Bank of America Shrugged

Bank of America, struggling with all the stupid and horrendous acquisitions they made over the past year, is now asking the government to help them again.

Andrew Jefferey draws a nice parallel between what is going on today and what Ayn Rand wrote over 50 years ago in Atlas Shrugged:

The phrase “buyer beware” no longer applies in the American banking system.

Last September, as the financial markets skidded out of control, Merrill Lynch CEO John Thain sought to keep his firm from going the way of rival Lehman Brothers by selling out to Bank of America (BAC). At the time, B of A chief Ken Lewis was touted as a shrewd opportunist who seized upon a desperate rival.

Now, it appears, Lewis is the one groping for a helping hand.

According to the Wall Street Journal, the Treasury Department is preparing to offer up billions of dollars to help Bank of America complete the transaction. As in Citigroup’s (C) recent bailout, where the federal government assumed the risk for a pool of distressed assets, taxpayers are about to buy Merrill’s book of truly toxic debt.

Bank of America approached the Treasury Department in December, claiming it might have trouble closing the sale after learning Merrill’s fourth-quarter losses would be larger than expected. Fearing the deal’s collapse could inflict irreparable damage on the already wounded financial system, the Treasury is continuing to spend TARP money it doesn’t have. With the first $350 billion already allocated, Treasury Secretary Hank Paulson is dipping into funds earmarked for a second round of capital allocation that hasn’t yet been authorized.

The fact that Bank of America needs yet more money — on top of the $25 billion it received just last October — is evidence that, once again, regulators and bank executives have underestimated the scope of the debt crisis gripping the country’s financial system. Deleveraging is underway – and it’s gaining momentum. Nevertheless, lawmakers and regulators alike insist on using taxpayer money to try and slow down the accelerating juggernaut of bad debt.

To quote a recent op-ed in the Journal, which likened the government response to the current financial crisis to the circumstances described in Ayn Rand’s Atlas Shrugged,

“Politicians invariably respond to crises — that in most cases they themselves created — by spawning new government programs, laws and regulations. These, in turn, generate more havoc and poverty, which inspires the politicians to create more programs . . . and the downward spiral repeats itself until the productive sectors of the economy collapse under the collective weight of taxes and other burdens imposed in the name of fairness, equality and do-goodism.”

The similarities are so striking, it almost seems like regulators are using Atlas Shrugged as a playbook for their policy response to the crisis. They must not have waded through all 1,000 pages to see how the story ended.

To this I would like to add: Not only are they following the Atlas Shrugged playbook. They are also borrowing from The Fountainhead‘s Ellsworth Toohey when it comes to convincing the public of their nonsense:

” Reason can be fought with reason. How are you going to fight with the unreasonable? The trouble with you, my dear, and with most people is that you don’t have sufficient respect for the senseless…”

It is safe to say that Toohey would be delighted about the unconditional respect that today’s politicians have for the senseless.

In the meantime, people with sense may consider The Economics of Corporate Bailouts to get an understanding of what all this intervention will precipitate.

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Game Over for Citi

Citigroup is beginning to fall apart. As already mentioned 2 months ago the company has no other choice but to sell off its units.

Reuters writes

Citigroup Inc faced growing uncertainty on Wednesday about whether it could ever function well, leading investors to drive its shares down below $5.00 to their lowest level since the bank won a government rescue in November.

As I mentioned in my article, once Citi begins to actually offer units on the market, it will be unavoidable to put the cards on the table and expose the house of cards.

Once the world’s largest bank, Citigroup is expected to shrink by about a third as it focuses on corporate, investment and retail banking and trims its trading operations, a person familiar with the plan said. Citigroup will also put businesses and assets it no longer wants into a separate structure, with an eye toward eventual sales, the person said.

I wouldn’t be surprised if in this process the Citi stock continues to tumble toward zero, just as Fannie Mae and Freddit Mac did.

The annual cost of protecting $10 million of Citigroup debt against default for five years rose to $410,000 on Wednesday from $265,000 on Tuesday, according to Phoenix Partners Group.

I wouldn’t be surprised if this cost goes up exponentially during that same process.

