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Lewis presses on with big risk

When Bank of America chief executive Ken Lewis announced his plan in January to buy Countrywide Financial for $4 billion, he was hailed by some as a bargain shopper coming to the mortgage lender's rescue.

Now, some analysts wonder whether he should be headed to the return counter.

At Calabasas, Calif.-based Countrywide, loan losses and legal woes continue to pile up for a major player in the nation's subprime mortgage mess. The worry is that Bank of America shareholders will pay the bill for the lender's excesses during the housing bubble.

For months, speculation has swirled about whether the Charlotte-based financial giant would abandon the deal. But the bank said last week it's targeting July 1 to close the purchase, pending Countrywide shareholder approval on Wednesday. Some analysts still wonder whether Bank of America will find a way to separate the good parts of the company from the bad, allowing it to ward off potential losses.

If the deal ends up a success, Lewis captures as much as one-fourth of the mortgage market, adding to his bank's dominance in credit cards and checking accounts. With Countrywide's mortgage know-how and vast sales force, he can tap new customers and make more money from existing ones.

At the other extreme, Bank of America, already wrestling with its own loan problems and a slowing economy, could rack up massive losses and a big legal tab. The housing market could continue to falter. The tarnished Countrywide name could stain Bank of America's well-known brand.

Lewis, 61, doesn't have to look far down Tryon Street to see what happens to bank CEOs saddled with bad mortgage deals. Wachovia's Ken Thompson lost his job this month after misfiring on his $24 billion Golden West Financial acquisition.

In his seven-plus years at the helm, Lewis has won a reputation as a skilled acquirer who makes bold deals work. Now, one of his smallest purchases could be his riskiest.

“He is putting it on the table that this is a good deal in the long run,” said Jaime Peters, analyst with Morningstar. “He has put his reputation on the line.”

Glow fades to headaches

When he took over as CEO from Hugh McColl Jr. in 2001, Lewis, a Mississippi native who has spent nearly four decades at the company, initially focused on improving operations. But he soon went on a $100 billion-plus acquisition spree to expand in the Northeast and Chicago, as well as in credit cards.

The Countrywide takeover started out as a $2 billion investment last August to help shore up the nation's biggest mortgage lender. Amid the credit crunch, the company was struggling to get the financing it needed to stay afloat. In addition, the once booming business of making subprime loans to borrowers with spotty credit had dried up and customers were increasingly struggling to make payments.

Five months later, amid rumors of a possible bankruptcy filing by Countrywide, Bank of America announced an outright purchase.

After the initial glow of a new deal, the headaches began to mount. Countrywide CEO Angelo Mozilo came under fire for his compensation, which included cashing out $121 million in stock options as the company swooned last year. Sen. Chuck Schumer, D-N.Y., a member of the Senate finance committee, criticized Bank of America's plan to put Mozilo's lieutenant, David Sambol, in charge of the combined mortgage unit. Customers and even cities filed lawsuits alleging lending abuses.

Countrywide's taint even spread this month to the presidential campaign. Jim Johnson, the former Fannie Mae chief who was vetting vice presidential candidates for Democrat Barack Obama, resigned after allegations surfaced that he had received special loans from the lender.

While standing behind his purchase, Lewis this month acknowledged it has been tougher than he had expected.

“I knew we'd get adverse publicity,” he said at a conference in New York. “I didn't anticipate the level of pain and political feedback. But I still think it's the right thing to do.”

Lewis touts the importance of becoming No. 1 in a “touchstone” product such as mortgages. Along with a large sales force originating new mortgages, Countrywide comes with a $1.5 trillion mortgage servicing portfolio, which produces fees for collecting mortgage payments.

Before buying Countrywide, Bank of America sent 60 people to scour Countrywide's books for potential loan losses and to study legal liabilities. Since then, the bank has continued to examine the company's portfolio and underwriting practices. On a number of occasions, Lewis has expressed confidence in what he's buying.

Countrywide made profits of $2.7 billion in 2006, but lost $704 million in 2007 as it set aside $2.3 billion to cover bad loans and mortgage volume shriveled. It lost nearly $900 million in the first quarter of this year. In January, Bank of America said the purchase would be neutral to its bottom line this year but pad earnings per share by 3 percent in 2009, not counting restructuring charges.

Analyst Nancy Bush of NAB Research in New Jersey said the bank could find itself in an enviable position when the housing market recovers. Lenders will get better terms from customers, employ better underwriting standards and find more realistic values assigned to homes.

“The ones left standing, and that have their ducks in a row, will be very profitable,” she said.

Possible legal hangovers

Some analysts, however, fear that Countrywide's pitfalls could overwhelm its positives.

When the deal closes, accounting rules will require Bank of America to mark down the value of Countrywide's $200 billion balance sheet, which includes loans and mortgage-backed securities. Peters, the analyst, expects writedowns between $5 billion and $18 billion. The losses won't come out of quarterly earnings but could require the bank to raise more capital, she said. That hurts existing shareholders because it dilutes the value of their holdings.

