Despite all the attention the press has paid to the fight between New York Attorney General Andrew Cuomo’s office and Bank of America over Cuomo’s attempt to despose executives over the billions bonuses paid and losses made, the focus of the investigation is not the big bank based in Charlotte. It’s Merrill Lynch and John Thain who are in Cuomo’s crosshairs, according to Charlie Gasparino’s latest column in the Daily Beast. And it’s possible that Thain could slip away.
The focus of the investigation is a series of meetings between Thain, who was running Merrill Lynch until earlier this year, the board of directors of Merrill Lynch and executives at Bank of America. After the merger between Bank of America and Merrill Lynch it would be learned that Merrill executives received $3.6 billion in bonus money before Merrill announced a $15 billion fourth quarter loss last year. Bank of America went back to the government for billions more in TARP money to make up for the losses.
That combination of losses, bonuses and bailout provoked public outrage and the investigation by Cuomo into who knew what, when they knew it and whether it makes sense to pay bonuses of that size in a firm that had basically collapsed in on itself.
Who knew about the bonuses and losses and when did they know it?
- Cuomo is looking at whether Thain purposely moved up the timing of Merrill’s bonuses, just before the losses were reported and just after the merger was approved. The idea is that if Thain knew about the losses and moved the meeting up because he feared they would scuttle the bonuses, he may have been acting fraudulently.
- Thain’s defence is that the merger agreement between Merrill and B of A clearly authorised him to pay the bonuses. What’s more, he is said to have had numerous meetings with B of A executives about the bonuses right around the time the merger was approved by B of A shareholders.
- Most members of Merrill’s board have been interviewed by Cuomo’s office, revealing that Thain scheduled an early board meeting about bonuses on November 11th. At the time the losses stood at only about half of what Merrill would eventually report for the quarter. The merger was approved on December 5. The bonuses were approved on December 8th.
A stumbling block for Cuomo?
It’s unclear whether Cuomo’s investigation will produce any serious charges. “For one thing, there’s plenty of conflicting testimony concerning the timing of the bonuses and who knew what about the size of the losses,” Gasparino writes. “Lewis, for his part, has said under oath that his people objected to the size of the Merrill bonuses when they were disclosed. People close to Thain say the merger agreement stated explicitly that Merrill executives would be paid bonuses as part of the deal, so the timing doesn’t really matter.”
So a key question seem to be whether the merger agreement rapidly thrown together after the shotgun wedding of Merrill and B of A in September really did authorise Thain to pay those bonuses regardless of losses at the firm. The obvious follow up is whether or not the subsequent losses should have caused Thain to hold back from exercising that authority to pay out the billions.
The great bonus condundrum.
Underlying all this is a fight about the wisdom or ethics of paying billions in bonuses in a firm that was so deeply in trouble that it needed to once again turn to the government for a bailout. People defend the bonuses say that Thain was using sound business judgment in authorizing the bonuses. If he hadn’t paid, the top talent would have left, they say. “These guys had major clients they could take anywhere and they would have gutted the firm,” one person close to Thain tells Gasparino.
That raises a question about the very purpose of the bailout: is it intended to subsidise the survival of failed firms or to stabilise the financial system? If the purpose is to keep a firm like Merrill Lynch intact, its almost certain that bonuses need to be paid. Having the government second guess the appropriate level is just potentially dangerous quibbling.
But if the purpose is to provide financial stability, the bonuses aren’t justified. Having bankers and brokers with major clients move to other firms is simply the operation of market processes. In fact, it’s a great way to conduct an orderly disolution of a firm. The work will still get done, it just gets done elsewhere.
All the talk about whether top guys “made money” for the firm is just a smokescreen. If your firm loses money overall, it’s ability to pay you will be constrained. That’s true of every business, at least until the government steps in with taxpayer money. We’d all like to be paid a lot becaue we are good at our jobs. Our ability to get paid, however, is typically constrained about the wisdom of our choices about who we work for and what industry we work in.
How The TARP Screws Up This Debate And Why It Shouldn’t
The capital injections by the government have only confused the matter, since they have now created a public interest in the survival and profitability of individual firms rather than the broader health of the financial system. Or, at least, they seem to have created that interest. In point of fact, the very broadness of the bailout means the public doesn’t need to prop up any one firm. The TARP has created diversified portfolio of financial firms, which means that even if, say, JP Morgan gains at the expense of Merrill Lynch by hiring away its top bankers, the public benefits.
In short, there’s no real need to pay huge bonuses with bailout money. And there’s a huge cost: we wind up preventing the market for talent from operating officially, trapping valuable human capital in toxic firms. It’s a classic case of malinvestment aided and abetted by government intervention.
Unfortunately, we’ve not seen any evidence that Cuomo understands this deeper issue of market processes.