And once they are done dealing with their balance sheet, the big question will be: “Hey, who wants these toxic 1.1 trillion off-balance sheet assets?” Expect the Fed and the Treasury to heroically jump in and have the taxpayer foot the bill.

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Macy’s to close 10 stores

Reuters writes Macy’s to close 10 stores:

Macy’s Inc is expected to announce as soon as Thursday it will close 10 locations, the Wall Street Journal reported citing a person familiar with the matter.

The department store operator, which runs more than 810 Macy’s stores and also operates the Bloomingdale’s chain, had reported a $30 million loss in the first nine months of 2008, with sales dropping 4.3 percent.

U.S. retailers faced what could be the worst holiday shopping season in nearly four decades as a year-long recession, tighter credit and mounting job losses squeeze household budgets.

“We have said that we will continue to prune stores on an as-needed basis over time,” Macy’s spokesman Jim Sluzewski told the paper, declining to comment further.

Macy’s could not be immediately reached by Reuters for comment.

…more bad news for commercial real estate as already mentioned in Holiday Retail Sales Down. The impact of Macy’s closing down just 1 location will be devastating for anyone who rents out the space. Multiply that by 10.

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Best Buy a Buy??

Reuters writes:

Top U.S. electronics retailer Best Buy Co has been gaining market share as rival Circuit City closes stores, and smart cost cutting could keep it shining throughout 2009, Barron’s said in its December 22 edition.

The weekly business newspaper said that while Best Buy shares were off by a third since it ran a bullish story on the company earlier this year, the retailer has been making the most of its rival Circuit City’s woes, after that company filed for bankruptcy.

“While the shares have disappointed us this year, they’re now looking every bit as tempting as a cut-rate iPhone,” the report said.

Best Buy beat expectations in the latest quarter and said it would reduce costs through cuts, and was paring the number of new stores it will open in 2009.

I beg to disagree with Barron’s. What are they thinking? As the business cycle phase 8, the credit crunch, teaches us, US consumer demand will collapse throughout all of 2009. Consumer credit has already peaked. Who is going to buy more plasma screen TVs, HiFi systems, and iPods? How does it help the business that its market share is increasing in a market that is contracting? Best Buy is one of the top businesses in the line of fire of this contraction. Not only is it a retailer, it is a retailer for extra consumer goods which consumers will cut down on sharply for years to come. In Q2 and Q3 Best Buy already reported a negative free cash flow.

Circuit City’s bankruptcy is not a sign that Best Buy’s position will be strengthened. It is rather a harbinger of the fate Best Buy will have to suffer sooner or later.

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Stock Valuation – Ebay

Below we shall evaluate a fair stock price for Ebay.

Free Cash Flow per Share:

  • EBAY’s FCF over the past 4 quarters was $2,456,160,000
  • EBAY has shares outstanding of $1,280,000,000
  • Thus the Free Cash Flow Per Share is $1.92

Annual Growth Rate:

  • From 2004 through 2007 Ebay has been growing at an average annual growth rate of 32%
  • Through 2008, free cash flow has been declining slowly from quarter to quarter, but remains remarkably strong in light of the current economic woes
  • The slowdown in overall consumer credit will certainly hurt ebay
  • However, it needs to be pointed out that EBAY is not a seller of products, ebay is a business that facilitates auctions between buyers and sellers; as individuals consolidate their finances they will sell more items on ebay; thus I expect this consolidation effect to counterbalance or at least dampen the effect of the decline of overall consumer demand.
  • EBAY is also well positioned internationally and derives a significant portion of its income abroad, balancing our the negative effects of dollar weakness to the shareholders
  • EBAY has a remarkably high ratio of shareholder’s equity to debt of 10:3, where all liabilities are short term liabilities such as accounts payable and $0.00 in long term debt, virtually shielding it from the current financial crisis
  • To be safe we shall assume that EBAY’s FCF will remain stagnant over the next 5 years and rise at a perpetual rate of 1% thereafter

Confidence margin:

  • Due to high volatility over the past 4 years, we shall apply a confidence margin of 50% to this profit expectation


  • Applying the valuation formula to the assumptions stated above, EBAY’s fair stock price computes to $108.73
  • It is, without a doubt, very reasonable to be bullish for EBAY at its current price of $14.45

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