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Reform Subject: Full Committee Hearing: “Bank of America and Merrill Lynch: How Did a Private Deal Turn Into a Federal Bailout?” – Part IV Hearing Date: Tuesday, November 17, 2009, 10:00 a.m. On Tuesday, November 17, 2009, at 10:00 a.m., in room 2154 of the Rayburn House Office Building, the Committee will hold a hearing entitled, “Bank of America and Merrill Lynch: How Did a Private Deal Turn Into a Federal Bailout?” This is the fourth in a series of hearings the Committee has held on this subject. The Majority Staff Memorandum lays out background information about the hearing. This memorandum lays out the key questions to be addressed at the hearing as well as the Minority’s views about the critical issues related to this matter. Background and Executive Summary On September 15, 2008, Bank of America announced its intention to merge with Merrill Lynch. However, Merrill’s condition deteriorated rapidly as the financial crisis deepened. On November 3, the two companies jointly filed a proxy statement recommending that Bank of America’s shareholders approve the merger. The proxy statement reflected Merrill Lynch’s financial performance through the second quarter of 2008. On November 12, Merrill’s after-tax losses for the 4th quarter of 2008 were forecast to be over $5 billion. However, Bank of America decided to proceed with the deal and the two companies’ shareholders voted to approve it on December 5. 1 Merrill’s fourth-quarter losses kept getting worse: $14 billion in pretax losses on December 5, $18 billion on December 10. As a result, on December 17, Bank of America’s CEO, Ken Lewis, called Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke, informing them of his intention to exercise a Material Adverse Change (“MAC”) clause in the contract to either renegotiate the price of the transaction or get out of the deal entirely. 2 Under pressure from Messrs. Paulson and Bernanke, including a threat to fire the entire Bank of America management and board if they called a MAC clause, Bank of America went ahead with the merger, which was consummated on January 1, 2009. Ultimately, Merrill Lynch’s 4th quarter losses exceeded $15 billion.
See Dan Fitzpatrick, Susanne Craig and Deborah Solomon, “In Merrill Deal, U.S. Played Hardball,” The Wall Street Journal, (February 5, 2009). 2 See document, Analysis of Bank of America & Merrill Lynch Merger, (December 21, 2008), Bates BOG-BAC-ML-COGR00036 to BOG-BAC-ML-COGR-00076.
Chairman Towns and the Democrat Majority have intimated that Bank of America, in announcing its intent to call the MAC clause, may have been engaged in a “Brooklyn shakedown,” an attempt to extract additional taxpayer money from the government. 3 To be sure, the government did provide an additional $20 billion of TARP capital to Bank of America to fill the capital hole in its balance sheet created by absorbing the Merrill Lynch losses. The government also agreed to develop an asset guarantee program known as ring-fencing to provide taxpayer backstop for an additional $118 billion of troubled assets, although this arrangement was ultimately never implemented. However, Bank of America has now provided the Committee with previously undisclosed documents that had been withheld under an assertion of attorney-client privilege. These documents validate what Ranking Member Issa and Committee Republicans have maintained throughout this investigation: that the Bush Treasury Department and the Federal Reserve overstepped their authority by using a threat to fire the board and management of a private company in order to compel Bank of America to consummate the merger with Merrill Lynch and then essentially traded verbal promises of additional taxpayer money in return for the bank’s commitment not to call a MAC. Furthermore, the documents demonstrate that the incoming Obama Administration played a critical role in enabling the overreach of Paulson and Bernanke. In particular, the commitment of Tim Geithner and Larry Summers to provide an additional $20 billion in bailout funds to Bank of America as a quid pro quo for not calling a MAC was an essential element of the back room arrangement forced on Bank of America by the federal government. The Bush Administration’s overreach under the leadership of Henry Paulson and Ben Bernanke was not just a bad deal for the American taxpayers, however. Bank of America’s shareholders suffered as well. The new documents clearly show that Bank of America’s preferred strategy was to call the MAC clause to renegotiate the price it had originally agreed to pay for Merrill Lynch, if not get out of the deal entirely. A lower purchase price for Merrill Lynch may not have fully addressed the capital hole created in Bank of America’s balance sheet by the Merrill losses, but would have been a better deal for Bank of America’s shareholders. 4 Much has been made of the Federal Reserve’s opinion that calling a MAC and going to court was not a “legally viable option.” 5 This opinion was in light of the fact that Delaware courts have set a very high standard for prevailing in asserting a MAC clause. The ultimate legal viability of winning a MAC case in court is beside the point, however, since Bank of America could have simply used the threat of protracted litigation to renegotiate the price. JPMorgan Chase’s hard-ball tactics in buying Bear Stearns at a fire-sale price in March 2008 is instructive. Just as Bear Stearns did not have time to find another buyer when faced with a run on the bank, Merrill Lynch in December 2008 faced extreme pressure to close a deal quickly without a lengthy court dispute over a MAC clause. Such a calculus very well may have played in Bank of America’s favor in renegotiating its purchase price of Merrill Lynch. By threatening to fire Bank of America’s board and management if they decided to call the MAC clause, the government stripped the bank’s management of its leverage in any negotiation with Merrill Lynch over price. Instead, Bank of America’s options were reduced to one – taking another taxpayer bailout to facilitate the merger. In this scenario, the federal government held all the cards and it had decided that the American taxpayers and Bank of America’s shareholders would take the hit in what the Bush and Obama teams saw as the interest of the financial system as a whole.
