BAC and the Analysis of Reputation Risk

Abstract : This article is mainly represent the case of Bank of America credit rating be downgraded almost twice in two years which leads to its reputation damage around the global financial market. And also some measurement and management have been discussed in this paper.

Keywords : bac, Bank of America, credit rating downgraded, reputation risk

Bank of America Corporation is an American multinational banking and financial services corporation headquartered in Charlotte, North Carolina. It is the second-largest bank holding company in the United States by assets, as one of the Big Four banks in the United States, along with Citigroup, JPMorgan Chase and Wells Fargo-its main competitors. Bank of America operates in all 50 states of the U.S., the District of Columbia and more than 40 other countries. It has a retail banking footprint that covers approximately 80 percent of the U.S. population and serves approximately 57 million consumer and small business relationships at 5,700 banking centers and 17,750 ATMs.[1]

1. History

1.1 Bank of America (BAC)

The history of Bank of America dates back to 1904, when Amadeo Giannini founded the Bank of Italy in San Francisco in an effort to cater to immigrants denied service by other banks.[2] Giannini, in 1922, established Bank of America and Italy in Italy by buying Banca dell'Italia Meridionale, the latter established in 1918.By the late 1920s, Amadeo Giannini was interested in expanding Bank of Italy and approached Orra E. Monnette, president and founder of the Los Angeles-based Bank of America, about a potential merger. By 1929 the organizations had merged taking the title Bank of America. [3]

1.2 Growth in California

The later years saw the growth of BOA in the western states with California as base. During World War II era, Bank of America became one of the largest banks in California due to the fact that many soldiers had their paychecks deposited directly into banks owned by the company. The traffic undertaken by the banks was so significant that the organization chose to develop a myriad of different technological innovations to improve processing in the organization. [3] The changes that occurred at the Bank of America during this time served as a basis to revolutionize the banking industry

The BOA started working as insurance institution as well in this time too. The 1956 the insurance business was separated as result of Banking & Holding Act, which prevented bank owners from holding interests in non-banking subsidiaries and also prohibited the practice of interstate banking which forced Bank of America to liquidate the period banks that it owed outside of California. [4] Transamerica was the insurance partner of BOA which kept working in that business after separation. It was not until the 1980s with a change in federal banking legislation and regulation that Bank of America was again able to expand its domestic consumer banking activity outside California.

1.3 Expansion

Bank of America and Expansion in the 1990s and 2000s. (Those reports followed quote from an article named bank of America from The Finance Owl)

1992 - BankAmerica made the largest bank acquisition recorded at that point in time when it purchased Security Pacific and its subsidiary banking operations. BankAmerica also acquired the Valley Bank of Nevada.

1994 - BankAmerica purchased the Continental Illinois National Bank and Trust Co. of Chicago. Combined with the 1992 acquisitions, this made BankAmerica the second largest bank in America by 1997.

1998 - BankAmerica was purchased by NationsBank (becoming the largest banking acquisition itself) and rebranded as the Bank of America Corporation. The Bank of America headquarters was relocated to Charlotte (North Carolina).

2004 - The Bank of America acquired Louisville from National City Corp. and rebranded it as BA Merchant Services, in 2004, offering finance solutions to the healthcare and travel industries. The Bank of America also purchased FleetBoston Financial to establish itself as the largest holder of the U.S. deposit market share (around $513 billion), as well as giving it a foot in the north-eastern states.

2005 - MBNA was acquired by the Bank of America in a package worth ?35 billion. In the spring of 2006 the Bank of America sold its BankBoston holdings in Chile and Uruguay to the Banco Itaú.

2006 - The Bank of America purchased the United States Trust Company in a deal worth $3.3 billion during the summer of 2006, and in the fall LaSalle Corporate Finance, LaSalle Bank Corporation and ABN Amro North America were acquired from ABN Amro for approximately $21 billion.

