Wells Fargo & Company (NYSE:WFC) Q4 2023 Earnings Call Transcript January 12, 2024

Wells Fargo & Company beats earnings expectations. Reported EPS is $1.29, expectations were $1.16. WFC isn't one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Welcome, and thank you for joining the Wells Fargo Fourth Quarter 2023 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Please note that today's call is being recorded. I would now like to turn the call over to John Campbell, Director of Investor Relations. Sir, you may begin the conference.

John Campbell: Good morning. Thank you for joining our call today where our CEO, Charlie Scharf; and our CFO, Mike Santomassimo, will discuss fourth quarter results and answer your questions. This call is being recorded. Before we get started, I would like to remind you that our fourth quarter earnings materials, including the release, financial supplement and presentation deck are available on our website at wellsfargo.com. I'd also like to caution you that we may make forward-looking statements during today's call that are subject to risks and uncertainties. Factors that may cause actual results to differ materially from expectations are detailed in our SEC filings, including the Form 8-K filed today containing our earnings materials.

Information about any non-GAAP financial measures referenced, including a reconciliation of those measures to GAAP measures can also be found in our SEC filings and the earnings materials available on our website. I will now turn the call over to Charlie.

Charlie Scharf: Thanks, John. I'll make some brief comments about our results and update you on our priorities. I'll then turn the call over to Mike to review fourth quarter results as well as our net interest income and expense expectations for 2024 before we take your questions. Let me start with some 2023 financial highlights. Although, our improved 2023 results benefited from the strong economic environment and higher interest rates, our continued focus on efficiency and strong credit discipline were important contributors as well. We grew net income and diluted earnings per share with higher revenue and lower expenses. Revenue growth was driven by strong growth in net interest income as well as higher noninterest income.

Our expenses were down from a year ago, benefiting from lower operating losses as well as the impact of efficiency initiatives. As expected, net charge-offs increased from historical low levels and our allowance for credit losses increased as well. We continue to closely monitor our portfolios, taking credit tightening actions as appropriate. We returned a significant amount of capital to our shareholders, including increasing our common stock dividend from $0.30 per share to $0.35 per share in the third quarter, and we repurchased $12 billion of common stock. Average loans increased modestly with growth in the first half of the year, offsetting declines later in the year, reflecting weaker loan demand as well as credit tightening actions. Average deposits were down driven by consumer spending as well as customers migrating to higher yielding alternatives.

The financial health of our consumers remained strong. While average deposit balances per customer continue to decline from their peak, they remained above pre-pandemic levels as wage growth has more than offset increased spending. Having said that, there are cohorts of customers that are more stressed. Consumer spending remained strong. Credit card spend was up 15% for the year and was remarkably stable throughout the year, with growth rates strong across all categories, except fuel, which was impacted by lower gas prices. Debit card spending was up 1% for the year. Discretionary spend growth slowed from a year ago while non-discretionary spend was stable. Our risk and control work remains our top priority, and I refer you to the comments I made last quarter regarding both our progress in completing the work as well as the risks that remain.

We continue to execute on our strategic priorities. And while it is early, and we have more to do, we are starting to see improved growth and increased market share in parts of the company which we believe will drive higher returns over time. Let me provide just a few examples. Our new credit card products have driven an increase in consumer spend at a rate significantly better than the industry average. We've also been investing in the Corporate Investment Bank. CIB revenue grew 26% from a year ago, and our investment banking and trading market shares increased. The positive results in both areas were accomplished while maintaining our existing risk appetite. Additionally, continued execution of our more focused home lending strategy should also produce higher returns and earnings over the next several years.

