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Why The Bear Stearns Deal Is Being Renegotiated: The JP Morgan Guarantee Wasn’t WorkingBear Stearns Faced A Second Run-On-The-Bank As Counter-Parties Feared Deal Would Fall Apart

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The guarantee of Bear Stearns’ liabilities from JP Morgan Chase wasn’t working. Although the banking giant had put its “full faith and credit” behind Bear’s liabilities, some of Bear’s largest customers were refusing to do business with it. Counter-parties were fleeing, and Bear’s collateral was being refused up and down Wall Street. The guarantee, which was intended to keep Bear in business, had failed to provide customers with enough assurance to prevent a second round of the run-on-the-bank that nearly bankrupted Bear, people recently familiar with Bear’s operations are saying behind the scenes. (Guess who those people are!)
Customers were concerned that working out the guarantee would take too long and involve too much uncertainty. People familiar with the operations of Bear say that many customers simply found it easier to take their business elsewhere. They feared that if Bear shareholders rejected the deal, JP Morgan’s guarantee would not get them a quick and “dollar-good” resolution to their trades.
Now JP Morgan is claiming—albeit off-the-record through prominent business reporters—that they were forced back to the negotiating table because of “mistakes” in the contract. The guarantee is alleged to have “inadvertently included” provisions that made it overbroad and survivable even after the rejection of the deal by Bear shareholders. But this is a cover-up, an attempt to take out a provision that at least some of the JP Morgan deal team fully understood. The reality seems to be that JP Morgan wants to rescind the guarantee because it could involve serious costs without achieving the customer-assurance benefits that provided its original rationale.
What’s worse, JP Morgan and Bear Stearns quickly realized that the survivability of the guarantee would allow dissident shareholders to seek other investors while Bear stayed in business under the cover of the guarantee. The provisions of the agreements between Bear and JP Morgan require Bear’s board to continue to cooperate with JP Morgan but do not bind outside shareholders. JP Morgan, which eagerly cooperated with the Fed to buy Bear, did not anticipate the danger posed by shareholders using the 12-month lock-up period to find alternative buyers. If there was a negotiating mistake, perhaps this oversight was it.