After 6 years of increasing profits, Wachovia (WB) missed a quarter. The stock has been hammered and presented a great buying opportunity and a 5.5% yield so we picked up shares late Friday.
The 4th largest U.S. bank reported last week net income of $1.69 billion, or 89 cents a share, compared with $1.88 billion, or $1.17 a share, a year earlieQ3 net income dropped 10% as loan-loss provisions quadrupled and the company recorded $1.3 billion in losses and write-downs. Wachovia also signaled increasing credit troubles ahead. CEO G. Kennedy Thompson said "trends in mortgage credit are deteriorating faster than we would have expected. Our statistics remain better for consumer assets than those of most of our peers". Revenues rose 4.3% to $7.35 billion.
The capital-markets business, which includes brokerage and asset-management operations, posted a 19% rise in earnings as revenues climbed 14%. At the beginning of October, Wachovia closed its $6.8 billion acquisition of broker A.G. Edwards and created the nation's second-largest brokerage behind Merrill Lynch (MER). Commenting on this, Thompson said "Even with no closed end-fund syndicate activity in this quarter and, even with a $40 million evaluation loss on commercial paper investments, they generated 18% year-over-year growth. And their poised for even more success now that our new AG Edwards colleagues are on board. It’s admittedly early days, but the AG Edwards integration is proceeding as we had planned to date."
Helping to mitigate the mortgage related issues should be the 2006 Golden West Financial acquisition. The deal gives WB a national presence, with significant branch
additions in the key markets of California, Florida and Texas. It also adds higher returning assets to WB's balance sheet with minimal risk exposure. The revenue synergies will be significant, as GoldenWest Financial's branches begin offering WB's diverse products. 2007's earning from GoldenWest are expected to be significantly higher than 2006 and growth for 2008 is also expected.
Thompson said the summer's fixed-income markets "clearly had a disappointing impact on the results of market-oriented businesses, but the strength in our core banking and brokerage businesses continued to serve us very well." He then said something that I first began saying in August about the mortgage markets survivors, "We’re very optimistic about our growth prospects in these fast-growing western markets and we believe we’re well positioned for opportunities in a now much less crowded mortgage industry." Look for earning here to rebound nicely as mortgage applicants have vastly fewer place to go.
Allin all not real bad result given what we have sen from banks in general lately. what was most reassuring were comments from CEO Thompson. While "deeply disappointed" in the company's Q3 results, Mr. Thompson said investors shouldn't be looking for major strategic changes at the bank. He said the investment bank is focused on cutting costs through reducing headcount and curbing incentives and discretionary spending.
"We remain firmly committed to these businesses," Mr. Thompson said. Overall, he said, "you will not see substantial shifts in our business model."
I was torn between Bank of America (BAC) and Wachovia but what convinced me was Thompson's commitment to its model that clearly is not broken but just had a bad quarter. Six years a solid results need not be thrown out due to a bad quarter. When you contrast this to comments from Bank of America that may lead one to believe there may be wholesale changes, Wachovia was the clear pick.
WB has grown its dividend dividend 71% since 2003 and earnings 46% in the same time frame. Shares, at their lowest levels since August 2004 trade at 9 times earnings and yield a solid 5.5%. It may be a while before any real appreciation comes into play for the shares but the downside from here is minimal and I will gladly take the 5.5% to wait.
Read the latest earnings call transcript here: