Feds step deeper into Citi
Shift of preferred shares to common
stock increases embattled bank's capital base. Stock down by
nearly a third in volatile trading.
NEW YORK (CNNMoney.com) -- The U.S.
government waded deeper into the bailout of one of the nation's
largest banks Friday when it announced a deal that will give it
control over as much as 36% of Citigroup's common stock.
Citigroup shares plunged about a third in
midday trading on the news.
The deal will convert preferred shares
that the Treasury Department already holds in Citigroup for
common shares, a shift that is designed to improve the
embattled bank's capital base, which in turn will hopefully
allow it to increase its lending.
The U.S. government has already given
Citigroup $45 billion, for which it received preferred shares
and warrants in the company.
The new deal Friday did not give the bank
any additional taxpayer dollars. But the government is taking
on a greater risk by assuming more volatile common shares. The
market price is well below the $3.25 per-share conversion price
the government is paying.
Taxpayers will also lose roughly $2
billion in dividends, because the preferred shares they are
giving up paid 8% dividends. Citi suspended its common stock
dividend as part of the agreement.
The Treasury is trying to prop-up one of
the nation's largest banks as a key part of its efforts of
fixing the battered banking system.
For Citigroup, the conversion is important
because it increases the bank's tangible common equity, making
an improvement in the bank's troubled balance sheet.
Terms of the deal
the deal, Treasury will convert up to $25 billion of preferred
dollars that Citigroup is able to bring in from other
investors, such as sovereign wealth
It will virtually force those other
preferred share investors to convert to common shares by
eliminating most preferred dividends as well, although the
government will continue to get an 8% dividend on the $20
billion in preferred shares it is not converting.
Friday's move could very well be
the first of similar actions taken by the federal government
going forward. The Treasury Department said in its rescue plan,
unveiled this week, that any major bank that comes up short in
the so-called "stress tests" now being conducted will be
required to raise more capital, and that may be accomplished by
converting the preferred shares that Treasury now holds in each
of the institutions.
The $20 billion of preferred shares
Treasury will have left in Citi could also be converted if
Treasury determines more assistance is needed, although company
officials argued Friday this move puts it in the strongest
capital and tangible common equity position among major
But the move will reduce the stake that
existing shareholders hold in the bank to as little as 26%. New
common share investors, including other current preferred
shareholders now expected to convert their shares to common,
will own the remaining stake -- which could be as much as
Shares of Citigroup, a component of the
Dow Jones industrial average, have plunged about 90% in the
past year even before Friday's slide. Still, the bank hopes
that the move will eventually help rebuild its battered share
In a call with investors, Citi Chief
Executive Vikram Pandit said the decision was difficult because
of what it would do to current investors, but that the bank had
"In the end, our business is about
confidence," he said. "We wanted to take definitive steps to
put all capital issues aside."
Analysts questioned Pandit as to who would
be calling shots at the bank going forward.
"Will Citigroup be run for the
shareholders, or is Citigroup going to be run for public policy
goals or some other purpose?" asked Michael Mayo of Deutsche
Pandit insisted that Citi management would
continue to be in charge -- not the government or regulators --
and that decisions would be made to maximize profits and
shareholder return, rather than public policy agenda.
"For those people who have a concern about
nationalization, this should put those concerns to rest,"
Pandit said. "We're going to run Citi for the
Many industry observers have argued that a
36% government stake is the equivalent of nationalizing
"This begs the question of
nationalization," said Sen. Richard Shelby, the ranking
Republican on the Senate Banking Committee, at a hearing this
week, as discussions of this kind of government stock swap
swirled around both Wall Street and Washington. "If you had 40%
working control, you wouldn't own it, but you'd own working
Ned Kelly, head of global banking for
Citigroup, disputed that view in an interview Friday after the
"The term of nationalization covers a
multitude of sins," he said. "But the common equity has not
been wiped out. There is no change in management. There are no
Under the deal, a majority of Citigroup's
independent directors will be replaced. Pandit and Chairman
Richard Parsons will retain their positions.
Pandit tried to ensure investors that the
deal is being structured in a way that allows it to retain its
current stakes in foreign banks, such as Grupo Financiero
Banamex, the No. 2 bank in Mexico. Some countries, such as
Mexico, prohibit ownership of banks by companies controlled by
The Federal Deposit Insurance Corp.
considers a bank to be critically undercapitalized if the
tangible equity-to-asset ratio is 2% or less. Citi's ratio
hovers around 1.5% now. Citigroup said it believed that ratio
will rise to more than 4% as as result of Friday's moves.
Citi said in its statement that the
agreement could increase the tangible common equity of the
company from the fourth-quarter level of $29.7 billion to as
much as $81 billion.
At the same time, Citigroup (
Fortune 500) announced a
pretax $9.6 billion charge in the recently completed fourth
quarter, resulting in a roughly 50% increase in its 2008
The charge was to write down the value of
the goodwill carried on its balance sheet for some key business
units. It came to $8.7 billion on an after-tax basis. The
company said that will result in a full-year loss of $27.7
billion, up from the
previously reported $18.7 billion.
Corporate goodwill is the value of a
company operation carried on balance sheet beyond what can be
attributed to its strict financial operations, placing a value
on such intangible items as the company's name, reputation and
its customer relations.
The charge will not result in any cash
drain for the company or reduce its tangible common equity. It
is an accounting procedure that wipes out the goodwill of
Citigroup's consumer banking operations in North America, Latin
America and other key overseas markets.
When Citi announced its fourth-quarter
results last month, it said it was continuing to review its
goodwill to determine whether an impairment had occurred.
Citi's Kelly said the charge announced
Friday is simply an accounting procedure required by the sharp
loss in market value of the company's stock, not by damage to
its brand caused by the drumbeat of bad news over the last
"We do not think it's been permanently
damaged. We still have a very strong brand globally," he said.
"Clearly when you're in the spotlight, there's going to be some
negative impact. But it's had no economic