Bank of America in deal to buy MBNA

[HenryTo]

$35 billion deal with approximately $5.2 billion of that in cash. This will add substantially to stock market liquidity as the "deal date" closes:
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Bank of America in deal to buy MBNA
Stock-and-cash pact carries value of $35 billion
By Steve Gelsi, MarketWatch
Last Update: 8:27 AM ET June 30, 2005

NEW YORK (MarketWatch) -- Bank of America on Thursday said it's agreed to buy credit-card giant MBNA for the equivalent of $35 billion, in a bid to expand its own card business by more than 20 million new customer accounts.

Shares of MBNA rallied 26% to $26.50 in pre-market trading as investors cheered the combination of the two financial-services giants. Bank of America's shares fell 4% at $45.50.

An estimated $850 million in cost reductions will come from several steps, including the reduction of 6,000 jobs, the company said.

Terms call for Bank of America (BAC: news, chart, profile) to pay 0.5009 of a share of its stock for each share of MBNA (KRB: news, chart, profile) as well as $4.125 per share in cash. That translates into a value of $27.50 per MBNA share.

The price marks a premium of 30.5% over MBNA's closing price of $21.07 on Wednesday.

Bank of America said it anticipates an aftertax restructuring charge of $1.25 billion, with expense efficiencies would be fully realized in 2007.

"The acquisition dramatically increases the bank's opportunity to deepen customer relationships across the full breadth of the company by delivering innovative deposit, lending and investment products and services to MBNA's customer base," Bank of America said.

The agreement, approved by both boards of directors, is subject to approval by regulators and MBNA shareholders.

Bank of America CEO Kenneth Lewis said the deal goes beyond credit cards to create what he called "the country's top retailer of financial services with the size and scale to drive distribution and marketing efficiencies."

Art Hogan, market strategist for Jefferies & Co., said the financial-services sector, including credit-card firms such as Capital One (COF: news, chart, profile) and American Express (AXP: news, chart, profile) , would likely get a lift on Thursday. Capital One rose 4.3% at $3.21 in pre-market dealings.

The acquisition of the "800 pound gorilla" in the credit-card business has taken Wall Street by surprise, he said.

Bank of America has been acquisitive in the past and it had been looking at fresh targets, but the likes of a deal the size of MBNA had not been expected, Hogan said.

The massive $35 billion merger offer comes just two weeks after Bank of America said it would invest $3 billion in the China Construction Bank, in what would be the largest foreign investment in the country's banking sector to date. See full story.

Last week, Bank of America increased its quarterly cash dividend by 11.1%, to 50 cents a share. The higher dividend is payable Sept. 23 to shareholders as of Sept. 2.

All the same, the combined credit-card business of Bank of America and MBNA faces rocky waters on some fronts.

Card business under pressure

A recent note by CIBC World Markets said the outlook for credit-card issuers was negative as loan growth continues to slow down and profitability erosion is expected to accelerate.

Analyst Meredith Whitney said home equity loan growth was stealing business away from the credit-card market, which has become saturated.

In addition, Whitney said credit costs should rise, as the balances will be held by those without access to lower-cost home equity loans and non-homeowners.

She said higher credit costs, coupled with higher rewards costs to attract users, will lower fee margins at a time when net interest income is declining.

Whitney said Citigroup (C: news, chart, profile) , J.P. Morgan Chase (JPM: news, chart, profile) and MBNA will be most hurt by these trends.

MBNA shares fell 16% on April 21, after the company issued a profit warning. The company took a previously disclosed charge of $768 million to reduce its work force by 1,000 and terminate a marketing agreement. See full story.


Steve Gelsi is a reporter for MarketWatch in New York.

[HenryTo]

Sorry for the confusion - let's agree to disagree, for now.

