Bank of America has resolved one of the largest and most embarrassing pieces of litigation related to its merger with Merrill Lynch in 2008. But the settlement comes with a pretty hefty price tag, since the bank has agreed to pay $2.43 billion to end the lawsuit. That monetary award ranks it as one of the largest settlements in a securities class-action case, behind the settlement over the disastrous AOL-Time Warner merger.
The acquisition of Merrill caused Bank of America plenty of headaches by adding toxic mortgage assets to its balance sheet on top of what the bank took on when it bought Countrywide Financial. The bank has also been fighting with Fannie Mae and Freddie Mac over whether it will have to take back bad mortgages packaged into mortgage-backed securities.
The lawsuit that was settled on Friday accused Bank of America of misleading its shareholders in soliciting their votes for the merger by not disclosing the deterioration in Merrill's financial position. It also faults the bank for approving $5.8 million in bonuses to its executives despite the problems.
The net result was that Bank of America's shareholders approved the acquisition of Merrill at a higher price than should have been paid. And because damages are calculated in a securities fraud claim based on this measure, the claims had the potential to reach $50 billion - the difference between what Bank of America paid for Merrill and what it was worth at the time of the acquisition.
The $2.43 billion payment comes on top of the $20 million settlement resolving a shareholder derivative action in May, and the $150 million penalty imposed in 2010 in a case filed by the Securities and Exchange Commission over the proxy disclosure.
The S.E.C. settlement originally called for the bank to pay only $33 million, but United States District Court Judge Jed S. Rakoff rejected it because it would have been unfair for shareholders to foot the bill when th ey were on the receiving end of the faulty disclosures in the proxy solicitation.
Bank of America disclosed that the payment for the latest settlement would come from its litigation reserves, including an additional $1.6 billion it is adding this quarter to cover the costs of its litigation. That is a pretty significant hit to its bottom line.
But like all such settlements, it does not come with any admission of liability, and the bank asserted in a statement that it was done “to eliminate the uncertainties, burden and expense of further protracted litigation.†Ultimately, as much as the payment hurts, Bank of America is probably quite happy with the settlement given that it could have potentially faced billions of dollars more in liability in the case.
Investors, however, won't be the ones to get rich from this payment. Bank of America will be using its own money to pay those who were shareholders at the time of the Merrill merger. In other words, as Judge Rakoff complained about the S.E.C. settlement, the current shareholders will be paying previous ones.
Moreover, up to a third of the settlement amount could go to the plaintiffs' lawyers. The people who led Bank of America at the time - including the former chief executive Kenneth D. Lewis - will not pay a dime because the company is required to pick up their legal expenses as part of their executive contracts.
Also as part of the latest settlement, the bank agreed to continue until 2015 a number of corporate governance measures that it first put in place as part of its agreement with the S.E.C. in 2010. The cost of these measures will be minimal and not require the commitment any significant resources.
That leaves one last piece of litigation outstanding from the Merrill acquisition: a lawsuit by then New York Attorney General Andrew M. Cuomo for a violation of the Martin Act, the state's broad securities fraud law. Filed on the same day that the S.E.C. settled its case, it accuses the bank, Mr. Lewis, and the former chief financial officer Joseph L. Price of misleading shareholders about Merrill's financial condition.
If the New York case goes to trial, it will dredge up a host of issues about what the executives knew about the extent of the problems at Merrill. To defend themselves, Mr. Lewis and Bank of America could try to offer evidence about the role of the federal government in pushing him to complete the deal during the throes of the financial crisis.
Having paid out a total of $2.6 billion so far to settle lawsuits over the Merrill acquisition, Bank of America no doubt wants to put this issue as far behind it as possible. Whether it can reach an agreement with New York Attorney General Eric Schneiderman, who is now in charge of the case, remains to be seen. So far, the state has not shown any interest in backing away from its accusations .
In the meantime, the real losers are Bank of America shareholders who have been asked to pay much more for Merrill than seems justified.
Peter J. Henning, who writes White Collar Watch for DealBook, is a professor at Wayne State University Law School.
Steven M. Davidoff, writing as The Deal Professor, is a commentator for DealBook on the world of mergers and acquisitions.
