Citicorp to Take Huge Loss to Cushion Bad Latin Debts

The 5-year-old Latin American debt crisis hit the nation’s financial system hard Tuesday as Citicorp, the nation’s largest bank holding company, announced that it will add $3 billion to its reserves for possible bad debts.

At a hastily called news conference timed to take place after the stock markets closed, Citicorp Chairman John S. Reed said the action will result in a second-quarter loss of $2.5 billion, the largest quarterly loss in U.S. banking history.

Reed said the bank expects a loss of $1 billion for all of 1987. Citicorp has not reported any losses since the Depression, more than a half century ago.

The bank’s action Tuesday was designed to “strengthen the Citicorp balance sheet,” Reed said. He insisted that the loss does not threaten the giant bank’s stability and that the enlargement of its loan loss reserves will provide a cushion against further shocks from troubled Latin American and other third-world borrowers.

The addition will raise Citicorp’s total loss reserves to $5 billion, about 3.75% of its total loans. But the bank said its primary capital, which includes loan-loss reserves, remains a healthy $14.5 billion, or 7.1% of total assets, well in excess of U.S. bank regulatory requirements.

Despite the size of the loss, some bankers and financial analysts agreed with Reed that the action is a positive one.

“In general, I think people will regard this as a healthy move because it is recognizing reality,” said the head of foreign lending at one bank on the East Coast.

“This is more of an accounting move than a really bad development,” noted Raphael Soifer, analyst for Brown Bros. Harriman & Co. in New York. “A really bad development would be if the Communists took over Brazil and repudiated their debts.”

Nevertheless, Soifer said, Citicorp’s action raises the possibility that the country’s other major banks will have to follow Citicorp’s lead. “It’s conceivable that most money-center banks will have to report losses in 1987,” Soifer said.

Many small regional banks have already set aside reserves for their relatively small exposure in Latin America. Other banks like J.P. Morgan & Co. and Bankers Trust New York Corp. can afford to follow the Citicorp example.

Concern About BofA

But there is serious concern in the banking industry about such large entities as BankAmerica Corp., Chase Manhattan Bank and Manufacturers Hanover, with weaker earnings and very large loan exposure in Latin America. Analysts say that they cannot afford to put aside reserves on the scale of Citicorp’s.

Analysts described the action as a tactical move to impress on Brazil and any other foreign nation considering suspending debt repayments that Citicorp is willing to take huge and painful losses rather than forgive the loans or soften their terms.

“This is a negotiating tactic. It clearly has the function of serving as a war chest for future talks with Brazil,” said Carl B. Weinberg, a Latin debt expert at the Wall Street investment firm of Shearson Lehman Bros.

“I suggest that Citicorp will be in a position no other bank is, in having entire medium-term loans to Brazil backed by reserves. Other banks will be up late tonight thinking about doing the same thing.”

But Reed repeatedly and vehemently denied that the step was designed to tighten the screws on Citicorp’s foreign debtors. “We are concerned that this might be misconstrued,” Reed said. “This is not a bargaining ploy.”

Under Study for Years

Reed said the action, which had been been in the works for several years and was approved by Citicorp’s board Tuesday, “resulted from a broad review of global economic trends and their potential impact on Citicorp’s major customers.”

He refused to estimate which countries might default on what loans.

Citicorp’s action was prompted by Brazil’s declaration Feb. 20 that it was suspending interest payments on $68 billion in loans to foreign banks. Citicorp has $4.6 billion in loans outstanding to Brazil, which is suffering severe economic trauma because of poor export sales and the collapse of a year-old anti-inflation program. Brazil is Citicorp’s largest debtor, followed by Mexico ($2.8 billion), Venezuela ($1.7 billion) Argentina ($1.4 billion) and the Philippines ($1.4 billion).

Reed said the step was not suggested by government regulators or accountants. But he said it had been approved by the Securities and Exchange Commission and was coordinated with other U.S. government agencies, including the Federal Reserve Board. He said that it had been viewed as “positive” by the government agencies and Citicorp’s competitors in the banking industry.

The move will allow Citicorp, which serves as the lead bank in negotiations with Brazil, to adopt radical solutions to Brazil’s repayment problems without worrying about how they will affect the bank’s profits. It marks the banking industry’s first concrete recognition that current approaches to resolving the debt impasse are not working and that banks will have to take big losses as the price of excessive lending to the Third World in the 1970s and early 1980s.

Plans Laid in Secrecy

Reed said the steps announced by the bank’s board Tuesday had been planned in utmost secrecy even though a large number of Citicorp executives were in on it. Over the weekend, he said, the heads of Citicorp’s Latin American subsidiaries were called to Miami to await a letter addressed to the presidents of the central banks of the countries involved.

“They went back to their respective countries,” he said, “and (were) told not to deliver the letter until the board had acted.”

But, despite the secrecy, Citicorp stock traded actively Tuesday and dropped $1.625, closing at $50.625 on rumors of some major action.

In Los Angeles, the brokerage firm of Jefferies & Co. announced that it was making its own market in Citicorp shares after trading closed in New York and said the price was between $44 and $48.

Staff writer John M. Broder in Washington contributed to this story.