Ken Lewis and BAC's Shareholders Got Hosed by the Feds

[Note that I originally posted this as an Instablog two weeks ago, but it seems to be even more relevant today, so I am reposting]

I have just finished reading 18 pages of emails between various US government officials in the weeks immediately preceding Bank of America's (BAC) acquisition of Merrill Lynch. Up until now, I have had little sympathy for Ken Lewis, as I had fallen victim to the general media sentiment that Ken Lewis is the devil and that he bears most of the responsibility for BAC's unwise decision to acquire Merrill.

However, I finally decided to quit relying on the media viewpoints and instead read the relevant emails myself.

Honestly, I am shocked at the government's puppet-mastering in this situation. Lewis never had a chance and frankly I believe BAC's shareholders should sue the government for their losses.

To form your own opinions, read the emails yourself here. Lewis knew that BAC's failure to fully disclose Merrill's problems to its shareholders was wrong and he was asking the government to back him up if he got sued. The government refused to do so, but still clearly threatened the jobs of Lewis and his Board if he canceled the acquisition.

These emails show management being forced to make decisions under duress and I believe the U.S. government should bear the responsibility for the resulting losses. Further, Bernanke should be forced to resign for overstepping his authority in interfering in transactions between private enterprises.

Disclosure: Long XLF, no direct position in BAC.

Comments

[Clive Corcoran:]

You say "the U.S. government should bear the responsibility for the resulting losses."
They're are already running a tab on the losses.

Jun 26 07:48 AM

[Jim in Virg...:]

The era of gangster government started under Bush in September 2008 and has now escalated into the Chicago gangster government under Obama. Add the secured bondholders for the automotive industry to the victims list and the confiscation getting ready to happen under cap and trade tax being voted on today and you end up with a very dour outlook for our country.

Jun 26 07:56 AM

[herbert hoover:]

Oh please, Ken Lewis LUSTED over ML. that's why he overpaid for it and, sadly for the shareholders, he got just want he wanted

Jun 26 08:29 AM

[R0B50:]

Honestly people forget the context and timing of the events when they pile on the Fed and absolve BAC.
Having followed the drama during the time, there was little doubt that Lewis was trying to milk the deal and either lower the price, or get more help from the Goverment when he threatened to pull out of the ML purchase.
However the reason that the Fed couldn't allow it to happen, if they could prevent it, was that a failed deal would be Bear Sterns all over again and the Market was just starting to get somewhat stable after that mistake. Combine that with the fact that when Bear was sold for a few bucks, the shareholders called everyone they could and forced the price of the deal to $10 instead, after the fact, this meant that BAC couldn't pay what they thought was a fair price without ML going BK and there was no way the Financial system would have digested that without further, and systemic, collapse.
Bernake did the best job he could and even if some of the emails portray a very rough and tumble forcfulness to get the deal done, the Goverment was leaning on all the large banks to help absorb the bad Companies and this was just part of trying to save us from the worst case scenario.
I applaud his effort and even his tactics.
Without the zeal and drive he showed to hold the ship steady, we would be so much worse off today and there wouldn't be time or room for this political grandstanding as we would be facing 15%+ unemployment and the Politicians would be driven out of office for their dithering.

Jun 26 09:10 AM

[jim martin:]

These emails depict BoA management as being concerned only for their own jobs and reputations, not for their actual responsibility to their shareholders. In contrast, the FRB folks seem much more concerned with the accurate disclosure of information and appropriate use of public funds. They clearly do not want BoA hiding its own losses behind the ML acquisition. It is entirely logical that if BoA ignored government advice and then came crying to the government for new capital that management would be replaced, isn't it? This is the same management that went after Countrywide with no government intervention. They may not be evil, but it is pretty clear that these are not smart guys.

Jun 26 09:12 AM

[ilovesum:]

Their both corrupt and should be fired. Lewis's job is to look after shareholders , govt job is not to bully private industry.

Jun 26 09:38 AM

[8-Alpha-Zulu:]

Fiduciary is fiduciary is fiduciary and Lewis should have disclosed all risks and potentially detrimental matters to those that entrusted him with the "duty" to do so. The heavy handed government pressure to do the wrong thing should have been exposed and in a very detailed fashion and disclosed along with his messages to the stakeholders; all. Bernanke and Co., are pawns anyway; no intestinal fortitude. The combination of those folks in a room under phenomenal duress making world reaching strategic decisions absolutely nauseates me. We BAC stakeholders were duped and so was America.... shameful

-8Alpha-Zulu, holding at one-niner thousand waiting for vector,

Jun 26 11:22 AM

[Living4Divi...:]

Ken Lewis built BAC through a series of acquisition. In fact, they should rename Bank of America (BAC) to "Bank Acquisition Corp." Ken Lewis loved to grow his empire - he ran after ML - like a homely bald headed man chasing after a sexy supermodel, the supermodel kept declining his advances. When the supermodel fell on hard times, Ken Lewis rushed into the acquistion and overpaid for it. I agree with H Hoover.


On Jun 26 08:29 AM herbert hoover wrote:

> Oh please, Ken Lewis LUSTED over ML. that's why he overpaid for it
> and, sadly for the shareholders, he got just want he wanted

Jun 26 02:59 PM

[Living4Divi...:]

Lewis rushed into the deal. Later on, when Lewis found out about the losses at Merrill Lynch, he was going to invoke the MAC clause to pull the plug on the deal, but he was induced to stay in the deal by the Paulson-Bernanke carrot & stick approach.

