Brian Moynihan, the bank's chief executive, is looking for ways to stabilize Bank of America's falling stock price as worries grow that Countrywide has become a bottomless money pit — especially after Monday's $10 billion lawsuit filed by American International Group Inc.
In a call with investors on Wednesday, Bruce Berkowitz, a major Bank of America investor, asked Moynihan about the possibility of its Countrywide unit filing for bankruptcy.
"We thought of every possible thing we could," Moynihan replied. "The path we've taken is the best judgment for shareholders and this company."
While the CEO seemed to be saying the bank is not planning to put Countrywide into bankruptcy, Berkowitz's question raised a possibility that some investors had not thought of. The company's shares rose off their intra-day lows after the exchange, and at least three investors who spoke to Reuters after the call cited the question about a Countrywide bankruptcy as a reason.
The potential for a bankruptcy was a big enough concern for Kathy Patrick, a lawyer representing Countrywide mortgage bond investors, to require Bank of America to be one of the parties on the hook for a $8.5 billion settlement with her clients, reached in June.
"We considered the prospect that Countrywide might be put into bankruptcy," Patrick said.
On its face, bankruptcy could appear attractive for Countrywide, the mortgage lender that Bank of America bought for $2.5 billion three years ago.
Bank of America has lost more than $22 billion from its consumer mortgage division in the last four quarters, in large part because of loan losses and legal settlements linked to Countrywide.
Moynihan has expressed regret about the takeover, which has raised concerns that the bank might need more equity capital at a time when its share price languishes in the single digits.
Bank of America's shares, down by almost a third over the past month alone, fell 6 cents to close at $7.19 on Friday.
Countrywide Financial exists as a legal entity and still has some debt. Bank of America could simply place bad mortgages in Countrywide, treat it like a "bad bank," and cauterize some of its wounds from the acquisition. The bank could also reduce some of its liabilities.
According to research firm Covenant Review, such a bankruptcy likely would not trigger a default on other Bank of America obligations.
But lawyers said such a move would be difficult because Countrywide is not wholly separate from Bank of America.
Its assets were mingled with the bank's assets, and bankruptcy courts typically frown on efforts to shovel assets into entities expected to fail in the near term.
"Historically, when transactions take place where you set up an entity that is unable to make good on its obligations, that's a hard case to win," said Chester Salomon, a lawyer at Becker, Glynn, Melamed & Muffly in New York.
Bank of America could still face legal liability from Countrywide assets, even if they were in a separate company.
Those liabilities would be connected to Bank of America's collections practices after the Countrywide acquisition, which investors say did not maximize the value of home loans.
But that claim would not necessarily have been the most lucrative of those that investors pursued, Patrick said, because it would have required plaintiffs to prove loan by loan that a better outcome could have been achieved through better servicing.
The potential for Bank of America to refuse to back up Countrywide's debt has been mooted for years, and some investors believe it is still possible.
When Bank of America first announced the Countrywide takeover in January 2008, bondholders began looking for evidence that it would back up all Countrywide obligations.
In May of that year, Bank of America said it was considering multiple alternatives, including letting Countrywide's nearly $100 billion of bank loans, debt and other liabilities remain outstanding as obligations of Countrywide, not the bank.
By October 2008, Bank of America decided to guarantee Countrywide's debt securities, which amounted to $21 billion. That suggests there may have been some Countrywide liabilities that Bank of America never guaranteed.
AIG's lawsuit filled in some missing detail. The insurer said Bank of America essentially merged Countrywide's assets with the bank's other mortgage assets, but left some of its liabilities with a Countrywide subsidiary.
But hiving off Countrywide assets and disclaiming some its debt would mean the bank would lose out on possible future gains from those assets, and still face legal liability.
"You'd be giving Countrywide over to creditors, and you're still going to be sued," said James Palmisciano, chief investment officer at Gracie Opportunities Fund, which manages about $2.1 billion. "I can see why you'd be struggling with that decision."
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MrDebtBuster
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