BofA's State of Denial

The NYT finally gets one of the stress-test anonymice on the record today, in the person of Steele Alphin, BofA’s chief administrative officer, and what he said is flabbergasting:

Mr. Alphin noted that the $34 billion figure is well below the $45 billion in capital that the government has already allocated to the bank, although he said the bank has plenty of options to raise the capital on its own…

Mr. Alphin said since the government figure is less than the $45 billion provided to Bank of America, the bank will now start looking at ways of repaying the $11 billion difference over time to the government.

For one thing, you can’t just repay the $11 billion if you don’t think you need it any more: before any TARP funds are repaid, any bank needs to have weaned itself off the FDIC’s bank-debt guarantee program, among other conditions.

But more to the point, the minimum amount of tangible common equity that a bank requires under the stress-test is not the same thing as the maximum amount of capital, including preferred stock, that a bank reasonably needs to have. The stress-test capital requirements are in addition to regulatory capital requirements, not a replacement for them. And since the government’s preferred stock does count towards a bank’s regulatory capital, then you can’t just repay it on the grounds that it doesn’t count in the stress-test calculations.

It seems to me that BofA is in some weird state of denial here, where a $35 billion capital shortfall can be considered evidence that it actually has more regulatory capital than it really needs. What’s more, the bank now seems to be happy going on the record with this kind of analysis. Which doesn’t instill in me a great deal of confidence in its management.

Disclosure: No positions

Comments

[ralph schauss:]

This whole stress- test business, under the leadership of the FED and the Treasury, is being played out in public like in a banana republic. The leaks to the press, by design or ineptitude, are truly flabbergasting. Last Monday 27th of April, there is a deliberate leak thru the WSJ to undermine Ken Lewis for WED 29th - pathetic ! Then estimates range from zero, to 60 to 70 to 100 billion and then back to USD 10 billion in new capital for BAC - all this being watched under the trustworthy eyes of the FED and the Treasury with no comment, no stop to a constant rampage of rumours . Here we are told by the Grandees of the FED and the Treasury , this is a highly serious, respectable and very confidential matter. But every new day there is a new leak, one day the Rupert Murdoch's WSJ, then the FT in London, then the NY Times - all this depicts a highly shambolic and chaotic management by the official Great and Good in Washington. Truly amazing, truly shocking for the the credibility of our public finance leaders. Sayonara to trust, credibility, and integrity

Why do Ben and Tim not award a campaign medal of honour to Kern Lewis for having dsaved the US financial system from total collapse by gracefully doing the salvage of ML and C wide without holding a gun to the Fed's Chair ???

Greetings from London UK by Ralph Schauss-
even the FSA, the Treasury and BoE are dioing a better publich information act which is not plyaed out in the SUN , UK's leading rag sheet.

May 06 10:29 AM

[maximummarket:]

BAC has 27 billion they can convert, then 11.7 billion they can sell from some china holdings. They will probably have another record quarter from "trading revenues" ie insider trading and more bailout money passed through from AIG. That is where they got that "needs 35 billion" figure from. The stress test results will be based on what banks can do, not what they will need to do. It is all a game to make things better than expectations. We still have over 1.1 trillion in short fall from 3rd party estimations, not government and IMF analysts 275 billion bridge figures. Plus, buckle up for commercial real estate.

May 06 10:40 AM

[XRTrader:]

Hmmm. I think in this case we are focusing on the short term too much. Think about it. The government will not let BoA fail in this downturn. BoA is a massive institution with tons of resources. With Merrill, it has a solid ability to generate revenue/profit in a decent economy.

So, a bet on BoA is a bet on economic recovery. Also, lets keep in mind that when we talk about "massive" increases in bank stocks that this is a stock that would have to increase 200% from its current level to even get where it was last summer.

Disclosure: none.

May 06 10:56 AM

[Lee Eugene ...:]

To add to this mess, WFC said they now need 15 billion in new capital. All WFC has been trying to do is say they never wanted the money and want to give it back. I am with LilBob on this one. They want the pay caps reversed. The lack of secondary stock offerings are the tell.

May 06 11:26 AM

[Stock alot:]

If you play with Fire you will get burned... The Makret is very unstable so do what your mom always told you...

May 06 11:51 AM

[Jasper M:]

In fairness, convenient leaks of 'sensitive' information are Nothing new in DC.

