The Billion Dollar Sure Thing

by Paul E. Erdman

  Winthrop shifted his gaze back to Hofer.

  “At the end of last week David informed me that the company is not coming back in the way hoped for. There is a real possibility that Transcontinental might be forced into receivership within the next six months. At least that’s what David tells me. And I think we have no reason to doubt his opinion. After all he is vice chairman of the company’s board.”

  David Mason winced slightly at these last words. Sir Robert knew quite well that, as a director of that company, Mason had perhaps bent some rules in expressing this opinion—although it was a strictly private opinion, of course.

  Sir Robert went blithely on. “In all fairness, David has indicated to me his most strong feelings of moral responsibility and regret, but unfortunately it seems that he cannot help us out at the moment. Maybe you could expand a bit on that aspect of this mess, David.”

  Sir Robert was highly relieved to have got all this off in such splendid order. Normally, he was not burdened with such difficult details. His most able management had repeatedly stressed to him—for many years now—that his genius lay in the big picture, in defining principles, in soothing the outraged client. The more mundane aspects of the bank were, indeed, better left to others. But today Sir Robert had no choice. All this cut a bit too close to the quick.

  The head of the Republican Bank of New York, fifty-nine years old, with an eleven handicap, five grandchildren, and a slight hangover, would also have most gladly left this somewhat painful discussion to others. But unfortunately . . .

  “Well, I don’t really think the situation needs much expatiation,” said Mason. “My bank is at the legal lending limit to one company with the $80 million we’ve got out now. So as much as I would like both to pump some more money into that company and to take some of that paper off of the hands of our friend Sir Robert, I’m afraid that I cannot do either. We are going to have one hell of a time explaining the amount we already have on the books without taking on any more. If that airline goes belly up, we are going to have to create a special reserve of at least $40 million next year against our loans. Uncle Sam will pay for half of it, but the other half will have to come right out of earnings. So that will mean that the shareholders are going to be looking for blood. My blood.”

  Mason sighed before continuing. “So that’s about it, Robert. We got you into this thing, but I’m afraid that at the moment we can’t get you out. Let me say this, though. The situation at Transcontinental is by no means hopeless. They may very well squeeze through this thing. But if the people here in London start getting panicky about those promissory notes, and the word spreads, then we’re all in trouble—and for damn sure.”

  David Mason leaned back. Obviously both he and Sir Robert were expecting their old buddy from Zurich to pick up the ball. But Walter Hofer seemed completely oblivious to such expectations. He reached across the coffee table and helped himself to a cigar. He was soon deeply involved in the ritual of lighting it.

  The morning was proving to be extraordinarily strenuous for Sir Robert, for he had no choice but to resume. “Well, I think both of you deserve to know that we at Winthrop’s find ourselves in a most awkward position at present. If, as you put it, David, the market here does get panicky about the Transcontinental paper, it would mean that we would be hit with a bomb of major proportions for the third time in almost as many years. As you know, we involved our partner banks and clients in the Penn Central fiasco of 1970. Last year, just three months after we sponsored the prime underwriting of a £20-million new issue of the Zambian Nickel Mines, the whole story of that tremendous ore find turned out to be fictitious, complete tommyrot. Damn embarrassing, that. The City took the first thing rather well. After all, even Winthrop’s makes a mistake once or twice a century. But they took the Zambian debacle much less well. If Transcontinental goes bad, I’m afraid that we will be out of the underwriting business for a while. The only answer for us is to take back that paper which we sponsored in the market. We will have to take it back at near par. In other words, we are going to be stuck with the whole $50 million of the original issue, notes which, if not worthless, at least will probably not be repaid for years. Gentlemen, this would exhaust our liquidity. We simply cannot afford to have that amount of money tied up indefinitely.”

