Wednesday, July 21, 2010

 

SAN FRANCISCO - Wells Fargo & Company (NYSE: WFC) reported diluted earnings per common share of $0.55 for second quarter 2010 compared with $0.45 for first quarter 2010 and $0.57 for second quarter 2009. Net income was $3.06 billion for second quarter 2010 compared with $2.55 billion in first quarter 2010 and $3.17 billion in second quarter 2009. For the six months ended June 30, 2010, the Company's net income was $5.6 billion, or $1.00 per share, compared with $6.2 billion, or $1.13 per share, a year ago.

"Over the course of the quarter, our 278,000 team members focused steadfastly on serving customers, generating strong earnings performance across our diverse lines of business and increasing market share across many of our businesses," said Chairman and CEO John Stumpf. "We also made strong progress in the successful integration of Wachovia. We have completed approximately half of the integration process, as we prepare to convert our eastern markets to Wells Fargo beginning in the fall.

"Wells Fargo's consistent business model and strong financial performance position us to serve a key role as our nation continues to recover from the recent financial crisis and regain its economic vibrancy and leadership. Having long supported a legal and regulatory environment that promotes consumer protections, financial reporting transparency and clarity, as well as prudent risk management, we support the general principles inherent in the financial reform bill, as they are consistent with how Wells Fargo operates. We remain concerned that some aspects of regulatory reform may have unintended negative impacts for America's financial system, consumers and businesses.

"Nevertheless, as this new chapter in financial services begins, we will remain true to our time-tested business model by deepening customer relationships, cross selling our array of financial products, increasing the number of accounts and providing superior customer service. We are encouraged by signs of continued improvement in the credit landscape. We remain confident about Wells Fargo's future and are optimistic about America's road to financial recovery."

Financial Performance

"We were very pleased with the Company's financial results this quarter," said Chief Financial Officer Howard Atkins. "While economic recovery in the U.S. and abroad remained uneven, Wells Fargo earned record net income applicable to common stock of $2.9 billion, with net income of $3.06 billion - the fourth time since the merger that quarterly net income was greater than $3.0 billion. Despite declining loan demand since early last year and lower mortgage hedging results in second quarter, total revenue and pre-tax pre-provision profit remained strong at $21.4 billion and $8.6 billion, respectively, with linked-quarter growth in the franchise driven by businesses as diverse as commercial banking, investment banking, wealth management, asset-based lending, auto dealer services, debit card and global remittance.

In the six quarters since the merger with Wachovia, Wells Fargo has earned cumulative profits of $17.9 billion reflecting the breadth of our business model and the power of the consolidation with Wachovia. The merger integration activities are proceeding on track and the combined company continues to produce financial results including revenue synergies better than our original expectations.

We believe credit quality has indeed turned the corner, with net charge-offs declining to $4.5 billion, down 16 percent from first quarter and down 17 percent from last year's peak quarter, and we expect this positive trend will continue over the coming year. Our capital ratios continued to build rapidly, with Tier 1 common reaching 7.53 percent and Tier 1 capital at 10.42 percent, even with the purchase of $540 million of Wells Fargo warrants auctioned by the U.S. Treasury."

Revenue
Revenue was $21.4 billion, essentially flat from first quarter, and pre-tax pre-provision profit was $8.6 billion. Reflecting the breadth and growth potential of the Company's business model, many businesses had double-digit revenue growth linked quarter including commercial and corporate banking (deposit growth, an increase in new loan commitments and higher loan resolution income), investment banking (syndication activity), commercial real estate brokerage (deal flow), asset-based lending (loan volume and syndications), international (customer foreign exchange activity), auto dealer services (loan growth), merchant service (processing volume), and debit cards (increased account activity).

Net Interest Income
Net interest income was $11.4 billion, up 11 percent (annualized) from $11.1 billion in first quarter 2010.

The net interest margin increased 11 basis points from the prior quarter to 4.38 percent. Most of the increase in net interest margin in the quarter was due to additional PCI loan resolution income.

Continued strong growth in consumer and commercial checking and savings accounts offset the impact on income and margin from the decline in loans.

