Bank of America Corporation (BoA or ‘the company’) provides a range of financial services including retail banking, corporate banking, investment banking, asset management, and credit card services. BoA is one of the leading financial services companies and one of the top two banks in the US. The company’s market position is supported by a strong distribution network, unmatched by its competitors. The company, therefore, enjoys a dominant market position and leverages its position to gain competitive advantage over its peers. However, regulatory changes and weak global economic growth compounded by uncertainties could hurt its margins.
Globally leading franchises across businesses gives scale benefits
BoA is one of the world’s largest financial institutions with leadership in several businesses. As of December 31, 2011, the company operates in all 50 states, the District of Columbia and more than 40 countries. BoA’s retail banking footprint covers approximately 80% of the US population and in the US, the company serves approximately 57 million consumer and small business relationships with 5,700 banking centers, 17,750 automated teller machine (ATMs), nationwide call centers, and online and mobile banking platforms. In addition, BoA provides support to approximately four million small business owners. The company holds global Top 3 rankings in key capital markets areas. It is a primary dealer in 16 countries. Bank of America holds top tier position in the world across equities, fixed income, rates, currencies and mortgages. The company’s leading franchises give it scale benefits.
Favorable business mix
The company’s revenue mix is diversified. For instance, BoA derives significant amount of its revenues from business line such as global banking and markets (25% of the total revenues in FY2011), card services (19.2%), global wealth and investment management (18.4%), all other (16.1%), deposits (13.4%), global commercial banking (11.2%), and consumer real estate services (-3.3%). Favorable business mix is helping the company to serve a large customer base, as well as helping it to offset volatility in its revenue streams.
Strong capital adequacy to cushion insolvency risks
The company’s balance sheet has a good distribution of assets and liabilities. In FY2011, BoA strengthened its capital through a series of actions that increased tier 1 common capital by $1.6 billion. The company ended FY2011 with a tier 1 ratio of 9.9% as against 8.6% inFY2010. Total capital ratio increased from 15.7% in FY2010 to 16.7% in FY2011. The company also brought down its long-term debt by $76 billion to reach $372.2 billion in FY2011 as compared to $448.4 billion in FY2010, and global excess liquidity sources were up $42 billion to $378 billion in FY2011 as compared to $336 billion in FY2010. The company’s strong capital base helps it avoid liquidity and solvency crises.
Recent underperformance could constrain the company’s growth prospects
BoA’s revenues have been declining since FY2009. For instance, the company’s revenue declined at a compounded annual change rate (CACR) of 12% to $93,454 million in FY2011. Also BoA registered operating loss of $230 million in FY2011, as compared to operating loss of $1,323 million in FY2010 and operating profit of $4,360 million in FY2009. Though the company returned to positive figures in terms of net profit in FY2011 but it suffered net losses in two consecutive financial years (i.e. in FY2010 and FY2009). Therefore, declining revenue and profits could affect the company’s growth prospects.
Inability to contain operating expenses impacting margins
The company’s operating expenses management show deterioration (as indicated by efficiency ratio) since FY2009. For banks, efficiency ratio is generally calculated as the ratio of expenses to revenue (expenses / revenue). Lower efficiency ratio is better as that indicates higher operating margins. During FY2009-11, BoA’s efficiency ratio increased unfavorably from 55.1% to 85%. Unfavorable trend in efficiency ratio is attributable to increased total compensation, employee benefits, net occupancy and equipment expense and professional services expense. Unfavorable trend in efficiency is limiting the company’s margin expansion.
Growing banking sector in the US
The banking sector in the US is growing at a steady pace. As per Datamonitor, the US banks sector grew by 11.3% in FY2010 to reach a value of $11,713.2 billion. In FY2015, the US banks sector is forecast to have a value of $15,617.7 billion, an increase of 33.3% since FY2010. The US accounts for 11.5% of the global banks sector value. The company operates in all 50 states, the District of Columbia and more than 40 countries. BoA’s retail banking footprint covers approximately 80% of the US population and in the US, the company serves approximately 57 million consumer and small business relationships with 5,700 banking centers, 17,750 automated teller machine (ATMs), nationwide call centers, and online and mobile banking platforms. In addition, the company provides support to approximately four million small business owners. With its strong market position, BoA is well positioned to harness the growing potential of the US banking sector.
