I'll Gladly Pay You Tuesday For a Bailout Today

Perhaps we should change the United States' national bird (and national emblem) from the Bald Eagle to the Vulture.


The Fed's bailout of AIG, announced last night, gave rise to continued debate about when the government should or shouldn't intervene in financial crises. Putting that argument aside for now, one thing is clear:


The "bailout" of AIG is not exactly a sweetheart deal for the company.


Consider the terms. The government is lending AIG $85 billion for two years, at an interest rate that amounts to about 11.5%. In addition, the government receives warrants which, if converted, would result in a 79.9% ownership interest in AIG. In addition, the government has the right to replace existing management, and has already taken its first step in that direction, by replacing AIG CEO Robert Willumstad with Edward Liddy, former head of Allstate Corp.


I've seen terms like this before. Back in the early part of this decade, when dozens of telecom companies were running out of cash, they cut deals with so-called "vulture" investors, who exacted the types of terms the Fed has gotten from AIG. This is really a classic vulture deal. A well-above-market interest rate, and massive dilution of the existing shareholder base. Clearly, the current shareholders realize this, as despite the avoidance of a possible bankruptcy, AIG's shares are down another 40% today.


As noted in an earlier post, any government bailout of AIG essentially comes out of the taxpayers' pockets. As such, I must say that I think the government did a pretty good job of getting us good terms on this deal. I'd expect that the taxpayers will actually see a tidy profit on this transaction (not that we should expect to see a penny of it, of course).


The thing that I'm wondering is, why wasn't the private sector interested in a deal like this? We know that the Fed first attempted to arrange for banks to come up with this money, before stepping in as a lender of last resort. Some are saying that it's an indication that this deal is not a very good one, in fact, for the government. After all, the thinking goes, if it were such a good deal, the banks would've been all over it.

I'm not buying that line of reasoning. Sadly, there are only a few entities right now with the financial wherewithal to participate in a loan of this magnitude. Presumably, there was no appetite for a loan that would've been comprised of about $2 billion apiece from more than 40 entities. That's way too cumbersome a consortium to put together on such short notice. So, let's assume that in order to get in on this deal, you'd have been required to put at least $20 billion on the table. With even the larger banks looking to spruce up their balance sheets, how many companies have that kind of stash? In addition, any company that does have that kind of money is going to hold on to it for a little while, in seeking out all of those assets which will surely be available at fire sale prices in the coming weeks and months. Double-digit returns are nice, but I think that these guys are shooting for 30%+ ROIs as they buy assets from distressed companies. Only time will tell whether or not they're successful, but it makes sense to hold out for something better at this time.


As for me, I'd be perfectly happy not to have to hear the word "bailout" (or, for that matter, the phrase "out on bail") again in connection with a major company for a very long time. Somehow, though, I don't think I'll get my wish.