And while our consumer, small and business banking, commercial banking and wealth and investment management business remains strong, opportunities to increase share are significant. Other accomplishments include we launched a new co-branded credit cards with Choice Hotels, building on the new products we've launched over the last couple of years. We continued to enhance our mobile app, which is driving mobile adoption momentum, adding 1.6 million mobile active customers in 2023 and increasing mobile logins 11% from a year ago. Consumers interacted over 20 million times last year with Fargo, our AI-powered virtual assistant. We exceeded our $150 million commitment to help advance racial equity in home ownership. Our special purpose credit program lowered mortgage rates and reduced financing costs to help thousands of customers.

For commercial clients, we continued to invest in order to have the right people and the right capabilities to better penetrate our customer base. We continue to attract experienced bankers to our investment bank, helping us drive growth in priority products and sectors. Throughout 2023, we added new heads and co-heads of equity capital markets, global mergers and acquisitions, financial institutions, financial sponsors, health care and technology, media and telecom. We've also started to see the benefit of the targeted investments we are making in our trading capabilities, including adding talent and improved technology with a focus on supporting our core clients. Finally, we're launching a partnership with Centerbridge, which helps us provide our middle market clients with access to alternative sources of capital, another example of how we're providing solutions for our clients.

Investing in our business and introducing new products and services remains a priority in 2024, and Mike will highlight some of the opportunities later on the call. In 2023, we also continued to take a closer look at the businesses that were not in sync with our strategic priorities. As I mentioned, we simplified the home lending business, which included exiting the correspondent business. We are reducing the size of our servicing portfolio as well as optimizing our retail team to align with our narrower customer focus. In the third quarter, we sold private equity investments in certain Norwest Equity Partners and Norwest Mezzanine Partners funds. We also continue to invest in the communities we serve throughout the year, and you can see many examples at the beginning of our slide presentation.

As we look forward, our business performance remains sensitive to interest rates and the health of the U.S. economy but we are confident that the actions we are taking will drive stronger results over the cycle. We are closely monitoring credit and while we've seen modest deterioration, it remains consistent with our expectations. Our capital position remains strong and returning excess capital to shareholders remains a priority. Mike will talk more about our expectations for 2024, but I'd like to make a couple of points. First, we have seen and have said that we expect net interest income to decline from the high levels we saw as rates were rising last year. And given that we remain modestly asset-sensitive, the implied Fed rate path reflected in recent forward curves impacts our outlook for NII.

Significant uncertainty exists regarding eventual timing and extent of Federal Reserve interest rate actions. Mike will give you our expectations for net interest income, but please recognize that it is based upon a series of market assumptions, which may be right or may be wrong. We hope the overview of our assumptions is helpful. Second, we remain focused on tightly controlling our expenses, but there are several moving pieces, which Mike will walk you through. We will continue to invest what's necessary for our risk and control work. We continue to realize expense efficiencies. And at this point, we are planning to increase our investment spending to create better growth and higher returns in future. Our expected efficiencies roughly offset our planned increase in additional spend at this point.

Decisions on how much to invest are dynamic. We closely monitor the outcomes of our investments, and we will adjust our plans based on the success we see. We are focused on our shorter-term results but remain committed to building a well-managed, faster-growing and higher return company over the medium and longer term. I have said and I remain excited about the opportunities to increase our share and returns across all of our businesses. We believe the actions we have taken and continue to take, provide the path to 50% ROTCE. I want to conclude by thanking our employees for their dedication, talent and all they do to move our company forward. I'm excited about Wells Fargo's future and all that we will accomplish in the year ahead. Mike, over to you.

Mike Santomassimo: Thank you, Charlie, and good morning, everyone. The first couple of slides summarize how we helped our customers and communities last year, some of which Charlie highlighted, so I'm going to start with our fourth quarter financial results on Slide 4. Net income for the fourth quarter was $3.4 billion, or $0.86 per diluted common share. Our fourth quarter results included $1.9 billion or $0.40 per share for the FDIC special assessment, and $1.1 billion of severance expense, including $969 million or $0.20 per share for planned actions. These expenses were partially offset by $621 million or $0.17 per share of discrete tax benefits related to the resolution of prior period tax matters. Turning to capital and liquidity on Slide 5.

