The long awaited CCAR results are in, and Bank of America (NYSE:BAC) has just announced that it will be increasing the company's dividend to $0.05 per share (from $0.01) as well as authorizing a new stock repurchase program of $4 billion.
While the dividend may be on target with most estimates, we'll have to wait and see how the market reacts to the lower than expected buyback program. Last year, Bank of America was allowed to buyback $5 billion in preferred shares and $5 billion of common compared to this years $4 billion repurchase plan. But management hinted that the $5 billion preferred shares were allowed only because it made "business sense" and would significantly lower the amount of money being paid as dividends on those shares. This was covered in several Q&A sessions, but I have seen so many different estimates incorporating the $5 billion spent on the preferreds that there is no telling how investors will react.
Now that the announcement has been made, I want to point out a couple of interesting points that investors should keep in mind going forward.
1. $1.8 billion of last year's $5 billion repurchase plan was not used as of 12/31/2013 and it expires at the end of this month. So, unless Bank of America repurchased that amount during the first 3 months of 2014, the new plan is not an actual increase of $4 billion.
2. The new buyback program allows for the repurchase of warrants in addition to common shares. I suggested this move in a prior article as a more efficient way to spend buyback money since shares have taken off and the same amount spent on one share would retire ~2.1 warrants (see prior article for more detail). And that's not factoring in (because it's impossible) the true number of shares that each warrant has the potential to convert into. For more detail on the adjustment please see the following SA article by Adam Jones (I hope you appreciate his work).
The bank's TARP warrants have not yet become dilutive and so have not affected diluted earnings per share, but Buffett's have and their inclusion completely wiped out the decrease of last year's $3.2 billion buyback. Bank of America bought back 231.7 million shares in 2014, while at the same time, Berkshire's (NYSE:BRK.A)(NYSE:BRK.B) warrants added 700 million to diluted shares outstanding.
In addition to protecting shareholders' slice of the pie, buying back warrants now would save Bank of America money in the form of future dividends. Investors just got a $0.04 per share quarterly raise, and there is no telling how much the bank will be paying at the end of 2018 when the warrants expire.
Today's announcement is a big win for investors, but I would be remiss if I didn't at least mention some of the very large headwinds that Bank of America faces. For one, shares (and the market) have already moved a lot over the past year and the possibility of a pullback or correction has to be given some thought. The bank's move has been afforded by major clean up of bad assets and debt reductions, but a lot of the most recent earnings have been supported by one-time adjustments and a rise in interest rates has the ability to severely deteriorate shareholders' equity. The recent announcement may entice new investors to get in, but 2014 is setting up to be a very tough year for all banks, and one where a more defensive position will need to be taken. Current investors are being rewarded, but short-term holders may start to take profits off the table if and when earnings growth fails to materialize.
Shareholders hoping for a big dividend payout have just been rewarded for their wait and I believe the buyback is in-line with most expectations (assuming you were listening to management's warnings). There were a lot of mixed signals from the CCAR report, but Bank of America has gotten through one of 2014's biggest tests and larger returns to shareholders are on the way.
Future announcements will be very interesting, and I'm looking forward to hearing more on the remainder of last year's buyback program and management's choice concerning repurchasing shares vs. warrants.
I encourage you to read/re-read the linked articles above for more information on the warrants. This news, in addition to the limited amount of warrants outstanding, could set off a lot of movement in the stock over the next few days.
I am a holder of both A and B warrants, so keep that in mind while you digest the information in this article (I have tried to temper my excitement, but I'm sure a little bit more got through than I wanted). In addition to this disclosure, I remind you this is not a promotion or advertisement to buy any shares discussed. I am not an investment professional. Thanks for reading, I appreciate all feedback!
Disclosure: I am long BAC, BRK.B. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I am long BAC through warrants.