual contacts at the Authority and frequent
opportunities to disclose relevant matters.

4.4.
Throughout the Relevant Period there were regular communications and meetings
between BOS and the Authority to monitor the risks faced by the Corporate Division
including the risks posed by the commercial lending managed within IAR. At the
time, the Authority also had a formal process, known as ARROW (Advanced Risk
Responsive Operating Framework), which would periodically assess the risks posed
by firms such as BOS and require them to take specified actions to mitigate the
risks identified. During the Relevant Period, the risk mitigation programme for BOS
included actions relating to the Corporate Division even where the underlying
activity was not regulated by the Authority.

4.5.
Further, during the Relevant Period the Authority had a statutory objective to
reduce the extent to which regulated firms could be used for a purpose connected
to financial crime (this is now effectively subsumed into the Authority’s integrity
objective). In addition to Principle 11, the Authority had, and continues to have, a
specific rule (SUP 15.3.7(2)R) requiring firms to notify the Authority immediately,
in respect of both regulated and unregulated activities, on becoming aware that a
fraud may have been committed on the firm and the fraud was significant. Further
details of these provisions and related guidance are contained in Annex A to this
Notice.

BOS’s approach to stressed corporate lending

4.6.
It was the responsibility of the relevant business area managing a transaction to
identify any transactions, including corporate lending transactions, as stressed and
to refer that transaction to, what was known prior to 2006 as, the High Risk teams.
The High Risk teams would then carry out a detailed assessment of the
transaction’s credit risk, re-rating the transaction as required. Following that

7


assessment, the transaction would either be returned to the good book, classified
as High Risk, classified as Impaired No Loss or classified as Impaired with Loss.

4.7.
The High Risk teams that managed impaired assets specialised in providing
strategic advice and assistance to corporate lending customers that were in
financial difficulty. The aim of the management of these corporate customers was
to either:

(1)
complete some form of insolvency process; or

(2)
restructure the customer’s lending and/or how the corporate customer
operated to assist with a return to financial stability.

4.8.
In mid-2006 the High Risk teams were restructured. The London and South of
England High Risk Team, which for the purposes of this Notice is referred to as IAR,
was moved into the `Impaired Assets’ reporting structure which encompassed a
number of regional Impaired Assets offices.

4.9.
IAR was headquartered in Reading. Additionally, there were staff based within the
BOS Bishopsgate office in London that reported into the senior management of IAR
who were based in Reading.

4.10. As at 1 March 2007, IAR was responsible for a portfolio of approximately 235

corporate customers with lending to a value of approximately £750 million. Where
appropriate, BOS was required to make a provision in its financial statements for
anticipated losses on the stressed transactions managed by the regional Impaired
Assets offices, including IAR.

4.11. Commercial lending was, and still is, largely unregulated in the UK. As such the

activity of IAR during the Relevant Period was not subject to specific rules imposed
by the Authority. For example, conduct of business rules and complaints handling
rules did not apply. However, as noted above, BOS was required to be open and
cooperative with the Authority and disclose appropriately any matters relating to
IAR of which the Authority would reasonably expect notice and specifically where a
fraud may have been committed.

The fraud

4.12. In February 2017 six individuals were convicted for offences related to a fraud

committed through IAR and were sentenced to a total of 47 years and 9 months.
Two of those individuals, Lynden Scourfield and Mark Dobson, were employees of
BOS working within IAR at the time that the fraud was committed. The Authority
acknowledges that the weight of evidence that ultimately resulted in the convictions
would not (and could not) have been available to BOS at the time.

4.13. Mr Scourfield was Director for London and South of England based within the

Reading office of IAR. As at 1 March 2007, Mr Scourfield was the relationship
manager of 25 business customers with a debt level of £274 million. There were at
least a further 21 businesses whose relationship was managed by Mr Scourfield at
some point between 2002 and 2007.

4.14. Mr Scourfield required many of the IAR business customers that he managed to

appoint, and pay fees for, a firm of turnaround consultants called QCS (and related
entities) as a condition of the customer receiving continued support from BOS. The
involvement of QCS varied but typically individuals from QCS were appointed as

directors of the distressed businesses. For example, one individual connected to
QCS was a director of approximately 45 companies, a substantial majority being
business customers managed by IAR. This resulted in QCS having involvement in
the decision-making over the strategy and finances of the businesses including the
sale of the business to companies set up by QCS. In many cases inappropriate or
overly optimistic turnaround plans were implemented by QCS which increased the
risk of losses to both the business customers and to BOS.

4.15. As part of its proposed turnaround of the businesses, QCS would submit proposals

for additional finance to BOS for approval by Mr Scourfield. QCS would purportedly
use the lending to fund its turnaround strategies. In some cases the lending was
granted beyond Mr Scourfield’s authority to do so and beyond the ability of the
customer to repay the lending. At the criminal trial it was shown that in return for
his part in the fraud Mr Scourfield received money as well as gifts and hospitality
from QCS including holidays and prostitutes.

4.16. TVP’s investigation and the subsequent prosecutions established that the fraud

started in around 2003. Following concerns being identified about his conduct, Mr
Scourfield resigned from BOS on 27 April 2007. He was arrested in relation to the
fraud on 29 September 2010.

4.17. Mr Scourfield pleaded guilty and was convicted of conspiracy to corrupt and

fraudulent trading on 12 August 2016. On 2 February 2017, he was sentenced to
11 years and 3 months imprisonment.

4.18. At the time of the fraud Mr Dobson was an Associate Director based in the

Bishopsgate office of IAR and he reported to Mr Scourfield.

4.19. The prosecution’s case against Mr Dobson centred on the fact that between 2005

and 2006 during his employment at BOS he:

(1)
allowed an amount of £152,750 to be paid to parties connected with QCS
without the authority of the bank, the business customer or the
administrator and in return Mr Dobson received a payment of £30,000; and

(2)
wrote off interest owed by another business customer to make a gain for
QCS.

4.20. Following the acquisition of BOS in 2009, Mr Dobson continued in employment at

LBG. He was arrested in relation to the fraud in September 2011. LBG shortly after
suspended Mr Dobson and commenced disciplinary proceedings against him in May
2012 and he was dismissed for gross misconduct in June 2012.

4.21. Mr Dobson was convicted of conspiracy to corrupt on 30 January 2017 and was

sentenced to 4.5 years imprisonment.

Compensation to customers

4.22. As explained above, as at May 2019 all of the 71 businesses, and 191 directors of

those businesses, participating in the customer redress review have had an
outcome communicated to them. The total compensation offered to those
customers is £93 million of which £71 million has been calculated as relating to
distress and inconvenience. LBG has estimated that the total compensation amount
to all customers (including those outside the review) could be up to £115 million.
The full compensation to customers will not be confirmed until redress calculated

by the Griggs Review has been subject to an independent quality assurance review
completed by Sir Ross Cranston.

Losses to BOS

4.23. It is difficult to quantify the extent of the loss to BOS which is directly attributable

to the fraud. As the business customers were already under financial stress at the
point that they entered the management of IAR it is possible that some of the
losses to BOS may have been incurred irrespective of the fraud. Equally some of
these losses may have been avoided if appropriate turnaround strategies had been
implemented.

4.24. BOS assessed its losses from Mr Scourfield’s portfolio as being due to:

(1)
increased lending to business customers that were already in financial
difficulties;

(2)
inappropriate strategies being pursued which increased the bank’s risk
exposure; and

(3)
additional costs incurred when exiting the lending arrangements.

4.25. After reviewing the lending portfolio managed by Mr Scourfield, BOS identified that

some of the lending was impaired such that losses would need to be provisioned
for in its financial statements. Before provisions were recognised in its accounts,
BOS’s procedures involved a review by HBOS Group and approval by its auditors.

4.26. The level of provisions in BOS’s financial statements grew over time such that:

(1)
in June 2007, an impairment charge for the whole of the Corporate Division
was recorded as £234 million. Within that figure there was a provision of
£76 million in relation to IAR cases. BOS considered that a more
`normalised’ charge would have been £20-25 million such that Mr
Scourfield’s misconduct accounted for approximately £50 million in losses
by this point; and

(2)
by the end of 2007, BOS provisioned around £250 million in its accounts for
27 cases within the IAR portfolio (out of a total £602 million for the whole
of the Corporate Division). Of this figure £245 million related to customers
that were under the management of Mr Scourfield.

Early allegations of misconduct were not escalated and/or investigated

4.27. The Authority has identified that at least five business customers made

allegations/complaints of misconduct against Mr Scourfield and/or individuals
connected to QCS before suspicious conduct was identified by BOS in 2007. The
Authority has not identified any evidence to suggest that these early allegations
were escalated to senior management within the Corporate Division or HBOS
Group. It is apparent from the below that many of the complaints were made
directly to Mr Scourfield.

4.28. Reference to these complaints is included in this Notice for context only and the

Authority has not made a finding in relation to BOS’s handling of these complaints.
As the complaints relate to unregulated business the Authority does not have
jurisdiction to consider how BOS handled these complaints.

Complaints from IAR customers in 2004

4.29. During 2004, concerns were raised by two IAR customers about QCS and/or Mr

(1)
in January 2004, a customer alleged misconduct following the appointment
of an individual from QCS in December 2003 as a non-executive. The
customer repeated the complaint again in August 2004 both in a personal
letter and in a letter from the customer’s solicitors. The complaints were
addressed to Mr Scourfield and there is no evidence that a response
addressing these issues was sent to the customer. No information about the
complaint was recorded on the BOS complaints system. In November 2004
the directors of the business were released from the personal guarantees
they had given in relation to the lending on the condition that they did not
bring any action against HBOS relating to the involvement of QCS or the
monies paid to them; and

(2)
on 13 April 2004, solicitors acting on behalf of BOS wrote to a non-executive
director of a business customer managed by Mr Scourfield. The letter
referred to remarks made by the non-executive that Mr Scourfield `…may
have been compromised by drugs and girls provided by… [another company
director]’. The letter asked for an explanation of the remarks together with
a retraction, apology and an undertaking not to repeat the comments. On
22 April 2004, solicitors acting for the non-executive responded stating that
the comments were fully justified. The letter raised concerns that:

(a)
the borrowings of the business from BOS had reached `ludicrously
high levels’;

(b)
following Mr Scourfield extending finance to the business that Mr
Scourfield had been rewarded by the business paying for Mr
Scourfield’s birthday party and entertaining him at a hotel; and

(c)
there were conflicts of interest between BOS and the business due to
Mr Scourfield’s friendship with an individual connected to QCS.

4.30. There is no evidence that Mr Scourfield’s conduct was investigated by BOS in 2004.

The Authority has not identified any evidence to suggest that these allegations were
escalated to senior management within the Corporate Division or HBOS Group at
that time.

Allegations from IAR customers in 2006

4.31. During 2006, concerns were raised by three IAR customers about QCS and/or Mr

(1)
Around July/August 2006 a BOS staff member, who did not work in IAR,
received an allegation from a customer about Mr Scourfield. The customer
stated to the BOS staff member that Mr Scourfield was a `crook’ and that
he was `being paid £3,000 a month by [a business customer]’. The BOS
staff member knew that Mr Scourfield had a large extension to his house
and `queried how this was funded’. The BOS staff member was also aware
there was a further allegation that an individual connected to QCS would
ensure prostitutes were present when he socialised with Mr Scourfield. The
BOS staff member was not aware of any other evidence to back up these
allegations although the individual had observed that between 2004 to 2007

Mr Scourfield had `developed a taste for the high life’. The BOS staff
member did not report these allegations to anyone at the time.

Later, during a Skilled Person review in 2010, the BOS staff member stated
that they were terrified and did not report these concerns at the time as
there was no whistleblowing policy in place and they did not have evidence
to support the allegations. The BOS staff member has stated that IAR was
informed of this allegation after 2007. The Authority has not identified any
records to confirm what information was disclosed by the BOS staff member,
who reviewed it and what action was taken. There is no evidence to suggest
these allegations were investigated until the BOS staff member was
interviewed during the Skilled Person review in 2010 (see paragraphs 4.169
to 4.173 for more information about this review).

(2)
A former shareholder in an IAR business customer contacted IAR on 14 July
2006 and 25 September 2006 raising concerns about QCS and BOS. The
shareholder alleged that BOS and QCS had `…together concocted some kind
of “pre-pack” in which I am sure only the Bank’s interests are cared for by
the receiver to the exclusion of “unwanted” creditors’.

(3)
On 30 October 2006, an IAR customer complained to Mr Scourfield about
the fees charged by QCS which had amounted to over £14,000 during the
course of ten weeks.

4.32. There is no evidence that Mr Scourfield’s conduct was investigated by BOS in 2006.

The Authority has not identified any evidence to suggest that these allegations were
escalated to senior management within the Corporate Division or HBOS Group at
that time.

