The Real Deal with Ken Lewis

The myth of Ken Lewis as an exemplary dealmaker persists in some corners of Wall Street, even as he’s being driven out of Bank of America (BAC) because of his handling of his last and most controversial deal — the acquisition of Merrill Lynch.

It’s time to put this myth to rest. The only reason to keep lionizing Lewis for the many acquisitions he made during his nine-year run at BofA’s helm is if you truly believe that too-big-to-fail banks are a good thing.

Like many on Wall Street, Lewis lived by the business edict that bigger is always better. And he certainly followed that strategy at Bank of America, with headline-grabbing deals for credit card giant MBNA, FleetBoston Financial, Countrywide Financial, LaSalle Bank and of course, Merrill.

Under Lewis, total assets at BofA ballooned to $2.25 trillion, up from $621 billion. Net income rose from $6.79 billion in 2001 to $14.98 billion in 2007, before falling off a cliff in 2008 and plunging to $4 billion.

Yet for all that wheeling and dealing, shares of Bank of America — on a split-adjusted basis and accounting for dividends — have produced a return of just 4 percent from the day Lewis took over in January 2001.

Sure, that performance is better than the 12 percent plunge in the Dow over that same period. And BofA shareholders have nothing to complain about compared with the obliteration of wealth endured by Citigroup (C) stockholders. But its gain looks pretty meager against the 27 percent appreciation in share prices of both JPMorgan Chase (JPM) and Wells Fargo (WFC).

One problem with a bank getting big and getting big fast, is that it gets its fat fingers stuck in too many markets — sometimes markets it doesn’t fully understand.

A case in point is BofA’s belated entry into the market for subprime mortgage-backed securities. In May 2007, as the subprime housing market was crumbling, the bank was the underwriter on a now-toxic $4 billion collateralized debt obligation.

The transaction was the last big CDO before that market blew up. And get this — the CDO was put together by the two Bear Stearns hedge funds that collapsed in the summer of 2007 and sparked the start of the financial crisis.

Similarly, BofA showed stupendously bad timing in paying $4.1 billion in early 2008 for Countrywide — the firm that became the epicenter of the mortgage crisis. It’s become fashionable for some to suggest that the Merrill deal — and even the Countrywide transaction — were simply a case of Lewis doing his part to help keep the financial system afloat. Warren Buffett, for instance, has said Lewis “inadvertently saved” the banking system by buying Merrill on the weekend Lehman Brothers was hurtling to bankruptcy.

But neither transaction represented some form of corporate charity. No one put a gun to Lewis’ head and forced him to do a deal.

In fact, Lewis had had his eye on Merrill for a long time. As far back as 2001, Lewis considered putting together a bid for the Wall Street firm, according to the Wall Street Journal. Getting a chance to buy Merrill was a deal Lewis long dreamed of pulling off.

Ultimately, that’s the problem with corporate chieftains whose main path to achieving growth is through acquisitions. Some deals will no doubt work out and add value. But the danger is that the zest for doing a deal can become blinding — sometimes blinding to the risks that lie beneath the surface.

Comments

[Angry Banker:]

Personally I wish CEOs of financial institutions were compensated in direct proportion to the growth in the price of their stock. Of course it has to be measured on a sufficiently long time horizon as well (to mitigate taking extraordinary short term risk in order to boost stock prices temporarily). If such a compensation system had been in place at BAC, C and others, the prior CEOs would have been gone much sooner.

Oct 02 06:56 AM

[bbro:]

I assume by your commentary that you sold all your stocks before
September 19 ,2008 because you knew the market was going to
drop 30% in three weeks.

Oct 02 07:37 AM

[jasonjim:]

Over time the purchase by Lewis of Merrill and Countrywide will be proven to be a stroke of genius because both of these companies will add so much to bottom line profits. It is very easy to see the negatives in these purchases and make cynical statements about how stupid they were, but very difficult to see the positives which will surely emerge.

Oct 02 07:47 AM

[Tony Petroski:]

Mr. Goldstein:

"The only reason to keep lionizing Lewis for the many acquisitions he made during his nine-year run at BofA’s helm is if you truly believe that too-big-to-fail banks are a good thing."

I think that institutions of large size, GM comes to mind, should either fail, if that is their fate, or be broken down to size so that they're not "too big to fail."

The big problem: Who does the breaking?

Oct 02 09:54 AM

[epeon:]

One thing not mentioned is that when he found out bad news about Merril Lynch he intentionally hid this information from the stockholders. Ken Lay did the same thing. Frankly, the deceit bothers me more.

Oct 02 11:08 AM

[notsosmart:]

& his pension is $3m a year.this whole system has turned into a joke as nothing would be left (still could happen) without our monopoly money & a debt that your children ,grandchildren will be happy to pay.

Oct 02 11:32 AM

[Fremont Rea...:]

I'm very ahppy to see Ken Lewis sent out the door. I would like to see these too big to fail banks spilt-up so they're no longer too big to fail. I'd like to limit concentration of bank presence to no more than 25% per region. Also State Income income loans should not exist. It encourages understatement of income to the government and reduces tax receipts. If people want to buy a home with a loan, they should be required to show proof of income suffcient to make the payments.

Oct 02 12:23 PM

[jackooo:]

I wish I could screw up like Ken Lewis and be rewarded!!

Oct 02 02:43 PM