Bank of America Repays TARP; Who's Next?

CHARLOTTE, N.C. ( TheStreet) -- Now that Bank of America ( BAC) has outlined plans to repay its entire $45 billion in bailout funds, investors are wondering when other TARP-laden competitors will step up to the plate.

Bank of America's stunning announcement on Wednesday turned up the pressure on counterparts like Wells Fargo ( WFC) and PNC ( PNC) that still have tens of billions of dollars in TARP capital. But as the biggest bank in the country, which received one of the biggest bank bailouts, Bank of America's repayment plan and new capital levels also provide something of a roadmap for smaller competitors and their investors.

It came as little surprise that Bank of America would need to raise fresh funds from the market to accomplish its goal. The bank will issue $18.8 billion worth of new stock in a public offering, though the TARP repayment will also consume $26.2 billion in excess liquidity. Bank of America will also issue $1.7 billion in common stock to employees and sell $4 billion worth of assets.

Bank of America's offering will dilute existing common stock investors by roughly 10% and requires shareholder approval to raise the amount of outstanding shares above its current 10 billion level. The sheer size of the bank's float may provide attractive supply-and-demand fundamentals for investors looking to get a piece of Bank of America at a greater discount. However, given the positive news, its stock was up 3.2% in premarket action at $16.15 and rose in European trading as well.

After the stock offering and some other capital moves, Bank of America's Tier 1 capital ratio will stand at 11%, and Tier 1 common ratio will stand at 8.5% -- stronger metrics than Wells Fargo, JPMorgan Chase ( JPM) or U.S. Bancorp ( USB).

Only Citigroup ( C) has higher capital ratios, due to a huge preferred-to-common conversion, but given the government's large ownership stake and Citi's long path to reorganization, few expect it to repay TARP in the same manner.

Therefore, the next natural question is "What about Wells?" says Goldman Sachs analyst Richard Ramsden.

The government still has a $25 billion TARP investment in Wells Fargo. Despite Wells' undeniable earnings power, its capital ratios look depleted due to hefty write-downs when acquiring Wachovia's bad debt. Wells now has a Tier 1 ratio of 5.2%, well below the industry average of 7.5%, according to Ramsden.

The banking industry has been hamstrung in part because regulators want banks to lend, but haven't given clear guidelines for what future capital standards will be. Bank of America's TARP repayment suggests the standard may be in the 8% range. Using a slightly more strenuous measure, the average Tier 1 common risk-weighted ratio of the first set of banks approved to repay TARP was 8.43%.

But Ramsden doesn't think it's out of the question that Wells could repay the funds relatively soon. He notes that others were far below the 8% Tier 1 ratio during the first string of TARP repayments, like U.S. Bancorp whose ratio then stood at 6.6%.

Given the bank's strong internal capital generation, management "could earn their way out of part of the capital need if they are given the benefit of time," Ramsden says.

Barclays Capital analyst Jason Goldberg estimates that, if other bailed out banks used similar tactics as Bank of America to rid themselves of TARP, shareholders would face slightly greater dilution. If banks like Wells, Zions Bancorp ( ZION), PNC, M&T Bank ( MTB), Fifth Third Bancorp ( FITB), Synovus Financial ( SNV), Comerica ( CMA), Huntington Bancshares ( HBAN), Regions Financial ( RF), KeyCorp ( KEY) and SunTrust ( STI) had to immediately boost Tier 1 ratios to 8.5%, or issue 45% of TARP preferred stock as common equity, normalized earnings would be diluted by 15% or more.

"Still, these names might not feel the same near-term pressures as Bank of America to repay TARP, in our view," says Goldberg. "Nevertheless, again we don't know the government's intentions."

As for Bank of America, it appears the firm is finally on the road to recovery and TARP repayment is positive for several reasons.

Its capital position is improved to handle future losses. The estimated dilution to Bank of America's future earnings as a result of the TARP repayment is offset by the absence of TARP dividend payments. Ramsden believes the firm trades at a 20% discount, making it a more attractive buy now that one uncertain element will be removed.

Importantly, once TARP is repaid, the government will have less of a direct role in Bank of America's operations, making it easier to hire talent with competitive salaries, including a replacement for departing CEO Ken Lewis.

"Repaying the TARP is a clear positive for Bank of America shares, as it removes the overhang caused by uncertainty surrounding government intervention," FBR analyst Paul Miller said in a note Thursday morning, upgrading Bank of America stock to overweight.

Morgan Stanley analyst Betsy Graseck, rates Bank of America a buy, calling it her top pick because of exposure to early-cycle improvements in the capital markets and economy. In her view, there are three factors necessary for a true bull run in BofA shares -- two of which were furthered by Wednesday's announcement.

"Catalysts are TARP Repayment, CEO announcement and declining consumer credit costs," says Graseck.

Lewis called a peak in overall credit losses during the third quarter, while Ric Struthers, head of Bank of America's credit-card division, recently said that his division's loss rates will likely top out in the fourth quarter.

When the results come out in January, investors may be looking at a new Bank of America: One about to break free of its TARP shackles, with a new leader, looking in the rear-view mirror at a financial crisis that created a larger, more diverse firm, even if its reputation isn't entirely unscathed.

-- Written by Lauren Tara LaCapra in New York

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