Our CET1 ratio increased to 11.4% in the fourth quarter, 2.5 percentage points above our regulatory minimum plus buffers. This increase was driven by our earnings and an increase in accumulated other comprehensive income, reflecting lower interest rates and tighter mortgage-backed security spreads. During the fourth quarter, we repurchased $2.4 billion in common stock. We repurchased a total of $12 billion in common stock in 2023, and we currently expect to be able to repurchase more than this amount in 2024. We will continue to consider current market conditions, including interest rate movements, risk-weighted asset levels, stress test results as well as any potential economic uncertainty with respect to the amount and timing of share repurchases over the coming quarters.

Turning to credit quality on Slide 7. As expected, net loan charge-offs increased, up 17 basis points from the third quarter to 53 basis points of average loans, driven by commercial real estate office and credit card loans. The increase in commercial net loan charge-offs reflected the higher losses in commercial real estate office, while losses in the rest of our commercial portfolio were stable from the third quarter. As expected, losses started to materialize in our commercial real estate office portfolio as market fundamentals remained weak. The losses were across a number of loans spread across various markets and were driven by borrower performance, lower appraisals were the result of properties or loans being sold at a loss. We substantially built reserves for this portfolio throughout 2023 as criticized and nonperforming assets increased.

And while we expect additional losses in the coming quarters given the market fundamentals, and capital markets and liquidity challenges in this sector, the amounts will likely going to be uneven and episodic. Our commercial real estate team has a rigorous monitoring process and continues to derisk and reduce exposure, and we're using this information to evaluate our allowance, which I will discuss later. Consumer net loan charge-offs continued to increase and were up $118 million from the third quarter to 79 basis points of average loans. The increase was driven by the credit card portfolio, which performed as expected with increased losses driven by recent vintages maturing. Nonperforming assets increased 3% from the third quarter as growth in commercial nonaccrual loans more than offset declines in consumer.

The increase in commercial real estate non-accrual loans was driven by a $567 million increase in office non-accrual loans. Moving to Slide 8. Our allowance for credit losses increased slightly in the fourth quarter, driven by an increase for credit card and commercial real estate loans, partially offset by a lower allowance for auto loans. The table on the page shows the allowance for credit losses coverage ratio for commercial real estate, including the breakdown of the office portfolio. While the charge offs we took in the fourth quarter were contemplated in our allowance, we are still early in the cycle and after going through our quarterly review process, the coverage ratio in our CIB commercial real estate office portfolio remained relatively stable at 11%.

On Slide 9, we highlight loans and deposits. Average loans were down from both the third quarter and a year ago. Credit card loans continued to grow, while most other categories declined. I’ll highlight specific drivers when discussing our Operating segment results. Average loan yields increased 122 basis points from a year ago and 12 basis points from the third quarter, reflecting the higher interest rate environment. Average deposits declined 3% from a year ago as growth in corporate and investment banking was more than offset by declines in our other deposit gathering businesses, reflecting continued consumer spending and customers reallocating cash into higher yielding alternatives. Period end deposits included in the chart on the bottom of the page were up $4.2 billion from the third quarter as declines in consumer banking and lending were offset by slightly higher deposits in wealth and investment management for the first time in over a year, as well as higher commercial deposits, which included our efforts to attract clients operational deposits.

As expected, our average deposit costs continued to increase up 22 basis points from the third quarter to 158 basis points with higher deposit costs across all Operating segments. The pace of the increase was similar to the third quarter. Our mix of deposits continued to shift with our percentage of non-interest bearing deposits declining to 27%. Turning to net interest income on Slide 10. Fourth quarter net interest income declined $662 million or 5% from a year ago due to lower deposit loan balances partially offset by the impact of higher interest rates. I’ll provide details on our 2024 net interest income expectations later on the call. Turning to expenses on Slide 11. While our fourth quarter non-interest expense included the FDIC special assessment and $1.1 billion of severance expense, including $969 million for planned actions, expenses declined from a year ago driven by lower operating losses.

