Last Thursday Christopher Flowers was pounding the footpaths around London’s
Hyde Park. Like many highflying deal-makers, he uses his jogging time to
ponder his strategies. As the billionaire former Goldman Sachs banker
circled the park on a “very pretty morning”, there was plenty on his mind:
how to stitch together a bid for Northern Rock, the stricken British bank.
Few in the UK outside the banking world will have heard of of Flowers, but for
millions of Northern Rock’s 2.3m customers, investors and 6,000 staff, the
49-year-old American financier and his J C Flowers private-equity firm could
be their saviour.
He could also save the blushes of the Bank of England and the Financial
Services Authority (FSA), which have been castigated for their roles in the
Northern Rock debacle, by keeping it trading in its current form. This
weekend several groups were circling the troubled bank, with hedge-fund
Cerberus and private-equity groups Blackstone and Apax said to be weighing
their chances of making a bid for some of its assets. Any deal will require
serious money: Northern Rock needs to refinance loans of around £30 billion
over the next 12 months – a stiff challenge given the state of the credit
markets.
Some of the potential buyers are not interested in keeping Northern Rock
alive. They would rather dismember it, keeping the most profitable parts of
the £105 billion mortgage book and selling off the rest, along with its 76
branches. When The Sunday Times contacted Flowers last week, he declined to
comment on Northern Rock. Sources close to Flowers, however, say he is
intent on keeping the bank intact, a plan that will go down well with the
Bank of England, which has a powerful say in the future of the institution
it has loaned £10.9 billion in emergency funding.
Flowers, the son of a US naval officer who became a Harvard professor, is an
obvious white knight for Northern Rock. Since he left Goldman in 1998, he
has made his name by pulling off a string of audacious financial-services
deals. In 2000 he controversially bought Japan’s ailing Long Term Credit
Bank for $1.2 billion (£587m) with a con-sortium, including Tim Collins, the
head of US buyout firm Ripplewood, and backed by Spanish bank Santander,
Citigroup, AIG and investment vehicles controlled by Lord (Jacob) Rothschild
and David Rockefeller. The deal was a stunning success. Within four years
the bank, renamed Shin-sei, was floated for $7 billion, with Flowers
pocketing more than $1 billion.
Saving Northern Rock is likely to demand all of his financial wizardry. Since
September 14, the bank has been relying on emergency funds charged at a
penal 7% rate from the Bank of England.
The problem for any buyer of Northern Rock, which has seen its market value
plunge from more than £5 billion in February to £667m, is how to meet its
huge demands for funds in the future. Analysts estimate that some £14
billion in short-term notes needs to be refinanced in the second half of
this year, and up to £30 billion in 2008. The scale of its debts to the Bank
could also scare off bidders.
Bankers argue it has valuable assets. It had low costs and used cheap funding
to offer competitive products, with its rates for people paying their
mortgages late just half the industry average. It is not yet bust and will
make a £500m to £540m profit this year. But its model is now broken.
One problem for any bidder, especially a private-equity buyer, is that it is
unlikely to be able to attract deposits from savers to fund its lending.
Crucially, that makes it even more dependent on the wholesale markets.
Another issue is that the yield on its huge £105 billion mortgage book is
less than those of its rivals. This is partly because Northern Rock booked a
big chunk of profits on mortgages early in the contract.
“There is a danger that Northern Rock’s mortgage book is unprofitable if it
has to fund at today’s rates,” said Alex Potter, analyst at Collins Stewart.
Last week, the bank admitted that many of its products were no longer
money-spinners, and axed two-thirds of its range.
“You can salvage a lot. Whether you can refloat the ship is another matter.
Right now, Northern Rock is stuck pretty fast on the reef,” said one senior
banker.
So far, there have been few willing bank bidders. One fear is that a bank
buying the business could see its credit rating slashed, forcing up its own
borrowing costs.
“A larger bank may have higher costs and the model starts to unravel. The
problem is that you lose the low cost-benefits and the whole business
becomes an also-ran mortgage player,” said Antony Broad-bent, analyst at
Sanford Bernstein.
So for now, Flowers looks the bank’s most likely saviour. EVEN by the
cutthroat standards of private-equity and investment banking, Flowers stands
out as exceptionally driven.
“He is a unique person. He has a very intense and individual personality. He
doesn’t go for social niceties. He is incredibly focused on making money,
the most goal-orientated person I have ever met in my life,” said one banker
friend.
Flowers joined Goldman Sachs aged 21 in 1979 after graduating from Harvard
with a degree in applied mathematics. By 28, he was head of the bank’s
mergers-and-acquisitions group for financial-services companies. At 31 he
became one of Goldman’s youngest-ever partners and advised on a string of
giant financial-serv-ices deals, including Bank of America’s $46 billion
tie-up with NationsBank. His success has built him an estimated $1.2 billion
fortune and he recently paid $53m to buy a 20,000sq ft townhouse on
Manhat-tan’s Upper East Side.