Peer review of IAR identifies suspicious conduct

4.33. Due to a wider restructure the oversight of IAR was changed with effect from 1 July

2006. Towards the end of 2006, concerns were identified that the level of debt on
Mr Scourfield’s cases was increasing and the level of information reported about Mr
Scourfield’s portfolio was not as detailed as would be expected. As a result IAR
implemented a review of a sample of IAR cases. The review focused on a sample
of cases where the lending was over £1 million and had been managed either by
Mr Scourfield or other members of staff within IAR. The review was conducted by
staff from a different regional impaired assets office. This was the first time that a
peer review of this nature had been conducted within IAR.

4.34. A report summarising the findings of the peer review was produced on 22 February

2007. The peer review identified concerns that:

(1)
the files to support the lending were limited or in some cases did not exist;

(2)
lending limits had not been approved in accordance with the procedures in
place;

(3)
there was substantial credit exposure on many cases;

(4)
unusual strategies had been adopted, which exhibited increasing rather than
decreasing risk, in particular on cases managed by Mr Scourfield. That
included lending money without approval to permit companies that were
already in financial difficulty to expand or acquire other business; and

(5)
the use of QCS as turnaround consultants in many cases was noted in the
peer review and a second firm was noted as being used to a lesser extent.

4.35. The peer review report was escalated within the Corporate Division in March 2007.

Although the existence of the controls issues was disclosed to the Authority in May
2007, the peer review report was not provided to the Authority at the time and was
only provided, following a request by the Authority, on 29 October 2010.

4.36. When challenged about the credit sanctioning process applied to his cases, Mr

Scourfield provided credit papers which he stated had been submitted for sanction
in January 2006 and had been given verbal approval. On reviewing the papers, it
was identified that there were events/information referred to in the papers which
occurred after January 2006. By March 2007 this raised a concern within BOS that
Mr Scourfield had prepared the papers after the event to cover up that the
appropriate process had not been followed and that there had been verbal
allegations that he had been `on the take’ in relation to some of his cases linked
to QCS.

4.37. Mr Scourfield attended an informal meeting on 8 March 2007 within BOS to discuss

the findings. A second meeting was arranged for 13 March 2007 but Mr Scourfield
informed BOS that he was unwell and would be out of the office on sick leave.

4.38. Following Mr Scourfield’s absence from the office, an additional business customer

managed by Mr Scourfield was identified. The business had an exposure of £115
million, but its existence had never been reported by Mr Scourfield.

4.39. Mr Scourfield was suspended on 23 March 2007 pending completion of an

investigation into the issues identified by the peer review. Mr Scourfield resigned
with immediate effect on 27 April 2007.

The Firm’s May 2007 communication with the Authority

4.40. From 3 May 2007, BOS had noted in internal records that there were suspicions

and allegations about Mr Scourfield’s conduct, including that he may have been
involved in fraud and/or corruption. Despite that, BOS failed to be open with the
Authority about its suspicions and did not disclose appropriately information during
communications in May 2007, and thereafter in the Relevant Period.

4.41. Around March 2007 the Corporate Division started an investigation into the matters

identified by the peer review. The scope of the investigation included consideration
of:

(1)
the alleged failures to follow policy and procedure within IAR; and

(2)
the potential for any of the alleged failures to have resulted in personal
financial gain for any individuals within IAR.

4.42. BOS’s Corporate Financial Crime Prevention team (CFCP Team) was engaged as

part of the investigation as it had expertise in analysing email records and
investigating potentially suspicious activity. The scope of the CFCP Team’s work
was to ascertain if there was evidence to suggest criminal behaviour including to
establish if there was any evidence to indicate that Mr Scourfield had benefitted
financially from the suspicious conduct that had been identified.

4.43. During March and April 2007, the investigation identified the following:

(1)
allegations were received from within IAR on 22 March 2007 that Mr
Scourfield had received paid for holidays from QCS;

(2)
the CFCP Team reviewed transactions from Mr Scourfield’s savings account
that was held with HBOS. It was identified on 22 March 2007 that Mr
Scourfield’s bank account, into which he received his salary, was not held
with HBOS and could not be considered in detail during the investigation.
The CFCP Team contacted fraud investigators from the bank in question to
ask about the general movement of funds. The CFCP Team did not identify
unusual activity from their enquiries;

(3)
on 23 April 2007, the CFCP Team identified 'a few e-mails' between Mr
Scourfield and an individual connected to QCS which ‘suggest they were
more than just business associates’. The CFCP Team stated at this point
however there was no ‘concrete evidence… to confirm any malpractice’; and

(4)
an insolvency practitioner had raised concerns with IAR on 22 March 2007
about an exit fee that had been paid in December 2006. IAR raised these
concerns with the CFCP Team on 24 April 2007 noting that `…the transaction
does look a bit strange and worthy of investigation’. On 1 May 2007 the
CFCP Team identified that the payment was `a bit unusual’ as the cheque
had been categorised as `cash out’ and then a subsequent credit had been
made to a suspense account as `cash in’. It was identified on 9 May 2007
that the payment had been instructed by an individual connected to QCS.

4.44. By 31 March 2007 BOS had recognised that there were significant concerns with

the lending portfolio managed by Mr Scourfield and had started to apply strategies
to reduce its exposure to losses.

4.45. A BOS member of staff who had taken over responsibility for one of the business

customers managed by Mr Scourfield, on reviewing papers in March to April 2007,
noted that the business customer had provided loans to at least 36 other businesses
that were linked to other IAR customers and QCS. The BOS member of staff was
told by the business customer that Mr Scourfield had increased the lending limits
for the business customer so it could be used as a funding vehicle when other IAR
business customers could not get further funding from BOS. These concerns were
shared within IAR on 19 April 2007.

4.46. On 3 May 2007, Senior Manager A wrote a briefing note explaining the control

failures identified and that the failings would result in additional provisioning for
bad debt being necessary. Although it is not clear if the briefing note was provided
to anyone else within BOS, it is clear that BOS had started to suspect that Mr
Scourfield’s actions may have been for personal gain, consistent with the concerns
and allegations already expressed within BOS that Mr Scourfield had been ’on the
take‘ in matters linked to QCS. Senior Manager A however noted that BOS had
been unable to substantiate the allegations that had been identified.

4.47. The 3 May 2007 briefing note refers to these suspicions about the motivation for

Mr Scourfield’s misconduct, including suspicions of fraudulent activity and concerns
regarding an exit fee which appeared to be owed to BOS being re-directed to an
account controlled by a director of QCS:

’To date we have not uncovered anything that would point to Mr Scourfield’s
motivation for acting in the manner that he has. Our focus to date has been on
identifying and stabilising the problems but it is difficult to believe that there are
not underlying issues that would explain what would appear to be inexplicable. The
relationship with [QCS] appears abnormally close and there are some verbal

allegations of presents/holidays being provided to Mr Scourfield. To date we have
been unable to substantiate these. Similarly there appears to have been an exit fee
due to the Bank (c. £152,000) that has been re-directed into an account controlled
by [a director] of [QCS]. [CFCP Team] are investigating this aspect and we will
clearly involve the Police should we be able to demonstrate criminality.’

4.48. It was also stated in the 3 May 2007 briefing note that the failures had led to a

`substantial loss for [BOS]’.

4.49. In accordance with SUP 15.3.17(2)R and Principle 11, BOS should have contacted

the Authority immediately (i.e. on 3 May 2007) about its suspicions. Instead the
first time that BOS contacted the Authority about the issues within IAR was on 12
May 2007. The notification from BOS was prompted by an expected article in the
press the following day about Mr Scourfield. Senior Manager B informed the
Authority by email that:

`The article may indicate that he breached processes and acted outwith his
authority and that he has lost the bank substantial amounts of money. The facts
are his work was under scrutiny and he went of [sic] ill and as of last week he
resigned. The sums lost will be nowhere like what [the article] may suggest or
anything like it. I did not want you to read this cold. In the normal course [Senior
Manager A] will be in touch with the detail.’

4.50. The Authority has not identified a record, made by either BOS or the Authority, of

any further detail provided by Senior Manager A to the Authority (notwithstanding
the statement in the email above that detail would be provided and the reference
in the email on 14 May 2007 set out below to a belief that the Authority had been
updated).

4.51. On 13 May 2007, the Sunday Telegraph released an article entitled ‘HBOS suspends

“rogue banker”’. The article alleged that the rogue banker had ‘over-lent and kept
advancing money to clients without authorisation’.

4.52. Following BOS’s notification to the Authority, on 14 May 2007, the Authority noted

internally that `HBOS informed us on 12th May. We are waiting to get further
information. At the moment no fraud has been identified’. Shortly afterwards, the
Authority emailed Senior Manager A and stated:

`I believe you have updated [individual from the Authority] about an employee
from the high risk team. At this stage we will be taking no further action. Please
can you keep me updated of any further developments, including any
papers/communications reported to EXCO/board. We are particularly interested in
the control failings and any fraud that may have occurred.’

4.53. Senior Manager A responded the same day confirming that he had spoken to

another individual at the Authority (see further details in paragraph 4.64(1)) stating
that `I shall ensure that you are advised of developments, particularly around
control failings and should any suggestion of fraud arise/be identified’.

4.54. Separately, following an update within BOS on 14 May 2007 about theft/fraud

issues by staff members within a number of HBOS branches in its retail business
that may appear in the press, Senior Manager C emailed Senior Manager I stating:

(1)
`Not a good few days but there we go…I assume you…are dotting i’s and
crossing t’s to ensure the FSA have been told what is relevant. Given the
weekend communication to the FSA on the Corporate Banking issue…its
especially vital that this is covered off in a calm way’; and

(2)
`…not a good couple of days from a Risk perspective (following hot on the
heals [sic] of the Corporate Banking investigation into the “rogue trader” in
Reading) …whilst the Retail issues may all be relatively small in isolation,
they come on the back of a “poor run”… hence my determination that
communication of the issues to the FSA are kept structured and clear.’

4.55. Mr Dobson was interviewed about the cases that he managed, as part of BOS’s

investigation, on 17 May 2007. Mr Dobson was not asked any questions about the
suspicious exit fee that had been identified.

4.56. The Executive Committee of HBOS was told by BOS on 21 May 2007 that `An

additional provision would…be required during the course of the year, (and
probably, in part, by the half year) as a result of a weakness in control measures
that had come to light following a recent change in structures. Further details were
still coming to light as to the size of the potentially required provision, and a full
review was taking place across the whole high risk book, looking at the control
environment generally in that part of Corporate’s business’.

4.57. On 15 May 2007, Senior Manager A prepared a Credit Risk Paper which stated that

work was ongoing to understand why controls did not trigger an earlier
investigation for something that appeared to have been ongoing for two years. The
paper was presented to the BOS Corporate Risk Control Committee on 22 May
2007. The draft minutes of that committee were later discussed at the HBOS Audit
Committee on 6 June 2007. Following this meeting in July 2007 an agenda for the
HBOS October Audit Committee meeting was drafted which included a discussion
item ‘Reading Fraud – update’

4.58. On 18 May 2007, the CFCP Team updated Senior Manager D on the progress of the

email review that:

`There are numerous e-mails from customers requesting either an increase to
existing facilities or payment of wages/etc when over existing limit, with varying
responses (if he indeed replies). There would also appear to be personal e-mail
correspondence between Lynden Scourfield & [an individual connected to QCS].
For example, communications from [the individual] to Lynden saying phrases like
"I'll always stick by you" and "Marry me", although can't see the context in which
these statements were made. I've made copies of relevant e-mails and will get
them up to you, but no smoking guns uncovered.’

4.59. On 21 May 2007, Senior Manager D produced an internal report detailing the

investigation that had been completed to date which was distributed within the
Corporate Division, including Senior Manager A, and HR. The report notes that in
addition to the analysis of the peer review a number of other issues had
subsequently been raised, including the additional case managed by Mr Scourfield
that had been identified. In that report it is noted that due to the `unusual and
unreported case management’ by Mr Scourfield, the CFCP Team had been asked to
review whether Mr Scourfield `benefitted financially in a fraudulent manner’ and
that `No evidence has yet been uncovered’.

4.60. Senior Manager D also recommended that:

(1)
two individuals, including Mark Dobson, should be subject to a disciplinary
process as they had admitted to breaches of policy. Following subsequent
discussions with HR it was agreed on 18 December 2007 that no further
formal action would be taken against either of the individuals; and

(2)
an investigatory meeting should be held with a third individual to determine
whether disciplinary action was appropriate. A meeting was held with the
individual in June 2007 and steps were taken to initiate disciplinary action.
However, the individual left the bank in September 2007 with no disciplinary
action having been taken.

4.61. On 22 May 2007, the Corporate Risk Control Committee discussed a separate

potential internal fraud, it was confirmed that investigations were in the early stage
and that BOS had informed both law enforcement and the Authority at the time. A
paper on internal fraud controls was presented to the Committee on the same day
by Senior Manager E which summarised in relation to IAR that `Ongoing
investigation and initial findings highlight that whilst controls not adhered to, no
personal gain has been proven’.

