10.01.09

The Merger That Ruined Lewis

Bank of America CEO Ken Lewis was the classic American success story. But he had a weakness for big deals—and his resignation was inevitable from the second he agreed to take on Merrill Lynch.

On Wall Street, one man’s exit strategy is another man’s demise. In a world where enough is never enough, nabbing that last career-capping acquisition can kill you. Bank of America’s soon to be former CEO, Ken Lewis, knows that all too well. He was ruined by his personal nemesis—the drive to bigness. And bad timing.

As the old gambling song says, “You got to know when to walk way, know when to run.” Maybe that thought went through Lewis’ head when he agreed to buy Merrill Lynch, with its looming losses and pending bonus payouts. But whether through ego, arm-twisting, or some misplaced notion that everything would be okay in the end, he didn’t walk away.

Lurking beneath last quarter’s rather positive second quarter earnings were “liabilities including the Merrill Lynch structured notes.” Yes, Merrill will be a gift that keeps on taking.

Lewis’ resignation was inevitable from the second he agreed to take on Merrill. He joins Sandy Weill, another former CEO and merger maniac, whose insatiable need to acquire other firms both created and nearly destroyed mega-bank Citigroup.

Lewis stayed at the table too long. Indeed, his very presence secured his—and Bank of America’s—fate. No one else would take Merrill. And Merrill couldn’t die. Thus, the $50 billion Merrill deal, hammered out in 48 hours just after Lehman’s bankruptcy, was his undoing. When the deal went through on Jan. 1, Bank of America stock was trading at $33.74. Three weeks later, it had lost 80 percent of its value. That was just the beginning of Lewis’ problems. Bank of America’s stock price would bottom out at $3.14 in March.

Lewis’ weakness for mergers, particularly ones advised by Goldman Sachs, was well-established. Still, with Merrill, he was outgunned by three men: the master investment banker, Treasury Secretary and former Goldman Sachs CEO Hank Paulson; the man with the deep pockets, Fed chairman Ben Bernanke; and the man who nabbed the helm of Merrill Lynch before it oozed losses, and managed to extort $3.6 billion of bonus money out of the federal bailout, former Paulson protégé John Thain.

Charlie Gasparino: Will the SEC Charge Ken Lewis?New York State Attorney General Andrew Cuomo later opened a probe into the timing of those bonuses—which Thain had moved to December 2008, before the merger closed—in conjunction with a $15.3 billion fourth-quarter loss, on top of what was then $45 billion in federal bailout money between Merrill Lynch and Bank of America. Thain resigned three weeks after the merger closed.

Meanwhile, investigations surrounding Lewis mostly center on those bonus payments. But they should be concentrating more on the merger itself—as in why it was allowed, even encouraged. Lewis hadn’t demanded time to review Merrill’s books, even though Merrill had been a leader in the manufacturing of collateralized debt obligations, the most toxic of toxic assets. Not that Paulson and Bernanke would have given it. There was a world to save from annihilation.

The Good Times

It started out well for Lewis. He rose quickly through the ranks of Bank of America’s regional commercial bank divisions. Joining North Carolina National Bank (the predecessor to NationsBank and Bank of America) in 1969 as a credit analyst in Charlotte, he was the classic American success story. Rewarded for hard work and determination, he became chairman, CEO, and president of Bank of America in April 2001.

But he had a vice. Lewis got the merger bug from his predecessor, Hugh McColl, a key proponent of the deregulation that enabled bank mergers. Under his tutelage, Bank of America acquired some big game, like FleetBoston Financial Corp. on April 1, 2004.

Then there was the merger with credit card giant MBNA in January 2006. At an internal meeting in November 2006, two employees took the microphone to sing (yes, sing) about the merger’s success to the tune of U2’s hit song “One” (yes, U2, yes, “One”). Within a week, a related video was circulated throughout the firm to underscore its newfound unity—though anyone who’s worked at a company undergoing a merger knows that the concept of bonding doesn’t quite transcend the rhetoric. It’s more like infighting, confusion, resentment, and layoffs.

When the Goldman-advised Countrywide Financial deal was struck in January 2008, Countrywide was valued at $4 billion. Two weeks later, it posted a loss of $422 million for the fourth quarter of 2007 due to subprime losses. By the time the acquisition was completed on July 1, 2008, its value had sunk to $2.5 billion, and the company was mired in lawsuits.

Lewis netted $110 million in salary, stocks, and bonuses from 2001 to 2007 for his merger work. But because of them, Bank of America was always a patchwork of other firms. Not many of its core businesses were built from scratch, so the idea of long-term strategy took second fiddle to short-term growth. The bank’s employees, systems, and books from various acquisitions remain only loosely integrated.

…And the Bad Times

On April 29, the firm demoted Lewis to president and CEO, stripping him of his duties as chairman. On Wednesday, almost five months to the day later, he resigned, effective Dec. 31.

There are two ways to look at the timing. First it follows an onslaught of fresh investigations into the timing of Merrill’s bonus payments, after Judge Jed Rakoff overturned an SEC decision that would have made the matter go away with a $33 million fine. The pressure that had subsided for a second resurfaced. And that just isn’t fun for Lewis.

But he also recently announced rather positive second quarter earnings—which on the surface looked okay. Last quarter’s net revenues were up $3.2 billion. On closer inspection, they were driven largely by trading and the sale of two entities. Lurking beneath them were “high credit costs…as well as significant negative credit valuation adjustments on certain liabilities including the Merrill Lynch structured notes.” Yes, Merrill will be a gift that keeps on taking.

And yet the firm still managed to announce its exit on Sept. 21 from some of its federal subsidies, including $44 billion in FDIC guarantees, thereby reducing its pull on public money from $108 billion to $64 billion.

However, we are two weeks away from the next quarterly earnings, due out on Oct. 16. Would Lewis quit now if those were going to be really good?

Whatever the case, as Ken Lewis rides off to figure out what to do with the wealth he accumulated, one thing’s for sure—there won’t be any new internal glory songs about his last merger. Poor Ken. Poor Bank of America. And poor us. We are left with a rather opaque and enormous firm carrying substantial ill-defined risk. Somewhere out there, John Thain is cracking a wide grin.

Nomi Prins is author of It Takes a Pillage: Behind the Bonuses, Bailouts, and Backroom Deals from Washington to Wall Street (Wiley). Before becoming a journalist, she worked on Wall Street as a managing director at Goldman Sachs, and ran the international analytics group at Bear Stearns in London.