BANK OF AMERICA CORP quarterly report, Q3 FY2011

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Bank of America Corporation — Q3 2011 Form 10-Q

Reporting period: Quarter and nine months ended September 30, 2011. Dollar amounts are in billions unless otherwise noted. The company operates consumer and commercial banking, markets, wealth management and related businesses; it reported $2.22 trillion of assets and approximately 290,000 full-time equivalent employees at quarter-end.

Financial performance

  • Q3: GAAP revenue, net of interest expense, was $28.45, up from $26.70 a year earlier. Net income was $6.23, versus a $7.30 loss; diluted EPS was $0.56, versus a $0.77 loss.
  • First nine months: Revenue was $68.57, down from $87.82. The company recorded a $0.55 net loss and a $0.15 diluted loss per share, compared with a $0.99 net loss and $0.21 diluted loss per share in 2010. Results included goodwill impairment charges of $2.60 in 2011 and $10.40 in 2010.
  • Q3 earnings quality: Major positive items included $4.5 of gains from fair-value adjustments on structured liabilities, a $3.6 gain on the sale of CCB shares, and $1.7 of derivative debit valuation adjustment (DVA) gains. These were partly offset by $2.2 of losses on other equity and strategic investments. A favorable tax rate also benefited net income.
  • Interest income and margin: Q3 net interest income on a fully taxable-equivalent (FTE) basis was $10.74, down 16% year over year; the FTE net interest yield was 2.32%, versus 2.72%. Nine-month FTE net interest income was $34.63, down from $39.98, as consumer loan balances and yields and investment yields declined. Low rates and a flatter yield curve continued to pressure margins.
  • Credit: Q3 provision for credit losses was $3.41, including $1.7 of reserve reductions; nine-month provision was $10.48, including $6.3 of reserve reductions. Net charge-offs were $5.09 in Q3, or 2.17% annualized, and $16.78 for nine months, or 2.41%, improving from $7.20 and 3.07% for Q3 2010 and $27.55 and 3.84% for the 2010 nine-month period. Management said credit trends improved across many portfolios, but housing-related credit remained a concern.
  • Expenses and margins: Q3 noninterest expense was $17.61, compared with $27.22, largely reflecting the absence of 2010’s $10.4 goodwill impairment. Nine-month expense was $60.75, including the 2011 $2.60 impairment. Excluding goodwill impairment, nine-month expense increased to $58.15 from $51.84, with higher mortgage assessments, legal costs and personnel expense. The Q3 FTE efficiency ratio was 61.37%; the year-earlier 100.87% was materially affected by goodwill impairment.
  • Cash flow: For the first nine months, operating activities provided $39.85; investing activities used $21.60 and financing activities used $43.54. Cash and cash equivalents declined $25.56 to $82.87.

Balance sheet, capital and liquidity

  • At September 30, total assets were $2,219.63, down 2% from December 31, 2010. Loans and leases were $932.53, down from $940.44; deposits were $1,041.35, up from $1,010.43.
  • Long-term debt declined to $398.97 from $448.43; commercial paper and other short-term borrowings declined to $33.87 from $59.96. Total shareholders’ equity was $230.25, compared with $228.25.
  • Regulatory capital ratios were 8.65% Tier 1 common, 11.48% Tier 1 capital, 15.86% total capital and 7.11% Tier 1 leverage. Risk-weighted assets declined $96 billion to $1.36 trillion. The company noted that future Basel III requirements and the phased exclusion of trust preferred securities could affect capital.
  • Global excess liquidity sources were $363, up from $336 at year-end; $119 was available to the parent company. Parent-company “Time to Required Funding” was 27 months against a 21-month target. The calculation included the $8.6 BNY Mellon Settlement liability, whose payment timing was uncertain.
  • Moody’s downgraded the Corporation’s long-term senior unsecured rating to Baa1 and short-term rating to Prime-2 in September; outlook remained negative. The filing says further downgrades could increase collateral needs, funding costs or liquidity pressure.

Material changes, outlook and risks

  • Mortgage exposure and litigation: The representations-and-warranties liability was $16.27 at September 30, versus $5.44 at year-end. The nine-month provision was $15.33, including $8.6 related to the BNY Mellon Settlement and $6.7 for other exposures. The filing estimates up to $5 of additional possible loss beyond existing accruals for non-GSE representations-and-warranties exposures; it says a possible range for additional GSE losses cannot reasonably be estimated. Unresolved repurchase claims were approximately $11.7.
  • The $8.5 BNY Mellon Settlement, plus estimated legal and related costs, remains subject to final court approval. Objections and court proceedings could delay or prevent approval; failure or withdrawal could materially change future losses. The settlement does not resolve every potential mortgage, securities, fraud or servicing claim.
  • Foreclosure delays and servicing remediation continued to raise costs. The company recorded $1.9 of mortgage-related assessments and waiver costs in the first nine months, including $1.3 of expected GSE compensatory fees. It expected such costs to remain elevated and faced ongoing regulatory investigations and borrower litigation. The filing estimates aggregate possible litigation and regulatory losses of $0–$3.6 beyond accrued liabilities for certain matters; this is not a maximum-loss estimate.
  • Management outlook: No consolidated earnings guidance was provided. Management expected allowance reductions to continue at a more moderate pace absent unexpected economic deterioration. Project New BAC Phase 1 targeted approximately 30,000 position reductions and $5 of annual expense savings by 2014; Phase 2 reviews were expected to continue through April 2012. No material New BAC expenses had been recorded through September 30.
  • Business actions and regulation: The company agreed to sell its Canadian consumer card business, expected to close in Q4 2011, and intended to exit European consumer cards. It announced plans to wind down the correspondent mortgage channel by year-end. Debit interchange rules were expected to reduce Q4 2011 debit-card revenue by approximately $475 million. Management also cited uncertainty from U.S. financial reform, the European sovereign-debt crisis, weak housing, low interest rates and market volatility.

Most important facts for investors to verify

  • Whether the BNY Mellon Settlement receives final court approval and whether its costs or scope change.
  • Whether mortgage repurchase claims, FNMA mortgage-insurance actions and foreclosure-related expenses exceed the company’s reserves and estimates.
  • How much Q3 earnings depended on credit-spread-driven valuation gains, the CCB sale and DVA, versus recurring operating performance.
  • Whether capital, liquidity and funding costs withstand further ratings downgrades and evolving Basel III requirements.
  • Whether Project New BAC achieves its stated savings and staffing targets, and whether card exits and debit-interchange changes affect revenue as expected.