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Bank of America Meets Due Diligence
Diligence is the mother of good fortune.
— Miguel de Cervantes, Don Quixote
This is a column about due diligence. Presidents of large banks, such as Bank of America’s (BOA) Kenneth D. Lewis may read this column but it is not applicable to BOA since the Present Financial Crisis (PFC) demonstrates that due diligence has no place in BOA’s dealings except when dealing with customers.
Due diligence is the process whereby people who contemplate entering into a business transaction take steps to insure that the transaction is as they believe it to be. For the seller of a product due diligence may be as simple as insuring that the purchaser has the funds with which to complete the transaction. For the purchaser it consists of making sure that the object of the transaction is as it is represented. Thus, someone buying a car employs due diligence to make sure that the car is in the promised condition.
Any one who has borrowed money from Mr. Lewis’s institution knows that even if all the borrower wants to borrow is $.25, Mr. Lewis will not lend that amount until, through due diligence, his employees determine that the borrower has $.50 in assets and an income stream sufficient to assure Mr. Lewis that the bank will get back its $.25 plus a reasonable amount of interest. (Mr. Lewis made an exception to this rule in the case of billions of dollars of mortgages that the bank issued that have now departed the bank’s books for warmer climes) One of the surprises to emerge from the PFC is that as familiar as Mr. Lewis is with the concept of due diligence when dealing with customers, he forgot to use it when entering into a VERY big transaction for the bank.
On September 15, 2008 BOA announced that it was acquiring Merrill Lynch and Co., (ML) the country’s biggest brokerage firm. The due diligence took 48 hours, much less than many people will spend deciding whether to buy a car or even a dishwasher. When asked about this exceptionally short 48 hour due diligence study, Joe Price, the CEO of Bank of America explained: “We have had a tremendous amount of historical knowledge, both as a competitor with Merrill Lynch, but also have reviewed and analyzed the company over the years. . . . In addition. . . we deployed the team that we would ordinarily deploy in these types of situation, which had well over 45 people from our team on site as well as others off site, outside counsel and the like. So collectively with that group. . . . and the progress that Merrill Lynch had made in reducing the risk exposures . . . . made it possible for us.” Mr. Lewis added that the bank was not asking for any help from the government in completing the transaction.
The foregoing notwithstanding, in mid-December Mr. Lewis let regulators know the deal was in trouble. It turned out that one of the things the due diligence doers happened to overlook was that ML would have to take a fourth-quarter write-down of $15 to $20 billion. Mr. Lewis explained to analysts that he was surprised to learn that losses of ML were much larger than expected. That was a little like discovering that the car you planned to buy needed a complete set of new tires and you’d not noticed that before you agreed to buy it.ML’s losses were so large, said Mr. Lewis, that he considered walking away from the deal but decided that would not be “patriotic.” It was more patriotic, he apparently thought, to let the taxpayers help save the deal. (Government regulators did not want the deal to collapse fearing panic in the markets.) Unlike the car buyer who could not get out of the deal because of overlooking bad tires, no one thought BOA should suffer for its lack of due diligence as shown by not noticing that ML needed a new set of tires. Instead, the federal government told Mr. Lewis it would be willing to help him out in completing the transaction. Under the new deal, BOA has to pay for front tires costing $10 billion, and the feds will pay for the rear tires plus the spare, costing $10 billion plus 90 percent of any additional repairs that are needed. Thanks to that agreement, the deal closed in early January. That is not quite the end of the story. Although the deal has closed, there is still on going discussion about the role the taxpayer will play even though by now the car has left the lot and is hundreds of miles away.
Mr. Lewis has indicated that he and the feds are still negotiating the terms of the feds’ involvement in the transaction. Mr. Lewis would be the first to tell you that when you borrow money from him, there is no room for negotiation after you’ve driven the car off the lot. Mr. Lewis should be grateful that the Feds are not as strict with him as he is with his borrowers.
21 Comments so far
Show AllSioux Rose
I always look forward to Mr. Brauchli's understated satires. He reminds me of Jonathan Swift. I'm glad he poked fun (while levying a solid critique) against this banking behemoth. As I've personally shared in this forum, the mental gymnastics this bank has put me through over the course of the past few years is like nothing I have ever experienced with any bank, in all the years I have been banking.
In the past each summer I used to sublet the home of a professor from the University of Georgia so as to have ten weeks to solidly focus on writing without any intrusions. It was her idea that I open the account with Bank of A. Only later did I learn that the particular checking account I was signed up for involved a FEE (this is true) to deposit checks, IF one deposited more than 3 checks a month. $3. for every check you deposit! Unbelievable. I eventually fought this and won. Then there were a variety of nonsensical fees based on whether or not the savings account sum balanced against what was in the checking account. For instance if your checking account dipped under $500... fees were involved. You almost had to BE a lawyer to figure out all the fine print.