Here is something you may find interesting. This is GaveKal's view on money creation:

Money creation

Mr Knut Wicksell, a Swedish economist of the late XIXth century, had a very powerful intuition; he believed that economic cycles could be explained by the divergences between what he called “natural interest rates” and “market interest rates”. If market rates were too low (i.e.: money was too cheap), it led to a boom centred on excess capital spending, excess borrowing and excess consumption. This boom eventually led market rates to rise above natural rates. In time, this change in the price of money eventually brought about a bust. The bust would then lead market rates to fall below the level of the natural rates…and the party could start again.

When Wicksell wrote, every country operated under the Gold Exchange Standard. As such, there was little that could be done to stem the periodic booms and busts which were more a function of gold discoveries and international capital flows than the results of conscious decisions by central bankers. This is no longer the case as central bankers do influence market rates since they have the ability to fix interest rates at the short end of the yield curve. With this ability comes tremendous responsibility.

Three economic schools can be traced back to Wicksell:

* The Keynes School of Thought: For Keynesians, if the rise of the market interest rate above the natural rate creates the bust, then a central
banker should prevent the market rate from ever going above the natural one. The central bank should thrive to produce the “euthanasia of the rentier”. Keynes view was developed during a depression, and was dominant in economic thinking up to the late 1970s.

* The Austrian School of Thought: For Austrians, any attempt by the central bank to prevent the market rate from going up distorts the market’s price mechanisms and hereby hinders the market’s self-regulating mechanisms. Central banks should try to keep markets rates as close to natural rates as possible and never indulge in counter-cyclical activities. The Austrians’ view was developed in the early XXth century by Von Mises & Hayek but only really came to the fore in the inflationary
period of the late 1970s.

* The Fisher School of Thought: Following the Great Depression, and after having lost all of his money in the stock market, Irving Fisher considered that the role of the central bank was to manage the market interest rate counter-cyclically. When the economy was booming, the central bank had to raise the market rate aggressively above the natural rate and when the economy slowed, the central bank had to collapse market rates far below the natural rate.

Note: Today, we would argue that the Fed, RBA, and BoE are following the Fisher School of Thought, the BoJ & PBoC are Keynesian and the ECB is Austrian. And the fact that each central bank is running things with a separate play-book makes the broader picture all the more complicated. But then again, while, as in Orwell’s Animal Farm, every central bank is equal, one is far more equal than others: the Fed. And this, for the simple
reason that the USD is (and will remain for the foreseeable future), the world’s reserve currency.

[nodoodahs]

Henry, a “spendthrift” is one who spends recklessly – they are the opposite of a miser. “Spendthrift” is a confusing word to many people (like my wife) so I’ve attempted to drop it from my vocabulary for the most part.

A society of misers would have technological innovation, but probably of a different sort … bent more towards efficiencies of production than conspicuous consumption, perhaps a bit more utilitarian. Think of finding ways to produce "new" '73 Dodge Darts for $500 per, instead of $60,000 cars with heated seats, multiple DVD screens, "I-Drive," "OnStar," and "Body Control Module" computer systems. The job of entrepreneurs is to create products that misers like me desire more than hoarded wealth. However, since we live in a world of mixed persons, simply imagine a higher proportion of misers than we currently have. Those persons would find investment opportunities or venture capital outlets that could fund the R&D which today is chasing after 53 different music playback formats, 35 gaming systems, etc. A society with a higher percentage of misers would be preferable to today’s debt-driven economy, as the prominence of debt has created many of the global capital imbalances we suffer with. Think “housing bubble” and "current account deficit."

My main intent in the previous post was to express disagreement with the basic Keynesian theology of consumption, which, unfortunately IMO, most macro theory is based on. Perhaps it’s best to just register the disagreement and pursue discussion of that topic later, agreeing to disagree for the moment. IMO the worst that could happen to China (and the world) is for them to adopt the typical American’s debt-laden lifestyle as this would sustain and exacerbate the current misallocations of global capital.

