BankAmerica Accounting May Be Imitated
If BankAmerica Corp. succeeds in its accounting approach to the Security Pacific Corp. merger, the tactic may soon be repeated at other big banks.
The accounting technique, known as purchase accounting, makes it easier to acquire banks that have questionable loans on their books. And a number of potential takeover targets fill that bill today.
Chance for a Cleanup
"It gives you the ability to really clean up at least one of the partners," said Michael Martin, a director in the corporate finance unit at First Boston Corp.
In BankAmerica's case, purchase accounting will allow a reassessment of the value of Security Pacific's assets and adjustment of the books up to a year after the deal is done - with no effect on earnings.
"If the assets end up stinking, you can go back and reflect it in your purchase price, instead of taking it" in the income statement, a money-center banker explained.
Possibility of a |Bad Bank'
The accounting technique could also allow BankAmerica and Security Pacific to spin off a "bad bank" that will hold, and perhaps sell, their most troubled assets. Frank Newman, BankAmerica's chief financial officer, said Monday that such a move is being considered.
Moving troubled assets from the new BankAmerica's balance sheet and putting them into a "bad bank" could induce investors to pay more for BankAmerica's stock because it would be perceived as having a stronger balance sheet, said Jay Weintraub, a first vice president at Merrill Lynch & Co.
"I think it makes sense for them, and this merger is a perfect time to do it," Mr. Weintraub said. Under current rules, purchase accounting must be used when setting up a "bad bank" for two merger partners.
Figuring the Premium
When using purchase accounting, the acquiring bank appraises assets and liabilities of the bank it is buying. Any difference between book value and deal price counts as a premium.
Regulators and analysts routinely deduct that premium from a bank's equity when they calculate its capital ratios. But for earnings purposes, the premium can be deducted bit by bit over many years, with little impact on earnings in any one year.
In the Security Pacific deal, it now appears that BankAmerica will pay only a negligible premium. But that could change as Security Pacific's book value is adjusted downward in coming months to account for bad loans. Preliminary estimates suggest there will be a $1 billion writedown of asset values.
No Premium in Pooling
By contrast, when banks merge using a pooling-of-interests approach, they simply add up the amounts in their respective accounts to create new financial statements. No premium over book value is added to the balance sheet, so the new bank's capital ratios are not reduced by any adjustment for such a premium.
Though not common, purchase accounting has been used in bank deals before. In fact, BankAmerica used it to buy Seafirst Corp. in 1983, and Bank of New York Co. used it to buy Irving Bank Corp.
But in recent years, a number of mergers have been structured using so-called pooling accounting. Pooling makes sense when a bank is being acquired at a hefty premium to its book value, and many such deals were completed in the late 1980s. That's because pooling would allow such a deal to go through without cutting into the capital ratios of the new, combined bank.
Question of Asset Quality
Pooling also makes sense when there are no burning concerns about asset quality at either bank, because the banks feel less compelled to scrutinize every asset so closely.
But purchase accounting is more suitable for a deal where asset quality of at least one of the banks is questionable and where the acquiring bank has enough capital to withstand a hit to its capital ratios.
Two subsidiaries of Citicorp filed with the Securities and Exchange Commission to issue up to $1.405 billion in securities backed by credit card receivables. UBS/Phillips & Drew is lead manager of the deal, the third credit card asset sale for Citicorp this year.
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Chemical Banking Corp. plans to redeem a $100 million senior note issue in September orginally issued in 1988.