The 3 Most Important Numbers You're Overlooking at Bank of America

If you're an investor in Bank of America, you should ignore the headline figures that most analysts and commentators incessantly recycle to demonstrate its current condition. Instead, you should closely track these extremely basic figures that can be found in the bowels of the megabank's financial filings.

Mar 1, 2014 at 8:00AM

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When most investors analyze Bank of America (NYSE:BAC), they immediately defer to figures like net interest margin, return on equity, and earnings per share. I don't. Well, I do, but those are far from the first things I dig for when the Charlotte, N.C.-based bank files quarterly and annual reports, as it did this past Tuesday.

To be fair, all of these profitability metrics are important. But they nevertheless miss the point. Or, to put it more precisely, they have a tendency to be void of context. That is, they offer comparatively few tangible insights into the extent of the bank's progress since the financial crisis -- which is far and away the most critical issue underlying Bank of America's performance both now and for the foreseeable future.

To determine the latter, one must dig deep into the bowels of the banking behemoth's financial underbelly. And if you do so, what you'll find is this: Despite all the negative publicity, in which I'm an active participant, Bank of America is an exceedingly valuable franchise. Its consumer banking division makes great money. As do its corporate and investment banking franchises. And its wealth management division is arguably the best in the world given the combined resources of U.S. Trust, Merrill Lynch, and Bank of America.

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The problem, in turn, lies almost exclusively in its consumer real estate division, or CRES, and specifically its "legacy assets and services" subdivision, or LAS, which oversees the bank's portfolio of toxic assets. If you want to know how Bank of America is faring, this is where you need to look. You can see this in the preceding chart, which shows the net income (or loss) for the bank's five operating divisions over the past 12 months. Suffice it to say, the black sheep is apparent.

With this in mind, beyond the earnings from the CRES segment, the three numbers that I immediately seek out when Bank of America updates its financial reports are (1) the noninterest expense associated with its LAS unit, (2) the number of LAS employees on staff, and (3) the quantity of third-party mortgages that LAS services, all three of which should be on the decline from here on out.

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The significance of these figures is simple. Beyond the mounting tally of litigation-related expenses, the biggest vulnerability to Bank of America's bottom line concerns the portfolio of mortgages it services for third parties. This is because many of the mortgages in it were originated by Countrywide, stuffed into toxic mortgage-backed securities, and then passed onto institutional investors. What remained behind were so-called mortgage-servicing rights, which have become exceedingly expensive thanks to increased regulatory scrutiny of the foreclosure process and aggravated delinquency rates.

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So, how is Bank of America faring? The good news is that it's made considerable progress on all three fronts. First, as you can see in the figure above, the bank has cut the value of mortgages serviced for outside investors by more than 60% over the past three years. Second, the number of LAS's full-time equivalent employees has dropped by a third over the last year alone. And finally, the unit's annual noninterest expense has been reduced by nearly $2 billion, or 13%, since 2011. By my count, that's three for three.

For shareholders in Bank of America, this is very good news. Aside from the fact that the bank's share price is bound to rise as these figures decline, it should also free up an increasingly generous portion of revenue to return to shareholders via dividends and share buybacks. This will further bolster investors' future return and make people like me (I own shares) very happy.

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John Maxfield owns shares of Bank of America. The Motley Fool recommends and owns shares of Bank of America. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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