That's just the tip of the iceberg. This is an institution that is totally about punishing customers with a strict letter-of-the-law policy, but then holding a very different lax ethos for itself, as Mr. Brauchli so cleverly relates.
.What this proves is simple. The same folks dumb enough to lead their respective companies to the brink of ruin by investing heavily in insane derivatives are still dumb! The perspective that, because a man makes millions of dollars in salary and bonuses, he must perforce be smart seems to have been exposed as false.
That our entire financial infrastructure may very well be filled with such men as this, and that our elected politicos are equally bereft of good sense in throwing good money after bad, may be proven in due time as well. Merrill was a fire sale ,purchased, basically, with our own money. That it held billions in assets of very questionable value was known to anyone reading a newspaper much less the head of one of our largest financial institutions. Now this astute ( sarcasm) business leader is setting the public treasury up for another large welfare payout.
Does he apply for food stamps too?
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We see things, not as they are, but as we are.
Anais Nin
We are constantly being told that such and such was unexpected. The implosion of the various bubbles was unexpected. The size of the cost of various bailouts was unexpected. That these “astute businessmen” were really running Ponzi schemes was unexpected. And so on. BS! Many people said, some even here on CD, that doing all of these things would lead to very bad things/times. Unfortunately, no one believed Cassandra either. People in the position these CEOs and their enabling politicians don't want to hear about potential consequences to their actions. All they want to know is how much money this is going to bring them in the next day. They don't want to know that that money will be worthless several days later. Well, its several days later, now.
Here's a few more things that will eventually be declared to have been unexpected: A major nation will not only be bankrupt, but will actually have to declare it. (There is a difference. While only being bankrupt, without declaring it, creditors can have hope, faith if you want to call it that, that they will at the very least get their money back. When the loan recipient declares bankruptcy, the creditor is being told that there is no way they are getting their money back, so go away and cry about it because that's all that can be done.) The actual extent of the toxic “assets” will be found out to be several times worse than initially foretold and that no amount of money can cover them. That money will have become meaningless. And finally, a long period of deflation: falling prices, falling incomes (faster than the falling prices) and failing resources. Then a rapid, abrupt period of hyperinflation that will last a longer time than the deflation because no one will know what to do about it because it was of a size so large that it was “unexpected”.
Maybe its time we all paid attention to people with more than starry dollar signs in their eyes and more than just a few active brain cells. I for one am ready to follow a genius after several years of idiocy, especially from one such that declared mediocrity to be a great thing!
Well,the beautifully written foregoing posts could intimidate me,but here goes.
I've not yet heard any discussion about the possibility of pursuing these reckless CEOs for the recovery of funds,and/or some prison time.Could due diligence be enough ammo?
Recovering even a small percentage of the trillions in question would be a big moral boost.Recovered monies should be used ONLY for the poor,expanding food stocks,energy assistance,etc.
Thank you for this article Mr.Brauchli,I too always enjoy your contributions to CD.
.Unfortunately what they did may have been stupid but was legal. There is no crime involved in making "mistakes". Now if one was to consider recalling the legislators who authorized giving them further billions, or the Treasury Secretary who put no string upon that largesse, well......
.
We see things, not as they are, but as we are.
Anais Nin
The greed of capitalism is no less than the lack of moral scrutiny. So goes capitalism, so goes our nation. Americans loves capitalism. You see it all around us and most certainly in the wars the U.S. wages. More and more money for the bailout will be futile without a deep change in American values and an honest democracy in America that has never been before.
As the banks get richer and richer, most people out here in Tulsa will still be arguing on guns and abortion ! How much more financial damage will Oklahoma have to endure until it wakes up and gets out of its self-righteous conservatism?
I live in Louisiana and it's the same ole story like Oklahoma. A roof would have to fall.
The Democrats should have visited both Oklahoma and Louisiana regardless of what the corporate written polls tell them. I would likewise say the same for TX where I live. What's likely to happen though is based on the nature of the election results and the swings, since LA and OK voted more Republican than last time while TX voted less Republican this time around, the party will at best visit TX and mainly the urban and suburban areas but I'm a afraid that they will leave out LA and OK. And they'll still rely on corporate polls to tell them what states to visit again although I admit Obama and his team did get past some of it. This is another reason I cannot stand the Democrats when it comes to campaigning and reaching out As for the roof falling to turn these minds around, it will have to be even more than that. Of course, the Democrats' lack of true progressive populism always ends up costing them in the rurals.
