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BofA to grow earnings by cutting costs in lower-for-longer environment

Bank of AmericaCorp.'s plans to build on years of cost-cutting efforts and furtherreduce expenses received a warm reception on the Street.

Low interest rates weighed on BofA's earnings, which fell fromyear-ago levels. But the company believes it can drive earnings higher in thefuture, even if rates remain low, by keeping net interest income stable whiledecreasing expenses.

Over the last four quarters, BofA's expenses total around$56 billion, but the company expects to reduce the annualized amount to$53 billion over thenext six quarters.

The Street reacted positively to the expense guidance,sending shares of BofA more than 3% higher the day the company releasedsecond-quarter earnings.

FBR analyst Paul Miller noted that the guidance implies BofAwill report improved profitability going forward, suggesting that its stock ischeap at current levels.

"As such, we believe the company is capable ofachieving higher operating ROTCEs as well as earning its cost of capital on amore consistent basis, which should allow for shares to trade at or above TBV;we are buyers of BAC with shares currently trading at ~85% of TBV," Millerwrote in a report.

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Since announcing a cost-cutting in 2011, "Project New BAC," BofAhas reduced its headcount by approximately 78,000 and decreased itsdistribution network by about 900 branches through closures and sales. But ithas fallen short of reducing its efficiency ratio to the target of 55%. BofA'sefficiency ratio stood at 65.43% at the end of the second quarter.

BofA closed 116 branches in 2015 and has closed 32 branchesso far in 2016. In addition,BofA cut more than 10,000 jobs in 2015, and reportedly was planning in its capitalmarkets and investment banking operations.

BofA Chairman and CEO Brian Moynihan said on thesecond-quarter earnings call that expense reductions remain a top priority, andnoted that the company provided the Street with expense targets because it feltlike the analyst community has not fully appreciated its cost-cutting effortsand needs to update their estimates. He further noted that BofA's work tosimplify core processes and increase digital customers will help the companyreduce expenses further.

CFO Paul Donofrio said during the call that the company isinvesting in technology and capabilities to improve efficiency. He highlightedthe company's growth in mobile banking as an obvious example. When customersmake deposits through digital channels, the transaction is 90% cheaper forBofA, he said. BofA's active mobile users grew to 20.2 million in the second quarterfrom 19.6 million in the prior quarter and 17.6 million a year earlier.

BofA has previously disclosed plans to continue makingchanges to its branchnetwork as well, suggesting that the structures will be similar tothose of First RepublicBank or Charles SchwabCorp. BofA plans to start with about 1,500 of its branches and thenrefurbish an additional 200 to 300 branches annually, retail banking chiefThong Nguyen said at a recent conference. BofA is focused on reducing thenumber of employees associated with completing various transactions, Nguyensaid. The Financial Times reportedthat the consumer division may see as many as 8,000 more jobs go.

BofA's past cost-cutting efforts have received mixedresponses from the analystcommunity.CLSA's Mike Mayo has remained very vocal about Bank of America and theeffectiveness of the company's expense reduction efforts over time. Mayodowngraded BofA to "sell" after its earnings for the first quarter of2012, arguing that its cost-cutting project would not have a very positiveimpact on the company. He believed that BofA was underperforming in general andthat stronger initiatives, including a breakup of the company, were required.Mayo rated the company "sell" for years before upgrading its sharesto "outperform" in January 2016, given that U.S. bank stocks tradedat "recession prices without a recession."

Mayo noted on the company's second-quarter 2016 call thatthe further expense reductions are welcome, but said BofA has failed to improveits efficiency ratio considerably as core revenues have fallen more than priorexpense reductions.

Since the end of the third quarter of 2011 when BofAlaunched Project New BAC, pre-provision net revenues have fallen to $7.13billion from $9.97 billion.

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