Fed Capitulates To Bear Stearns: Sorry State of Affairs

Total capitulation. The Fed caved. Per the Wall Street Journal:

J.P. Morgan Chase & Co. has agreed to quintuple the price it will pay for Bear Stearns Cos. to $10 a share, hoping to stem criticism that the banking giant was getting too sweet a deal to snap up the ailing investment bank.

The company will also buy 95 million new shares of Bear, giving it a 39.5% stake in the company and a big leg up in getting shareholder approval to approve the takeover. The purchase is slated to close by April 8.

********************

Other terms of the new deal are different than the original pact, including the role of the Federal Reserve, which played a critical role in the week-old deal. Among other things, J.P. Morgan will bear the first $1 billion of any losses in financing for Bear's less-liquid assets, such as mortgage securities, with the Fed being responsible for the other $29 billion.

Sure, I get what's going on here. The Fed is trying to show that moral hazard doesn't exist here due to the shifting of $1 billion in first-loss to JP Morgan (JPM). But the point is, they caved. They've (the Fed and Bear Stearns (BSC) Board) tried as much as possible to hand the company on a silver platter to JPM in order to avert another shareholder uprising. But if I'm a shareholder and am feeling enlivened and validated by the Fed's behavior, why not hold out for more? I mean, the Fed is apparently in the deal-making business; why not try and cut yet a better deal? Sure, that avenue is largely forestalled by the 39.5% share sale, but hey, get organized, get all the employees, Joe Lewis, Bill Miller and the other brutalized institutional investors to "just say no." Since we now know that hardball works with the Fed, this chink in their armor can be exploited for fun and profit. What a sorry state of affairs.

Comments

[sirfman]

The shareholders should immediately organize themselves and fight the bending of NYSE rules. Usually for such an massive issuance of new shares it needs SHAREHOLDER APPROVAL.

If I take the existing outstanding shares (145.4M), then the newly issued 95million shares mean an addition of 65.34 %. It is the question from whch angle you are looking at the issuance.

There should be a shareholder meeting with the following points to be voted on:
1. Can the amount of outstanding shares increased by 65.34% or 95M new shares from former 145.4M shares to new 240.4M shares? (YES/NO)
2. If... and only IF - 50% of the shareholders vote "YES", can this 95M shares be sold to JPM for $10/share?

The BSC BoD used the exemption or bending of NYSE rule 312.03 with the excuse, that "waiting for shareholder approval might hurt Bear’s financial viability" . If this would be really the case:
1. Why are earnings not published?
2. Why is there no determination of a corrected and more realistic book value?

BSC's troublesome position is very well described by SEC chairman Christopher Cox in his letter to Dr. Nout Wellink, Chairman of the Basel Committee on Banking Supervision on 20th march 2008

"As you will see, the conclusion to which these data point is that the fate of Bear Stearns was the result of a lack of confidence, NOT A LACK OF CAPITAL. When the tumult began last week, and at all times until its agreement to be acquired by JP Morgan Chase during the weekend, the firm had a capital cushion well above what is required to meet supervisory standards (!!!) calculated using the Basel II standard."

My impression is: The BoD is acting under duress and coercion and not evaluating the best options for the existing shareholders. They act more in favour of a coming shareholder, who has only a small vote until now.

From JPM's point of view the new deal looks like going into a shop, printing your own money on the shop's photocopy machine and afterwards buying the shop with that money. And the shopkeeper himself is just happy, that he holds some "money" in his hand.

I would not be very surprised, if investors like Joe Lewis, James Barrow, Bruce Sherman and Bill Miller, who all put real money in BSC, will collaborate to fight the bending of NYSE rule 312.03.

With today's share price at $11.25 only Joe Lewis is still sitting on a heftly loss of $1,124,375,754.
He should invest now a few millions in the best lawyers to fight this "amended" agreement, which cut his voting power from former 8.35% to 5.05%.
On the financial side he and other investors should buy, what is still cheap now, and push the price up. Simply try to imagine, if BSC is on 8th April 2008 at $20/share. How could by then JPM and the BSC BoD justify the $10 offer?
Maybe then we will see another amended agreement, that will focus more on a realistic book value of BSC and find the support/approval of more BSC shareholders.