BAC-WT - Bank of America Warrants

[xazp]

OK I see why too now.  It seems like they took a big legal hit, but simultaneously warned of a new round of investigations/litigation.  So they're running hard to stay still. 

 

Now, I don't have a direct line to either Buffett or Moynihan (sorry) but the common sense would be, when they take one large legal hit (the FHFA settlement) they dump a bunch of other stuff at the same time.  You'll notice for example, they included another settlement with FGIC, which at BAC's option could have gone in Q2. 

 

I still think the underlying results look pretty good though.  Look at their capital - after this $6bn charge, and after returning $1.5Bn in capital, their Basel 3 ratio went up. This actually implies in the alternate world (i.e. next quarter) when they don't have a big legal charge, they could have returned $7.5Bn and still seen their B3 ratios go up.  That's kinda amazing.  Here's to $30Bn in annual buybacks (kidding, kidding, though only partially). 

 

 

 

 

Did Buffett agree to amend the terms of the warrants/preferred deal only under the condition that they do a "big bath" and boost the legal reserve once and for all?  Or is it going to be a continuation of abuse to our trust -- tell us at most another $6.1b, then take a $6b charge, then tell us just another $5b, then another $5b charge, then tell us just $3b more, then $3b charge.

 

I think I know why the stock reaction is negative today.  However, the stock hasn't been this low for like... 48 hours.  So it's hardly new territory if put in recent historical context.

[ERICOPOLY]

Look at their capital - after this $6bn charge, and after returning $1.5Bn in capital, their Basel 3 ratio went up. This actually implies in the alternate world (i.e. next quarter) when they don't have a big legal charge, they could have returned $7.5Bn and still seen their B3 ratios go up.  That's kinda amazing.  Here's to $30Bn in annual buybacks (kidding, kidding, though only partially). 

 

Yeah, but in that alternate world (and in this one) they benefitted from the deal with Buffett -- which was a one-time thing in Q1 that won't happen again.

 

Anyhow, a $6b charge is only like $4.2b after tax, which is only 37 cents per share.  As long as their comments from just two months ago can be relied upon, and this is really $6b out of the remaining $6.1b of charges...  ohhh.... forget it  :-[  So best guess, is it another $6b?

[xazp]

You'll have to wait for the Q, unless they talked about it on the CC (I haven't listened yet).  Often they list the "maximum possible legal" in the presentation and this time they didn't.  Of course that "maximum legal" is heavily qualified - "by what we know, and in these particular areas of litigation"

 

You are right about the Buffett thing - doh, that slipped by me, sorry.  That should have added $5Bn in B3 capital, right?  My mistake. 

 

 

Look at their capital - after this $6bn charge, and after returning $1.5Bn in capital, their Basel 3 ratio went up. This actually implies in the alternate world (i.e. next quarter) when they don't have a big legal charge, they could have returned $7.5Bn and still seen their B3 ratios go up.  That's kinda amazing.  Here's to $30Bn in annual buybacks (kidding, kidding, though only partially). 

 

Yeah, but in that alternate world (and in this one) they benefitted from the deal with Buffett -- which was a one-time thing in Q1 that won't happen again.

 

Anyhow, a $6b charge is only like $4.2b after tax, which is only 37 cents per share.  As long as their comments from just two months ago can be relied upon, and this is really $6b out of the remaining $6.1b of charges...  ohhh.... forget it  :-[  So best guess, is it another $6b?

[vinod1]

Are you guys adjusting for the $0.9 to $1.0  billion in retirement costs that they make every 1st quarter when you estimate $0.35 this quarter? They had this every year for last several years.

 

Vinod

[xazp]

Nope - good point.  I'm a little rusty on my BAC, I admit :). 

 

Are you guys adjusting for the $0.9 to $1.0  billion in retirement costs that they make every 1st quarter when you estimate $0.35 this quarter? They had this every year for last several years.

 

Vinod

[damianolive]

Litigation expense estimate, actual expense following year (billions), Actual/Estimate:

- 2010 10K: $1.5, $5.6, 373%

- 2011 10K: $3.6, $4.2, 117%

- 2012 10K: $3.1, $6.1, 197%

- 2013 10K: $6.1, $6.0 in 1Q alone, 98%

 

I wonder how regulators think about this. Citi gets penalized for not being able to project losses. Does the Fed think BAC's management is good at this?

[ourkid8]

This is great news as I believe they have fully exhausted their $5B 2013 buyback authorization and the new $4B now kicks in.  It's a shame I am modeling out only $1B/quarter...  :-( 

 

Tks,

S

 

BAC repurchased 87 million shares during Q1

 

Dec 31st share count was 10.591 billion

Mar 31st share count was 10.530 billion

 

The net reduction was 61 million shares. Isn't Q1 the quarter with the most issuance for compensation? I was expecting an even smaller net reduction.

