NEW YORK ( TheStreet) -- It was a noisy first quarter for banks, filled with complicated accounting and unusual one-time charges that muddied the earnings picture for even the most experience investors. And most analysts agree it will only get harder to understand how U.S. banks really make money.
Special "non-operating items" on bank balance sheets such as debit valuation adjustments (DVA) and credit valuation adjustments (CVA) -- made to reflect the value of outstanding debt and created to give investors a better idea of performance -- have turned into loud distractions.
Guggenheim Securities analyst Marty Mosby says that DVA and CVA accounting is "not useful at all, which is why it is excluded very rapidly" by analysts reviewing quarterly earnings announcements. Mosby adds that "it is unfortunate accounting in my mind, that we try to mark the balance sheet to market so precisely," and that "over time, if a bank has issued a debt a certain rate, it is part of their funding cost. Just because the market has changed, with credit spreads widening or narrowing, doesn't mean that the debt costs already originated and funded are really changing at all."
Beginning in 2007, bank holding companies were able to decide whether or not to use DVA/CVA accounting, and three out of the "big four" U.S. banks chose to do so, with the exception of Wells Fargo (WFC), which released a delightfully straightforward announcement of record first-quarter earnings release on April 13.The analyst says that "everyone is getting much more accustomed to these types of moving pieces." For Bank of America (BAC), for example, "the DVA/CVA number was anticipated, with changes of debt spreads in the market place, so when the number came out, the impact was isolated within minutes." Mosby says that in the current environment, with plenty of asset dispositions, merger activity, and market turmoil, "you want to make sure you don't react to the reported number too quickly. The first thing we do is sift through the release and try to be a little more patient, because a lot of the moving pieces, once you get them isolated, bring you to the real operating results. You need to do a little diligence when the earnings numbers come out." For banks benefitting from discount acquisitions in the current distressed environment for financial companies valuations, bottom-line results will be padded with bargain purchase gains or discount accretions, and Mosby says 'you must wade through the impact, as that boils off and determine how much the bank can replace in pricing." When second quarter results are announced each July, goodwill accounting always comes to the fore, since most banks test the valuation of previous acquisitions, to determine if write-downs are necessary, on an annual basis, during the second quarter. Over the past few years as bank valuations have tanked, there have been very significant second-quarter non-cash goodwill write-downs, which really do nothing but confuse investors. Mosby says that after the "abnormal significant shift in the value of financial service companies" over the past few years, most of "the goodwill that needed to be written off to reflect the current valuation of financial services companies has already been experienced, and we will get to long-term value stabilizing so we won't have incremental write-downs of goodwill going forward." The following is a discussion of one-time items affecting five large bank holding companies, starting with the three largest U.S. bank holding companies that all saw their first-quarter GAAP earnings per share skewed by DVA or CVA, as well as various other items:
Select the service that is right for you!COMPARE ALL SERVICES
- $2.5+ million portfolio
- Large-cap and dividend focus
- Intraday trade alerts from Cramer
- Weekly roundups
Access the tool that DOMINATES the Russell 2000 and the S&P 500.
- Buy, hold, or sell recommendations for over 4,300 stocks
- Unlimited research reports on your favorite stocks
- A custom stock screener
- Upgrade/downgrade alerts
- Diversified model portfolio of dividend stocks
- Alerts when market news affect the portfolio
- Bi-weekly updates with exact steps to take - BUY, HOLD, SELL
- Real Money + Doug Kass Plus 15 more Wall Street Pros
- Intraday commentary & news
- Ultra-actionable trading ideas
- 100+ monthly options trading ideas
- Actionable options commentary & news
- Real-time trading community
- Options TV