4.62. An update was provided to the HBOS Board on 22 May 2007 about `…a weakness

in controls in the high risk area within Corporate, details of which were discussed.
An additional provision would be required in the full year, the full scale of which
was still being verified…would lead a thorough review of controls in this area. It
was essential to demonstrate clear commitment in dealing with this issue,
consistent with the FSA’s view that the Group was clearly the “best” major bank
with respect to transparency and openness’.

4.63. On 24 May 2007, an individual, with connections to QCS, wrote to Senior Manager

B that `There are wider issues than Lynden & [individual connected to QCS] (at
the end of the day [individual connected to QCS] while maybe oprating [sic] on the
wrong side of grey got involved in messy cases having been introduced by BOS).
Indications are more people involved inside and outside of the Bank…Don’t think
what I will tell you in due course will be good from a BOS perspective’.

4.64. On 24 May 2007, Senior Manager C met with the Authority to discuss controls

within the Corporate Division. The briefing notes prepared by BOS for the meeting
refer to issues with controls within IAR and stated that `there is no evidence (at
this stage) that [Mr Scourfield] was engaged in fraudulent activity for personal gain,
rather it was malpractice/non-compliance with due process, but this will be checked
as part of our review’. Following that meeting Senior Manager C emailed members
of HBOS Group and BOS Corporate Division with a summary of the meeting which
included:

(1)
`I spent ten minutes taking [the Authority] through the detail of the Reading
incident within Corporate. He had already had a good briefing from [Senior
Manager A] and I don’t think anything I told him was a surpise [sic] …I
stressed that [BOS] was now conducting an entirely independent review of
Corporate processes with support from Internal Audit. He welcomed my
candour but said he would like to be kept up to date with the work as it
progresses. Clearly of most importance to the FSA is for us to come up with
a clear structured explanation as to why it took three/four years for us to
discover Scourfield’s activities. Lastly, they’re clearly surprised that his
activities were never caught by any of our “10% random sampling pattern”
portfolio reviews. In general, however, [the Authority] seemed very
comfortable with our approach to the work and [the Authority] clearly felt
that [BOS] had been very open’; and

(2)
`[The Authority] had noticed that over the last three to six months there
had been an increase in the number of controls issues we had suffered. He
mentioned the Reading incident and the run of incidents that we have had
within Retail…I felt that [the Authority] was giving me a gentle warning and
that he hoped this trend would soon turn around in a more positive direction.

Equally, he did stress that our proactive approach to informing the FSA of
issues continued to stand us in very good stead.’

4.65. On 26 May 2007 Senior Manager A emailed the Authority an update on the `HBOS

Reading rogue lender’ referring to another press article that was anticipated. Senior
Manager A also provided an update on the review of the controls and concluded
the email with `For the avoidance of doubt we have not as yet uncovered any
evidence of Fraud [sic]’.

4.66. The communications from BOS to the Authority in May 2007 were not open and

cooperative and did not disclose appropriately as it failed to disclose that BOS had
suspicions, including that Mr Scourfield may have been involved in fraudulent
activity, and the detail of those suspicions.

The Firm’s July 2007 communication with the Authority

4.67. By the 26 May 2007, BOS was aware of the matters detailed in paragraphs 4.40 to

4.65 above including that:

(1)
concerning issues about the way that Mr Scourfield had managed his
portfolio of cases had been identified;

(2)
QCS had been appointed on many of the cases managed by Mr Scourfield
and that emails suggested the relationship between Mr Scourfield and QCS
was abnormally close and they were more than just business associates.
There were also allegations within IAR that Mr Scourfield had received paid
holidays from QCS and other suspicious conduct; and

(3)
the Authority had expressly stated that it wanted to be updated by BOS on
any fraud that may have occurred.

4.68. Despite this awareness BOS did not disclose to the Authority the information that

it had identified giving rise to suspicions of misconduct, including suspicions of fraud
and/or corruption. Further, communications to the Authority in July 2007
misleadingly stated that there was no evidence of fraud.

4.69. On 29 May 2007, CFCP Team Member X emailed Senior Manager D and copied in

Senior Manager A to summarise the review that had been undertaken by the CFCP
Team to date. In that update CFCP Team Member X stated that ‘Nothing discovered
that implicates [Mr Scourfield] in terms of criminal activity…Fees – Review ongoing,
however to date one fee of £152,750 of concern.’ For the sake of clarity, the fact
that CFCP Team Member X expressed the view that nothing had been discovered
to implicate Mr Scourfield in criminal activity does not change the Authority’s
conclusion that earlier in May 2007 BOS had started to suspect Mr Scourfield may
have engaged in criminal activity.

4.70. On 31 May 2007, Senior Manager A updated the Board of the Corporate Division.

The minutes of that meeting record that it was stated `Investigations were also
ongoing to determine any potential fraud related activity…The FSA had also been
kept fully in the loop.’

4.71. On 1 June 2007, BOS’s investigation identified emails referring to a holiday to

Barbados taken by Mr Scourfield which appeared to have been arranged by
individuals linked to QCS. In a meeting on 5 June 2007, Senior Manager A asked a
member of IAR about these emails which suggested Mr Scourfield had accepted
hospitality from QCS in the form of a holiday to Barbados, and another allegation
that Mr Scourfield had travelled to Russia with representatives of QCS. It was noted

at the meeting that Mr Scourfield had not made IAR aware of the hospitality and it
had not been approved.

4.72. On 8 June 2007, the CFCP Team met with GFCP to discuss the IAR investigation.

Following that meeting GFCP noted that `…it is evident that there are numerous
connections between [individual connected to QCS/QCS] and various companies.
The [individual connected to QCS] and LS link is clear from the Reading portfolio
and in light of the e-mail evidence it supports the view that the bank’s interests
were not always taking priority.’

4.73. Senior Manager B updated the Executive Committee of HBOS on 19 June 2007 that

`The position in relation to Reading continued to evolve. The financial
consequences could deteriorate further over time’. The issues in IAR were also
referred to during a meeting of the HBOS Board of Directors on 26 June 2007 but
no specific update was given.

4.74. On 27 June 2007, an individual wrote to Senior Manager B on behalf of the owner

of QCS regarding concerns about how BOS was now managing the IAR customers
where QCS was involved and that QCS had a claim for unpaid fees from BOS. The
individual had previously written to Senior Manager B on 24 May 2007 (see
paragraph 4.63). The 27 June 2007 letter stated `As we have discussed, the modus
operandi of [Mr Scourfield] and [an individual connected to QCS] are not in line
with the way in which you and I would wish to conduct business. There is however,
as far as I am aware no evidence of fraud’.

4.75. In June 2007, an impairment charge for the whole of Corporate Division was

recorded as £234 million. Within that figure there was a provision of £76 million in
relation to IAR cases. BOS considered that, without the impact of the unauthorised
lending, a more `normal charge’ would have been £20-25 million. The impact of
the issues identified in IAR was estimated to be around £50 million.

4.76. On 3 July 2007, the CFCP Team provided a report to Senior Manager D summarising

the work that had been undertaken. The report stated that:

(1)
‘… [Mr Scourfield’s] known Bank [sic] accounts’ had been reviewed but ‘No
unusual activity apparent through these accounts’;

(2)
Mr Scourfield’s laptop could not be forensically examined as no data was
available and the hard drive had been disposed of;

(3)
only 30 days’ worth of Mr Scourfield’s internal emails were held on back up
servers and nothing material had been identified;

(4)
Mr Scourfield’s external emails for the period January 2004 to March 2007
were recovered for review and relevant emails ‘worthy of further questions
being raised’ included:

(a)
an email in January 2005 regarding a trip to the USA where the
tickets had been arranged by an individual from QCS and Mr
Scourfield provided address details to be collected by limousine;

(b)
emails in April and May 2005 relating to a trip to Barbados where the
itinerary had been produced by an individual from QCS. It was noted
in the report that the villa mentioned in the itinerary costs between
$3,000 to $5,000 per night; and

(c)
an email chain between individuals from QCS and a contact in the
USA with whom Mr Scourfield was arranging a transaction. The
individual states ‘I believe everything going forward – both social and
business – should be kept confidential if you know what I mean’;

(5)
one exit fee had been identified as potentially suspicious by an insolvency
practitioner. A fee of £152,750 which was intended for BOS had instead been
credited to a business banking account at the instruction of an individual
connected to QCS. The funds were later paid to an offshore account that
was linked to an individual from QCS. The CFCP Team concluded that `…we
see no business reason for this transaction to take place’. The events
surrounding this payment are described in more detail in paragraphs 4.182
to 4.187 below.

4.77. The report concluded that ‘The majority of work has been undertaken and some

areas (e.g. E-Mails and Exit Fee) require further answers that may only be able to
be supplied by [Mr Scourfield]’. Due to Mr Scourfield’s resignation it was not
possible for BOS to interview him in relation to the findings of the investigation.

4.78. On 5 July 2007, Senior Manager D issued an addendum to the 21 May 2007

investigation report which stated ‘Nothing concrete has been discovered, albeit
circumstantial evidence certainly would normally have led to questioning of [Mr
Scourfield] around certain events/trips. Nothing in the findings implicates any other
colleagues even circumstantially in any wrong doing. My recommendation would
be for further forensic work to be instructed to seek to establish whether there is
substance to any intuitive interpretation on the circumstantial evidence uncovered
through this piece of work.’ There is no evidence that further investigatory work
was undertaken by BOS despite Senior Manager D recommending that it should be
undertaken.

4.79. By 20 July 2007, the CFCP Team noted that it had finished its investigation work

and any remaining actions were being dealt with by Senior Manager D.

4.80. On 24 July 2007, the Authority had a number of close and continuous meetings

with various members of staff at BOS on a range of topics. This included a meeting
with Senior Manager A. Senior Manager A presented from a pack of PowerPoint
slides to the Authority which included one summarising ‘Incident at Reading’. That
summary stated:


‘Control failures


No evidence of fraud


Significant losses

4.81. There was no further clarification in the written document that BOS had suspicions,

including suspicions of fraud and/or corruption. BOS’s note of the meeting records
that what was discussed was `Reading – no evidence of fraud – it resulted from
management failure and some control weaknesses’.

4.82. The communications in July 2007 were misleading as they stated there was no

evidence of fraud at a time when in fact BOS had identified suspicious emails and
an exit fee which appeared to be owed to BOS being re-directed to an account
controlled by a director of QCS as well as allegations about Mr Scourfield’s
suspicious conduct from staff within IAR.

BOS’s decision not to notify the police in 2007

4.83. On several occasions during July and August 2007, BOS considered whether it was

appropriate to report its suspicions regarding Mr Scourfield to the police but BOS
concluded that it had insufficient evidence to do so.

(1)
the Authority was provided with a report that had been presented to the
BOS Corporate Risk Control Committee the day before which summarised
the key findings of a review by HBOS Group Credit, in conjunction with HBOS
Group Financial Crime Prevention and HBOS Group Internal Audit, of the
controls over credit limits within the Corporate Division. The review was
separate to the investigation being conducted within the Corporate Division
but it had been prompted by the identification of the weaknesses in controls
within IAR. The report did not comment on the suspicious conduct. The
minutes of the Corporate Risk Control Committee meeting state that `the
FSA had been made aware of the situation and would also now be provided
with a copy of the review following its circulation to this Committee. Whilst
no evidence of fraud had been detected, this continued to be investigated
and advice would be taken as to whether the matter be referred to the
police.’; and

(2)
it was noted at the HBOS Audit Committee that losses from twelve
businesses within the IAR portfolio would lead to a loss of around £50 million
in the first half of the year with further losses expected in the second half of
the year. On 30 July 2007, Senior Manager F presented an update to the
Audit Committee stating that `whilst the investigation found no evidence of
fraud or personal gain it remains difficult to understand any possible
motivation for this behaviour’.

4.85. On 31 July 2007, Senior Manager E contacted the Authority regarding a potential

fraud that may have been perpetrated by a member of staff within BOS (the
individual was not based within IAR). In that case the individual had resigned during
a credit compliance review of his portfolio in March 2007. It was discovered around
the same time that he had authorised suspicious payments and BOS informed the
police.

4.86. Following from the 31 July 2007 email, on 6 August 2007, Senior Manager G

emailed Senior Manager E and asked in relation to Mr Scourfield ‘…what chance of
getting Police interested even if evidence of any personal gain is lacking?’. Senior
Manager E responded `At this stage, very little chance. From CFCP’s perspective
we have insubstantial evidence of criminal activity. I will be touching base with
[Senior Manager D] on this, hopefully later today to get Credit Risk’s latest
position’.

4.87. On 11 August 2007, the Daily Telegraph released an article entitled ‘HBOS freezes

rogue banker’s accounts’. The article included comments from a customer
requesting that BOS ‘remedy all the breaches and… investigate the anomalies in
the account’.

4.88. On 15 August 2007, the BOS Corporate Operational and Regulatory Risk Committee

agree that a meeting with the police would be held regarding Mr Scourfield. This
meeting did not occur.

4.89. BOS did not inform the Authority that it had decided not to report its suspicions to

the police nor did BOS provide the Authority with any details of its consideration of

those suspicions at this time. The suspicious activity was first reported to SOCA by
the Authority in June 2009.

