MuniMae in unusual deal with Merrill Lynch unit An option incentive in the bond business

Securities industry

March 24, 1998|By William Patalon III | William Patalon III,SUN STAFF

Municipal Mortgage & Equity LLC, the Baltimore-based bond investor better known as MuniMae, has struck an unusual deal with Merrill Lynch Capital Services Inc. that underscores how the local company is pushing for ways to boost its business.

MuniMae, which invests in tax-free bonds backed by apartment complexes, has agreed to manage a $120 million tax-exempt bond portfolio that Merrill Lynch is helping another company to buy. To give MuniMae incentive to do the job well, the two companies entered into a "put" option contract which gives Merrill Lynch the right to sell -- and MuniMae the obligation to buy -- the bonds should their value drop. Under the three-year agreement, MuniMae will receive an annual fee of roughly $240,000, the company said.

The options could also serve as a hedge for Merrill against the value of the bonds falling.

"This is an extremely interesting transaction from a conceptual point of view," said Mark K. Joseph, chairman and chief executive officer of the company, which has headquarters on North Charles Street.

Despite the modest fee, Joseph said, arrangements such as this one will help fuel MuniMae's growth because it will become a better-known player in the municipal bond market. It also will help the company get a much better handle on bonds that could be added to its portfolio.

The holder, or buyer, of a put option has the right -- but not the obligation -- to sell a security at an agreed-upon price. The seller or "writer" of a put option has the obligation to buy that security at the agreed upon price. In this case, Merrill Lynch holds the put, MuniMae was the writer and the agreed-upon price for the bonds is $105 million. That would be a real bargain at the bonds' current value of $120 million, but could be a white elephant if the apartment complexes backing the bonds were to see their value drastically drop.

MuniMae got into the deal, Joseph said, after it tried to buy a portfolio that included these tax-free bonds. The bidding got too rich for prudent MuniMae, and another company won the auction, with Merrill Lynch financing the acquisition for the other company. Now, MuniMae will manage the bonds as if it had won the bidding.

MuniMae is a public company whose shares trade on the American Stock Exchange. Its goal is to generate mostly tax-free dividends for its investors while also pushing up its stock price.

MuniMae is confident about the bonds' safety because of the rigorous examination it conducts when it bids on bonds: It strikes deals with the property owners to have a say in management and invests only in those apartment developments where cash flow significantly exceeds the amount of money needed to make payments on the debt.

MuniMae knows that the apartments that back the Merrill Lynch bonds easily meet these requirements because it checked them out as it readied its unsuccessful bid for the auction, Joseph said.

And giant Merrill Lynch, a longtime MuniMae partner that helped the company make the transition from closed-end partnership to public company in 1996, felt a smaller company with the expertise of MuniMae would do a better job shepherding the bond portfolio, according to Joseph.

MuniMae shares closed yesterday at $21.25, down 19 cents.

Pub Date: 3/24/98

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