DBRS: Wells Fargo’s 2Q Results Solid; NII up on Loan Growth and Margin

Summary:
• WFC’s quarterly net income of $5.7 billion was down modestly on a linked quarter basis on higher income tax expense (partially due to $359 in discrete tax benefits in 1Q15) while revenue was up 1% Year-on-Year (YoY) and flat linked quarter.
• Continued strong credit performance precipitated an increased reserve release this quarter and the likely temporary reversal of the decelerating trend. DBRS continues to anticipate declining future reserve releases as likely due to both loan growth and the normalization of credit trends.
• Average loans and deposits continued to grow steadily this quarter both increasing 1% linked quarter.
• On June 24, 2015, DBRS confirmed Wells Fargo & Company’s Issuer & Senior debt at AA with a Stable trend.

DBRS Inc. (DBRS) considers Wells Fargo & Company’s (Wells Fargo or the Company) 2Q15 results as sound although (DBRS-adjusted) revenues were nearly flat Quarter-on-Quarter (QoQ) as generally positive business results were offset by the accounting impact related to the Company’s debt hedges. Additionally, noninterest expenses decreased (QoQ) reflecting a decline in personnel expenses and advertising and promotion expenses partially offset by higher litigation accruals. In DBRS’s view, overall results continue to validate the Company’s strong execution of its diversified business operating model that is primarily focused on commercial and consumer banking with significant sources of fee income.

Wells Fargo continues to consistently lead most of its large banking peers in financial performance including returns on assets and equity. The Company’s solid organic loan and deposit growth, strong and sustained earnings, and robust capital generation support its ratings level. Importantly, the Company has been able to achieve these strong and consistent results despite the ongoing headwinds of the challenging interest rate environment, increased regulatory and litigation expenses and significantly enhanced liquidity and capital requirements.

Core loans increased $29.5 billion QoQ including $11.5 billion from this quarter’s GE Capital loan purchase and related Blackstone financing transaction. Additional loan growth was broad-based driven by C&I and CRE, as well as first mortgage, auto, credit card and security-based lending on the consumer side. Earning asset growth, a higher day count and a two basis points improvement in the NIM, drove a 2.8% or $312 million QoQ increase in net interest income (tax-equivalent).

Wells Fargo’s broadly diversified franchise generates almost half of its revenues from noninterest income sources. Noninterest income declined 2% QoQ, largely reflecting the accounting impact of debt related hedges and lower trading gains. This masked generally solid QoQ underlying fee growth including a 10% increase in mortgage banking income on higher origination volumes, especially purchases. Expenses were flat QoQ, and the Company-calculated efficiency ratio of 58.5% for 2Q15 was higher than 2Q14’s 57.9% and remained at the top end of the Company’s targeted efficiency range of 55% to 59%.

Wells Fargo’s liquidity and capitalization continue to be maintained at ample levels despite ongoing share buybacks and dividend distributions to shareholders, including $2.9 billion returned to shareholders in 2Q15. Plentiful liquidity was evidenced by liquid assets at 27% of total balance sheet assets at quarter-end. The Company reported an estimated Basel III fully phased-in (Advanced Approach) Common Equity Tier 1 ratio of 10.5% at June 30, 2015, unchanged QoQ. Capital levels are comfortably above the Company’s 10% targeted level.

DBRS rates Wells Fargo & Company Issuer & Senior debt at AA with a Stable trend.

Note:
All figures are in U.S. dollars unless otherwise noted.