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Citigroup, J P Morgan face Enron exposure

Citigroup Inc and J P Morgan Chase & Co Inc, which have combined to lend more than $1 billion to Enron Corp, are faced with potential losses of more than $400 million if the struggling energy trading group collapses, an analyst said on Wednesday.

Enron is on thin ice after its sale to Dynegy Inc unraveled on Wednesday and three credit rating agencies downgraded Enron's bonds to junk status. Citigroup and J P Morgan, which acted as advisors on the Dynegy deal, have total commitments to Enron of between $700 million to $800 million each, about half of which is unsecured, sources said.

Now, the payment of some of these loans could be in jeopardy.

Included in that exposure is a $1 billion joint credit line the banks extended to Enron when the Dynegy merger was announced. Enron has already drawn down the entire credit line, according to company spokesman Vance Meyer.

That credit line is fully secured by Enron's Trans Western and Northern Natural Gas pipeline systems. Northern Natural's future was somewhat clouded Wednesday by Dynegy's claim that it would exercise an option to buy the pipeline for $1.5 billion, but sources familiar with the situation said both banks expect to be repaid in full either way.

Both Citibank and J P Morgan declined to comment, although analysts said the impact on the company's bottom line could be very real depending on how the situation plays out.

"The after-tax impact to (earnings per share) -- should Enron go completely under -- based on Citigroup's 5.2 billion shares outstanding and J P Morgan's 2 billion shares outstanding would be less than $0.05 for Citigroup and $0.10 for J P Morgan," analyst Richard Strauss of Goldman Sachs said in a research report.

That works out to less than $260 million for Citigroup, and $200 million for J P Morgan. Such losses could cut Citigroup's fourth-quarter earnings per share by nearly 6 per cent, and slash J P Morgan's quarterly earnings by as much as 20 per cent, according to consensus analysts' estimates gathered by market research firm Thomson Financial/First Call.

Investors, wary of the banks' exposure to Enron, sold on Wednesday. Citigroup shares closed off $2.75, a 5.4 per cent decline, at $47.80. J P Morgan shares closed at $37.50, off $2.30, or 5.8 per cent. Enron shares plunged 85 per cent to finish off $3.53 at 61 cents. At one point in the past year, they traded as high as $84.88.

Still, sources close to the deal say the bank loans were not made haphazardly.

"There were a lot of people who had an interest in making this thing work and (the banks) were one of them," said one source familiar to the negotiations. "I don't think anybody was uncomfortable with it. It was part of a rehabilitation plan that could have worked."

In these tough economic times, analysts say banks such as Citigroup and J P Morgan have to swallow the risks of making big loans in return for a shot at more lucrative merger advisory and stock underwriting businesses.

"You've got to use your balance sheet to be competitive," said Meredith Whitney, an analyst at Wachovia Securities. "People are desperate, because the deal volumes are so weak."

One firm that stayed out of the Enron lending fray -- and was unsuccessful in its bid to advise on the Dynegy merger -- was Goldman, traditionally a leader in the merger and acquisition business.

Goldman declined to offer Enron a loan when it was looking for capital before the Dynegy deal appeared, according to a source familiar with the matter.

Goldman was not interested because of the uncertainty surrounding the company's future, which included a Securities and Exchange Commission investigation into Enron's books, the source said.

"Goldman deserves credit for missing it," said Tom Burnett, director of Merger Insight, an M&A research and analysis firm.

"The market will punish (the banks) that were involved in this because they were overcommitted and made risks that were not commensurate with the rewards," he said.

But Burnett and Whitney said the "one-stop shop" model for banking was one that will ultimately prove successful. Relaxation of federal banking regulations and a swarm of mergers has created a small group of financial services giants that can offer corporations everything from loans to merger advisory services.

Citigroup and J P Morgan are among the large firms that boast that the size their balance sheet -- and, more importantly, their willingness to use it -- give it an edge when wooing potential investment banking clients.

"I think we're in a global world. We're competing with big European banks, and the model is you enforce risk discipline on the big institutions that are in the game," said Burnett. "I'd keep the model."

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