BofA Capital Plan Gets Conditional Clearance From The Fed

The Federal Reserve’s annual stress test for banks did not go Bank of America’s (NYSE:BAC) way this time year, as the banking giant only managed to secure a conditional clearance of its capital plan (see Fed Stress Tests: The Winners And Losers Of Proposed Capital Plans). Although Bank of America met the quantitative requirement prescribed by the tests, the Fed observed that there were “weaknesses in certain aspects of Bank of America’s loss and revenue modeling practices and in some aspects of the BHC’s internal controls.” ^[1] The bank has until the end of September 2015 to address the deficiencies in its capital planning process and to resubmit a capital plan with the Fed.

Still, Bank of America is being allowed to deploy capital to shareholders with a $4 billion buyback and an unchanged quarterly dividend of 5 cents per share.  ((Bank of America Authorizes a $4 Billion Common Stock Repurchase Program, Bank of America Press Releases, Mar 11 2015))

The Federal Reserve’s skepticism towards Bank of America this time around was not entirely unexpected, though, as the bank admitted to an error in its capital ratio calculation last April – a month after the Fed approved its capital plan for 2014 (see BofA Forced To Suspend 2014 Capital Plan Due To Error In Ratio Calculations). The discovery resulted in the bank suspending its share buyback plan last year.

Given the bank’s roughly 10.5 billion outstanding shares, the 2015 capital plan entails a payout of roughly $6 billion to investors over Q2 2015 – Q1 2016. We maintain our price estimate for Bank of America’s stock at $18 – about 10% higher than the current market price.

See our full analysis for Bank of America’s stock here

Before the 2008 recession set in, Bank of America was generous with its policy of returning cash to investors, paying out between $7.6 billion and $10.7 billion in cash dividends to its common stock investors each year between 2005 and 2007. The bank also spent an average of $8 billion over these three years buying back its shares. But the economic downturn, and the added burden from the acquisitions of Countrywide and Merrill Lynch, forced the bank to slash dividends, paying out less than $2 billion in total dividends between 2009 and 2013. Things improved in 2014, as an increase in quarterly dividends from 1-cent to 5-cents per share saw its total dividend payout cross $1.25 billion.

The table below summarizes Bank of America’s capital return figures for each year since 2005, and has been compiled using figures reported in annual reports:

After the economic downturn, Bank of America had to wait for five years before it could begin handing out any meaningful amount of cash to investors. Although dividends were at the token 1-cent figure for 2013, the bank bought back more than $3.2 billion worth of shares over the year. The next year, the recalculation error forced the bank to cut back on share buybacks, although dividend payouts jumped roughly four-fold. With Bank of America managing only a conditional clearance for its 2015 plan from the Fed, investors can expect the bank to shell out a near-identical figure as seen in 2014 as dividends. However, the bank will likely repurchase shares worth $4 billion over the year ($3 billion from the plan approved this year and another $1 billion in repurchases pending from the 2014 plan).

We factor in these payouts in our analysis of Bank of America in the form of an adjusted dividend payout rate shown in the chart below. As this payout rate was not meaningful over 2008-2011, we represent it in the chart as 0%. You can understand how a change in the bank’s adjusted dividend payout affects its share value by making changes to the chart.

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1. Comprehensive Capital Analysis and Review 2015: Assessment Framework and Results, Federal Reserve Website, Mar 26 2014 [↩]