Bank of America Stock Responds, as It Meets Reduced Expectations

Bank of America's (BAC Quote) stock got a lift today as the Charlotte, N.C.-based bank met lowered profit estimates. But the company still has plenty of work cut out for it in the year ahead, not the least of which could be its exposure to increasingly troubled California utilities.

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Bank of America stock was lately trading up 75 cents, or 1.5%, to $49.81. The prevailing sentiment among investors was relief that the numbers weren't worse.

"I think part of why it's performing well today is a relief rally that [results weren't] materially worse than people were expecting, even though it was pretty bad," said James Mitchell, banks analyst at Putnam Lovell. (He rates the stock hold, and his firm hasn't done underwriting for the bank.)

As the bank warned in December, a spike in troubled loans ate into profits as a slowing economy and higher interest rates hampered the ability of many of its borrowers to repay their loans. Earnings per share dropped to 85 cents from $1.23 a year ago. The company said net charge-offs for troubled loans were $1.1 billion, more than double the $501 million in the year-ago period. And nonperforming assets (those past due that have not been charged off yet) totaled $5.5 billion, up from $4.4 billion in the third quarter and $3.2 billion a year ago.

Coverage

While the bank emphasized that the money it put aside for bad loans exceeded the actual charge-offs by $135 million, Mitchell said he believes a little "risk-adjusted" reassessment is in order, given the credit issues of late. A common measure of credit risk is a bank's reserve-to-loan ratio, basically the amount set aside to cover bad loans taken as a percentage of outstanding loans. In that respect, Bank of America's 1.74% reading is "relatively solid compared with its peer group," said Mitchell.

But given the rise in nonperformers at the bank, Mitchell believes a more appropriate way to look at risk would be to compare the loan-loss reserve to the level of nonperformers, which comes in at a much lower 126%, compared with a group average of 250%. "It's something to keep an eye on. The reserve to loans looks OK, but the reserve to nonperforming assets is still pretty low. They need to provision for significantly more than just the charge-offs," he said.

And credit quality looms only larger, given the continuing stream of bad news out of the California utility sector to which Bank of America is exposed. Today, Edison International (EIX Quote) unit Southern California Edison suspended about $600 million of payments and is in default on some credit facilities. And PG&E (PCG Quote), which also claims it's facing bankruptcy, received a $1 billion line of credit led by Bank of America in October.

Small Portion

In an earnings presentation to investors and analysts this morning, Bank of America CFO James Hance said the bank's total exposure to utilities around the world is $5 billion, and that California utilities account for "a small portion" of that amount. Hance also said the risk has been factored into the bank's outlook for 2001, though analysts remain concerned.

Today's presentation was straightforward and didn't attempt to gloss over the latest weakness as an anomaly. Hance said the bank expects modest loan growth in 2001, due in part to the slowing economy. The bank expects consumer loans to grow, while large corporate loans are seen as flat or shrinking as Bank of America attempts to exit low-margin, credit-only relationships with certain corporations. However, he also said the bank expects nonperforming assets to keep rising in the foreseeable future.

Given that, Mitchell remains worried. "I just don't see a fundamental catalyst for earnings growth," he said. "Their domestic consumer and commercial banking franchise faces a headwind. With a slowing economy, consumer-loan growth tends to slow, while losses tend to rise. It's a double whammy."