2008 - The bank's acquisition of Merrill Lynch made Bank of America the world's largest wealth Management Corporation and a major player in the investment banking market. [5]

2011 - Downsizing- Quite recently, the company has been seen redirecting its strategic focus to core operations while divesting all its non-core and unprofitable investment ventures and adopting strategic cost-cutting measures. As a result, during 2011, Bank of America began conducting personnel reductions of an estimated 36,000 people, contributing to intended savings of $5 billion per year by 2014. [6]

2. Businesses

Bank of America is one of the world's

largest financial institutions, serving individual consumers, small- and middle-market businesses, large corporations and governments with a full range of banking, investing, asset management and other financial and risk management products and services

As of December 31, 2009, the Bank of America retail banking footprint includes approximately 80 percent of the U.S. population, and in the United States, it serves approximately 59 million consumer and small business relationships with approximately 6,000 banking centers, more than 18,000 ATMs, nationwide call centers, and the leading online and mobile banking platforms. [7] It has banking centers in 12 of the 15 fastest growing states and have leadership positions in eight of those states and offers industry-leading support to approximately four million small business owners. It has the No. 1 U.S. retail deposits market share and are the No. 1 issuer of debit cards in the United States. We have the No. 2 market share in credit card products in the United States and we are the No. 1 credit card lender in Europe. It has approximately 8,900 mortgage loan officers and is the No. 1 mortgage servicer and No. 2 mortgage originator in the United States.

Through its banking subsidiaries and various nonbanking subsidiaries throughout the United States and in selected international markets, it provides a diversified range of banking and nonbanking financial services and products through six business segments: Deposits, Global Card Services, Home Loans & Insurance, Global Banking, Global Markets, Global Wealth & Investment Management (GWIM), with the remaining operations recorded in all Other.

2.1 Global Wealth & Investment Management (GWIM)

BOA offers a broad array of personalized wealth management products and services. Both brokerage and investment advisory services (including financial planning) are offered by the Group's Private Wealth Advisors through MLPF&S, a registered broker-dealer and registered investment adviser. The nature and degree of advice and assistance provided, the fees charged, and client rights and Merrill Lynch's obligations will differ among these services. Investments involve risk, including the possible loss of principal investment. [8]

2.1.1 BofATM Global Capital Management

It has the experience and resources to meet the diverse needs of cash investors. Individual and institutional investors can benefit from our diverse array of investments, which includes domestic taxable and tax-exempt money market funds, offshore funds, and separately managed accounts for those who require more customized strategies. [9]

2.1.2 Private Banking and Investment

Group (PBIG)

BOA provides tailored solutions to meet the sophisticated needs of ultra high net worth individuals. Clients are served by over 150 Private Wealth Advisor (PWA) teams across the country, along with a team of experts in areas such as investment management, concentrated stock management and intergenerational wealth transfer strategies. [8]

2.2 International operations

Bank of America's Global Corporate and

Investment Banking spans the Globe with divisions in United States, Europe, and Asia. The U.S. headquarters are located in New York, European headquarters are based in London, and Asian headquarters are based in Hong Kong.

In 2005, Bank of America acquired a 9% stake in China Construction Bank, one of the Big Four banks in China, for $3 billion. [10] It represented the company's largest foray into China's growing banking sector. Bank of America currently has offices in Hong Kong, Shanghai, and Guangzhou and is looking to greatly expand its Chinese business as a result of this deal. In 2008, Bank of America was awarded Project Finance Deal of the Year at the 2008 ALB Hong Kong Law Awards. [11]

Bank of America operated under the name BankBoston in many other Latin American countries, including Brazil. In 2006, Bank of America sold BankBoston's operations to Brazilian bank Banco Itaú, in exchange for Itaú shares. The BankBoston name and trademarks were not part of the transaction and, as part of the sale agreement, cannot be used by Bank of America. (Exhausting the BankBoston brand.)

3. Credit rating downgraded

A credit rating evaluates the credit worthiness of an issuer of specific types of debt, specifically, debt issued by a business enterprise such as a corporation or a government. It is an evaluation made by a credit rating agency of the debt issuers' likelihood of default. [12]

A poor credit rating indicates a credit rating agency's opinion that the company or government has a high risk of defaulting, based on the agency's analysis of the entity's history and analysis of long term economic prospects.

3.1 Case introduction

3.1.1 2011 Bank of America downgraded

New York, September 21, 2011 -- Moody's Investors Service has downgraded the ratings of Bank of America Corporation's (BAC) holding company to Baa1 from A2 for long-term senior debt and to Prime-2 from Prime-1 for short-term debt. The downgrade, which signifies the bank is a bigger credit risk and, in theory, makes it more expensive to lend to, sent Bank of America's stock into a dive, The outlook on the long-term senior ratings remains negative.