 

And, while the $4 billion buyback is weak... Book value & TBV are both up on the quarter, and the share price is down hard.

[redskin]

http://online.wsj.com/news/articles/SB10001424052702304810904579505724180136420?mod=WSJ_hp_LEFTWhatsNewsCollection&mg=reno64-wsj

 

 

[xazp]

So a very quick and dirty estimate of underlying earnings:

 

-.05 reported

+.40 litigation charge

+.07 LAS expense in excess of normalized ($1.6Bn vs. $500MM normalized)

+.05 (pro-rating the retirement costs to $250MM). 

-------------

$1.88 annualized. 

 

I'm happy with the results.  There were plenty of banking headwinds in both mortgage and trading this quarter. 

 

 

 

Nope - good point.  I'm a little rusty on my BAC, I admit :). 

 

Are you guys adjusting for the $0.9 to $1.0  billion in retirement costs that they make every 1st quarter when you estimate $0.35 this quarter? They had this every year for last several years.

 

Vinod

[ERICOPOLY]

So a very quick and dirty estimate of underlying earnings:

 

-.05 reported

+.40 litigation charge

+.07 LAS expense in excess of normalized ($1.6Bn vs. $500MM normalized)

+.05 (pro-rating the retirement costs to $250MM). 

-------------

$1.88 annualized. 

 

I'm happy with the results.  There were plenty of banking headwinds in both mortgage and trading this quarter. 

 

 

 

Nope - good point.  I'm a little rusty on my BAC, I admit :). 

 

Are you guys adjusting for the $0.9 to $1.0  billion in retirement costs that they make every 1st quarter when you estimate $0.35 this quarter? They had this every year for last several years.

 

Vinod

 

What's up with the 200 million dollar "tax benefit"?  There was a 500 million dollar pre-tax loss, but it gets reduced by 40% to only 300 million (because of the tax benefit).

 

Is that something you need to adjust for?

 

I take it there should be some sort of tax benefit when you report a loss, but it's 40% of the total.

[vinod1]

So a very quick and dirty estimate of underlying earnings:

 

-.05 reported

+.40 litigation charge

+.07 LAS expense in excess of normalized ($1.6Bn vs. $500MM normalized)

+.05 (pro-rating the retirement costs to $250MM). 

-------------

$1.88 annualized. 

 

I'm happy with the results.  There were plenty of banking headwinds in both mortgage and trading this quarter. 

 

 

 

Nope - good point.  I'm a little rusty on my BAC, I admit :). 

 

Are you guys adjusting for the $0.9 to $1.0  billion in retirement costs that they make every 1st quarter when you estimate $0.35 this quarter? They had this every year for last several years.

 

Vinod

 

We need to adjust for NII for "market related" and credit losses. I find it easier to do everything pre-tax to Eric's point above.

 

Very quickly this is what I came up with but I am never comfortable with using one quarter to project out for an entire year.

 

-$0.7 billion pre-tax income

$5.75 billion of litigation (assuming $1 billion normalized annual rate)

$1.1 billion LAS expenses in excess of normalized $0.5 billion rate

$0.75 billion Prorated retirement costs

-$1 billion credit losses (normalized rate of $8 billion annual)

$0.3 billion for market related adjustments to NII

 

$6.2 billion pre-tax or at 30% tax rate about $17.4 billion annual net income.

 

Vinod

[xazp]

Have they given guidance on "normalized" litigation?  $4B/year sounds high to me, but I have no real context. 

 

One comment: it seems like BAC likes to do "kitchen sink" quarters periodically.  For example, I just glanced through each 2013 release, and they weren't mentioning any "one-timers."  So my suspicion is that for the next ~year or so, you see no big litigation reserves, then at some surprising moment, you'll get another few billion dollars. 

 

Sounds like to hit $2/sh in earnings, they need to either buy back a lot of shares (ha ha) or see interest rates go up? 

 

 

We need to adjust for NII for "market related" and credit losses. I find it easier to do everything pre-tax to Eric's point above.

 

Very quickly this is what I came up with but I am never comfortable with using one quarter to project out for an entire year.

 

-$0.7 billion pre-tax income

$5.0 billion of litigation (assuming $1 billion normalized)

$1.1 billion LAS expenses in excess of normalized $0.5 billion rate

$0.75 billion Prorated retirement costs

-$1 billion credit losses (normalized rate of $8 billion)

$0.3 billion for market related adjustments to NII

 

$5.45 billion pre-tax or at 30% tax rate about $15.3 billion annual net income.

 

Vinod

[vinod1]

Have they given guidance on "normalized" litigation?  $4B/year sounds high to me, but I have no real context. 

