Thursday, July 21, 2011

Curse the Geniuses Who Gave Us Bank of America - By Jonathan Weil

Ask anyone what the most immediate threats to the global financial system are, and the obvious answers would be the European sovereign-debt crisis and the off chance that the U.S. won’t raise its debt ceiling in time to avoid a default. Here’s one to add to the list: the frightening plunge in Bank of America Corp. (BAC)’s stock price.

At $9.85 a share, down 26 percent this year, Bank of America finished yesterday with a market capitalization of $99.8 billion. That’s an astonishingly low 49 percent of the company’s $205.6 billion book value, or common shareholder equity, as of June 30. As far as the market is concerned, more than half of the company’s book value is bogus, due to overstated assets, understated liabilities, or some combination of the two.

That perception presents a dangerous situation for the world at large, not just the company’s direct stakeholders. The risk is that with the stock price this low, a further decline could feed on itself and spread contagion to other companies, regardless of the bank’s statement this week that it is “creating a fortress balance sheet.”

It isn’t only the company’s intangible assets, such as goodwill, that investors are discounting. (Goodwill is the ledger entry a company records when it pays a premium to buy another.) Consider Bank of America’s calculations of tangible common equity, a bare-bones capital measure showing its ability to absorb future losses. The company said it ended the second quarter with tangible common equity of $128.2 billion, or 5.87 percent of tangible assets.

Investor Doubts

That’s about $28 billion more than the Charlotte, North Carolina-based company’s market cap. Put another way, investors doubt Bank of America’s loan values and other numbers, too, not just its intangibles, the vast majority of which the company doesn’t count toward regulatory capital or tangible common equity anyway.

So here we have the largest U.S. bank by assets, fresh off an $8.8 billion quarterly loss, which was its biggest ever. And the people in charge of running it have a monstrous credibility gap, largely of their own making. Once again, we’re all on the hook.

As recently as late 2010, Bank of America still clung to the position that none of the $4.4 billion of goodwill from its 2008 purchase of Countrywide Financial Corp. had lost a dollar of value. Chief Executive Officer Brian Moynihan also was telling investors the bank would boost its penny-a-share quarterly dividend “as fast as we can” and that he didn’t “see anything that would stop us.” Both notions proved to be nonsense.

Acquisition Disaster

The goodwill from Countrywide, one of the most disastrous corporate acquisitions in U.S. history, now has been written off entirely, via impairment charges that were long overdue. And, thankfully, Bank of America’s regulators in March rejected the company’s dividend plans, in an outburst of common sense.

Last fall, Bank of America also was telling investors it probably would incur no more than $4.4 billion of costs from repurchasing defective mortgages that were sold to investors. Since then the company has recognized an additional $19.2 billion of such expenses, with no end in sight.