While most of the planned actions should result in lower headcount, some of the actions are related to our workforce location strategy, which should lower occupancy costs and provide other benefits, but may not always reduce headcount. Total expenses increased from the third quarter, driven by the FDIC special assessment and higher severance expense. Personnel expense increased $554 million from the third quarter as higher severance expense was partially offset by lower benefits and incentive compensation expense, including certain year-end adjustments, as well as the impact of efficiency initiatives, including lower headcount. Turning to our Operating segment, starting with consumer banking and lending on Slide 12. Consumer, small and business banking revenue increased 1% from a year ago, driven by higher net interest income, reflecting higher interest rates partially offset by lower deposit balances.

We’ve been focusing on controlling expenses and lowering the cost to serve our customers, which includes driving digital adoption, simplifying our product portfolio and using technology to automate our operating environment. As our customers continue to shift to lower cost channels, resulting in fewer teller transactions and handled call volumes, we’ve reduced our total number of branches by over 280 or 6% from a year ago. At the same time, we have been refurbishing our branches as part of an accelerated multiyear effort to transform and refresh our full branch network. I’ll highlight other ways we are investing to improve the customer experience later on the call. Home lending revenue increased 7% from a year ago. Lower gain on sale margins and originations, as well as lower loan balances were more than offset by improved valuations on loans held for sale due to losses in the fourth quarter of 2022.

We continued to reduce headcount home lending in the fourth quarter, down 36% from a year ago, reflecting market conditions as well as our new strategy. Credit card revenue declined 1% from a year ago, driven by the impact of introductory promotional rates and higher rewards expense, partially offset by higher loan balances and interchange revenue. Payment rates have been relatively stable over the past year and remained above pre-pandemic levels. New account growth continued to be strong, up 17% from a year ago. Auto revenue declined 19% from a year ago, driven by lower loan balances and continued loan spread compression and personal lending revenue was up 13% from a year ago due to higher loan balances. Turning to some key business drivers on Slide 13.

Mortgage originations declined 69% from a year ago and 30% from the third quarter, reflecting the progress we made on our strategic objectives for this business as well as the decline in the mortgage market. As we executed on our strategic objectives, we’ve also made significant progress on reducing the amount of third-party loans serviced, down 18% from a year ago. The size of our auto portfolio has declined for seven consecutive quarters and balances were down 11% at the end of the fourth quarter compared to a year ago. Origination volume declined 34% year-over-year, reflecting credit tightening actions. Debit card spend increased 2% from a year ago, with both discretionary and non-discretionary spend up 2%, with growth in most categories except for home improvement, fuel and travel.

Credit card spending continued to be strong was up 15% from a year ago. All categories grew with double digit growth rates in every category except fuel, home improvement and apartment apparel. Turning to commercial banking results on Slide 14. Middle market banking revenue increased 6% from a year ago, driven by the impact of higher interest rates and higher deposit related fees, reflecting lower earnings credit rates. Asset based lending and leasing revenue increased 9% year-over-year due to the impact of higher interest rates and improved results on equity investments. Average loan balances were up 2% from a year ago, driven by growth in asset based lending and leasing. Turning to corporate and investment banking on Slide 15. Banking revenue increased 15% from a year ago, driven by higher lending revenue, higher investment banking revenue due to increased activity across all products, and stronger treasury management results.

As Charlie highlighted, we’ve successfully hired experienced bankers, which is helping us deliver for our clients and positioning us well for when markets improve. Commercial real estate revenue grew 2% from a year ago, reflecting the impact of higher interest rates, partially offset by lower loan and deposit balances. Markets revenue increased 33% from a year ago, driven by higher revenue and structured products, equities, credit products and commodities. Average loans were down 3% from a year ago with growth in markets more than offset by declines in banking and commercial real estate. On Slide 16, wealth and investment management revenue declined 1% compared to a year ago, reflecting lower net interest income driven by lower deposit balances as customers continued to reallocate cash into higher yielding alternatives.

