Wells Fargo-Wachovia deal stuns Citi, shakes up bank shakeout; GGP dumps CFO, may be M&A target

By Paul Deckelman

New York, Oct. 3 - Friday's news that Wells Fargo & Co. has agreed to a $15.4 billion buyout of troubled Wachovia Corp. surprised the financial markets and absolutely shocked Citigroup, which thought that it had a deal to buy Wachovia's banking network and nothing else, for about $2.16 billion.

It was the latest twist in a strange saga that seemed to have reached a conclusion last week with announcement of the tentative Citi-Wachovia arrangement.

Citi issued an urgent demand that the two banks back off from their definitive agreement, while the FDIC, which brokered the limited Citi-Wachovia deal, said that it stands behind that agreement, although it is studying the situation. But Wachovia shareholders left no doubt that they strongly endorse the Wells Fargo transaction, and could care less about what Citi and the FDIC think.

Elsewhere, General Growth Properties Inc.'s shares soared as the Chicago-based commercial real estate investment trust announced the abrupt replacement of its chief financial officer, who had been selling large volumes of company shares lately; an analyst says the company could be in play as a takeover target.

Cleveland Cliffs Inc. shareholders rejected 16% holder Harbinger Capital Partners' effort to increase its stake in the firm to as much as one-third so it could block efforts to acquire Alpha Natural Resources.

Wells Fargo deal prompts disarray

Apart from the question of would Congress finally pass the much ballyhooed - and much-reviled - $700 billion bank bailout bill or not - it eventually did - the big story of the day in the equity market, was the sudden emergence of Wells Fargo as a player in a scenario that most people thought was a done deal - Citigroup's agreement the previous week to acquire the banking network of troubled Wachovia Corp. for a bit over $2 billion.

Citigroup howled in outrage at the prospect that Wells Fargo had stepped in and trumped the New York-based banking giant's offer for a piece of Wachovia with a much larger offer for the whole company - but Wachovia shareholders left no doubt whose side they will be on in what is expected to be a bitter legal battle between Citi and Wells Fargo. Wachovia's (NYSE: WB) New York Stock Exchange-traded shares zoomed as much as 80% over Thursday's closing levels in intraday dealings Friday before finally settling up $2.30 - still better by 58.82% - at $6.21. Volume of 270.4 million was more than twice the usual level.

San Francisco-based Wells Fargo and Charlotte, N.C.-based Wachovia announced Friday morning that Wells Fargo had agreed to acquire Wachovia, lock, stock and barrel, for $15.4 billion. Wachovia shareholders would get $7 a share in stock, based on Thursday's closing price, a 79% premium above where Wachovia shares had finished Thursday. Wells Fargo also will assume Wachovia's preferred stock and debt.

The deal was negotiated by executives of the two companies, with no assistance needed from government regulators, who had, on the other hand, brokered the previous deal with Citigroup, under which Citi would pay Wachovia approximately $2.16 billion in stock and assume Wachovia senior and subordinated debt, totaling some $53 billion. Citi's deal only calls for it to acquire the more than $700 billion of assets of Wachovia's banking subsidiaries, and related liabilities, with the rest of Wachovia's operations, including its A.G. Edwards retail brokerage unit and its Evergreen asset-management business, to remain independent as a considerably smaller public company.

The Federal Deposit Insurance Corp. agreed to provide loss protection in connection with approximately $312 billion of mortgage-related and other Wachovia assets, with Citi to be responsible for the first $30 billion of losses on that portfolio, expecting to record those losses under purchase accounting upon closing of the transaction. Citi would also be responsible for the next $12 billion in losses up to a maximum of $4 billion per year for the next three years, with the feds on the hook for any further losses on the portfolio. Citi agreed to issue to the FDIC preferred stock and warrants with a combined value of approximately $12 billion.

Citi on Friday issued a scathing company announcement in which is demanded that Wachovia and Wells Fargo make no further efforts to advance their announced agreement. It accused Wachovia of breaching the terms of the memorandum of understanding which the two companies had signed the previous week, and charged Wells Fargo with tortious interference in attempting to supplant the Citi agreement with its own deal.

Legal battle expected

The anticipated legal battle will revolve around whether the promise of exclusivity in the memorandum or understanding - which theoretically barred Wachovia from trying to negotiate with any other party during the term of the MOU, which was slated to expire this Monday - trumps, or alternatively, is trumped by Wachovia's assertion that it has a fiduciary duty to its shareholders and debt holders to negotiate the best deal possible, even if it leaves the company legally vulnerable.

Market participants came down on both sides of the question.

One trader - who pointedly noted that he is not a lawyer - said that "if you read the agreement that Wachovia signed with Citibank, I don't know how they get out of it." The language of the MOU is fairly straightforward, saying that Wachovia "shall not . . . directly or indirectly solicit, initiate or take action to facilitate or encourage the submission of any Acquisition Proposal," which is defined as any transaction other than the Citigroup deal. To his eye, it appears that "if you sign this, you can't go talking to anyone else, and if you do, it's major damages to the other parties."

On the other hand, a trader at another shop scoffed at the notion that the language in the MOU would in any way be binding on Wachovia, since "they did not have a definitive agreement," and because the Wells Fargo deal is far superior to the Citigroup arrangement. If Wachovia had not pursued the Wells Fargo deal, "it could be sued by its own shareholders for breaching its fiduciary duty to them."

He doubted that any Citigroup suit aimed at blocking the Wells Fargo deal would even come to trial, saying that there was such a disparity in the two offers that he doubted any self-respecting judge would take seriously any assertions by Citigroup that its offer is better.

