Does Citadel’s Investment’s $2.5 billion infusion into E*Trade (ETFC) mean the company couldn’t find any buyers? Is $2.5 billion enough? Should investors read anything into Citadel getting a senior position to shareholders for most of its investment? Is there more bad stuff to come with the company’s mortgage business?
Those were among a few of the questions I asked acting CEO Jarrett Lilien earlier this morning. Lilien, who has run the company’s brokerage business, has been tapped to replaced CEO Mitch Caplan.
Lilien (inset) doesn’t buy the argument that the company couldn’t find any other buyers. “It was just the opposite,” he says. “There was so much interest that it led to a process that was so thorough to the point of being too thorough.” He says ETrade talked to 40 different parties about a combination of deals, including mergers, “But when you looked at it, the value to the shareholders just wasn’t there with those looking to take the whole company. And some looking to buy the whole company didn’t have the knowledge or expertise to take on asset-backed securities.”
Indeed, the biggest winner in this deal would appear to be Citadel, which is getting $3 billion of securities that yield 12.5% “for 27 cents on the dollar,” says Bank of America Analyst Michael Hecht, who also figures that Citadel got most of its 19% stock stake for free. (It already owned a 2.5% position.) At the same time, he points out, as a result of the deal shareholders will suffer a 40% earnings per share dilution with a 100% dilution of tangible equity. “Xmas Comes Early for Citadel, Existing Shareholders Get a Lump of Coal,” was the headline of his report.
He’s not the only critic. Sean Egan of Egan-Jones says that even with Citadel’s stake “a 10% haircut on the $47 billion portfolio” of mortgages and loan receivables “could wipe out” all of Erade’s equity.
But Lilien is more sanguine. He says a $400 million provision for the company’s $12 billion home-equity loan portfolio should be adequate. “We now have the excess capital to work through this.” He adds that “what is baked into our numbers is that things will get worse on the home equity side and we have built up reserves that cover that.” But he acknowledges the total impairment could be greater over time, given the nature of delinquencies and possible work-outs, and that “it could be a problem that takes two to three years to work through. But that’s okay, because we can put the allowance where it needs to be. You don’t necessarily have to raise the allowance, but we could.”
Furthermore, he insists that “we shouldn’t have much in the form of impairments going forward. Once we work through the home equity portfolio, we have a very high quality first lien portfolio.” He refers to the current situation as being “in the middle of the storm.”
As for the brokerage side of the business, he says deposits have fallen in the wake “of the panic that swallowed us up in the past couple of weeks.” Things now, he says “are more back to normal. It interrupted a more positive trend.”
“If we were a private company,” he adds, “with the capital we had we might have been able to work through this on our own.”
But they’re not, and they couldn’t.