The decline in net interest income from a year ago was partially offset by higher asset based fees due to increased market valuations. As a reminder, the majority of WIM advisory assets are priced at the beginning of the quarter, so fourth quarter results reflected market valuations as of October 1, which were higher from a year ago, asset based fees in the first quarter will reflect valuations as of January 1, which were also higher from a year ago. Average loans were down 3% from a year ago, driven by decline in securities based lending. Slide 17 highlights our corporate results. Revenue declined $345 million from a year ago, reflecting higher deposit crediting rates paid to the Operating segments. This decline was partially offset by improved results in our affiliated venture capital business on lower impairments.

Turning to our expectations for 2024 starting on Slide 18. Let me start by highlighting our expectations for net interest income. As we look forward there are a number of factors that could impact our results, including the ultimate path of rates, the shape of the yield curve, quantitative tightening and fiscal deficits, consumer behavior and competitive behavior to name just a few, all of which we have little to no control over. This makes it particularly difficult to estimate net interest income for 2024. There is more uncertainty than usual given the market’s strong view of rate cut timing in the quantum. Looking at our results, while we had strong growth in full year net interest income in 2023 versus 2022, our net interest income came down modestly each quarter last year, driven by the higher deposit pricing and mixed changes.

You can see this impact when you analyze our fourth quarter net interest income, which was down approximately 3% from our full year 2023, net interest income of $52.4 billion. Our current expectation is that full year 2024 net interest income could potentially be approximately 7% to 9% lower than our full year 2023. This expectation is anchored on the forward rate curve and a series of business assumptions including; lower rates in the recent forward rate curve, which given our modestly asset sensitive position would be a headwind to net interest income, a slight decline in average loans for the full year, which includes modest growth in commercial and credit card loans in the second half of the year after a slow start to the year, reinvestment of lower yielding securities runoff into higher yielding assets, which would also modestly extend the duration of the investment portfolio, further attrition in consumer banking and lending deposits, as well as continued mix shift from lower yielding products to higher yielding, deposits in our other deposit gathering businesses are expected to be relatively stable and market funding will replace the decline in consumer deposits as needed.

We currently expect that net interest income will trough towards the end of this year. As we’ve done in prior years, we are also assuming the asset cap will remain in place throughout the year. Ultimately, the amount of net interest income we earn in 2024 will depend on a variety of factors, which many of which are uncertain, including the absolute level of rates, the shape of the yield curve, deposit balances, mix and pricing and loan demand. Turning to our 2024 expense expectations on Slide 19. We started our focus on efficiency initiatives three years ago and we’ve successfully delivered on our commitment of approximately $10 billion of gross expense saves. Through our efficiency initiatives we have reduced headcount every quarter since third quarter of 2020 and headcount is down 16% since the end of 2020.

Looking at our expectations for this year and following the waterfall on the slide from left to right. We reported $55.6 billion of non-interest expense in 2023, which included the $1.9 billion FDIC special assessment. Excluding this item, expenses would have been $53.6 billion, which we believe is a good starting point for discussion of 2024 expenses. Looking at the next bar, we expect severance expense to be approximately $1.3 billion lower, driven by the $969 million expense we took in the fourth quarter for planned actions, we expect expenses to increase by at least $300 million due to higher revenue related expense, driven by wealth and investment management, revenue related expenses will ultimately be a function of activity and market levels, and therefore could be higher or lower than this estimate.

