Bank Of America Corp (BAC): A Dividend Growth Stock That Benefits From Rising Interest Rates

Dividend Safety Analysis: Bank of America

We analyze 25+ years of dividend data and 10+ years of fundamental data to understand the safety and growth prospects of a dividend.

Our Dividend Safety Score answers the question, “Is the current dividend payment safe?” We look at some of the most important financial factors (2) such as current and historical EPS and FCF payout ratios, debt levels, free cash flow generation, industry cyclicality, ROIC trends, and more.

Dividend Safety Scores range from 0 to 100, and conservative dividend investors should stick with firms that score at least 60. Since tracking the data, companies cutting their dividends had an average Dividend Safety Score below 20 at the time of their dividend reduction announcements.

We wrote a detailed analysis reviewing how Dividend Safety Scores are calculated, what their track record has been, and how to use them for your portfolio here.

Bank of America Corp (NYSE:BAC) has a Dividend Safety Score of 49, suggesting that the company’s dividend is reasonably secure and about as safe as the average dividend stock in the market.

How is it that a bank with such a strong balance sheet and low payout ratio has merely average dividend security? The answer lies in the nature of the banking industry itself.

Source: Simply Safe Dividends

As you can see, bank earnings can be highly cyclical thanks to periodic financial crashes that can result in massive earnings per share collapses. In the case of Bank of America, this can be even more extreme, with the bank swinging from earnings per share swinging from $3.29 in 2007 to a loss of -$0.37 in 2010.

Source: Motley Fool

This kind of extreme profit swings, combined with constant regulatory risks (such as calls to break up big banks), as well as having to OK dividends with regulators, means that banking dividend safety isn’t as cut and dry as merely looking at a bank’s payout ratio.

Remember that the business model of a bank is to have a highly levered balance sheet (even with today’s fortress-like balance sheet), which means that during an economic downturn losses can be magnified and force a bank to cut its dividend even if the payout remains technically sustainable.

We saw this in 2008-2009 when regulators forced Wells Fargo and JPMorgan Chase, who sailed through the financial crisis intact and still profitable, to cut their dividends “just in case” the cash might be needed had the economic collapse proven worse than it did.