According to The Wall Street Journal, they pointed out that "Baa1 is equivalent to BBB in other rating scales, which is just about the average credit rating for corporate bonds.' The ratings agency said it had lowered the bank's rating because of "a decrease in the probability that the US government would support the bank, if needed." [13]

3.1.2 Warning for Possible Credit Rating Cuts in 2012

Moody is reviewing 17 global banks, including Morgan Stanley, Citigroup, Goldman Sachs, Bank of America and Credit Suisse, for possible downgrades to their long-term credit ratings. [14] If it is true, Bank of America could be on the hook for over $5 billion in extra collateral while its credit rating is downgraded two notches. The nation's second largest bank said if rating agencies had downgraded its long-term senior debt rating by one notch then the bank would have to put up an extra $2.7 billion in collateral. If the downgrade is even worse and drops two notches then the bank would be on the hook for an additional $2.4 billion in collateral bringing the total to $5.1 billion. A two-notch downgrade would also expose BofA to a net derivative liability of about $1.1 billion. [15]

4. reputation risk

Quote from The Federal Reserve System's Commercial Bank Examination Manual, it defines reputational risk as "the potential that negative publicity regarding an institution's business practices, whether true or not, will cause a decline in the customer base, costly litigation or revenue reductions." [16]

Reputational risk is one of the Federal Reserve System's categories of safety and soundness and fiduciary risk (credit, market, liquidity, operational, legal, and reputational) and one of three categories of compliance risk (operational, legal, and reputational). While it is a defined risk, reputational risk is often difficult to identify and quantify.

Reputational risk is regarded as the greatest threat to a company's market value, according to a study by PricewaterhouseCoopers and the Economist Intelligence Unit.1 Reputational risk also overtook credit risk last year as the most pressing issue facing bank audit committees, according to an annual survey released on February 27, 2007, by Ernst & Young, one of the Big Four accounting firms.2 This article will discuss reputational risk, its implications for financial institutions, and how bank supervisors assess management's ability to measure and monitor the risk.

4.1 analyses

Here we view bank of America credit rating downgraded as an example to analysis the close relationship between credit rating and reputation risk. As we can see, a further reduction in certain of BOA credit ratings or the ratings of certain asset-backed securitizations may have a material adverse effect on its liquidity, potential loss of access to credit markets, the related cost of funds, its businesses and on certain trading revenues, particularly in those businesses where counterparty creditworthiness is critical. In addition, under the terms of certain OTC derivative contracts and other trading agreements, the counterparties to those agreements may require it to provide additional collateral, or to terminate these contracts or agreements, which could cause it to sustain losses or adversely impact it liquidity. If the short-term credit ratings of our parent company, bank or broker subsidiaries were downgraded by one or more levels, the potential loss of access to short-term funding sources such as repo financing, and the effect on our incremental cost of funds could be material.

As they were saying that reputation matters-it can explain why customers choose your product or service in preference to somebody else's and can make the difference between success and failure. In the case of upper, credit rating downgraded will have significant negative impact on liquidity and cause the rising of credit cost. As a result of these damages, reputation of BOA will suffers through the whole world. The situation of liquidity shortage will increase the possibility of failing to meet payment obligations. This is just the beginning, after the first default, to damage the bank's reputation, and we all agree that it will need more extra collateral for contacts or trades. A damaged reputation can significantly affect an organization's bottom line and, ultimately, its ability to borrow capital. Worse and worse, its reputation will be destroyed, and then it will face its failure.

According the analysis discussed above, we can identify that there is a close relationship between credit rating and reputation risk.

4.2 measurement of reputation risk

The objective of reputation risk measurement is to measure the losses of reputation risk and the allocation of required reserves for the reputational risk. Measuring reputational risk is relatively difficult and implemented through the evaluation and analysis of cases arising from the impact of polluted reputation of the Bank. To arrive at a composite risk rating for one of the risk areas, the following Parameters are used when assessing risk:

（1）What Is Level of inherent risk-high,

moderate, or low ?

（2）What Is Adequacy of risk manage-

ment-strong, acceptable, or weak ?

（3）What is Trend or direction of risk-de-

creasing, stable, or increasing ?

（4）Is there negative news about the Bank in the mass media?

