Citi Examines Its Carrots and Sticks

I just got off the phone with Carl Tobias, a professor at Richmond School of Law; I asked him whether the exclusivity agreement between Citigroup (C) and Wachovia (WB) was worth the paper it was written on.

His take was that it's extremely unlikely any court would enforce the "specific performance" remedy in the agreementt, i.e., force Wachovia  to go ahead with the Citi deal and leave Wells Fargo (WFC) with nothing. "It's draconian to have specific performance, it's just too much," said Tobias. "Very few courts so far have enforced those kind of agreements. Most lawyers would advise their clients that they might have to pay money [for violating the agreement], but that it's unlikely a judge would order them to consummate a deal of this sort."

Of course, the agreement specifically says that financial damages would not be an acceptable form of recompense -- but there's the law for you.

In any case, the chances are it won't go to court. My best guess is that Citi is putting together a package of carrots and sticks to try to make its deal go through; the exclusivity agreement is in its arsenal of sticks, but Citi hopes not to have to use it in court.

Another stick may or may not be Sheila Bair. If she comes out in adamant opposition to the Wells Fargo deal, then Wachovia might well be stuck with Citi. But that seems unlikely at this point.

As for the carrots, the main one would surely be a sweetened offer. Citi's also going to try to persuade the Wachovia board that they're underestimating the value of the stub Wachovia, which they'll continue to be in charge of if the Citi deal goes through. Maybe Citi's investment bankers are trying to find another buyer for what's left of Wachovia, to prove just how much it's worth. In any case, they're going to try very hard to demonstrate that the total value for Wachovia's shareholders from the Citi deal is significantly higher than just the amount that Citi is paying for the bank.

Then there's the more personal/emotional stuff. Citi will rake Wachovia's executives over the public coals if they get those golden parachutes as a result of accepting the Wells Fargo offer. At the same time, they'll promise to move the retail banking headquarters of a combined Citi-Wachovia to Charlotte, and to keep more Wachovia jobs, especially in Charlotte, than Wells Fargo might be inclined to do.

At the same time, Wells Fargo might be willing to pay some amount of money to Citi to make them go away, especially if it has a deal pretty much sewn up. So the noisier Citi gets, the better off it'll be, even if it doesn't get the big prize.

How much money might Citi hope to get as a de facto break-up fee? Well, its market capitalization fell by about $18 billion today, although Wells Fargo would never spend that much.

The market spoke today, and it spoke clearly: It thinks the Wells Fargo deal is going to happen, and that Citi is going to walk away with next to nothing. But I'm not so sure. Given the rise in Citi's stock price that would result from snatching Wachovia back from Wells Fargo, I suspect Vikram Pandit would be willing to spend quite a lot of money and effort to make that happen.

Comments

[User 235322:]

What are you talking about???Citi has 500 billion in toxic assets and doesn't have money to take over Wachovia!I think Citi risks to go bankrupt!It is the worst financial company in the world.

2008 Oct 04 05:04 AM

[Toad680:]

One interesting aspect to this is that regulators brokered the Citi deal and Wells walked away at the last minute. Only later after the bailout was likely, mark to market eased and takeover taxation benefits emerged did Wells step back in.

If they think more banks are going to see this kind of trouble and want to maintain credibility in the bidding process, don't regulators have to enforce their first two bidder auction? You ask banks to step up and take on a great deal of risk, but don't actually deliver the reward? The next time this happens, how many won't bid? Or of those that do, will they come with their best bid?

One could also argue that Wachovia might have gone bust had it not been for the interim liquidity provided by Citi. In a normal bidding war, this might be fair play by Wells. But somehow it seems unethical to me for Wells to now take WB after the collapse has been averted and the rules have changed.

I would be surprised if Citi took this under the original terms. But I think regulators damage their credibility if they let Wells walk away with Wachovia now that the risks are a lot lower.

2008 Oct 04 05:46 AM

[RHRInvestor:]

Citi did not have a completed deal and the exclusivity "agreement" apparently expired by its terms on Monday 10/6. Even if you assume that Citi and Wachovia would have signed a definitive deal agreement before Monday, the deal that would have been signed would have required shareholder approval, which ultimately would likely not have been received in the face of a competing Wells offer to buy WB for $7. So the harm to Citi in what Wells and Wachovia have agreed? Not much. A few days of legal expenses and distraction, probably offset by the future legal and other expenses that Citi avoids by having their deal killed early rather than later.

2008 Oct 04 07:51 AM

[Ishortyou:]

Now that the 'bail out' plan came through, Wachovia needs fast to take advantage of it, it needs to sell its toxic loan portafolio from its banking subsidiaries around 122 billion if not more to the government close to even cost prices and take serious advantage of the tax break plan and remediate their banking book of business. They also need to contact their customers that did the run on the bank like chickens without head to bring their deposits back and reassure them that they are ok and there is not reason to panic because of the talking heads of FOX news and rest of media and the incompetence of the FDIC. This strategy will demonstrate to the public that the current 'bail out' plan is working and that Wachovia is the first product of it.