  Sir Robert Winthrop probably should have looked somewhat crushed after having to admit that the bank he had been responsible for during the past twenty of its 267 years of existence was facing a possible catastrophe. But not a sign of the slightest discomfort marred his cheerful features. He rose and picked up the somewhat dusty telephone from his desk. “Mary, could you have some coffee sent in, please?”

  A rather nice-looking girl appeared immediately, and while she fussed with the cups, Dr. Walter Hofer’s mind was working at very high speed. The situation was amply clear. Mason had got Sir Robert into one hell of a jam and couldn’t get him out of it. If Winthrop’s hit the skids, David Mason would be finished in Europe. Sir Robert’s plight could only be solved if somebody took a good part of those Transcontinental notes off of his hands—and fast. And both of them expected him to do so. Especially Mason. For the American knew quite well that if it had not been for his massive and continuing intervention in Washington, the people there would have come down on the Swiss banks with every weapon at their disposal years ago. That would have meant the loss of at least $1 billion a year in new deposits from the increasing number of Americans who were finally learning to appreciate the benefits of the Swiss bank secrecy laws. So he would have to help. The only question really open was the nature and amount of the reciprocity. That, no doubt, was the reason for the second item on the agenda—Canadian and Western Oil.

  David Mason turned directly toward Hofer, after adding two lumps of sugar to his coffee. “Walter, I think you realize by now that we are going to ask your help in this situation. Robert was most hesitant to approach you due to the rather large amount involved. But I assured him that as long as we took a quite realistic approach to the problem, I was convinced that we could plan on your assistance.”

  Hofer finally broke his silence. “There can be no doubt that the amount is extremely large, even for us. Fortunately, I am faced with neither a liquidity problem such as you have, Sir Robert, nor the necessity of immediately setting up such immense reserves for possibly endangered assets as you must in America, David. Nevertheless, if we should agree to assist in removing the Transcontinental paper from the London market, at some point the piper will have to be paid. The cost of the piper could run very high, especially if that airline goes from receivership into liquidation—which seems most probable if the U.S. government does not step in.”

  “But do you feel that something can be worked out?” asked Sir Robert.

  “I think it will not be impossible. But I can give you no commitment, Sir Robert, until you come with a quite precise suggestion and give me ample time to study your proposal with my colleagues back in Zurich.”

  “Just a minute,” interjected David Mason. “I think it would be prudent to stick to a general discussion at the moment. I’d like to touch on the second item on the agenda before we get bogged down in details.”

  Mason knew Dr. Walter Hofer. Provided the price—he, of course, always termed it cost—was right, he could give a flat commitment before the day was over. If Hofer decided something, his so-called colleagues back in Zurich would not even be consulted. They would be duly informed at the next meeting of the bank’s executive committee, and that would be that.

  Hofer once again broke his silence. “I think that’s a quite reasonable suggestion, David. What’s the problem with Canadian and Western? I can hardly believe that they are also headed for receivership.”

  “Well, Walter,” replied Mason, “actually both Robert and I have a certain amount of interest in this company, directly or indirectly. Let us explain.”

  The explanation did not take long. Winthrop’s had been serving as the financial advisor to the British-Canadian com
pany for many years. The reason for this affiliation went back to the mid-1950s when the merchant bank had first introduced the shares of the company to the London market. For more than a decade the company had remained relatively unknown, until major oil reserves were discovered on the shores of Lake Athabasca. Overnight the company’s vast properties in that area had achieved a value, or at least potential value, of huge proportions. It was, however, known that this development had greatly outstripped the capabilities of the management of the company. It was likewise known that no changes were in the offing. The English founder of the corporation, and its one and only chairman, ran the company with an iron hand and with a quite placid distaste for either urgency or change. So, after substantial initial enthusiasm, investors had slowly lost interest in the shares of the corporation. At the rate Canadian and Western was moving, the petroleum under its properties would still be exactly there in the year 2000. The fact that Winthrop’s was the corporation’s merchant bankers only added to the conviction that things would move very slowly.

