Wells Fargo: Strong and Getting Stronger

Wells Fargo & Company (WFC) made headlines this morning when they announced the purchase of Wachovia Corporation (WB) (see acquisition conference call transcript). Wachovia had already entered an agreement to sell its banking operations to Citigroup Inc. (C) which was leaning on assistance from the FDIC. The new deal encompasses not only the banking portion of Wachovia, but the full company including the investment bank and brokerage operations.The deal is a stock based transaction with each share of Wachovia being exchanged for 0.1991 shares of Wells Fargo. Based on closing prices from Thursday trading, the deal is valued at roughly $15.1 Billion dollars. Management states that the deal to buy the entire firm avoids the complexity and inevitable loss of value that would have occurred if the company had been split as planned in the Citigroup deal.

Wells Fargo is taking on the full balance sheet of Wachovia including the mortgage securities that have caused so much havoc. In order to finance these liabilities and still keep their solid financial footing, Wells Fargo is expected to issue $20 billion in securities (mostly common stock) which would most likely be priced next week. This is similar to the JP Morgan deal that was priced last week. If the WFC offering performs even remotely similar to the JPM deal, investors could be looking at a very attractive trading opportunity.

Potential purchasers of the new company will be looking at a very strong financial services firm. Wells Fargo has a broad presence in the western United States, and will now be able to leverage Wachovia’s east coast footprint. Some mergers struggle with cultural differences, but Wachovia and Wells Fargo have many similarities that should make integration much easier. Both firms have opted to focus on consumers rather than spending too much energy on lower margin institutional clients, and both have their roots in smaller regional bank culture which caters to their strategy well.

During the financial crisis, Wells Fargo stock has performed exceptionally well. The stock is just a bit off its 52 week high and while earnings are contracting a bit this year, they are still positive and supporting the 3.6% dividend yield. While the stock may sell off a bit once the news is digested and the timing is set for the stock offering, the weakness will likely give investors a good low-risk buying opportunity and I would recommend considering a purchase over the next week.

Disclosure: Author does not have a position in WFC

Comments

[Ishortyou:]

Now that the bail out deal was approved Wachovia needs to hurry in seeling those toxic 122 billion in loans to the government at cost and take the tax breaks to finally get rid off those toxic wastes.

2008 Oct 03 04:41 PM

[Frank Miller:]

I really would like to believe this article. But the reality is Wells Fargo is consolidating for business survival, not business gain. All the big banks are trying to consolidate. The idea is too get so big, the government has to bail them out. Sadly, the bailout will not fix this issue either. You can't fix bad investments by in this way. Simply put: our banking institutions are in trouble. Everyone should start looking for ways to protect their money. This basically comes down to either taking your money out of the market and cutting discretionary spending or diversifying and investing some overseas. I personally use offshore bank accounts and they have helped me with diversification and asset protection. If you want to read more on why offshore investing is smarter, feel free to visit my website.

Best,
Frank Miller

2008 Oct 03 05:55 PM

[t-bird:]

I like WFC and feel it is a good fit for WB.

However, last time WFC reported quarterly earnings they left off 80 billion in off balance sheet equity lines of credit.

Until clarification or disclosure is made I plan to steer clear of WFC.

2008 Oct 04 03:36 PM

[Timbo:]

I remember reading stories from "Analysts" saying how great it was for Wacovia to be buying Golden West. Same argument. Wells has marked its portfolio to fantasy. It will take time for the HELOCs to go down but down they will go. Next year we will be reading about poor Wells and their hard times. Who would think 80 Billion in HELOCs, biggest group in California, would lose value? Who indeed?

2008 Oct 04 04:58 PM

[StockBoySF:]

If you want short term gain go elsewhere and don't buy WFC. Wells purchased WB as part of a long-term strategy. Wells is the best at cross-selling products to its customers. I remember when the Wells and Norwest merger was criticized ten years ago. Many thought that an internet bank- the old Wells, would not mesh with the consumer-oriented Norwest, I saw it as the best of both worlds. I was a fan of that merger and the resulting institution is the only AAA bank in the US and one that has retained it's stock value through the turmoil of the past year or two.

The latest acquisition will allow Wells to apply its conservative lending standards to WB and apply its "high-touch" approach with its customers to cross-sell products. Whereas the old Wells and Norwest merger melded the strengths of two different companies, the WFC/WB merger allows Wells to apply its winning philosophy to a bank the same size (actually a bit larger).

The conservative lending practices of Wells will be a big area of adjustment for WB's folks... but it is WFC's very conservativeness that kept it out of much of the current trouble. Sure there are areas of concern, but it is fundamentally the strongest bank in the US (with the possible exception of JPMorgan).

Yes, Wells will experience problems with write-downs in the next couple of years and people will be wondering why Wells made the acquisition, but Wells is willing to take a short and medium term hit (including to its credit ratings which will be downgraded) for long-term growth. Given that Wells is the rescuer here it will be much of the successful Wells policy that becomes the standard in the new Wells.

I predict two years of troubles (mostly with write-downs or loans and toxic stuff) and another two years for everyone at the new Wells to be trained and buy into the sales culture before solid returns are seen.

The good news is that Wells knows how to do mergers and, just like the Norwest merger, Wells will take the time to get this merger right.

If I were Wells I would be very aggressive in writing off the toxic crap as soon as possible. Make no mistake, without taxpayer assistance it will be a HUGE hit to WFC, but one that the bank will survive. Ten years from now Wells will be an AAA bank and just as solid as it is now, weathering whatever the latest financial markets may be doing.

2008 Oct 04 05:56 PM

[NotChuck:]

StockBoySF, I think you are largely right about WFC looking forward, but the WFC leadership under Dick Kovacevich was actually from Norwest, not Wells. In addition, back then (I worked at Norwest in 96-97 before the merger) it was Norwest who had the industry lead in relationships per customer(4+ as I recall) and it was this retail sales strategy that was brought from Norwest to WFC, not the other way around.

2008 Oct 07 12:30 AM