Read the article, “Are Banks Afraid of Covid-19? Watch How Much They Set Aside for Loan Losses This Week” linked below and respond to each question.

Please do not repeat the questions in your answer, but clearly indicate the question you are referring to (e.g. “(1b)”). Limit your response to a maximum of 600 words.

https://search-proquest-com.ezproxy.library.wisc.edu/docview/2422925715/CD167D3F72414280PQ/1?accountid=465

1. Loan loss reserves serve the same purpose for loans as the allowance for doubtful accounts does for accounts receivable. Loan loss reserves are similar to the allowance for doubtful accounts; loan-loss provisions are similar to bad debt expense.
   1. Why would loan loss reserves increase as a result of the economic impacts of COVID 19?
   2. What happens to net income of the bank when there is an increase in the loan loss reserve?
   3. What happens to net income if management realizes in future periods that the loan reserve is too high and decreases the contra asset?
   4. What incentives does management have to overstate their loan loss reserve (HINT think about discussion of cookie jar allowances as discussed in Chapter 8)?

1. Banks earn interest on loans and also pay interest on deposits.
   1. What is the formula for profit margin?
   2. How are loans and deposits (checking and savings accounts) classified on a bank’s balance sheet and how would interest earned on loans and paid on deposits be classified on a banks’ income statement?
   3. Why are bank’s margins shrinking during the pandemic? How does increasing customer deposits affect banks’ profit margins?

• The article discussed that the Federal Reserve was going to limit bank’s ability to pay dividends and buy back shares of their own stock.
  • What impact do dividends have to stockholders’ equity?
  • Why would the Federal Reserve put limits on the amount of dividends banks can payout?
  • There are many reasons companies may want to buy back shares of their own stock. What are two reasons that companies buy back their own stock? (Hint: See discussion of Treasury Stock in Chapter 11).
  • The article states “The quarter will be missing one sizable lift: stock buybacks. Seeking to preserve capital, the big banks halted share repurchases in March and the Fed later ruled out any repurchases through the third quarter. That means per-share earnings won’t be boosted by reduced share counts.” How could buying back shares of their own stock impact banks’ earnings per share?