Lloyds bond investors take fight to Supreme Court

By Steve Slater

LONDON, Jan 15 (IFR) - Investors in high-interest Lloyds Banking Group bonds that the bank wants to cancel have lodged an appeal with London's Supreme Court in a final attempt to stop the move.

Lloyds is trying to save £1bn by buying back the bonds, some of which pay annual interest of as much as 16%, and the UK bank won a Court of Appeals decision last month allowing it to proceed with the buyback.

But lawyers acting for the trustee submitted an appeal on January 6 to the Supreme Court, which is the top court in England whose decision would effectively be final. The Supreme Court is likely to take two to four months to decide whether to hear the case, and if it does, it would be several months later before it was heard.

Lloyds wants to buy back the bonds, called enhanced capital notes (ECNs), from investors at their par value. That should allow it to save on expensive interest payments worth £200m each year over about five years.

The Court of Appeal unanimously overturned an earlier High Court ruling and allowed the Lloyds plan. The bank's shares jumped after the decision, and prices on the bonds slumped in the secondary market, reflecting the expectation they would be bought back at par value.

The ECNs were issued by Lloyds in 2009, shortly after it was bailed out with £20.5bn by the UK government, and pay annual interest of between 6% and 16%.

The hybrid bonds convert into capital if the bank's capital ratio falls. But Lloyds said new UK and European capital rules meant the ECNs would no longer count as core capital and so would not provide the cushion they were supposed to.

Alexis Brassey, a lawyer who is an investor in the bonds, is coordinating investors to challenge the appeal. He said it would set a dangerous precedent for English contract law and all bond issues if Lloyds wins.

"If the [Court of Appeals] judgment stands it would be very dangerous for the bond market if issuers in the bond market can cry foul years after the event," said Brassey, managing partner at Cavendish Legal Group.

"When issuers are going out marketing their bonds you've got to make sure when people are buying it they know what they're getting. If a judge in London has rendered those terms potentially over-turnable then a risk premium will be built into the price," he said, suggesting that could make it more expensive for firms to issue bonds.

"If you move away from the idea of certainty in contract law, you are essentially building in an additional cost of capital for everyone," he told IFR.

Brassey said many institutions, including investment banks, hedge funds and pension funds were supportive of the appeal but he declined to name any, citing investor confidentiality. The bonds were also popular among retail investors because of the high interest they paid.

Lloyds issued about £8.3bn of the ECNs and has exchanged £5bn of them for new instruments, leaving about £3.3bn of the notes outstanding.

The bank said it intends to buy back £600m of the notes, most of which were due to mature in 2019/20, and will consider whether to buy back the other remaining ECNs. (Reporting by Steve Slater)