Last Man Standing

by Duff McDonald

  At 11:00 Saturday morning, Steve Black and Mike Cavanagh quizzed each of the due-diligence teams on how much downside they saw, even if JPMorgan Chase were to pick up Bear Stearns for a single dollar. Was there enough value in the Bear businesses, they wanted to know, to absorb the pain that would come along with unloading or hedging all the toxic and unwanted assets? The numbers thrown out were all ballpark estimates: $2 billion worth of losses here, $500 million there. The goal was to come up with a raw total of the de-risking costs and lawsuits that would undoubtedly come with the deal.

  This approach was Dimonology: dwell on the downside of a potential deal before entertaining the upside. “He kept the board informed of every change in their thinking as well, and didn’t get too far out ahead of us” recalls JPMorgan Chase’s director William Gray. “He inspires great trust that way. What we read in the papers was old news for us. He raised every problem that could occur. We could never walk out and say he never told us about this or that.”

  By the afternoon, the team from J.C. Flowers had a contingent bid ready: $3 billion for 90 percent of a recapitalized Bear Stearns’ equity—the equivalent of about $2.80 a share including the billion or so new shares that would have to be issued—provided that Flowers could line up $20 billion in financing to cover Bear’s short-term cash needs. Rounding up that much in such a short time was a long shot, but at that point, it was all Bear had.

  A few hours later, Steve Black and the head of investment banking, Doug Braunstein, walked over to Bear Stearns to speak to Schwartz and Gary Parr. Bear’s stock had closed at $30 on Friday, but Black had bad news for the two men. JPMorgan Chase hadn’t been able to do as much work as they’d hoped, said Black, and so there would be no “firm offer” that evening. But their work had led them to one obvious conclusion. “If you guys are thinking that we’re going to be interested anywhere close to where you closed, or God forbid, a premium, then we should just send everybody home right now, because it’s not even going to be close,” he added. “You need to tell us now that it’s worth the effort to keep working. We’re thinking of somewhere from $8 to $12 a share.” Schwartz, feeling that he was out of options in any event, told Black to keep working.

  A short time later, Schwartz called Dimon. He wanted to know whether Dimon considered this a “hell or high water” deal. In other words, if Schwartz asked his board for approval, he needed to know that Dimon was serious about getting it done, and wouldn’t start adding conditions after the fact. Dimon told Schwartz that he’d kept his own board apprised of the process and he would be surprised if they didn’t give him their support when it came time to pull the trigger. Schwartz said he’d meet with his board and be in touch in the morning.

  Schwartz and Parr updated Bear’s directors on the progress of the negotiations. Although disappointed at the low level of the offers, the board members agreed to continue pursuing both. They knew that Christopher Flowers was unlikely to be able to line up $20 billion of financing overnight. Bear Stearns, after all, had been unable to do the very same.

  At 6:00 P.M., the JPMorgan Chase executives held another roundtable discussion to get updates from their due-diligence teams. Dimon slipped into the meeting every now and then, sat down, listened for a few minutes, and then left without interrupting. His casual weekend wear was black jeans and a black T-shirt. “Jamie was dressed like Johnny Cash,” laughs one executive. “I guess he thought he looked cool. But he didn’t.”

  The head of J.P. Morgan’s mortgage business was forecasting $1 billion in losses from unwinding Bear’s mortgage positions. “Fine,” said Cavanagh, “call it $2 billion.” A few hours later, with more information streaming in, sources say the number was at $4 billion and moving higher. (JPMorgan Chase’s executives eventually estimated that the total cost of the deal beyond the purchase price itself would be $6 billion. They raised that number to $9 billion in May.)

  At 9:00 P.M., the executives took a straw poll. Steve Black, Barry Zubrow, and Mike Cavanagh favored the deal. The asset management head Jes Staley and the general counsel Steve Cutler had reservations. The team decided to sleep on it and get back to work the next morning.

