Sweetheart deal...
or a poison apple?
The new Merrill Lynch deal seems to have levelled down Temasek's entry cost but increased its stake and risk - if the bank fails. By Seah Chiang Nee.
Jul 31, 2008

Singaporeans are a bit more nervous about Temasek investment in Merrill Lynch, despite its success in levelling down its investment cost in the weakened institution - but at the same substantially increasing its stake.

It was done under a special provision Temasek had signed with ML in December against loses, a hitherto unknown factor, which appears to show Temasek's caution at least in this respect.

The shareholding will increase its shareholdings in ML from 5 to 9percent, but cancelling the Big "T's" paper loss of around US$2.5b at current price.

Is it a coup of the highest order? Or an uncecessary doubling of the risk? The answer will lie in whether Merrill Lynch will eventuallysurvive and prosper.

Blogger redbean explains it this way:

While we were all speculating on how much Temasek has lost in its bank forays, it is now reported that Merrill Lynch is compensating Temasek a sum of US$2.5b.

This is about the amount Temasek has lost on paper at this point in time. So due diligence and contigency measures were built into the purchase.

And if similar terms were included in the other purchases, then things are not that dire. And this must be expected from the professional managers at Temasek.

The story was reported in Wall Street Journal as follows:

Merrill Lynch & Co.'s plans to raise new capital are a great deal for one of its most important investors: Singapore's Temasek Holdings Pte. Ltd.

On Monday, the Wall Street firm announced plans to raise capital through an $8.5b share offering.

By participating in the plan, Temasek, an investment firm owned by Singapore's government, will essentially wipe out much of its paper loss on a previous US$5b investment in Merrill Lynch thanks to special downside protections it negotiated at the time.

The deal will also raise Temasek's approximate 9% ownership of Merrill - potentially even pushing it above the 10% threshold for foreign ownership in US companies that triggers a government review on national-security grounds.

When Temasek agreed to invest in Merrill this past Dec and Mar at US$48 a share, it secured a price-reset clause.

The agreement stated that if Merrill sold new shares within one year at a price less than $48, then Merrill would need to pay Temasek the difference in either cash or shares.

As part of the plans announced Monday, Merrill will issue US$2.5b in new shares to Temasek. Temasek will kick in an additional US$900m.

How much of a stake the company ends up holding in Merrill will depend on the price and number of new shares issued. On Monday, Merrill closed at $24.33, down $3.19 a share.

Temasek's deal highlights the importance of downside protection that sovereign funds and other investors negotiated when they agreed to plug the holes in Western banks' balance sheets left by the US sub-prime crisis.

Investments by sovereign wealth funds into Citigroup and Morgan Stanley, for example, have been structured to provide a steady, guaranteed return and to convert into shares later.

The terms of the Morgan Stanley deal guarantee China Investment Corp. a 9% annual return until it converts its investment to shares in 2010.

The Government of Singapore Investment Corp (GIC) and other investors are getting a 7% dividend payment from Citigroup until a similar conversion.

Earlier investments, including ones made by several foreign investors in Barclays, didn't contain such clauses.

Temasek agreed to invest an additional £200m (US$398.8m) and China Development Bank an additional £136m in a £4.5 billion capital raising that Barclays announced in June.

Those purchases, while not a huge increase in their holdings, helped prevent the investors' stakes from being significantly diluted.

Some investment agencies in Asia are coming under attack at home for bailing out foreign institutions when their local stock markets are suffering.

For full story:
http://online.wsj.com/article/SB121735266454993851.html?mod=googlenews_wsj