Treasury mulls U-turn on Lloyds TSB dividends

The Government is considering a controversial U-turn that would allow Lloyds TSB to pay dividends to shareholders while still taking advantage of its £37bn bank bailout scheme.

The move would cause anger among critics who are adamant that taxpayers' cash must be used solely to rescue the banks, while Royal Bank of Scotland would be likely to lobby for a similar concession.

Even so, ministers are considering easing their stance in the face of rising hostility among Lloyds shareholders that threatens to jeopardise the bank's takeover of HBOS, a deal the Government desperately wants to go through.

Lloyds announced on Monday that it would raise £4.5bn of capital by selling new shares underwritten by the Government. It also agreed to sell £1bn of preference shares to the Government.

Under the Treasury's agreement with Lloyds, Royal Bank of Scotland and Halifax Bank of Scotland, all three banks will have to suspend dividends to shareholders while the Government holds their preference shares.

However, the dividend issue has caused huge consternation among investors in Lloyds, many of which are income funds that have bought the stock on the basis of its dividend payout. Lloyds' attraction to such investors increased in August when it raised the interim dividend.

A sell-off by anxious shareholders led to a 6.6 per cent fall in the bank's shares yesterday. It was the biggest faller among the part-nationalised banks.

The Government is now considering lifting the ban on dividends for Lloyds, which it is in any case less hostile towards, because of its bailout of HBOS and more traditional banking model. Lloyds said last month it would pay its final dividend in shares to conserve capital because of the HBOS deal. Shareholders accepted this because the deal, waved through by the Government, would give it massive market shared in the UK.

Colin Morton, a fund manager at Rensburg, said: "Until HBOS, everybody thought Lloyds would pay a cash dividend. It has gone from being one of the two banks with the safest dividend, to paying it in shares, to paying none at all."

The Treasury is also said to be considering agreeing to a lock-in on the ordinary shares it buys in Lloyds to remove investor fears that the Government could sell its ordinary shares if the price rises above the 173.3p offer price. A lock-in to prevent this kind of "overhang" traditionally lasts six months to two years.

The Government has already given Lloyds easier terms than RBS and HBOS, including allowing it to pay cash bonuses to directors. But this has not been enough to help the shares. By contrast, Barclays, which is going it alone to raise new capital in the market, rose 14 per cent yesterday despite Moody's saying it might cut the bank's debt rating. Royal Bank of Scotland shares fell only 1.1 per cent yesterday to 65p, just below the offer price for its planned £15bn share sale.

RBS also revealed that its head of global banking and markets had stood down due to ill health. The departure of Brian Crowe yesterday came as RBS started to cut back some of the operations he oversaw after seeking rescue capital from the Government, though RBS said the timing of his departure was coincidental. Mr Crowe was one of the two chief lieutenants to Johnny Cameron, the bank's head of global markets who left the board on Monday.

An RBS spokesman said: "Brian's departure on health grounds has been planned for a number of months and it is with regret that he is leaving but it is with the complete understanding that his priority needs to be to take the necessary steps to look after his own health."