Carrot: Lewis, if you take this deal, we'll cover some of the losses AND we'll give you throw in some extra TARP money

Stick: Lewis: If you DON'T take this deal, forget about coming to the govt for help in the future. (see article below)

Either way, Lewis screwed up and went thru with the deal. He was still enamored by the prospect of growing his empire, this time with Govt help.

Bernanke and BoA: Read the Accusation

The Republicans seem intent on arguing that Federal Reserve Board Chairman Ben Bernanke threatened to remove Bank of America CEO Ken Lewis, if BoA backed out of its agreement to buy Merrill Lynch. Mr. Bernanke denied the accusation.

It might have helped matters if someone had bothered to read the evidence. The Post reports part of e-mail from Jeffrey Lacker, president of the Federal Reserve Bank of Richmond: "Just had a long talk with Ben. .... Also intends to make it even more clear that if they play that card [backing out of the purchase agreement on Merrill Lynch] and they need assistance, management is gone."

Note the "and they need assistance" part of the e-mail. Is this a threat to remove Ken Lewis? It looks like a statement from Bernanke that if BoA does not cooperate in carrying through on its agreement, then Bernanke will not help him in the future if he needs it.

That seems a bit far from a threat to remove Lewis. It is simply a statement that if Lewis doesn't cooperate with the Fed, then Bernanke will not come to his assistance if he needs it.

Given the large list of questionable actions in the various bailouts, this one doesn't seem to be worth a lot of time.

--Dean Baker

Jun 26 04:05 PM

[THofler:]

While I certainly don't know the details of what happened around the time of the merger, I suspect the the following: BAC's due diligence contractor, JC Flowers, did a poor job and John Thain misrepresented ML's health. (And Ken made a couple of bad judgement calls.)

Let's say that's true. JC Flowers work reflects badly on them, but is not legally actionable (aside from contractual details with BAC). John Thain's misrepresentation is a violation of Sarbox, which makes it criminal.

We need to have a Sarbox investigation & possible trial of John Thain, or better yet we should junk Sarbox. It is a terrible blight on our economy with apparently zero useful benefits.

Jun 27 01:29 AM

[Doctor No:]

"Ken Lewis and BAC's Shareholders Got Hosed by the Feds"

Did you read the same emails that you posted? From that PDF (which I do not take to be representative, as it could have been put together to support the Fed's version of events), it's fairly clear that the Fed thought BAC had failed to perform its due diligence well, that consequently it was in a very tough spot, and that the Fed was not about to save Ken Lewis from his own bad management.

Let's make it clear: if BAC were not so big and systemically important, it wouldn't have received ANY consideration from the Fed - the Fed would have let Lewis invoke the MAC, ML would have sued, and both companies would have failed.

Who got hosed? BAC's shareholders got hosed because BAC management completely failed to adequately survey ML in the months leading up to the close of the merger.

Jun 27 10:44 AM

[EttU:]

If you ask me I think Lewis and all the other heads of the financial industry should be thrown out of their executive suits they created the mess the country is in.

We the tax payers are already paying for the mess they made and for their mis-management.

We the stockholders should sue the CEO and the Boards for the mess they created, and some of these people need to go to jail.

Greed and stupidity should not be rewarded. Financial corporations and their management should be put in regulatory straight jackets until they get their act together.

Unfortunately our system is built around greed, connections, you scratch my back and I will scratch yours.

We the small stock investors always wind up holding the bag after the rich and powerful make off with the jewels.

A disgruntled BofA investor and client. B of A was a great bank when it was headquarter in San Francisco but not any more, I wish that it was called something else.

Jun 27 05:34 PM

[redwine44:]

After sifting and sorting through a lot of comments , and having worked in a low-mid level job at the old, pre tobacco Bof A (I've been gone since 1998), all of this makes a good case for investing in the tech sector, not banks, and wishing that the Community Re-investment Act, Sarb-Ox, and Mark-to Market had all been just a bad dream. Once govt. starts intervening, we as taxpayers get hurt and some of us as shareholders get hurt worse and others get a slight benefit. (Better yet, go all the way back to ERISA in 1974 for how The Law of Unintended Consequences always trumps whatever an interventionist Congress or President does to manipulate economic outcomes.)

Strictly to the point of BAC & ML & The Fed, I believe that Ken Lewis failed his fiduciary duties in favor of macro-stability, and we need to hear more from Paulson and the VA Fed guy. Ben B. seems too mild to have actually administered a threat, maybe he just articulated the likely reality, which is that if Lewis had publicly said there was a MAC, then that amounted to announcing to the world that Merrill was toast and not worth much. That would have pushed the Dow down another 1000 points probably. (And at that point, the nutcase in Iran might have sent a missile into Tel Aviv or the nutcase in North Korea into South Korea while the rest of the world was distracted. ) So BofA shareholders paid the price for maintaining macro stability. I sold my last shares way back when it dropped into the low 40s years ago. Anybody who kept holding on in 2007 and 2008 was a bit sleepy.

Before people invest in banks that are running exotic credits, be reminded of Wil Rogers: I am more concerned with the return OF my principal than the return ON my principal.

Jun 28 05:55 PM