Stock of the Day
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Bear Stearns (BSC)
Bear Stearns Writes Off $1.2bn in Debt
It is pretty safe to say that Bear Stearns isn't out of the woods yet by any means, but investors are slowly warming up to the idea that the company is not entirely on the chopping block. Shares were up nearly 7% in afternoon trading after the company reported a major write down in its debt. While initiating a write off is nothing to be incredibly proud of, the fact that investors reacted positively is something that the company board can sigh with relief over. Just how bad off was Bear Stearns this year, and how close is the company to normalcy?
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The company has opted to write down most of its debt - to the tune of $1.2 billion. Its forays into riskier investments, such as subprime mortgages and the myriad of confusing credit derivatives might not be at a total end, but you can bet that company executives will be acutely aware of where Bear Stearns throws its investments now that stockholders are waiting outside its New York City office with torches and pitchforks. The cost of writing down such a huge chunk of debt is expected to send Bear profits into the red, but investors reacted positively to the news because the announcement removed the speculation as to just how much would have to be written off. In fact, the write off was significantly lower than analysts had feared.
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The company's reported 3Q revenue of $1.33 billion was a 37% drop over the same period in 2006, and its reported profit of $171 million was 61% off. Not good news. A significant portion of its revenue, 23%, came from the company investing in its own capital. For the year share prices are down more than 30%, a far cry from the rapid increase during 2006. While its certainly not alone in its troubles - other banks have taken a hit, except for Goldman - the severity of its problems has many on Wall Street uneasy. Bear Stearns was one of the first investment banks to feel the wrath of the subprime mortgage fallout and subsequent credit crunch. Two of its hedge funds imploded during the summer as a result of being highly leveraged. Downturns are widely-accepted in the banking industry, but implosions are a much more frightening event.
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Many investment banks are highly levered, meaning that they were borrowing lots of outside capital in order to make investments. Companies like Merrill Lynch (MER: Charts, News, Offers) and Goldman Sachs (GS: Charts, News, Offers) has leverage rations of roughly 24%, while Morgan Stanley (MS: Charts, News, Offers) and Lehman Brothers (LEH: Charts, News, Offers) each were leveraged more than 30%. Bear Stearns was in the latter group in terms of its leverage ratio. A 30 to 1 ratio (which Bear had) means that for every $1 of equity the bank borrowed an additional $30. Having lots of debt on the books makes financial maneuvering tough when the markets head south, an occurrence that popped up both in late spring and late summer of this year. While using debt to fund investments is an essentially part of investing (the money has to come from somewhere, after all), Bear got in over its head.
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Speculation about the future of some Wall Street investment banks has spread rapidly through the ranks of financial analysts over the past few months. Possible contenders for mergers or acquisitions include both Bear and Lehman, and many European institutions are salivating at the chance of picking up a top U.S. bank while share prices are low and the Euro is trading high. Bear Stearns has a market cap of just $12.5 billion, significantly below the $60 billion of Morgan Stanley or the $94 billion of Goldman Sachs. While with the cost of acquiring through credit relatively high, and including the premium that shareholders will demand for their stake in Bear, it doesn't seem completely outlandish that one of Wall Street's big five won't survive another couple of years.
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Profile |
Click here to read a detailed profile of Bear Stearns.
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