Will Bank of America Cut the Dividend?

Should we punt or go for it? The question that has taunted football coaches since the inception of the game now taunts Bank of America (NYSE: BAC  ) with regard to its dividend.

Can and will B of A maintain its dividend, currently yielding an eye-popping 8.6%? Or will the bank go the way of Citigroup (NYSE: C  ) and Wachovia (NYSE: WB  ) and cut the dividend to save some much-needed cash? Last week, B of A CEO Ken Lewis said the dividend is safe. But can investors believe him?

Well, let's look at the numbers. Bank of America's dividend is currently $2.56 per share, for an 8.6% yield. The 2008 consensus analyst estimate for the bank's earnings is $2.66 per share. That means that to keep the dividend, the bank will have to pay out virtually everything it earns. Put another way, that's nearly a 100% dividend payout ratio, compared with the bank's historical payout ratio of 40% to 50%.

Credit losses at the bank, although not nearly as bad as those at UBS (NYSE: UBS  ) and Citigroup, were $6 billion just last quarter. The slower business environment has taken its toll on earnings, as have a string of recent acquisitions. Just last year, B of A acquired LaSalle Bank and U.S. Trust, and this year, it agreed to buy out Countrywide Financial (NYSE: CFC  ) . These recent acquisitions cost the company nearly $30 billion.

Lewis says he "views the dividend as safe" and is "cautiously optimistic on the economic environment." Sure, the economic environment could get better. If it does, several major banks are worth buying at current prices. But what if things don't get better? What price will B of A pay to maintain that lofty dividend?

Keeping the dividend where it is in a deteriorating environment might cause the company to rob from tomorrow's stock performance. Using so much badly needed cash to pay the dividend could force the bank to find money from other sources and increase the debt burden for many years to come. That situation could force the company to pull back business, lose market share, and dilute shareholdings with stock offerings. Already the bank has issued some $14 billion in convertible preferred stock since December.

The current 8.6% is a juicy yield for sure. It would be a beautiful thing if you could collect 8.6% on a great bank that's beaten down while you wait for the price to come back. But there is a point at which it makes more sense to cut the dividend. Will B of A reach that point? Will it choose to cut if it does reach that point? We'll see.

Cutting a dividend is always ugly. The stock price usually takes a hit, and a company loses credibility with shareholders. However, if the bank makes poor decisions about the future just to maintain the dividend, the dividend might be all you'll get from holding the stock in the future.

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Bank of America is a Motley Fool Income Investor recommendation. Try any of our Foolish newsletter services free for 30 days.

Fool contributor Tom Hutchinson holds no financial position in any companies mentioned. The Motley Fool has a disclosure policy.


Read/Post Comments (2) | Recommend This Article (8)

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  • Report this Comment On June 17, 2008, at 3:39 PM, chtrplyr wrote:

    Some key points...

    The earnings are low because of the 4th Q results (provisions) - BofA results improved in Q1 2008, and are expected to have $0.75 this Q and improving going forward - that is well over $3 per share in earnings.

    Also the Tier 1 capital ratio improved from 6.8% in the 4th Q of 2007 to 7.5% most recently.

    With $80 Billion in retained earnings BofA is a well capitalized bank that can afford to use some of the retained earnings since they are far from the 6% tier one capital ratio and are improving towards the goal of 8% without any cutting.

  • Report this Comment On June 17, 2008, at 6:27 PM, 7footmoose wrote:

    cutting the dividend or not cutting the dividend the stock is getting killed by the market, if it strengthens the franchise in the long run and the retained capital is needed then cut it, if management is fully aware of the potential for future losses and they elect to continue to pay out the current dividend then let them make that decision, it appears that there are dueling doomsayers in the wall street analytical community all attempting to out nay say the last analyst in line to have their say about the current state of financial affairs, if any of these geniuses really KNEW what was about to happen they wouldn't be analysts, they would be billionaires

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