Fine print - March 2009
Old reality: Bank of America Corp. neither needed nor particularly wanted billions of dollars the federal government thrust into its hands a few months ago as bureaucrats sought to stanch the hemorrhaging of the economy. New reality: BofA not only needed that money after agreeing to acquire Merrill Lynch & Co., it needed billions more to cover the steaming piles of losses the Thundering Herd had left behind. Old reality: BofA not only got a legendary brokerage, it got the valuable services of Merrill chief John Thain, who would smooth the merger. New reality: Thain is a knucklehead who got the bum’s rush for fiddling while Wall Street burned — presiding over losses worse than anyone at the bank imagined and ladling out lavish last-minute bonuses. Old reality: BofA chief Ken Lewis did all the things right that rival Wachovia Corp. CEO Ken Thompson did wrong. New reality: Merrill Lynch might end up doing to BofA what buying Golden West Financial Corp. did to Wachovia — saddle it with losses so huge that a once-proud giant ends up a ward of the state.
There are a couple of lessons here, the first being that the initial interpretation of events is rarely the definitive one. People in the news business like to think of themselves as compiling history’s first, rough draft. The reality is that they, like the blind men of lore, are describing only the one part of the elephant that has revealed itself at that moment. It’s a wise person who consumes the daily news report with that in mind. The second lesson is that even the smartest people can make themselves believe the mistakes of others don’t apply to them. Elizabeth Taylor’s seventh husband no doubt convinced himself that his marriage to the mercurial actress would be different from the rest. (It wasn’t; they divorced.)
You have to wonder why Lewis would launch himself into the same waters where Wachovia foundered. In mid-2007, he engineered a $2 billion investment in Countrywide Financial Corp., an aggressive mortgage lender that already was feeling the effects of the housing slump. Six months later, BofA’s stake in Countrywide was worth about a quarter of that. Lewis’ response? BofA announced in January 2008 that it would buy the whole outfit, lock, stock and profit-leaking barrel — though the housing market was worse and Countrywide losing value so fast that the purchase price kept being recalculated downward. The deal closed just three days after Thompson was ushered out at Wachovia, largely on the basis of staking his bank’s future on the purchase of another high-flying mortgage lender gone bad.
The case can be made that BofA had to protect its investment. But even that presupposes breathtaking hubris on the part of the bank’s top executives. They seemed to believe that BofA’s size and wealth could shape events and that the pitfalls of throwing good money after bad didn’t apply. You know what? If they had stopped there, they might have been right. Countrywide was, at worst, an anchor dragging down profits. Merrill Lynch, on the other hand, was a coral reef. It was a shipwrecker.
Merrill was a failed enterprise in September, when Lewis agreed to acquire it after only a weekend’s worth of due diligence. By the time 2008 ended, Merrill had posted a net loss of $27 billion — more than half of it coming in the fourth quarter — leaving BofA desperate for cash. What’s more, the two institutions were cultural opposites. The Wall Street Journal reported that while the average Merrill employee got $247,000 in compensation and benefits last year, the average BofA worker made less than $76,000. When the news broke that Thain had resigned, “a standing ovation erupted on the bank’s equities-trading floor in New York,” the Journal said. In short, this is a marriage even Dr. Phil would be hard-pressed to save.
So how has BofA benefited from Lewis’ ambitions? In little more than three months — from the time the bank announced the deal until it closed — BofA went from a relatively stable bank with manageable toxic-asset exposure to subject of speculation as to whether it or Citigroup would be the first bank to be declared an irreversible mess and fully nationalized. Its share price tumbled from an October peak of more than $38 to dip below $4 on Feb. 5. The federal government now owns $45 billion worth of BofA preferred shares, thus becoming the tail that wags the dog — which it demonstrated in December once Lewis sought to back out of the deal when he grasped the scope of Merrill’s loses. That’s when the feds flexed their muscle.
Though Lewis has called the prospect “just absurd,” the result might well be that Bank of America’s name becomes literal.