Credit Was Key to First Republic Bidding

NEW YORK (Reuters) – The drawn-out sale of Bank of America’s (BAC.N) $1 billion wealth management business ultimately came down to how much protection against any unforeseen losses bidders demanded, rather than price.

The fact that asset quality was a key issue in the First Republic auction shows just how concerned many investors still are about the financial sector, where shares have rallied significantly since March, but where future loan performance is still an open question.

But the price that the two final bidders were willing to offer — around the net value on Bank of America’s books — also illustrates that conditions have improved since earlier this year, when investors would only have bought banks at a significant discount.

Other issues also came into play in the bidding, such as whether First Republic’s management would remain and certainty of closing a deal, a source familiar with the situation said.

A consortium of investors, including private equity firms General Atlantic and Colony Capital, ultimately beat out a bid from a rival team that included Blackstone Group (BX.N), Carlyle CYL.UL, TPG TPG.UL and financial services executive Gerald Ford. They paid about $1 billion for the bank, which reported $19 billion total assets, $16 billion deposits and $15 billion in wealth management assets for the end of September.

The consortium that didn’t win had done months of due diligence on the 24-year-old bank, which was seen as desirable because of the loyalty of its customers.

Of particular concern to that consortium was the likely performance of large mortgages, many of which were made in 2006 and 2007 when the housing market was already starting to deflate, a second source familiar with the situation said.

First Republic’s loan book is generally concentrated in California, New York, Connecticut and Massachusetts. The cheaper part of the housing market is showing some signs of stabilizing, but the outlook appears less rosy for pricer properties.

The members of the consortium that didn’t buy First Republic wanted a “stop-loss” or “loss-sharing” agreement to ensure that they wouldn’t take a big hit if loans on its balance sheet deteriorated significantly, the second source said. Under that, Bank of America would absorb losses on the assets after a certain point, that source said.

But the winning consortium, which has a long history with First Republic, had a better view of the loans and was less concerned about future asset deterioration, the first source said.

First Republic tends to offer relatively high rates on deposits, and demand low rates for mortgages it makes, meaning it has narrow profit margins, several people familiar with the process noted. On top of that, it offers a good deal of personalized service, which can be expensive.

With tight margins, loan losses can make the difference between turning a profit and posting losses.

Under the winning bidders’ deal, that consortium is entitled to “put back,” or sell back, some loans to Bank of America between now and closing in the second quarter of 2010, the first source said, but not after then.

Bank of America gained First Republic when it bought Merrill Lynch & Co. It put the business up for sale because it already has a wealth management business, U.S. Trust.


First Republic, which then-independent Merrill Lynch bought just over two years ago for about $1.8 billion, tends to focus on professionals such as doctors and lawyers.

Some potential bidders, who dropped out earlier in the process, had hoped to use the bank as a platform to bring in ultra high net worth customers such as entrepreneurs, and offer them a wider array of financial products like hedge funds.

These prospective bidders thought that to take that step would require new management, separate sources familiar with the bidding process said.

First Republic’s founding management team — Jim Herbert and Katherine August-deWilde, who are part of the consortium buying the bank — plans to stay at its helm, and the winning group views them as crucial to First Republic’s success, the first source said.

The business as it is could be quite profitable, said Sebastian Dovey, managing partner at Scorpio Partnership, a wealth management consulting firm in London. Doctors and lawyers can expect solid income even amid market turmoil.

“These guys are important clients, and they’re growing their wealth,” Dovey said.

General Atlantic and Colony have a history with First Republic. General Atlantic was an early investor in First Republic in the 1980s. It had a representative on the bank’s board from 1987-1990. Colony’s founder Thomas Barrack has also been a board member of the bank.

The two private equity firms will be the largest of First Republic’s minority shareholders, with each holding less than 24.9 percent.

Colony, General Atlantic, TPG, Blackstone, Carlyle, and Bank of America all declined comment for this story.

The sources all declined to be named because details of the deal have not been made public.

By Megan Davies and Dan Wilchins
(Editing by Gary Hill)