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This Is Why Bank of America Is Still Struggling

By John Maxfield – Oct 21, 2014 at 7:47AM

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Bank of America's notoriously bloated expense base leaves little revenue to pass to shareholders.

It's impossible to deny that Bank of America (BAC 0.83%) has made progress in atoning for its misdeeds from the financial crisis. But it nevertheless continues to be haunted by an unconscionably bloated expense base.

You can see this in its latest quarterly results, which were released last week. For the three months ended Sept. 30, the nation's second-largest bank by assets generated $21.2 billion in revenue. Of this, $636 million was set aside in anticipation of future loan losses, $663 million was reserved to pay income taxes, and nearly all of the rest, $19.7 billion to be precise, was consumed by noninterest expenses.

The net result is that Bank of America extracted a mere $168 million in net income from more than $21 billion in revenue. To make matters worse, all of this (and more) was then consumed by the $238 million the Charlotte, N.C.-based bank paid in interest to holders of its preferred stock, leaving common stock shareholders in the hole for $70 million.

Bank of America's principal problem is simple: It spends too much of its revenue on operating expenses -- namely, litigation costs, a sprawling branch network, and more than 200,000 employees.

The good news is the bank has made significant inroads on all three fronts. In August, Bank of America announced an historic $16.65 billion settlement with the Department of Justice and multiple state attorneys general that extinguishes all but one major mortgage-related case dating back to the financial crisis (click here for a full list of the bank's legal settlements since 2008).

Over the last four years, moreover, it has dramatically curtailed its retail footprint. In the third quarter of 2010, Bank of America operated 5,900 physical branches. At the end of the latest quarter, that number had shrunk to 4,947.

Finally, even though the bank today employs 230,000 employees on a full-time equivalent basis, this figure is declining every quarter thanks in large part to a winding down of Bank of America's legacy assets and servicing division, which is responsible for liquidating the bank's toxic and noncore assets. At the height of LAS' operations, it employed nearly 42,000 employees. That number is now down to just 17,000.

Bank of America remains a work in progress. In 2013, its efficiency ratio was 77% -- this is the percent of net revenue consumed by operating expenses. In the most recent quarter that number was even worse. The bank's own goal is to see this ratio drop down into the high 50% range.

It remains to be seen whether this will happen. But either way, for shareholders interested in gauging Bank of America's progress, the first and last place to look should be its ability to reduce expenses and thereby pass more of its income to shareholders.

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. 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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