By Donal Griffin and Michael J. Moore on July 19, 2012

Citigroup Inc. (C) ( C ) , the third-biggest U.S. bank, said it may incur a “significant” third-quarter charge after Morgan Stanley (MS) ( MS ) submitted an unexpectedly low valuation for the banks’ jointly owned brokerage.

Morgan Stanley’s estimate of the fair-market value of the Morgan Stanley Smith Barney unit is about 40 percent of what Citigroup believes the brokerage is worth, according to a regulatory filing. Citigroup valued its 49 percent stake in the venture, with more than 17,000 advisers and $1.74 trillion in client assets, at about $11 billion, its filing yesterday shows.

The differences in estimates by the two firms, who are negotiating terms for Citigroup’s sale to Morgan Stanley of a 14 percent stake in the venture, created the need for a third-party appraiser, according to the filing. Citigroup may take a $3.3 billion writedown on the sale in the third quarter, Ed Najarian, an analyst at International Strategy & Investment Group Inc., said in a note. That would exceed the $2.88 billion average profit estimate ( C ) of 13 analysts in a Bloomberg survey.

“It certainly would be disappointing if the writedown turns out to be that large,” Gerard Cassidy, a Royal Bank of Canada analyst based in Portland, Maine, said in a phone interview. “It’s like labor arbitration. Both sides know if they go really wide with the arbitrator, that’s going to influence the middle of the road.”

Citigroup still believes its estimate is “reasonable and supportable,” the company said in the filing. The deal between the two New York-based banks is set to be completed by Sept. 7.

Stake Revaluation
Najarian assumed that the third-party appraiser would value Morgan Stanley Smith Barney “close to the midpoint” of the two firms’ estimates, according to the note. Citigroup would have to revalue its stake to $7.7 billion from $11 billion under this scenario, Najarian wrote.

Jeanmarie McFadden, a Morgan Stanley spokeswoman, and Citigroup’s Shannon Bell declined to comment on Najarian’s calculations.

Citigroup Chief Executive Officer Vikram Pandit, 55, tagged the unit for sale in 2009 after the bank took a $45 billion U.S. bailout. Morgan Stanley acquired a controlling stake that year and has a right to buy the entire brokerage.