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Merrill takes US$11.5b sub-prime writedown

Largest US broker posts first full-year loss since 1989

(NEW YORK) Merrill Lynch reported a second straight quarterly loss after writing down US$11.5 billion of subprime mortgages and bonds, ousting its chief executive officer and losing almost half of its market value in 2007.

New York-based Merrill said yesterday that it suffered a fourth-quarter net loss of US$9.83 billion, or US$12.01 a share, compared with earnings of US$2.35 billion, or US$2.41 a share, a year earlier. Analysts were estimating that the largest US brokerage would post a loss of US$4.82 a share, according to a survey by Bloomberg. The decline resulted in Merrill’s first full-year loss since 1989.

‘While the firm’s earnings performance for the year is clearly unacceptable, over the last few weeks we have substantially strengthened the firm’s liquidity and balance sheet,’ chief executive John Thain said in the statement.

Mr Thain joined Merrill last month, replacing Stan O’Neal, whose gamble on building the sub-prime mortgage business backfired as US homeowner defaults surged to a 20-year high.

Merrill is the third of the five biggest US securities firms to post a loss, capping the companies’ worst quarter ever.

Mr Thain, the former president of Goldman Sachs, Wall Street’s most profitable firm, has replaced senior executives and taken steps to replenish capital during the past month by raising US$12 billion from outside investors.

‘Mr Thain is repositioning the firm to start fresh with a strong balance sheet, once these couple of bad quarters get out of the way,’ said Matthew Albrecht, an analyst at Standard & Poor’s who rates Merrill shares ‘hold’.

The company’s full-year loss came to US$7.78 billion compared with record net income of US$11.6 billion at Goldman and earnings of US$3.2 billion posted by Morgan Stanley, the industry’s No 2 firm.

Morgan Stanley and Bear Stearns, like Merrill, reported their biggest losses in the fourth quarter. Goldman and Lehman Brothers had profits.

Mr Thain has reduced 2007 bonuses in some divisions and cut jobs in the fixed-income unit, where the writedowns originated.

Several executives tied to Mr O’Neal have left, including former US brokerage chief McIntyre Gardner. Mr Thain has also recruited executives from his most recent employer, NYSE Euronext, hiring Nelson Chai to replace Jeff Edwards as chief financial officer.

Merrill, the third-biggest US securities firm, fell 42 per cent last year in NYSE trading, the third-worst performance among the 12 stocks tracked by the Amex Securities Broker/Dealer Index. Goldman, which profited by betting on a decline in prices for mortgage securities, gained 7.9 per cent in the same period.

Merrill, whose market value was greater than Goldman’s as recently as 2006, is now worth half as much. Mr Thain, 52, worked at Goldman from 1979 to 2004, when he left to become chief executive of NYSE Euronext.

The writedowns by Merrill add to more than US$100 billion of sub-prime-related losses reported since May by the world’s largest banks and securities firms. Citigroup posted the biggest loss in its 196-year history earlier this week as the largest US bank’s sub-prime mortgage investments and related securities tumbled in value by US$18 billion.

With its capital depleted, Merrill said on Tuesday that it sold US$6.6 billion of preferred stock to a group of investors including the Korean Investment Corp, Kuwait Investment Authority and Mizuho Corporate Bank. The transaction followed the sale in December of as much as US$6.2 billion in stock.

Before his ouster in October, Mr O’Neal acknowledged that Merrill held onto many of the mortgage securities it created rather than selling them to customers. Mr O’Neal also bought sub-prime lender First Franklin Financial Corp for US$1.3 billion at the end of 2006 just as the market for housing-linked securities was beginning to wither.

Merrill held US$8.8 billion of sub-prime mortgages by June and US$32.1 billion of collateralised debt obligations or CDOs – securities packaged from mortgage bonds, loans and other debt.

Many CDOs were downgraded by ratings agencies S&P and Moody’s as an increasing number of borrowers fell behind on home loan payments, sending prices on some of the securities plunging to as little as 30 cents on the dollar.

 

Source: Bloomberg (Business Times 18 Jan 08)

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