Note that I see nothing wrong with the judicious and prudent use of credit per se, but most Americans have moved beyond prudence and judiciousness. B of A pursuing the Chinese credit card business is a good idea for them IMO, a sound business decision.

Bottom line, bank runs are only made possible by the use of fractional reserves.

In a capitalist society there would be no central bank or lender of last resort. Any bank would use whatever fractional reserve ratio they thought prudent, weighing their desire for profit margin against their tolerance for “probability of ruin.” They would then issue their depository receipts or letters or credit based on whatever commodity they chose to back it with, say gold, silver, tobacco, etc. Customers would chose banks (if they used one) on a caveat emptor basis. Now perhaps banks would offer different plans, i.e. you incur a charge for a checking account with 100% fractional reserve, or get paid interest by signing a waiver (in case of bank insolvency) and agreeing to lesser fractional reserves. Also, you, Pete, or any other individual could make a profit opportunity out of writing investment letters telling people which banks are on the most secure footing, and charge for the information. Any bank experiencing a market run under such conditions may well go belly-up, but those choosing the 100% reserve option would preserve their capital, and others would take their risks as per the terms of the contract, with common-law remedies they could pursue. There are market solutions to these issues that are circumscribed by government, unfortunately so IMO.

In the society where there is a central bank and strong central banking law, there are other solutions besides allowing the good old-fashioned first-come first-served bank run. Let’s look at two:

Rather than allow a bank run to begin with, one could institute a stronger reserve requirement. Of course, since the Creature From Jekyll Island was invented by bankers, for bankers, I realize that such a solution would cut into profits too much. They had bank runs before the Fed was created … but they were local phenomena and of little danger to the financial structure of the country as a whole. The centralization of banking, along with the relaxed attitude towards reserves and the inflationary policies of the roaring twenties created the environment of which we speak.

The second alternative, assuming a bank run had already begun: simply disallow that banking accounts are par value redeemable. Liquidate the banks, discharge the debts, and return the remaining net assets (if any) to the holders on a pro rata basis. There is a single, massive deflation (in the monetary sense), taking place in a single day, and a strong recovery is then possible with great celerity. Open new banks (or reopen the old ones) immediately afterward. I imagine it may take some time before people started trusting them again, which would be a good thing.

Every president of the last 100 years, and many before that, were either demagogues or statists (a broader term that includes the triplets known as communists, socialists, and fascists), or both. Most were both. Some have been outright tyrants. The worst always rise to the top in “representative” forms of government, this is part and parcel of the “democratic” process. Suggesting that capitalists should “vote with compassion because of the fear of consequences” really points out the flaws of the process IMO.

There is no “middle ground” or “third way.” We either have freedom or we have statism. I am reminded of the story where a man asked a woman for her favors, to be provided on a mink coat in a Paris hotel. When she acquiesced, he then asked her if the exchange would still be acceptable for a (much) more modest remuneration. She replied, indignantly, “what do you think I am?” He retorted, “we’ve already settled that point, my dear, now we are negotiating.” Any talk of a “third way” or “middle ground” is simply that, an acquiescence followed by negotiation, a “French model” that, instead of speaking French, speaks in a bad Inspector Clouseau accent.
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He was wearing my Harvard tie. Can you believe it? My Harvard tie. Like oh, sure, HE went to Harvard.

[HenryTo]

Bill,

In this world of ours, we take what we can get and we definitely do not want a world where consumer-driven growth is solely focused on the U.S. There are already huge imbalances in the global economic system and "opening up" China as a consumer market and helping her develop her own financial infrastructure (which will also curtail fraud and corruption) will be immensely helpful given the state we are currently in.

The action that I discussed regarding BofA & China does not involve direct intervention of the government nor the development of a Social State. It represents the development of a modern financial system and the necessary accompanying infrastructure - said infrastructure which is desperately needed to facilitate financial transactions in this modern globalized world and to curtail corruption and fraud. I cannot find any fault with that.

