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The swapping-out of three of the Dow Jones Industrial Average components for an equal number of new names came as a big surprise to many, and the first shake-up in almost 10 years for the venerable index. The news that larger-than-life companies Alcoa (NYSE: AA ) , Bank of America (NYSE: BAC ) , and Hewlett-Packard (NYSE: HPQ ) no longer had what it takes to maintain presence on the Dow naturally begged the question: Where did these companies go wrong?
How companies make the cut
The methods used by the group that makes these calls, the S&P Dow Jones Indices Committee, aren't entirely transparent, but they do abide by some basic rules. According to its website, the group usually considers a company for inclusion "only if it has an excellent reputation, demonstrates sustained growth, is of interest to a large number of investors and accurately represents the sector(s) covered by the average."
Taking a look at Bank of America, I believe the area in which it was found wanting was that of reputation -- an issue that has plagued the big bank for some time now.
Comparing the losers
The committee commented on the day of the announcement that the change had been decided upon because of the low stock prices of the three companies, as well as the need to diversity the index. For an index based upon price-weight, share price indeed matters. Put together, the three companies weigh in at just under 2.30% of the entire index, compared to IBM (NYSE: IBM ) , which currently commands 9.43% all on its own.
In the growth department, Alcoa is a definite laggard, having lost 80% of its value since 2007. Both HP and B of A also lost much of their stock value over the past few years, although each had experienced growth as of late, with Bank of America's share price rising 70% over the past year, and HP's moving up a respectable 27%.
But, the computer maker has had some serious problems recently, and the latest quarterly earnings report and commentary from management put to rest any hopes of forward momentum for the company, at least for the foreseeable future. Bank of America, with its Project New BAC, is all about whipping itself into shape, with the goal of focusing on its customers and investors.
A question of diversity
As far as diversifying the index is concerned, substituting Nike (NYSE: NKE ) and Visa (NYSE: V ) for Alcoa and Hewlett-Packard certainly represents a change, but what about substituting Goldman Sachs (NYSE: GS ) for B of A? Replacing one bank with another doesn't seem like a huge shift, even if the former is an investment institution.
Besides, if Alcoa and HP don't represent the greater economy anymore, that doesn't seem true of Bank of America, which, with both retail and investment units, seems more representative of the economy than its replacement.
B of A's reputation precedes it
While the huge gains in Bank of America's share price over the past year point to its popularity with investors, the rest of humankind seem to hold the bank in particularly low esteem. Time after time, as this piece by fellow Fool John Maxfield notes, B of A manages to wind up at the bottom of any given heap when it comes to scoring the positive aspects of banks. And, it's not just customers who feel such disdain for the bank -- even noncustomers despise Bank of America.
Was its grubby image the real reason for the bank's eviction from the Dow? While I doubt the Dow's managers would ever say so, I believe it is. It's truly a shame, too, especially since CEO Brian Moynihan has been trying to shine up the bank's reputation this year -- but he just doesn't seem to be making any headway.
Unfortunately, the longer this issue goes unresolved, the harder it will be to execute a turnaround. Until some of that tarnish can be removed from its image, Bank of America will continue to find just how important the value of a good reputation is when it comes to commercial success.
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