Wednesday, July 2, 2008
LaSalle Is BofA's Other Vexing Deal
While the most-visible worry over Bank of America Corp. involves its acquisition of home-mortgage lender Countrywide Financial Corp., the bank continues to struggle with another type of real-estate loan it inherited in another recent merger.
The Charlotte, N.C., bank is the largest construction lender in the country, and is seeing a rapid run-up in delinquencies, especially on those to single-family housing developers. At least part of the blame, as it turns out, comes from its acquisition of Chicago-based LaSalle Bank, a deal that closed in the fourth quarter of 2007.
The LaSalle deal "added a disproportionate share of problem loans" to Bank of America's construction portfolio, notes Matthew Anderson, a partner at real-estate research firm Foresight Analytics LLC.
A Good Fit?
LaSalle was a traditional bank whose businesses meshed readily with Bank of America's, which is why Bank of America battled for the ABN Amro Holdings NV unit as part of a trans-Atlantic deal saga last year. But integrating the LaSalle and Countrywide transactions in such short order has forced Bank of America to face new challenges simultaneously.
Moreover, the deterioration of the LaSalle loans is a timely reminder of the liabilities that Bank of America will be taking on with Countrywide, which had $5 billion in problematic loans at the end of the first quarter -- nearly five times as many as a year earlier. The $2.5 billion Countrywide deal closed Tuesday.
Until recently, banks across the country were active in lending to real-estate developers and builders looking to take advantage of the unprecedented housing boom. But now, an increasing number of heavily indebted builders can't sell their newly built projects and are falling behind on their payments. With that, banks such Bank of America are finding themselves saddled with an accumulating portfolio of bad loans that they themselves made or that they inherited in mergers.
The problems with Bank of America's construction loans outstanding, totaling $34.7 billion as of March 31, come even as the bank has committed to making many more such loans. The upshot: Among the largest lenders, Bank of America's loan commitments "indicate greater potential of growing its commercial real-estate lending portfolio at the time most folks are pulling back," says Mr. Anderson. Bank of America declined to comment ahead of its second-quarter earnings release on July 21.
LaSalle was known in the industry as a solid "middle-market" lender, but its concentration in Michigan -- an area devastated by the U.S. auto industry -- raised concerns about its credit quality even before Bank of America closed the transaction.
Telling Statistics
Bank of America's construction-loan delinquencies reached 6.1% in the first quarter of 2008, up from 4% in the fourth quarter of 2007. Tellingly, though, had LaSalle's loans not been in the mix, only 5.3% of Bank of America's construction loans would have been delinquent in the first quarter and only 3.2% in the fourth quarter, according to Foresight Analytics. (The industry average in the first quarter was 7.2%.)
A particular area of concern involves the loans tied to the construction of single-family homes. Delinquencies on those loans rose to 14% in the first quarter from 7.2% in the fourth quarter. Again, without LaSalle, those rates would have been 12% and 6.1%, respectively.
Bank of America officials acknowledged the bump in construction delinquencies in its first-quarter earnings conference call with analysts, which was held on April 21. But they also said Bank of America has already absorbed most of the hit it is going to take from LaSalle.
Other Headaches
Still, LaSalle's legacy isn't the only headache. As of the first quarter, Bank of America also had more than $38 billion in unused commitments, or commercial real-estate loans it has committed to but hasn't yet lent. That figure, when compared to its total commercial real-estate exposure, gave Bank of America the second-highest ratio among the top 10 construction lenders in the country -- second only to Cleveland-based KeyCorp, according to Foresight Analytics.
Banks have become more aggressive in backing out of the funding promises they already made. However, it is easier said than done. Chip MacDonald, an attorney with Jones Day, said banks usually can't break the contracts unless the borrowers fail to meet previously agreed-upon requirements, such as if their net worth falls below a certain level.
Mick Pattinson, chief executive of Barratt American, says Bank of America recently pulled back a $125 million credit line to the Carlsbad, Calif.-based builder, even though the company was current on interest payments. "They are refusing to renew loans and are going through an appraisal process that is not called for," says Mr. Pattinson. Mr. Pattinson says he has laid off most of his workers and is seeking new capital sources.
"His statement is incorrect," said a spokeswoman at Bank of America. She said Mr. Pattinson's company didn't make any interest payments in March and April, and the bank filed a notice of default against his company in May.
The commitments, even if they are never fulfilled, limit a bank's flexibility at time in which most are trying to preserve capital. Mr. MacDonald said generally speaking, a bank needs to set aside $5 million in capital for every $100 million in commitments.
Another concern: Bank of America, like many of its peers, likely will recognize more losses in its commercial portfolio as the housing crisis continues and the economy worsens. The bank charged off $107 million in soured construction loans in the first quarter, up from just $17 million the previous quarter. Analysts expect to see a surge in construction loans that will be written off. And that is ominous for a bank that has already experienced mounting losses due to its own aggressive grab for market share in home equity and small-business lending a few years ago.
'Mediocre Underwriter'
Banking analyst Dick Bove at Ladenburg Thalmann & Co. said charge-offs on construction loans could reach as high as $500 million in the coming quarters. "I don't think Bank of America over the years has proved to be a better underwriter than other companies," Mr. Bove said. "It's a mediocre underwriter."
Separately, as Bank of America completed its takeover of Countrywide, rating firms Moody's Investors Service and Standard & Poor's raised their debt ratings on Countrywide. S&P analyst Rian Pressman said the boost reflects "our expectations that BofA will honor Countrywide's outstanding debt obligations."
--Michael Corkery contributed to this article.
Write to Lingling Wei at lingling.wei@dowjones.com and Valerie Bauerlein at valerie.bauerlein@wsj.com
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