It is also to be noted here that humans are flawed beings the day we are born - with a thirst of unlimited wants and desires. What type of country or economic system will most beings want to live in? The fact that human beings have unlimited wants and the expectations of unlimited new products and services means that new markets are continually being developed. The guy down the street who is a spendthrift probably does not want the latest thing - so what if we have a society full of spendthrifts? Given a capitalist economy and minimal government intervention (no wars, etc.) then technological advances will come to a near halt since the latest and greatest is always relatively expensive.

I have read Rothbard's work on the Great Depression and what he said makes a lot of intuitive sense. But ultimately, one has to ask this question: What if FDR had never declared a banking holiday and what if he decided to liquidate all the farmers and banks that were in debt? Bill, if you were alive at the time - I have no doubt you can bear that burden but what about 80% of all Americans? Who will they have "elected" once FDR was run out of office? A Communist or perhaps a demagogue like Hitler? I am very much a capitalistic person and I frown upon people who can work but don't because they are too lazy - but Thomas Friedman said it best when he stated that in this flat/globalized world, the typical capitalist who embraces globalization will need to be a compassionate person in the voting booth - not because he or she agrees with the policies but because if we don't be careful going forward, we may ultimately find ourselves in a governmental/economic system that is much worse than any of the systems we have today.

Obviously, the French model (like GaveKal said, it is really not a French model) of the Social economy does not work - and it is a system I frowned upon. However, we need to find a middle ground. Do I like or dislike the idea of a minimum wage, for example? That depends on how you phrase that question. Food for thought on this quiet Thursday night.

Best,

Henry

[nodoodahs]

Sorry, Henry, but I don't buy (consume?) that the world needs help from increased consumption. IMO very flawed Keynesian concept (like GDP as a measure of the "economy").

Here's a link to someone who says it more eloquently than I can. Also, for those that are interested, the site has an extensive collection of newsletters with investing insight galore ... I quote only part of the newsletter.

http://www.leithner.com.au/newsletter/issue64.htm

As an example, consider the boy who announced “I want to be a Consumer” in the British satirical magazine Punch (25 April 1934). “But what do you mean to be?” asked the kindly old Bishop as he sat the boy on his knee. “We must all choose a calling to help society’s plan. So what do you mean to be, my boy, when you grow to be a man?” “I want to be a Consumer,” earnestly replied the fresh-faced lad. “I’ve never had aims of a selfish sort. For that, I know, is wrong. I want to be a Consumer, Sir, and help the nation along. I want to be a Consumer and consume both night and day; for that’s the thing that’s needed most, I’ve heard Economists say. I won’t just be a Producer, like my friends Bobby and James and John; I want to be a Consumer, Sir, and help the world on.” “But what do you want to be?” the Bishop asked again. “For we all have to work, as must, I think, be plain. Are you thinking of studying medicine or taking a bar exam?” “Why, no!” exclaimed the lad as he helped himself to jam. “I want to be a Consumer and live in a useful way; for that’s the thing that’s need most, I’ve heard Economists say. There are too many people working and too many things are made. I want to be a Consumer, Sir, and help to further trade. I want to be a Consumer to do my duty well; for that’s the thing that’s need most, I’ve heard Economists tell.” And so the boy resolved, as he lit a cigar, to say: “I want to be a Consumer, Sir, and I want to begin today.”

In a manner that a schoolboy can readily understand, this passage illuminated a glaring deficiency of thought and action that prolonged and deepened the Great Depression – and which has infected mainstream thinking ever since (the best studies are Benjamin Anderson, Economics and the Public Welfare, Liberty Press, 1949, 1979, ISBN: 0913966681; Murray Rothbard, America’s Great Depression, Ludwig von Mises Institute, 1963, 2000, ISBN: 0945466056; Gene Smiley, Rethinking the Great Depression: A New View of Its Causes and Consequences, Ivan R Dee, 2002, ISBN: 1566634725; Jim Powell, FDR’s Folly: How Roosevelt and His New Deal Prolonged the Great Depression, Crown Forum, 2003, ISBN: 0761501657; Thomas DiLorenzo, How Capitalism Saved America, Crown Forum, 2004, ISBN: 0761525262; and various books and articles by Robert Higgs). As during the Depression, so too today: to policymakers, who have arrogated these decisions into their own hands, the really important thing is not production (which is somehow taken for granted) but consumption (which is allegedly prone to “deficiencies” of one type or another and must therefore be “stimulated”).
.....