Closure of the financial crime investigation

4.90. On 13 August 2007, BOS closed its internal investigation into Mr Scourfield. The

investigation was closed despite the recommendation by Senior Manager D in the
5 July 2007 addendum that further investigative work should be undertaken.
During an interview with the Authority in 2018, Senior Manager H noted that Senior
Manager A thought at the time that the suspicious conduct identified `smelt to high
heaven and he was frustrated that there'd been no evidence found’.

4.91. Neither the decision to close the investigation nor the reasoning behind the decision

were communicated to the Authority. BOS did not disclose its suspicions or details
of its investigation to the Authority before the investigation was closed.
Furthermore, BOS did not provide a copy of the investigation report to the
Authority. The first time the Authority received a full copy of the report was on 9
July 2009.

Customer complaints to BOS in 2007

4.92. During 2007, BOS received complaints relating to three business customers

alleging misconduct by Mr Scourfield and/or QCS. Two of these businesses had
made complaints before 2007 which, as noted earlier, had not been
escalated/investigated. The complaints in 2007 were raised with a number of areas
within BOS including IAR, Corporate Division and HBOS Group.

4.93. The allegations raised included that:

(1)
the level of charges by QCS and the prioritisation of the payment of QCS
fees over other creditors of the businesses;

(2)
payments had been made from their business accounts to QCS without their
consent.

(3)
the funds supplied by lending from BOS, and customers’ payment of fees to
QCS, had been used to fund the lifestyle of Mr Scourfield and individuals
connected to QCS including holidays abroad and prostitutes; and

(4)
£25,000 of a business customer’s funds had been used by Mr Scourfield
`…and other Bank advisers for entertainment purposes and that one of the
Bank’s advisers was involved in a listed company who removed money from
this Company. I can provide you with evidence of this from a lawyer who
was involved in that situation’.

4.94. In addition, during legal proceedings between BOS and the directors of an IAR

customer about a separate matter relating to their residential mortgage, the
directors made an application for a warrant of possession to be suspended on the
basis of allegations of fraud that they had made against BOS. In deciding to
suspend the warrant, on 5 October 2007, the judge commented that `Well, I
suppose I can and should take the view that in view of all that I have heard and
the allegations that the [directors] raise, that they have been defrauded by the
bank, the claimants here, in another matter, I can and do take the view that that
probably will be resolved in their favour, that they will have a very substantial
refund, and that that will give them the wherewithal to pay off the arrears within a
reasonable time’.

4.95. In considering the complaints made in respect of one business customer:

(1)
BOS initially suggested to the customer that they raise the matter directly
with QCS;

(2)
BOS noted internally that the issues raised by the customers were
‘somewhat of a distraction’ as the complaints related to BOS’s decision not
to provide further funding. It was noted that the previous IAR member of
staff who dealt with the customer had recommended that BOS should cease
providing additional funding, given the financials of the business, but Mr
Scourfield had `…rejected…arguments and assumed ongoing responsibility
for the relationship himself’;

(3)
on 25 April 2007, BOS responded to the customer stating that ‘the
contention that charges, interest and fees have been paid as “a direct result
of mis-management of the account”, will be investigated to enable a full
reply on to be provided to [the customer]’;

(4)
on 15 May 2007, Senior Manager A met with the customers. Senior Manager
A stated in the meeting that the Bank had examined the issues raised by
the customers and was satisfied that they had been handled appropriately.
Senior Manager A agreed that if any fees were charged by QCS after the
customers asked for QCS’s involvement to be terminated then the fees
would be reimbursed. BOS however later contacted the customers on 15
November 2007 to state that they had provided no evidence that money had
been debited from their accounts after they had asked for the services of
QCS to be terminated; and

(5)
on 31 July 2007, customers complained to the Corporate Division that their
emails were being deleted without being read. The customers then
complained again the next day that their complaint email had also been
deleted without having been read. The complaint was also made again on
28 August 2007. Senior Manager A confirmed to the Authority that it was
`quite possible’ that some of the emails were deleted.

4.96. When considering these complaints, BOS failed to make the connection with, and

take into account, the information that it had identified that raised suspicions about
Mr Scourfield’s conduct. Where responses were sent to customers that complained,
BOS stated that if the customer had any substantive evidence of dishonesty of the
individuals involved then it should be taken up with the appropriate authorities or
provide the evidence to BOS. BOS stated that it did not have relevant knowledge
of the matters complained about. Whilst the Authority acknowledges that the
weight of evidence that ultimately resulted in Mr Scourfield’s conviction would not
have been available to BOS at the time, BOS did not give due consideration to the
suspicious information that it had identified.

4.97. Despite these complaints, BOS did not review its decision to close its investigation

and failed to put all the information together and report its suspicions to the
Authority.

The Firm’s September 2007 communication with the Authority

4.98. By the start of September 2007, BOS was aware of the matters detailed in

paragraphs 4.93 to 4.97 above. Despite this awareness, BOS did not disclose to
the Authority the fact of its suspicions or the information giving rise thereto.
Further, a communication with the Authority on 28 September 2007 again
misleadingly stated that no evidence of fraud had been found.

4.99. A report by BOS’s auditors dated 4 September 2007 noted that further information

which emerged in July 2007 regarding a few businesses, including some managed
by IAR, indicated that the provision made in 30 June 2007 should have been
increased by a further £50 million.

4.100. On 10 September 2007, BOS had a meeting with the Authority where questions

were raised by the Authority regarding ‘Reading (Corporate)’.

4.101. On 20 September 2007 BOS received a letter from a journalist referring to his

investigation into Mr Scourfield which stated:

`My initial findings suggest that the Reading branch had developed an unusually
close relationship with a particular firm of consultants, who it has been requiring
customers to use. Many BoS clients appointed this firm of consultants whose
officers would often sit on their board of directors. Unfortunately, a surprisingly
high proportion of your clients appear not to have benefitted from the input of these
consultants and have gone to the wall. The BoS has run up bad debts and the
bank’s clients are concerned that the high consultancy fees they paid was not
money well spent.’

4.102. On 26 September 2007, BOS received another letter from the journalist providing

the findings of his investigation into Mr Scourfield which stated:

‘As part of [the] investigation I have uncovered evidence of collusion between
[Lynden Scourfield] and two executives… at Quayside Corporate Services, a
consultancy offering advice on turnaround and recovery, to defraud the bank and
its clients…

…The article will allege that loans by HBOS and supported by Mr Scourfield were
not applied to assist your clients' recovery but to fund the excesses of your
employee, Mr Scourfield, and the consultants he insisted should be appointed by
your clients. In particular it will highlight how HBOS funds were used to fund
overseas trips for Mr Scourfield and others and pay for prostitutes for Mr Scourfield
and [an individual connected to QCS].’

4.103. On 28 September 2007, Senior Manager F informed the Authority that BOS had

been contacted by a journalist including in relation to ‘alleged links between [Mr
Scourfield] and one firm of consultants and accusations of personal gain and other
salacious/criminal accusations against him and that firm’. Senior Manager F stated
to the Authority:

`We believe these [accusations] are probably driven by complaints from one
customer who I understand has previously written to the Board concerning our
treatment of them.

These accusations were known about when our investigation was carried out and
borne in mind when we reviewed payments etc to seek to identify whether there
was any evidence to support fraud/personal gain. No evidence to support them was
found. As they allege criminal behaviour on his part we also asked the client to
either provide information to the police or to us for us to pass on. No such
information/evidence was provided.’

4.104. In fact, the Bank had identified emails which raised suspicions, including suspicions

of fraud and/or personal gain on the part of Mr Scourfield. The information provided
to the Authority did not refer to the emails that had been identified or the remaining
suspicions which BOS had been unable to address following Mr Scourfield’s
resignation.

The Firm’s October 2007 communication with the Authority

4.105. By the start of October 2007, BOS was aware of the matters detailed in paragraphs

4.99 to 4.104 above. In a communication on 24 October 2007, BOS did disclose to
the Authority a brief summary of its investigation including that suspicious emails
and an exit fee had been identified which appeared to be owed to BOS being re-
directed to an account controlled by a director of QCS but it nevertheless failed to
be open and cooperative and failed to provide full disclosure of all relevant
information.

4.106. On 2 October 2007, there was a meeting of the BOS Audit Committee which

discussed the issues identified within IAR. Ahead of the meeting Group Credit Risk
briefed Senior Manager F on 18 September 2007 that `For background, there is a
lack of evidence that Reading was a fraud, rather it is being treated as mal-practice
and poor credit decisioning/ rogue behaviour by the senior director involved…’.
Senior Manager F’s subsequent presentation to the Audit Committee stated that
following the investigation ‘there is a lack of evidence that [Mr Scourfield’s] actions
were for personal gain or of a fraudulent nature’. It was also noted that the full
year losses attributed to the issues within IAR were expected to increase to £100
million by the end of the year (this presentation was subsequently provided to the
Authority on 19 October 2007). On 2 October 2007, Group Risk presented a paper
to the Audit Committee on financial crime prevention. In that report, it is noted
that the issues in IAR had `…not been categorised as Fraud’.

4.107. On 3 October 2007, BOS was contacted by a journalist stating they had received

allegations that Mr Scourfield had channelled ‘millions of pounds into Quayside
client companies’ leading to financial difficulties for customers.

4.108. On 18 October 2007, BOS identified a loan from one of IAR’s customers that had

purportedly been made to members of Mr Scourfield’s family and formed part of
the lending managed by IAR. The CFCP Team was made aware of this loan in
November 2007 but it does not appear that further investigation was undertaken.

4.109. Having reviewed the HBOS Group Credit Risk Report that had been provided to the

Authority, the Authority noted internally on 19 October 2007 that the report
`…categorises the Reading incident as ”credit losses” rather than fraud but have
we satisfied ourselves that fraud was not the intent? Have we seen HBOS’s full
report of this incident and have we expressed any concerns to them about the way
they are portraying this to the Execs?’. On the same day, the Authority emailed
Senior Manager H twice:

(1)
in the first email, the Authority referred to the email from Manager F dated
28 September 2007 and asked for an update stating `We also note that you
are emphatic that [Mr Scourfield] was not acting fraudulently or corruptly;
we would be grateful for some more detail on your reasons for this belief,
and the steps you have taken to investigate’; and

(2)
in the second email, the Authority noted that it had just received the 2
October 2007 BOS Audit Committee paper (see paragraph 4.106) but stated
that `…we would still be interested in answers to our questions on the
investigation into [Mr Scourfield’s] fraudulent intent or lack thereof’.

4.110. Senior Manager E emailed Senior Manager H on 23 October 2007 with a summary

response to the Authority’s questions. When providing that summary response to
Senior Manager H, Senior Manager E stated `I am not sure where the “emphatic”
message came from as [the CFCP Team] have not found anything concrete enough

to be emphatic about (positive or negative)’. The email then briefly summarised
what the CFCP Team had found in its investigation.

4.111. On 24 October 2007 Senior Manager H sent a response to the Authority’s emails of

19 October 2007 which summarised what the investigation had considered and in
relation to Mr Scourfield’s conduct stated that:

`In all of the above, we could find no firm evidence of direct personal benefit. The
closest thing was some e-mail correspondence referring to a business trip to the
US and a holiday in Barbados, however, no “smoking gun”. In addition, an
Insolvency Practitioner advised of his suspicions regarding an “exit fee” which he
was instructed to send to a Business account rather than a Corporate fee account.
Investigation established that the funds were moved between [an individual
connected to QCS] accounts to an offshore account with another Bank. This
suspicion was raised due to rumoured allegations of asset stripping, which in itself
is not illegal, and was not sufficient evidence to confirm criminal activity. A full
report by [the CFCP Team] was furnished to Corporate Credit Risk in July 2007 for
input into their investigation. In conclusion there is a lack of evidence that the
individual’s actions were for personal gain or of a fraudulent nature. If you need
any further information, please let me know.’

4.112. The email is largely the same as the summary provided by Senior Manager E

however Senior Manager H had:

(1)
removed the sentence raising doubts about the “emphatic” message and did
not state that the investigation `had not found anything concrete enough to
be emphatic about (positive or negative)’; and

(2)
added a sentence stating `In conclusion there is a lack of evidence that the
individual’s actions were for personal gain or of a fraudulent nature’.

4.113. The email on 24 October 2007 was the first time that the Authority was notified of

some of the information that had been identified which raised suspicions of
potential fraud. However BOS failed to provide the Authority with the detail that
called into question the Authority’s belief that BOS had been emphatic that there
was no evidence of fraud. BOS did not provide the documentation relating to the
emails or the exit fee and did not provide the investigation report to the Authority.
The Authority was not aware of any of these details and responded on 25 October
2007 `Many thanks for this. It looks pretty thorough’.

4.114. On 25 October 2007, the Authority had a close and continuous meeting with Group

Credit Risk. The meeting covered several areas including the issues within IAR. The
Authority’s note of the meeting records that the view given by Group Credit Risk
was that `[Mr Scourfield] was “soft” rather than corrupt, although the odd holiday,
etc’.