2008 Oct 04 09:05 AM

[TheRod:]

Under the Citi deal, Citi was not taking, nor paying for, the ($10B Rev / $2B profit) unit of Wachovia Securities, Evergreen Mut Funds, Wach Retirement, and Wachovia Ins Svc's.

Under the WF deal, WF was taking all and paying for all -

Don't look at these as "apples to apples" deals (numerically)
Don't expect Citi to offer same if it isn't buying the same -
If a bidding war were to prevail, the carve out piece will distinguish the Citi Bid

2008 Oct 04 10:28 AM

[PastTense:]

I don't understand why Wachovia was in such a rush to sign with Wells Fargo. With two serious potential buyers I would think they would encourage a bidding war.

2008 Oct 04 11:29 AM

[ResourceWise:]

Citi has been presented with an excellent opportunity to cash out the deal and focus on its own current sprawling global franchise. There is huge value it can unlock for the shareholder by managing the existing franchise effectively – without getting bogged down in additional remedial portfolios. Citi, please quit while you’re ahead!

2008 Oct 04 11:32 AM

[RHRInvestor:]

To The Rod: The deals may not be apples to apples, but WFC's deal is much better than Citi's deal for WB holders. Even if your numbers are correct for the retained piece, remember that WB would also be left with ~ $9 bn of preferred stock which would absorb most of the value of what Citi did not acquire. WFC is offering ~ $15 bn of value OVER AND ABOVE the preferred -- in effect, almost $25 bn of equity value -- which likely far exceeds the value of the retained businesses alone.

2008 Oct 04 12:05 PM

[1 of 4:]

By law, the FDIC is required to accept the best deal for the taxpayer. WB shareholders have to approve either deal. The deals were apples and oranges, so the door is open for Citi to counter for WB in its entirety. The WFC offer is a severe discount on the remaining stub of WB that was not in the Citi deal. Let the bidding begin.

2008 Oct 04 12:53 PM

[Brahm:]

The question one needs to browse upon is whether the FDIC has the authority to force a shot-gun marriage with a specific suitor, if the shareholders feel they have gotten a raw deal. Especially if no Federal or FDIC money or gurantees are going to be involved in the deal for the alternative option, ands there arte no limitations with regard to capitalization or anti-trust. I would be surprised if the FDIC (or Sheila Bear) sustains the Citi take over as the only option there is.

2008 Oct 04 04:46 PM

[levin70:]

Felix. I would tend to agree about enforcement, except just last week, the DE courts found specific enforcement the only remedy available in the Hexion case. Its not impossible for the SDNY or the Fed NY courts to find likewise

2008 Oct 04 05:40 PM

[tino:]

The Wachovia employees had better hope the Citi deal prevails. There is much less overlap in their retail network. And Citi has agreed for the retail bank to be run in Charlotte. What is the probability that the same would happen will the Wells deal? The City of Charlotte will lose an incredible amount of jobs and revenue. In addition, in many states there is a Wachova branch across the street of a Wells branch. Not so much with Citi.

2008 Oct 04 06:07 PM

[wsworker:]

Tino, with the Wells deal, East Coast banking will be HQ'd in Charlotte, and brokerage will be HQ'd in St. Louis. Bank branch overlap is much smaller with Wells.

2008 Oct 05 02:47 AM

[User 274642:]

Whether it is Citi or Wells Fargo that eventually prevails, consider the implications if the Wachovia shareholders reject the proposal.

Given the Citi proposal, what Wachovia shareholder with knowledge of the Wells Fargo offer would vote to accept Citi’s inferior offer?

Can government force shareholders to accept an inferior offer? Even Eminent Domain requires “fair” compensation.

2008 Oct 05 06:33 AM

[hunter:]

With either deal Wachovia shareholders are not getting just value for what Wachovia is worth. With the rescue package passed and relaxation of mark to market accounting rules Wachovia may want to remain independent. Wachovia employees should push for them to remain independent. Maybe even tkae pay cuts to improve the company.

2008 Oct 05 09:19 AM

[Mr. B:]

What you miss is that WB would have been in receivership and would not have had the opportunity to take advantage of TARP. It is what WFC and WB management is missing too. WB would have been worth materially less (x - unknown $) without the Citi deal. WFC is essentially stealing this from Citi.



On Oct 05 09:19 AM hunter wrote:

> With either deal Wachovia shareholders are not getting just value
> for what Wachovia is worth. With the rescue package passed and relaxation
> of mark to market accounting rules Wachovia may want to remain independent.
> Wachovia employees should push for them to remain independent. Maybe
> even tkae pay cuts to improve the company.

2008 Oct 06 01:43 PM