  Even among those who supported the deal, there was strong sentiment that buying Bear Stearns on such short notice was crazy. Never in history had anyone tried to take over a $400 billion balance sheet in just a few days, especially one that was surely full of holes. What’s more, the company’s executives had earned a reputation for being cautious, and this deal was anything but. Not only was there the question of what Bear’s assets were actually worth; there was also what might be termed the Heisenberg principle of market uncertainty. By the very act of stepping in to save Bear, JPMorgan Chase would change the value of the company and its holdings—and not in a positive direction.

  Throughout the day, Cavanagh had tried to stay optimistic, telling himself that they needed to give the deal a serious shot at happening. But in the car on the way home, his spirits began flagging. “What are we doing?” he thought to himself. The next morning, his thoughts had solidified. “We can’t do this,” he told Dimon.

  Bill Winters had finally found time to get off the phone and fly from London to New York early Sunday morning. He arrived to find that Cavanagh was not the only one souring on the deal.

  The first issue was Bear’s assets. Although Bear Stearns had told JPMorgan Chase that about $120 billion was “at risk” of further deterioration, the JPMorgan Chase team had concluded that the number was likely to be closer to $225 billion. And it wasn’t just the sheer amount that scared the team. The fact that it was a continually moving target comforted no one.

  Worse yet, an article in the Sunday New York Times by the influential columnist Gretchen Morgenson added another dimension to the deal. In this article, “Rescue Me: A Fed Bailout Crosses a Line,” she called Bear Stearns “this decade’s version of Drexel Burnham Lambert, the anything-goes, 1980s junk-bond shop.” Morgenson wondered what the merit was in saving a firm that had given its competitors the middle finger during the LTCM bailout, had been convicted of aiding 1990s “bucket shops” that defrauded investors, and then had gone whole hog on subprime.

  “It became a reputational issue for us,” recalls one JPMorgan Chase executive. “She was basically saying if you’re ever going to let somebody go down, these are the dirtbags that you should let go down. They had a completely different culture than ours. Alan Schwartz might tell you that the two places would really fit together, but that’s just not the case. The two cultures were 180 degrees apart.”

  After discussing the Times’s story, Steve Cutler and Jes Staley repeated their concerns. This time, they weren’t outnumbered; both Black and Cavanagh had switched sides. The executives convened another roundtable, and the result was a thumbs-down. A smaller contingent then went to inform Dimon that they considered it irresponsible to do such a risky deal.

  Dimon agreed with his team, and suggested making a series of calls. Dimon would call Geithner and Paulson, Black would call Schwartz, and Doug Braunstein would call Gary Parr.

  With Schwartz on the phone, Black was blunt. “Look, Alan, I know what we said last night, but we’ve got more information now and we’re not going to do a transaction at the level we were talking about. More to the point, I’m not even sure we can even do a transaction at all. Whatever options you may have been pursuing, you should keep pursuing them and not count on us to be there.” Black continued: “Alan, you know me well. I’m not bullshitting you; this is not a negotiating tactic. Do not count on us. It’s not just a question of price anymore.” Braun-stein delivered a similar message to Parr.

  Geithner stepped out of a meeting to take Dimon’s call. The discussion was brief. Dimon explained to Geithner that the risks were too great for JPMorgan Chase to buy the company on its own. “This wasn’t a negotiating posture,” Dimon later testified in front of the Senate. “It was the plain truth.” Geithner was in a pinch. Despite all the subsequent descriptions of him as a dapper young bureaucrat-i
n-training, he had nevertheless failed to rustle up any further interest for the failing bank, and was facing a botched rescue operation as the first notable moment of his career.

  Whatever Black and Dimon said, it certainly seemed like a tactical move at the time. And when Geithner called back a few minutes later and urged Dimon to keep trying to get a deal done, he was essentially signaling to Dimon that he now had negotiating leverage over both Bear Stearns and the Fed, which both had their backs to the wall. At the same time, Geithner was making it clear that this was a deal that had to happen. Even Jamie Dimon knew it wasn’t a smart move to say no to the government a third time. “At that point, I think people kind of knew that this was something we needed to do,” says a member of JPMorgan Chase’s operating committee.

