Business context and reporting period
Bank of America Corporation filed this unaudited Form 10-Q for the quarter ended September 30, 2013. The bank holding company operates through Consumer & Business Banking, Consumer Real Estate Services, Global Banking, Global Markets, Global Wealth & Investment Management, and All Other. It reported approximately $2.1 trillion in assets. The Merrill Lynch & Co. merger into the Corporation closed October 1, 2013, after quarter-end.
Financial performance and condition
Unless noted, dollar amounts are in billions; comparisons are with the same 2012 period. FTE revenue and related ratios are non-GAAP.
- Third-quarter earnings: Net income was $2.497 billion versus $0.340 billion; diluted EPS was $0.20 versus $0.00. Net income applicable to common shareholders was $2.218 billion, compared with a $33 million loss.
- Revenue and margins: GAAP revenue was $21.530 billion, up 5%. FTE revenue was $21.743 billion, up 5%. FTE net interest income rose to $10.479 billion; net interest yield was 2.44%, up 12 basis points. The FTE efficiency ratio improved to 75.38% from 84.93%. Return on average assets was 0.47%.
- Credit and expenses: Provision for credit losses fell to $296 million from $1.774 billion. Net charge-offs were $1.687 billion, or 0.73% of average loans, versus $4.122 billion, or 1.86%. Noninterest expense declined to $16.389 billion from $17.544 billion; litigation expense was $1.1 billion.
- Nine-month results: Net income was $7.992 billion versus $3.456 billion; diluted EPS was $0.62 versus $0.22. GAAP revenue was $67.454 billion, up 4%; provision was $3.220 billion versus $5.965 billion; and noninterest expense was $51.907 billion versus $53.733 billion.
- Balance sheet and funding: At September 30, assets were $2.127 trillion, loans and leases $934.4 billion, deposits $1.110 trillion, long-term debt $255.3 billion, and shareholders’ equity $232.3 billion. Assets declined $83.3 billion and long-term debt declined $20.3 billion from year-end 2012.
- Capital and liquidity: Under the Basel 1–2013 rules, Tier 1 common, Tier 1, total capital and Tier 1 leverage ratios were 11.08%, 12.33%, 15.36% and 7.79%, respectively. Global Excess Liquidity Sources were $359 billion. Parent-company Time to Required Funding was 35 months, above the 21-month minimum target.
- Cash flow, nine months: Operating activities provided $80.8 billion, investing activities provided $7.3 billion and financing activities used $76.0 billion. Cash and cash equivalents increased $10.5 billion to $121.2 billion. Operating cash flow included significant trading, derivative and other asset/liability movements.
Material changes versus the prior comparable period
- Improved mortgage and credit-card credit trends drove lower charge-offs and provision, a smaller allowance, and improved reported earnings. The allowance for loan and lease losses fell to $19.4 billion from $24.2 billion at year-end 2012; nonperforming loans, leases and foreclosed properties fell to $20.0 billion from $24.9 billion.
- Lower deposit funding costs, reduced long-term debt and commercial loan growth supported net interest income. Mortgage banking income fell to $585 million from $2.019 billion in the quarter, reflecting a smaller servicing portfolio, weaker servicing and MSR performance, and lower production income.
- The quarter included a $753 million pretax gain from selling the Corporation’s remaining China Construction Bank shares. Lower negative fair-value adjustments on structured liabilities and lower derivative DVA losses also benefited comparisons with 2012.
- Consumer Real Estate Services remained loss-making: its third-quarter net loss was $1.0 billion, versus $857 million. Global Markets reported a $778 million net loss, versus $276 million.
Outlook, risks and unusual items
- Management outlook: The Corporation expected net charge-offs to decline again in Q4 2013 and stabilize during 2014 at approximately $1.5 billion per quarter, absent unexpected economic changes. If the economy and home prices continued to improve, it anticipated further allowance reductions, but at a lower level than in Q3.
- Cost program: Project New BAC targeted $8 billion in annualized savings by mid-2015, with approximately $1.5 billion in quarterly savings expected by Q4 2013. Legacy Assets & Servicing noninterest expense, excluding litigation, was expected to be below $2.0 billion in Q4; management also expected 60-days-or-more-past-due residential mortgages in the serviced portfolios to fall below 375,000.
- Unusual tax charge: A $1.1 billion tax expense resulted from remeasuring U.K. deferred tax assets after the enacted U.K. corporate tax-rate reduction. Management said it did not affect regulatory capital ratios.
- Mortgage and legal exposure: The representations-and-warranties liability was $14.1 billion. Possible losses were estimated at up to $4 billion above accruals, principally for non-GSE exposure and excluding monoline losses. Separately, the estimated aggregate range of possible loss for certain litigation and regulatory matters was $0–$5.1 billion above related accruals; the filing cautions that some matters cannot be estimated and actual outcomes could be material.
- Other key risks: Private-label mortgage repurchase claims remained unresolved and were expected to increase; the BNY Mellon settlement still required court approval. The filing also highlights mortgage servicing and foreclosure claims, mortgage-insurance recoveries, regulatory actions, debit interchange-fee rule changes, and uncertainty over final Basel 3 requirements and model approvals.
- Regulation and interest rates: Basel 3 capital rules were due to take effect in 2014, with implementation phased through 2018. Management estimated a fully phased-in Tier 1 common ratio of 9.94% under the Advanced Approach, assuming regulatory approval of internal models, and just above 9% under the Standardized Approach. The Corporation was asset-sensitive to interest rates, while higher rates had reduced the fair value of available-for-sale securities and affected accumulated OCI.
Important facts for investors to verify
- How much of the earnings improvement persists after the CCB gain, lower litigation expense, tax effects and other fair-value items?
- Whether mortgage-related claims, the BNY Mellon settlement and mortgage-insurance disputes lead to losses beyond recorded liabilities and disclosed estimates.
- Whether credit quality and home prices continue to improve, and whether charge-offs and allowance releases track management’s outlook.
- Whether Project New BAC achieves its savings targets without impairing revenue, service or controls.
- How final Basel 3 capital and liquidity rules, model approvals and rating-agency actions affect capital, funding costs and distributions.