Another problem is Countrywide's legal issues. The FBI is reportedly investigating Countrywide's lending practices. Countrywide shareholders have filed suits over the merger. The U.S. Justice Department is probing whether the lender abused borrowers and the bankruptcy process.

“They will be hit by some litigation, and a fair amount of it,” said Carl Tobias, professor at University of Richmond's law school. “There's smoke, but we don't know how much fire.”

Christopher Whalen, managing director of financial analysis firm Institutional Risk Analytics, said Bank of America could craft a way to separate Countrywide's banking operations and servicing portfolio from its legal liabilities and bad debts. For example, it could absorb these valuable units, while leaving the rest in a company, called Red Oak, that was created to execute the deal.

Bank of America encouraged such speculation when it said in a filing that it was evaluating what to do with about $38 billion in Countrywide's debts, saying “there is no assurance that any of such debt would be redeemed, assumed or guaranteed.” That would leave Countrywide bondholders at risk of losing their investment.

One strategy could be to threaten a bankruptcy protection filing by the remaining holding company, a move that could force legal settlements, Whalen said. Lewis also could be lobbying regulators to subsidize the deal, citing the assistance provided JPMorgan Chase in buying investment bank Bear Stearns, he said.

If Lewis doesn't take the right steps to protect the company, “it will cost him his job and hit (Bank of America) shareholders with a huge loss,” he wrote in a note last week.

Moving ahead, positively

Bank of America spokesman Scott Silvestri said the company does not comment on speculation about the deal.

Recently, the bank has announced a number of steps aimed at repairing Countrywide's image. The combined mortgage business, to be based in California, will take the Bank of America name, and Lewis has put one of his top lieutenants, Barbara Desoer, in charge. Countrywide's Sambol, who had faced Schumer's criticism, is retiring.

The bank has said it won't offer some of the riskier types of loans Countrywide made, including subprime loans. It has pledged to assist homeowners facing foreclosure.

Still, challenges await in integrating operations and cultures. The bank has said it will slash the expense base of the combined mortgage company by about 11 percent by 2011, which likely means major job cuts. Countrywide had 50,600 employees at the end of 2007, while Bank of America has more than 12,000 in its consumer real estate division.

At an analyst conference this month, Lewis faced questions about whether he was buying Countrywide at the wrong time. He said he “personally” worries the housing market could fall dramatically further, but added “from everything we know, we think we got it right.” Speaking on the same day Wachovia announced Thompson's departure, he appeared to allude to his counterpart's much more costly purchase.

“Obviously, there is a risk to it,” he said of his $4 billion Countrywide deal, “but we are not paying $22 billion, either.”

When Bank of America chief executive Ken Lewis announced his plan in January to buy Countrywide Financial for $4 billion, he was hailed by some as a bargain shopper coming to the mortgage lender's rescue.

Now, some analysts wonder whether he should be headed to the return counter.

At Calabasas, Calif.-based Countrywide, loan losses and legal woes continue to pile up for a major player in the nation's subprime mortgage mess. The worry is that Bank of America shareholders will pay the bill for the lender's excesses during the housing bubble.

For months, speculation has swirled about whether the Charlotte-based financial giant would abandon the deal. But the bank said last week it's targeting July 1 to close the purchase, pending Countrywide shareholder approval on Wednesday. Some analysts still wonder whether Bank of America will find a way to separate the good parts of the company from the bad, allowing it to ward off potential losses.

If the deal ends up a success, Lewis captures as much as one-fourth of the mortgage market, adding to his bank's dominance in credit cards and checking accounts. With Countrywide's mortgage know-how and vast sales force, he can tap new customers and make more money from existing ones.

At the other extreme, Bank of America, already wrestling with its own loan problems and a slowing economy, could rack up massive losses and a big legal tab. The housing market could continue to falter. The tarnished Countrywide name could stain Bank of America's well-known brand.

Lewis, 61, doesn't have to look far down Tryon Street to see what happens to bank CEOs saddled with bad mortgage deals. Wachovia's Ken Thompson lost his job this month after misfiring on his $24 billion Golden West Financial acquisition.

In his seven-plus years at the helm, Lewis has won a reputation as a skilled acquirer who makes bold deals work. Now, one of his smallest purchases could be his riskiest.

“He is putting it on the table that this is a good deal in the long run,” said Jaime Peters, analyst with Morningstar. “He has put his reputation on the line.”

Glow fades to headaches

When he took over as CEO from Hugh McColl Jr. in 2001, Lewis, a Mississippi native who has spent nearly four decades at the company, initially focused on improving operations. But he soon went on a $100 billion-plus acquisition spree to expand in the Northeast and Chicago, as well as in credit cards.

The Countrywide takeover started out as a $2 billion investment last August to help shore up the nation's biggest mortgage lender. Amid the credit crunch, the company was struggling to get the financing it needed to stay afloat. In addition, the once booming business of making subprime loans to borrowers with spotty credit had dried up and customers were increasingly struggling to make payments.

Five months later, amid rumors of a possible bankruptcy filing by Countrywide, Bank of America announced an outright purchase.

