How did Wells Fargo's core profitability and returns trend in 2005?

Net income rose 9% to $7.7 billion and diluted EPS rose 10% to $4.50. Return on average assets was 1.72% and return on average common equity was 19.57%, both essentially flat versus 2004 (1.71% and 19.56%). Management attributed growth to revenue expansion, operating leverage, and solid credit quality.

What were the main credit quality concerns in 2005?

Net charge-offs increased to $2.28 billion (0.77% of average loans) from $1.67 billion (0.62%). Key drivers were $171 million of incremental consumer bankruptcy losses following the October 2005 law change, a $163 million one-time charge-off timing conformance at Wells Fargo Financial, and a $100 million provision for Hurricane Katrina. Nonaccrual loans declined to $1.34 billion (0.43% of loans), and the allowance for credit losses covered 303% of nonaccrual loans.

How much will stock option expensing affect future earnings?

Wells Fargo adopted FAS 123R on January 1, 2006. Including its February 2006 option grant, management estimates total stock option expense will reduce 2006 earnings by approximately $0.06 per share. The 2005 pro forma diluted EPS under fair value accounting was $4.38 versus $4.50 as reported.

What key risks does the filing highlight for investors?

The Risk Factors section flags interest rate risk (including yield curve flattening and mortgage servicing rights valuation), a possible economic slowdown, dependence on cross-selling, the potential for higher credit losses (including Hurricane Katrina impacts), volatility in mortgage banking and venture capital income, regulatory and legislative changes (including proposed Basel II implementation and possible state challenges to OCC authority), reliance on subsidiary dividends for parent-level cash flow, and stock price volatility.

WFC 10-K FY2005 Annual Report — Revenue, Net Income, EPS

01—Abstract

Summary

Summary of the 10-K filed March 9, 2006. Cited figures are marked; the original filing is the authoritative source.

Wells Fargo & Company (WFC) closed 2005 as a $482 billion^a diversified financial services company and the fifth-largest U.S. bank holding company by assets.

The company reported record net income of $7.7 billion^b, up 9% from $7.0 billion in 2004, and record diluted EPS of $4.50, up 10% from $4.09. Revenue rose 10% to a record $32.9 billion, driven by 8% growth in net interest income to $18.5 billion (reported; $18.6 billion taxable-equivalent) and 12% growth in noninterest income to $14.4 billion. Return on average assets was 1.72% and return on average common equity was 19.57%.

Average loans grew 10%, and management emphasized a cross-selling strategy, with the average retail banking household holding 4.8 products. Credit quality was solid but carried some one-time pressures. Net charge-offs rose to 0.77% of average loans from 0.62%, mainly due to the October 2005 bankruptcy law change ($171 million^c), a Wells Fargo Financial charge-off timing conformance ($163 million), and a $100 million Hurricane Katrina provision.

The allowance for credit losses was $4.06 billion^d, or 1.31% of loans, and nonaccrual loans fell slightly to 0.43% of total loans. Balance sheet repositioning cost roughly $239 million in losses from the sale of $48 billion of low-yielding ARMs and $17 billion of debt securities.

Capital remained strong, with a Tier 1 RBC ratio of 8.26% and total RBC of 11.64%, and the Company is rated Aaa by Moody's through Wells Fargo Bank, N.A. Investors should note that stock option expensing under FAS 123R begins in 2006, with an estimated impact of about $0.06 per share, and the filing flags interest rate, mortgage servicing rights, and regulatory risks.

02—Key points

Key Highlights

Record 2005 net income of $7.7 billion (up 9%) and record diluted EPS of $4.50 (up 10%), with broad-based double-digit profit growth across business lines.
Revenue grew 10% to a record $32.9 billion; noninterest expense rose only 8%, producing operating leverage and an efficiency ratio of 57.7% (vs. 58.5% in 2004).
Net interest margin held relatively flat at 4.86% (vs. 4.89%) despite a flattening yield curve, supported by balance sheet repositioning and deposit growth; average core deposits rose 9%.
Credit costs increased: provision for credit losses rose 39% to $2.38 billion, with net charge-offs at 0.77% of average loans, driven by bankruptcy law changes and a $100 million Hurricane Katrina provision.
Strong capital and ratings: Tier 1 RBC of 8.26%, total RBC of 11.64%, and the Company's bank subsidiary remains the only U.S. bank rated Aaa by Moody's.
Shareholder returns: dividends declared rose to $2.00 per share (up 8%), and the Company repurchased about 53 million shares in 2005, with about 35 million shares of repurchase authority remaining.
Expanding fee businesses: noninterest income rose 12%, led by trust, investment and IRA fees (up 15%), card fees (up 19%), and mortgage banking income (up 30%).

03—Questions

Frequently Asked Questions

How did Wells Fargo's core profitability and returns trend in 2005?
Net income rose 9% to $7.7 billion and diluted EPS rose 10% to $4.50. Return on average assets was 1.72% and return on average common equity was 19.57%, both essentially flat versus 2004 (1.71% and 19.56%). Management attributed growth to revenue expansion, operating leverage, and solid credit quality.
What were the main credit quality concerns in 2005?
Net charge-offs increased to $2.28 billion (0.77% of average loans) from $1.67 billion (0.62%). Key drivers were $171 million of incremental consumer bankruptcy losses following the October 2005 law change, a $163 million one-time charge-off timing conformance at Wells Fargo Financial, and a $100 million provision for Hurricane Katrina. Nonaccrual loans declined to $1.34 billion (0.43% of loans), and the allowance for credit losses covered 303% of nonaccrual loans.
How much will stock option expensing affect future earnings?
Wells Fargo adopted FAS 123R on January 1, 2006. Including its February 2006 option grant, management estimates total stock option expense will reduce 2006 earnings by approximately $0.06 per share. The 2005 pro forma diluted EPS under fair value accounting was $4.38 versus $4.50 as reported.
What key risks does the filing highlight for investors?
The Risk Factors section flags interest rate risk (including yield curve flattening and mortgage servicing rights valuation), a possible economic slowdown, dependence on cross-selling, the potential for higher credit losses (including Hurricane Katrina impacts), volatility in mortgage banking and venture capital income, regulatory and legislative changes (including proposed Basel II implementation and possible state challenges to OCC authority), reliance on subsidiary dividends for parent-level cash flow, and stock price volatility.

04—Continue

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