The Real Options Monster: TARP and the U.S. Taxpayer

Includes: ONB, XLF
by: Ira Artman

Would someone please put the SEC out of its post-Madoff misery?

It would save the more than $900 million that it costs to annually fund an agency that missed the self-confessed (that’s English for “the SEC had no idea”) $50+ billion Ponzi scheme.

It would also save us the bother of reading "ridiculous" stories such as these:

May 18 (Bloomberg) -- Monster Worldwide Inc. (NYSE:MWW), the world’s largest online recruiting company, will pay $2.5 million to resolve SEC accusations that it misled the public about its stock options.

… Settlement papers were filed today in federal [case in which a Monster executive was found] … guilty …of defrauding investors by improperly accounting for backdated stock options at the company.

Source: D. Glovin, Bloomberg, Monster to Pay $2.5 Million, Settle SEC Option Case, 18 May 2009.

I say “ridiculous” because while the SEC is pursuing these penny-ante options fraud cases, the US government is quietly negotiating to give back warrants to TARP participants that are worth billions of dollars.

You want improper accounting? How about $4.72 billion worth?

As described by the US Treasury in the TARP application (in a 12 point font that’s more than three times the size of the fine print used in bank credit card agreements):

[The Treasury has obtained 10 year] … warrants [that are]… convertible into an amount of [the applicant’s] common stock … equivalent in value to 15% of the amount of the capital purchased by the Treasury from the applicant under the TARP Capital Purchase Program, based on the average of closing prices of the common stock on the 20 trading days … prior to the execution date of the [TARP CPP] Purchase Agreement.

Source: FDIC, Application Guidelines for TARP Capital Purchase Program, Page 3, 2008.

Due to the long 10-year term of these warrants, they are quite valuable.

Linus Wilson is a Professor of Finance at the University of Louisiana at Lafayette. His recent writings and thoughts hint at the size of the government’s contemplated give-away.

Last week, Professor Wilson looked at the agreement that the government made when it sold back TARP warrants owned by US taxpayers to Old National Bank (NYSE:ONB). In his SeekingAlpha post he wrote that US taxpayers received “71% less than the median of my lowest and highest estimates” of their value.

What will it cost taxpayers if – for example – other TARP participants are able to negotiate deals as sweet as that struck by Old National Bank?

The 19 May 2009 New York Times DealBook reports that Professor Wilson currently estimates the value of ALL of the US taxpayer TARP warrants at about $6.65 billion.

(Note: I came up with the $6.65 billion figure by taking the midpoint of Professor Wilson’s high [$10.9 billion] and low [$2.4 billion] DealBook estimates for all TARP warrants. This is similar to what Professor Wilson did in his Old National Bank analysis.)

If we apply this same 71% “Old National Bank” haircut to the entire US taxpayer TARP warrant position (what’s fair is fair, right?), this suggests that taxpayers would only receive $1.93 billion, or about $4.72 billion less than Professor Wilson’s estimate.

So, the next time you see a story that says that “so-and-so will pay $2.5 million to resolve SEC stock options accusations ..." - don’t even bother to read it!

Why should you? You won’t even think about the $4.7 billion monster in the room. Why fill your brain with a mere $2.5 million?