Bank Of Lynch Estimates TEPCO Losses Up To ¥10 Trillion, Believes Firm Is TBTF For Bond Impairments

After losing almost 80% of their investment in 3 weeks, here come more bad news for TEPCO shareholders. According to Yusuke Ueda analyst for Bank of Lynch TEPCO shareholders may be wiped out by clean-up costs and liabilities. "The amount of compensation demanded of TEPCO will also vary considerably depending on how long it takes to resolve the nuclear reactor crisis. Below we set out our assessment of the nuclear power damage under the scenarios we envisage and of TEPCO’s credit enhancements in each scenario. We think TEPCO will face compensation claim demands of less than ¥1tn if the nuclear reactor accident can be resolved swiftly (roughly within two months). If the problems take a longer time to resolve (up to about six months or so), we estimate that compensation claims could amount to ¥2.4-3tn.The total could potentially reach ¥10tn under a worst-case scenario (about two years needed to resolve the nuclear power plant accident). Shareholders are very likely to be held liable, through capital reductions of a certain amount, so as to clarify responsibility for damage compensation, but given the principle of maintaining stable supplies of electric power, a scheme involving a default on the company's bonds is very unlikely to be adopted." Which means when the Nikkei opens up tonight look for another demonstration of Xeno's paradox where the stock continues selling off but never reaching zero.

As for CDS, Merrill America reaffirms our view that after surging to nearly 500, spreads will likely tighten all the way to JGBs as TEPCO's credit risk becomes equivalent to that of Japan:

We outline our views on TEPCO's bond and credit trends. As we just noted, a scheme involving a default on the company's bonds is very unlikely to be adopted. We thus do not see much likelihood of a drastic widening of spreads. If a compensation scheme involving clear government participation is proposed, the spreads may actually stabilize.

The same is applicable to TEPCO's CDS. If we consider the possibility of a portion of the unsecured loans being converted to equity, though, there could be ways for restructuring to apply, depending on these schemes (currently beyond our assumption). As long as these vague concerns exist, TEPCO's CDS and bond spreads are very likely to widen, even if such a scheme could not be thought of.

In any event, we think it is very unlikely that TEPCO will end up in legal bankruptcy, considering its importance as a provider of a key part of the infrastructure, electricity.

However, a crucial premise of the assumptions above is that the DPJ cabinet has a common-sense understanding of Japan's industrial infrastructure and the stability of the financial markets and financial system and will implement
reasonable reconstruction policies.

If the DPJ, as an election ploy and to bolster its approval ratings, demands that TEPCO cover a ridiculous amount of quake-related damages based on some needlessly vague criteria and without serious thought about how the damages will be covered, and as an arbitrary result TEPCO is pushed to seek legal bankruptcy protection, the outcome would be anything but industrial development. A second financial crisis, one originating in Japan, could arise as a result of a ¥5tn default and the market's loss of confidence in other utilities. We hope that the DPJ-ledgovernment recognizes that electric power companies, providers of a key part of the industrial infrastructure, and the financial system's stability are crucial conditions for reconstruction and will accordingly adopt balanced policies.

Let's all hope that Bank of Lynch is right and Japan realizes that America's preeminent bad mortgage bank, among others, will be very much impaired, unless losses are again socialized, and some of the world's biggest institutions are forced to be see full impairment on their bond holdings.... Where have we seen this before? Perhaps just to make sure, BAC should send in Hank Paulson with a three page term sheet explaining just how things really work in a central planned kleptocratic regime.

Full report:

TEPCO Merrill