Monday, March 17, 2008

Things you can buy for two bucks

Now for less than the price of coffee at Starbucks you can get a piece of Bear Stearns. Not that I can think of any reason why anyone would want to buy shares of this effectively bankrupt investment bank. In an astounding remedy for a liquidity crisis, Bear is being purchased by JP Morgan for a mere $2 in stock per share; a deal that values BSC at a minuscule $230 million.

Note that this deal will not be an immediate bargain for JP Morgan; they will need to immediately take $6 Billion in write-downs upon acquisition and probably lose the $30B in loan guarantees made to Bear Stearns by the Fed. It does allow them to acquire a competitor for a measly 1/20th of the price where the BSC stock was a mere ten days ago. The deal also allows JP Morgan to take a slap at other investment banks who own a significant piece of Bear Stearns; the list includes Morgan Stanley (5.37%), Legg Mason (4.84%), and Barclays (3.60%). The deal effectively makes these holdings valueless.

So why is Bear Stearns willing to be purchased for a fraction of their value instead of declaring bankruptcy? The obvious reason is because if BSC declared bankruptcy then the executives would likely have to pay back millions in dollars in 2007 year-end bonuses that they received within the last 120 days. The decision to sell Bear Stearns for pennies on the dollar may not make sense for the stock holders, but it sure makes financial sense for the management. While the banks and government can dress-up the deal in an appealing dress and make bold statements about maintaining confidence in the markets; anyone with an inside track has a better perspective on the realities.

Bear Stearns shareholders can hold-out hope that a white knight competing bid of greater value will be put together by a consortium of other banks. This explains why BSC is trading in the open market near $4 rather than $2 today.