4.115. On 12 November 2007, Senior Manager A presented a paper on the issues identified

within IAR to the Corporate Operational Risk Committee. The paper summarised
the investigation and findings in the same terms as those provided to the Authority
on 24 October 2007.

4.116. On 15 November 2007, Senior Manager E provided an update to Senior Manager H

on current fraud cases where the CFCP Team was involved. In relation to Mr
Scourfield it was noted that `There was no firm evidence of Scourfield directly
benefiting from the case, however, money trails leading to offshore jurisdictions
and a number of suspicious emails were noted and fed back to Credit Risk who are
managing the overall case for Corporate’.

The Authority’s ARROW assessment of HBOS in November and December
2007

4.117. In addition to the regular close and continuous meetings, between November and

December 2007 the Authority conducted its ARROW risk assessment of HBOS which
involved meeting with several individuals from HBOS Group, including BOS
Corporate Division, and HBOS’s auditors. Due to the issues identified within IAR,
credit controls were specifically included in the ARROW assessment. Financial crime
issues were however excluded by the Authority from the scope of the ARROW
assessment. Whilst the issues within IAR were referred to in a number of meetings
the discussions focused on credit control issues and the written records do not refer
to any details about the suspicious conduct within IAR being discussed.

4.118. The Authority met with Senior Manager C on 17 November 2007 to discuss IT

services within HBOS. Following that meeting, BOS provided on 22 November 2007
some statistics that were relevant to the matters that had been discussed. An
internal email between staff at the Authority notes that the information did not
include the `…provisions arising from the Reading controls failure. As they have a
constant backlog in reconciliations, can they be sure they have picked up
everything?’

4.119. On 26 November 2007, Senior Manager H met with the Authority. This included an

update on the issues in IAR, however only controls issues within IAR were
discussed. The suspicious conduct within IAR and details of the investigation
conducted by BOS were not discussed. The Authority, based on the information
provided, asked whether the issues related to operational or credit risk failings.
Senior Manager H stated that better controls and oversight `ought to have been in
place to prevent the loss’. In this communication BOS again portrayed the issues
as control failings only and did not refer to the suspicious conduct it had identified.

4.120. On 26 November 2007, the Authority also met with Senior Manager D. The

Authority asked for an update on the changes to credit controls that had been made
after the issues within IAR were identified. The Authority also asked whether issues
had been identified in any other areas, how BOS would know that the failings would
not occur again and what the provisioning/impact of the failings were. The
suspicious conduct within IAR was not discussed.

4.121. During the meeting with Senior Manager D there was reference to an article in the

press that had appeared at the weekend. On 24 November 2007, The Times had
published an article entitled ‘A loan too far from HBOS’. The article stated that a
customer had been brought to financial ruin as the result of a ‘rogue branch
manager’ making ‘unauthorised loans’. The article further alleged that BOS paid
large sums of the customer’s loan to QCS who in the customer’s opinion ‘did
nothing’ for their business.

4.122. Following one of the Authority’s meetings with BOS, Senior Manager F emailed the

Authority on 29 November 2007 noting that there had been `considerable focus on
the classification of Reading as a credit loss versus an operational loss’ and provided
details of how credit risk losses are assessed. A member of the Authority’s HBOS
supervision team emailed colleagues noting `Are they always this defensive?’ to
which a colleague responded `They took Reading very seriously’.

4.123. On 5 December 2007, the Authority met with Senior Manager B about the Corporate

Division. During that meeting in respect of the issues in IAR the Authority recorded
that `Reading was attributed to “taking their eyes off the ball”, partly due to
resources being diverted to work on Basel. Preventative and detective controls were
weak, and there was a perception that the high risk area was unlikely to be hit by

dishonesty…A full investigation has been carried out and no evidence found of gain
on the part of [Mr Scourfield].’

4.124. The Authority also had a close and continuous meeting arranged with Senior

Manager F on 5 December 2007. In preparation for the meeting Senior Manager F
asked Group Credit Risk for an update. In relation to the issues in IAR the update
was that `Reading – the loss number which…has been quoting in the ARROW
interviews is c£200m (£147m provisions to end October with at least another £50m
expected by the year end). There is one material case…which remains unresolved
and will be the subject of discussion…later this week when we close-out our
provisioning review. The exposure is £110m, current provision £18m. the value of
the assets bridging the gap is very uncertain’.

4.125. On 22 January 2008, Senior Manager I emailed Senior Manager C summarising a

recent meeting with the Authority. In that meeting the credit control failings in IAR
were discussed and there was no reference to the suspicious conduct within IAR
that BOS had identified.

4.126. On 22 April 2008, the Authority wrote to HBOS summarising its findings from the

ARROW review stating in relation to Financial Crime: ‘This area of work was
specifically excluded from our ARROW discovery plans but is a topic to which we
will turn our attention during 2008. We will initially take this forward on a close and
continuous basis and will be requesting regular updates on current and emerging
risks. We will also endeavour to strengthen the links between HBOS' Financial Crime
Prevention Team and the FSA's Financial Crime and Intelligence Division in order
to facilitate a more robust and mutually rewarding vehicle for the sharing of
information’.

Consideration of year end provisioning for losses

4.127. Towards the end of 2007 and early 2008, BOS conducted a review of its lending to

business customers managed by IAR to determine whether it was necessary to
provision for further losses. This review identified that further significant provisions
would be necessary. As part of this review BOS also considered the `Turnbull’
guidance (the guidance published by the Financial Reporting Council on how
directors of listed companies should comply with the UK Corporate Governance
Code requirements in respect of internal controls including financial and risk
management) in respect of the impact of the losses on its financial reporting
obligations.

4.128. There was a meeting of the Audit Committee on 4 December 2007 and it was noted

that there was an audit taking place which, in part would consider the impact of
the issues in IAR on credit provisioning. A paper was presented at the committee
by Senior Manager F which stated that ‘Unfortunately, the provisions requirement
for Reading has deteriorated and the year end total is expected to be close to
£200m. Further, there is one large exposure where the final recovery remains very
uncertain and the existing provision may require to be significantly increased in the
months ahead.’

4.129. On 19 December 2007, an individual in Group Credit Risk emailed Senior Manager

F to update him on a number of issues including `The draft Group Credit review of
year end provisions is now with Corporate. There is one material individual
provision we have questioned and where we may be at odds with Corporate…one
of the Reading cases…The value of this is uncertain and Corporate have undertaken
to have it valued. This might result in an additional provision in the range £40-
60M’. Senior Manager F responded the next day stating `Thanks – on Corporate
provisions – whether others like it or not we need to be sure that the provisions

are “in the range” maybe at the lower end and if they need to raid some
conservatism elsewhere…then I can live with it but we cannot accept the
unacceptable otherwise we might as well not turn up’.

4.130. On 15 January 2008, BOS informed the Authority that it did not intend to refer to

the issues within IAR when it released its year end financial results.

4.131. Emails within Group Credit Risk on 22 and 23 January 2008 note that the provisions

in respect of one IAR customer had been increased by a further £20 million and
was at the top end of the range that had previously been suggested. It was noted
that the further increase followed discussions with BOS’s auditors and took the total
provisions relating to IAR to £265 million with only one case remaining where there
may be additional small provisions necessary.

4.132. A paper was presented to the Audit Committee on 5 February 2008 which referred

to the issues in IAR which noted that for the 12 months to 31 December 2007 a
provision of around £230 million was taken in respect of the IAR portfolio. During
the meeting there was a discussion about the year end financial results and `…some
disclosure of the Reading Fraud and it was agreed that there was no appetite to
refer specifically to this instance. However, further consideration would be given to
how the impact of this incident would be disclosed in the [stock exchange
announcement], because the Reading loss distortes [sic] many of the Corporate
ratios’.

4.133. An update paper entitled `Reading Fraud – Update’ was provided to the HBOS

Executive Committee meeting on 19 February 2008. In that paper it was noted that
the total provision for losses relating to the IAR portfolio was £266 million. Before
submitting the update to the Executive Committee individuals within Group Credit
Risk had discussed over email that:

(1)
the provision levels on IAR cases at the time the fraud was operating were
`…clearly very materially wrong…’;

(2)
it was considered that £50 to £100 million of the £266 million provision
`…would have happened anyway had the fraud not occurred...’ which
suggested a loss of £166 million to £216 million attributable to the
misconduct within IAR. The author of this email later stated to TVP that the
reference to fraud was `loose phraseology’ and they did not have `sufficient
information to base a view on whether or not a fraud had occurred’; and

(3)
initially the paper referred to an additional provision of £22 million being
necessary for further losses anticipated in 2008. It was noted that there
were 11 cases currently viewed as requiring no extra provision that could
result in an additional provision of £0 to £22 million being needed. BOS’s
view was it was likely a provision at the lower end of the range would be
needed and the provision was unlikely to be £0. As a result, Group Credit
Risk decided to remove explicit reference to potential additional provisions
from the paper.

4.134. BOS’s auditors conducted an audit of the Corporate Division for the year ending 31

December 2007 and provided a report to the Corporate Risk Control Committee on
20 February 2008 and the Audit Committee on 21 February 2008. The auditors
noted that, in relation to the provisioning for the Corporate Division `The additional
provisioning resulting from the Reading Portfolio has accounted for over 40% of
the total individual provisioning charge and has clearly put pressure on this balance.
In some cases we believe this has resulted in provisions being at the lower end of
an acceptable range. We have noted opposite the reducing cover of the collective

provision. Taken together, we consider that the impact of Reading and deteriorating
market conditions have resulted in less conservative positioning of overall
provisions, albeit that they remain within a justifiable range. Whilst our divisional
procedures address both individual and collective provisions within the Corporate
division, our ultimate assessment of the adequacy of provisions is made across the
group as a whole.’

4.135. The Audit Committee on 21 February 2008 reviewed the level of provisioning

relevant to the Turnbull guidance including the provisioning related to IAR. Two
papers were presented by Senior Manager F which referred to the issues in IAR:

(1)
the first paper summarised the impact of the `Reading fraud’. It was noted
that there were a few cases from the IAR portfolio that were still to be
finalised in 2008 however it was expected that any further provisions were
expected to be small; and

(2)
in the second paper, it was noted that total provisions of £266 million had
been made relating to the IAR portfolio, although £91 million of those
provisions had been made before Mr Scourfield joined IAR. The provision
related to `suspect’ lending was therefore around £175 million.

4.136. A meeting of the board of directors of HBOS was held on 26 February 2008 at which

Senior Manager F, amongst other items, presented an update on the issues in IAR.
The presentation summarised the credit risk control weaknesses that had been
identified and the changes that were proposed to the controls. In relation to Mr
Scourfield it was stated that `…there was no evidence of “personal gain”, despite
the aberrant behaviour’.

Contact with the police in 2008

4.137. BOS did not at any point report its suspicions to the police, despite being contacted

twice by police forces in 2008 in response to allegations raised by IAR customers.

4.138. On 10 January 2008, BOS was contacted by a Detective Constable, a Divisional

Fraud Investigator for the first police force, after he had received allegations of
fraud from an IAR customer stating that: `there may be an offence of “conspiracy
to defraud”, in that Lyndon Scourfield and the directors of Quayside Corporate
Services are closely associated, have acted together, and the net result has been
a financial loss to HBOS’. The Detective Constable then queried if BOS was `in the
process of compiling an “evidence package” prior to putting the matter in the hands
of the Police? If so, I can advise that this would need to be submitted to Thames
Valley Police in the first instance’.

4.139. The CFCP Team spoke to the Detective Constable in relation to the request. On 22

January 2008, the CFCP Team was again contacted by the Detective Constable after
the IAR customer provided further details of the allegations of fraud. Providing a
copy of the information he had received he stated ` I've told the [IAR customer] I
don't intend to get too involved in this…I’m supplying the factsheet (plus anything
in the same vein) so that you can judge whether or not the Bank should be making
a criminal complaint to the relevant Force. Although I must say it all looks a bit
dishonest to me, and I would think that any legitimate business should be
consulting the Police if there was any truth in such allegations. But that’s just my
opinion based on the only side of the story I’ve heard!’

4.140. BOS considered that the details provided by the IAR customer to the Detective

Constable were similar to the details in complaints the customer had submitted to
BOS in 2007. In responding to the complaints in 2007, BOS had asked the customer
for evidence to support the allegations or suggested that they provide evidence to
the police.

4.141. On 27 March 2008, BOS responded to the Detective Constable stating that 'it

appears the information you have provided is no different than that of which the
[IAR customer] have already supplied. If they have anything more concrete the
Bank will happily take a look but until then there are no further developments'. On
31 March 2008, BOS confirmed to the Detective Constable that it would not be
reporting the matter to any Police Force unless ‘new concrete evidence comes to
light’.