（5）Are there complaints or claims from

customers or third parties against the Bank because the Bank is unable to meet payment obligations?

（6）Are there complaints or claims from

customers or third parties against the Bank because the Bank cannot conduct its business operations resulting from the failure of systems, infrastructure, or telecommunications? [17]

Many items and areas are considered when assessing the risk rating criteria. For reputational risk, prior to conducting an examination, examiners may review corporate press releases, letters to shareholders, stock message boards, and stock analyst comments to gain an initial indication of reputational risk. Examiners may also consider whether an institution responds to the customer concerns; whether the stock analyst recommends buying or selling and why; and what the shareholders, employees, or general public are saying about the institution.

Examiners analyze the financial statements, review marketing plans and advertising campaigns, and consider whether the institution is growing excessively and what types of risky products and services it is providing, if any. They also consider whether the institution is expanding outside its normal geographical area and is supportive of the community.

While on-site, examiners will talk to both bank employees and management to get a sense for items like corporate ethics, will talk to Human Resources to determine whether a consistent message on the importance of ethics is being conveyed throughout the organization, and will consider whether the institution's risk management practices are strong and commensurate with the size and complexity of the institution. Examiners will assess whether an institution's expertise is adequate and controls are in place to oversee growth if the institution should engage in riskier products or enter into new business lines.

In the information technology area, where reputational risk and operational risk go hand in hand, examiners measure board and management oversight from the top down. Lax oversight and controls leave an institution open to security breaches and employee theft, which again could result in unfavorable media attention and may damage the institution's brand name and reduce the public's confidence in the institution.

4.3 events about bank of America's reputation

Just as reputation can be built and preserved over time, it can also be destroyed quickly. We

are all too familiar with the scandals that affected financial institutions such as Riggs, Bank of New York, and PNC. These organizations maintained a strong corporate and public image, but their brand values were eroded due to well-publicized news. There are several events that have bad influence on BOA.

4.3.1 Municipal bonds fraud

Bank of America is accused of depriving local organizations of millions of dollars by engaging in illegal behavior when investing the proceeds of municipal bond sales.

Bank of America will pay $137.3 million to settle allegations that it defrauded schools, hospitals and dozens of other state and local government organizations. The bank is paying $107.8 million to these organizations in restitution, $25 million to the Internal Revenue Service for abuses related to the tax-free status of municipal bonds and $4.5 million to state attorneys general for costs related to their investigations. [18]

4.3.2 Parmalat controversy

Parmalat SpA is a multinational Italian

dairy and food corporation. Following Parmalat's 2003 bankruptcy, the company sued Bank of America for $10 billion, alleging the bank profited from its knowledge of Parmalat's financial difficulties. The parties announced a settlement in July 2009, resulting in Bank of America paying Parmalat $98.5 million in October 2009. In a related case, on April 18, 2011, an Italian court acquitted Bank of America and three other large banks, along with their employees, of charges they assisted Parmalat in concealing its fraud, and of lacking sufficient internal controls to prevent such frauds. Prosecutors did not immediately say whether they would appeal the rulings. In Parma, the banks were still charged with covering up the fraud.

4.3.3 Consumer credit controversies

In January 2008, Bank of America began

notifying some customers without payment problems that their interest rates were more than doubled, up to 28%. The bank was criticized for raising rates on customers in good standing, and for declining to explain why it had done so. In September 2009, a Bank of America credit card customer, Ann Minch, posted a video on YouTube criticizing the bank for raising her interest rate. After the video went viral, she was contacted by a Bank of America representative who lowered her rate. The story attracted national attention from television and internet commentators. More recently, the bank has been criticized for allegedly seizing three properties that were not under their ownership, apparently due to incorrect addresses on their legal documents.

4.3.4 WikiLeaks

In October 2009, WikiLeaks representative Julian Assange reported that his organization possessed a 5 gigabyte hard drive formerly used by a Bank of America executive and that Wikileaks intended to publish its contents.

In November 2010, Forbes published an interview with Assange in which he stated his intent to publish information which would turn a major U.S. bank "inside out". In response to this announcement, Bank of America stock dropped 3.2%.

