Someone, somewhere finally made some money in the middle of this mess when it was least expected, even if luck and the hand of the U.S. government was involved. This is the story of how Corsair Capital, a private equity fund named after JPMorgan’s yacht and run by ex-JPMorgan banker Nick Paumgarten, was able to escape its near-disastrous, six-month-long investment in Cleveland’s National City Bank with what appears to be at the moment—drum roll, please—a profit.
The deal stands to make Corsair one of the only, if not the only, private equity investor in financials on the planet to have managed such a feat during the middle of the crisis. Not even the maestro himself, Warren Buffet, found the bottom of this market, as his two recent investments in Goldman Sachs and GE attest. (In fairness, Buffet makes no claim to attempt such artistry and he did cut two tough deals with two companies.)
Corsair’s good fortune is worth pausing over and enjoying. In this market, almost every other smart-money investment in a financial institution is far under water.
Events have been unfolding at such an amped-up pace during the Great Unwind that it was inevitable that something of consequence would slip by largely unnoticed and under-appreciated. By all appearances, National City, a regional bank beset by a trove of problems related to its misguided investments in mortgage-related assets, doesn’t merit any more attention than its struggling peers.
Yet Corsair’s good fortune is worth pausing over and enjoying, if only until the next wave of bad news jolts us back to reality. In this market, almost every other smart-money investment in a financial institution made during the past 18 months—from Warburg Pincus’ $1 billion investment in MBIA to the government of China’s $3 billion investment in Blackstone—is far under water.
To review the facts and circumstances of the National City deal, on April 21, Corsair, a fund that specializes in financial services, invested $785 million in National City as part of a $7 billion capital infusion into the company. (Some $200 million of the $785 million came from Corsair itself, with the balance coming from its limited partners.) The idea was to help National City return to its roots as a local Cleveland bank and start lending again; the money would allow the bank to lift its Tier 1 capital ratio, the key measure of a bank's financial strength, to 11.4% pro-forma for the transaction, from 6.65%.
Corsair, and the other investors, paid $5 per share for their National City stock, well below the $8.32 the stock closed at the day before the deal was announced. As part of the deal, Corsair also negotiated for warrants and for anti-dilution protection that would make the firm whole on its investment in some 18 months if National City later sold itself for a price per share of between $2.50 and $5. (For a price below $2.50 per share, Corsair would be treated like other shareholders.)
The anti-dilution provisions, which were not particularly unusual for a private-equity investor making a deal in a distressed situation, mirrored the structure used by TPG, the large private equity firm, in a similar $7 billion investment it led into Washington Mutual, on April 9. Both Corsair and TPG used the law firm Simpson Thatcher for legal advice on the investments. Unfortunately, for TPG, its anti-dilution provisions—that TPG agreed to amend in mid-September in order to try to attract new capital into the struggling firm—did not withstand what amounted to the bankruptcy of Washington Mutual. In the end, no new investor came to the table and the government seized Washington Mutual at the end of September and forced its retail branch network into the arms of JPMorganChase. TPG’s six-month $1.3 billion investment was worthless.
Corsair faced many similar macro-economic circumstances with National City as TPG did with Washington Mutual but the outcome was far different. On October 25, PNC, the large Pittsburgh-based bank, announced it was acquiring National City for $2.25 per share in PNC stock, in a deal worth $5.1 billion. To facilitate the deal, PNC received $7.7 billion in cash from the Treasury’s $700 billion bank bailout plan, an investment that John Dugan, the Comptroller of the Currency, reportedly said was not going to be made available to National City unless and until the bank exhausted its M&A options, and maybe not even then. Dugan’s comments helped spur the deal with PNC. By the terms of its original investment, Corsair was paid the difference between $2.50 and $5 a share (losing 25 cents a share on its common stock) and then received a windfall on its warrants. At the moment, given the PNC stock price, Corsair’s original $785 million investment is now worth around $1 billion in PNC stock.