See transcript of Committee hearing (July 16, 2009). This was an all-stock transaction so “lower price” means a lower exchange rate of Bank of America shares for Merrill Lynch shares, which would have been less dilutive of Bank of America’s shareholders. 5 See testimony of Henry M. Paulson before the Committee (July 16, 2009).
Merrill Lynch’s Losses Mount and Bank of America Fires Its General Counsel On November 12, 2008, Merrill Lynch’s forecast for its fourth quarter performance predicted pre-tax losses of almost $9 billion, an after-tax loss of $5.4 billion. 6 Bank of America determined that these losses were not sufficiently dire to necessitate an additional disclosure to its shareholders. According to Timothy Mayopoulos, former General Counsel of Bank of America, the company did not feel that it had a legal obligation to disclose the losses for four reasons. First, neither Bank of America nor Merrill Lynch had made the forecast losses in the fourth quarter publicly available so there was no obligation to update this information for shareholders. Second, Merrill Lynch had reported losses ranging from $2 billion to $10 billion over each of the preceding four quarters, in line with the losses predicted for the fourth quarter of 2008. Third, the proxy statement produced for the merger had made clear representations of the likely negative impact of continuing market disruptions on both companies. Fourth, the general distress in financial markets was well-known to the public at the time. 7 However, a forecast produced on December 3 predicted pre-tax losses for the fourth quarter of $11 billion. At 6pm on December 3, after consultation among Bank of America and Merrill Lynch executives, an “additional $3 billion pre-tax ‘contingency’” was added to “cover additional potential mark-to-market losses for November and December,” bringing total predicted losses pre-tax losses to $14 billion. 8 Following the shareholders’ approval of the merger on December 5, Merrill’s estimate of its fourth quarter losses shot up yet again. On December 12, a new forecast dated to December 10 predicted losses at Merrill Lynch in the fourth quarter to be in excess of $18 billion, $4 billion higher than had been estimated just a week earlier. 9 At that point, Bank of America executives began a process of conferring with in-house and outside counsel on the possibility of calling a MAC. During this turbulent period, on December 10, 2008, Bank of America fired its General Counsel, Timothy Mayopoulos, replacing him with Brian Moynihan, the then-President for Global Corporate and Investment Banking. On December 1, Chief Financial Officer Joe Price and Vice Chairman of Corporate Development Gregory Curl asked Mr. Mayopoulos to opine on MAC provisions in merger agreements generally. 10 According to Mr. Mayopoulos, Messrs. Price and Curl did not ask him for his professional opinion on whether Bank of America had a MAC in relation to the proposed merger with Merrill Lynch. 11 However, according to Mr. Mayopoulos, he did not believe at the time that Bank of America had the conditions to declare a MAC, although it is important to realize that on December 1, the rapid acceleration of projected losses at Merrill Lynch had yet to occur. 12 Subsequently, Mr. Mayopoulos was not included in the meeting on December 3, at which it was learned by Bank of America executives that Merrill’s loss forecast had increased to $11 billion pre-tax and at which Chief Accounting Officer Neil Cotty recommended adding a $3 billion “contingency,” bringing total pre-tax loss projections to $14 billion. 13 When asked why Bank of America’s General Counsel was not included in such an important meeting, Mr. Mayopoulos said he did not know why. 14 Then, on December 10, CEO Ken Lewis had Amy Brinkley, the bank’s Chief Risk Officer, inform Mr. Mayopoulos that he was being terminated and that Brian Moynihan would be replacing him as General
See Bank of America “Summary Chronology” provided to the Committee. See Republican staff interview with Timothy J. Mayopoulos, former General Counsel of Bank of America (October 20, 2009). 8 See note 6, supra. 9 Id. 10 Committee staff interview with Timothy Mayopoulos (October 20, 2009). 11 Id. 12 Id. 13 Id. 14 Id.
