Wells Fargo’s Nasty Results, Shares Rise
Posted on: January 29, 2009 - Email Article - Printable Version
Wells Fargo’s [WFC: 29.76, +0.19 (+0.64%)] shares jumped after the bank reported earnings yesterday before the bell. For the period, Wells Fargo reported a net loss of $2.55 billion, or $0.79 a share, compared to last year’s net gain of $1.36 billion, or $0.41 a share. Their earnings swung to a loss on the back of a $5.6 billion, or about $1.20 a share, reserve that they set aside for bad loans. Additionally, revenue decreased by 3.8% during the quarter to $9.82 billion. Wells Fargo’s earnings severely missed analyst estimates on the Street, who were expecting earnings of $0.33 a share on revenue of $11.65 billion. Even with WFC’s strong earnings and revenue misses, their shares shot up more than 26% during the day on news that the U.S. government is working to create a “good bank, bad bank” structure.
The “good bank, bad bank” structure, sent the financial sector rallying on Wednesday, with the Financial Sector SPDR [XLF: 15.60, +0.13 (+0.84%)] up over 11% during the day. Late Tuesday night, CNBC reported that President Obama was nearing a plan to create a “bad bank” structure in hopes to sure up the beaten down financial sector. It is still unclear who would manage the new structure. Reports have surfaced that Sheila Bear, head of the Federal Deposit Insurance Corp. (FDIC), would head the new structure. It has been rumored that the size of the new bank will likely be held under $1 trillion of assets, so that it does not become too large. Obama’s administration is moving quickly to put a plan in place. The strength of the financial sector is crucial for the recovery of the rest of the economy; because without improved capital and lending, businesses won’t operate efficiently.
A Closer Look into WFC’s Earnings
Although Wells Fargo reported disappointing results for the quarter, they still managed to squeak out a net income for the fiscal year of 2008 of $2.84 billion, or $0.75 a share. Their net earnings for the year is much better in relation to other large banks like Citigroup [C: 4.18, +0.22 (+5.56%)] who suffered major losses last year. Wells Fargo suffered significantly from various parts of their businesses, adding up to $6.9 billion in pre-tax write-downs. These write-offs included: a $3.9 billion write-off for a credit reserve build at both Wells Fargo and Wachovia [WB: 0.00, 0.00 (0.00%)], a $1.7 billion reserve build at Wells Fargo, a $473 million write-off for securities write-downs, $413 million for mortgage warehouse credit, $294 million for Madoff-related write-downs, and a $74 million write-off for one-time merger and integration costs. These impairments and write-downs severely impacted their 4th quarter earnings, and dragged down the rest of the company’s operating results.
Asset quality weakened further during the quarter, which led to Wells Fargo’s net charge-offs for the period. WFC’s net charge-offs rose to 2.69% of average total assets… from just 1.28% a year before. These charge-offs relate to the loans that the banks think they won’t be able to collect on. Net charge-offs for all of the banks have risen dramatically over the past year, as housing prices have declined and consumers are struggling to make payments on other loans.
Wells Fargo’s capital still remains strong with a tier-one capital of $86.4 billion and a tier one capital ratio of 7.9%. WFC’s tier one capital ratio has remained relatively stable between a range of 8.5% and 9.9% over the past 6 years. Although they are currently adequately capitalized, this doesn’t mean that they may not run into problems in the future with a further deterioration in the mortgage or assets market. Hopefully, they will not be kicking themselves for announcing that they want to pay back the government’s lent TARP money quickly.
Wachovia’s Impact
Wells Fargo purchased failing bank Wachovia Corp [WB: 0.00, 0.00 (0.00%)] after negotiations had already taken place between rival bank Citigroup and Wachovia. The deal closed on December 31st, and will begin to impact Wells Fargo’s results this year. During the quarter, WFC released information regarding Wachovia’s operating results. The results were extremely poor with a reported loss of $11.1 billion. Significant items that affected Wachovia’s results included a $4.1 billion write-off for credit reserve build and a $4.3 billion write-off for market-disruption losses.
On a strategic business level, Wells Fargo has made one of the most intelligent acquisitions within the financial sector. With the merger finally complete, it expands their presence from just a west-coast to mid-west bank. Now, it gives them a large presence on the eastern-coast as well. Prior to the merger, WFC had 2,296 retail banking stores. The acquisition of Wachovia doubles their retail banking operations by giving them an additional 3,314 retail banking stores, with most of them on the Atlantic side. The merger will place them at the top of the list for U.S. banking stores, small business lending, middle market & commercial lending, and commercial real estate lending & brokerage. It also puts them in the #2 spot for deposits market share with 11.2%, only behind Bank of America [BAC: 17.12, +0.01 (+0.06%)], but ahead of J.P. Morgan [JPM: 43.18, +0.25 (+0.58%)] and Citigroup [C: 4.18, +0.22 (+5.56%)].
Wells Fargo has also stated that their merger integration between the two companies is “as planned and on schedule.” In general, management feels comfortable with the updated analysis they prepared on Wachovia’s horrific loan portfolios. They are moving quickly to reduce the risk in Wachovia’s portfolio, and have scaled back $155.2 billion in loans, securities, trading assets and loans held for sale. These reductions reduce their risk in their portfolios by 17% since June of 2008.
Management’s Statements
The CFO of Wells Fargo, Howard Atkins stated during the 4th quarter conference call:
“The environment in which Wells Fargo operates continued to be challenging in the fourth quarter and, if anything, became even more difficult, with the unexpected, abrupt and sharp decline in economic activity late in the quarter. Our fourth quarter results were 3 impacted by the economy and dysfunctional markets – in some cases, like higher charge-offs – adversely impacted – and in other cases, like higher mortgage applications, positively impacted. In addition, we took numerous actions in the fourth quarter to reduce the risk – or as we like to say, “de-risk” – the combined new balance sheet in preparation for the Wachovia acquisition. While some of these actions adversely impacted fourth quarter earnings, this de-risking will reduce the likelihood of losses in the future, improving the level and consistency of our performance going forward.”
Looking Forward
Although Wells Fargo’s poor earnings missed results, their stock still had a nice jump on the rumors of more government assistance by purchasing bad assets off the books of banks. Wells Fargo would benefit greatly from this new government structure as they would be able to unload the assets from the acquisition of Wachovia they no longer wanted. They would still be able to keep all of the key retail banking operations and deposits which Wells Fargo only wanted from Wachovia. Without help from the government, and further declines in asset prices, it is likely that Wells Fargo will need to raise more capital to ensure investors and credit rating agencies that they are still financially strong.
-Steve Murray
Disclosure: The mutual fund the author is associated with is long JPM.
The Following Stocks Were Mentioned In This Article: BAC, JPM, WB, WFC, XLF
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