There are those who will tell you that the equity value of a big bank is an imponderable mystery. Which is true. And there are those who will tell you that Bank of America’s sale of preferred shares plus warrants to Buffett will “keep BofA from a more-dilutive capital raise.” Which is probably true as a matter of, like, EPS and share issuance and stuff. And there are those who point out that Buffett did not get a 2008-level deal with a double-digit coupon and otherwise face-ripping terms. Which is also true.
Still, he’s Warren Buffett. He got a deal. And imponderable mysteries (and meaningless EPS numbers) aside, you could if you wanted to calculate the value per common share that Buffett’s investment implies for BAC. This is neither rocket science nor particularly scientific at all and I suggest it only because, in my former life, I often encountered people who thought it was a sensible thing to look at and ponder in their hearts.
So here is a Google Docs spreadsheet that does it. Short answer is about $5.28, which is just a bit less than the $7.14 strike price on Buffett’s warrants, or the high-$7s area where it’s currently trading.
The thinking here is as follows, based on the publicly announced terms of the deal:
1. You can value the preferred pretty easily. This is not entirely true! But pretend it is. The simple way to do this is to value the preferred as a perpetuity with a 6% coupon discounted at the going yield (as of yesterday) for BAC’s traded perpetual preferreds, which were at around 8.25% – 8.50% in round numbers. You could get worried about differing call dates etc. and do something more complicated, like pretend it’s a term instrument and will be called at 105% in X years – which made sense for some of the TARP-era 10% prefs – but the perpetuity model is easier and probably makes good sense here. The spreadsheet gives you the option but, y’know, avoid it.
2. Once you’ve done that you subtract the preferred value from Buffett’s $5bn investment to get the value of his warrants. You divide that number by 700 million – the number of warrants – to get the value per warrant.
3. You can plug that in to a Black-Scholes calculator where you know things like the strike price (around $7.14), maturity (10 years), etc. The implied volatility on a 10-year BAC option is somewhat mysterious but you might think about things like the fact that long-term S&P vol has been in the low 20s, financials are more volatile than the market broadly, and BAC’s short-dated vol has been in the high 30s for the last six months and is like six zillion today. And then throw in a 35% vol for the hell of it. Or don’t – bold blue inputs here are changeable to your heart’s content.
4. So the thing you’re trying to figure out is the implied stock price. You could use yesterday’s close as the spot price – $6.99, in which case Buffett got about $5.9 billion of stuff for a $5 billion investment, which probably makes sense as a matter of what kind of deal he can negotiate (Column G does the math). Or you could use the current price as spot – call it $7.82 – and then he’s at more like $6.3 billion (Column H). So he made like $450mm of “theoretical” value today.
But you want to solve for the implied spot, meaning the BAC stock price at which Buffett paid $5bn to get $5bn of paper. And that’s the goalseek in C30-C32 (and Column I). And on our assumptions that’s an implied price of around $5.28.
Is that airtight? No. Does it “prove” that BAC is “worth” five bucks and change? No. Is it directionally suggestive of the kind of discount Buffett bought BAC at? Probably.