Counsel of the combined company. 15 Mr. Mayopoulos told Committee staff that he has no idea why Ken Lewis decided to fire him. 16 When Committee staff interviewed Mr. Moynihan, he denied that Mr. Mayopoulos’ termination had anything to do with Mr. Mayopoulos’ views on whether Bank of America had a MAC with Merrill Lynch. 17 Bank of America’s Preferred Course of Action: Negotiate a Lower Price for Merrill According new documents obtained by the Committee, Bank of America’s senior management and some board members discussed the implications of Merrill Lynch’s mounting losses before Mr. Lewis met with Messrs. Paulson and Bernanke on December 17, 2008, which was when he first told the government the bank was thinking of calling the MAC clause. At that meeting, it was clear that CEO Ken Lewis thought he could negotiate a lower purchase price and some asset guarantees in order to protect his shareholders from the mounting losses at Merrill Lynch. In preparation for Bank of America’s initial meeting on December 17, 2008, the bank’s Chief Financial Officer, Joe Price, prepared a hand-written checklist of information he intended to communicate to the government in the meeting. According to these notes, which the Committee has obtained, Price intended to communicate that Bank of America’s management planned to negotiate a lower purchase price for Merrill Lynch and seek to have Merrill guarantee – or ring-fence – some of the toxic assets weighing it down: Reduced price to recover capital – however still weak TCE/Tier 1 [tangible common equity and Tier 1 capital ratios] Ring fence selected assets [to] limit downside so [market] knows. 18
O. Temple Sloan, Jr., a Bank of America board member, also recorded that Bank of America intended to pursue a lower purchase price for Merrill Lynch and get it to ring-fence some toxic assets. In Sloan’s notes from a conversation with Lewis on December 17 before Lewis met with the government officials, Sloan recorded Bank of America’s plan of action as communicated by Lewis: talk to gov’t renegotiate price fence around some of assets Paulson – to meet 6pm at Fed [with] Bernanke Then go to Thain on Friday – lower price. 19
In an interview with Committee staff, a lawyer representing Bank of America also confirmed that Bank of America had “settled on” pursuing a lower purchase price for Merrill Lynch. 20 This was the message that Lewis and Price delivered to Paulson and Bernanke on December 17. Even Federal Reserve Chairman Ben Bernanke apparently recognized that Bank of America could use the MAC clause to negotiate a better price for Merrill Lynch despite his determination to prevent it from doing so: I think the threat to use the MAC is a bargaining chip, and we do not see it as a very likely scenario so that we can explain to [Bank of America] with some confidence why we think it would be a foolish move and why the regulators will not condone it. 21
Id. Id. 17 Committee staff interview with Brian Moynihan (November 11, 2009). 18 See notes of Joe Price, December 17, 2008, BAC-ML-HOGR-502-00001114. 19 See notes of O. Temple Sloan, Jr., BAC-ML-HOGR-502-00001169. 20 Committee staff interview with representatives of Bank of America (October 16, 2009).
The Government Holds a Gun to Bank of America’s Head In subsequent conversations, Treasury Secretary Henry Paulson, on behalf of the Treasury and the Federal Reserve, threatened to fire Lewis and the entire Bank of America Board of Directors if Lewis exercised the MAC clause and attempted to renegotiate the purchase price of Merrill Lynch or back out of the deal completely. 22 This threat constituted an unprecedented application of government power to compel two private companies to consummate a merger and it drastically curtailed Bank of America’s options in coping with Merrill Lynch’s mounting losses. By ordering Bank of America not to call a MAC, the government took the MAC clause off the table as a negotiating tool to help Bank of America either negotiate a better price for its shareholders or walk away from the deal entirely. In exchange, Paulson and Bernanke compensated Bank of America with an additional taxpayer bailout of $20 billion to help close the capital hole that would be created in the bank’s balance sheet by acquiring Merrill Lynch. Both Mr. Paulson and Mr. Bernanke have made contradictory and confusing statements regarding who threatened to fire Bank of America’s management and board if they called the MAC clause. Significantly, the Treasury Department does not have the legal authority to take such an action on its own. Rather, the Federal Reserve, as the federal regulator of bank holding companies, has the authority to do so. Secretary Paulson could not have made a threat to fire Bank of America’s management and board without the approval of the Federal Reserve. According to a letter sent to Members of Congress by New York Attorney General Andrew Cuomo, Mr. Paulson said he made the threat to fire Bank of America’s management and board at the request of Chairman Bernanke. 23 This is supported by an email from Jeffrey Lacker, President of the Federal Reserve Bank of Richmond: Just had a long talk with Ben [Bernanke]. Says that they think the MAC threat is irrelevant because its [sic] not credible. Also intends to make it even more clear that if they play that card and they need assistance, management is gone. 24 The government’s threat is echoed in the minutes of Bank of America’s Board meeting, which state that: [T]he Treasury and Fed stated strongly that were the Corporation to invoke the material adverse change (“MAC”) clause in the merger agreement with Merrill Lynch and fail to close the transaction, the Treasury and Fed would remove the Board and management of the Corporation. 25
See email, Ben Bernanke, Chairman, Federal Reserve Board of Governors, (December 21, 2008), Bates BOG-BAC-MLCOGR-00019. 22 See Ken Lewis testimony to the New York State Attorney General (February 26, 2009). 23 See Andrew Cuomo letter to Members of Congress (April 23, 2009). 24 See email, Jeffrey Lacker, Federal Reserve Bank of Richmond, (December 20, 2008), Bates BOG-BAC-ML-COGR-00020. 25 See minutes of the Special Meeting of Board of Directors, Bank of America Corporation, (December 22, 2008).
