Wells Fargo - Increased Efficiency Drives This Bank Forward

| About: Wells Fargo (WFC)

Shares of Wells Fargo (WFC) fell some 2.6% in Friday's trading session. The bank reported its third quarter results for 2012.

Third Quarter Results

Wells Fargo reported third quarter revenues of $21.2 billion, up 8.0% on the year before. On average, analysts expected Wells Fargo to report earnings of $21.5 billion.

The company reported a 21.7% increase in earnings to $4.94 billion. Earnings per share rose 22.2% to $0.88 per share, beating analysts consensus by a penny.

Net interest margin compressed by 18 basis points to 3.66% during the quarter. Falling interest margins were offset by a growth in deposits and loans, and a 2.4% improvement in the bank's efficiency ratio.

During the quarter, Wells Fargo repurchased approximately 17 million shares of common stock, and the bank expects to repurchase another 9 million shares in the final quarter.

CEO and Chairman John Stumpf commented on the results, "Through the efforts of our more than 265,000 team members, we've now achieved six consecutive quarters of record net income and EPS. By focusing on earning all of our customers' business and providing outstanding service, we continued to generate growth across our diversified set of businesses."

Segmental Information

Community Banking

Revenues for the community banking division rose 4.8% to $13.1 billion. Revenues rose on the back of higher volumes in the mortgage division. Net income rose 17.9% to $2.74 billion as a result of an increase in revenues and a $347 million decline in the provision for credit losses. The loan book of Wells Fargo's community banking fell by 0.9% to $485.3 billion, while deposits rose 6.8% to $594.5 billion.

Wholesale Banking

Revenues for the wholesale banking division rose 15.9% to $5.9 billion. Net profits rose 10.5% to $1.99 billion. The loan balance of the firm rose 9.4% to $277.1 billion. Core deposits rose 7.7% to $225.4 billion. Net income did not keep up pace with wholesale banking revenues as a result of a $121 million increase in the provision for credit losses.

Wealth, Brokerage and Retirement

Revenues for the wealth, brokerage and retirement division rose 5.0% to $3.0 billion. Net income rose 16.6% to $338 million as the provision for credit losses fell to $30 million. The core deposit base rose 2.6% to $136.7 billion. Client assets rose 11% to $1.2 trillion over the year. IRA assets rose 13% to $295 billion, while wealth management client assets rose 4% to $199 billion.


Wells Fargo boosted its total assets by 5% to $1.37 trillion. Wells Fargo reported Tier-1 common equity under Basel I of $105.8 billion. The Tier-1 common equity ratio came in at 10.1%. Under Basel III conventions, the Tier-1 common equity ratio comes in at 8.0%.

For the first nine months of 2012, Wells Fargo generated revenues of $64.1 billion. Net income came in at $13.8 billion, or $2.45 per diluted share. At this rate, the company is on track to generate revenues of $85 billion for the full year. Earnings could come in at $18-$19 billion, resulting in earning per share of $3.25 per share.

The market currently values Wells Fargo at $181 billion. This values the bank at 2.1 times annual revenues and 10 times annual earnings. The bank currently trades at 1.26 times its book value per share.

Currently, Wells Fargo pays a quarterly dividend of $0.22 per share, for an annual dividend yield of 2.6%.

Investment Thesis

Year to date, shares of Wells Fargo have risen some 25%. Shares quickly advanced from $27 in January and steadily rose to $37 in September. Shares fell back to $34.25 at the moment on the back of the earnings report and the news that the company got sued by the US government.

Over the past five years, shares are trading largely unchanged. Shares traded as high as $40 in 2008 and hit lows of $10 in 2009. From that point in time shares have traded roughly within a $25-$35 trading range. Between 2008 and today, total assets rose from $1.31 trillion to $1.37 trillion at the moment.

Wells Fargo has seen steady results so far this year. The bank has boosted its position in the mortgage banking division and is rapidly becoming more efficient. The banks efficiency ratio hit a new low of 57.1% in the third quarter.

Earlier this week, shareholders got some unpleasant news. The US government claims the bank made reckless mortgage loans that defaulted and caused massive losses for the federal insurance program.

Wells Fargo is carefully maneuvering itself for this low interest rate environment. Lower interest rates and a recovery in the housing market is driving demand for housing and consequently mortgage origination. Given that Wells Fargo underwrites one in every three mortgages in the country, it is perfectly positioned to benefit from this. On the other hand, net interest margins compressed by 18 basis points to 3.66%. The bank expects stabilization in net interest margins, and will not invest in riskier or longer duration assets to offset the falling margins.

Shares of Wells Fargo represent an excellent long term investment opportunity for shareholders. The bank does not have substantial trading businesses in its investment banking unit. Those activities brought some of its major competitors down during the crisis.

Wells Fargo focuses more on traditional banking activities and is rapidly increasing its efficiency at doing it. The bank has started growing again, is boosting its profits, and pays out a fair dividend yield of 2.6%.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.