There's more at the link.
_________________
He was wearing my Harvard tie. Can you believe it? My Harvard tie. Like oh, sure, HE went to Harvard.

[HenryTo]

This is along the lines of what Pete said. Looking at the big picture, could this deal contribute significantly to the development of a consumer culture in China? The world desperately needs other consumer markets - it definitely cannot depend on the U.S. consumer forever. Bringing only 4% of China's population (50 million customers) into the fold would contribute significantly to the cause:
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Friday July 1, 2:26 AM
Bank of America, MBNA say China helps drive deal
NEW YORK, June 30 (Reuters) - Bank of America Corp., Bank of America CEO Kenneth Lewis told a press conference in New York that the MBNA deal increased Bank of America's scale in cards and enhanced its ability to market on a worldwide basis.

"With regards to international (plans), we do see some opportunities, particularly in China," said Lewis.

Lewis said the deal may even speed up Bank of America's negotiations with China Construction Bank (CCB), following the announcement on June 16 that Bank of America would pay $3 billion for a 9 percent stake in CCB.

Bank of America, the No. 2 U.S. lender, has the option to increase its holding in CCB [CCB.UL] over the next 5-1/2 years to 19.9 percent, the maximum allowed under Chinese law.

"We think this has the potential to speed up our negotiations, and even make China Construction Bank more excited about the prospects because of everybody's knowledge of what great marketers MBNA are."

China Construction Bank, considered the healthiest of China's Big Four state banks, has about $472 billion in assets and 14,500 branches.

UNTAPPED CHINESE MARKET

MBNA CEO Bruce Hammonds, who will become CEO of Bank of America Card Services, said opportunities for the combined company lay overseas "especially in China."

Hammonds said: "China's market for credit cards is fairly untapped, and we have been interested in that market.

"Today, we don't have a way to market our products in China.

Hammonds said the CCB deal along with the government's recent approval of credit card joint ventures would give the combined company "instant access and a very good distribution system in the China market."

The stock-and-cash acquisition by Bank of America, which offers a premium of 30.6 percent for MBNA, will more than double Bank of America's card base to 40 million and give it $143 billion in card balances.

It would make Bank of America the leading rival in credit cards to Citigroup Inc. and JPMorgan Chase & Co. , and bigger than American Express Co.

MBNA is Lewis' second big acquisition, following the $48 billion purchase of FleetBoston Financial Corp. in April 2004.

MBNA has been struggling amid increased competition from other card issuers and from banks whose lower card rates encourage consumers to pay off higher-cost debt.

[HenryTo]

Nice analysis. This is a very logical step for both China and for BofA - once the infrastructure is in place, it will probably only take five to ten years for the mainstream Chinese to adopt the credit card culture - at least for the under-40 generation anyway.

For readers who are interested in reading more of Pete's analyses, you can go to his blog at: http://capmarketline.blogspot.com/

Best,

Henry

[pete richardson]

Nice long term move by BofA.

Major new distribution channel for banking services, more operational
efficiency, stronger credit underwriting.

I suspect the prime long range goal for BofA is to work with China
Construction Bank to create a broad retail bank network in China
with an ultimate rollout of 200 million credit cards. God forbid
the Chinese should have to lug cash to the mega malls now under
construction there.

We'll work our credit system into China. Next, will come lawyers, and
before you can say mo shoo pork, Beijing will be seduced!

PR