Commentary: Set This Bank Free

Berlin's gambit to keep propping up Bankgesellschaft will be costly

Thilo Sarrazin was in a combative mood on Mar. 26 when he announced that the City State of Berlin had decided to reject a bid by BGB Capital Partners to buy its 81% stake in Bankgesellschaft Berlin. The $10.7 million bid from BGB, a consortium set up last year by U.S. investor Christopher Flowers and private equity firm Texas Pacific Group, was "not at all acceptable," Sarrazin, Berlin's Finance Minister, told journalists indignantly. He thought the bank, with its $180 billion in assets, was worth many times that amount. Rather than accept such an insulting offer, Sarrazin said, city hall will hold on to its stake in Germany's 10th-largest bank until at least 2006. "We will get a better price if we wait," Sarrazin, a Social Democrat, insists.

This is misplaced city pride, Minister Sarrazin. Keeping Bankgesellschaft in state hands, even for just another few years, is a dangerous gambit that could end up costing Berlin's hard-pressed taxpayers much more than they will get when it is eventually sold. And they have already forked over a fortune. In late 2001, the city government was forced to bolster Bankgesellschaft with $1.87 billion of fresh capital to save it from bankruptcy. That raised the city's stake from 56.6% to 80.95% (table), and escalated the loss it will face if the bank is forced into receivership. Since saving Bankgesellschaft, Berlin has gone further out on a financial limb by guaranteeing $23.1 billion of its loans. The excuse was that no company would have risked doing business with the bank without a city guarantee.

It's not as if Bankgesellschaft Berlin is a revered and ancient institution that must be preserved as part of the city's heritage. It was only formed in 1994, when Berlin's government merged the seven banks it wholly or partly controlled into one. Bankgesellschaft was intended to be a showcase bank for a showcase city. But it has quickly turned into a financial disaster.

Controlled by politicians, the bank went on a politically inspired lending spree in the East German and Berlin property markets. To be sure, there was a broad -- and, in the end, misguided -- consensus that investment in the redevelopment of eastern Germany was a no-lose proposition. But Bankgesellschaft took this gamble further than most. It was actually dubbed "the vacuum cleaner" by developers because it would suck up any deal. Then the real estate market went bust. Bankgesellschaft was left with massive bad debts and an operating loss of $1.8 billion in 2000. The bank reported another deficit of $678 million the following year, and is expected to report a $300 million loss for 2002.

Sarrazin & Co. should have been pleased that investors with the credentials of Flowers and David Bonderman, the principal of Texas Pacific, were willing to take on their deeply troubled institution. Sure, they're in it for the money and drive a hard bargain. In addition to the cheap cash price they offered, they wanted freedom to restructure the bank and for the Berlin government to take over 80% of its nonperforming loans. But the two have a solid record of turning companies around. Bonderman helped restructure Continental Airlines (CAL ) in the 1990s, and is now involved in negotiations to do the same at US Airways Group Inc. Flowers was one of the dealmakers that negotiated a takeover in 2000 of Japan's moribund Long Term Credit Bank. Now Shinsei Bank, it is one of the best-performing financial institutions in Japan.

Flowers and Texas Pacific, through BGB, would have quickly injected $400 million into Bankgesellschaft to tide it over while they reorganized it. Sarrazin insists the bank doesn't need any cash. But analysts and rivals point out that it's already strapped with more than $5 billion of nonperforming loans. And given the sad state of the German economy, that could be the tip of the iceberg. "It probably won't be long before Bankgesellschaft needs more capital," says the deputy head of a rival bank's Berlin unit. "The taxpayers will have to dip into their pockets yet again."

It is true that Bankgesellschaft's new management -- led by Chief Executive Hans-Jörg Vetter, who took over the top job in 2001 -- is making steady progress with a restructuring plan that will cut the workforce by 4,000 by the end of 2005 and trim $320 million a year off costs. But more radical steps are needed. And managers would be more inclined to take them if they knew the state wasn't around to bail out the bank, led by city politicians with a vested interest in limiting job losses. Selling the bank to BGB would have led to faster change and an earlier return to profitability. And there's no shortage of Berlin boosters who believe that by holding on to Bankgesellschaft, Berlin is piling a new mistake onto several old ones. "[Sarrazin's decision] is a disaster," says Werner Gegenbauer, head of the Berlin Chamber of Industry & Commerce. "Bankgesellschaft needs privatizing as soon as possible."

As soon as possible, he said, Herr Sarrazin, not in 2006. You and the other Berlin city fathers would do well to rethink a decision that within an election cycle or two could cost Berlin voters billions of euros.

By David Fairlamb

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