In the darkest days of the Third World debts crisis, Citicorp and other big banks scrambled to convert billions of dollars of almost worthless loans into equity in newly privatized Latin American companies.
Many of those banks look like geniuses now.
Just how profitable some of the stakes turned out became clear last month when chairman John Reed announced that Citicorp stands to gain more than $500 million from sales of Latin equity and securities over the next several quarters.
Executives at Citicorp were unavailable to discuss the bank's Latin holdings, and fair-value estimates for the holdings won't be available until yearend. That's when Rule 107 of the Financial Accounting Standard Board goes into effect, requiring banks to list their assets at market value rather than book.
But informed sources estimate that Citicorp's Latin equities and equity-related holdings are worth between $1.2 billion and $2 billion.
And Citicorp isn't the only one with a large Latin portfolio.
Chemical Banking Corp., which last year took over Manufacturers Hanover Corp., is the second-biggest player after Citicorp, with close to $1 billion in holdings stretching from Mexico to Argentina.
Of that, Chemical acquired around $ 300 million in mostly small holdings of up to $20 million and Manufacturers Hanover around $600 million in a few large debt swaps of as much as $100 million.
Chemical's holdings, for example, include 24% in Uruguay's Banco Commercial, which the money-center bank acquired last year for $7.5 million in a debt swap.
Other Big Players
J.P. Morgan & Co., Continental Bank, Chase Manhattan Corp., Bankers Trust, and BankAmerica Corp. are also sitting on hundreds of millions of dollars in gains on shares in Latin companies, analysts said.
Chase, for example, owns 11% of the Chilean phone company Entel and a 33% stake, acquired for $47.5 million in loans, in Mexico's Grupo Falcon.
That group, in turn, owns nearly 50.1% in the Mexican line Mexicana de Aviacion.
Continental owns around $200 million in Latin equities.
Even Bank of Boston, a minor-league player with four Latin equity investments now worth around $50 million, has seen its investment in Telefonica, an Argentine phone company, triple in market value.
"We got one big home run on that one," says Kevin Mulvaney, the bank's head of international operations.
Banks have profited handsomely on their equity investments because Latin stock markets doubled, tripled, and - in Argentina's case - quadrupled in value in the past 12 months.
But have the banks really earned anything?
In some cases, such as Chilean equity, the answer is clearly yes.
The reason: Loans to Chile were swapped into equity at a relatively small discount to face value.
Continental Bank Corp., for example, purchased a 20% stake in the Chilean power utility Chilgener for $11 million by swapping loans into equity at a 15% discount to face value.
Last year the bank sold the shares, realizing more than $35 million in capital gains.
In addition, between the 1987 purchase and the sale of the shares in 1991, Continental earned $9.4 million in dividends, which were reinvested for additional profits of $7.5 million.
In all, Continental made more than $52 million, a 473% return on its original investment, estimated Alberto Luzarraga, managing director for the bank's Latin operations in New York.
And Continental is continuing to invest, taking trading positions in Latin companies for up to $20 million.
"We're working with our profits now," Mr. Luzarraga said. "You can do a heck of a lot with $10 million in Latin America."
But in other cases the jury is out on whether banks, which wrote off billions of dollars in Latin and other Third World loans since 1987, will recover more than a small portion of their losses.
Citicorp has charged off $3.5 billion, BankAmerica $2.5 billion, Chase $2.8 billion, Chemical $1 billion, Bankers Trust $1.2 billion, and Morgan $2.5 billion.
Given the size of these write-offs, the best that banks can hope for is to recover the loans they swapped into equity, often at large discounts to face value.
Citicorp's single biggest equity holding in Latin America, for example, is in the Argentine phone company Telefonica. For this stake the bank swapped an estimated $650 million worth of loans.
Bankers close to that deal say the debt was swapped at an 85% discount to face value, with the rest of the loan written off - an arrangement that analysts said would have a negligible impact on Citicorp's bottom line.
"Banks will still post net losses on their LDC lending," says Mark Gross, a bank analyst with the rating agency IBCA Inc. in New York.
"All this means is that some of the money written off will be recovered."
Also tempering bankers' enthusiasm is the volatility of Latin American stock.
Argentina's stock market, for example, has plunged by around 50% since June, and Mexico's by about 30%.
With Latin American equity markets slumping and some equity investments turning out to be duds, banks may not even be able to recover the amounts written off when they acquired the equity.
Chase, for example, has had a bitter experience with its equity stake in Mexicana de Aviaciones.
Not only have the shares fallen in value, but shareholders have had to pump in an undisclosed amount of capital -- and the company has yet to pay a dividend.
"It's no secret the stock hasn't done well," acknowledges Brian D. O'Neill, senior vice president in charge of Latin investments at Chase.
Citicorp has lost heavily on its investment in Celulosa, an Argentine paper and pulp company, and has also seen its investment crumble in an Argentine meat packing plant.
Source say Citicorp has so far pumped between $110 million and $120 million in investments and loans into Celulosa with no sign that the company is anywhere near to becoming operational.
"Celulosa's going nowhere, and it's got huge problems," said one banker in New York specializing in Latin American corporate finance.
In some cases, banks could have done better by waiting until debt restructuring agreements were signed and then swapping their loans into collateralized higher-value Latin government bonds - or by simply waiting until prices rose and then selling the loans into the secondary market.
"It's O.K. if you can fix a bad loan by [equity] conversion," Continental's Mr. Luzarraga said. "But otherwise, you're better off liquidating the asset."
Also, Citicorp and other banks will find it hard to unload many of their holdings and repatriate earnings. And even if they succeed, the prices could be well below current market values.
"There are a lot of covenants and restrictions written into these conversations," says one investment banker who asked not be named. "Some of this stuff can only be sold to locals, some of it only to foreigners, and much of it amounts to a private placement in noninvestment-grade LDC equities."
Banks that acquired equity in the Argentine Entel phone company, which bears the same name as the Chilean company but was formerly owned by Argentina's government, cannot sell it for seven years.
"We're close to half time on our investment, but it creates uncertainty," said the Bank of Boston's Mr. Mulvaney.
Making the Best of It
Still, many believe that debt-for-equity swaps have helped banks make the best of bad deals.
"Was it wise to lend so much money in the first place? No," said David Berry, an analyst with Keefe, Bruyette & Woods Inc.
"But was it an intelligent way to go about recovering some of the money lost? Yes."