Loan Loss-Sharing Agreement – The Ignored Tale
FROM A POSTER AT ANOTHER SITE (a great insight):
"While I was reading something about U.S. Bancorp (USB) several days ago, it came across my mind that why there wasn’t a loan loss-sharing agreement between jpmc and fdic regarding wamu transaction? You see, USB (I own a few shares), as one of the stronger banks during the financial meltdown, acquired several smaller “failed” banks from fdic. It signed with the agency some loan loss-sharing agreements, by which, if acquired loans went bad, FDIC will shoulder a portion of the loss. The agreements helped the acquirer (in this case USB) to reduce/limit its risk and exposure to the recognized as well as unforeseen losses from bad assets of failed bank(s). Such agreement, I think, is necessary to provide the healthy banks with incentives to absorb failed ones. It also justifies a higher selling price tag in soliciting bids. In FDIC’s own word, it helps “maximize the value” of seized assets. The agreement makes good business sense for both FDIC and involved financial institutions.
In wamu’s case, however, there was no loan loss-sharing agreement ever existed. This means JPMC will have to swallow every single loss from acquired wamu loan portfolio. Some of the bad loans were recognizable at the time of acquisition, others unforeseen. If wamu bad loans imploded in following months or years, as most at that time assumed it could, JPMC might be in deep trouble already. So, why on earth it defied the sound business practice by doing away with the loan loss-sharing agreement, and was willing to gamble with Wamu’s huge “toxic” loans without protection? This arrangement also let FDIC completely off the hook from wamu’s supposedly “bad” assets. Hence, plus other factors, fdic lost not even a penny. It was a huge “win” for fdic. JPMC, meantime, look like a white knight saving the nation’s falling financial system all for the public good. Such act, of course, was likely to be one of the major factors (or lies) to “justify” the bargain basement price of $1.9 billion for Wamu’s huge assets. The idea of FDIC has the duty to “maximize the value of seized assets” was thrown out of the window in the midst of panic, greed, deceptions, and self-righteousness.
After observing the case and connecting the dots, I’ve come to the conclusion: JPMC knew better than anyone else (except wamu management) about the condition of Wamu loan portfolio. Killinger was right when he testified at PSI hearing that Wamu started working off its bad loans since 2007. Its loan portfolio was on the mending by the time of seizure. JPMC knew about this. The loans were not as bad as people feared. JPMC had gained valuable, detailed, inside knowledge about Wamu books via Project West, aborted acquisition in 03/2008, and possibly other schemes. It used such knowledge to take over the whole wamu loan portfolio ($240B in total) without the need for a loss-sharing agreement protection, which in turn gave the company a strong uphand in price negotiation. At the time of acquisition, JPMC announced an immediate “write-off” of $30B wamu “bad” loans, and showed the government and the public what “scarifies” it made. However, soon after the acquisition JPMC recorded “negative goodwill” in its book, indicating the value acquired exceeded the price paid. A few months later it further admitted that it could potentially “write up” $29B instead of “write down” $30+B acquired loans as previously estimated. During the most recent four quarters (07/09 – 06/10), JPMC set aside $8.3B loss reserves for wamu loans. As of today, there was no charge off yet, according to its own financial reports. The same documents also stated “No allowance for loan losses was recorded at June 30, 2009” either. There was no doubt JPMC duped FDIC into panic with misleading information which led to the seizure. It further duped the regulators into believing the company made a superior offer for Wamu’s vast but “toxic” assets. This was the “white collar” crime in its highest, most sophisticated form."
