Stress-Test Shocker: BofA Needs $34B, But That's "Good News" for Ken Lewis & Co.

Turns out the spokesman was technically right, as I suggested here: The FT dramatically underestimated BofA's capital needs, which are closer to $34 billion, according to The New York Times. Notably, The NYT quoted BofA chief administrative officer J. Steele Alphin, who confirmed the figure.

Now, $34 billion (technically $33.9 billion) is a lot of money and a lot more than $10 billion. But this is being spun as a "good news" story for Bank of America and embattled CEO Ken Lewis because $33.9 billion is less than the $45 billion on TARP funds the government has pledged to the bank.

As a result, the bank "could satisfy regulators' demands simply by converting non-voting preferred shares it gave the government in return for the capital, into common stock," as The NYT reports.

Of course, it's not so simple. Remember, the idea here is to increase bank's tangible common equity, a key ratio of a banks health, not put actual dollars into the bank and/or force it to write-down its toxic loans. Also, the government converting its preferred shares has major ramifications, including:

• It would make the government one of BofA's largest shareholders.
• Taxpayers would lose the dividend and seniority rights granted by the preferred shares, and be at more direct risk of loss if BofA (inevitably) suffers additional losses and needs to raise yet more capital.
• Existing shareholders would suffer further dilution, depending on the conversion ratio used. (Of course, the government's recent history with Citigroup - which, oh by the way needs $50 billion to $55 billion in additional capital -- suggests the conversion rate will be very favorable to the bank and current shareholders, which may explain why BofA shares rebounded from steep pre-market declines and were recently up more than 7.5%.)

If this all sounds like something out of Superman's Bizarro world, well...it is! But wait, there's more.

Since the capital BofA needs is less than the government's pledge, the bank would be left with an $11 billion "surplus" that it would seek to use to pay back its TARP loans, Alphin tells The Times.

So in sum, in all makes perfect sense: the government will use the TARP to help the bank repay its TARP loans. Peter, meet Paul. Paul, meet Peter.