However, when Bernanke testified before the Committee on June 25, 2009, he denied either making such a threat personally or directing anyone else to do so: TOWNS: [D]id you instruct Hank Paulson to tell Ken Lewis and [sic] he and his board would be fired if they backed out of…the Merrill deal? BERNANKE: I did not. BURTON: What did you tell him? You say you didn't tell him anything like that. What did you tell him? BERNANKE: All I can say is I’m sure that I never told him to convey such a message to Ken Lewis. JORDAN: [From] the letter that Mr. Cuomo…sent to Members of Congress, Secretary Paulson has informed us that he made the…threat dealing with the Merrill Lynch acquisition at the request of Chairman Bernanke. BERNANKE: As I said, I did not tell Mr. Paulson to convey any threats. BERNANKE: I did not instruct Mr. Paulson or anyone else to convey such a threat or message to Mr. Lewis. 26 Bernanke’s testimony before the Committee clearly contradicts what New York Attorney General Andrew Cuomo told Members of Congress in his letter. After the public release of Cuomo’s letter, Paulson issued two follow-up statements through a spokesman. The first said in part that “Chairman Bernanke did not instruct [me] to indicate any specific action the Fed might take.” 27 The second statement, issued hours after the first, stated: “To clarify the earlier statement, Secretary Paulson does not take exception with the Attorney General’s characterization of his conversation with Ken Lewis. His prediction of what could happen to Lewis and the Board was his language, but based on what he knew to be the Fed’s strong opposition to Bank of America attempting to renounce the deal.”28 When Mr. Paulson testified before the Committee on July 16, 2009, he attempted to clear up these contradictory statements by explaining that, at the time of his testimony before the New York Attorney General, he was operating under the restriction of the Federal Reserve’s bank regulatory privilege. The Federal Reserve’s invocation of this privilege, Mr. Paulson says, “kept [him] from recounting [his] conversation with Ben Bernanke to Cuomo’s office.” 29 Mr. Paulson further testified that he did not remember whether Mr. Bernanke directed him to threaten to fire Bank of America’s management and board. 30 Rather, Mr. Paulson said he divined the intent of the Federal Reserve to fire the bank’s management and board from “a number of meetings and calls where Chairman Bernanke participated.” 31
See transcript, Bank of America and Merrill Lynch: How Did a Private Deal Turn into a Federal Bailout? Part II, (June 25, 2009). 27 See Heidi N. Moore, “Paulson: ‘Creating More Questions Than It Answered,” The Wall Street Journal, (April 24, 2009), available at http://blogs.wsj.com/deals/2009/04/24/paulson-creating-more-questions-than-it-answered/. 28 Id. 29 See transcript, Bank of America and Merrill Lynch: How Did a Private Deal Turn into a Federal Bailout? Part III, (July 16, 2009). 30 Id. 31 Id.
Regardless of whether Messrs. Paulson and Bernanke were fully truthful in their testimony before the Committee, it is clear that the government’s threat to fire Bank of America’s management and board curtailed the options available to Bank of America’s management in dealing with the mounting losses at Merrill Lynch. Talking points prepared for Ken Lewis’s remarks to his board on December 22, 2008, reveal the CEO’s decision: Based on the discussion with [the government], I am recommending that we do not exercise the MAC clause, close the Merrill transaction on January 1 as currently contemplated. In addition we will proceed diligently with the work to get the transaction [for government assistance] with the Fed, Treasury, and others documented to be announced with our earnings on January 20. 32 The talking points for Mr. Lewis went on to say: We make this recommendation based on the following[:] The fact that the Fed and Treasury instructed us to not exercise the [MAC] clause The fact that the Fed and Treasury have made assurances that we can close in reliance on their verbal commitments to have a transaction for assistance in place by our earnings call And the fact that I am comfortable with those assurances. 33 The centrality of the government’s heavy-handed tactics in Bank of America’s willingness to back down from calling a MAC was made clear again in an email from Bank of America’s former Treasurer, Jeff Brown, to Joe Price on January 8, 2009, in which he relayed his conversation with Federal Reserve and OCC regulators: They did say they assign high-probability the market will “attack us” after learning of the “government assistance to us.” I did get pointed in my response and reminded them that (1) they forced us into this position and (2) they had provided every assurance of a positive market response to any action from their chairman [Ben Bernanke] to our chairman [Ken Lewis]. They just got silent [emphasis added]. 34 On June 11, 2009, Ken Lewis confirmed before the Committee that the government’s threat to fire him and his board “was a strong influence on [his] decision,” not to exercise the MAC clause. 35
See “Talking Points for Board Meeting 4:00pm December 22, 2008,” BAC-ML-HOGR-502-00001118. Id. 34 See email, Jeff Brown to Joe Price (January 9, 2009), BAC-ML-HOGR-502-00001090. 35 See transcript, Bank of America and Merrill Lynch: How Did a Private Deal Turn into a Federal Bailout? (June 11, 2009).