  With the Asian markets opening at 7:00 P.M., everybody knew that Bear had to announce something or risk an implosion of the firm—and conceivably of the financial system itself. Bear’s plan B was a deal with JPMorgan Chase, and there was no plan C. “There just wasn’t any other great alternative,” recalls Mike Cavanagh. “In the end we had to figure out a way to facilitate us buying them.”

  A number of former Bear Stearns executives view the events that Sunday as brinksmanship on Dimon’s part. Dimon chafes at the notion, pointing out that no one had ever had to carry out such a massive amount of due diligence with such haste: “We had literally 48 hours to do what normally takes a month.” This was not, in other words, the kind of predator-prey situation that Dimon had been preparing for since he arrived at JPMorgan Chase. A thoughtful man who luxuriates in rigorous analysis, he was being asked to put his own company at risk because another firm had played too fast and too loose. Another firm, it bears repeating, that he’d passed on buying just six months before.

  Recall Dimon’s three components of a successful deal: business logic, the ability to execute, and price. In this instance, the business logic was a mixed bag. Buying Bear would give JPMorgan Chase a few assets it wanted but would also saddle it with some it most certainly did not. The ability to execute was totally unknown, especially on such short notice. Bear’s customers could continue to bolt, as could valuable employees. In a business where relationships and human capital are paramount, both were critical issues. In any event, the situation certainly wasn’t going to be easy. To get a deal done, then, the price was going to have to come down even more. And because Jamie Dimon was holding the whip hand in negotiations, that’s exactly what it did.

  In fact, the price came down on two fronts. A little after lunchtime, Black called Schwartz and floated the idea that JPMorgan Chase might come back to the table at $4 a share. When told of the new number, Cayne was enraged, and suggested filing for bankruptcy instead of suffering the indignity of such a meager offer. His board talked him down, however, and went back to debating the dwindling options while waiting for an official offer.

  At the same time, Dimon was explaining to Geithner that unless he received a substantial guarantee of Bear’s dodgy assets—$30 billion worth, to be precise—he could not do the deal. It was too much risk for his shareholders. Realizing that he had no other viable options, Geithner agreed to provide a $30 billion nonrecourse loan, collateralized by a pool of Bear’s assets.

  Late Sunday afternoon, Secretary of the Treasury Hank Paulson called Dimon in his office. Dimon told Paulson that JPMorgan Chase was mulling over a $4-a-share offer. “That sounds high to me. I think this should be done at a very low price,” Paulson replied. “Why $4? Why not $1? The less you offer, the less it’s going to look like a bailout.” Paulson didn’t want to anger the American people by seeming to rescue greedy bankers from their own mistakes. He also raised the issue of “moral hazard”—the idea that bailing out equity holders of Bear Stearns would encourage future reckless behavior. “Where there is intervention, I really believe that the shareholders need to lose,” Paulson later told Fortune magazine. “Bear Stearns was a great old institution, but I don’t know how you can put government money in there and protect the shareholders.”

  Dimon replied that he’d been thinking of the shareholders’ vote that would be required at Bear Stearns, and that to go much lower would be to risk enraging the very people he needed to approve a transaction. “But at the end of the day, it wasn’t that big a deal, so we changed it to $2,” he recalls. On the subject of moral hazard, however, he took a slightly softer line than Paulson. “I don’t quite get the whole moral hazard argument, the whole ‘We’ll show them!’ mentality,” he said. “So a drunk friend of yours falls in a river. Do you let them drown? No, you save them. And after you save them, you deal with their problem. No, I don’t think highly paid executives at any investment bank deserve to get bailed out. But at some point, you’re just talking about various degrees of suffering.”

  According to William Cohan’s House of Cards, Doug Braunstein was dispatched to relay the news to Gary Parr. “The number’s $2,” he said. “You can’t really mean that,” Parr replied. “Are you serious? You really don’t want me to go back into the board and tell them this.” Braunstein told Parr that this was the final offer. Parr then wearily relayed it to the Bear Stearns board. Again, Jimmy Cayne said he would refuse to do the deal. Cayne owned 5.66 million shares, and had watched their value fall from nearly $1 billion to just over $11 million in the past year. “Two dollars is better than nothing,” Schwartz replied. After a heated 30-minute discussion, the board unanimously approved the transaction at 6:30 P.M. (When the Wall Street Journal broke the news online at 7:00 P.M., John Mack, CEO of Morgan Stanley, wondered aloud whether the $2 was a typo. Many Bear Stearns employees did the same. Alan Schwartz, long considered one of the best deal makers on Wall Street, was selling his own firm for a song. Mack would nearly be forced to sell his for nothing come September, before inching his way back from the edge of the abyss.)

