Five steps to reviving Countrywide

NEW YORK (Fortune) -- An emergency $2 billion cash injection by Bank of America didn't lift Countrywide Financial Corp. stock for long. That's because the only things that will get investors excited about the troubled mortgage company is much more extensive data on Countrywide's loan portfolio - and a CEO who knows when to keep his mouth shut.

Bank of America (Charts, Fortune 500) said Thursday that it invested $2 billion in Countrywide (Charts, Fortune 500) securities yielding 7.25% that can convert into common stock at $18 per share. That price is well below the $21.82 that the stock was trading at before news of the deal came out. Because the nation's second largest bank put such a low price-tag on the deal, a new round of speculation has begun about how bad things are at Countrywide, which recently had to draw down an $11.5 billion credit line after other loans had dried up.

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In Thursday trading, an early rally in the stock sparked by the deal soon sputtered. Countrywide stock closed up slightly at about $22 a share. Countrywide didn't return a call seeking comment for this article.

When the deal was announced, bulls were able to argue that the $2 billion injection ensures that Countrywide can avoid a full-blown liquidity crisis that could have led to bankruptcy. But skeptics need only point at the $18 conversion price, which strongly suggests that Countrywide will take some huge charges to reflect the extreme weakness in its business and the mortgage market as a whole.

In other words, there have to be some unmistakably positive developments to persuade investors to pay more than Bank of America. Here are five things that could, collectively, spark a sustainable rally in Countrywide stock. If they don't happen in the next two months, expect the shares to languish or even fall from current levels.

1) What investors want most of all is hard, honest data out of Countrywide. The numbers, if revealed, can be bad (but not nightmarish). After all, the market is already pricing in a massive slowdown in earnings, so dependable clarity on how bad things are could actually prompt a move up.

So, the first thing the company needs to do is tell us the value of key assets on its balance sheet. Most importantly, investors want to know about "non-conforming mortgages", which are mortgages that don't qualify to be purchased by Fannie Mae (Charts) and Freddie Mac (Charts, Fortune 500), the government-sponsored entities that provide huge support to the U.S. mortgage market. Non-conforming mortgages are an important asset to have numbers on because if Countrywide can't sell them to Fannie or Freddie, it almost certainly has to keep a large proportion of them on its own books, which means they have to be funded with borrowings - not easy when the credit markets have closed down on the company.

In particular, investors need to know how many nonconforming mortgages were added after the quarter ended June 30, 2007, the latest period for which there is some data. "How much of these non-conforming mortgages are there? $10 billion $20 billion? $30 billion?" asks Gary Gordon, banks analyst at Portales Partners. (Gordon rates Countrywide a buy and he is neither long or short the stock.)

2) Countrywide has to come clean on how much short-term debt it can actually borrow. It's not at all clear how much short-term borrowing capacity it has left. We know about the $11.5 billion credit line. But what else is available? The Bank of America investment may have made short-term private sector creditors more eager to lend to Countrywide, but enough corporate rescue attempts have gone wrong for people to know that Bank of America may have decided to invest no more than $2 billion.

3) Countywide needs to inform the market about how much it can effectively borrow from the Federal Home Loan Bank, the government bank that lends to mortgage lenders. The FHLB only makes loans that are well collateralized. At the end of the second quarter, Countrywide had borrowed $29 billion from the FHLB. It could borrow a lot more, but exactly how much depends on the quality of the assets that it can use as collateral for these advances. If it doesn't have sufficient high quality assets, its borrowing could be much lower than some analysts think.

4) Countrywide has to give much clearer guidance on the number of bad loans in its loan portfolio at the bank. Past-due loans were 1.4% of loans at Countrywide's bank at the end of the second quarter, a huge jump from 0.33% a year earlier. And on the second quarter conference call, Countrywide executives gave a garbled explanation of why loans to people with supposedly good credit histories were going bad. It felt like no one knew what was happening with credit quality. And that has to change.

5) Finally, Countrywide CEO Angelo Mozilo, who built the firm and is still the driving force behind it, needs to change his communication style immediately. First, he has to stop blaming people outside Countrywide for the company's problems. On the second quarter earnings conference call, he complained that the Federal Reserve had raised interest rates too many times. (They were supposed to run monetary policy just for Mozilo?)

And in a CNBC interview Thursday Mozilo made absurd accusations against a Merrill Lynch (Charts, Fortune 500) analyst who had mentioned bankruptcy as one possible outcome for Countrywide in a research note earlier this month. (The analyst was merely voicing a concern that many in the market already shared.) Mozilo has to understand that in times of crisis, CEOs need to show that they can shut up and get down to crisis management. Old tricks - like outspoken attacks on skeptics - just add to the nervousness.

In fact, one huge way Mozilo could bring some stability back is to invest in Countrywide himself. No one begrudges him making a fortune from selling Countrywide stock -- he built a great business, after all. But surely now is the time to plow back some of the $470 million he has raised in proceeds from stock sales since Oct. 2003, according to Insiderscore.com. In other words, he needs to shut his mouth and then put his money there.

Some analysts are bringing their estimates of Countrywide's annual earnings down to as low as $2 per share. If it were to trade at nine times those earnings, we'd get the $18 that Bank of America is prepared to pay. Countrywide can probably earn more than $2 per share once the mortgage market stabilizes, so the stock will look interesting around current levels to investors. But don't expect any huge move upwards unless we see the company start talking sense and giving out some meaningful data.