A Bull Is Riding Shotgun With Wells Fargo
“I did not surrender!” insists George Salem, veteran banking analyst at Prudential Securities in New York.
But when he announced two weeks ago that he would no longer include Wells Fargo & Co. in his research coverage, Wells CEO Carl E. Reichardt and the bank’s 29,000 shareholders undoubtedly saw it as an admission of defeat.
Over the last two years, Salem has been one of Wall Street’s loudest bears on San Francisco-based Wells and on the California economy in general. As the Golden State fell deep into recession in 1991, Salem predicted that Wells would wind up a major casualty.
Instead, Wells has defied Salem and other doomsayers. Wells’ assets never deteriorated to the point the bears foresaw. And its stock, which some Wall Streeters figured would be $35 or lower by now, is at $106 on the New York Stock Exchange, nearly double its ’92 low.
For the 53-year-old Salem, who has been covering bank stocks for Prudential for most of the last 15 years, Wells’ stock performance in the face of his persistent “sell” recommendations has been one of the great mysteries of his career.
While Wall Street firms routinely shift the stocks on their coverage lists, rarely does an analyst stop following a major company altogether because the stock has failed to perform as projected.
“We have never before seen a bank stock defy the laws of banking and economics the way Wells has,” a frustrated Salem wrote to clients in his final report on Wells.
Indeed, despite the state’s continuing job losses and related woes, Wells’ “problem” loans have actually declined from a peak of $2.99 billion last fall to $1.97 billion at the end of March.
The latest figure represents 5.6% of Wells’ total loans of $35.2 billion--double the bad-loan percentage of many other major banks, but evidently manageable for Wells: The bank still earned $108 million in the first quarter.
How could Wells’ loan portfolio--83% of it in California--already be improving, even while the state’s economy languishes?
Salem, in his final report, takes one last swing at the bank, suggesting that federal bank examiners went easy on Wells to avoid a costly rerun of the Texas bank failures of the ‘80s.
“We sincerely doubt that California banks received anywhere near as tough exams as New England, other Eastern or Texas banks did in the ‘80s and early ‘90s,” Salem charges. “Thus, Wells’ asset quality may not be as good as it looks. And down the road, loan write-downs . . . that could have occurred in the early ‘90s may then be required.”
Wells’ management, normally tight-lipped anyway, declined to discuss Salem’s last barrage. And the feds, as a rule, don’t discuss their examinations.
But some of Salem’s peers in the analyst community insist that it is his reasoning that is faulty, not the market’s verdict on Wells’ future.
All along, the bulls’ case for Wells has been that Reichardt and his management team truly are among the nation’s smartest bankers. That reputation brought billionaire Warren Buffett on board as a big Wells shareholder in October, 1990; he now owns 11.6% of the stock, and his concerted buying over the last two years is believed to be a major reason why the price has held up so well.
Alison Deans, analyst at Smith Barney, Harris Upham & Co. in New York, notes that Wells hasn’t escaped California’s slump: The bank’s reserves for loan losses have soared from $885 million in 1990 to $2.12 billion now.
Because of that heavy reserving, Wells’ net profit plunged from $712 million in 1990 to a mere $21 million in ‘91, and last year totaled just $283 million, or $4.44 a share.
Even so, the bears expected far worse, Dean notes. They were disappointed, she argues, because they didn’t grasp how carefully Wells has historically lent money. “Their track record has been one of very good credits,” Deans says.
Especially in the now-collapsed market for commercial real estate loans in California, she says, “my sense is that Wells has the top-tier players” as borrowers.
Meanwhile, Wells’ earnings also have been supported by its knack for retaining low-cost consumer deposits, and by its heavy emphasis on generating fee income from such areas as trust services and mutual funds. (Wells has heavily promoted its “Stagecoach” funds.)
Thomas K. Brown, analyst at Donaldson, Lufkin & Jenrette Securities in New York, was effusive in a report he wrote on Wells in mid-April. “Wells Fargo is the best-managed company in the industry,” he gushed.
While the bears have focused on Wells’ overall exposure to California borrowers, they have failed to notice how quickly Wells has reduced its loans in the most worrisome sectors, Brown says.
For example, Wells’ highly leveraged transaction loans (such as for corporate leveraged buyouts) have dropped from $3.6 billion in 1990 to $1.1 billion now, thanks to charge-offs and repayments, Brown notes. The bank has also recorded sharp declines in construction and developer loans.
As for allegations that bank examiners have gone easy on Wells, Brown contends that the opposite is true. Nearly 52% of the loans that Wells has designated “problems” are actually current with their interest and principal payments. Brown believes that’s an indication that examiners have forced Wells to be overly conservative in identifying borrowers who might run into trouble.
Add up the positive trends, Brown says, and it appears that Wells’ earnings should rebound dramatically in 1994--to at least $12 a share, he says--as problem loans continue to fall and as the bank focuses on new growth opportunities in consumer and small-business lending and services.
Salem, however, is unrepentant. Even if Wells survives California’s ongoing slump, he says, deriving new growth anytime soon from the battered state economy will be a major struggle.
“I’ve been wrong on Wells stock, but I haven’t been wrong on California,” Salem says. “I still don’t know how (Wells) did it. I still say sell the stock.” In dropping coverage, he says, “some people told me to go out with a ‘hold’ rating on Wells, but I said bull . . . . , I’m going with what I believe in.”
Wells Fargo: Dependent on California Despite its national stature, Wells Fargo & Co. is almost exclusively a California bank: 83% of Wells’ total loan portfolio is in California, and 45% of the California loans are in Southern California--the region hardest-hit in the state’s recession.
Pct. of Calif. Calif. portfolio portfolio, by region: as pct. of total So. Cal. No. Cal. Cen. Cal. Loans outstanding: Total loan portfolio 83% 45% 37% 18% Secured commercial R.E. 71% 55% 34% 11% Middle market business 100% 35% 30% 35% Small business 100% 41% 38% 21% Consumer 96% 41% 43% 16% Troubled loans: Total loan portfolio 61% 71% 15% 14% Secured commercial R.E. 62% 77% 17% 6% Middle market business 100% 52% 13% 35% Small business 100% 59% 18% 23%
Source: Wells Fargo & Co.; percentages measure dollar volume of loans at Dec. 31.