  Warren Buffett—who passed on making his own bid for the company—gives Dimon credit for making a gut decision based on limited information. “You don’t have to understand it perfectly,” he says. “You just need to know the outer limits. A guy can walk into a room and you might not know whether he weighs 300 or 350 pounds, but you know he’s fat. I just felt I couldn’t even categorize it to that extent. But you can act, and we do act, with imperfect information. If Jamie told me that the boundaries of value for Bear were x and y, I would feel he was right. I’ve seen enough of his judgment to know it’s extraordinarily good. He knows what he doesn’t know. But you have to be willing to step up and take a swing. He knows the pitches he likes. He knows what he can hit. He’s not going to sit around waiting for the perfect pitch.”

  Buffett continued: “It wasn’t shooting fish in a barrel, but if it didn’t work out he could stand the downside. If it did work out, there were significant pluses. He is a very cool, rational thinker. I have never seen him make a decision based on emotion. He has got the background and the mental equipment to make good decisions. I like to think that he and I think the same way, but I’m probably flattering myself.”

  At 8:00 P.M., in a conference call with investors, Mike Cavanagh walked through a six-page presentation. As part of the contract, JPMorgan Chase retained the right to buy the Bear Stearns building even if the merger failed. This was as important to some executives at JPMorgan Chase as anything else about the deal. “During the negotiations,” Dimon recalls, “some of our investment bankers came up and said if you need a little more money, we’ll chip in so we don’t have to commute downtown.”

  Later that night, Geithner convened a conference call for Wall Street CEOs. Some 60 or 70 people called in, and the broad strokes of the discussion—led at points by Geithner, Dimon, and the treasury secretary, Paulson—were that the deal was being done to stabilize the market, and that it just might have saved the system.

  Vikram Pandit, the CEO of Citigroup, asked a question about the risk to Bear’s trading partners in certain long-term contracts. “Who is this?” barked Dimon. “Vikram,” was the response. “Stop being such a jerk,�
�� Dimon snapped, adding that Citigroup “should thank us” for doing the deal rather than look for the holes in it. Much ado was made in news reports the next day about Dimon’s use of the word “jerk.” But the focus should have been on the follow-up remark. Because Pandit had found a hole in the deal—and it was a huge one.

  • • •

  Dimon received more acclaim during the week of March 17 than most bankers receive in a lifetime. He was referred to as “Wall Street’s banker of last resort,” “the most powerful banker in the world,” and “a senior financial statesman,” and he was compared in numerous instances to J.P. Morgan himself. (Former Bear Stearns employees were not among those praising Dimon. One had sardonically taped a $2 bill to the front window of the bank. Others were busy selling company materials on eBay. Bear T-shirts sold for $151; stock certificates sold for $42 apiece.)

  In one sense, at least, the comparison was apt. During the panic of 1907, when Morgan had saved a floundering bank, he had picked up its stake in Tennessee Coal & Iron in return—patriotism and the profit motive rolled into one. “With his peculiar bifocal vision, he saw the panic as a time for both statesmanship and personal gain,” writes Ron Chernow in The House of Morgan. Likewise for Jamie Dimon a century later.

  Behind the scenes, however, things weren’t so peachy. The third page of the presentation Cavanagh had made to investors on Sunday night included the following line: “[JPMorgan] will guarantee the trading obligations of [Bear Stearns] and its subsidiaries effective immediately.” The purpose of the guarantee had been to head off another run on the bank by assuring the market that Bear Stearns could make good on its trades. A number of questions were raised about what would come of the guarantee if Bear’s shareholders voted down the deal, and the answers were not particularly clear, except for the fact that the guarantee would last a year.