Bank Of America Corp (BAC) — Q3 2019 Earnings Call Transcript

Good morning. Thanks for joining the call to review our third quarter results. I trust everybody has had a chance to review the earnings release documents. They are available on the Investor Relations section of bankofamerica.com’s website. Before I turn the call over to our CEO Brian Moynihan, let me remind you that we may make forward-looking statements during the call. After Brian's comments, our CFO, Paul Donofrio will review more details of the third quarter results. We'll then open up for questions. Please try to limit your questions so that we can get to all the callers. And for more information on the forward-looking comments we may make, please refer to either our earnings release documents, our website, or the SEC filings. With that, take it away, Brian.

Thank you, Lee. Good morning, everyone, and thank you for joining us to review our third quarter of 2019 results. These results reflect our success, and the U.S. economy continues to grow at around the 2% GDP level. In that kind of economy, our job is simple: drive solid customer activity, manage risk well, manage expenses well, all while investing heavily in our competitive advantage. That's what we've been telling you, it’s been what we call responsible growth. The investments we have been making in the franchise for many years and our disciplined responsible growth approach are evident across every line of business results in respective customer bases you'll see in the materials. Today, we reported $5.8 billion in after-tax net income and $0.56 per share for the third quarter. Those results include a previously announced $2.1 billion pre-tax impairment charge. This charge relates to the investment in our Bank of America merchant services joint venture from 2009 that negatively impacted our EPS by $0.19. That charge, however, positioned us to meaningfully invest in our -- integrate our payments platforms in our commercial side businesses over the next several years. Excluding that charge, third quarter net income was a record $7.5 billion after-tax and EPS of $0.75 per share. On this adjusted basis, net income increased 4% from the third quarter of 2018 while earnings per share increased 14%. This reflects an 8% reduction in average diluted shares from the third quarter of 2018. Returns after adjusting for the impairment charge were strong. Return on assets, about 123 basis points, return on tangible common equity of 15.6%. So, before Paul dives into the quarter's results through the lines of business, I wanted to cover a little bit about client activity costs and operating leverage at an enterprise level. These are the items that we focus on for you that allows us to drive our competitive advantage, but first some general context around the operating environment. Despite the repeated discussions around the potential recession in the United States, I want to offer some data from our customer base, which represents the activity as a substantial portion of the American consumers. Our annual customer outgoing payments on the consumer side of our company are nearly $3 trillion or about -- when compared to U.S. economy about 15%. Consumer payments year-to-date are up 6% compared to the same period in 2018 through the nine months. For the third quarter, that pace was as solid or slightly increased from earlier in the year. This means the U.S. consumer continues to benefit from strong employment prospects. Now, interestingly on the commercial side of clients, at roughly $325 billion in average U.S. commercial loans outstanding, we do see a lot of client flows as the market leader in the United States. Our total commercial loans grew 6% compared to the third quarter of 2018 with good middle market utilization rates. And importantly, our small business segment also grew 6%. As such, we are the largest U.S. commercial lender and the largest small business lender in the United States according to the FDIC data. This solid activity means that commercial customers continue to fare well. These are tangible examples that the U.S. economy is still in solid shape, despite the worries and concerns about trade wars, capital investment slowdowns, or other global macro conditions. Now, let's turn to Slide 3. Across nearly every line of business, we are seeing strong customer activity. You can see that on the slide. I won't take you through all the statistics here but let me highlight a few. On the consumer business on the left-hand side of the slide, our deposit growth has consistently been above the average – the industry average for many periods. It's axiomatic that we're gaining market share. And not just in balances, but year-to-date, we've seen something that's interesting to us. We've had a 2% growth in the number of net checking households, a 700,000 increase. This is the fourth year of good growing net checking households after a decade of consolidation of accounts. Relationships and other changes to our business have begun a decade ago to reposition. It is also record levels at primary accounts, and record levels at total balances and average balances in those checking accounts. 92% of our customers have their primary checking account with us, and the average balances reached $7,000. Now, through a renewed focus on growth in our wealth management franchise, Andy Sieg and Katy Knox are leading the charge, and we've seen net new Merrill Lynch and private banking relationships, up over 30% in each case. And we're expanding the franchise by bringing our retail franchise, our Consumer Banking franchise to markets where we had long established wealth management or commercial client coverage. Paul is going to cover the continued growth in digital uses across our client base, which provides an important dual benefit of strong customer service and lower cost structures.