Yea, that's not a bad idea for the party to visit the state. Maybe Obama will give it a go in 2012 if he can get through this first term first.
Peter and winning ticket,
I think I have the answer. In Douglas County, NE there are more businesses and banks than in the rest of the state. Ironically, where there are banks, the red goes away. However, there's another factor and it's that unlike the Great Depression, there's still a lot of divisiveness and self-reliant yankee know-it-all attitudes that are causing these culture madnesses in the states. I hope we do not have another Great Depression because this time it will be worse than the first one most likely but if that's what it takes to wake up the self-righteous ones and show caring and unity, we had better prepare for it big time.
My state cannot afford another Great Depression but if this country gets it, this rural state will be one of the earlier casualties.
As a former Tulsan born and raised but taken away by career over 30 years ago I do wonder what is in the Kool Aid there when I go to visit family. It seems to me the culture wars over Guns God and Gays has been used to hoodwink the good people there into not seeing and voting their own interests but distracting them with these non issues. The recent reelection of Inhofe to the US Senate would be exhibit A. I know the good people of that area and they are smarter than that and I pray they rise up overcome their blinders and think of their children's future.
Hi stuckinreverse,
Yes, it's still fundie land. Worse, in the last 15 years, education has gotten worse and often tainted with religious fundamentalism, gun-toting patriotism, looking at even bad CEOs as "GOD", you name it. I voted for Obama despite not a single county in this wretched state going for him. We soft heart liberals in the state are scattered out there and outnumbered like raisins in a muffin but we're not going to give in to all that Republican conservative bullying no matter how hard they keep trying. I sincerely apologize for my state sending in Inhofe and Colbert to the Senate as well as the rabid conservative reps and I'm not happy with that Blue Dog Dan Boren either. I wished it could be easy to get the younger ones out of this but unfortunately, even those with native indian blood are too conservative even when they're discriminated against by white conservatives. Try talking to them and they blame the liberals for everything ! Trying to convince these fundies to even think is like trying to negotiate with David Korash die-hards ! :(
Behind every great fortune is a crime.
Hold it, so BOA wanted to walk away from the deal but the federal government talked them into it and offered them a huge bribe to do it. So it seems that makes the government the idiots, no?
Here is more revealing information about Bank of America, Merrill Lynch and John Thain from WSWS.
The rise and fall of Wall Street’s John Thain
A dirty, but revealing affair
By Tom Eley
24 January 2009
Read the full article here:
http://www.wsws.org/articles/2009/jan2009/thai-j24.shtml
"John Thain, the CEO of brokerage house Merrill Lynch, who guided his firm's absorption by Bank of America, was fired yesterday by BOA head Ken Lewis after it was learned that Merrill had brought $15.31 billion in fourth quarter losses onto the bank's balance sheet. Bank of America stock has lost 83 percent of its value since the Merrill acquisition was announced on September 21, and analysts believe that the banking giant is, for all intents and purposes, insolvent."
...
Thain was widely celebrated for shepherding Merrill's sale to BOA. But the honeymoon did not last long when it became known that Thain had "failed to tell the bank about mounting losses at Merrill late last year," according to Marketwatch. Merrill's exposure to toxic debt has thrown into doubt BOA's own survival. It is widely assumed that Lewis sacrificed Thain in order to mollify stockholder anger—and save his own position, at least for the moment.
...
The financial aristocracy's unquenchable mania for personal enrichment, that Thain so thoroughly embodies, is not the source of the collapse of capitalism. Nonetheless, this socially destructive and parasitic quality is characteristic of historically doomed ruling classes. America's wealthy seem organically incapable of restraining themselves from committing outright larceny. They behave as though, on some level, they do not anticipate being around for very long."
Can anyone tell how this cycle will end up?
A Business to big to fail needs a bail out --> Guv-mint bails them out --> To pay for bail out, need more tax revenue --> People need more wages to pay more taxes --> Can't raise wages because economy is so bad --> Businesses merge to try and survive and lay off workers = even less tax revenue --> Business is to big to fail and needs Guv-mint...
We're borrowing from China to keep the money flowing. The system will be cold dead once the borrowing is terminated.
Yeah... Guv-mint is sub-prime borrower.
sierra7
RE: "should not CEO's be prosecuted..."
Yeah, I think a good thinking prosecutor could nail John Thain for pushing thru the exec bonuses before the BofA deal....gives indication of foreknowledge of some type of fraud.....
Un-restrained capitalism will devour society or society must learn to restrain capitalism.
That's called "regulation."
Both major parties are party to the scheme (or plain stupidity) of "free capital flows."
Like lava those flows will devour our society.
Kick them all out.