Late last evening, the U.S. Treasury, Federal Reserve and FDIC announced that they will provide Bank of America with a package of liquidity access, $20 billion of new capital from the Emergency Economic Stabilization Act's Troubled Asset Relief Program (TARP) and a stop-loss guarantee on a $118 billion pool of assets, most of which Bank of America acquired in its January 1, 2009 acquisition of Merrill Lynch. The capital injection and stop-loss guarantee bear strong resemblance to the November 2008 loss-guarantee arrangement between the federal government and Citigroup.

The principal components of the agreement according to the guarantee term sheet, preferred investment term sheet and related press releases are the following:  

  • Pursuant to its Targeted Investment Program, Treasury will purchase $20 billion of newly issued preferred stock from Bank of America. The terms of the preferred stock will have substantially similar terms as Treasury's two prior investments, totaling $25 billion, in Bank of America preferred stock under the Capital Purchase Program (CPP), except that this most recent issuance of preferred stock will bear an 8% dividend, rather than 5% (rising to 9%) for the CPP preferred stock. Bank of America will also issue warrants to purchase common stock with an aggregate exercise value of 10% of the preferred issued. These warrants differ slightly from the warrants issued previously by Bank of America under the CPP, which have an aggregate exercise value equal to 15% of Treasury's total preferred stock investment.
  • The FDIC, Treasury and the Federal Reserve together will provide a stop-loss guarantee on a $118 billion pool of “securities backed by residential and commercial real estate loans and corporate debt, derivative transactions that reference such securities, loans, and associated hedges, as agreed, and such other financial instruments as the U.S. government has agreed to guarantee or lend against.” The pool will consist of up to $37 billion (current carrying value) of "cash assets" and derivatives with up to $81 billion of potential future losses, but will not include any foreign assets, equity securities or assets originated or issued on or after March 14, 2008. Bank of America would fully absorb the first $10 billion of losses in the pool, and 10% of all losses thereafter, with the Treasury and FDIC absorbing the remaining 90% of losses up to $10 billion. The Federal Reserve would effectively absorb any remaining losses by financing the remainder of the asset pool on a non-recourse basis (other than Bank of America’s 10% loss sharing participation and recourse for interest and fee payments) at a floating rate equal to the overnight index swap (OIS) rate plus 300 basis points. Bank of America may draw on the loan facility if and when additional mark-to-market and incurred credit losses on the pool reach $18 billion. The Federal Reserve will charge a fee on undrawn amounts of 20 basis points per annum and the loan commitment will terminate (subject to Bank of America's prior termination and prepayment of any Federal Reserve loans and Federal Reserve consent) on the guarantee termination dates, which are 10 years on residential assets and 5 years on non-residential assets.
  • Bank of America will retain the income from the guaranteed asset pool, but will also be required to use a “template” to manage the guaranteed assets. The “template" will include a foreclosure mitigation policy, and require Bank of America, among other things, to obtain federal government approval before any Material Disposition (defined as a disposition of financial instruments in the asset pool that creates a loss, that combined with other dispositions of asset pool instruments in the same year, exceeds 1% of the asset pool size at the beginning of the year).
  • In exchange for the asset pool guarantee, and subject to further adjustment, Bank of America will issue to Treasury and the FDIC an additional $4 billion of preferred stock with an 8% dividend, and warrants to purchase common stock with an aggregate exercise value of 10% of the preferred issued.
  • Bank of America will be prohibited from paying common stock dividends above $.01 per share per quarter for three years without government approval (where Bank of America's "ability to complete a common stock offering of appropriate size" will be a consideration).
  • In addition to complying with the executive compensation requirements set forth in its existing CPP agreements, Bank of America must submit for Treasury’s approval an “executive compensation plan, including bonuses, that rewards long-term performance and profitability, with appropriate limitations.” In addition, the top five officers for CPP purposes will be prohibited from receiving any severance payments, an additional group of 25 executives will become subject to the CPP severance/golden parachute restrictions, and 2008 and 2009 executive bonus pools will be reduced by approximately 40% from 2007 levels , with any change for the 2009 bonus cycle requiring Treasury's approval. Bank of America must also obtain Treasury approval for any material changes in its corporate expenditures policy, including corporate aircraft usage, but there is no requirement that the bank dispose of any of its corporate aircraft.