BofA Earnings Tumble on $4 Billion Expense for Litigation

Jul 16, 2014 12:11 pm ET

(Updates with analyst’s comment in the third paragraph.)

July 16 (Bloomberg) -- Bank of America Corp., the second- biggest U.S. bank, said profit declined 43 percent as it spent $4 billion to cover litigation costs, including a mortgage settlement with American International Group Inc. Shares of the company fell as much as 2.4 percent.

Net income dropped to $2.29 billion in the second quarter, or 19 cents a share, from $4.01 billion, or 32 cents, a year earlier, the Charlotte, North Carolina-based lender said today in a statement.

“The quality of earnings was weak, because where revenue beat expectations, like in fee income, it really was based on equity and debt securities gains,” said Charles Peabody, a Portales Partners LLC analyst. “It doesn’t get people excited when the stock has already run up ahead of earnings,” he said, referring to the 2.8 percent gain this week through yesterday.

Mortgage-related legal expenses continue to dog Brian T. Moynihan, 54, in his fifth year as chief executive officer. Through the first quarter, the bank had booked more than $55 billion of costs tied to home loans, foreclosures or bonds backed by mortgages, mostly because of his predecessor’s 2008 purchase of subprime lender Countrywide Financial Corp. The second-quarter legal costs included a $650 million deal to resolve all mortgage-bond litigation with insurer AIG.

Justice Department

Most of the quarter’s litigation costs are related to negotiations with the Justice Department, Chief Financial Officer Bruce Thompson told reporters today. The $4 billion expense was “way more” than the $1.25 billion estimate of Chris Kotowski, the Oppenheimer & Co. analyst said in a research note.

Pre-provision earnings were “mildly disappointing” because of a shortfall in mortgage profit, Kotowski said.

U.S. prosecutors have asked for $17 billion to resolve probes into the lender’s sale of mortgage bonds before the financial crisis, a person with knowledge of the matter said in June. Talks stalled last month because the Justice Department wasn’t satisfied with the bank’s offer of more than $12 billion, the person said.

“If they’re in talks with the government for another settlement and have a grasp of what the number will be, they have to put aside money for it,” said Nancy Bush, a bank analyst who founded NAB Research LLC in New Jersey. “The Street is saying, ‘Whatever, just get it done.’”

Share Performance

The shares gained 1.5 percent this year through yesterday, trailing the 4.2 percent increase of the 24-company KBW Bank Index. They dropped 2.2 percent to $15.46 at 11:44 a.m. in New York.

Earnings excluding litigation costs were 41 cents a share, 12 cents more than the average estimate of 24 analysts surveyed by Bloomberg.

Revenue in the quarter dropped 4.3 percent to $22 billion as expenses climbed 16 percent to $18.5 billion because of the litigation costs.

AIG had objected to a proposed $8.5 billion settlement between Bank of America and a group of mortgage-bond investors, saying the sum was too small. The dispute focused on mortgage bonds from Countrywide. Investors have been demanding that the bank repurchase loans that were based on faulty information.

Fixed Income

Global markets, the bank’s trading operations overseen by Co-Chief Operating Officer Thomas K. Montag, posted a 14 percent profit increase to $1.1 billion, driven by higher investment gains. Revenue from trading fixed income, currencies and commodities rose 5.2 percent to $2.37 billion, excluding accounting adjustments tied to derivatives and structured liabilities, the company said, citing improvements in mortgage and municipal bond activity.

Equities trading revenue slipped 14 percent to $1.03 billion from a year earlier.

Consumer and business banking, part of retail operations overseen by Co-COO David Darnell, saw profit jump 29 percent to $1.79 billion as credit costs declined. The net loss from consumer real estate, which includes home lending, widened to $2.8 billion from $930 million a year earlier on the higher litigation costs.

Profit at the wealth-management division, which includes the Merrill Lynch brokerage, fell 4.6 percent to $724 million on higher broker incentives and technology spending.

Bank of America or firms it acquired issued about $965 billion in mortgage bonds before the financial crisis, with three-quarters coming from Countrywide, according to an April research note from Sanford C. Bernstein & Co.

Moynihan’s Disappointment

Moynihan said during a May investor conference that the Justice Department probes are the biggest legal issue to be resolved. The severity of the mortgage hangover, which caused a $276 million first-quarter loss, and the time it has consumed are the biggest disappointments of his tenure, Moynihan said.

“It’s taken longer to resolve the mortgage stuff than we all would’ve hoped,” Moynihan said. “It made everything harder because it took a lot of energy and preoccupation around the brand.”

Another cloud hanging over the bank: In April, it suspended plans for higher dividends and share repurchases after finding an error in its stress-test submission to the Federal Reserve that inflated capital levels by $4 billion. Bank of America resubmitted a capital plan in May, saying it scaled back an initial request to raise the dividend to 5 cents a share from 1 cent and to buy back $4 billion of stock.

The bank may hear the Fed’s response to its resubmission by Aug. 10, Thompson said today.

JPMorgan Chase & Co., the biggest U.S. bank, said yesterday that second-quarter profit fell 7.9 percent to $5.99 billion. San Francisco-based Wells Fargo & Co., the largest home lender, last week reported a 3.8 percent increase in net income to $5.73 billion on lower credit costs. Citigroup Inc.’s profit beat analysts’ estimates after the bank announced a $7 billion mortgage-bond settlement earlier this week.