4.3.5 Anonymous

On March 14, 2011, one or more members of the decentralized collective Anonymous began releasing emails it said were obtained from Bank of America. According to the group, the emails document "corruption and fraud", and relate to the issue of improper foreclosures. The source, identified publicly as Brian Penny, is a former LPI Specialist from Balboa Insurance, a firm which used to be owned by the bank, but was sold to Australian Reinsurance Company QBE.

4.3.6 Mortgage business

The state of Arizona has investigated Bank of America for misleading homeowners who sought to modify their mortgage loans. According to the attorney general of Arizona, the bank "repeatedly has deceived" such mortgagors. In response to the investigation, the bank has given some modifications on the condition that the homeowners refrain from criticizing the bank.

4.4 managing reputational risk

Although a company's reputation may be harmed by adversity, it may emerge from the episode with its reputation enhanced - simply due to the way it handled the situation. On the other hand, an organization can squander golden opportunities for building reputation through inept management.

4.4.1 Framework to restructure reputation

A framework should be designed to guide the implementation of a reputation risk management process in an organization, involving the establishment of the context and the identification, analysis, evaluation, treatment, communication and ongoing monitoring of reputation risks.

The key objectives can consider are:

（1）To formalize the approach for the management of an institution's reputation

（2）Provide guidance on the management of reputational risk including guidance on rating the impact of an incident on the reputation of the organization [19]

4.4.2 Advisements

Apart from restructuring the risk management framework, banks need to take a broader approach to managing risk, built on the following. [20]

（1）Knowledge Banks

Technology is a vital enabler of reputation risk management. Although banks can learn valuable reputational risk management lessons from the past, currently, employees need to document and store historical cases and precedents in generic form in repositories. Banks should also conduct training programs on reputation risk management to transfer knowledge.

（2）Social Media

Putting the damage to their reputations in social media behind them, banks must now influence the same platform to initiate customer engagement programs as part of their reputation-building measures.

（3）Vision Expansion

In the cases, banks should followed regulatory procedure or the policies of other banks, when they have set their own reputation risk standards. It's time they also drew upon the best practices followed by other risk-heavy businesses.

（4）Employee Belief

Employee self-belief significantly affects the banks' risk-fighting capacity. The quality of work of employees, either on the banks' payroll or on that of their Direct Selling Agents, call centers and outsourcing partners has a direct bearing on organizational reputation as well. So, in addition to building confidence among employees, all staff members should be sensitized to the fact that any slip-up on their part could adversely affect goodwill.

（5）Employee Satisfaction

Discontentment in the ranks will seriously jeopardize employee contribution to reputation building. Banks have to follow policies which are sensitive to the needs of the workforce and treat employees as partners in the task of organization development.

（6）Enterprise-wide Solution

Enterprise-wide risk management solutions facilitate a holistic view of organizational risks. These programs provide early distress signals enabling timely problem resolution.

（7）Analytics

Though a lot of hype has been created around banks' big data, not much has been done to harness its power for risk management purposes. Banks can use analytics solutions to sift through the mounds of information for managing reputation risk.

5. Rebuilt

Recent reports show that Bank of America shares have outperformed the broader market so far this year. The general belief was that Bank of America would not survive under pressure "even though the company did not include any plans for increases to its dividend or for share buybacks in its capital plan". Even when the company reported a sharp fall in first quarter profits, it still outperformed the expectations of analysts. [21]

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(3)The History of Bank of America - Ya-

hoo! Voices

(4) Bank of America: Information from

(5) bank of America--The Finance Owl

(6) "Bank of America ending 30K more

jobs".Philadelphia Business Journal

(7) [PDF] 2009 Annual Report

(8) Merrill Lynch Private Banking and In-

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(9) /latin

_america_ml_lob.aspx

(10) China Construction Bank - SinoPlanet

(11) Winners - ALB Hong Kong Law Awards

(12) /doc/88085313

/CRA

(13) Bank of America Shares Sink Further

After Downgrade - Business

(14) Moody's Warns Big Banks of Possible

Credit Rating Cuts

(15) Bank Of America's Potential Down

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(16) Quantifying Reputational Risk

(17) Reputation Risk Measurement · About Risk Management And Banking

(18) Bank of America to pay $137 million

in state fraud cases

(19) Reputation Risk Management Master-

class

(20) Reputation Risk Management: The

Way Ahead for Banks

(21)HBC | Posts about HSBC Holdings plc

(ADR)

（作者单位：上海华东理工大学 金融学093班）