 

One comment: it seems like BAC likes to do "kitchen sink" quarters periodically.  For example, I just glanced through each 2013 release, and they weren't mentioning any "one-timers."  So my suspicion is that for the next ~year or so, you see no big litigation reserves, then at some surprising moment, you'll get another few billion dollars. 

 

Sounds like to hit $2/sh in earnings, they need to either buy back a lot of shares (ha ha) or see interest rates go up? 

 

 

We need to adjust for NII for "market related" and credit losses. I find it easier to do everything pre-tax to Eric's point above.

 

Very quickly this is what I came up with but I am never comfortable with using one quarter to project out for an entire year.

 

-$0.7 billion pre-tax income

$5.0 billion of litigation (assuming $1 billion normalized)

$1.1 billion LAS expenses in excess of normalized $0.5 billion rate

$0.75 billion Prorated retirement costs

-$1 billion credit losses (normalized rate of $8 billion)

$0.3 billion for market related adjustments to NII

 

$5.45 billion pre-tax or at 30% tax rate about $15.3 billion annual net income.

 

Vinod

 

I corrected the mistake. I was trying to say $1 billion in normalized annual litigation expenses. They have not mentioned anything other than to say that it would be highly variable. I had penciled in $2 billion for the next couple of years in my own estimates.

 

I get to $2 per share normalized longer term assuming some modest revenue growth when I do a bottom up estimate. Current revenues are likely cyclical low. Anything more is highly dependent upon buybacks reducing share count significantly.

 

Vinod

[xazp]

Your numbers seem reasonable, Vinod, and I also agree that revenues are cyclically low on two dimensions - both loan growth and NIMs. 

 

Another area where I think they will automatically improve: the $10Bn in cost cuts are incurring severance costs, but for whatever reason they never break this out that I can see. 

Citigroup does break those out, and for example they did $600MM in "repositioning" in 2013, I would think that BAC is probably above Citi's.  There might be another few hundred million per quarter there too. 

 

 

 

I corrected the mistake. I was trying to say $1 billion in normalized annual litigation expenses. They have not mentioned anything other than to say that it would be highly variable. I had penciled in $2 billion for the next couple of years in my own estimates.

 

I get to $2 per share normalized longer term assuming some modest revenue growth when I do a bottom up estimate. Current revenues are likely cyclical low. Anything more is highly dependent upon buybacks reducing share count significantly.

 

Vinod

[wescobrk]

"$0.7 billion pre-tax income

$5.75 billion of litigation (assuming $1 billion normalized annual rate)

$1.1 billion LAS expenses in excess of normalized $0.5 billion rate

$0.75 billion Prorated retirement costs

-$1 billion credit losses (normalized rate of $8 billion annual)

$0.3 billion for market related adjustments to NII

 

$6.2 billion pre-tax or at 30% tax rate about $17.4 billion annual net income."

 

Vinod,

What do you think is an appropriate multiple for that 17 billion?

Thanks

 

[ERICOPOLY]

Vinod,

What do you think is an appropriate multiple for that 17 billion?

Thanks

 

This is the question I'm always grappling with.  I would think the multiple would be higher than historical, given the relative safety of the business these days (higher capital ratios, less leverage).  Oh well, no premium given for safety so far.

[Rabbitisrich]

There is also a deduction for amortization of intangible assets, which amounted to $1.1 B last year. It will take off about $938 MM for 2014. I think that Buffett argued that amortization schedules aren't sensible for such assets because their fair value with the value of BAC's service.

[vinod1]

"$0.7 billion pre-tax income

$5.75 billion of litigation (assuming $1 billion normalized annual rate)

$1.1 billion LAS expenses in excess of normalized $0.5 billion rate

$0.75 billion Prorated retirement costs

-$1 billion credit losses (normalized rate of $8 billion annual)

$0.3 billion for market related adjustments to NII

 

$6.2 billion pre-tax or at 30% tax rate about $17.4 billion annual net income."

 

Vinod,

What do you think is an appropriate multiple for that 17 billion?

Thanks

 

wescobrk,

 

I agree with Eric, since banks are heck of a lot safer compared to mid 2000's when they used to sport multiples of 10-12, I think they should be priced at a higher multiple. If it were valued at what a businessman would buy in a private market transaction, I think they would be worth 15 times normalized earnings. Really well run and simple banks like MTB trade almost at these multiples.

 

Of course, I do not expect any of the big banks to be valued at a 15 multiple, but 12 multiple would be reasonable.

 

I calculated the $17 billion number just because xazp is using the quarterly numbers to do a quick calculation and I was just trying to round out the calculations by including a couple of items that were not included. I am much more comfortable taking each LOB, looking at past history and putting a normalized number for each revenue and expense item. I get higher numbers from this calculation than $17 billion.