Noninterest Income
Noninterest income was $9.9 billion compared with $10.3 billion in first quarter 2010 and $10.7 billion a year ago. The year-over-year decline was due to lower mortgage banking revenue. Linked quarter results reflected solid growth in deposit services (up 26 percent annualized on account growth), trust and investment fees (up 11 percent annualized on customer and balance growth), and card fees (up 21 percent annualized on seasonally higher customer activity). Trading revenue declined $428 million linked quarter, partially offset by a $245 million increase in net gains from equity investments.

Mortgage banking noninterest income of $2.0 billion included:

- $793 million in revenue from mortgage loan originations/sales activities on $81 billion of originations. Mortgage applications were $143 billion and the mortgage application pipeline was $68 billion at quarter end, up $9 billion, or 15 percent, from prior quarter end. Second quarter origination revenue was reduced by a $382 million addition to the mortgage loan repurchase reserve compared with a $402 million addition in first quarter.

- $1.2 billion of servicing income, down $148 million from the prior quarter. Net MSR hedge results were $626 million, down $363 million from prior quarter. Net hedge results in second quarter reflected a $2.7 billion decline in the fair value of MSR (due primarily to a 72 basis point decline in mortgage rates) offset by a $3.3 billion increase in the value of the hedge including carry income. MSRs as a percent of loans serviced for others declined 13 basis points to 0.76 percent, the lowest ratio since March 31, 2009, and the average note rate was 5.53 percent, the lowest since Wells Fargo reentered the servicing business. The reduction in net MSR hedge results was partially offset by lower servicing foreclosure costs due to an improvement in servicing portfolio delinquencies from loan modification and loss mitigation activities.

At June 30, 2010, the Company had net unrealized gains on securities available for sale of $8.6 billion, compared with $7.4 billion at March 31, 2010.

Noninterest Expense
Noninterest expense was $12.7 billion compared with $12.1 billion in first quarter 2010. Second quarter noninterest expense included $498 million of merger-related costs (up $118 million from prior quarter) and $137 million of severance costs related to the previously announced Wells Fargo Financial restructuring. Operating losses were $627 million, up $419 million from the prior quarter primarily due to additional litigation accruals. The efficiency ratio was 59.6 percent compared with 56.5 percent in the first quarter and 56.4 percent in second quarter 2009, with the increase largely due to additional merger expenses, litigation accruals and Wells Fargo Financial's restructuring costs.

Loans
Average total loans were $772.5 billion compared with $797.4 billion in first quarter 2010 and

$833.9 billion a year ago reflecting continued lower demand for credit from consumer customers.

"Several consumer portfolios increased during the quarter, including auto dealer services, private student lending and Wealth, Brokerage and Retirement," said Atkins. "We saw other consumer portfolios declining at a lower rate, including Wells Fargo Home Mortgage, credit card, and consumer lines and loans. On the commercial side, for the first time this year, we saw an increase in lending activity and line usage. Of the $55 billion decline in total loans year over year, $26 billion were in higher-risk, nonstrategic portfolios that were in run-off mode," said Atkins.

Deposits
Average total core deposits were $761.8 billion compared with $759.2 billion in first quarter 2010 and

$765.7 billion in second quarter 2009. Consumer checking accounts grew a net 7.4 percent from second quarter 2009. Average mortgage escrow deposits were $25.7 billion, compared with $24.6 billion in first quarter 2010. "We're very pleased with our success in attracting and retaining customer deposits and by the characteristics of our deposit base," said Atkins. "By the end of the quarter, core deposits fully funded the Company's loan portfolio. Average consumer checking and savings deposits increased 10 percent from

a year ago to $672 billion. Year over year, CDs declined $63 billion, primarily the result of $57 billion of higher-cost Wachovia CDs maturing, yet total core deposits were down only $3.9 billion from a year ago.

Checking and savings deposits represented 88 percent of total core deposits. Our average deposit cost was 35 basis points."

Capital
Capital ratios continued to increase in the second quarter reflecting strong internal capital generation. As a percentage of total risk-weighted assets, Tier 1 capital increased to 10.4 percent, total capital to 14.4 percent, Tier 1 leverage to 8.6 percent and Tier 1 common equity to 7.5 percent at June 30, 2010, up from 9.9 percent, 13.9 percent, 8.3 percent and 7.1 percent, respectively, at March 31, 2010. The Company repurchased $540 million of warrants from the U.S. Treasury during the quarter, which reduced the

Tier 1 common ratio by approximately 5 basis points.

