The Ignored Information Content of Stan O'Neal's Call To Wachovia

tag:blogger.com,1999:blog-3782644139927778760.post-58978760675823624262007-10-27T00:37:00.000-04:002007-10-27T14:21:25.503-04:002007-10-27T14:21:25.503-04:00The Ignored Information Content of Stan O'Neal's Call To WachoviaThe New York Times got a hold of a hum-dinger: that Merrill Lynch's CEO Stanley O'Neal had called G. Kennedy Thompson, the CEO of America's fourth largest bank, Wachovia, last week <a href="http://www.nytimes.com/2007/10/26/business/26merril1.html">to feel out a possible merger</a>. Thompson's reaction was cool, and his stated reason was that the Charlotte, NC bank was still digesting earlier acquisitions. Merrill's board was reported to be furious at the move, despite the fact that initiating this sort of call is not a hanging offense in the executive suite (although having it run on the first page of the New York Times puts it in another category). O'Neal is not expected to last the weekend as Merrill's chief. The reaction in the press and in the markets was knee jerk. <a href="http://www.bloomberg.com/apps/news?pid=20601109&sid=aUjUl_UDUDSE&refer=home">Merrill's stock was up 8.5%</a> by the end of the day and most analyses focused on what a merger would have done for O'Neal's pay package (a sale of a <a href="http://www.bloomberg.com/apps/news?pid=20601109&sid=aUjUl_UDUDSE&refer=home">30% or more stake</a> would trigger payments estimated at <a href="http://blogs.wsj.com/deals/2007/10/26/200-million-reasons-for-oneal-to-find-a-buyer/">$200 million</a> or <a href="http://www.bloomberg.com/apps/news?pid=20601109&sid=aUjUl_UDUDSE&refer=home">more</a>) , and what he might get upon his ouster (the <a href="http://www.nytimes.com/2007/10/27/business/27payout.html?ref=business">New York Times</a> and Bloomberg disagree by a pretty big margin). But no one seems to be reacting to the information content of O'Neal's move. Things look so bad for Merrill that calling, of all institutions, Wachovia, a domestic bank that has about zero in common with Merrill, and suggesting a merger, seemed reasonable. That is a move of sheer desperation, and everyone assumes it was desperation for O"Neal to save his severance package. What if everyone has this wrong? What if O"Neal thought this was a reasonable move to save Merrill? This scenario says that, having finally gotten his arms around the dimensions of the problem, O'Neal thinks Merrill should make the best deal it can before things deteriorate further. If that's what the phone call was really about, the people who ran Merrill's stock up today have got this badly wrong. Let's consider a few facts. Most CEOs like being CEOs. Once you fall off that perch in disgrace, it's rare indeed to make a comeback (how many can you name besides Steve Jobs and Robert Nardelli?). And even with the lavish paydays, the ones I've come across in the year or two after having lost out by being fired or having their companies acquired look very diminished, like shells of their formers selves. The current conventional wisdom, that O"Neal called Thompson to pull his personal rip cord, flies in the face of how corporate leaders operate. Plus the board was already out for his head. If O"Neal really wanted to get fired, all he'd have to do is have a couple of lousy analyst presentations, or get snippy with the board. At this juncture, it wouldn't have taken much for them to terminate him, which also would have triggered cash and prizes. Consider this discussion from the <a href="http://www.nytimes.com/2007/10/27/business/27merrill.html?ref=business">New York Times</a>: <blockquote>According to people with knowledge of the deliberations, Mr. O’Neal pitched the idea of a merger with Wachovia as one option that the firm was considering. Other possibilities raised included a direct equity infusion by an investor and a sale of Merrill’s 20 percent stake in Bloomberg, a holding that some analysts have valued as high as $4 billion. According to these people, the view of the board was that Mr. O’Neal was pushing the Wachovia deal. Indeed, compared with the other proposals, the Wachovia option does come across as a more proactive proposal, notwithstanding the fact that Wachovia’s chief executive expressed reservations. Mr. O’Neal would be entitled to a payout worth more than $274 million if he left after a deal, according to a pay analysis by James F. Reda & Associates, a compensation consulting firm, using yesterday’s closing price. The other options, a capital infusion and selling the Bloomberg stake, would convey to the market a notion that Merrill had concerns about whether it had enough capital available after the write-downs, these people said. Such vulnerability, perceived or real, could hurt a large investment bank like Merrill that relies on its capital and reputation to cut big deals or engage in sophisticated trading strategies.</blockquote> The message here is plain and simple. The easy options to shore up Merrill's capital base could make matters worse by raising worries about the soundness of the firm. But any time a merger looks like a better solution than a capital infusion (and recall, sale of a 30% stake would also have triggered a big O'Neal payday), that says a firm is on the ropes. The drama about Stan O"Neal is a sideshow to a much bigger and more difficult problem: what will it take for Merrill to right itself?Yves Smithhttp://www.blogger.com/profile/03506020285476330865noreply@blogger.com