4.142. On 11 March 2008, BOS was contacted by a different police force which had

received complaints from another customer about Mr Scourfield. On 19 March
2008, the CFCP Team noted in internal emails that `I don’t think that we have had
at any time authority to refer matters to the Police and its all very complex with
various stakeholders involved and ongoing litigation/recovery work underway. We
should consult with Credit, our legal advisers and [individuals in the CFCP Team]
as to where we go with this but it may be we continue with the status quo of not
making a complaint to the Police, albeit we would be forced to comply with any
Production Orders etc. that come along. May also be useful to get a view from our
PR people as they should be able to help in forming any responses required’.

4.143. The police force asked BOS to detail whether Mr Scourfield’s actions were under

any formal investigation. The Bank declined to investigate further unless further
evidence was provided by the customer.

4.144. On 19 March 2008, the CFCP Team produced an update to its July 2007

investigation report but it did not include any further information other than noting
that BOS had been contacted by two police forces.

4.145. Despite being contacted by two police forces, BOS did not review its decision to

close its investigation into the conduct of Mr Scourfield and did not inform the
Authority about the allegations that it had received from customers or of the police
interest.

Close and continuous meetings between April and October 2008

4.146. The Authority’s regular close and continuous meetings with BOS continued

throughout 2008. In one meeting, on 8 October 2008, the Authority met with
Senior Manager H during which details were provided about a financial crime
investigation that was ongoing in an area of BOS separate to IAR. That case also
involved suspicious actions by a member of BOS staff and the CFCP Team was
reviewing email accounts. Senior Manager H stated that the case was like Mr
Scourfield in that BOS had`suspicions that there was fraud involved but they have
no concrete evidence at this stage to prove their case’. It was noted that there
should be information available to submit to the police within a fortnight and that
`it's quite possible that no action will be taken by the police and that…
investigations go the same way as Reading i.e. it does not pass the "smell test" but
there is no concrete evidence to support suspicions’.

Customer complaints in 2008

4.147. Complaints from customers continued in 2008, including:

(1)
On 25 January 2008, the directors of an IAR business customer, who had
previously complained in 2006 and 2007, contacted the Corporate Division
and HBOS Group alleging fraudulent behaviour. The customer referred to
having been provided information by a whistle-blower who `…was privy to
a lot of the planning and execution of the corporate misconduct’.

(2)
On 2 May 2008, a customer contacted BOS raising Mr Scourfield’s ‘irregular,
unethical and unprofessional behaviour’ in managing the customer’s
account. This letter was provided again to BOS by the customer’s MP on 7
May 2008. The customer wrote to BOS again on 23 May 2008. BOS in
internal discussions stated that the MP stressed that the customer had
‘suffered at the hands of a “rogue” banker’ and that they needed to ‘deal
with the issue of the “rogue” banker’ as it was the basis on which ‘a whole
range of MPs are now being contacted’.

(3)
On 9 May 2008, BOS was contacted by a customer stating that an individual
connected to QCS and Mr Scourfield had used his company as a ‘slush fund
financed by BOS via Lynden Scourfield which they used to fund their own
luxurious and sometimes salacious lifestyle’. Senior Manager B noted
internally that `This also appears linked to [other customers that were
complaining]. Can we please kill this stone dead once and for all. A draft
response to [the customer] is needed.’

(4)
On 15 May 2008, BOS was contacted by shareholders of a corporate within
IAR’s portfolio. The shareholders provided information that two individuals
connected to QCS had previously been involved in a fraud. The shareholders
noted that one of the same individuals had been appointed as a director of
the customer’s company. One of the shareholders described that when he
had raised concerns with the individual connected to QCS the response had
been that he would be wasting his time raising any concerns with Mr
Scourfield as he was `…in the pocket of [QCS]’ and that `[QCS] had,
amongst other gifts, organised and paid all expenses for a holiday in the
West Indies for Mr Scourfield and his wife’. The shareholder also stated that
he had learnt from former employees that the company’s funds were used
`for the procurement of the services of prostitutes for the benefit of [an
individual connected to QCS] and Mr Scourfield’. Senior Manager B noted
internally that `More stuff on Reading…It is beginning to look like a co-
ordinated approach, so we must be robust and say this is nothing to do
necessarily with the relevance of the business which you were operating was
not viable [sic]’.

(5)
On 23 May 2008, a number of IAR customers collectively wrote to the
Corporate Division and HBOS Group alleging misconduct by Mr Scourfield
and QCS. This letter was also copied to the Authority and a number of MPs.

(6)
A customer who had previously complained to Mr Scourfield in 2004 about
an individual connected to QCS wrote to BOS on 19 December 2007 raising
similar matters of complaint. The customer alleged that the individual had
previously been involved in a fraud. And further, that BOS was aware of that
fact before the individual was appointed to the Board of the customer. A
response was initially sent to the customer by the Corporate Division on 4
January 2008 informing the customer that they would be launching an
investigation into their complaint. IAR then wrote to the customer on 28

January 2008 stating that ‘the Bank had no relevant knowledge of the
allegations’ and that the customer should take the matter up with the
relevant authorities. The customer then escalated the complaint within the
Corporate Division on 14 May 2008. Solicitors acting on behalf of BOS
responded to the customer on 28 May 2008. The response stated that `You
have not seen fit to put forward any detailed evidence in support of this
allegation, or to articulate the nature of any claim to which it may give rise.
Suffice it to say that as far as the Bank is concerned the allegation is ill-
founded and misconceived. In the circumstances, the Bank has no reason
to compensate you, and will not be doing so.’

(7)
On 25 November 2008, staff in a branch of BOS received an allegation of
corruption by telephone from a customer who stated that `he knows what
happened at the Reading branch and why the manager "Linden" has been
sacked. He said it is to do with a consultancy firm "Quayside” and that [BOS]
have covered it all up and not released what happened to the press’. This
allegation was passed to the CFCP Team.

(8)
On 31 December 2008, BOS was contacted by the Financial Ombudsman
Service which, following the receipt of allegations from customers, was
requesting information regarding Mr Scourfield’s dismissal, his relationship
with QCS and relevant customer information.

(9)
On 23 January 2009, BOS responded to the Financial Ombudsman Service
stating that Mr Scourfield’s actions had been investigated by BOS and that
‘there was no evidence of direct personal benefit on the part of Mr
Scourfield’.

Press and Parliamentary interest in 2008

4.148. Throughout 2008, BOS was contacted several times by journalists and MPs

regarding the conduct of Mr Scourfield and QCS, including:

(1)
On 7 May 2008, BOS was contacted by an MP raising ‘huge concerns’ that a
customer of IAR appears to be a ‘victim of a rogue banker’.

(2)
On 25 May 2008, the Manx Herald released an article which referred to the
‘questionable activities of Scourfield and Quayside’ which cost BOS `at least
£400m’. A customer was quoted in the article asking why BOS refused to
acknowledge anything is amiss and accusing BOS of a cover up.

(3)
On 14 October 2008, a complaint from a former shareholder in an IAR
business customer, who had complained to IAR in 2006, was received by
Lloyds TSB (prior to the forthcoming merger). The letter referred to
correspondence from other IAR customers sent to BOS and referred to
allegations of fraud by QCS.

(4)
On 20 November 2008, BOS was contacted by a group of MPs, who had all
communicated with BOS, regarding QCS and Mr Scourfield. The MPs stated
that they had reached a conclusion that there was ‘more than coincidence’
involved in the matters and that their constituents had been ‘ill-served’ by
BOS. The MPs requested a meeting with BOS to discuss their concerns.

(5)
On 25 and 26 November 2008, BOS was contacted by a journalist from the
Sunday Herald regarding various allegations including that in 2005 a
business customer of IAR had provided envelopes of cash to Mr Scourfield
on behalf of QCS, that Mr Scourfield and QCS had submitted inflated sales

figures to obtain an increased overdraft facility on the business’s bank
account. The journalist asked if BOS was aware that two QCS employees
had previously been implicated in a fraud. The journalist noted that these
two individuals had been appointed to the board of several of IAR’s
customers where QCS was providing turnaround services. BOS responded
that it could not comment on the individual circumstances.

(6)
On 30 November 2008, the Sunday Herald released two articles which
referred to two QCS employees who had resigned from previous roles at
another company after ‘misappropriating company funds for their own
personal use’ and alleged that QCS took ‘enormous fees’ from BOS
customers and did not provide any services.

(7)
On 3 December 2008, the Manx Herald released another article which
referred to the ‘HBOS ‘Rogue Banker’ ‘scandal’ and described a campaign by
customers to have the ‘scandal’ investigated and that ‘a significant number
of HBOS customers, have had their businesses, and lives, ruined’ by the
involvement of Scourfield and QCS’.

Merger with Lloyds TSB in 2009

4.149. On 1 October 2008, HBOS Group was approaching a point where it was no longer

able to meet its liabilities as they fell due and so sought Emergency Liquidity
Assistance from the Bank of England. Following the financial collapse of HBOS
Group it merged with Lloyds TSB Bank plc on 16 January 2009 to form LBG.

4.150. Following the merger, there was a significant amount of restructuring of the former

HBOS Group business and integration within LBG. As a result, there was significant
structural and management changes within the Corporate Division including to IAR.

4.151. Following the merger, BOS continued to receive complaints from customers and

press and parliamentary interest in the matters continued.

4.152. Ahead of an internal meeting, an individual from the BOS Risk function requested

that the CFCP Team provide an update on its report from 2007. The CFCP Team
did not undertake any further investigation but produced a summary of its original
findings on 21 January 2009.

4.153. On 22 January 2009, Senior Manager D emailed Senior Manager E asking `I assume

with the passing of time and general silence that we never discovered any proof
that LS personally benefited financially from his actions?’. Senior Manager E
responded `…Essentially we have exhausted the avenues available. Despite
external complaints, the individuals have not been forthcoming with any evidence’.

4.154. BOS met with a group of MPs on 27 January 2009 during which BOS agreed that it

would conduct a further review of IAR customer complaints that the MPs had
received. After the meeting, BOS determined that complaints would be responded
to on a case-by-case basis and any compensation would be limited to the fees paid
to QCS. In internal email correspondence BOS also considered that compensation
would be offered to one of the customers ‘but not to any of the others’ [emphasis
as original].

4.155. BOS wrote a letter to one of the MPs on 18 February 2009 summarising the

conclusions of its review and BOS's position in relation to the customers’
complaints. BOS noted that `the detail of the individual cases are complex’,
including that certain customers had no involvement with QCS and very little
involvement with Mr Scourfield. BOS stated in the letter that it was firmly of the

view that the customers referred to in the letter did not have a valid claim for
compensation, `however, in some cases we discussed, [BOS] is prepared, as a
matter of goodwill, to make certain proposals’. In that letter BOS stated that:

(1)
`In certain instances, the entities through which the constituents traded
were granted increased loans by [Mr Scourfield]... Whilst [BOS] appears to
have been more supportive than it should have been in responding to
requests for increased facilities, this occasioned loss to [BOS] and there is
no evidence that it led to the failure of already stressed businesses.

(2)
In certain instances, Mr Scourfield was instrumental in the appointment of
[QCS] as consultants to the entities in which the constituents were involved.
So far as I am aware, there is no evidence that anybody at [BOS] knew, at
that time, that the reputation of [QCS] (or of individuals within [QCS]) was,
in any way, questionable.

(3)
In early 2007, [BOS] identified issues concerning Mr Scourfield's approach
to lending. As pointed out above, the Bank was more supportive than it
should have been in responding to requests for increased facilities from
some of the customers in question. After Mr Scourfield had been suspended
from duty on account of these matters, he resigned in late April 2007.

(4)
Following communication between [BOS] and [the Authority], improved
procedures were implemented to ensure that there was no recurrence of
those practices. To be clear, these procedures were designed to ensure that,
in future, [BOS] did not lend more than it should to its customers.

(5)
Following Mr Scourfield's departure, [BOS] carried out an extensive internal
review and concluded that there was a lack of evidence of direct personal
benefit on the part of Mr Scourfield from his relationship with [QCS].’

The Authority requests further information from BOS in 2009

4.156. On 9 April 2009, the Authority had a meeting with several individuals from BOS

who dealt with `wholesale risk’, including Senior Manager H. A note of the meeting
made by BOS records that:

`[The Authority] asked for an update on Reading and [Mr Scourfield] and if any
customers had lost out. Senior Manager H reminded [the Authority] that there had
been a full internal investigation involving the financial crime prevention team but
no evidence could be found of wrong doing by [Mr Scourfield]. As to whether or not
customers had lost out it was complicated by the fact that these were already
impaired connections and the real loser by [Mr Scourfield] inappropriately
extending further facilities had been [BOS] which had suffered considerable
additional loss. However [Senior Manager H] added that [Mr Scourfield] had
directed the vast majority of the cases to [QCS] who had benefitted from the
arrangements through fees but again whilst paid for by the customers funded
through increased lines from [BOS]… [The Authority] asked whether [Mr Scourfield]
had been sacked. [Senior Manager H] advised [Mr Scourfield] had resigned whilst
suspended. [The Authority] asked if anyone had been dismissed in connection with
Reading. [Senior Manager H] advised nobody. [The Authority] said… [it] would like
to understand if nobody had been dismissed as a result of…such extreme control
failings as…Reading what it would take for a leader to be dismissed.’

