By William Patalon III
Money Morning/The Money Map Report
Three major U.S. banking deals were completed last week, enabling the buyers to finalize their deals before 2008 came to a close.
The first two deals were completed Thursday, the last day of the year. Bank of America Corp. (BAC) completed its purchase of Merrill Lynch & Co. Inc. (MER), creating the largest U.S. bank – as well as the biggest challenge yet for longtime BofA Chief Executive Officer Kenneth D. Lewis. And Wells Fargo & Co. (WFC) completed its $12.7 billion purchase of Wachovia Corp. (WB) – outbidding Citigroup Inc. (C) and making a massive bet that it accurately quantified the still existing risks in Wachovia's huge portfolio of mortgage and real estate loans.
A third major deal was finalized Wednesday. The Pittsburgh-based PNC Financial Services Group Inc. (PNC) acquired Cleveland's National City Corp. (NCC) – yet another big lender hurt by mortgage losses – in a deal valued at roughly $3.9 billion. The deal turns PNC, which sidestepped most of the mortgage mess afflicting other lenders, into the No. 5 U.S. bank, with about $291 million in assets. National City, hampered by bad loans, was forced to seek a buyer after federal regulators told executives of the Cleveland bank that federal bailout aid wouldn't be forthcoming, The Wall Street Journal reported.
These buyouts are the latest examples of how billions of dollars in U.S. bank rescue funds are helping fuel buyouts worldwide, and not lending at home, as a Money Morning investigative report demonstrated.
By closing its buyout of Merrill Lynch, Bank of America reaches $2.7 trillion in assets, and bypasses both JPMorgan Chase & Co. Inc. (JPM) and Citigroup in size (as measured by assets). To finance the merger, BofA had expected to issue 1.71 billion common shares, equal to $24.1 billion, plus 359,100 preferred shares. Merrill Lynch shareholders received 0.8595 of a Bank of America common share for each of their Merrill common shares.
The transaction, originally valued at $50 billion, was announced in the early morning hours of Sept. 15, about an hour before Lehman Brothers Holdings Inc (LEHMQ.PK) went bankrupt. The deal ends more than 94 years of independence for Merrill, but very likely saved the investment bank from a fate similar to Lehman in a year in which five top Wall Street banks were bought, went bankrupt, or changed their business structures.
By acquiring Merrill, BofA's Lewis is swallowing Merrill's so-called "thundering herd" of 17,000 brokers, which he has labeled as the "crown jewel" of the buyout deal. The Charlotte, N.C.-based Bank of America also will absorb Merrill's big investment bank, which by volume ranked fifth in debt and equity underwriting and third in merger advice in 2008, Thomson Reuters reported.
The combined company's brokerage, credit card, investment banking, mortgage and wealth management operations, plus its deposit base, will make it the nation's largest, or close to it.
Bank of America also takes over Merrill's nearly 50% stake in the powerful money manager BlackRock Inc. (BLK).
"We are now uniquely positioned to win market share and expand our leadership position in markets around the world," Lewis said in a statement on Thursday.
Big Challenges for the Big Bank
The Merrill Lynch transaction creates new challenges for Bank of America, whose shares fell 66% last year as the worsening economy led to soaring loan losses, including from Countrywide Financial Corp., which BofA bought in July. A big challenge: Lewis must find a way to stem defections of top performers and key executives even as he slashes at least 30,000 jobs in a cost-cutting initiative that should save the big bank $7 billion annually by 2012.
That won't be enough, however. While Bank of America and Merrill together raised $25 billion of capital from the U.S. Treasury Department's $700 billion Troubled Asset Relief Program (TARP), and BofA halved its dividend, analysts believe another dividend reduction is inevitable. And it may have to raise additional capital, too.
BofA has managed to navigate the banking mess – and has tried to capitalize on it.
Before buying Merrill, Lewis had spent close to $110 billion to buy FleetBoston Financial Corp, credit card issuer MBNA Corp., LaSalle Bank Corp., the wealth-management business of U.S. Trust, and Countrywide Financial.
