Citigroup Sets $58 Billion Swap, 'Poison Pill' Plan

Citigroup began a long-delayed $58 billion stock swap that could leave the U.S. government owning 34 percent of the bank, and announced a measure that could dissuade other investors from building large stakes of their own.

The third-largest U.S. bank said the government will swap up to $25 billion of preferred shares into common stock, while other investors will swap as much as $33 billion.

Chief Executive Vikram Pandit agreed to the stock swap in a February bailout to help the bank boost capital, after $37.5 billion of losses in the prior five quarters. Pandit is trying to slash costs, reduce risk and shed assets, and the swap would make the government by far the bank's largest shareholder.

"It gives the government the potential to flex a lot of muscle, and perhaps run the company," said Bert Ely, an independent banking consultant in Alexandria, Virginia. "The question is to what extent it uses that to effect further changes in the bank and management, including perhaps forcing out Pandit."

The bank also said that to preserve a potential $43 billion of tax benefits over 20 years, it adopted a measure that has the effect of limiting the ability of investors who take at least 5 percent stakes to add to their percentage holdings.

Under the measure investors, other than the 5-percent stakeholders would in some cases be allowed to buy more shares at an effective 50 percent discount to the market price.

While Citigroup said the move was driven by U.S. tax law and is not a "poison pill," it shares elements of that anti-takeover mechanism, and can limit the ability of hedge funds or activist investors to build sizable stakes.

"It indicates that Citigroup management may be concerned about entrenchment, which is a reason to adopt what is an anti-takeover device, or is very concerned about the $43 billion of tax benefits," said Theresa Gabaldon, a law professor at George Washington University in Washington, D.C.

A successful stock swap would close a $5.5 billion common equity shortfall that regulators found in a "stress test" of Citigroup's readiness for a severe recession.

The bank may issue more than 17 billion new shares, diluting the holdings of existing shareholders by 76 percent. The public exchange offer expires July 24.
    
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Citigroup planned to begin the swap in April but delayed it for the stress test and because of a dispute with the Federal Deposit Insurance Corp. The delay boosted the costs to investors, who have been financing trades in which they bought preferred shares and sold borrowed common shares short.

FDIC Chairman Sheila Bair met with Citigroup's board on Tuesday to ease tensions that arose from her push to replace Pandit, the Financial Times said on Wednesday.

Citigroup said the swap could make it one of the world's best-capitalized banks, adding up to $61 billion of tangible common equity and $64 billion of Tier-1 common equity.

Once done, the swap will have "addressed Citi's financial stability," Chairman Richard Parsons said. "We have confidence in our management and the future of our institution."

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Citigroup has received $45 billion of taxpayer funds from the U.S. Treasury's Troubled Asset Relief Program. Regulators on Tuesday let 10 other big banks, including JPMorgan Chase , repay their TARP aid.

Ely said he expects the government "at first to tread cautiously, but a lot depends on how well Citigroup downsizes and restores profitability in the coming months."

Citigroup stock rose 6 cents to $3.47 in afternoon trading on the New York Stock Exchange.

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