NEW YORK — Merrill Lynch's shotgun sale to Bank of America will create the nation's largest financial services company _ one that some believe is too big to fail. Still, no one is breathing easy just yet.
The deal keeps Merrill from a Bear Stearns-style fire sale or a complete meltdown like Lehman Brothers while removing a major player that some expected to be the next shoe to drop in the credit crisis. At the same time, it will enable BofA to expand the financial services it offers to its already huge customer base.
Still, the challenges are enormous: The two companies have starkly contrasting cultures. Billions of dollars of bad debt remain on Merrill's books, while BofA still faces huge consumer credit losses. And the deal was slapped together in less than two days _ meaning that the two financial powerhouses involved might not know exactly what they are getting themselves into.
"It's a big gamble," said Alois Pirker, senior analyst at Aite Group, a financial services advisory and research firm. "They could be the number one financial services firm in all areas. But if it doesn't work out, it could go very badly."
The deal, originally valued at $50 billion, happened as bank and government officials met over the weekend to decide what to do about the ailing Lehman Brothers Holdings Inc., which ended up filing for bankruptcy. In an attempt to avoid the same fate as Lehman, Merrill Lynch & Co. _ whose stock has also been plunging lately _ says it asked Bank of America Corp. if they would be interested in a deal.
Bank of America shares fell $7.19, or 21 percent, to $26.55 on Monday, and Merrill shares rose just a penny to $17.06. Under terms of the transaction, Bank of America would exchange 0.8595 shares of Bank of America common stock for each Merrill Lynch common share. Based on BofA's closing price of $26.55 Monday, the deal was valued at less than $40 billion, or $22.82 a share.
BofA has been trying for years to successfully build an investment banking arm, and Merrill does fit that bill.
But the obstacles are huge _ and not just in terms of Merrill's risky mortgage-backed assets, which led ratings agency Standard & Poor's to cut its credit rating on Bank of America on Monday. Merrill has posted quarterly losses for four straight quarters. While it has written down about $40 billion from failed investments, uncertainty remains over how big the next round of write-downs could be on Merrill's exposure to approximately $8.8 billion in asset-backed securities.
What's especially worrisome to investors is that a deal of this magnitude might normally take weeks or months to work out. Instead, it happened within 48 hours _ raising the question of whether there was enough time to study the books.
Merrill CEO John Thain called Bank of America CEO Ken Lewis last Saturday morning from a meeting between government and banking officials to discuss how to save the U.S. financial system from the breakdown of Lehman Brothers Holdings Inc. Lewis came up to New York immediately and hammered out a deal.
"This was a Hail Mary. They wanted to get so big that now, it will be easier for them to get financing, get the Fed to help them, or get a bailout because now they're really too big to fail," said Peter Schiff, president of Euro Pacific Capital. "That's the name of the game _ get yourself so big that the Treasury won't allow you to go under."
The deal also comes as Bank of America tries to digest another troubled company, Countrywide Financial Corp. The mortgage lender was about to go belly-up before BofA came along earlier this year to snap it up.
But even if the acquisition had occurred at an easier time in the industry, investors might still be wary about the matchup, because the cultures of Bank of America and Merrill Lynch are so vastly different.
Merrill Lynch was founded in 1914 by Charles Merrill and his friend Edmund Lynch. With its iconic bull mascot, it became known as an aggressive, brash Wall Street powerhouse.
BofA, on the other hand, traces its roots to early 20th century San Francisco. The bank took its current form _ and culture _ when it was acquired by NationsBank Corp. in a $57 billion deal in 1998. NationsBank took the Bank of America name but kept its headquarters in Charlotte, N.C. The deal was led by Hugh L. McColl Jr., an ex-Marine who oversaw 70 acquisitions since the early 1980s.
"Culturally, you're merging a staid and stable Southern banking culture, if you will, with a New York, down-and-dirty street-fighting culture. I don't think they could be further apart," said Rob Hegarty, managing director at Tower Group, a research and consulting firm for the global financial services industry. Merrill Lynch is "going to have to lower their risk profile in order to come under the BofA umbrella. There's no question that neither the BofA management nor BofA shareholders have the stomach for a swashbuckling Wall Street investment firm."
Even the business model of a "financial supermarket" has been tough to pull off in practice.
Citigroup Inc., which BofA will soon surpass as the largest U.S. bank by assets, was created from a decades-long acquisition spree. But even during investment banking's heyday a few years ago, the company was not always able to grow its profits. And over the past year, soaring mortgage defaults and the ensuing seize-up of the credit markets slammed Citigroup with massive losses.
In May, CEO Vikram Pandit _ who came on board after the bank ousted its previous chief, Chuck Prince _ unveiled a plan to shrink assets by about one-fifth after realizing that the bank got too involved in complex, risky ventures.
"They're getting exactly into what Citigroup is trying to get exactly out of," Hegarty said.
Citigroup is not the only example of a huge conglomerate deciding it needs to pare down. Last month, Switzerland's struggling UBS AG scrapped its conglomerate model to divide itself into several separate entities. The beleaguered American International Group Inc., the world's largest insurer, is essentially a financial supermarket, too, and industry experts expect the new chief executive to restructure it soon.
JPMorgan Chase & Co. and Britain's HSBC, Europe's largest bank, are having more success in being large and diverse. The two banks have been dented by the global credit crisis, but so far, they have remained profitable.
And Bank of America CEO Ken Lewis seems aware of the difficulties he faces.
"I don't know if I will get to do another acquisition during my career. This is too important not to get right, so we're going to be focused on this one for quite some time," Lewis said during a news conference at Bank of America's New York offices.
AP Business Writers Joe Bel Bruno and Stephen Bernard in New York and Ieva Augstums in Charlotte, N.C., contributed to this report.