Countrywide sails into the sunset

With Captain Ken Lewis at the helm.

Does the world need more on BofA's Countrywide acquisition? With ship analogies?

Probably not. But if you care to discuss whether Bank of America is back in the wholesale and correspondent lending business, read on.

Bank of America's agreement to buy Countrywide Financial Corp. is perhaps the inevitable culmination of a perfect storm that began a year ago, when Countrywide execs looked around at all the other mortgage lenders who were foundering in heavy seas and decided to go on a hiring binge to win market share -- despite signs that Countrywide could end up in the same predicament.

As foreclosures in Countrywide's loan portfolio edged up every month during 2007, the company hired more originators. By the end of July, Countrywide had 34,326 people in originations -- 2,720 more than it started the year with. During the same period, foreclosures pending as a percentage of the unpaid balance of loans in Countrywide's $1.4 trillion servicing portfolio climbed 34 basis points, to 1.04 percent.

As long as they were able to continue funding new loans -- by issuing short term debt, and packaging the loans they made into mortgage-backed securities for sale to Wall Street investors -- Countrywide execs thought they could not only weather the storm, but leave their competitors behind. The ship was taking on water, but as long as the engines were running, they could pump out the bilge and continue making headway. Perhaps the gambit would have succeeded, if in August investors hadn't suddenly decided that mortgage-backed securities and commercial paper were much riskier investments than they'd been led to -- or wanted to? -- believe.

When the debt markets collapsed in August, Countrywide had to fund its loans through its thrift subsidiary, Countrywide Bank -- making only "plain vanilla" loans that it could sell to Fannie Mae and Freddie Mac. That, along with the slowdown in housing sales, put the hurt on Countrywide's loan production, which fell from $46 billion in June to $21.5 billion in September.

Even though there were a lot of homeowners looking to refinance existing loans, Countrywide and other lenders couldn't do business with many of them because the rules of the game had changed. A lot of the people who had no trouble qualifying for ARM loans with high LTVs a year or two ago have become untouchables, as housing prices plummeted and erased their equity. So Countrywide began trying to lighten the ship -- jetisoning 11,687 workers in originations in the second half of the year -- but it was too late.      

BofA seems to think Countrywide has merely broached, rather than capsized, in this storm, or it wouldn't be clambering aboard. Or it could be the bank figures the ship is sinking but it's got a better chance of recovering the $2 billion it invested in Countrywide last summer if it takes control of the company's destiny now, rather than waiting to line up with all the other creditors in bankruptcy court a few months from now.

Whatever Countrywide's liabilities ultimately turn out to be, mortgage broker and syndicated columnist Lou Barnes says its $1.5 trillion servicing portfolio (that's the value of loans its collecting payments on, mostly on behalf of others) is probably worth $10 billion or more.

Corporate tax expert Robert Willens thinks BofA could earn an annual tax deduction of $270 million for rescuing Countrywide, Fortune's Allan Sloan writes.

But is this just a salvage operation, or will BofA keep Countrywide plying the high seas? BofA's CEO, Ken Lewis, is known as a shrewd bargain hunter, and the company has been on an acquisition tear in recent years, picking up LaSalle Bank, FleetBoston Financial and MBNA.

Check this presentation he made in December at an investment conference, where he grumbled about how much BofA could be doing in consumer lending and real estate. BofA has a huge customer base it could be making home loans to, but only 9 percent of Bank of America customers hold a BofA mortgage, Lewis noted.

BofA customers hold more than $4 trillion in loans from other institutions. "Our strategy is to reduce that number," Lewis said.

In announcing its plans to acquire Countrywide, BofA said it "will benefit from Countrywide's broader mortgage capabilities, including its extensive retail, wholesale and correspondent distribution networks" and will continue to employ the Countrywide brand until at least 2009.

Barnes doesn't think that BofA is after Countrywide's retail originations business, though. Now that the rules of the game have changed, Countrywide's "massive origination arm" is a liability, not an asset, he writes:

"Absent the fee-rich subprime and option-ARM game, Countrywide is a low-margin, commodity Fannie-Freddie shop just like the rest of us. BofA needs another brand name like a moose needs a hat rack, and assumes future losses from litigation, portfolio and downsizing. A lot of branch landlords are going to have some re-leasing to do."

Everybody expects some downsizing, because that's how you make these deals pencil out -- by increasing efficiencies. But unless Capt. Lewis decides on a radical new course for Countrywide, it DOES look like Bank of America is back in the wholesale and correspondent lending business.

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