The Government Trades $20 Billion for Bank of America’s Cooperation Not exercising the MAC clause under government orders removed Bank of America’s ability to either negotiate a lower sale price for Merrill Lynch or walk away from the deal entirely. Instead, Bank of America received a quid pro quo in the form of a $20 billion taxpayer-funded bailout. In the days following the government’s threat to fire Bank of America’s management and board if they called a MAC, the bank continued to believe that they had sufficient legal grounds to exercise the MAC clause. 36 In a December 20 email, lawyers for Bank of America prepared the following talking point for Ken Lewis’s follow-up conversation with the government: We are still of the view that there has been a MAC at Merrill – and every day their numbers get worse. More fundamentally, acquiring Merrill in its current state could do tremendous damage to [Bank of America]… I think we need to try [to] focus the regulators’ attention on the fact that acquiring Merrill would be unsafe and unsound and away from whether a MAC has occurred. Much more difficult for them to counter. 37 On December 28, Bank of America’s General Counsel, Brian Moynihan, emailed the bank’s Chief Financial Officer, Joe Price, regarding Mr. Price’s upcoming phone call with the Kevin Warsh of the Federal Reserve. Moynihan advised Price to emphasize that the government support being discussed was in response to Merrill Lynch’s financial condition, not the financial condition of Bank of America: [A] [M]errill issue ie we would be fine if we walked away. 38 On December 30, Ken Lewis chaired a voluntary Bank of America board meeting. The talking points for Lewis’s remarks reiterated Bank of America’s position that, absent government direction, the company would have sought to renegotiate the purchase price of Merrill Lynch: We have approached our conversations with the government on the Merrill situation with a view that we would have, left to our usual course, declared that we would not close due to the change in operating results and capital and sought to restructure the deal. 39
See email, Teresa Brenner, Bank of America (December 19, 2008), BAC-ML-HOGR-502-00000938. See email, Richard Kim, Wachtell, Lipton, Rosen & Katz (December 20, 2008), BAC-ML-HOGR-502-00000944. 38 See email, Brian Moynihan, Bank of America (December 28, 2008), BAC-ML-HOGR-502-00000993. 39 See “Talking points for Board Voluntary Call December 30, 2008,” BAC-ML-HOGR-502-00001029.
The Government’s Refusal to Put Verbal Commitment to another Bailout in Writing Made the Obama Team’s Support Essential Until Bank of America released the latest documents to the Committee, it was unclear just how crucial the incoming Obama Administration was in supporting the Bush Administration’s effort to force Bank of America to go forward with the Merrill Lynch merger. Both Henry Paulson and Ben Bernanke refused repeated requests by Bank of America to put in writing their commitment to trade additional taxpayer money in return for the bank backing down from calling a MAC. According to Ken Lewis: We asked for written assurances, but were told that they would not be forthcoming for a couple of reasons. First they would have to be preceded by formal action by the Fed and Treasury, thereby triggering disclosure issues. And, second that the assurances would be watered down and may not provide great comfort. 40 In such an uncertain environment, with a new Presidential administration coming in and no written contract committing the government to follow through on its promise to provide additional taxpayer funds, it was essential for Bank of America to have the Obama economic team’s support for another bailout. Documents obtained by the Committee attest to Tim Geithner’s involvement in the government’s efforts to pressure Bank of America to go through with the Merrill Lynch merger. In handwritten notes, Bank of America’s Chief Financial Officer, Joe Price, chronicled a conversation between Ken Lewis and Henry Paulson regarding Lewis’s desire to pull the MAC clause. The notes include the comments: Fire BOD if you do it – irresp[onsible] for country. Tim G. agrees [emphasis added]. 41 New documents produced by Bank of America show just how crucial the incoming Obama team was in assisting Paulson and Bernanke in forcing Bank of America to abandon its plans to renegotiate or walk away from the Merrill merger in exchange for an additional taxpayer bailout. For example, on December 16 bank executives including Joe Price were discussing how to tell the government the next day about their intention to call a MAC. Tim Geithner was central enough to their calculations that even his travel plans were relevant to Mr. Price: [B]efore formally call MAC – get gov[ernmen]t in… Geithner gone – on vacation, etc [emphasis added]. 42 Talking points prepared for a Bank of America board meeting on December 22, 2008 show that Lewis expressed the following to Paulson: [Lewis] relayed that while we still believed a MAC has occurred that we would be willing to not declare the MAC, and complete the transaction if the Fed and Treasury … put together a package [of taxpayer assistance]. 43
Id. See notes, Joe Price, Bank of America, (December 21, 2008), Bates HOC-DPS-00002107. 42 See HOGR-WLRK-502-00000945. 43 See Talking Points for Board Call (December 22, 2008), BAC-ML-HOGR-502-00000956 – BAC-ML-HOGR-502-00000958.
According to Mr. Lewis, Secretary Paulson: [R]esponded by saying [that] for us to declare a MAC against the direction of the regulators could result in the removal of the Board and Management. He said that was his view and the view of the Fed. 44 However, according to Paulson: [T]he Treasury and the Fed were prepared to deliver an assistance package, [a course of action for which he] had the concurrence of the Fed and Tim Geithner and others [emphasis added]. 45 In a follow-up conversation between Mr. Lewis and Ben Bernanke, it became clear that at least one of the “others” in agreement with Secretary Paulson was Obama economic advisor Larry Summers: Ben also stated that Geithner and, in addition, Larry Summers, were both on board with the transaction [emphasis added]. 46 Bank of America’s Board of Directors clearly received the message that the Obama Administration supported the Paulson-Bernanke decision to trade taxpayer assistance for the bank’s promise not to call the MAC. According to Bank of America board member Gen. Tommy Franks: Ben [Bernanke] says $45 [billion in] TARP available if necessary Obama team informed and agrees[s] [emphasis added] 47
According to board member O. Temple Sloan, Jr.: Incoming team at Fed [and] Treasury in agreement…In place by January 20 [emphasis added]. 48 These documents demonstrate that a critical component of the Bush Administration’s strategy in getting Bank of America to back down from its intention to exercise the MAC clause was the provision of additional taxpayer funds to the bank to cover the capital hole caused by Merrill Lynch’s losses. Ken Lewis repeatedly asked the government to put its purely verbal commitment of additional support into writing but both Secretary Paulson and Chairman Bernanke refused. Instead they sought to control disclosure of this new bailout until Bank of America’s earnings announcement in late January. In light of this, it is not surprising that having the incoming Obama Administration on board with the commitment of billions of additional taxpayer dollars was a critical element in ensuring Bank of America’s cooperation. As Ken Lewis’ talking points for his meeting with the board on December 22 said, “We might not be recommending a change of course from declaring a MAC in [the] absence of the government assistance.” 49
Id. Id. 46 Id. 47 See notes of Gen. Tommy Franks (December 22, 2008), HOGR-00471695. 48 See notes of O. Temple Sloan, Jr., Bank of America Board of Directors (December 22, 2008), HOGR-00471694. 49 Id.
