Wells Fargo & Company — Q3 2015 Form 10-Q
Reporting period: Three and nine months ended September 30, 2015. Wells Fargo is a diversified U.S. financial services company. Amounts below are in U.S. dollars; financial statement amounts are generally in millions unless stated otherwise.
Financial performance and condition
| Metric | Q3 2015 | Prior comparable period | Nine months 2015 | Prior comparable period |
|---|---|---|---|---|
| Total revenue | $21.9 billion | $21.2 billion; up 3% | $64.5 billion | $62.9 billion; up 2% |
| Wells Fargo net income | $5.8 billion | $5.7 billion; up 1% | $17.3 billion | $17.3 billion; down slightly |
| Diluted EPS | $1.05 | $1.02; up 3% | $3.12 | $3.08; up 1% |
| Net interest income, GAAP | $11.5 billion | $10.9 billion | $33.7 billion | $32.3 billion |
| Net interest margin | 2.96% | 3.06% | 2.96% | 3.13% |
| Provision for credit losses | $703 million | $368 million | $1.6 billion | $910 million |
| Noninterest expense | $12.4 billion | $12.2 billion; up 1% | $37.4 billion | $36.4 billion; up 3% |
| Efficiency ratio | 56.7% | 57.7% | 58.0% | 57.9% |
Management’s taxable-equivalent net interest income was $11.7 billion in Q3 and $34.5 billion for nine months. Growth in loans and securities supported interest income, while the prolonged low-rate environment and growth in lower-yielding liquid assets weighed on margin. Fees were 48% of revenue in Q3 and nine-month 2015. Q3 equity-investment gains rose, while trading gains fell; nine-month mortgage origination/sale gains increased, but mortgage servicing income declined.
- Balance sheet at September 30: Assets were $1.75 trillion; loans were $903.2 billion, up 8% year over year; deposits were $1.20 trillion, up 6% year over year. Core deposits were $1.09 trillion.
- Credit and liquidity: Allowance for loan losses was $11.7 billion; total allowance for credit losses, including unfunded commitments, was $12.6 billion, or 1.39% of loans. Net charge-offs were $703 million, or 0.31% annualized of average loans. Nonperforming assets were $13.3 billion, down $1.1 billion from Q2. Unencumbered primary liquidity was $355.9 billion, versus $321.1 billion at year-end 2014.
- Funding and capital: Short-term borrowings were $88.1 billion and long-term debt was $185.3 billion. Total equity was $194.0 billion. Basel III transition CET1 was 10.87%; management’s fully phased-in Standardized Approach CET1 was 10.65%. Fully phased-in supplementary leverage ratio was 7.8%.
- Cash flow, nine months: Net cash provided by operating activities was $19.8 billion; investing activities used $72.4 billion; financing activities provided $50.5 billion. Cash and due from banks declined $2.2 billion to $17.4 billion.
Material changes versus comparable periods
- Q3 revenue and diluted EPS grew 3%, but return on assets declined to 1.32% from 1.40% year over year; return on common equity was 12.62% versus 13.10%.
- Average loans rose 7% year over year in Q3 and average core deposits rose 8%. Core loans grew despite planned runoff in non-strategic portfolios; the latter fell to 6% of total loans from 8% a year earlier.
- Credit trends improved overall, with nonperforming assets declining for a 12th consecutive quarter and consumer losses easing. However, commercial losses rose, particularly in energy: oil-and-gas nonaccrual loans increased to $566 million from $76 million at year-end 2014.
- The allowance declined from year-end 2014, but Q3 had no allowance release—the first quarter without one since Q1 2010—and the provision rose year over year.
- Q3 noninterest expense reflected higher operating losses, including litigation expense, and a $126 million Wells Fargo Foundation contribution. Nine-month operating losses rose 42% year over year.
Outlook, commentary, risks and unusual items
- Management expected to operate at the higher end of its 55%–59% full-year 2015 efficiency-ratio target. It also expected further share repurchases during the remainder of 2015; timing and amount remain subject to capital, market, legal and regulatory considerations.
- Two GE Capital transactions were pending: the Commercial Distribution Finance and Vendor Finance platforms and certain Corporate Finance assets, with approximately $32 billion of total assets, and GE Railcar Services. Both were expected to close in Q1 2016. The finance-platform acquisition was expected to be neutral to modestly accretive in 2016, reflecting transition costs.
- Management cited low interest rates as a constraint on margin and warned that actual results could differ materially from forward-looking statements. Key sensitivities include rates, deposit mix, housing and economic conditions, energy-sector credit, cybersecurity, regulatory change, litigation and mortgage-servicing or repurchase obligations.
- Mortgage repurchase liability was $538 million; the high end of reasonably possible losses was $928 million above the recorded liability. The high end of reasonably possible litigation losses was approximately $1.4 billion above recorded liabilities. Management said an unfavorable resolution could materially affect results for a particular period, although it did not expect the matters to materially affect consolidated financial position.
- A June 2015 amendment to an OCC consent order requires remediation of mortgage-servicing practices and restricts certain new servicing acquisitions and outsourcing. Noncompliance could result in further supervisory action, including possible civil money penalties.
- Q3 included $140 million of other-than-temporary impairment write-downs, mainly reflecting energy-sector investment deterioration; a $126 million Foundation contribution; and a gain on sale of the Warranty Solutions business. The filing also reported a $250 million forward share-repurchase contract entered in October, expected to settle in Q4 for about 4.8 million shares.
- On November 2, 2015, after quarter-end, S&P placed the long-term ratings of the Parent and other bank holding companies on negative credit watch. A downgrade could affect funding and collateral requirements. Management reported no material cyber-attack losses to date, while identifying cyber risk as a priority.
Most important facts for investors to verify
- Whether net interest margin stabilizes as loan and deposit growth, low rates and liquidity levels evolve.
- Whether energy-sector deterioration leads to higher commercial nonaccruals, charge-offs, provisions or allowance needs.
- Whether operating losses, litigation expenses and compliance spending continue to rise, and whether the efficiency-ratio target remains achievable.
- The eventual cost, timing and regulatory conditions of the GE Capital acquisitions, and whether projected 2016 earnings effects are realized.
- Developments in mortgage-servicing remediation, repurchase claims and litigation, including potential losses beyond recorded reserves.
- Effects of any rating action and evolving Basel III, liquidity, G-SIB and proposed loss-absorbing-capital requirements on funding, capital returns and liquidity.