S&P Downgrades BofA, Questions Merrill Acquisition

Standard & Poor’s Ratings Services said Monday afternoon that it had downgraded its long-term counter party credit rating on Bank of America Corp. (BAC) to ‘AA-‘ from ‘AA’. The downgrade comes on a formal announcement by both firms of a deal that will send Merrill Lynch & Co. (MER) into the hands of BofA, in a $50 billion deal that S&P termed “opportunisitic.” Under terms of the transaction, Bank of America would exchange .8595 shares of Bank of America common stock for each Merrill Lynch common share. The price is 1.8 times stated tangible book value, and is expected to close in the first quarter of 2009, both companies said. See BofA’s press statement, and Merrill’s press statement. Looking past the technical language used by ratings analysts and vague platitudes issued by executives at both companies in the wake of the deal’s announcement, it’s clear that Merrill saw the writing on the wall. It’s also clear that the deal does little to resolve Merrill’s pile of bad assets, besides potentially put them into the lap of Bank of America — and with the toxic waste already tied to the bank’s other quarry earlier this year, Countrywide Financial, it’s clear that some are worried about contamination of what was previously a nearly-pristine balance sheet. “The downgrade of BofA and the placement of the ratings on CreditWatch with negative implications reflect the risks of acquiring Merrill Lynch in the present turbulent market environment,” said Standard & Poor’s credit analyst John Bartko, in a press statement. S&P said that the purchase “will place further pressure on BofA’s capital, already strained by the Countrywide acquisition.” “Merrill will introduce more residential housing risk to BofA, notably in the form of its sizable holdings of collateralized debt obligations (CDOs) backed by subprime residential mortgage backed securities (RMBS), at a time when the U.S. mortgage market continues to deteriorate,” according to the agency. “We cannot rule out the possibility of future writedowns.” We’ll go further — future writedowns seem almost a given at this point. But BofA CEO Ken Lewis’ focus is clearly anywhere but upon short-term pain, given his remarks. “Acquiring one of the premier wealth management, capital markets, and advisory companies is a great opportunity for our shareholders,” he said earlier Monday. “Together, our companies are more valuable because of the synergies in our businesses.” Call it a pet peeve of mine, but whenever I hear CEOs crowing about “synergies,” I can’t help but roll my eyes. There is so much more to executing a deal of this size and complexity than “synergy,” and only time will tell if BofA can succeed at it; with Countrywide — no small integration effort on its own — still very much an outstanding (and, our sources note, nowhere near complete) project, it’s clear that Lewis & Co. have bitten off a pretty large bite to chew here. Disclosure: The author held no relevant positions when this story was published; indirect holdings may exist via mutual fund investments. HW reporters and writers follow a strict disclosure policy, the first in the mortgage trade.