Overview: Merrill Lynch CFO, next sub-prime casualty?

With the US investment banking community fretting about the reporting of
sub-prime related securities, it was only a matter of time before finance
directors moved into the firing line.

Jeffrey Edwards, Merrill Lynch’s CFO, will be the first to face searching
questions about his company’s reporting of the debt instruments, questions that
are raising doubts about his future at the bank.

What’s happened?

When the market for sub-prime derivatives collapsed, so too did the
mechanisms for valuing them on their books. Over the past few months, banks on
Wall Street have been issuing writedowns as if they were going out of fashion.

The lack of a market has led to many wondering how robust the models used to
value the instruments are, and how much investors can trust the figures being
put out by the banks.

Investors in Merrill Lynch have gone one step further, claiming that the bank
knew the instruments were not worth anything long before they said so, and that
they had been
persuaded to invest when they shouldn’t have.

CFO Jeffrey Edwards, who has been in control of Merrill’s finances since
2004, is now in the crosshairs of investors and others.

What’s going to happen?

Edwards is already in hot water. Merrill’s chief executive, E Stanley O’Neal,
was recently pushed out over problems in risk management, which Edwards was also
associated with.

The departure of Edwards, who is directly responsible for Merrill’s market
and credit risk management has been on the cards for months according to
industry watchers.
On sub-prime, O’Neal and Edwards had issued forecasts that the write-down would
be in the region of $5bn (£2.4bn).

This was far lower than the $8.4bn writedown announced recently and the
Securities and Exchange Commission is now looking into whether or not the bank
knew more than it was letting on. That comes on top of a $10bn class-action
lawsuit on the same issue.

The case is being brought by Coughlin Stoia Geller Rudman & Robbins, the
law firm best known for recovering $7.2bn for the victims of the Enron fraud.

The complaint says that the company’s statements ‘were materially false due
to their failure to inform the market of the ticking time bomb in the company’s
CDO portfolio due to the deteriorating sub-prime mortgage market’.

Merrill denies the claims, but it could be a sticky few months for Edwards
trying to fend off the most damaging allegations about the bank’s reporting.

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