Thursday, September 22, 2011

Bank of America's Countrywide: The Gift That Keeps on Giving

Should Bank of America let Countrywide go under? I’ve been reading more and more about how Bank of America is considering letting Countrywide go bankrupt in order to stay afloat. Just a mere two years ago, BAC CEO Ken Lewis sat before the House Committee on Oversight and Government Reform, bragging about the acquisition:

Since our acquisition of Countrywide, now renamed Bank of America Home Loans, we have established new management, developed a new risk culture, and created a new suite of products that are simpler and more transparent to customers.

So, how does “Bank of America Home Loans” go from a necessary and integral business unit to the sacrificial lamb? According to Bloomberg BusinessWeek, Countrywide’s bankruptcy could cut down on Bank of America’s legal proceedings. But, letting Countrywide slide into bankruptcy – the so-called nuclear option – doesn’t mean a homerun for Bank of America.

The fallout could be severe – who would want to trust the bank again, let alone do new business with them? Or, trust them enough to enter into another acquisition. Especially with Bank of America saying they ensured Countrywide’s separate identity was preserved through the acquisition.

Not to mention the legality of the bankruptcy. It’s not at all clear that pulling the plug on Countrywide takes all their liabilities off of BAC’s balance sheet. Legal opinions differ on this, but one thing is for sure: this won’t be quick and it won’t be clean. Do you want to invest in a bank that has this uncertainty hanging over its head? Not to mention what this all says for Ken Lewis’ genius strategy in the first place.

Regardless of Countrywide denouement, is anyone else wondering what happened to all those subprime mortgage securities and other “toxic assets” that plagued Bank of America a couple of years ago? Is there a new law of business physics that allows that stuff to disappear? So they dumped some of it on Fannie Mae (now suing BAC as a thank you), but my banking friends who understand the economics of this better than I tell me that FASB allows companies like BAC to use something called “Mark-to-Model” valuation. Not mark-to-market, but setting a valuation on the books based on internal models. If it’s anything like a model airplane, it may look real, but once you try to fly it – it’s just going to crash.

For more thoughts on Ken Lewis and Bank of America, read my op-ed for the Washington Post and a recent interview at the Tuck School of Business.

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