J.P. Morgan Raises Its Offer for Bear Stearns
Renegotiated $10 Share Price Replaces Controversial $2 Bid

By David Cho and Neil Irwin
Washington Post Staff Writers
Tuesday, March 25, 2008

J.P. Morgan Chase yesterday increased its offer for the investment banking giant Bear Stearns by about $2 billion, putting down a shareholder revolt and all but guaranteeing that the wounded Wall Street firm would be sold before its troubles spread to the rest of the financial system.

The deal had been threatened by Bear Stearns shareholders, who saw their fortunes nearly wiped out last week when the firm agreed to be acquired for a paltry $2 per share in a deal engineered by the Federal Reserve. The hastily arranged transaction was designed to prevent a bankruptcy that could have led to a string of other investment bank collapses.

Stocks surged yesterday after investors learned that J.P. Morgan had boosted its offer to $10 a share. The Dow Jones industrial average jumped 1.5 percent yesterday and is up 3.7 percent in the last two days of trading. The Standard & Poor's 500-stock index, a broader measure, also rose 1.5 percent, and Bear Stearns stock zoomed ahead 89 percent.

A report showing an unexpected increase in home sales added to the cheer on Wall Street.

As part of the new Bear Stearns deal, the Fed's role was also renegotiated. The central bank originally had agreed to put public dollars on the line to guarantee $30 billion of risky mortgages owned by Bear Stearns. In the reworked deal, J.P. Morgan agreed to cover the first $1 billion in losses if the value of those securities falls, with the Fed responsible for any losses beyond that.

The New York Fed, which played a leading role in the negotiations, also provided more detail yesterday about how this multibillion-dollar government guarantee will work. The Fed will place the securities in a newly created limited liability corporation and hire BlackRock Financial Management to sell the securities gradually to minimize the market disruption.

Some of Bear Stearns's shareholders remained unhappy with the new price. But they now have little choice but to accept it.

J.P. Morgan was able to buy a 39.5 percent stake in Bear Stearns as a result of the new negotiations. Together with previously owned shares and pledges of support from Bear Stearns's board of directors, J.P. Morgan now has a lock on the majority it needs to win shareholder approval for the deal, according to a banker involved in the negotiations. The deal is slated to close April 8, he said.

"It's a done deal from a shareholder-vote perspective," said the banker, who spoke on condition of anonymity because he was not authorized to talk publicly about the negotiations.

Even at the higher price, the acquisition of Bear Stearns is a major coup for J.P. Morgan's chief executive, James Dimon. Ten years ago, his career seemed over after being forced out at Citigroup by his former mentor, Sanford Weill. Dimon returned to Wall Street as the head of J.P. Morgan two years ago, and since he took over, J.P. Morgan has surpassed Citigroup in market value.

In Bear Stearns, Dimon is acquiring one of Wall Street's top brokerage businesses, one long the envy of its peers. And he is getting it on the cheap. Two weeks ago, Bear Stearns was trading above $70 a share.

"Certainly it is a fivefold better deal for the shareholders," said George Ball, chairman of the brokerage firm Sanders Morris Harris. "And I think Jamie Dimon is delighted to pay a higher price to have a crew at Bear Stearns that might be sullen as opposed to outright riotous."

The original deal was so urgently assembled that some of those responsible for putting the offer together did not sleep for days or camped out in their offices, according to people involved in the negotiations. Normally, the due-diligence review for a buyout of that magnitude takes four to five weeks. J.P. Morgan had 36 hours.

Almost since the ink was dry, there were discussions between the banks involved and the New York Fed about adjusting the terms. Throughout last week, Dimon was also sharply criticized by Bear Stearns shareholders, executives and managers, who accused him of swooping in like a vulture to snatch up their beleaguered firm.

Negotiations proceeded along two separate but related tracks. One set of talks, between J.P. Morgan and Bear Stearns, was over the sale price. The other, between J.P. Morgan and the New York Fed, was over how much the government could reduce its guarantee.

On Friday, with no one else willing or able to buy Bear Stearns, its executives offered Dimon the 39.5 percent stake. That "really started the action," said a person involved in the negotiations. In return, Dimon agreed to raise the buyout price.

J.P. Morgan and Bear still needed the Fed's acquiescence to reopen negotiations. New York Fed President Timothy F. Geithner, with support from colleagues on the Fed Board of Governors in Washington and top officials at the Treasury Department, used that as leverage to negotiate the new deal.

The Fed worked out an agreement that would allow it to keep all the profit if it sells Bear's risky assets for more than $30 billion. And the concession by J.P. Morgan to take on the first $1 billion in losses significantly reduces the risk that the central bank will take a loss because Fed leaders expect the portfolio's ultimate sale to be within a few billion dollars of the $30 billion estimate.

After a weekend-long scramble to iron out the details and more sleepless nights, a new agreement was fashioned early yesterday. The Bear Stearns board approved it after 8 a.m. The new deal is valued at $2.31 billion, according to Washington Post calculations.

Some analysts were still concerned about the risk to taxpayers.

"I do think the Fed was correct in a belief that the fall of a domino the size of Bear Stearns would have precipitated an implosion of the financial system," said Ball, the Sanders Morris Harris chairman. He added that the Fed is still putting taxpayers at risk and "will take a good deal of political heat for it," including in congressional hearings that are examining the Fed's exposure to Bear Stearns securities.

Traders said they were still worried about the housing and mortgage markets, which may be more fundamental to the health of the financial system than the status of Bear Stearns is.

"The entire foundation of the mortgage-backed-security market depends on home prices, and if they continue to decline the problems in the credit markets are going to continue," said Charlie Smith, chief investment officer at Fort Pitt Capital Group.

The National Association of Realtors delivered a bit of good news on this front yesterday. The group said sales of existing homes rose by 2.9 percent in February, to a seasonally adjusted annual rate of 5.03 million units, It was the biggest increase in a year, and particularly surprising because most Wall Street analysts had expected a slight decline.

Still, the median home price fell by the largest percentage on record. And a bad reading on housing prices, which is expected today, could make the good feelings about the Bear Stearns buyout short-lived, Smith said.

Staff writer Alejandro Lazo and staff researcher Richard Drezen contributed to this report.