Credit Quality
"Last quarter we said we believed credit losses and provision expense had peaked," said Chief Credit and

Risk Officer Mike Loughlin. "This quarter's significant reduction in credit losses confirmed our prior outlook and, in fact, we have seen credit quality improve earlier and to a greater extent than we had previously expected. Quarterly credit losses declined 16 percent to $4.49 billion in the second quarter from $5.33 billion in the first quarter. This improvement in losses was significant and broad based across the consumer portfolios, with reduced losses in the home equity, Wells Fargo Financial, Pick-a-Pay, consumer lines and loans, auto dealer services and credit card portfolios. Losses in the commercial portfolio continued to improve from the higher levels experienced last year, including a 10 percent linked quarter reduction in commercial real estate losses. We also saw improvement in early indicators of credit

quality, with improved 30 day delinquencies in many portfolios, including business direct, credit card,

home equity, student lending and Wells Fargo Home Mortgage. Based on declining losses and across-the board improved credit quality trends, the provision of $4.0 billion was $500 million less than net charge offs in the second quarter. Absent significant deterioration in the economy, we currently expect future reductions in the allowance for loan losses.

"The continued improvement in credit performance is a result of a slowly improving economy coupled with actions taken by Wells Fargo over the past several years to improve underwriting standards and exit

portfolios with unattractive credit metrics. We have seen the positive impact of these actions in the current quarter and in projected losses for future quarters."

Credit Losses
Second quarter net charge-offs were $4.5 billion, or 2.33 percent of average loans (annualized), down

from first quarter net charge-offs of $5.3 billion, or 2.71 percent. Total credit losses included $1.3 billion

of commercial and commercial real estate losses (1.80 percent), down $30 million from first quarter, and

$3.1 billion of consumer losses (2.79 percent), down $817 million from first quarter, as shown in the

following table.

 

Nonperforming Assets
Nonaccrual loans were $27.8 billion in the second quarter. Growth in nonaccrual loans slowed sharply, up

only 2 percent from first quarter. The growth in second quarter occurred in the real estate portfolios

(commercial and residential) which consist of secured loans. Nonaccruals in all other loan portfolios were

essentially flat or down. New inflows to nonaccrual loans continued to decline (down 18 percent linked

quarter). The amount of disposed nonaccruals increased (up 12 percent linked quarter), but was below the

level of inflows. In part, it is taking longer to dispose of nonaccruals than in prior cycles because of federal

government programs, such as HAMP, and Wells Fargo proprietary programs, such as the Company's

Pick-a-Pay Mortgage Assistance program, which require customers to provide updated documentation

and to complete trial repayment periods before the loan can be removed from nonaccrual status. In

addition, for loans in foreclosure, many states, including California and Florida, have enacted legislation

that increases the time frames to complete the foreclosure process, meaning that loans will remain in

nonaccrual status for longer periods even though the loans have already been written down. "At the

conclusion of the foreclosure process, we continue to sell real estate owned in a very timely fashion," said

Loughlin.

 

"Loss expectations for nonaccrual loans are driven by delinquency rates, default probabilities and

severities. While nonaccrual loans are not free of loss content, the loss exposure remaining in these

balances is expected to be significantly mitigated by four factors. First, 98 percent of nonaccrual loans are

secured. Second, losses have already been recognized on 39 percent of the consumer nonaccruals and

33 percent of commercial nonaccruals. Residential nonaccrual loans are written down to net realizable

value at 180 days past due, except for loans that go into trial modification prior to going 180 days past

due, which are not written down in the trial period (3 months). Third, as of June 30, 2010, 54 percent of commercial nonaccrual loans were current on interest. Fourth, there are certain nonaccruals for which

there are loan level reserves in the allowance, while others are covered by general reserves."

Foreclosed assets were $5.0 billion at June 30, 2010, up $913 million from first quarter. Of this increase,

$427 million were foreclosed loans in the PCI portfolio that are now recorded as foreclosed assets. "While

foreclosed assets increased, the majority of the projected loss content in these assets has already been

accounted for, or is insured by GNMA, and should have limited additional impact to expected loss levels,"

said Loughlin.

Purchased Credit Impaired Loans
The improvement in credit quality was also evident in the PCI portfolio, which consists of loans acquired

through the Wachovia merger that were deemed to have probable loss and therefore written down at

acquisition. Overall, the PCI portfolio continued to perform in line with or better than originally expected.

