Maybe cash isn't king after all at Bear Stearns ( BSC). For months now, Wall Street has been abuzz with rumors that the big investment bank was in dire need of a capital infusion. The chatter started this past summer, when Bear became the most prominent casualty of the subprime mess, after two of its in-house hedge funds collapsed under the weight of bad bets on mortgage-backed seucrities. Fears of a liquidity crunch sent shares down 40% from their highs back in early August. But Monday's cross-shareholding deal with Citic Securities of China signals that for all the worries, Bear continues to look to the future. The New York-based brokerage firm is concerned less about its cash position than about competing with global rivals such as Goldman Sachs ( GS), Morgan Stanley ( MS) and Merrill Lynch ( MER). "We thought we'd see someone hand
Bear a bunch of cash and call it day," says Peter Goldman, managing director at Chicago Asset Management, which owns Bear shares via its large-cap value investment fund. But "in my mind this is a positive. It expedites their push in to Asia." The two firms agreed to invest $1 billion in each other via convertible securities that don't include voting shares. Citic will take an interest of about 6% in Bear Stearns, with the option to buy another 3.9% in the public market. Bear's investment adds up to about 2% of Citic. The firms will do business together in Asia, creating a new venture in a home base of Hong Kong.
The deal could transform Citic from a major player in Asia's securities markets to a global securities firm, says Winston Ma, China expert and author of Investing in China: New Opportunities in a Transforming Stock Market. Investors could well see Citic doing securities underwiting in the U.S. or taking part in Treasury bond auctions. Bear shares were only fractionally higher in midafternoon trading Monday, but that's not because the Citic deal was being overlooked. "Citic brings a new culture and entrée to China," says Bruce Foerster, president of Miami-based advisory firm South Beach Capital Markets. "I think this is an elegant solution that the market hasn't taken enough time to examine." Foerster likes the deal for Bear because of its balance-sheet impact, among others. He says Citic's purchase of 40-year trust preferred stock could be considered an equity investment by rating agencies. Standard & Poor's earlier this year slashed its credit outlook on Bear to negative, citing its heavy reliance on its troubled mortgage and securitization businesses. Bear Stearns' investment in Citic, on the other hand, takes the form of a convertible bond. This could be viewed as a simple loan to the Chinese bank, until the bond is converted into Citic shares at least five years down the road. Many analysts had viewed Bear as cash strapped, and some continue to doubt the wisdom of the linkup. Deutsche Bank analyst Michael Mayo writes that this deal may be a negative for shareholders because it will make a big-premium takeover of Bear less likely.
But it has been no secret that Bear chief Jimmy Cayne wants to keep running the firm, and the Citic linkup could give Bear the firepower to make that happen. Meanwhile, bulls on the deal believe the fears that Bear's ship was sinking were overstated. Sure, the company's stock has fallen 28% this year, and its profits dropped 61% from a year ago in the third quarter. Chief Financial Officer Sam Molinaro admitted that the firm is dealing with reputation damage. But Bear has shown its ability to raise capital amid the chaos. It was able raise $2.5 billion in September in a
corporate bond sale that was eagerly snapped up in the market. Meanwhile, in stark contrast with the situation this summer, Bear now isn't the only financial firm in distress nowadays. Rivals from Citi ( C) on down are now struggling with multibillion-dollar writedowns taken this quarter -- not to mention the mega-headache known as SIVs, or structured investment vehicles. Some big banks are working on putting together some $60 billion to help these funds. "Bear Stearns will be looked back on as minor in this whole credit story, just the tip of the iceburg," says one hedge fund of fund manager who declines to be named. It's also doubtful the government will work up a protectionist froth about the deal either. Foreign investment in U.S. financial outfits is not new. Saudi Prince Alwaleed bin Talal owns 4% of Citi, and has been a steady supporter of embattled CEO Chuck Prince. Likewise, China's sovereign wealth fund recently bought a $3 billion stake in private equity firm Blackstone ( BX) without any hue and cry from politicians.
Bulls on Bear Stearns say the deal sends a message to the skeptics. "Wolves, go back to your dens," says Forester. "There's no food here."