Business context and reporting period
Bank of America Corporation’s Form 10-K covers the fiscal year ended December 31, 2012, with 2011 as the principal comparison. The company operates across consumer banking, consumer real estate, global banking, global markets, and wealth management. At year-end, it reported approximately $2.21 trillion in assets and 267,000 full-time-equivalent employees.
Financial performance and condition
| Metric | 2012 | 2011 |
|---|---|---|
| Revenue, GAAP, net of interest expense | $83.3 billion | $93.5 billion |
| Net interest income, GAAP | $40.7 billion | $44.6 billion |
| Net interest income, FTE basis | $41.6 billion | $45.6 billion |
| Net income | $4.19 billion | $1.45 billion |
| Net income attributable to common shareholders | $2.76 billion | $85 million |
| Diluted EPS | $0.25 | $0.01 |
| Provision for credit losses | $8.17 billion | $13.41 billion |
| Net charge-offs | $14.91 billion; 1.67% of average loans | $20.83 billion; 2.24% |
| Noninterest expense | $72.1 billion | $80.3 billion |
| FTE net interest yield | 2.35% | 2.48% |
| Efficiency ratio, FTE | 85.59% | 85.01% |
| Total assets / loans and leases | $2.21 trillion / $907.8 billion | $2.13 trillion / $926.2 billion |
| Deposits / long-term debt | $1.11 trillion / $275.6 billion | $1.03 trillion / $372.3 billion |
| Tier 1 common capital ratio | 11.06% | 9.86% |
Profitability improved, but revenue fell about 11%. The improvement in net income reflected lower credit-loss provisions, the absence of 2011 goodwill impairment charges, reduced litigation and personnel costs, and a 2012 income-tax benefit. The tax benefit included $1.7 billion related to foreign tax credits; the filing also reports a $788 million charge from U.K. tax-rate changes. Reported returns remained modest: return on average assets was 0.19%, and return on average tangible shareholders’ equity was 2.60%.
Credit indicators generally improved: year-end allowance for loan and lease losses declined to $24.2 billion from $33.8 billion, and nonperforming loans, leases and foreclosed properties fell to $23.6 billion from $27.7 billion. The allowance-to-loans ratio declined to 2.69% from 3.68%. The company cautions that 2012 credit statistics were affected by regulatory guidance on Chapter 7 bankruptcy loans and junior-lien home equity loans, as well as National Mortgage Settlement forgiveness; $2.8 billion of Countrywide home-equity PCI write-offs are excluded from the reported net charge-offs.
Cash and cash equivalents decreased $9.4 billion to $110.8 billion. Cash flows were $(13.9) billion from operating activities, $(37.2) billion from investing activities, and $42.4 billion from financing activities. Management stated that operating cash flows, available cash and funding access were sufficient for operating liquidity needs. Global Excess Liquidity Sources were $372 billion, including $103 billion at the parent company; parent-company Time to Required Funding was 33 months against a 21-month target. Regulatory capital ratios were reported under Basel I; the company’s estimated fully phased-in Basel III Tier 1 common ratio was 9.25%, subject to assumptions and regulatory approval.
Material changes versus the prior comparable period
- Revenue declined $10.1 billion. FTE net interest income fell $4.0 billion, principally due to lower consumer loan balances and yields, asset repricing and commercial loan spread pressure.
- Noninterest income declined $6.2 billion. Drivers included lower equity investment gains, negative structured-liability fair-value adjustments and derivative DVA losses. Mortgage banking income improved substantially as representations-and-warranties provisions fell to $3.9 billion from $15.6 billion.
- The provision for credit losses decreased $5.2 billion, and net charge-offs fell $5.9 billion, reflecting improving consumer and commercial credit trends and higher home prices.
- Noninterest expense decreased $8.2 billion, including no goodwill impairment charge versus $3.2 billion in 2011. Lower litigation and personnel costs were partly offset by a $1.1 billion provision for the foreclosure-review acceleration agreement.
- Long-term debt declined $96.7 billion, while deposits increased $72.2 billion. Total loans and leases declined $18.4 billion.
- Common diluted EPS rose from $0.01 to $0.25, although net income remained below the $4.63 billion 2011 figure calculated excluding that year’s goodwill impairment.