In particular, the Pick-a-Pay portfolio improved significantly, resulting in a $1.8 billion transfer from the

nonaccretable difference to the accretable yield. This increase in accretable yield will be recognized as

revenue over the remaining life of the loans, which is approximately eight years. "Our commercial PCI

customers have been able to refinance and pay off loans due to increased market activity," said Loughlin.  "Because of these payoffs and dispositions, we reduced the associated PCI nonaccretable difference in

second quarter by $506 million, an amount reflected in income in the quarter."

 

Loans 90 Days or More Past Due and Still Accruing
Loans 90 days or more past due and still accruing also improved in the quarter, totaling $19.4 billion at

June 30, 2010, compared with $21.8 billion at March 31, 2010. For the same periods, the totals included

$14.4 billion and $15.9 billion, respectively, in advances pursuant to the Company's servicing agreement

to GNMA mortgage pools and similar loans whose repayments are insured by the Federal Housing

Administration or guaranteed by the Department of Veteran Affairs.

 

Allowance for Credit Losses
The allowance for credit losses, including the reserve for unfunded commitments, totaled $25.1 billion at

June 30, 2010, down from $25.7 billion at March 31, 2010. The allowance coverage to total loans was

3.27 percent, flat compared with 3.28 percent at March 31, 2010. The allowance covered 1.4 times

annualized second quarter net charge-offs compared with 1.2 times in the prior quarter. The allowance

coverage to nonaccrual loans was 90 percent at June 30, 2010, compared with 94 percent at March 31,

2010. "We believe the allowance was adequate for losses inherent in the loan portfolio at June 30, 2010,

and appropriately reflects the uncertainty around the impact of loan modification programs and economic

recovery conditions," said Loughlin.

 

Additional detail on credit quality and trends is included in the quarterly supplement, available on the

Investor Relations page at www.wellsfargo.com/invest_relations/investor_relations/

Community Banking
Community Banking reported net income of $1.8 billion, down $325 million, or 16 percent, from prior year. Revenue decreased 10 percent year over year and 8 percent (annualized) linked quarter largely due to lower mortgage hedging results (lower carry income) and the planned reduction in certain liquidating loan portfolios. Noninterest expense decreased $211 million, or 3 percent, from prior year due to the FDIC special assessment in second quarter 2009 and Wachovia merger-related cost savings. The provision for credit losses decreased $946 million from second quarter 2009 on lower net charge-offs across consumer portfolios and improved credit quality metrics.

 

Regional Banking Highlights

• Strong growth in checking accounts (combined Regional Banking)

- Consumer checking accounts up a net 7.4 percent from prior year

- Business checking accounts up a net 5.0 percent from prior year

- Consumer checking accounts up a net 9.0 percent in California, 7.4 percent in Texas, 10.1 percent in New Jersey and 7.3 percent in Florida

 

• Solutions growth was very strong during the quarter

- Legacy Wells Fargo:

o Core product solutions (sales) of 7.33 million, up 15 percent from prior year

o Core sales per platform banker FTE (active, full-time equivalent) of 5.94 per day, up from 5.64 in prior year

o Sales of Wells Fargo Packages® (a checking account and at least three other products) up 25 percent from prior year; purchased by 77 percent of new checking account customers

 

- Wachovia:

o Continued to align the eastern markets to the Wells Fargo sales and service model. Platform banker FTEs grew by more than 500, or 6 percent, in the first half of 2010, with planned additions throughout the remainder of 2010. Platform banker productivity continued to show improvement over 2009 results.

• Record retail bank household cross-sell

- Legacy Wells Fargo: record retail bank household cross-sell of Wells Fargo products of

6.06 products per household

- Wachovia: retail bank household cross-sell of Wachovia products continued to grow to

4.88 products per household

• Customer experience (combined Regional Banking)

- Continued to integrate customer experience practices after implementing common measurements across the Wells Fargo footprint in first quarter 2010

- More than 200,000 customers were contacted about their experience in Wells Fargo stores and around 47,000 customers spoke about their experience in the contact centers

- 8 out of 10 customers were "extremely satisfied," the highest rating, with their recent call or visit with Wells Fargo

• Continued focus on distribution

- Converted 87 Wachovia banking stores in California in second quarter; Texas and Kansas scheduled to convert in late July 2010

