Why Goldman Sachs is in deep trouble
The company has done everything wrong since it received a Wells notice from the SEC.
By Jim Cramer, TheStreet
Throughout last week we learned repeatedly about the holes in the government's case against Goldman Sachs (GS), holes that would make you think the government shouldn't have sued the company to begin with.
We know that emails were taken out of context; that Goldman lost a lot of money in mortgages, including $90 million on the synthetic CDO that's the focus of the government's case; that ACA Capital played a much bigger role in the selection of mortgages than hedge fund Paulson & Co.; and that Goldman didn't create anything it expected to fail because internally the firm was split on the health of the market.
But we are interested in stocks, not law. By the end of last week, Goldman's stock had finished below where it was when the news broke. If any of those points mattered to the company or its fortunes in the case, the stock would have regained some ground, especially after Goldman reported a shoot-the-lights-out quarter and received kind words from shareholder Warren Buffett.
So, if the case is so bad, why isn't the stock gaining?
I think it's because of a recognition by the marketplace that as long as the case isn't frivolous, Goldman remains in deep trouble. Even though two of five SEC commissioners chose not to vote in favor of charging Goldman with fraud, it's hard to argue that the case is frivolous.
There is enough evidence for someone to think that Goldman Sachs may not have been kosher in the way it marketed this faulty product, and that makes it reasonable to think the government's case deserves a full hearing. Post continues after video:
I think the SEC is under the gun after the beating it took from Judge Jed Rakoff on the Bank of America (BAC) settlement, so it has little desire to settle with Goldman. We don't know this, but I believe the commission wouldn't accept a settlement unless Goldman admitted to abetting intentional fraud, which would open up gigantic civil damages.If that's the case, it pretty much didn't matter what Goldman said or did or says and does. The case will go to a jury where the SEC's line -- that Goldman created a product that was meant to fail -- will prevail, because no jury is in the mood to find for Goldman and the defendant is about as unsympathetic as you can find in this country.
Still, Goldman has made so many tactical mistakes that, no matter what happens, the company's a huge loser. The stock is making that point loud and clear. For example:
1. The company's lawyers killed Goldman. They paid no attention to the state of play of the SEC's thinking. Goldman's lawyers knew that an enforcement action was contemplated. How could they not be on top of this? It is outrageous that Goldman Sachs was "surprised" that this action was brought. You pay your lawyers millions of dollars so this doesn't happen. It's incredible to me how badly Goldman and its law firm, Sullivan & Cromwell, botched the SEC's state of play. Unforgiveable. Surprised. How about, "We screwed up and didn't do our jobs?"
2. The company knew it was going to get sued. How could it not have its public relations machine ready? How did it let the government dominate in those first 48 hours so that everyone in America knew the government was good and Goldman was a bad actor? Goldman lost that battle that Friday and has not been able to catch up since.
3. Goldman was arrogant and ideological in thinking that it did nothing wrong so it didn't have to settle. Right and wrong are irrelevant when dealing with a government agency in this toxic environment. There is always a way to settle (even if the government wanted some intent, there is a way to finagle the fraud charge so the franchise is preserved). Judging by everything we have read, it just doesn't seem Goldman tried hard enough to reach a settlement. It should have worked harder.
4. Goldman doesn't seem to have its facts right. Did it invest by choice in this Abacus deal, which is what the company is making it sound like, or did Goldman just get hung and couldn't sell it? We don't know. But don't put it out there unless you tell us that you chose to invest in it, which we don't know.
5. Why did Goldman not disclose the Wells notice in the first place? It was most certainly material. Where were the lawyers on this? There is no two ways on this. There is no reasonable argument that it was not material, as Goldman's business is based on trust and confidence, and hiding the Wells notice is the equivalent of deceit.
6. Did Goldman CEO Lloyd Blankfein know all about this when he testified in front of the Angelides Commission? Did he bag that commission?
7. Did Goldman Sachs ever consult its board on this, or has management been freelancing? I think management has been flying solo.
All of these questions might be irrelevant if the government simply had decided it wouldn't settle no matter what. But I don't believe that -- not with two commissioners voting against the charges. I think that Goldman Sachs has created a situation where it can only settle by agreeing to pay a multibillion-dollar fine, certainly the largest ever paid, and perhaps by agreeing to having some of its top executives step down. That's how badly I think Goldman has handled this. The reputational damage is so great already that even if Goldman gets a favorable settlement, the tarnish is just horrific.
Which is why last Sunday I wrote that I thought Goldman Sachs will lose this case no matter how many things come out about how badly thought-out the government's case is.
Only this time I believe that maybe, after all of these mistakes, the punishment is more fitting, even if the case is less solid than I thought a week ago.
And that's why Goldman's stock didn't rally. I think Goldman and its lawyers have made nothing but wrong moves since the Wells submission, and those moves, not the government's case, explain why the stock can't and won't rally.
At the time of publication, Cramer was long Bank of America and Goldman Sachs.
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