Judge finds “Cynical Relationship” between SEC and Bank of America On August 3, 2009, the SEC filed suit in the Southern District of New York against Bank of America, alleging that the bank had made materially false and misleading statements in connection with its November 3, 2008 proxy statement, filed jointly with Merrill Lynch, which requested shareholders’ approval of the Bank of America / Merrill Lynch merger. According to the SEC’s complaint, the joint proxy statement represented that Merrill had agreed not to pay year-end performance bonuses or other discretionary incentive compensation to its executives before the merger closed. But, the SEC alleged, the parties had already agreed that Merrill could pay year-end and other bonuses – which Merrill did, on December 31, 2008. 50 Simultaneously with the SEC’s complaint, the SEC and Bank of America requested the court’s approval for a proposed settlement: Bank of America would pay a monetary penalty of $33 million and be enjoined from future violations. In a briefing filed to support this settlement, the SEC acknowledged the extraordinary circumstances of the merger and the federal bailout, but argued that the settlement was nevertheless reasonable and in the public interest, “the result of an arms-length [sic] negotiation between the federal regulator responsible for enforcing the federal securities laws and the nation’s largest bank, represented by sophisticated, experienced counsel. 51 On September 14, District Judge Jed Rakoff disagreed, refusing to accept the parties’ proposed consent judgment. 52 His extraordinary opinion, which criticized the settlement as “not even remotely fair,” hinted at collusion between the SEC and Bank of America: Overall, the parties’ submissions, when carefully read, leave the distinct impression that the proposed Consent Judgment was a contrivance designed to provide the SEC with the façade of enforcement and the management of the Bank with a quick resolution of an embarrassing inquiry – all at the expense of the sole alleged victims, the shareholders. 53 Judge Rakoff noted that the SEC had contravened its own policies by failing to pursue individual charges against the Bank of America executives who had negotiated the merger. 54 He gave no credit to the SEC’s argument that a case against the executives would have been difficult since the banks’ outside lawyers had drafted the relevant documents and made the relevant disclosure decisions: in that case, he asked, “why are the penalties not then sought from the lawyers?” 55 Judge Rakoff also found the proposed consent judgment substantively unreasonable. The $33 million fine was “a trivial penalty for a false statement that materially infected a multi-billion-dollar merger,” but should not be imposed on the alleged fraud’s victims, the shareholders. 56 Moreover, the proposed injunctive relief – Bank of America would be barred from issuing false or misleading statements in the future – was
The SEC alleged that Bank of America had violated Exchange Act Rule 14a-9, which prohibits proxy solicitation of shareholders’ votes “by means of any proxy statement … containing any statement which, at the time and in the light of the circumstances under which it is made, is false or misleading with respect to any material fact, or which omits to state any material fact necessary in order to make the statements therein not false or misleading.” 17 C.F.R. § 240.14a-9(a). 51 See Memorandum of Plaintiff Securities and Exchange Commission in Support of Entry of the Proposed Consent Judgment, SEC v. Bank of America Corporation, No. 09 Civ. 6829 (S.D.N.Y. August 24, 2009) (“SEC Brief”), at 3. 52 See SEC v. Bank of America Corporation, No. 09 Civ. 6829 (S.D.N.Y. September 14, 2009) (“Rakoff Opinion”). 53 See Rakoff Opinion at 8. 54 See Rakoff Opinion at 4-5 (“[The settlement] is not fair, first and foremost … in that it proposes that the shareholders who were the victims of the bank’s alleged misconduct now pay the penalty for that misconduct … [T]he notion that Bank of America shareholders, having been lied to blatantly in connection with the purchase of a huge, nearly-bankrupt company, need to lose another $33 million of their money in order to ‘better assess the quality and performance of management’ is absurd”). 55 See Rakoff Opinion at 5. 56 See Rakoff Opinion at 7, 11.