Now Bank of America is generally viewed as being "too big to fail." For his efforts, American Banker, the banking industry trade journal, last month named Lewis "Banker of the Year" for the second straight year.
However, the competitive landscape Lewis faces going forward is changing radically – as is evidenced by Wells Fargo's $12.7 billion buyout of Wachovia, a Charlotte-based rival of BofA.
John A. Thain, who became Merrill's chief executive after losses in mortgage-related investments led to the October 2007 ouster of Stanley O'Neal, agreed to run the merged company's global banking, securities and wealth management businesses. If he remains with the merged entity, Thain will be a prime candidate to eventually replace Lewis, who is 61 and became Bank of America's CEO back in 2001.
Wachovia Closes Deal, Too
The Wells Fargo/Wachovia merger closed yesterday and more than doubles Wells Fargo's size, making it the No. 4 U.S. bank as measured by assets. Wells Fargo now also has the nation's largest retail brokerage operations, as well as its largest branch network, with more than 6,600 offices in 39 states and Washington, D.C.
The San Francisco-based Wells Fargo agreed on Oct. 3 to buy Wachovia, beating out a smaller bid by Citigroup, which was planning to only buy a portion of Wachovia. Citigroup's bid included government backing, while Wells Fargo's did not. Wells Fargo said Wachovia branches will keep their brand name – or they will at least for the "near future," Reuters reported.
Regulators pushed Wachovia to find a buyer after it was pushed to near ruin by zooming losses from "option" adjustable-rate mortgages (ARMs) that it took on back in 2006 when it bought California lender Golden West Financial Corp.
In November, Wells Fargo announced that it expected it would have to write down $71.4 billion of Wachovia's $482.4 billion loan portfolio, including $36 billion of option ARMs and $9.6 billion of commercial real estate.
According to Reuters, analysts have said Wells Fargo was cautious in its assessment of the risks Wachovia's mortgage portfolio, but the U.S. economy and housing market have continued to deteriorate so quickly that those estimates might now be out of date.
"We're not at the end" of the housing slump, Wells Fargo CEO John G. Stumpf said on Dec. 10 at a conference. "But we're starting to see some early signs that maybe we've reached the bottom in housing or close to it."
Wells Fargo is the nation's No. 2 mortgage lender. It remained profitable by avoiding many of the risky loans that plagued Wachovia, caused the failures of Washington Mutual Inc. and IndyMac Bancorp Inc. and drove Countrywide Financial into the hands of BofA.
Wachovia shareholders received 0.1991 of a Wells Fargo share for each of their shares, valuing the bank at $5.87 per share. That's down from $59.39 when the Golden West merger was announced in May 2006, a level never again reached. Wachovia shares closed Wednesday at $5.54, down 85.4% in 2008.
Shares of Wells Fargo closed Wednesday at $29.48, down just 2.4% for the year. The KBW Bank Index, which includes Wells Fargo, fell 50% last year, Reuters said.
Wells Fargo expects the merger to result in at least $5 billion of annual cost savings, and to boost earnings per share by 20% or more in 2011 and higher amounts thereafter.
Including Wachovia, Wells Fargo has about $1.4 trillion of assets.
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News and Related Story Links:
Wells Fargo completes Wachovia purchase.
- Money Morning Investigative Series:
Billions in U.S. Bank Rescue Funds are Fueling Buyouts Worldwide – Instead of Lending at Home.
Bank of America completes Merrill Lynch purchase.
Bank of America, Wells close mergers as banking transforms.
- The Wall Street Journal:
Three Banks Complete Deals.
About the Author
Before he moved into the investment-research business in 2005, William (Bill) Patalon III spent 22 years as an award-winning financial reporter, columnist, and editor. Today he is the Executive Editor and Senior Research Analyst for Money Morning. With his latest project, Private Briefing, Bill takes you "behind the scenes" of his established investment news website for a closer look at the action. Members get all the expert analysis and exclusive scoops he can't publish... and some of the most valuable picks that turn up in Bill's closed-door sessions with editors and experts.