Is Bank of America About to Announce Another Multibillion-Dollar Settlement?

On Wednesday, Bank of America disclosed that it's set aside an additional $2.4 billion in anticipation of future legal expenses.

Apr 16, 2014 at 3:16PM

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Few companies in history have faced as much legal liability as Bank of America (NYSE:BAC) has over the last few years. And to make matters worse, we now know things aren't letting up anytime soon.

On Wednesday, the nation's second largest bank by assets announced earnings for the three months ended March 31. The results were predictably bad. Thanks to $6 billion in legal expenses, compared to $2.2 billion in the year-ago period, the company reported a $276 million loss for the quarter.

The lion's share of the elevated legal expenses stemmed from Bank of America's $9.5 billion settlement with the Federal Housing Finance Agency over faulty mortgages sold by Countrywide Financial to Fannie Mae and Freddie Mac. The deal, announced at the end of last month, reduced the bank's pre-tax earnings by $3.7 billion, or $0.21 per share.

Additionally, Bank of America recently entered into a separate agreement with Financial Guaranty Insurance Company, settling a long-standing dispute between the two concerning toxic mortgage-backed securities originated by Countrywide Financial. The terms require Bank of America to make total cash payments of $950 million, all of which had been previously reserved for.

Perhaps most surprising, however, was news that the bank set aside an additional $2.4 billion in the first quarter to cover future anticipated losses. I say "surprising" for two reasons. First, because of the size of the reserve. And second, because Bank of America, by its own admission, has slayed the vast majority of outstanding claims against it -- click here to see a comprehensive list of the bank's settlements since 2008.

In response to a question about this on the quarterly conference call, CFO Bruce Thompson explained (emphasis added):

When you look at the matters and compare where we are now to what is out there, [you saw] the FHFA case, which was the $3.6 billion number we mentioned, you saw resolution start in this quarter from an Allstate RMBS perspective, you saw resolution of force-placed insurance, you saw CFPB, OCC, you saw the deal that we completed and announced with FGIC today. So, as you work through those matters, it largely leaves you with respect to one monoline and then, in addition to the monoline, the other remaining legacy mortgage-related matters that we put out in our disclosure.

Reading between the lines, the most logical conclusion is that Bank of America is in the process of negotiating a deal with Ambac Financial Group (NASDAQ:AMBC), the last major monoline insurer that's yet to reach a deal with the Charlotte-based bank. In its latest 10-K, Bank of America disclosed that "Damages claimed by Ambac are in excess of $2.5 billion." Obviously, these numbers are eerily similar.

Should this concern shareholders? Of course. Every dollar that's paid in legal settlements is one that won't eventually find its way into your pocket. At the same time, however, the damage to earnings has now been done, as a completed settlement will now draw from reserves. In other words, it's now time to move on and hope this is one of the last such surprises to impact Bank of America's bottom line.

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John Maxfield has no position in any stocks mentioned. The Motley Fool recommends Bank of America. The Motley Fool owns shares of Bank of America. Try any of our Foolish newsletter services free for 30 days. We Fools may not 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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