What would be the real impact of a capital raise at Bank of America?

I want to preface this post by saying that I don’t believe that Bank of America will have to raise more capital.  The bank has $12 in tangible book value per share, a TCE ratio of 5.87%, a tier 1 common ratio of  8.23% and a total capital ratio of 15.65%.  Additionally, BAC has assets which it could sell at gains in a worst case scenario which would raise capital levels without dilution.

All that said, with BAC stock down more than 40% for the year, the attention of capital markets has been focused on whether or not the bank may have to raise capital.  While I stress again, this is not my expectation, it doesn’t hurt to try to actually quantify what this worst case scenario would look like.  In order to try to quantify what the effect of that dilution might be, here’s some simple back of the envelope math:
Dilution Assumptions
  • In 2009 at the height of the credit crisis, the stress tests (which stressed the bank for depression equivalent credit deterioration) determined that BAC needed to raise $33.9B.  
  • In order to be more strenuous, lets assume that BAC must raise another $50B today, at a price about 30% below where the stock is trading today: $5 per share.  
  • This means that in order to raise a hypothetical $50B, BAC would have to issue 10B shares at that level.  
  • At the end of 2Q11, BAC had approximately 10 Billion shares outstanding, so 10B more shares would double the share count to 20B shares.
Earnings Assumptions
  • Bank of America had $2.26T in assets as of the end of 2Q11.  Let’s say this shrinks at 5% per year for 2 more years, BAC would have about $2T in assets at that point.
  • The ROA for the entire banking industry in 1Q11 was approximately 0.80%, this likely increased in 2Q11.  WFC for instance in 2Q11 earned an ROA of 1.25%.
  • If we apply the industry ROA of 0.80% to BAC’s hypothetical assets of $2T, this means BAC would earn $16B in a normalized environment.  To be clear, I think BAC can earn a lot more than 0.80% ROA and will likely have more than $2T in assets, but these are stressed assumptions.
  • $16B earnings/20B shares = $0.80 eps after dilution.  
If Bank of America raised $50B in capital at $5 per share, doubling its share count, it would still earn about $0.80 per share even in a low profitability environment.  The stock trades for $7 today or 8.75x a strenuous hypothetical dilution.  Where should it trade?

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