Levine on Wall Street: Luxembourg Leaks and Bitcoin Busts

Matt Levine is a Bloomberg View columnist. He was an editor of Dealbreaker, an investment banker at Goldman Sachs, a mergers and acquisitions lawyer at Wachtell, Lipton, Rosen & Katz and a clerk for the U.S. Court of Appeals for the Third Circuit.
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The Luxembourg Leaks.

The story of Luxembourg seems to be that companies did some tax structuring, and then asked Luxembourg for rulings saying that the tax structuring would get them the results they wanted, and Luxembourg gave them the rulings. And the International Consortium of Investigative Journalists dug up hundreds of previously secret rulings and tax returns, and they show lots of tax structuring and not a lot of tax paying. So that's bad? But "Luxembourg has long been known as a favorite corporate tax haven," and I have yet to see anything about tax fraud or even secret backroom tax deals. (Though the story of "Monsieur Ruling," who as his nickname implies was rather quick to grant tax rulings, comes close.) Luxembourg has some tax laws, and tax planners take advantage of those laws to reduce their taxes. This happens in the U.S. too. There are some embarrassments -- a Canadian public pension doing some tax dodging in Luxembourg, for instance -- but some of the reactions to these leaks seem a little overblown to me. But! I am not a tax planner, and I have not read many of the documents. If you find some fun only-in-Luxembourg structuring, please do let me know.

Operational risk capital.

Nick Dunbar points out that U.S. banks are, for the first time, "disclosing Basel III capital numbers on a quarterly basis, including estimates for operational risk." And while many of those numbers are "in the world of the two hundred million inputs and complex risk models," the operational risk ones are not. Operational risk is just made up to reflect a best guess as to how much a bank is likely to, oh, you know, pay in fines, mostly. (Or lose to rogue traders or spreadsheet mistakes or other embarrassments.) You figure out how much you're likely to lose, divide that by a capital ratio, and end up with a few hundred billion dollars of "operational risk assets" against which you need to have capital. Dunbar calls it "a question of negotiation":

By moving from old Basel rules to Basel III, the Federal Reserve and Office of the Comptroller of the Currency gave the banks a set of fancy new models that they duly used to bring down their credit and market risk RWAs. Then on went the op risk charge, bringing the banks back to a CET1 ratio that the Fed was comfortable with.

So it's all delightful round numbers, $400 billion for JPMorgan or $300 billion for Citi. One thing we've talked about a lot recently is the pseudo-science of bank financial statements, and here's a lovely example of the pseudo-science of bank capital. You do all sorts of complicated stuff to value your assets, risk-weight them, and decide how much capital they require. And then you just glop on a few hundred billion arbitrary dollars for unpredictable stupid stuff. 

How's Dell doing?

Quite well, thanks! It's basically doubled its equity value in the year since it went private, from Silver Lake and Michael Dell's $5.6 billion investment to $10.8 billion today:

The jump in Dell’s value over the past year stems from a surge in the company’s cash flow and a decrease in debt, said the people familiar with the matter. Cash flow is projected to rise above $3.5 billion for fiscal 2015, which ends in January. That’s up from $3 billion at the time of the buyout, said one of the people. The company has used much of the cash flow to shrink debt to around $15 billion, down from about $18 billion a year earlier, the person said.

Some dumb math: Dell's deal was done at an enterprise value of about $22 billion, or 5.1x Ebitda. Adding $500 million of Ebitda is worth about $2.5 billion of enterprise value, or a value increase of a bit over 10 percent. Spend your $3 billion of cash flow to pay down debt -- moving $3 billion of enterprise value from debt to equity -- and, boom, you've doubled your equity value, more or less. It's so simple! It's like watching leverage operate in nature. The obvious question to ask about Dell is: Did Michael Dell and Silver Lake, as Carl Icahn claimed, "steal" the company by sandbagging its performance to buy it on the cheap? (Here is Dan Primack being skeptical on that question.) But one thing to notice is that Dell's performance only improved by around 17 percent. The value doubled because of the magic of leverage, just taking on a lot of debt and then ending up with enough money to pay some of it back. Which, on the one hand, would be theoretically possible in a levered recap that left Dell as a public company. On the other hand, sure, it might have been a little tense.

Don't start a marketplace to sell drugs for bitcoins on the internet.

That's every kind of advice. When the FBI and DEA shut down Silk Road, someone went and started Silk Road 2.0 so the supply of drugs for bitcoins wouldn't be interrupted. Except that the FBI and the Department of Homeland Security "successfully infiltrated the support staff involved in the administration of the Silk Road 2.0 website" and were able to catch the guy (allegedly!) running it, who now faces an assortment of horrible drug conspiracy charges. One good rule of thumb is that if you are talking to someone on the internet about doing something illegal, you are talking to an FBI agent

Jeff Gundlach, the new Bond King.

Here's a profile. He's got a new house, he's got some art, he's got a slide deck quoting Heraclitus, he's got some views on the Fed. He's also stolen a march on Bill Gross, both in terms of performance and in terms of having a lot less career upheaval these days, since he runs his own firm free of outside interference. "They point to our key man risk, and we say, ‘Everyone knows that it is key man reward.’" He's also got some random nasty comments for Pimco's Dan Ivascyn: "I hear he is reasonably good at explaining things, the fact that he read from a teleprompter and couldn’t answer any of the real questions notwithstanding."

Some Matt Taibbi.

This is the story of the whistleblower at JPMorgan who was most responsible for JPMorgan's $13 billion mortgage settlement, interspersed with some outrage about how that settlement should have been bigger and different and not a settlement and instead criminal charges against individuals. It is written by Matt Taibbi and appears in Rolling Stone. You can now make an informed decision about whether you will enjoy reading it.

"It sounds like the corporation is part of the divorce case."

If you marry the founder and chief executive officer of an independent oil and gas exploration company in Oklahoma, and then you get divorced, I suppose you should expect that the company's lawyer will show up to court every day to meddle in the case while the judge "playfully tossed red and white peppermints" to him. I am generally ambivalent about recommending billionaire-divorce stories here, but this one's a keeper; it's not a prurient story about marital fights, it's about corporate governance and the value of management and legal process and who gets how much protection from the law.

Should you go into consulting when you graduate from college?

No, come on, what are you even talking about, you should go into investment banking. But here is the Harvard Crimson with a more nuanced view.

Things happen.

Morgan Stanley will pay for your Uber (I mean, if you work at Morgan Stanley). Pimco is cutting fees to keep clients. Credit hedge funds are popular. Why is King Digital buying back so much stock? There's an insider trading guilty plea in the UK, and Eike Batista is going on trial for insider trading in Brazil. And the Securities and Exchange Commission has some questions about trading at GT Advanced Technologies before its bankruptcy. Guess who said it: "Vulture funds are the Ebola of the financial system." Marty Lipton didn't call activist hedge funds "the Ebola of the financial system," but he did write a memo on how to prepare for activists. John Gapper wrote a song. Here's a nice watch. The internet is a terrible place, especially if you're on A Small World.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

To contact the author on this story:
Matt Levine at mlevine51@bloomberg.net

To contact the editor on this story:
Zara Kessler at zkessler@bloomberg.net