He also dismissed as "meaningless" the declaration by the FDIC that it stands behind the Citigroup offer it helped to broker, since that offer could leave Washington on the hook for potentially billions of dollars in Wachovia losses, while the Wells Fargo deal would not cost the FDIC or the American taxpayer a dime.

"Imagine if they go back to Congress and try to explain why they supported a deal that could cost the government billions instead of the other one."

'He's a genius'

The first trader suggested that perhaps Wachovia signed the Wells Fargo deal "to make Citibank pay up or something," perhaps to get it to sweeten its deal and agree to buy the whole company on the same terms as Wells Fargo is offering. He also acknowledged that Wells Fargo chairman Richard M. Kovacevich, who made such a radically higher offer for Wachovia than Citigroup made, "is one of the brightest bankers who's ever lived - he's a genius, and if he says that he knows what they're worth" to justify such a sharply higher bid, "I believe him." From Wells Fargo's standpoint, such an acquisition "makes a lot of sense."

He suggested - facetiously - that the way to play this situation would be to "buy stock in the law firms" that will be battling this one out for the next few weeks or months.

An important development in the case may occur on Monday, news reports say, when activist hedge fund operator William Ackman - whose Pershing Square Capital Management owns 7.8% of Wachovia - is expected to speak about the company at the Value Investing Conference in New York, weighing in on which deal is potentially better for shareholders in the long run, including factors other than just the higher acquisition price offered by Wells Fargo.

Wells Fargo (NYSE: WFC) initially rose as much as 10.7% on the news of its seeming coup in spiriting Wachovia away from Citi, but finished down 60 cents, or 1.71%, at $34.56. Volume of 81 million shares was one-third more than usual.

Citigroup (NYSE:C) dropped by as much as 21.3% intraday, before ending down $4.15, or 18.44%, at $18.35. Volume of 295.7 million was 2½ times the norm.

General Growth Properties zooms

Elsewhere, shares of General Growth Properties (NYSE: GGP) shot up as much as 64.4% during the session, before coming down from that peak level to finally end up $2.08, or 27.40%, on volume of 16.9 million, over twice the average daily handle. That represented a strong bounce back from Thursday, when the shares swooned by some 48%.

The shares jumped Friday on the announcement by the company - the second-largest publicly traded U.S.-based REIT, with a portfolio of some200 regional shopping malls - that CFO Bernard Freibaum had left the company. No explanation was given for the abrupt departure of Freibaum, who had been seen as a key dealmaker earlier in the decade, as General Growth went on an acquisition binge to sustain its growth spurt. Purchases at that time included the $12 billion purchase of Rouse Co. in 2004, financed almost entirely with debt.

Freibaum and other company executives had come under scrutiny lately for their combined sales of $40 million of company stock, mostly to meet margin calls. Freibaum was the biggest inside seller in the bunch, having liquidated over $28 million shares by one count. Those sales put the shares under heavy pressure.

The Wall Street Journal reported that when Freibaum sold his last tranche of shares on Thursday, General Growth was in a so-called blackout period between the end of the third quarter and the anticipated release of its quarterly earnings report later this month or in early November - a time when executives are generally prohibited from selling stock under the federal Sarbanes-Oxley legislation enacted in the wake of Enron Corp.'s collapse. Executive stock sales may take place if an exemption is obtained from the SEC or other regulators. It could not be learned if Freibaum had an exemption. The company confirmed that it had been told by Freibaum that he sold 2.95 million shares that day to repay outstanding margin debts.

Critics such as Glass Lewis & Co. analyst Todd Fernandez noted the apparent inconsistency of allowing company insiders to dump shares at a time when ordinary short-selling against financial-related companies like General Growth has been suspended as part of the Securities and Exchange Commission's efforts to stabilize the financial markets. Fernandez questioned whether General Growth's shares should be on the no-short list after the heavy insider selling.

Takeover target

Analyst Rich Moore of RBC Capital Markets opined in a research note Friday that General Growth's shares have been beaten down so badly over the past year that the company is ripe for a possible takeover try. The shares, he noted, are down more than 81% so far this year as 'a strategy of excess leverage" accumulated to fund the Rouse deal and other acquisitions, "has systematically brought the company to its knees."

Moore said "the current distressed price of GGP shares puts the company in a vulnerable position and makes it a potential acquisition target."

Given the quality of the company's shopping mall portfolio, "we feel Simon Property Group or Westfield is the likely suitor." He noted that RBC had spoken with Simon's management, "who did not indicate that talks were in progress."

In view of its status as a potential takeover target and the deeply distressed levels to which the shares have been beaten down, Moore upgraded the shares to "outperform," with a price target of $13 per share.

Cleveland Cliffs holders block Harbinger

Cleveland-Cliffs holders stopped hedge fund Harbinger from upping its stake in the iron-ore mining company from the current 16% to about double that, or one-third of the company's float.

That in turn clears the way for Cleveland-Cliffs to continue its acquisition transaction for Alpha Natural Resources, which Harbinger had opposed as a mistake.

A trader said that the latter deal "seems like it has a very good chance. It's going to be a no-brainer for the Alpha holders to approve it." The tough question is "will the Cleveland holders approve it?"

He said "the only good thing" that they're getting for the deal is that its value has declined from the original $10 billion, when it announced in July, to about $4 billion as Cleveland-Cliffs' stock has deteriorated. Those shares have lost two-thirds of their value, as commodity prices have eroded over the past two months.

Cleveland-Cliffs (NYSE: CLF) soared as much as 18.6% during the session before finally coming down at the end to close up 50 cents, or 1.32%, to $38.27. Volume of 8.4 million shares was 80% above the norm.

Alpha Natural Resources (NYSE: ANR) rose as much as 20.8% intraday before ending up $1.75, or 4.32%, to $42.25. Volume of 6.4 million shares was 30% higher than usual.

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