Buffett's Berkshire to Become Bank of America's Biggest Holder -- Update

Warren Buffett's Berkshire Hathaway Inc. said Friday that it would buy 700 million Bank of America Corp. shares via warrants at below-market prices, resulting in the firm becoming the bank's largest shareholder.

The move was expected after the Charlotte, N.C., bank received permission from the Federal Reserve this week to boost its per-share dividend to 48 cents a year. Mr. Buffett has said a dividend of this size would prompt his company to swap its preferred shares into common stock.

Berkshire Hathaway is using $5 billion worth of preferred shares to buy 700 million common shares at $7.14, well below the current market price of $24.32 and the overall current value of $17.02 billion.

Bank of America shares rose 0.9% in premarket trading to $24.54. The move would make the famous stock picker's firm the largest shareholder of the second- and third-largest U.S. banks -- the third being Wells Fargo & Co. -- while also providing a vote of confidence for Bank of America stock.

On Wednesday, as part of the "stress test" process, the Fed approved Bank of America's plan to pay out the dividend of 48 cents, which represents a 60% increase from the previous level of 30 cents. The regulator also approved the bank's plans to buy back $12.9 billion worth of shares. Over the past year, the bank got permission to buy back $7.7 billion worth of shares.

In February, Mr. Buffett said in his annual letter to shareholders that Berkshire planned to make the switch in its Bank of America stake if the bank could increase its annual dividend to 44 cents a share. That is because a common-stock dividend of 44 cents would pay Berkshire more than the $300 million that the preferred stake gives the firm annually.

Berkshire bought its preferred shares in the bank in 2011, when the lender sorely needed to shore up investor sentiment. The $5 billion deal also included warrants to buy 700 million shares of Bank of America common stock for $7.14 apiece, far below the current price.

The preferred shares have little downside as long as Bank of America stays solvent. But they have no upside either. With a change in Berkshire's shares, Mr. Buffett effectively would be saying that he would like to take part in possible gains on Bank of America's stock while still enjoying a steady dividend.

After an exchange, Mr. Buffett's firm would own about 7% of the bank's common shares, giving it a significant role in corporate-governance issues from compensation to the election of new directors. Currently, the largest shareholder of Bank of America is Vanguard Group with 652.4 million shares, or a 6.6% stake, according to FactSet.

Before his February letter, Mr. Buffett had said he would wait to exercise the warrants, which expire in 2021.

It isn't clear when exactly a Berkshire exchange could happen now that the dividend increase has been approved. Mr. Buffett couldn't be reached to comment.

Big banks need approval from the Fed to increase their dividends, a process that culminated in Wednesday's annual review of how the lenders would perform under severely stressed economic conditions. This is the second year in a row that Bank of America has gotten permission to increase both its dividend and buybacks. In the early years of the test, the bank struggled to get a clean approval for such capital-return increases from the regulator.

The dividend and buyback boosts are positive for Bank of America Chairman and Chief Executive Brian Moynihan. The 57-year-old lawyer has worked to restore the bank's relationships with shareholders after years of large mortgage fines and losses stemming from the bank's crisis-era purchases of Countrywide and Merrill Lynch.

When Berkshire bought the preferred shares in 2011, Bank of America was slumping, losing confidence among many investors. Mr. Buffett helped to change that narrative by agreeing to purchase $5 billion in preferred stock and calling the bank "well led," an important endorsement for Mr. Moynihan more than a year after he had risen to the CEO role.

The terms though were expensive for Bank of America. The preferred stock paid a chunky 6% annual dividend, or $300 million a year. Bank of America shares have tripled since the investment, from about $7.60 to $23.88, giving Berkshire a paper gain of almost $12 billion. The Omaha, Neb., investor also has made about $1.7 billion in dividends on the preferred shares.

Mr. Buffett, Berkshire's chairman and CEO, amassed stakes in a number of lenders and financial-services companies, sometimes at cut-rate prices around the financial crisis. Berkshire's other bank holdings as of March 31 included Wells Fargo, Bank of New York Mellon Corp., American Express Co., Goldman Sachs Group Inc., M&T Bank Corp. and U.S. Bancorp.

Bank of America shares are up about 88% over the past 12 months in large part because of a big rally right after the November election. But one issue for the bank is that profit gains from higher interest rates have slowed as long-term rates have remained low.

--Austen Hufford contributed to this article.

Write to Rachel Louise Ensign at rachel.ensign@wsj.com and Nicole Friedman at nicole.friedman@wsj.com

(END) Dow Jones Newswires

June 30, 2017 08:00 ET (12:00 GMT)