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Subs: Why The $50B Bank of America Suit Will Settle

Been doing more work on this after today’s earlier post. We have established a 1%-3% settlement rate on Securities Class Actions and an ~4 yr. time frame. But, why would plaintiff’s settle? Surely $BAC is guilty as hell and are responsible for the $50B in claimed losses, right?

What do claiments need to prove? That the Merrill deal, had investors known of the potential losses, they would have not voted for it and, solely because of the deal, they lost $50M in market cap.

Questions that need answers:

  • Was the stock deterioration due to Merrill deal or market factors
  • How much did Countrywide contribute to rapidly deteriorating results in 2008-09
  • Was $BAC strong armed into completing the deal by Gov’t officials and therefor omissions were due to that?

So, lets look at the lost $$.

Here is a chart of the major banks during the same time frame:

I’m not the only one who sees the same thing, right? While $BAC chimes in at a 55% loss, $C matched that and the other major banks averaged a ~30% loss in value.

So, $BAC can now argue “Hey, Merrill may have lost us money, but it did not lose $WFC, $STT, $JPM, $PNC, $C and the others money. If their shares prices fell, that fall was market specific, not company specific. The argument can be made that only 1/2 of the market cap loss at the most can be attributed to the Merrill deal. So now we are down to $25B in damages.

In July 2008 $BAC completed the Countrywide acquisition (NOT part of this lawsuit). In the Jan 2009 earnings release, Countrywide was already having a material negative effect on $BAC credit quality:

Credit Quality

Provision expense increased $18.44 billion to $26.83 billion in 2008 because of higher net charge-offs and additions to the reserve. The majority of the reserve additions were in the consumer and small business portfolios as the housing markets weakened and the economy slowed. Reserves on commercial portfolios were increased as the homebuilder and commercial domestic portfolios within Global Corporate and Investment Banking deteriorated.

Total managed net losses were $22.90 billion during 2008, or 2.27 percent of total average managed loans and leases, compared with $11.25 billion or 1.29 percent during the prior year. Net charge-offs totaled $16.23 billion, or 1.79 percent of average loans and leases, compared with $6.48 billion, or 0.84 percent in 2007. Portfolios directly tied to housing, including home equity, residential mortgage and homebuilders drove a significant portion of the increase. The weaker economy also drove higher levels of net losses across the Card Services portfolios as well as the commercial portfolios.

Was $BAC forced into the deal?

The Bank, in its January 16, 2009 earnings release, revealed massive losses at Merrill Lynch in the fourth quarter, which necessitated an infusion of money that had previously been negotiated with the government as part of the government-persuaded deal for the Bank to acquire Merrill. Merrill recorded an operating loss of $21.5 billion in the quarter, mainly in its sales and trading operations, led by Tom Montag. The Bank also disclosed it tried to abandon the deal in December after the extent of Merrill’s trading losses surfaced, but was compelled to complete the merger by the U.S. government. The Bank’s stock price sank to $7.18, its lowest level in 17 years, after announcing earnings and the Merrill mishap. The market capitalization of Bank of America, including Merrill Lynch, was then $45 billion, less than the $50 billion it offered for Merrill just four months earlier, and down $108 billion from the merger announcement.

Bank of America CEO Kenneth Lewis testified before Congress that he had some misgivings about the acquisition of Merrill Lynch, and that federal officials pressured him to proceed with the deal or face losing his job and endangering the bank’s relationship with federal regulators.[60]

Lewis’ statement is backed up in internal emails subpoenaed by Republican lawmakers on the House Oversight Committee. In one of the emails, Richmond Federal Reserve President Jeffrey Lacker threatened that if the acquisition did not go through, and later Bank of America were forced to request federal assistance, the management of Bank of America would be “gone”. Other emails, read by Congressman Dennis Kucinich during the course of Lewis’ testimony, state that Mr. Lewis had foreseen the outrage from his shareholders that the purchase of Merrill would cause, and asked government regulators to issue a letter stating that the government had ordered him to complete the deal to acquire Merrill. Lewis, for his part, states he didn’t recall requesting such a letter.

[60] LOUISE STORY and JO BECKER (June 11, 2009). “Bank Chief Tells of U.S. Pressure to Buy Merrill Lynch”. New York Times. Retrieved June 13, 2009

.

$BAC could make the point that they had to hide fact because the Fed and Treasury were commanding them to do the deal. With Gov’t maybe as equally as unpopular as bankers, it won’t take jurors much to start pointing figures in different directions.

So, of that $25B remaining, how much of the loss was due to the Merrill deal and how much was due to investors realizing the huge pile of shit Countrywide was turning into? Maybe 50/50? 60/40? Who knows but if we are going to come up with damages, the court has to put a number on it. $BAC can also argue that Merrill is now one of the best units of the bank so while it initially hurt results, it is helping tremendously now.

For those seeking $50B, as these doubts arrive and the potential payout shrinks, we will begin to hear the calls for settlement to get anything soon rather than potential far less many many years down the road. Running some of these numbers, it looks increasingly less likely any settlement approaches $1B

These suits are brought to settle, not to litigate.




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The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

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