“If Bank of America can continue to narrow the return on capital gap to JPMorgan, we expect its shares will grow into our $35 fair value estimate.” — Matthew Warren
By Matthew Warren and Brian Nelson, CFA
On October 16, Bank of America (BAC) reported third-quarter results that showed adjusted EPS of 75 cents per share, as compared to the average analyst estimate of 68 cents per share, and 66 cents in the year-ago quarter. The adjustment was for the previously announced $2.1 billion pre-tax impairment charge related to Bank of America’s investment in its merchant services joint venture from 2009, which negatively impacted EPS by 19 cents per share. The bank plans to create this capability in-house going forward.
Total revenue was flat compared to last year while adjusted net income was up 4% and adjusted diluted EPS was up 14%. The firm’s share count fell 8% year over year thanks to its massive share buyback program. The bank’s efficiency ratio came in flat at 57%, while its return on tangible common shareholders’ equity was an impressive 15.6%. After 18 quarters of positive operating leverage, Bank of America just barely missed extending that streak to 19 quarters. We would characterize cost control as solid, nonetheless. The bank’s capital levels remained robust with a common equity Tier 1 ratio of 11.4%, the same as this time last year.
Image Source: Bank of America Earnings Presentation
Although net interest margins were under pressure from the lower interest rate environment (both long and short ends of the curve), total corporation deposits advanced 4%, as were total loans and leases. In a 2% real- and roughly-4% nominal-GDP-growth world, these figures show that the bank is holding or gaining market share as compared to the total banking system.
All in all, Bank of America’s third quarter was pretty uneventful, if not boring. This is exactly what one wants to see at this point in the cycle, as credit quality remains benign 10 years and a bit into the current upcycle. The current management team continues to invest in both growth and efficiency, and we expect these actions will continue to bear fruit in the form of growth, cost control, and return on capital. If Bank of America can continue to narrow the return on capital gap to JPMorgan (JPM), we expect its shares will grow into our $35 fair value estimate.
More recently, our team took a deep dive into Bank of America’s preferred equity, thesis highlighted in the Exclusive publication, a part of the Institutional membership level. The Exclusive can also be added to your membership a la carte here. We’d also like to note that Bank of America remains a Warren Buffett favorite, with the Oracle recently asking the Fed permission for Berkshire (BRK.B) to increase its stake in the bank to greater than 10% (it currently owns just shy of a 10% stake in the bank). We include Berkshire in the Best Ideas Newsletter portfolio, and by extension, we also have indirect exposure to Bank of America, which remains one of our favorite banks.
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Matthew Warren and Brian Nelson do not own shares in any of the securities mentioned above. Some of the other companies written about in this article may be included in Valuentum’s simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.