At this point, we expect all other expenses to be flat, though there are significant efficiencies and increased investments included in this expectation. We expect approximately $2.7 billion of gross expense reductions in 2024 due to the efficiency initiatives. We highlight in the slide some of the areas where we anticipate additional savings and continue to believe we have more opportunities beyond 2024. Similar to prior years, the resources needed to address our risk and control work are separate from our efficiency initiatives and we will continue to make significant investments in our risk and control infrastructure. While we remain focused on executing on our efficiency initiatives, we’re also continuing to invest and we expect approximately $1.1 billion of incremental technology and equipment expense, reflecting higher costs related to the amortization of investment in prior years, as well as new investments planned for 2024.

We also expect merit increases of approximately $700 million, which are primarily awarded to employees with lower salaries. We highlight some of the other areas where we plan to invest on the next slide. Our 2024 expense outlook includes ongoing business related operating losses of approximately $1.3 billion, similar to the level we had in 2023. As previously disclosed, we have outstanding litigation, regulatory and customer remediation matters that could impact operating losses. So putting this all together, we expect 2024 non-insurance expense to be approximately $52.6 billion. It’s important to note that while we’ve made substantial progress executing on our efficiency initiatives, as Charlie highlighted, we still have a significant opportunity to get more efficient across the company.

Given how critical it is to continue to invest in our business. On Slide 20, we provide some examples of our areas of focus for 2024 let me highlight a few. Building the right risk and control infrastructure remains our top priority and we will continue to invest in this important work. Charlie discussed many of the technology investments we’ve already made to transform how we serve both our consumer and commercial customers, and we plan to continue investing these areas this year throughout our businesses. We are planning to hire more bankers and advisors to grow our Wells Fargo Premier Offering to our affluent clients. We plan to launch a new travel oriented credit card as part of our autograph suite of products, as well as a new small business credit card this year.

To better serve our commercial clients, we plan to continue higher within investment banking and commercial banking to support priority sectors and products to help drive growth. Now, let me conclude with Slide 21, where we will discuss return on tangible common equity. When we first discussed our path to improving returns on the fourth quarter 2020 earnings call, we had an 8% ROTCE. Since then, we have taken multiple actions to improve our returns, including executing on our efficiency initiatives, investing in our businesses to help drive growth and returning excess capital to shareholders, including increasing our common stock dividend $0.10 to $0.35 per share and repurchasing $32 billion of common stock. These actions help to improve our ROTCE, our reported ROTCE in the fourth quarter was 9%, but as we highlight in the table, our ROTCE was impacted by a number of notable items.

Our 2023 returns also reflected the benefit of rising rates, which helped to drive strong net interest income growth, and as I’ve already highlighted, we expect net interest income to decline this year. We still believe, we have an achievable path to a sustainable 15% ROTCE over the medium term as we continue to make progress on transforming the company. There are several key factors that support our belief. Our ability to return excess capital, we currently have a significant amount of excess capital, 2.5 percentage points above our regulatory minimum buffers for CET1 and as I already highlighted, we expect to increase our share repurchases this year. I highlighted the progress we’ve already made to reposition our Home Lending business, including reducing the amount of third party mortgage loans serviced by 18% from a year ago.

As we continue to streamline this business, we expect the profitability to improve. We’ve grown our Credit Card business with balances up 40% since the end of 2021 and new accounts 25% higher than the fourth quarter of 2021. However, the current profitability of this business has been impacted by acquisition costs and allowance build, and we expect profitability to improve as the portfolio matures. Finally, we’ve made significant investments the last few years across our franchise to better serve our customers, and help drive growth. We expect the revenue growth that these investments should generate in businesses like Corporate Investment Banking and Wealth And Investment Management will help fund additional investments. So, we have many drivers to close the gap and improve returns.

In summary, our results in 2023 demonstrated our commitment to improving our financial performance. We grew revenue, reduced expenses, increased capital returns to shareholders and maintained our strong capital position. We will now take your questions.

Operator: [Operator Instructions] And our first question of the day will come from Steven Chubak of Wolfe Research. Sir, your line is open.

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