Thanks, Brian. I'm starting on Slide 8 with the balance sheet. Overall, compared to the end of Q2, the balance sheet grew $30 billion, driven by loan growth, which ended the quarter more than $9 billion higher. We also grew the balance sheet in Global Markets to support additional client activity. Liquidity remained strong, as average liquidity sources were unchanged, linked quarter. Shareholders' equity declined $3 billion, driven by a $2 billion decline in common equity. As positive OCI from lower rates and net income totaling $7 billion was more than offset by $9 billion of capital returned to shareholders through common dividends and share repurchases. The remaining $1 billion decline in equity resulted from the redemption of preferred stock in Q3 after issuing lower yielding preferred shares in Q2. With respect to regulatory metrics, we remain comfortably above our minimum requirements. Regarding CET1 ratios given the reduction in capital I just reviewed, our CET1 ratio standardized, decreased to 11.4%, which is nearly 200 basis points above our minimum requirement. And as mentioned in our SEC filings, the impairment charge recorded this quarter reduced regulatory capital, but had no impact on our capital plans announced in July. Our risk-weighted assets increased modestly as a result of increased client activity and higher loan balances across the businesses. Lastly, our TLAC ratios also remained comfortably above our requirements. Turning to Slide 9 and net interest income, on a GAAP non-FTE basis NII was $12.2 billion, $12.3 billion on an FTE basis. Compared to Q3 2018 GAAP NII was up $126 million or 1%. The year-over-year improvement reflects solid loan and deposit growth as well as modestly higher average short-term rates year-over-year. As you know lower rates are a headwind. The Fed cut short-term rates in July and September and average long-term rates are down over 100 basis points year-over-year. However, versus the linked quarter GAAP NII was flat. There were two primary negative impacts to NII in the quarter. First, lower short-term rates reduce yields on floating-rate assets, and second, because of lower long-term rates, we experienced faster prepayments on mortgage-backed securities, increasing the level of bond premium write-offs. Offsetting these negative impacts were one additional day of interest, loan and deposit growth, reduction in the cost of our long-term debt and a small decline in the interest rate paid on deposits. In addition, Global Markets NII benefited from lower funding costs and a shift in the mix of client activity. While NII improved in Global Markets, results are better assessed by studying together, both NII and trading account profits as client activity from one quarter to the next can shift in mix between these two revenue lines. In fact, sales and trading revenue in the quarter, which includes both NII and trading account profits, was down slightly versus Q2.

Yes. I think, we have – if you go back many quarters ago, we discussed -- our thought process is to tell our teammates to price to achieve sustainable deposit growth of 3% or more faster than the economy, which means you are in axiomatic point there as you’re gaining share at all times if economy is growing less. So, they’ve been doing that. We are staying very careful and disciplined. There were some adjustments made on the wealth management business. If you look back last year, we had some growth there that we slowed down because it was a little too tied to bidding too much rate. They changed that process, they flattened out, now they are growing again.

Hey, good morning, guys. I guess I’ll ask the question, and you can decide not to answer, but just if there is any help you can give us on sort of the NII outlook beyond 4Q. I know there’s a lot of moving parts, but given the forward curve and maybe you could also help us think about the premium amortization year-to-date, what that drag has been and how that would play out in a stable rate environment from here. Thanks.

Sure. So, let me start with the premium amortization, if – I’m not going to give you any precise number, but if you think about the extra day we had from Q2 to Q3, the increase in premium amortization in the quarter more than offset that. In terms of, but going forward, unless long-end rates fall meaningfully from here, we wouldn’t expect that level of increase in premium amortization in Q4, even next year without significant decreases among the rates. In terms of the outlook for 2020, obviously that’s going to be highly dependent on future Fed activity and on deposit pricing across the industry. We don’t think it’s really prudent right now to provide specific guidance at this point.

Yeah. I think one thing. Jim, just, as I said in my prepared remarks, there’s a lot of discussion when the Fed started raising rates, what would happen? And what I said back there was consumer increased their deposit balances by about $145 billion since the first Fed rate increase, and now there has been two decreases, right. So think about that machine just churning out growth and growth and growth, 75% of that was checking balances. That’s the real encouraging part of the store in consumer. All-time customer satisfaction high in those businesses. All-time employee satisfaction high. All-time customer growth rates, high for 15 years or so, and you just take that and play it out, it’s pretty important.

Hi, I’m a little stuck on Slide 7 with the efficiency. And you mentioned all the investing that you’re doing. So, are you willing to go to negative operating leverage or with the investments like, we have the new sales people in the branches and you had more deposit growth. You have new regional banking coverage. You have more investment banking. So, the investments are paying off. So, what’s your confidence in growing revenues faster than expenses over the next year, even though you’re not giving specific guidance, but more generally, what’s the role of technology inside the firm that’s enabling this operating leverage?