May 06 12:24 PM

[asaf123:]

If the TARP Preferred assets are converted to common shares, doesn't that mean a huge dilution for existing share holders? Why would the existing common shares rally in that event?

May 06 01:01 PM

[chux08:]

Figures lie and liars figure, or something like that.

The banks & banksters are the used car dealers.... NO!! They're the HUCKSTERS of the financial world. If you can't trust your bankster....well, you KNOW the rest.

May 06 01:01 PM

[Anandakos:]

ASAF,

You are correct that converting the preferred to common would dilute the voting power of the existing common a great deal. However, it would remove an impediment to increased dividends for the common. The preferred dividend must be paid in full before one cent of common dividend can be paid.

The truth is that the vast majority of common shareholders don't give a fig about their voting rights. They sign management's proxy card or do the same on the web; they're only interested in potential capital gains and/or the common dividend.

That's why compensation has gotten so out of whack and incentives to game the system are rampant. The "owners" of the company aren't interested in its future, just on what they can sell the paper to the next greater fool.

On May 06 01:01 PM asaf123 wrote:

> If the TARP Preferred assets are converted to common shares, doesn't
> that mean a huge dilution for existing share holders? Why would
> the existing common shares rally in that event?

May 06 01:59 PM

[Big Al45:]

You are exactly right. And dilution means no dividend for at least 5 years. And without a dividend, bank stocks are nothing more than a short term trade.

Since bank stock investors are often retirees looking for supplemental income, conditions for a secondary equiity issuance are not favorable.


On May 06 01:01 PM asaf123 wrote:

> If the TARP Preferred assets are converted to common shares, doesn't
> that mean a huge dilution for existing share holders? Why would the
> existing common shares rally in that event?

May 06 02:00 PM

[levin70:]

"The stress-test capital requirements are in addition to regulatory capital requirements, not a replacement for them. And since the government’s preferred stock does count towards a bank’s regulatory capital, then you can’t just repay it on the grounds that it doesn’t count in the stress-test calculations."

Felix - are you sure that the results of the stress tests were inclusive of the TARP funds? I haven't read anywhere the details where this is so. If so, could you please indicate where you read such authoritative literature?

May 06 02:23 PM

[Roger Knights:]

"what he said is flabbergasting"

In effect he said, "What, me stressed?"

May 06 02:51 PM

[DapperDan:]

I believe there's a significant flaw in Felix's reasoning - the requirement for $34 billion in new capital is, I believe, based on the tangible COMMON equity ratio. As such, B of A is saying that is needs $34 in new common equity. This can be achieved a number of ways (1) asset sales (2) earnings (3) conversion if preferred to common and (4) new equity raise. Regardless, the B of A spokesman is saying, as has been said numerous times about a lot of banks - B of A is overcapitalized - but due to the superpowered genius of short fearmongers everyone decided that COMMON equity is the only equity that counts because "it takes losses better", a line of logic that is a complete farce. That's how they can raise $34 billion in new common equity and repay TARP funds because TARP funds don't count in the TCE.

May 06 06:31 PM

[ZeroCred:]

Felix and DapperDan,

I came to the same conclusion as you DapperDan to an extent re: Felix analysis; the $34B is new dough based on a target of 4% TCE and 6% Tier 1 risk adjusted. The logic of the CAO at BAC is that they can perhaps convert the US_Gov Preferred into Common thus removing it as an obligation and then only owe $11B which through sale of CCBank shares, Columbia Funds, Visa interest or First Republic Bank can be met.

FWIW, the bull case here is PF for dilution of 30% and 'normalised' 2011 EPS of near $4.00 per share [*cough*] BAC is P/E cheap given its ROE ability.

Please no thumbs down for presenting bull case secondhand. Read Citi report today.

Disclosure: Been long and exiting BAC calls as the fix has been in for some time.

May 06 06:52 PM

[Moon Kil Woong:]

Citi's assesment will be even more laughable. Remember all these requirements are without the big black off balance sheet derivatives box being opened. That would be the real stress test. Apparently the Treasury believes in the see no evil, hear no evil mantra. No wonder this process has become a complete and utter joke with the Treasury probably leaking its own information to tailor the results to the market sentiment.

Let me tell the Treasury now, the market sentiment is very very cynical. I await their report fully expecting an F level paper (1 grade deduction for being late and 1 for cheating).

