Monday, April 27, 2009

Is Ken Lewis Just Naive or Tone Deaf?

Bank of America’s annual meeting is Wednesday. With any luck shareholders will vote Chair Ken Lewis and the rest of the Board of Directors out of office.

Shareholders are outraged at the $50 billion paid for Merrill Lynch when the brokerage was failing. Lewis intentionally failed to inform B of A shareholders of this material fact before they voted on the merger. Only after completion of the merger was it announced that the bank would receive an additional $20 billion in TARP funds, further diluting the existing shareholders’ interests. The bank’s shares plunged to $3/share, and are still under water.

Merrill Lynch was hemorrhaging so bad that Lewis wished to scuttle the merger by invoking the “material adverse change” clause in the merger agreement. Such a public announcement would have sunk Merrill Lynch and in the words of then Secretary of the Treasury Henry Paulson would have “posed a systemic risk.”

Lewis further claims that Secretary Paulson and Federal Reserve Chair Ben Bernancke admonished him not to tell shareholders of Merrill’s risky condition. The Secretary purportedly said “We do not want public disclosure.”

Secretary Paulson could not risk the collapse of the largest investment banking firm, Merrill Lynch, in the aftermath of the Lehman Brothers collapse, which sent the global credit markets into a global freeze. The global economy was in danger of plunging into a depression. The Bush Administration threw money into the breach to save what was left of Wall Street. Lehman crippled the world’s financial markets.

Paulson admits applying pressure to Lewis, but denies Bernancke was involved. Both deny providing Lewis any advice on disclosure

Apparently, neither a recording nor transcription of the meeting exists.

This dispute is over a multibillion conversation. Utterly amazing that apparently neither a recording nor transcript exits of these conversations in light of their significance! What we have here is a multi-billion dollar failure to communicate.

It reminds me of one of my favorite quotes as a professor. “I know what I said, and you know what you heard. But I know that what I said is not what you heard.”

In essence, B of A acquired Merrill Lynch in a shotgun wedding. The Bank had buyer’s remorse before the marriage was consummated.

Even without the power possessed through the issuance of preferred stock and warrants for TARP financing, federal regulators have tremendous power over the nation’s banks; indeed, the power of life and death.

Congress enacted the $750 billion TARP Fund, with almost no limits on the power of the Secretary of the Treasury to distribute the funds.

Secretary Paulson called the heads of the nation’s top 13 banks and investment banks into his office on October 13, 2008 and informed then that they would receive TARP funds in exchange for preferred stock and warrants.

Richard Kovacevich of Wells Fargo and Jamie Dimon of J.P. Morgan Chase protested they did not need the funds. They were adequately funded and had avoided the toxic subprime mortgages that were threatening the American and world banks.

As recounted by Fortune magazine, Secretary Paulson responded: “Your regulator is sitting right there” (pointing to Comptroller of the Currency John Dugan and FDIC Chair Sheila Bair) and continued “[Y]ou’re going to get a call tomorrow telling you you’re undercapitalized and that you won’t be able to raise money in the capital markets.”

A Fed willing to summarily fire Rick Wagoner, the Chair of GM, and half its Board of Directors, would not hesitate to throw out the entire Bank of America management.

I believe Lewis, but it doesn’t matter. He owed the shareholders both a fiduciary duty and the securities regulation duty to disclose material facts to them before they voted. That is the purpose of proxy statements and amended proxy statements. Apparently, no facts have surfaced that he even consulted legal counsel for advice.

Remember also that he initially claimed to be a surprised as anyone of Merrill’s large loss of $15.84 billion during the 4th quarter of 2008 and was shocked by the $3.62 billion bonuses. Lewis was shocked, just shocked, straight out of the classic scene from Casablanca.

We now know that he was aware of these developments along the way. He had agreed to the acceleration of the bonuses.

John Thain, Chair of Merrill Lynch, was fired by Lewis shortly after the acquisition of Merrill Lynch. Thain is outraged by his treatment and the misstatements about Merrill’s bonuses and economic condition. He could prove an interesting witness in any securities fraud litigation against Lewis and the B of A Board.

Lewis’ initial recollection was wrong once, and hence, perhaps again.

Interestingly, he now defends the mergers by bragging that Countrywide and Merrill Lynch are primarily responsible for B of A’s reported $4.2 billion in first quarter profits. Merrill accounted for $3.7 billion, or 90% of the bank’s profit. If so, that doesn’t say much about the core Bank of America business he was overseeing.

If his remarks are interpreted literally, Lewis sold out the shareholders of the Bank of America to keep his job.

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