Why has Bank of America changed its focus on tangible book value?
Before the third quarter of 2009, Bank of America (NYSE: BAC) did not disclose its tangible book value per share in its quarterly regulatory documents, which aim to inform investors of the bank’s financial position and performance. It only disclosed its book value per share.
Since then, although the $ 2.2 trillion bank continues to disclose its book value per share in its earnings releases and regulatory documents, its executives have shifted the focus of their conversations and presentations to tangible book value by action.
What prompted Bank of America (and other banks, for that matter) to move the goalposts? If growing book value was the hallmark before the financial crisis, why was its importance overshadowed by a derivation of the same measure?
It makes B of A more beautiful
The short answer is that it allowed the executives of Bank of America to claim that the bank was creating shareholder value when in fact they were overseeing its destruction – or, more specifically, the new management team under it. current President and CEO Brian Moynihan oversaw the achievement of the value destruction caused by their predecessors.
You can see it in the table below. From the beginning of 2008 until the third quarter of 2016, the book value per share of Bank of America has fall by 33%. But its tangible book value per share has increases 44% on this same section.
Hope this makes it clear why Bank of America now prefers to use tangible book value per share as a benchmark and not book value per share.
Why have these diverged?
You might be wondering why two related measures diverged so much in the wake of the financial crisis. The answer lies in the evolution of Bank of America’s acquisition strategy.
Before the crisis, Bank of America focused on growth for growth. If its executives wanted to acquire or merge with another bank, they would pay just about anything to do so.
- In 2003, Bank of America paid a $ 30 billion book value premium to merge with FleetBoston Financial.
- A year later, it paid a $ 20 billion premium to acquire MBNA, one of the country’s leading credit card issuers at the time.
- And despite the fact that Merrill Lynch was on the verge of failure in 2008, Bank of America paid a $ 15 billion bounty to lure its herd of financial advisers.
Since these bonuses are recognized as goodwill, an intangible asset that increases the book value but has no tangible impact on the book value, it was in Bank of America’s interest to attract the investor attention on the first rather than the second.
Move the goal posts
But that changed when the financial crisis hit. The downturn led Bank of America to write off billions of dollars in goodwill as it became evident that the premiums paid for some of these acquisitions were excessively high. This reduced the bank’s book value, but again had no impact on its tangible book value.
In addition, to survive the crisis, Bank of America had to issue large amounts of new shares, which more than doubled its number of outstanding shares. And he had to do it when his stocks were trading for substantial discounts over book value.
One way to mask the dilution in the value of its existing shares was therefore to focus on the tangible book value per share, which was half of its book value per share because it excluded the roughly 50% of equity that was then recognized. . as goodwill on Bank of America’s balance sheet.
When Bank of America issued 1.25 million common shares at an average price of $ 10.77 per share in the second quarter of 2009, for example, that amounted to a 53% discount from its book value, but at a discount of only 8% on his tangible portfolio. value.
In fact, despite the stock offering, the tangible book value per share of Bank of America actually rose 7% this quarter. But the same can’t be said for its book value per share, which fell 13%.
The point here is that business leaders can and will change benchmarks when it suits them. This does not mean that what they have done is right or wrong, but rather that it is something that investors in any business should always keep in mind.
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