Ally execs say ResCap bankruptcy will let Ally focus on core auto, bank businesses

By Paul Deckelman

New York, May 15 - Ally Financial Inc. is not exactly kicking its problem child, Residential Capital LLC, out of the house - but executives of the Detroit-based automotive lender and banking company made it clear on a conference call Wednesday that they see ResCap's bankruptcy reorganization as a giant step in the right direction.

The move will get Ally out from under its troubled mortgage unit's myriad problems and ultimately, out of much, or even all of the whole volatile mortgage business, which currently includes some non-ResCap operations parent Ally itself runs.

Ally's chief executive officer, Michael A. Carpenter, told analysts on the quickly scheduled call that ResCap's Monday bankruptcy filing and some non-ResCap strategic actions Ally announced Monday - including the planned sale of all of its various non-U.S. operations and possibly, the eventual sale of a key element of its own non-ResCap mortgage business - "will accelerate our ability to repay the U.S. Treasury" some of the billions of dollars in TARP money Ally got from Uncle Sam during the 2008 financial crisis, and "substantially strengthen Ally's financial profile."

Moving out of mortgages

Carpenter also said that those actions would "take away the black clouds of [mortgage] contingent exposure that we've been dealing with for a long time, and really allow us to focus all of our energies and attention on building the two tremendously strong franchises we have, in the U.S. auto finance business and direct banking."

Ally's senior executive vice president for finance and corporate planning, Jeffrey J. Brown, said that mortgage assets at the Ally Bank level currently comprise less than 9% of the company's total assets "and will diminish over time," with Ally first looking to unload its mortgage servicing rights (MSR) operations to create "a very small mortgage footprint. If we're successful in delivering the Ally Bank MSR, you'll have no MSR on the balance sheet. You'll be a very clean, U.S.-centric auto finance company."

During the question-and-answer portion of the call following the formal presentations by Brown and Carpenter, the CEO told an analyst who questioned whether reducing geographic and operational diversification by focusing just on the U.S. auto loans and the direct banking operations would be in the best interest of the company's bondholders that "in the financial crisis we just went through, the single best-performing asset class in the entire banking industry was auto finance. . .if you look at what do consumers pay first, the answer is their car loans."

He stressed that given the problems other types of loans encounter and economic problems in Europe and other areas outside the U.S., "I don't think there's a better credit environment than auto loans in the U.S. I think, by the way, that's why the Ally bonds have done so well over the last month, in anticipation of the developments that have occurred."

Settle rather than scuffle

In his presentation, Carpenter pointed out that the decision to put ResCap into Chapter 11 was not made by Ally, but rather by the mortgage unit's own separate board of directors, with Ally supporting the idea and announcing several steps it will take in order facilitate ResCap's reorganization, most notably, making a $750 million payment into ResCap's bankruptcy estate from which creditor claims will be settled.

Carpenter declared that "we believe that the liabilities of ResCap do not penetrate to Ally. We would not have engaged in this process without having assured ourselves of that."

Instead, he said, "the purpose of the [$750 million] payment we're making is not because these claims concern us, but frankly, just to put the whole issue behind us and have as little noise on the subject as we possibly can."

The CEO elaborated on that point during the Q&A, opining that a bankruptcy proceeding with Ally kicking $750 million into the claims fund to give the creditors something would make more sense than ResCap trying to fight the various claims in court, since, given the latter company's constrained finances, "the only way that [creditors] could pursue a recovery outside of the bankruptcy would be to go after ResCap and then try to go after the parent," i.e., Ally.

He said that from a legal standpoint, such a strategy probably wouldn't work, "but we would have had many years of multi-billion-dollar lawsuits and headlines in the newspapers."

In such a case, he continued, "we would have [been involved] in lawsuits forever and we would have paid a good portion of what we settled for in legal fees. In the meantime, our bonds would have been trading like you-know-what. So the cost of a settlement relative to what we think the value is on our interest savings from just putting this behind us is a good economic trade."

Ally credit position improves

Carpenter said that even with Ally paying into the ResCap claims fund and providing some other forms of support during the reorganization process - Ally will also act as a "stalking-horse" bidder on the sale of up to $1.6 billion of ResCap's held-for-sale-mortgage loans, provide $150 million secured financing as part of ResCap's $1.6 billion debtor-in-possession funding, and assume some ResCap pension obligations, among other actions - the bankruptcy is still a good deal for his company.

"The benefits to Ally are pretty obvious - we don't have to fund $3 billion of [upcoming ResCap] bond maturities, which we did not see another way for ResCap to get done."

"We have put significant distance between us and these very large numbers of private-label securitization claims that have floated around. The earnings volatility in the [Ally] mortgage business is reduced, and it further streamlines the balance sheet and reduces risk-weighted assets."

He further said that the combination of the bankruptcy and decoupling ResCap from Ally, as well as the planned sale of Ally's international assets "give us tremendous resources to really take our auto franchise, which is already a leader, to the next level, and take Ally Bank to the next level, and we hope, will accelerate our path to investment grade and lower cost of funds over time.

Brown said that ResCap's actions "will have no impact on any of Ally's outstanding credit facilities or debt."

"From a liquidity perspective, we continue to maintain strong metrics, and these actions will improve them due to lower intercompany requirements going forward," Brown said.

While Ally will take a $1.7 billion earnings charge in connection with the ResCap bankruptcy and expects to have a slightly reduced earnings run rate in the near term as the result of the loss of mortgage-related revenues, the company's earnings stream "should be less volatile as our businesses and balance sheet are simplified."

He said that "addressing the contingent mortgage risk in this pre-arranged and organized manner, we believe, will lead to the capital markets, the ratings agencies and the investor community to have more confidence in the upside potential for Ally."

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