Mike, those are good questions. I think we are going to invest for the long-term value of this company and our clients. And so, if this quarter we are sort of flattish on operating leverage, if we happen to go negative I’d argue, and that was the right thing to do based on everything we’re assessing at the time you do it. These quick changes in rates obviously have an impact that you then outgrow with the volumes coming in and producing the value. So, but that takes some compounding for the quarter. So, our attitude in talking to our investors is, if we’re gaining share and doing the right things, keep going. But the real key is back to your – sort of your second question, which is we are getting the benefits of sustained long-term investment, and the change the way this company operates that continues to push through. And so, three years – 2.5 years ago, we said we’d operate this year on $53 billion and change in expenses, and we hit that number and a lot of you had assumed a $57 billion or something like that. Next year, we told you, we’d be in the low $53 billion again, and we still are sticking to that. And so that’s – three, four years out, you’re saying how can you plan out with all the investments we’re making. That is because, we know we’re making investments at the same time they are taking out costs.

Hi, thanks very much. I’m curious, now that you’ve taken a charge on the merchant servicing JV. I’m curious about the go forward. Like, can you talk a little bit about what is built, what do you want to build? Is there going to be an impact on expenses that we’ll see and how soon we’ll see progress and what we’d see. Just curious to learn more.

Sure. Glenn, let me start with a high-level comment and then I’ll let Paul, because remember, many of you don’t know – don’t probably remember that Paul ran GTS for a while and had his part of this portfolio. But he can hit some of the details, but philosophically – we want to control our destiny to be able to provide this type of service to our clients in a much cleaner way and we had a great partner in FDR. And at some point that was good for what was going on in the world, then it’s changed. So we’re making a change. So, lot of the discussions on in terms of where we take this. The team is working with FDR closely to unwind the venture as per the contract, et cetera, but it’s been a good relationship, we expect that to continue in various ways, but on the other hand, we had to get control of our destiny.

Yes. I mean, I guess in terms of expenses, I would remind you that the accounting for BBAMs doesn’t change until, the JV actually ends in June, that’s the first point. And so when you get out to Q3 2020, we’ll begin reporting our share of the revenue and our share of the expenses versus today where we record that share as net earnings in the other income line under the equity accounting method, right. As we sit here today, given all we have to do between now and then, we’re not disclosing specifics, there’s a lot of work to do. And the bottom line impact is really not that impactful. As we get closer to, I think the actual dissolution, we’ll give you some more guidance.

Yes. I think, it will ebb and flow and you’ve seen it over the last, if you look that one page on the low end quarter. It shows you across 6% to 3% to 6% for commercial. So what we’ve been doing, that’s helping drive that, one of the major things we did is, I think if you calculate. We have four segments which go against commercial lending, the Small Business segment, and our consumer business. Business Banking segment, Global Commercial Banking segment, which most be called middle market and in our GCIB for large companies. If you look across those segments, especially in small business, and importantly in Business Banking and Global Commercial Banking, Ather Williams, who runs Business Banking and Alastair Borthwick, those guys have been investing in headcount and people and relationship manager and – precise number for each of them. But I think 25% more bankers today than there were three years ago, which gave us an opportunity to divide the portfolios of clients further.

Thank you. Hi, Brian. Good. Firstly, I just wanted to thank you and Bank of America for the continued support of the Bank Analysts Association meeting. You guys do that every year like you’re doing this year. So thank you very much. We really appreciate that. The second point, credit is very good for you folks in the industry. Can you share with us, when you look out over the next cycle, where are you guys spending extra time today just making sure that you don’t take your eye off the ball because some potential problems that could be on the horizon.

So, Gerard, you asked the question, Paul and I, and Geoff Greener, our Chief Risk Officer. And importantly, our Enterprise Risk Committee led by Frank Bramble, our Board of Directors. If we keep saying, how do we make sure that we’re sticking it through our knitting, so to speak, and you do that by you see all this goes industry – industry limits, country limits, leveraged underwriting limits. You pick just limit after limits house guidelines exception. So I think one of the things I think my peers and I would say is, with stress testing and other things you’re required to think of the worst of times in whole capital forward. So I think in the industry generally, that has had a good, a great impact in terms of us all thinking through the long-term impacts, but importantly, the data and the capabilities that we built starting 10, 12 years ago, are just tremendous. So when we asked the question, we can actually see in very discrete areas, whereas our exposure to this or that.

Thank you very much for your time and attention. And thank you for attending our earnings call. I think the themes for this call, and you heard them in the Q&A in earlier presentations are the years of investments that the team has made and managed are paying off. We’re using loans. Our loan and deposit growth, above industry averages and above the market on a conservatively responsible growth basis continues to help offset the NII pressure due to rate changes which is – which all of you are focused on, it should be. We still continue to make sure we stay dedicated to responsible growth to make sure that the credit risk and market risk we take on is consistent with how you expect us to manage it. And we continue to manage investments and expenses and run that sort of – do a brain size of saying we can grow our investments and we can also continue to manage our expenses carefully and relatively flat. And then on top of all that. Over the last few years, our ability to have sustainable predictable earnings in excess capital is coming back to you, along with 100% of the earnings at levels which are unprecedented among our peers. So that’s helping drive down the share count and help produce EPS growth that we need. So consistent with responsible growth and we look forward to seeing you next time.