pointless, given that Bank of America denied the SEC’s allegations and “would feel free to issue exactly the same kind of proxy statement in the future.” 57 Bank of America and the SEC, Judge Rakoff said, had entered into a “cynical relationship” to seek mutual benefit from a quick settlement: “the SEC gets to claim that it is exposing wrongdoing on the part of the Bank of America in a high-profile merger; the Bank’s management gets to claim that they have been coerced into an onerous settlement by overzealous regulators.” 58 The shareholders would suffer, and so would the truth: Bank of America had so far avoided explaining how the proxy statement had been drafted and exactly who had decided not to include the bonus information. 59 What could explain the SEC’s failure to pursue cases against Bank of America’s executives, or its counsel? Judge Rakoff noted that federal pressure on Bank of America to consummate the merger was “lurking in the background.” 60 But he expressed a hope that as the litigation continued, “the truth” about the extraordinary government-driven merger “may still emerge.” 61 The majority memo misrepresents Judge Rakoff’s opinion. The memo mentions only Judge Rakoff’s criticism of the amount of the proposed fine, and entirely neglects his larger point: that both the SEC and Bank of America were working together to seek a settlement at the expense of the shareholders and the truth. 62 Did Government Officials Contribute to Violations of the Securities Laws? In its briefs to Judge Rakoff, the SEC suggested that the Bush and Obama Administrations’ close control and orchestration of the Bank of America / Merrill Lynch merger should not have any impact on the case. 63 But the Judge seemed unconvinced. 64 The Committee’s investigation has revealed that the Bush and Obama Administrations – particularly, the Federal Reserve and the Treasury Department – sought to prevent the truth about the merger from becoming known to the public and to the SEC. Is the SEC unwilling to fully investigate allegations of securities fraud when, as here, the federal government may have been pulling the strings? Documents obtained by the Committee from the Federal Reserve and Bank of America have revealed that the Treasury and the Fed applied intense pressure on Bank of America to consummate the Merrill Lynch merger, even as Merrill’s finances deteriorated. Meanwhile, Treasury and the Fed were keeping the SEC – the regulator responsible for ensuring that all material information about the merger was properly disclosed to shareholders – in the dark. 65 For example, Paulson and Bernanke refused to commit to future TARP support in writing, because such a document would have been a disclosable event under the SEC’s rules. 66
See Rakoff Opinion at 10. See Rakoff Opinion at 11-12. 59 See Rakoff Opinion at 6. 60 See Rakoff Opinion n.2. 61 See Rakoff Opinion at 12. 62 See Majority Staff Memo, October 19, 2009. See also Rakoff Opinion at 11-12. 63 See SEC Brief at 3 (“[T]he extensive publicity surrounding certain of the underlying issues here does not elevate the standard of review beyond the level otherwise prescribed for Commission settlements. Nor does the government’s investment of capital in Bank of America through the Troubled Asset Relief Program (‘TARP’) alter the applicable public standard. The gravamen of the violation alleged in the Complaint is Bank of America’s failure to disclose bonus arrangements to its shareholders, not misappropriation or misuse of government funds”). 64 See Rakoff Opinion at n. 2. 65 See, e.g., letter, Andrew Cuomo, Attorney General of the State of New York (April 23, 2009). 66 See, e.g., email, Jeffrey Lacker, Federal Reserve Bank of Richmond (December 23, 2008), Bates BOG-BAC-ML-COGR00128; email, Kevin Warsh, Federal Reserve Board of Governors (December 23, 2008); testimony to the New York State Attorney General, Kenneth Lewis (February 26, 2009).
Paulson and Bernanke knew far more than investors did about Merrill’s accelerating losses and nevertheless sought to force the merger by threatening Bank of America’s management and board. 67 In other negotiations and deliberations related to the financial crisis of the fall of 2008, the SEC had been a close working partner with the Fed and Treasury, and yet Paulson, Bernanke, and Timothy Geithner were careful to shut it out of their councils as they struggled to force Bank of America’s unwilling management to consummate their merger. If the SEC had been informed of what Paulson and Bernanke knew, and insisted that Bank of America and Merrill fully comply with the securities laws and with its disclosure regulations, the merger could have been jeopardized. If discovery in the SEC’s litigation against Bank of America reveals that government officials explicitly or implicitly directed the decisions that are at issue, will the SEC pursue actions against those officials? How would it respond to potential arguments by Bank of America that the bank and its management are not liable because the government was directing its actions? The SEC Needs to Pursue Transparency through Interactive Data Disclosure In January 2009, the SEC issued new rules that will require public companies to submit their financial statements in the eXtensible Business Reporting Language (“XBRL”) format. 68 In this machine-readable electronic format, every element of a financial statement is separately identified and readily searchable. XBRL will allow investors to use software to automatically download financial information into their databases for analysis, rather than hunting through lengthy corporate disclosure documents and manually copying information into spreadsheets. The first companies began to submit XBRL-formatted financial statements in the summer of 2009, starting with quarterly reports for periods ended on or after June 15, 2009. Chairman Christopher Cox championed the implementation of XBRL during his tenure, and the January 2009 rules were originally approved by the Commission in December 2008. In addition to these benefits for investors, XBRL-formatted financial statements should prove useful for the SEC’s own compliance and enforcement activities. For instance, the SEC will now be able to automatically screen corporate filings for red flags associated with accounting fraud or systemic risk, rather than relying on manual review. The SEC has promised to develop its data-analysis capabilities. 69 The SEC has yet to take several necessary steps to better integrate XBRL into compliance and enforcement activities and secure its benefits for investors. First, the agency has not yet announced any action on an internal task force’s January 2009 recommendation that XBRL should be used for all disclosure information – not just the financial statements. 70 Second, the agency has not yet announced plans to use XBRLformatted filings to perform forensic analyses to detect fraud and errors. Finally, the SEC continues to require companies to file plain-text financial statements alongside the XBRL-formatted ones, raising the possibility of inconsistencies.