4.157. The Authority also requested a copy of the correspondence between BOS and an

MP in February 2009 (see above).

4.158. On 9 April 2009, the Authority separately contacted BOS asking several questions

about QCS and whether BOS had involved the police. BOS considered the request
was prompted by the new member of staff at the Authority as they stated ‘New
supervisor cyching [sic] up basically. Don’t let it get in way of action'. BOS’s
response to the Authority on 11 May 2009 included that `A complaint was made to
[a police force] by a customer, no action was taken. HBOS did not involve the Police
in any aspect of Reading.’ BOS also informed the Authority that the BBC would be
broadcasting a programme about the issues in IAR which look into claims that BOS
failed to investigate properly the concerns of customers and would raise questions
about whether suspicious behaviour brought to the attention of the bank was
reported to the appropriate authorities.

4.159. On 22 May 2009, during a meeting with BOS the Authority requested that a copy

of BOS’s investigation report be provided.

4.160. On 26 May 2009, the BBC broadcast the results of a ‘File on 4’ investigation into

IAR and referred to the links between Mr Scourfield and QCS. The broadcast of
these findings led to a parliamentary debate on 2 June 2009.

4.161. Ahead of the `File on 4’ broadcast, BOS had prepared a briefing note on customer

cases that were likely to be referred to during the programme. BOS noted that one
of the customers had `suggested that business plans and forecasts prepared by
him were subsequently substantially and unrealistically inflated by QCS with [Mr
Scourfield’s] knowledge.’

4.162. The CFCP Team produced a summary on 26 May 2009 that stated `Background is

that Lynden Scourfield was a relationship manager dealing with the high risk
portfolio in Reading. He often used a recovery “expert” – [an individual connected
to QCS] and the allegations were that LS had a cosy arrangement with [an
individual connected to QCS] in that he would parachute [an individual connected
to QCS] into struggling companies and extend increased credit facilities that would
be creamed off leaving the original borrowers deeper in debt and losing homes put
up as security etc.’

4.163. On 17 June 2009 BOS provided to the Authority a two-page short overview

document of the investigation which was dated 21 January 2009. The summary
had been prepared previously by the CFCP Team to update an individual from the
BOS Risk function. Some of the information in this overview document had been
provided in a more limited format in the email of 24 October 2007 to the Authority.
The summary stated that the investigators ‘could find no firm evidence of direct
personal benefit. The closest thing was some e-mail correspondence referring to a
business trip to the US and a holiday in Barbados, however nothing specific or
substantiated. In addition, an Insolvency Practitioner advised of his suspicions
regarding an “exit fee” …In conclusion there is a lack of evidence that the
individual’s actions were for personal gain or of a fraudulent nature…’.

4.164. The Authority submitted a SAR to SOCA on 26 June 2009.

4.165. The Authority noted that the document referred to a full report having been

produced and on 26 June 2009 requested that the full copy be provided. The
Authority also requested other information including details of the management of
the investigation, the extent and value of money lent because of QCS involvement
and any referrals that had been made to the police.

4.166. On 9 July 2009, BOS provided the full report to the Authority. BOS also provided a

timeline of events and a briefing note on reporting by BOS to the Authority about
the issues that had been identified in IAR. The Authority’s conclusion on reviewing

the full report was that it was ‘very poor’ with many unanswered questions. When
the Authority raised this concern and queried whether any other reports had been
produced as it was so poor, it was agreed by BOS in discussions with the Authority
on 16 July 2009 that the report was ‘woefully inadequate’, that no further reports
had been identified by BOS and that there were many ‘unanswered questions about
the conduct of [Mr Scourfield]’.

4.167. The Authority met with BOS on 16 July 2009 and it was agreed that BOS would

provide the Authority with further relevant information. It was also discussed
whether further investigation of the issues was required by the Authority and/or
BOS. On 10 August 2009, the Authority confirmed that it would be preferable for
any investigation work to be conducted by an independent person and the Authority
would consider further how that would be taken forward. This resulted in the
appointment on 23 October 2009 of a skilled person, under Section 166 of the Act,
to conduct the investigation work (see paragraphs 4.169 to 4.173).

4.168. It was around this time (July 2009) that the Authority also obtained information

about a potential fraud from a customer of IAR. In this regard:

(1)
the Authority had received the allegation that there had been a potential
fraud from the customer of IAR in September 2007. The customer requested
a secure email address and dedicated contact to share information with the
Authority. The Authority did not set up such a facility, and instead suggested
alternative communication methods, but as a result further information was
not shared at that time;

(2)
the Authority was contacted again by the customer in August and September
2008. The main focus of the customer’s complaint related to FOS but also
raised allegations of fraudulent behaviour. The Authority’s response focused
only on the customer’s dissatisfaction with the outcome of their complaint
to FOS; and

(3)
the customer contacted the Authority again in December 2008 and June
2009 offering to share information with the Authority. The Authority
responded in July 2009 and arrangements were made for the details relating
to the allegations to be shared. This information has formed part of the
evidence that has been considered during the Authority’s investigation (see
further details of the investigation in paragraphs 4.174 to 4.181 below).

Skilled person’s report

4.169. The Authority determined, after having reviewed all the material that it had

received, that it was appropriate to appoint a skilled person under Section 166 of
the Act to investigate the Authority’s concerns regarding BOS’s response to the
discovery of the issues in IAR. After discussions within the Authority to agree the
scope of the review, the Authority provided a draft requirement notice to BOS on 4
September 2009. BOS provided comments on the draft on 9 and 18 September
2009.

4.170. On 19 October 2009, the Authority issued the formal requirement notice to BOS

requiring it to appoint a skilled person. The scope of the review required that the
skilled person assess (among other things):

(1)
the adequacy of the fraud investigative policies and procedures that
governed the investigations by BOS at the time;

(2)
the adequacy of the fraud investigative work conducted by BOS in relation
to discovery of the issues in IAR including related management decisions;

(3)
the adequacy of BOS’s handling of issues related to customers who suffered
losses and any customer complaints filed in relation to the issue in IAR;

(4)
whether the honesty and integrity of any individuals may be called into
question; and

(5)
the financial impact on Mr Scourfield’s customers who dealt with QCS and
whose loans became impaired. It was agreed between the skilled person,
the Authority and BOS that the skilled person would not seek to evaluate
whether the increased lending improved business stability and/or
sustainability, or whether there were trading losses arising through either
the provision of increased facilities or their curtailment. The review therefore
focussed on fees paid to QCS.

4.171. BOS issued a formal letter of engagement to the skilled person on 23 October 2009.

The skilled person’s report into the matters under investigation was issued on 9
July 2010 (after a draft report was initially produced on 23 April 2010). To
investigate the matter the skilled person reviewed:

(1)
a sample of files for customers whose loans had become impaired and where
Mr Scourfield was the relationship manager;

(2)
the policies and procedures that governed the financial crime investigation,
the work that was performed by the BOS investigation team and the action
that was taken as a result of that investigation;

(3)
how BOS handled the complaints that were raised by customers; and

(4)
the role of any individuals, within BOS or third parties, who were involved
with the matters identified within IAR.

4.172. The skilled person’s key findings included that:

(1)
whilst the information reviewed could not in itself evidence whether a fraud
had been perpetrated on BOS, or whether customers had been
disadvantaged, there were unanswered questions about the practices within
IAR;

(2)
from the files reviewed by the skilled person, six business customers had
made a formal complaint but, apart from one business customer, full details
had not been recorded on the HBOS complaint management system;

(3)
no direct evidence could be identified to confirm whether Mr Scourfield
benefitted financially from the lending that he oversaw but there were a
number of unanswered questions in relation to his conduct;

(4)
there were certain shortcomings in the investigative work conducted by BOS
and the rationale for certain decisions, including the rationale for the
decision not to pursue further investigative work despite it being
recommended in the 5 July 2007 addendum to Senior Manager D’s report
(see paragraphs 4.76 to 4.88 above);

(5)
no direct evidence of dishonesty or lack of integrity by QCS, and associated
individuals, was identified but there were a number of unanswered questions

that had been identified from the sample of customer files that were
reviewed; and

(6)
from the sample of customer files reviewed, over £3.9 million of actual
payments to QCS, related entities and individuals had been identified. There
was also a further £4.1 million that had potentially been paid but could not
be confirmed. Of the £3.9 million of actual payments made to QCS just over
£3 million had been paid by customers with the remaining sum being paid
by BOS and others.

4.173. The Authority provided a copy of the draft skilled person report to TVP in July 2010

and the final report in September 2010.

The Authority’s investigation

4.174. The Authority appointed investigators to conduct an investigation into BOS on 4

June 2010.

4.175. The initial focus of the Authority’s investigation was into whether:

(1)
the investigation by BOS in 2007 was adequate;

(2)
the complaints received from customers had been handled appropriately;
and

(3)
the controls over commercial lending within IAR were adequate.

4.176. The Authority’s investigations into the first two concerns were subsequently closed.

As the commercial lending at the heart of the issues at IAR is an unregulated
activity the Authority does not have jurisdiction to investigate the controls over
commercial lending and complaints in respect of that lending other than in certain
specific circumstances. Those specific circumstances were not met in this case.

4.177. The Authority’s investigation into the controls within IAR continued as part of a

wider investigation into the controls across the Corporate Division. On 9 March
2012, the Authority published a Final Notice against BOS for failures in the Firm’s
control framework within the Corporate Division. These failings were illustrated in
part with reference to the issues within IAR. The paragraphs referring to IAR were
redacted at the time of publication at TVP’s request to ensure that no prejudice
would be caused to the ongoing investigation by TVP. The redactions were
subsequently removed on 4 July 2017 following the completion of the criminal
prosecutions.

4.178. During the Authority’s investigation, evidence was identified which suggested that

BOS may not have promptly or clearly reported information that raised suspicions
of fraud and/or corruption to the Authority. The scope of the investigation was
amended on 20 February 2012 to consider whether BOS may have breached
Principle 11.

4.179. When the Authority informed BOS that it was proposing to change the scope of the

investigation, BOS responded that:

`[BOS] did not identify any conclusive evidence of personal gain or dishonesty
arising from the breach of internal processes and controls. Although it is arguable,
with hindsight, that more could have been done at the time to investigate whether
evidence of criminal conduct might be uncovered, it is nonetheless apparent that
there was a genuinely held belief at the time that the matter had been properly

investigated and that no firm evidence of fraud had been uncovered’ and `lt is clear
from the CFCP terms of reference that there was a concern within [BOS’s] senior
management to establish whether the breach of process was motivated by financial
gain or involved any criminal conduct by employees. However, the CFCP
investigation concluded that there was insufficient evidence to suggest that there
had been any personal gain or fraudulent activity’. BOS also added: `Although the
[Skilled Person’s] report is critical of the quality of the CFCP investigation and the
decision not to continue with further investigative work, they were unable to
conclude that any employee had acted dishonestly or that there was any evidence
of fraud having been perpetrated against HBOS. They also concluded that there
was no evidence calling into question the honesty or integrity of those who had
carried out the internal investigation or, indeed, of HBOS Corporate Management’.

4.180. On 21 August 2013, the Authority placed its investigation on hold at the request of

TVP. By this time the Authority had determined that it would be necessary to
interview a number of individuals. TVP informed the Authority that some of the
individuals had already provided witness statements and that they might be called
as witnesses in the criminal proceedings.

4.181. The Authority’s investigation into BOS, that is the subject of this Notice, was

restarted in February 2017.

Discovery of misconduct relating to an exit fee

4.182. As explained earlier, the investigation by BOS of IAR in 2007 identified a potentially

suspicious exit fee. Despite having suspicions, BOS did not report the matter to the
police or any other law enforcement as BOS considered it had insufficient evidence.
It was not until the Authority reported the issues within IAR to SOCA that this fee
was investigated for potential criminal misconduct. The subsequent criminal
investigation identified evidence of a corrupt relationship between Mr Dobson and
individuals connected to QCS. Whilst the Authority acknowledges that the evidence
proving the corrupt relationship was not available to BOS at the time, BOS did not
investigate who had approved the payment and without the Authority’s actions to
report the suspicions Mr Dobson’s criminal misconduct may not have been
identified.

4.183. On 12 December 2006, a fee of £152,750 which was intended for BOS had been

credited to a business banking account instead. On 13 December 2006, the funds
were paid to an offshore account that was linked to an individual from QCS. The
investigation in 2007 focused on whether the destination of the payment was
suspicious. BOS did not consider the reasons why the payment had been made or
who had approved the payment (as was subsequently proved at the criminal trial
it had been approved by Mr Dobson).

4.184. BOS was subsequently contacted by a number of insolvency practitioners between

April 2008 and March 2009 who asked for clarification about the basis for the
payment. The response to these queries were dealt with by Mr Dobson or by
solicitors for BOS with directions from Mr Dobson.

4.185. In December 2009, Mr Dobson was asked, during the skilled person’s review,

whether he recall any details relating to the payment but he responded that he
could not.

