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Monday, July 28, 2008
Merrill Lynch to Reduce Risk Exposure, Raise Capital
Associated Press
Merrill Lynch & Co., in a broad move to clean up its troubled balance sheet, said Monday it will sell a big slice of its toxic asset-backed securities and issue new stock to raise $8.5 billion of fresh capital.
The world's largest brokerage, struggling to right itself as the credit crisis continues, said it will issue more than 200 million new common shares as part of the deal. Merrill (MER) said it will write-down $5.7 billion because of additional losses on the sale of mortgage securities and hedging contracts.
Chief Executive John Thain, who joined Merrill Lynch last year, had vowed in the past he wanted to avoid using a public offering to raise money. The latest move comes just over a week after Merrill reported a $4.6 billion second-quarter loss, where he raised $8 billion of much needed capital from asset sales instead of diluting the stock by issuing more shares.
Perhaps the biggest benefactor in the deal is Temasek Holdings, the Singapore sovereign wealth fund that is already one of Merrill's biggest investors. The firm agreed to buy $3.4 billion worth of shares at a yet-to-be determined price, a potentially large percentage considering shares of the brokerage are down 54% this year.
In addition, Merrill's management plans to buy 750,000 shares.
The company made the announcement after the close of trading on Wall Street. Its shares closed down 11.6% to $24.33, and are down 54% this year. The stock gained 2 cents in after-hours trading after initially tumbling.
Merrill said it will sell a large portion of asset-backed securities and terminate hedges linked to bond insurers; those are two of its most troubled areas since the credit turmoil began last year. It reported earlier this month its fourth straight quarterly loss and write-downs from failed investments approaching $40 billion.
Lone Star Funds, a Dallas-based distressed-debt investors based run by John Grayken, will acquire asset-backed securities with a nominal value of $30.6 billion for $6.7 billion. The sale will help cut Merrill's exposure by $11.1 billion from its level on June 27, leaving $8.8 billion of these securities on its books.
"The sale of the substantial majority of our CDO positions represents a significant milestone in our risk reduction efforts," said John A. Thain, Chairman and CEO of Merrill Lynch.
"Our consistent focus has been to opportunistically reduce risk, and in order to take advantage of this sizable sale on an accelerated basis, we have decided to further enhance our capital position by issuing common stock," Thain said in a statement. "The actions we announced both today and on July 17 will materially enhance the company's capital position and financial flexibility going forward."
Earlier this month, Merrill sold its stake in financial news and data provider Bloomberg LP for $4.43 billion as a way to raise capital while avoiding diluting current investors' holdings by selling new securities.
The brokerage said it is also paying Temasek $2.5 billion to reset some provisions on a previous stake sale. Holders of Merrill's mandatory preferred stock agreed to move $5.4 billion into the share offering, and will be paid an additional $2.4 billion from dividends as a result of the exchange.
Merrill also will write down $500 million related to the cancellation of hedges with XL Capital, and another $800 million from settlements with other bond insurers.
FOX Translator
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Think telemarketer. Except, it's much worse because you can't avoid this call. Instead, when you get one, it's time to pay up, because the bet you placed with borrowed money is eating itself.
Buying stocks on margin is risky because you're essentially "playing" with someone else's money. If the shares you purchased tank, your losses will likely be more than if you had bought the shares with your own cash. This is why the New York Stock Exchange and the Nasdaq impose certain restrictions on the practice.
Initially, you¿re only allowed to borrow half of the money from your broker when buying on margin. You set up a margin account and from then on must keep a maintenance balance of at least 25% of the market value of your stocks.
If the market value of your investment falls below this minimum, you're required to make up the difference by either depositing money into your account or selling some of the stock. If your broker notifies you that you've dipped below this minimum, it's called a margin call.
If you fail to adjust your account accordingly, the broker is authorized to sell shares in your account to make up the difference. The broker can even sell other stock in your margin account to make up for the loss that selling the shares didn't cover.
As an example, say you buy $8,000 in stocks of any given company. You borrow the maximum $4,000 from your broker and pay the rest yourself. Now, if and when the total value of these shares changes, you must make sure you maintain at least $2,000 (25%) in equity. In other words, if the total value were to drop below $6,000, you¿d be in trouble since you only put in $4,000 of your own money to begin with.