See, e.g., letter, Andrew Cuomo, Attorney General of the State of New York (April 23, 2009). See Securities Act Release No. 33-9002 (January 30, 2009). 69 See Securities & Exchange Commission, Strategic Plan for Fiscal Years 2010-15, Draft for Comment, available at http://www.sec.gov/news/press/2009/2009-216.htm. 70 See Securities & Exchange Commission, Toward Greater Transparency: Modernizing the Securities and Exchange Commission’s Disclosure System, Report of the 21st Century Disclosure Initiative, available at http://www.sec.gov/spotlight/disclosureinitiative/report.pdf.
Additional Issues Related to These Witnesses Two additional issues may be characterized by the Democrat Majority as controversial, although neither in fact is. First, it was reported by the New York Post that when Brian Moynihan was named General Counsel of Bank of America on December 10, 2008, his bar status in the State of Massachusetts was inactive. 71 In an interview with Committee staff, Mr. Moynihan explained that he had not been practicing law for years and therefore had allowed his active bar status to lapse and that this is not unusual. 72 He explained that when he became General Counsel on December 10, he was extremely busy working on the merger with Merrill Lynch and that his failure to reactivate his status immediately was simply an oversight. 73 Mr. Moynihan further explained that once he became aware of his need to reactivate his bar status, he did so immediately and the bank paid about $100 to do so. 74 According to the Massachusetts Board of Bar Overseers, Mr. Moynihan reactivated his bar registration on December 18. 75 Chairman Towns was quoted as saying that Moynihan’s failure to immediately reactivate his bar status “is another fact that leads me to believe there could be something rotten in the cotton.” 76 However, this does not seem to be a particularly pressing issue for this Committee to focus on. Rather, to the extent this is an issue at all, it is likely a matter for the North Carolina and Massachusetts bar associations. Second, there have been news reports that quote an email exchange between the two Bank of America board members the Democrat Majority has asked to testify at this hearing – Messrs. Charles Gifford and Thomas May – that at first blush appear to be controversial. On January 15, 2009, Mr. Gifford wrote Mr. May: Unfortunately it’s screw the shareholders!! 77 Mr. May replied: No trail. 78 While this may sound sinister, according to Committee staff discussions with Bank of America, this exchange actually refers to Mr. Gifford’s views of the federal government’s actions. 79 Specifically, the government demanded that Bank of America cut its shareholder dividend in exchange for having taken taxpayer money, hurting the bank’s shareholders. 80 According to Bank of America, Mr. May’s response refers to his view that Mr. Gifford ought not to be making such colorful comments about a very sensitive topic. 81
See Mark DeCambre, Rich Wilner and Kaja Whitehouse, “BofA’s counsel had no ‘legal’ authority in Merrill deal,” New York Post (November 4, 2009), available at http://www.nypost.com/p/news/business/bofa_counsel_had_no_legal_authority_avZotLpCMrYxrnWIiGjH0K. 72 See note 17, supra. 73 Id. 74 Id. 75 See note 70, supra. 76 Id. 77 See Christina Rexrode, “Anger in BofA board e-mails: ‘It’s screw the shareholders!!’,” The Charlotte Observer (October 15, 2009), available at http://www.charlotteobserver.com/business/story/1002011.html. 78 Id. 79 Committee staff discussions with counsel for Bank of America. 80 Id. 81 Id.
Democrat Majority Fails to Invite Government Witnesses This hearing was originally scheduled to be held on October 22, 2009. At that time, Chairman Towns invited current and former government witnesses to testify on their role in the Bank of America-Merrill Lynch merger. The invited witnesses were: Mary Schapiro, Chairman of the SEC, Sheila Bair, Chairman of the FDIC, Christopher Cox, Former Chairman of the SEC, and Neil Barofsky, Special Inspector General for TARP. The hearing was inexplicably canceled. In preparation for this hearing, a Democrat staffer informed Republican staff that the Majority planned on inviting the same government witnesses for this hearing, a rescheduling of the original hearing. However, when the Democrat briefing memo was distributed late on Friday, November 13, it was revealed that only Bank of America witnesses had been invited to testify. Given the centrality of the federal government to the Bank of America-Merrill Lynch merger and the fact that $45 billion of taxpayer money is at stake, it is completely unacceptable to avoid holding Bush and Obama Administration officials accountable. The Oversight and Government Reform Committee, as its name suggests, is the only Committee with the jurisdiction and experience to hold federal agencies accountable for their actions. It is therefore troubling that the Chairman Towns has opted not to conduct oversight of the government’s role in the Bank of America-Merrill Lynch merger at this hearing. It will be important to hear from the above-mentioned government witnesses, as well as Treasury Secretary Geithner, about the roles they played in this merger.
Witness List Mr. Brian Moynihan President, Global Banking and Wealth Management Bank of America Mr. Timothy Mayopoulos Former General Counsel Bank of America Mr. Charles Gifford Member, Board of Directors Bank of America Mr. Thomas May Member, Board of Directors Bank of America
Staff Contacts: Christopher Hixon, Brien Beattie and Hudson Hollister at 5-5074
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