  But the Source of All Energy, in His wisdom, had intervened. Just a month ago, the chairman of the company had advised Sir Robert that he was dying of cancer. He instructed Winthrop’s to seek out a merger with a major international oil group. Apparently the man knew the weakness of his management. He wanted to secure the future of the corporation before bowing out.

  Sir Robert Winthrop had immediately taken the opportunity to the president of the Republican Bank in New York, his friend David Mason. For Mason, in addition to his board membership at Transcontinental Airlines, had also served for many years in the same capacity with Oriental Oil, which was, in fact, his bank’s most important single customer. Oriental was immediately and definitely interested. Canadian and Western was a downright steal. Its shares were trading at just under £2 on the London exchange. They were worth at least double, based on the Canadian properties alone. Oriental was prepared to make a takeover bid at £4, under the condition of pre-acceptance by the chairman of all the shares which he controlled, either by direct ownership or by proxy. The bid would be sweetened by separate agreements which would guarantee long-term employment for each and every member of the current management and would provide for additions to, but no deletions from, the existing board of directors.

  The offer had not yet been made. But David Mason knew that it would be soon forthcoming. In fact, just the week before, he had attended the board meeting at Oriental during which the exact terms to be offered had been agreed upon. Sir Robert had already assured him that the offer as outlined by Mason would receive the chairman’s blessing and that of all of his associates active in the company. Their acceptance would undoubtedly guarantee shareholder acceptance of the Oriental bid.

  According to Mason, Oriental Oil was currently in the process of selecting its merchant bank in London to handle takeover operations. It was expected that the offer would become official within thirty to forty days. This process of inserting two merchant banks between merging companies was new to the Americans, although it was quite the normal pattern in London. It usually made good sense. For the London merchant banks served not only as continuing financial advisors to their corporate clients, but quite often also had the roles of lawyers, company doctors, and in awkward instances even confessors to British firms. They were, as a result, ideal marriage counselors. The whole system, to be sure, stands and falls with discretion, and the understanding that such merchant banks would never use inside information for the purpose of private gain. Thus, in a situation like this, it would have been unthinkable for Sir Robert or his bank to have started buying up the shares of Canadian and Western Oil at £2 in the sure knowledge that just a few weeks later they could be sold to Oriental Oil at £4 or better. It would not have been in the spirit of the game, as defined by the City Code on Takeovers and Mergers.

  It was equally unthinkable that the president of the Republican Bank of New York would have let such a thought even cross his mind; especially since in the United States, the misuse of inside information was at least theoretically subject to legal penalties. To be sure, such misuse was most difficult to define. But one could not be too careful these days.

  Dr. Walter Hofer had no such problems. Switzerland had neither traditions nor laws along such ridiculous lines. If an insider decided to take advantage of the information which was duly his as a result of the responsibility he had to bear in a corporation, it was only just that he should be free to employ such knowledge as he saw fit. The laws of other countries were equally of no concern whatsoever to Dr. Hofer. Switzerland, and especially its bankers, were not missionaries for foreign causes. If the governments involved could not enforce their laws, or enact laws which were enforceable, it was their fault, and theirs alone. But Hofer knew the mental contortions which his Anglo-Saxon colleagues were forced to perform when faced with sticky issues which could not be solved by legal contortions. Experience had demonstrated to him the necessity of helping them construct an “out” which would free them from any possible future remorse. So at the end of David Mason’s long monologue, he asked the question which both of his partners were waiting for.

  “That is all highly interesting, David. I can see the importance of your coordinating this whole transaction in a most careful manner with Sir Robert. But where can the General Bank of Switzerland be of any help?”

  Mason solemnly explained. “Well, as you no doubt appreciate, one can never be quite sure of whether or not a takeover bid will be fully acceptable to the seller in its proposed form. The current idea of Oriental is to put the whole thing on a paper basis; it would be strictly a share-for-share transaction. The current owners of Canadian and Western equity would receive one new Oriental Petroleum share for each ten old Canadian and Western.”

