Bank of America initially bought a strategic shareholding in CCB in 2005, when it spent $3 billion for 9% of the company. The acquisition was split into two parts: the purchase of $2.5 billion worth of secondary shares from Chinese state investment company, China SAFE Investments (Huijin), and the purchase of $500 million worth of new shares during CCB's initial public offering at the IPO price of HK$2.35 ($0.30) a share.
The investment in CCB was followed in August 2006 by a decision by Bank of America to sell its Hong Kong and Macau business to CCB for HK$9.7 billion.
J.P. Morgan issued a research update on Bank of America yesterday in which it estimated that the US lender will pay HK$2.51 per share to exercise the option, based on the higher of either 1.2 times CCBÆs book value of HK$1.95 a share or the IPO price adjusted upwards for a 3% annual step-up.
As with the initial share acquisition, Band of America is restricted from selling the new shares it has acquired for three years, unless it gets CCB's consent to do so. The lock-up period on the initial 9% expired in October.
This leaves the North Carolina-headquartered bank in a position where it can now sell off its original stake in CCB and book a profit, while retaining a strategic option on CCB by keeping its ownership at the same level through the new share acquisition. Indeed, on a third-quarter earnings call last month, Kenneth Lewis, Bank of America's chief executive officer, suggested the bank could consider a partial divestment strategy. In a transcript of the call on www.seekingalpha.com, Lewis says that Bank of America's investment in the Chinese bank was long-term and strategic and that it intends to remain one of CCBÆs substantial shareholders.
ôBeyond that we do talk about should we monetise some of it while still maintaining a big position,ö said Lewis, adding that the firm would evaluate whether to hold or exit the investment in the last quarter of 2008 as well as in 2009.
ôThe total unrealised gain, including the most recent exercise of the option, is $8 billion after tax,ö reckons J.P. Morgan in its note. ôWe would not expect Bank of America to remain a holder of such a large 19% stake for a long period,ö it adds.
Bank of America stands to book a post-tax gain of $4.6 billion should it choose to exit the original 9% stake, based on CCBÆs market price on Monday, estimates J.P. Morgan. As this profit can be used to shore-up its tier-1 capital ratio, a sale does seem a likely move by the US bank û especially in light of its pending takeover of Merrill Lynch.
Not surprisingly, CCB shares lost 5.6% on Tuesday on the news that the Chinese bank will see significant dilution at a discount to the prevailing market price. It closed at HK$3.88 and has now fallen 50% from the high it touched in December last year. However, it has gained almost 50% since the end of October, when it dropped as low as HK$2.62.
Bank of America was marginally up at $15.15 in early trading on the New York Stock Exchange Tuesday.