“What can I say? It’s a pretty house on a pretty street,” said Flowers, who is
splashing out yet more to renovate the property.
Flowers and his wife, Mary, formerly a leading infectious-diseases doctor, are
part of the New York elite. He is on the board of the New York Philharmonic
Orchestra, and his White Flowers Foundation gives generously to charity,
including helping to fight malaria in Africa. His wife sits on the board of
Spence-Chapin, an adoption agency (the older of the couple’s two daughters
is adopted).
There is also a lighter side to him. He’s a talented squash player; at Harvard
he was a member of Hasty Pudding, America’s oldest stage company where only
men are allowed to perform; he was a schoolboy chess champion and has
bemused colleagues by playing out strategies on the chessboard while
negotiating deals. “It’s a humbling sport. I lose frequently,” he said.
WILL he win the “Northern wreck”? His buyout group has raised £15 billion and
is planning to use money from a £3.5 billion fund launched a few months ago.
But late last week, there were concerns that Credit Suisse, his banking
adviser, was struggling to syndicate the £15 billion to other banks.
Any buyer of Northern Rock would expect some form of support from the
government. The Bank of England has said a buyer would be able to take over
Northern Rock’s existing facility, but it is keen for this not to run on for
many more months.
A bidder would also need to balance political sensitivities. Northern Rock is
a major employer in the northeast and any plan to slash costs and axe staff
would be hugely controversial. Shareholders are concerned that the bank
could be sold off cheaply. Collins Stewart estimates a bidder could pay a
maximum of 190p a share, or £800m. Bondholders have formed a committee to
protect their interests, raising the prospects of legal action. Two weeks
ago the Bank of England, the FSA and the Treasury were desperate to find a
solution for the Northern Rock crisis. But officials believe that, while
still a wreck, it has been partially stabilised. If no buyer comes forward,
the board, led by embattled chief executive Adam Applegarth, could put it
into administration. But this would be a disaster and politically
controversial.
Another option is to run off the business, but shareholders would only get
around 130p per share. Putting a value on a carve-up of the assets is also
tricky. Applegarth and the board still hold some hope that the bank can be
salvaged as an independent, albeit lower-growth, company. Most observers
believe this is unlikely.
Any deal is likely to take weeks, maybe months. Regulators and bankers are
concerned that continued uncertainty will even more severely damage the bank
and could lead to a staff exodus.
The saga could yet take more unexpected twists. “If the credit markets
recover, the funding issues may look less dangerous. It’s possible that some
of the banks who have been put off may emerge as bidders,” said a senior
retail banker.
Last week Flowers described his business philosophy as “finding good partners
and being cooperative where you can. There is a style of investing that is
much more adversarial, but it doesn't work for me”.
Will this be the recipe to end the biggest British banking crisis in decades?
The money-motivated Flowers will be fighting hard.
BATTERED BANKS SEE SHARES JUMP
IT is almost unprecedented. In the past two weeks, many of the world’s most
powerful investment banks have announced thumping multi-billion-dollar
write-downs, but their share prices have jumped up.
The reason is part relief that banks have clarified the scale of their losses
from the meltdown in American sub-prime mortgages and the subsequent turmoil
that has swept the credit markets, and part hope that the worst is over.
The losses have been brutal. On Friday Merrill Lynch said it would be hit by a
huge $5 billion (£2.4 billion) write-down, plunging the bank into a loss for
the third quarter. The write-offs included $4.5 billion for the falling
value of sub-prime loans and collateralised debt obligations, and is the
largest mortgage-related loss reported so far by a bank.
Citigroup has written off $6 billion, including $2.7 billion linked to losses
from fixed-income trading in the third quarter. It has also taken a $1.4
billion hit from lending to private-equity buyouts. Third-quarter earnings
will slump by 60%.
Credit Suisse issued a profit warning, while UBS will make a loss of between
SFr600m (£249.3m) and SFr800m in the third quarter, the first quarterly loss
for nine years, after write-downs of $3.7 billion. Deutsche Bank is writing
off a whopping $3.1 billion on fixed-income trading.
Heads have rolled. UBS has axed Huw Jenkins its investment-banking chief.
Osman Semerci, head of Merrill’s head of fixed-income trading, has gone,
along with a senior colleague, Dale Lattanzio.
Meanwhile, bonuses and jobs are on the line. So far, the world’s biggest
investment banks have announced they will cut 33,000 jobs. Bonuses in the
City are expected to dive 15% this year from a record £8.8 billion in 2006.