After the initial glow of a new deal, the headaches began to mount. Countrywide CEO Angelo Mozilo came under fire for his compensation, which included cashing out $121 million in stock options as the company swooned last year. Sen. Chuck Schumer, D-N.Y., a member of the Senate finance committee, criticized Bank of America's plan to put Mozilo's lieutenant, David Sambol, in charge of the combined mortgage unit. Customers and even cities filed lawsuits alleging lending abuses.

Countrywide's taint even spread this month to the presidential campaign. Jim Johnson, the former Fannie Mae chief who was vetting vice presidential candidates for Democrat Barack Obama, resigned after allegations surfaced that he had received special loans from the lender.

While standing behind his purchase, Lewis this month acknowledged it has been tougher than he had expected.

“I knew we'd get adverse publicity,” he said at a conference in New York. “I didn't anticipate the level of pain and political feedback. But I still think it's the right thing to do.”

Lewis touts the importance of becoming No. 1 in a “touchstone” product such as mortgages. Along with a large sales force originating new mortgages, Countrywide comes with a $1.5 trillion mortgage servicing portfolio, which produces fees for collecting mortgage payments.

Before buying Countrywide, Bank of America sent 60 people to scour Countrywide's books for potential loan losses and to study legal liabilities. Since then, the bank has continued to examine the company's portfolio and underwriting practices. On a number of occasions, Lewis has expressed confidence in what he's buying.

Countrywide made profits of $2.7 billion in 2006, but lost $704 million in 2007 as it set aside $2.3 billion to cover bad loans and mortgage volume shriveled. It lost nearly $900 million in the first quarter of this year. In January, Bank of America said the purchase would be neutral to its bottom line this year but pad earnings per share by 3 percent in 2009, not counting restructuring charges.

Analyst Nancy Bush of NAB Research in New Jersey said the bank could find itself in an enviable position when the housing market recovers. Lenders will get better terms from customers, employ better underwriting standards and find more realistic values assigned to homes.

“The ones left standing, and that have their ducks in a row, will be very profitable,” she said.

Possible legal hangovers

Some analysts, however, fear that Countrywide's pitfalls could overwhelm its positives.

When the deal closes, accounting rules will require Bank of America to mark down the value of Countrywide's $200 billion balance sheet, which includes loans and mortgage-backed securities. Peters, the analyst, expects writedowns between $5 billion and $18 billion. The losses won't come out of quarterly earnings but could require the bank to raise more capital, she said. That hurts existing shareholders because it dilutes the value of their holdings.

Another problem is Countrywide's legal issues. The FBI is reportedly investigating Countrywide's lending practices. Countrywide shareholders have filed suits over the merger. The U.S. Justice Department is probing whether the lender abused borrowers and the bankruptcy process.

“They will be hit by some litigation, and a fair amount of it,” said Carl Tobias, professor at University of Richmond's law school. “There's smoke, but we don't know how much fire.”

Christopher Whalen, managing director of financial analysis firm Institutional Risk Analytics, said Bank of America could craft a way to separate Countrywide's banking operations and servicing portfolio from its legal liabilities and bad debts. For example, it could absorb these valuable units, while leaving the rest in a company, called Red Oak, that was created to execute the deal.

Bank of America encouraged such speculation when it said in a filing that it was evaluating what to do with about $38 billion in Countrywide's debts, saying “there is no assurance that any of such debt would be redeemed, assumed or guaranteed.” That would leave Countrywide bondholders at risk of losing their investment.

One strategy could be to threaten a bankruptcy protection filing by the remaining holding company, a move that could force legal settlements, Whalen said. Lewis also could be lobbying regulators to subsidize the deal, citing the assistance provided JPMorgan Chase in buying investment bank Bear Stearns, he said.

If Lewis doesn't take the right steps to protect the company, “it will cost him his job and hit (Bank of America) shareholders with a huge loss,” he wrote in a note last week.

Moving ahead, positively

Bank of America spokesman Scott Silvestri said the company does not comment on speculation about the deal.

Recently, the bank has announced a number of steps aimed at repairing Countrywide's image. The combined mortgage business, to be based in California, will take the Bank of America name, and Lewis has put one of his top lieutenants, Barbara Desoer, in charge. Countrywide's Sambol, who had faced Schumer's criticism, is retiring.

The bank has said it won't offer some of the riskier types of loans Countrywide made, including subprime loans. It has pledged to assist homeowners facing foreclosure.

Still, challenges await in integrating operations and cultures. The bank has said it will slash the expense base of the combined mortgage company by about 11 percent by 2011, which likely means major job cuts. Countrywide had 50,600 employees at the end of 2007, while Bank of America has more than 12,000 in its consumer real estate division.

At an analyst conference this month, Lewis faced questions about whether he was buying Countrywide at the wrong time. He said he “personally” worries the housing market could fall dramatically further, but added “from everything we know, we think we got it right.” Speaking on the same day Wachovia announced Thompson's departure, he appeared to allude to his counterpart's much more costly purchase.

“Obviously, there is a risk to it,” he said of his $4 billion Countrywide deal, “but we are not paying $22 billion, either.”

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