Ken Lewis is the banker of the year, according to American Banker magazine. But the bank he runs, Bank of America, has loaded up with junk assets by buying Countrywide and Merrill Lynch. Now analyst Sean O’Neil at Singular Research says it is probably only a matter of time until Bank of America needs a Citigroup sized bailout to fill the whole in its balance sheet.
Courtesy of Barron’s:
While both of its major acquisitions were thought to be at fire-sale prices, the questionable assets and leverage that came along in these deals will, in our opinion, lead to a very steep price paid for both Merrill and Countrywide.
On a pro forma basis, Bank of America will have approximately $2.6 trillion in assets, and net tangible equity of approximately $130 billion, or a tangible leverage ratio of 20 times. What is especially troubling is that the combined company will have something in the range of $367 billion in questionable assets. These include level 3 assets, off-balance-sheet collateralized debt obligations, variable interest entities, etc., and a substantial exposure to derivative contracts. This does not include commercial real-estate and credit-card exposure, which also has its share of risk.
Ultimately, we believe that a large portion of these assets will have to be written down, and that the company’s net equity position will be at significant risk.
While we believe that revenue and especially earnings will be hampered during the next several quarters, our thesis is based mainly on balance-sheet risk. We believe that as write-downs increase, the stock will tend to trade toward tangible book value.
Without some sort of government bailout such as the recent bailout of Citigroup (C), we expect tangible book value to decline to approximately $5 over the next several quarters.