- Opened 13 banking stores in second quarter for retail network total of 6,445 stores

- Converted 1,484 ATMs to Envelope-FreeSM webATM machines in second quarter

• Small Business/Business Banking

- Wells Fargo expressed appreciation to small businesses in its communities during the annual

Small Business Appreciation Campaign held in May and June, conducting extensive outreach to customers and providing a variety of financial resources and money-saving offers

- Record store-based business solutions quarter, up 31 percent from prior year (legacy Wells Fargo)

- Sales of Wells Fargo Business Services Packages (business checking account and at least three

other business products) up 62 percent from prior year, purchased by 65 percent of new business checking account customers (legacy Wells Fargo)

- Business Banking household cross-sell of 3.88 products per household (legacy Wells Fargo)

- Extended $6.6 billion in new small business loans in first half of 2010, including $403 million in SBA loans, making Wells Fargo the largest SBA lender (in dollars). While demand for small business loans continued to be soft, saw some improvement in second quarter with new loan volume increasing 30 percent from first quarter

• Online and mobile banking

- 17.6 million combined active online customers

- 3.4 million combined active mobile customers

- Celebrating 15 years of online banking this quarter, Wells Fargo continued its history of innovation, becoming the first and only bank to offer an ATM e-receipt option to its online banking customers, giving customers the choice to either have an ATM receipt sent to an online banking inbox or to a designated personal e-mail account

 

Wells Fargo Home Mortgage (Home Mortgage)

• Home Mortgage applications of $143 billion, up from $125 billion in prior quarter
• Home Mortgage application pipeline of $68 billion at quarter end, up from $59 billion at

March 31, 2010

• Home Mortgage originations of $81 billion, up from $76 billion in prior quarter
• Owned residential mortgage servicing portfolio of $1.8 trillion

Wholesale Banking
Wholesale Banking reported net income of $1.4 billion, up $343 million, or 32 percent, from second quarter 2009 and up $215 million, or 18 percent linked quarter. Revenue increased $418 million, or
8 percent, from prior year and increased 25 percent (annualized) linked quarter driven by growth in
commercial, commercial real estate brokerage (Eastdil), international, and asset-based lending. Noninterest expense increased $38 million, or 1 percent, from prior year as higher legal and foreclosed
asset expenses were partially offset by lower personnel expense and FDIC assessments. The provision for
credit losses declined $112 million from second quarter 2009. The decrease included a $111 million
reserve release in the second quarter 2010 compared with a $162 million credit reserve build a year ago.

 

• Total average core deposits up $24 billion, or 18 percent, from prior year driven by Commercial

Banking, Government and Institutional Banking, and Global Financial and Institutional Trade Services

• New commercial real estate loan commitments of $3.4 billion, up 204 percent from prior quarter and

317 percent from the same period last year as the economy began to show signs of improvement

• Acquired North American factoring portfolio of the Commercial Services Division of GMAC

Commercial Finance, which consists of 150 small and middle-market clients that serve retail

Businesses

• Commercial Electronic Office® (CEO®) portal - the first comprehensive internet portal for commercial

banking customers when it launched in 2000 - marked its 10-year milestone. More than 50,000

companies or 70 percent of Wells Fargo's commercial and corporate customers are enrolled in the

portal, averaging 2.9 million logins per month

 

Wealth, Brokerage and Retirement
Wealth, Brokerage and Retirement reported net income of $270 million, down $12 million, or 4 percent,
from prior quarter, and up $12 million, or 5 percent, from prior year. Revenue was $2.9 billion, up
2 percent from the prior year, as higher asset-based revenues partially offset lower securities gains in the brokerage business. Noninterest expense was up 2 percent from the prior year due to growth in broker
commissions driven by higher production levels. Average core deposits increased $8 billion, or 7 percent,
from the prior year.

Retail Brokerage

• Client assets of $1.1 trillion, up 6 percent from prior year
• Managed account assets increased $36 billion, or 22 percent, from prior year driven by the market

recovery and solid net flows

Wealth Management

• Strong deposit growth, with average balances up 15 percent from prior year
• Investment management and trust revenue up 8 percent from prior year

Retirement

• Institutional Retirement plan assets of $211 billion, up $20 billion, or 10 percent, from prior year
• IRA assets of $238 billion, up $24 billion, or 11 percent, from prior year