  Hofer quickly calculated it out. Right. That would put the new post-takeover bid market value of Canadian and Western at almost exactly £4 per share, at yesterday’s closing market prices.

  David Mason continued: “But it may prove necessary to throw in a cash kicker. We don’t know at this point. My question is whether or not you would be ready to provide Oriental with a very short-term, non-collateralized loan of, say, $50 million to bridge the gap, should cash be required in this operation? My guess is that the company would need the funds for no more than ninety days. They would be willing to pay, probably, 0.75 percent over the three months interbank Eurodollar rate in London.”

  Dr. Hofer knew bloody well that Oriental Petroleum was no more short of cash than was the Bank of England. But now the circle had been closed—and fairly elegantly at that.

  Hofer replied, “David, please let me make a quick phone call to Zurich to see whether such an arrangement will be feasible. Sir Robert, would you mind asking your girl to put a call right through? By the way, David, when would Oriental probably need the funds?”

  “My guess is January 1,” answered Mason, with that completely straightforward manner so necessary to success in the banking industry.

  Hofer moved over to a chair opposite Sir Robert’s desk and waited for the connection to come through. In the background the other two men had started on golf. Sir Robert knew that it had become highly fashionable for American executives to combine their European business trips with a weekend on the links in Scotland, so the arrangements had already been made. He was not one to buck American trends, especially when $50 million of rather suspect paper was at issue.

  Dr. Walter Hofer’s phone call was, of course, totally superfluous, but it gave him the necessary time to once again mentally check out his calculations. His male secretary had already briefed him well on the situation, following Sir Robert’s phone call a few days earlier, when the items on the agenda had been mentioned. Canadian and Western had 75 million shares outstanding. About 30 percent of these were locked in, either through ownership or control by the company’s chairman, or stuck away in British trust and thus unavailable. But there were smaller blocks on the Continent which would be available. His guess was that t
hree phone calls would get him about four million shares at maybe 5 percent—or even 10 percent—premium over the current market price. On the basis of the average turnover of C & W shares on the London exchange during the past six months, it seemed further probable that he could buy an additional three, maybe three and a half, million shares on the open market during the next month without unduly upsetting the price. That, combined with the blocks, would give him about 10 percent of the total outstanding equity of the company before the takeover bid started to come into the open. In gross terms, he stood to make a capital gain of over £15 million or about $36 million. This would allow him to take just about that amount—say, $35 million—of the Transcontinental notes off Sir Robert’s hands. His quick analysis of the Transcontinental balance sheet in Zurich had indicated beyond any doubt that even if that company was liquidated, the creditors would receive at least 40 cents on the dollar. That would mean $14 to $15 million gross profit in the worst possible instance, less the cost of tying up the funds in the Transcontinental notes for maybe two or three years, say, $7 million maximum. Which would leave . . .

  When the telephone came through, Hofer asked a number of questions regarding the bank’s liquidity schedule during the next quarter and appeared to be receiving satisfactory answers. The charade was complete.

  He returned to the coffee table and listened politely as the golf conversation drew to a close. He then decided to waste no more time. “Gentlemen, I think I can help you out regarding both items on this morning’s agenda.”

  Neither Sir Robert Winthrop nor David Mason appeared especially surprised. “First, we are willing to provide Oriental with the $50 million under the condition you suggested, David. The commitment will remain an oral one, directly from me, good until January 15. Please let me know in time if you decide to draw down the funds. There will be no standby fee. Second, Sir Robert, due to the acute situation you find yourself in, we will be willing to take up to $35 million of the Transcontinental notes off of your hands. I will instruct our chief securities dealer to accept all offers up to this amount from you until the end of this year. Of course, you realize that following our usual practice, we will be using quite a number of different nominee names as the official purchasers. The only provision is that we will not pay over 90 for the notes.”