4.186. During his trial, the prosecution’s case against Mr Dobson included that he allowed

the fee to be paid to parties connected with QCS without the authority of the bank,
the business customer or the administrator and in return Mr Dobson received a
payment of £30,000.

4.187. BOS did not report to the Authority any suspicions about the exit fee until 24

October 2007, and even then it portrayed the suspicions as an insolvency
practioner’s suspicions rather than its own. In failing to be open and cooperative
with the Authority and disclose appropriately information about these matters there
was a significant delay in Mr Dobson’s criminal misconduct being identified.

5.
FAILINGS

5.1.
The regulatory provisions relevant to this Notice are referred to in Annex A.

5.2.
Principle 11 required the Firm to deal with the Authority in an open and cooperative
manner and to disclose appropriately information of which the Authority would
reasonably expect notice.

5.3.
The Authority considers that BOS breached Principle 11 because it failed to be open
and cooperative and failed to disclose information appropriately in its
communications with the Authority between 3 May 2007 to 16 January 2009. In
particular, BOS:

(1)
on 26 May, 24 July and 28 September 2007, informed the Authority that
there was `no evidence of fraud’ when in fact BOS had identified suspicious
conduct suggesting an inappropriate and potentially corrupt relationship. As
a result of these communications the Authority believed that BOS had been
emphatic that there was no evidence that Mr Scourfield was acting
fraudulently or corruptly;

(2)
did not disclose to the Authority that the investigation had been closed on
13 August 2007 despite there being a number of unanswered questions and
despite the investigation team recommending that further investigative
work should be conducted;

(3)
when eventually providing a brief summary of its investigation to the
Authority on 24 October 2007, despite being aware that the Authority’s
understanding was that BOS emphatically believed no fraud had occurred,
BOS failed to correct its previous messaging. In particular BOS failed to tell
the Authority that it had in fact been unable to draw a definitive conclusion
as to whether fraud had occurred, and failed to provide a copy of its full
investigation report; and

(4)
did not disclose to the Authority that it had been contacted by two police
forces in 2008 regarding allegations of fraud, that one police force had
suggested there may be evidence for BOS to make a report but BOS, having
considered the information that it had identified, decided not to report the
issue.

6.
SANCTION

6.1.
The Authority’s policy for imposing a financial penalty is set out in DEPP and EG. In
determining the financial penalty, the Authority has had regard to this guidance.

6.2.
Since BOS’s conduct occurred before the introduction of the new penalty regime on
6 March 2010, the Authority has had regard to the penalty regime that was in place
prior to 6 March 2010.

6.3.
For the reasons set out above, the Authority considers that BOS breached Principle
11. In determining that the financial penalty is appropriate and proportionate in

this case, the Authority has considered all the relevant circumstances. The
Authority considers the following factors to be particularly important.

6.4.
BOS is a large, sophisticated financial institution with a large potential to impact
consumers, including business customers. Whilst the underlying business was
unregulated, BOS was required to report matters where there was a potential
significant impact on both the Firm and its customers. Given the circumstances of
this case, the Authority considers it necessary to send a robust message to firms
as to the fundamental importance of behaving openly and cooperatively and
disclosing appropriately when communicating with the Authority.

Seriousness and impact of the breach

6.5.
The Authority has had regard to the seriousness of the breach including the nature
of the requirement that was breached, the duration and frequency of the breach.
The Authority considers the breach to be particularly serious for the following
reasons:

(1)
the suspicions related to potentially serious criminal offences by staff at BOS
and QCS;

(2)
the individuals who communicated to the Authority were senior and
experienced managers and should therefore have appreciated what
information should be communicated to the Authority;

(3)
BOS was aware before its first communication with the Authority in May
2007 that the impact of Mr Scourfield’s misconduct was significant and would
result in substantial losses to BOS. By June 2007, BOS had estimated the
losses were approximately £50 million. It was later assessed that the total
losses to BOS were £245 million and compensation to customers could be
up to £115 million although the full impact will not be confirmed until redress
has been calculated and an independent quality assurance review has been
completed;

(4)
the Authority specifically told BOS on 14 May 2007 that it wished to be
updated about any fraud that may have occurred. BOS confirmed that it
would ensure that the Authority was informed should any suggestion of
fraud be identified. BOS had numerous opportunities to inform the Authority
about the information suggesting that there may have been a fraud, but did
not do so. Whilst BOS provided limited information in October 2007,
following a request by the Authority, the information was only finally
disclosed in full at the request of the Authority, after a period of around two
years, in July 2009;

(5)
the information was material to the Authority’s assessment of BOS’s
response to the identification of the issues, changes to its procedures, its
approach to the complaints received from customers and consideration of
any losses to both the Firm and the customers involved; and

(6)
BOS did not report its suspicions to any other law enforcement agency.
Instead it was the Authority that submitted a SAR in June 2009. If BOS had
communicated its suspicions appropriately to the Authority, as it should
have done, the criminal misconduct could have been identified much earlier.
This delay risked creating difficulties for TVP when obtaining and reviewing

evidence years after the fraud had taken place and risked prejudicing the
interests of justice.

The nature of the breach

6.6.
As set out at paragraph 5.3 above, BOS’s Principle 11 breach was not a one-off
misjudgement or miscalculation. On numerous occasions, over a period of nearly 2
years, BOS failed properly to understand and appreciate the significance of the
information that it had identified despite clear warning signs that fraud might be
involved. Whilst BOS did not intend to breach Principle 11, it failed to give proper
consideration to the need to disclose the suspicious information that it had identified
to the Authority. There was insufficient challenge, scrutiny or inquiry across the
organisation; the totality of the information that had been identified was not
properly evaluated; and there was no assessment or understanding of the impact
that failing to give a full and complete picture to the Authority was likely to have
(on which see paragraphs 2.9(6) and 2.9(7) above), nor is there any evidence
anyone realised or thought that a failure to inform the Authority would delay
investigation by relevant law enforcement authorities or prejudice the interests of
justice. On any reasonable basis, BOS should have appreciated that it was required
to inform the Authority fully about the information which raised suspicions that a
significant fraud may have occurred and this failure constituted a substantial failure
by BOS.

The size, financial resources and other circumstances of the firm

6.7.
BOS is a large, sophisticated and well-resourced financial services institution. BOS
had plenty of resources and expertise to investigate the misconduct in IAR and
provide the Authority with appropriate information. BOS did not do that.

6.8.
A public censure was issued by the Authority against BOS on 9 March 2012 in
relation to failings within the Corporate Division between January 2006 and March
2008. Those failings were in part illustrated by the control failings within IAR. At
the time that the public censure was issued, the Authority considered that a
financial penalty would have been proportionate to the misconduct however the
Authority decided not to impose a financial penalty due to exceptional
circumstances. Those exceptional circumstances were that the misconduct
contributed to HM Government using public funds to acquire share capital in LBG
following the merger of HBOS and Lloyds TSB.

6.9.
The Authority does not consider that those exceptional circumstances apply to the
misconduct that is the subject of this Notice. Taking into account all relevant
factors, the Authority considers it is appropriate to impose a financial penalty on
BOS.

The amount of profits accrued or the loss avoided

6.10. BOS did not accrue profits or avoid losses as a result of the breach of Principle 11.

Conduct following the breach

6.11. BOS and LBG have cooperated with the Authority’s investigation, including

proactively providing relevant material.

Disciplinary record and compliance history

6.12. Disciplinary action has been taken against BOS by the Authority a number of times

both before and after the Relevant Period. The Firm has not however previously
been disciplined for breaches of Principle 11.

Other action taken by the Authority

6.13. In determining the level of financial penalty, the Authority has taken into account

penalties imposed by the Authority on other authorised persons for similar
behaviour.

Conclusions as to penalty

6.14. The Authority considers in all the circumstances that the seriousness of the breach

merits a substantial financial penalty and hereby imposes a financial penalty of
£45,500,000 (£65 million pre-stage 1 discount).

7.
PROCEDURAL MATTERS

7.1.
This Notice is given to BOS under and in accordance with the section 390 of the
Act. The following statutory rights are important.

Decision maker

7.2.
The decision which gave rise to the obligation to give this Notice was made by the
Settlement Decision Makers.

Manner and time for payment

7.3.
The financial penalty must be paid in full by BOS to the Authority no later than 4
July 2019.

If the financial penalty is not paid

7.4.
If all or any of the financial penalty is outstanding on 5 July 2019, the Authority
may recover the outstanding amount as a debt owed by BOS and due to the
Authority.

7.5.
Sections 391(4), 391(6) and 391(7) of the Act apply to the publication of
information about the matter to which this notice relates. Under those provisions,
the Authority must publish such information about the matter to which this notice
relates as the Authority considers appropriate. The information may be published
in such manner as the Authority considers appropriate. However, the Authority
may not publish information if such publication would, in the opinion of the
Authority, be unfair to you or prejudicial to the interests of consumers or
detrimental to the stability of the UK financial system.

7.6.
The Authority intends to publish such information about the matter to which this
Final Notice relates as it considers appropriate.

Authority contacts

7.7.
For more information concerning this matter generally, contact Helen Tibbetts at
the Authority (direct line: 020 7066 0656/email: Helen.Tibbetts@fca.org.uk).

Financial Conduct Authority, Enforcement and Market Oversight Division

ANNEX A – Legal requirements

1.
The Act

1.1.
During the Relevant Period:

(a)
the Authority’s regulatory objectives, as set out in section 2(2)(d) of the Act,
included the reduction of financial crime;

(b)
Under section 6(1) of the Act the reduction of financial crime objective was
`reducing the extent to which it is possible for a business carried on (a) by
a regulated person…be used for a purpose connected with financial crime’.

(c)
Section 6(3) of the Act defined financial crime as including any offence
involving `(a) fraud and dishonesty…’

1.2
Under section 206 of the Act, the Authority may impose a penalty, in respect of a
contravention of a relevant requirement, of such amount as it considers
appropriate.

2.
PRIN

2.1.
During the Relevant Period, the Principles for Business (contained in PRIN in the
Authority’s Handbook) were issued by the Authority pursuant to, amongst other
sections, section 138 of the Act. Principle 11 (Relations with regulators) stated that:
`A firm must deal with its regulators in an open and cooperative way, and must
disclose to the FSA appropriately anything relating to the firm of which the FSA
would reasonably expect notice.’

2.2.
During the Relevant Period PRIN 3.2.3R provided that Principle 11 also applied:
`with respect to the carrying on of unregulated activities…’

3.
Relevant Rules and Guidance from Supervision (SUP)

3.1.
Chapter 15 of SUP relates to requirements over notifications to the Authority.

3.2.
During the Relevant Period:

(a)
SUP 15.1.4R stated `This chapter: (1) applies with respect to the carrying
on of both regulated activities and unregulated activities…’

(b)
SUP 15.3.17R required that `A firm must notify the FSA immediately if one
of the following events arises and the event is significant;…

(2) it becomes aware that a person, whether or not employed by it, may
have committed a fraud against it;…’

(c)
The guidance in relation to SUP 15.3.17R stated that:

SUP 15.3.18G: `In determining whether a matter is significant, a firm should
have regard to:

(1) the size of any monetary loss or potential monetary loss to itself or its
customers (either in terms of a single incident or group of similar or related
incidents);

(2) the risk of reputational loss to the firm; and

(3) whether the incident or a pattern of incidents reflects weaknesses in the
firm’s internal controls’.

SUP 15.3.19G: `The notifications under SUP 15.3.17R are required as the
FSA needs to be aware of the types of fraudulent and irregular activity which
are being attempted or undertaken, and to act, if necessary, to prevent
effects on consumers or other firms. A notification under SUP 15.7.3G should
provide all relevant and significant details of the incident or suspected
incident of which the firm is aware.’

SUP 15.3.20G: `In addition, the firm may have suffered significant financial
losses as a result of the incident, or may suffer reputational loss, and the
FSA will wish to consider this and whether the incident suggests weaknesses
in the firm’s internal controls’.

(d)
SUP 15.6.1R required that `A firm must take reasonable steps to ensure
that all information it gives to the FSA in accordance with a rule in any part
of the Handbook (including Principle 11) is:

(1) factually accurate or, in the case of estimates and judgments, fairly and
properly based after appropriate enquiries have been made by the firm; and

(2) complete, in that it should include anything of which the FSA would
reasonably expect notice.’

4.
Decision Procedure and Penalties Manual (DEPP)

4.1.
Guidance on the imposition and amount of penalties is set out in Chapter 6 of DEPP.
Changes to DEPP were introduced on 6 March 2010. Given that the misconduct
occurred prior to that date, the FSA has had regard to the provisions of DEPP in
force prior to that date. The FSA has also had regard to the provisions of the
Enforcement Manual in force prior to 28 August 2007, in relation to the misconduct
which occurred prior to that date.

4.2.
DEPP 6.1.2 provides that the principal purpose of imposing a financial penalty is to
`promote high standards of regulatory and/or market conduct by deterring persons
who have committed breaches from committing further breaches, helping to deter
other persons from committing similar breaches, and demonstrating generally the
benefits of compliant behaviour.’