May 06 07:22 PM

[nyoneway:]

I guessed right on the (negative) results of the stress test, but I was painfully wrong on the subsequent market reaction.

May 06 08:39 PM

[Darius:]

You are exactly. If converting preferred to common satisfies the requirements, then "additional" capital is not required. The tangible book value of the company will be exactly the same after the conversion. Additionally, the conversion price per share would determine whether or not it is dilutive and by how much, an element that no one has yet discussed. A conversion would also eliminate over $2B in annual preferred dividends. The sale of other assets such as Columbia, CCB, Blackrock and First Republic are additional alternatives. BAC had $173B in cash and a $140B tangible net worth at 03/31/09. Tangible net worth minus preferred equity was about $70B; there were 6.4B common shares outstanding; so, tangible common equity per share was $11 per common share. If, for example, the conversion price is $22 per share for a total of $35B, then there would be an additional 1.6B of common shreas outstanding. So, you would have $105B in TCE on 8B shares resulting in tangible common equity pre share of about $13, even though the total net worth and total tangible net worth per share would be diluted.


On May 06 06:31 PM DapperDan wrote:

> I believe there's a significant flaw in Felix's reasoning - the requirement
> for $34 billion in new capital is, I believe, based on the tangible
> COMMON equity ratio. As such, B of A is saying that is needs $34
> in new common equity. This can be achieved a number of ways (1) asset
> sales (2) earnings (3) conversion if preferred to common and (4)
> new equity raise. Regardless, the B of A spokesman is saying, as
> has been said numerous times about a lot of banks - B of A is overcapitalized
> - but due to the superpowered genius of short fearmongers everyone
> decided that COMMON equity is the only equity that counts because
> "it takes losses better", a line of logic that is a complete farce.
> That's how they can raise $34 billion in new common equity and repay
> TARP funds because TARP funds don't count in the TCE.

May 06 08:52 PM

[inflate me:]

Might be time for everyone to get their dose of (FAZ)

May 06 11:58 PM

[searcher:]

"If the TARP Preferred assets are converted to common shares, doesn't that mean a huge dilution for existing share holders? Why would the existing common shares rally in that event?"

20% of a survivor is preferable to 100% of the contrary.

May 07 11:52 AM

[homogenik:]

Ken lewis should be arrested. His first duty is to his share holders not the american governement. Further more he has lied multiple times about the banks need for capital, it looks like he may also have lied in the paulson, lewis, bernanke he said he said fiasco.

He grossly overpaid for merrill lynch, performed zero due dilligence and lied about it. He is still lying today. Is that what it takes to be a successful ceo in amerca run your company into the ground while beinbg a lying. and while we are on the topic what did he know about the merrill lynch bonuses maybe both lewis and john thain may yet end up sharing a jail cell

On May 06 10:29 AM ralph schauss wrote:

> This whole stress- test business, under the leadership of the FED
> and the Treasury, is being played out in public like in a banana
> republic. The leaks to the press, by design or ineptitude, are truly
> flabbergasting. Last Monday 27th of April, there is a deliberate
> leak thru the WSJ to undermine Ken Lewis for WED 29th - pathetic
> ! Then estimates range from zero, to 60 to 70 to 100 billion and
> then back to USD 10 billion in new capital for BAC - all this being
> watched under the trustworthy eyes of the FED and the Treasury with
> no comment, no stop to a constant rampage of rumours . Here we are
> told by the Grandees of the FED and the Treasury , this is a highly
> serious, respectable and very confidential matter. But every new
> day there is a new leak, one day the Rupert Murdoch's WSJ, then the
> FT in London, then the NY Times - all this depicts a highly shambolic
> and chaotic management by the official Great and Good in Washington.
> Truly amazing, truly shocking for the the credibility of our public
> finance leaders. Sayonara to trust, credibility, and integrity<br/>
>
> Why do Ben and Tim not award a campaign medal of honour to Kern Lewis
> for having dsaved the US financial system from total collapse by
> gracefully doing the salvage of ML and C wide without holding a gun
> to the Fed's Chair ???
>
> Greetings from London UK by Ralph Schauss-
> even the FSA, the Treasury and BoE are dioing a better publich information
> act which is not plyaed out in the SUN , UK's leading rag sheet.

May 07 11:54 AM