Growing mobile banking market to help in retaining customers and arresting costs
The US mobile banking market is expected to grow at a rapid pace in the near future. According to industry sources, mobile banking users worldwide will reach 530 million by 2013, up from just over 300 million in 2011, despite the challenging economic climate and threat of further global recession. BoA has taken several initiatives in the recent past to improve its mobile banking services. For instance, In March 2011, Merrill Lynch, a part of BoA’s wealth management operations announced the launch of mobile applications on iPhone, iPad, and BlackBerry devices for clients of Merrill Lynch Wealth Management and Merrill Edge. Further in March 2012, Merrill Lynch Wealth Management announced a number of new online and mobile features for clients making it more convenient to access account information, deposit checks, and pay bills .These initiatives will not only help the company to retain the existing customers, but also attract the new ones. It will also help BoA to arrest the rising cost, as it will have to spend less on physical infrastructure to service additional clients.
Launch of innovative products and services could increase client loyalty and business volumes
BoA is known for many initiatives that showcase its lead role in banking innovation. For instance, in December 2011, Bank of America Merchant Services, a payment processing provider, and Money Network, a First Data Company and premier provider of electronic payroll distribution solutions, announced the launch of the Money Network Payroll Distribution Service sponsored by BoA. Further in March 2102, Bank of America Merrill Lynch, a global treasury and trade solutions provider, announced the launch of Trade Pro, an electronic platform for large corporate and middle market companies seeking to enhance their trade and financial supply chain operations. The company also offers deposit-image ATMs, and online and mobile banking technologies to provide customers with more detailed and timely information. The company’s new Merrill Edge account enables customers to manage their banking and investing activities through an integrated platform. The launch of such new products and services is expected to help the group retain client interest in the group and also contribute to revenue and profit expansion.
Regulatory changes could increase compliance spending
Financial institutions in the US and other regions have been facing increasing regulatory challenges. For instance, Dodd-Frank Act which was signed into law on July 21, 2010 could have significant impact on the US banking industry. The Dodd-Frank Act imposes new regulatory requirements and oversight over banks and other financial institutions in a number of ways, among which are (i) creating of the Bureau of Consumer Financial Protection (CFPB) to regulate consumer financial products and services; (ii) creating of the Financial Stability. It also affects the way equity capital of a bank is calculated. Under the Dodd-Frank Act, trust preferred securities that formerly constituted Tier 1 capital will no longer be included in Tier 1 capital after a three-year phase-in period which begins January 1, 2013. Additionally, in October 2011, the Durbin Amendment to the Reform Law became effective resulting in a decline in debit interchange fee income in late 2011. Increasing regulatory challenges on one hand pose non-compliance risk and on the other hand increase compliance spending.
Weak global economic growth compounded by uncertainties
Global economic growth (GDP) is estimated to have reached 2% in 2011, as compared to 2.6% in 2010. Though economic growth could rise back to favorable trends in the second half of 2012, the probability of a delay due to uncertainty in some pockets of the global economy is high. For instance, Greece’s adherence or the non-adherence to the bailout package terms, unity or the lack thereof in European Monetary Union, weakness in Chinese real estate market, and changes in the US fiscal policy initiatives could alter the trajectory of global economic growth. Weak global economic growth which is further compounded by uncertainties, both economic and political, could reduce the demand for financial services of BoA.
High systemic risk in the US banking industry affecting industry’s prospects
Systemic risk in the US banking industry remains high despite numerous actions taken the regulatory bodies and the US government. The number of problem institutions, and the number of bank failures are two of the indicators that reveal systemic risk in the banking industry. The number of problem institutions increased from 252 in FY2008 to 813 in FY2011. The number of bank failures increased from 25 in FY2008 to 92 in FY2011. During FY2008-11, assets of the problem institutions rose from $159 billion to 319 billion. Systemic risk in the US banking industry has a direct and indirect impact on the cost of capital (including refinancing), FDIC insurance fees payable by banks, profitability, and the long term business sustenance.