For the fourth quarter of 2012, revenue was $18.7 billion, net income was $732 million and diluted EPS was $0.03. The quarter recorded a $1.9 billion pretax loss and a $2.6 billion income-tax benefit.
Outlook, management commentary, risks and unusual items
- Mortgage settlements and claims: In January 2013, Bank of America agreed to the FNMA settlement covering loans with approximately $1.4 trillion of original principal balance. It paid $3.6 billion and repurchased specified loans for $6.6 billion, which it valued below the purchase price; substantially all covered outstanding and future repurchase claims were resolved. The BNY Mellon settlement remained subject to final court approval, with a hearing scheduled to begin May 30, 2013. Failure to obtain approval or withdrawal could materially alter non-GSE losses.
- Representations and warranties: The recorded liability was $19.0 billion at year-end. Management estimated possible losses of up to $4 billion above accruals; this is not a probable-loss estimate and principally addresses non-GSE exposures. It excludes certain litigation, servicing, securities-law, fraud and other claims that could be material but were not reasonably estimable.
- Foreclosure remediation: A January 2013 agreement replaced the Independent Foreclosure Review with accelerated remediation. Bank of America agreed to pay $1.1 billion and provide approximately $1.8 billion in borrower assistance. The separate National Mortgage Settlement includes approximately $7.6 billion of borrower assistance and $1.0 billion of refinancing assistance, with potential additional payments if commitments are not met.
- Mortgage servicing sales: Agreements announced in 2013 covered servicing rights on loans with approximately $317 billion of unpaid principal balance. Transfers were scheduled in stages during 2013 and were subject to required consents. Management expected servicing revenue to decline during transfers, with expenses also declining over time.
- Cost program: Project New BAC was expected to produce more than $5 billion of annualized Phase 1 savings by fourth-quarter 2013, with the full impact in 2014, and an additional $3 billion of annualized Phase 2 savings by mid-2015. Achievement and timing were uncertain.
- Credit and rates: Absent unexpected economic deterioration, management expected allowance reductions to continue in the near term, but at a slower pace than in 2012. The low-rate environment continued to pressure net interest yield. A parallel 100-basis-point rate increase was estimated to raise next-12-month net interest income by $4.2 billion, before any management response.
- Funding and regulation: Further credit-rating downgrades could raise funding costs, constrain market access or trigger collateral demands. A one-notch downgrade was estimated to require about $3.3 billion of additional collateral under specified contracts. Basel III, Dodd-Frank, the Volcker Rule, derivatives regulation and consumer-protection requirements could increase capital, liquidity, compliance costs or limit activities.
- Other exposures: The company identified housing-market weakness, mortgage-insurance rescissions, foreclosure delays, litigation and regulatory proceedings, market and counterparty risk, European sovereign stress, cybersecurity and operational disruption as material risks. Its direct and indirect exposure to Greece, Ireland, Italy, Portugal and Spain was $14.5 billion gross and $9.5 billion net of hedges at year-end.
- Other unusual items: The 2012 results included a $1.7 billion foreign-tax-credit benefit and negative fair-value adjustments on structured liabilities. The company also reported $4.2 billion of litigation-related expense for the year and disclosed an aggregate estimated range of $0 to $3.1 billion of possible litigation and regulatory loss above accrued liabilities for matters where a range could be estimated; this is not a maximum exposure.
Most important facts for investors to verify
- Reconcile GAAP results with FTE and other non-GAAP measures, and assess how tax benefits, structured-liability fair-value changes, derivative DVA and asset-sale gains affected earnings quality.
- Track the BNY Mellon settlement’s court approval and the evolution of mortgage repurchase, servicing, mortgage-insurance and foreclosure-related exposures, including losses beyond recorded reserves.
- Monitor the cost, valuation and integration of the FNMA loan repurchase and the completion and economics of announced mortgage-servicing transfers.
- Test whether credit improvement and reserve releases are sustainable, particularly in junior-lien home equity, legacy mortgage and PCI portfolios, and distinguish economic trends from accounting or regulatory reclassifications.
- Confirm capital and liquidity under final regulatory rules, including the fully phased-in Basel III assumptions, parent-company liquidity, rating-triggered collateral requirements and restrictions on subsidiary distributions.
- Measure delivery of Project New BAC savings against implementation costs, service quality and any effects on revenue or control functions.