Merrill Lynch Camp: Ben Bernanke Is Telling the Truth

Within the financial crisis, an acute controversy is building over the Federal Reserve and the Treasury Department's role in the 2008 merger of two giant banks -- Bank of America, led by CEO Ken Lewis, and Merrill Lynch, then led by John Thain. In September 2008 Bank of America paid $50 billion deal to acquire Merrill Lynch, which was facing huge losses. In December, BofA CEO Lewis, sensing that the losses were too much for his company to stand, went to Washington, DC, to meet with Fed Chairman Ben Bernanke and former Treasury Secretary Hank Paulson to explain he wanted to back out of the deal.

Here's where the story gets murky, and interesting.

Lewis testified in June in front of the House Committee on Oversight and Government Reform that Bernanke and Paulson threatened to fire him and his board if they backed out of the deal. That story echoed a letter from NY Attorney General Andrew Cuomo, which said Paulson also threatened to fire Lewis when he tried to back out of the merger. Yesterday, Bernanke told that committee that he made no such threats.

But Congressmen (and commentators) still suspect Bernanke of intimidating Lewis and covering-up Merrill's losses, and many see that Lewis continues to pay a heavy price -- both in his career and his company's bottom line -- for a deal that he was essentially forced into.

Bernanke's testimony will likely do little to affect those who believe the Lewis line. But John Thain's camp, which has been in a media war with Lewis after he fired Thain, is coming to the Fed chairman's defense. Yesterday afternoon, I spoke with a source from the Merrill Lynch camp with knowledge of the merger who pointed to evidence in the contract suggesting that Bernanke is telling the truth.

The issue comes down to a piece of financial legalese known as a MAC (Material Adverse Change) clause. A MAC clause is like a financial pre-nup. It says a given amount of losses by one party can either "reset" the price of the merger or void it altogether. The source says that the BofA-Merrill MAC clause was "air-tight," and that it "specifically rules out changes in business, economic or market conditions." Thain knew the rest of the fourth quarter was going to be awful, that marks would continue to deteriorate and that the company couldn't cover its losses. It wouldn't have made any sense, the source said, for Thain to sign a MAC clause that would allow Lewis to opt of a merger that was specifically designed to give Merrill a crutch for its impending, heaping losses. As a result, Lewis no legal room to back out of the deal on the basis of Merrill's deteriorating balance sheet. (I've attached the MAC clause at the bottom of this post, with a link to the SEC merger agreement.)

"I disagree with the premise of what everybody is saying," the source said. "It's fairly clear that [Bank of America CEO Ken] Lewis had no out. This was the most heavily negotiated piece of the deal and it specifically said he couldn't do that."

So what do you think Ken Lewis was thinking, I asked. "I think he panicked. He could have said, 'These are bad losses but Merrill wouldn't have needed to be bought if the losses weren't terrible. We still believe going forward that over the next 3,5 10 years, this is great deal.' Instead of doing that, he panicked."

"Here's the thing," the source concluded. "First of all, the MAC was airtight. Second, if everybody believes everything that Lewis says, then essentially he puts himself ahead of shareholders. Specifically it means he thought the deal was bad for the company and he was threatened by the Fed and Treasury and his job was in jeopardy. That means he chose the deal even though it was bad for his shareholders. Which might be illegal under securities laws." At least five pension funds have sued Ken Lewis for withholding information from shareholders.

I reached Bank of America yesterday for a response. They said they could offer no comment at the time but had alerted company representatives about my request. If somebody from BofA gets back to me, I will republish this story in the Business blog with an update. There should still be plenty of time to fill the holes in the BofA-Merrill storyline. As Edolphus Towns, a New York Democrat and chairman of the House Oversight and Government Reform Committee, has said: "We are not even close to finishing the Bank of America-Merrill Lynch investigation."


3.8 Absence of Certain Changes or Events. (a) Since June 27, 2008, no event or events have occurred that have had or would reasonably be expected to have, either individually or in the aggregate, a Material Adverse Effect on Company. As used in this Agreement, the term "Material Adverse Effect" means, with respect to Parent or Company, as the case may be, a material adverse effect on (i) the financial condition, results of operations or business of such party and its Subsidiaries taken as a whole (provided, however, that, with respect to clause (i), a "Material Adverse Effect" shall not be deemed to include effects to the extent resulting from (A) changes, after the date hereof, in GAAP or regulatory accounting requirements applicable generally to companies in the industries in which such party and its Subsidiaries operate, (B) changes, after the date hereof, in laws, rules, regulations or the interpretation of laws, rules or regulations by Governmental Authorities of general applicability to companies in the industries in which such party and its Subsidiaries operate, (C) actions or omissions taken with the prior written consent of the other party or expressly required by this Agreement, (D) changes in global, national or regional political conditions (including acts of terrorism or war) or general business, economic or market conditions, including changes generally in prevailing interest rates, currency exchange rates, credit markets and price levels or trading volumes in the United States or foreign securities markets, in each case generally affecting the industries in which such party or its Subsidiaries operate and including changes to any previously correctly applied asset marks resulting therefrom, (E) the execution of this Agreement or the public disclosure of this Agreement or the transactions contemplated hereby, including acts of competitors or losses of employees to the extent resulting therefrom, (F) failure, in and of itself, to meet earnings projections, but not including any underlying causes thereof or (G) changes in the trading price of a party's common stock, in and of itself, but not including any underlying causes, except, with respect to clauses (A), (B) and (D), to the extent that the effects of such change are disproportionately adverse to the financial condition, results of operations or business of such party and its Subsidiaries, taken as a whole, as compared to other companies in the industry in which such party and its Subsidiaries operate) or (ii) the ability of such party to timely consummate the transactions contemplated by this Agreement...