 

Using a single quarter like this 1st quarter there are several revenue items that are not at normalized levels

1. Mortgage banking income is really low

2. Trading profits are much higher than normal

3. There are a few one off gains of about $0.4 billion

 

So looking at a one quarter numbers might give a misleading picture of profitability.

 

Vinod

 

 

[vinod1]

There is also a deduction for amortization of intangible assets, which amounted to $1.1 B last year. It will take off about $938 MM for 2014. I think that Buffett argued that amortization schedules aren't sensible for such assets because their fair value with the value of BAC's service.

 

I would completely agree. Thanks for pointing this out.

 

Updated to include intangibles:

 

-$0.7 billion pre-tax income

$5.75 billion of litigation (assuming $1 billion normalized annual rate)

$1.1 billion LAS expenses in excess of normalized $0.5 billion rate

$0.75 billion Prorated retirement costs

-$1 billion credit losses (normalized rate of $8 billion annual)

$0.3 billion for market related adjustments to NII

$0.24 billion for amortization of intangibles

 

$6.44 billion pre-tax or at 30% tax rate about $18 billion annual net income.

 

Vinod

[wescobrk]

"This is the question I'm always grappling with.  I would think the multiple would be higher than historical, given the relative safety of the business these days (higher capital ratios, less leverage).  Oh well, no premium given for safety so far."

 

The safest bank out there (at least large bank)is wells Fargo.

I haven't looked at it too close but I think the forward multiple is 11.

A 12 multiple sounds reasonable to me as well but the market isn't giving it yet.

Maybe they (and bac) will get the 12 multiple in late 2015 if the Fed finally raises rates (for NIM).

 

I bought bac for the first time since Jan when it dipped below 16.

It looks a little cheap to me.

 

Maybe citi can get an 11 forward multiple once they can show they can prove to the market they can pass ccar.

 

[onyx1]

Vinod,

What do you think is an appropriate multiple for that 17 billion?

Thanks

 

This is the question I'm always grappling with.  I would think the multiple would be higher than historical, given the relative safety of the business these days (higher capital ratios, less leverage).  Oh well, no premium given for safety so far.

 

Higher capital levels are here to stay and they will trim ROEs.  Because of TBTF dynamics, big banks will be slow growers leading them to payout most of their earnings once the business stabilizes.  In this scenario, low ROEs won't matter and the multiple should be applied to a no/slow growth EPS.  Normalizing this quarter's results and giving a little forward credit to expense reductions I see a current multiple of 11-12.  I don't expect this to change in this environment.

 

The next leg up for earnings will come from a significant increase in rates.  Unfortunately, with higher rates come lower multiples that will offset the higher EPS.  After 2 1/2 years as an owner, I don't see a path to a significantly higher stock price from here.

[wescobrk]

Higher capital levels are here to stay and they will trim ROEs.  Because of TBTF dynamics, big banks will be slow growers leading them to payout most of their earnings once the business stabilizes.  In this scenario, low ROEs won't matter and the multiple should be applied to a no/slow growth EPS.  Normalizing this quarter's results and giving a little forward credit to expense reductions I see a current multiple of 11-12.  I don't expect this to change in this environment.

 

The next leg up for earnings will come from a significant increase in rates.  Unfortunately, with higher rates come lower multiples that will offset the higher EPS.  After 2 1/2 years as an owner, I don't see a path to a significantly higher stock price from here."

 

Just to clarify, I was referring to forward earnings estimates.

Bac currently is at 10x forward earnings.

A move to 11 or 12 could bring 10 or 20 percent return.

I believe wells is 11x forward earnings.

 

[wescobrk]

Wells this morning is at 11.5x forward earnings estimates.

This leads credence to forward 12 multiple at some point for banks as they will be able to pay a higher percentage of their earnings each year.

 

[ERICOPOLY]

After 2 1/2 years as an owner, I don't see a path to a significantly higher stock price from here.

 

Agree with that.  I think there is a decent shot of there being $1.80 in net income buried under the expenses, that will emerge towards the tail end of 2015.  So the upside from here is based on a multiple of that.  $18-$21.60 (at 10x-12x).  And then discounted a bit to account for the ongoing frustration of the Fed hiking unofficial capital requirements at their will (for example, this year the Fed has got them squirreling away another $10b roughly as the excess amount they should be generating but aren't allowed to return).

 

I allocate the $10+b DTA value to continued legal reserve surprises.

[racemize]

general question--is there a point when tangible book value per share will start increasing meaningfully?  A few years back, I assumed there would be some growth in it each year, but that really hasn't been the case.  I would assume that at some point, it has to start growing, but haven't really seen any significant progress on that front.