Wells Fargo Earnings Preview: Are They Still Best in Breed?

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Wells Fargo (NYSE: WFC) is the first major financial company to report this earnings season, so they certainly have the ability to set the tone for the sector.  While I believe Wells Fargo is best in breed, I do believe there are certain things investors need to hear in order to remain bullish on the company.  More on this later…

Wells was arguably the strongest of the large banks going into the financial crisis, and they also did one of the best jobs of capitalizing on the misfortune of lesser competitors.  Most notably, Wells acquired Wachovia in December 2008 after they had been severely weakened by their portfolio of non-performing mortgage loans.  Although technically taking a loss on the purchase (Wachovia had net assets with a fair value of $14.3 billion versus the acquisition price of $23.1 billion), Wells gained tremendous market share, particularly in regions where they did not have a huge presence before.  In fact, Wells Fargo is now the dominant bank in both the city I was living in in 2008 (Columbia, South Carolina) and the city I live in today (Key West, Florida). 

The main reasons I consider Wells Fargo to be best in breed are its valuation and its solid track record of profitability.  In terms of profitability, even during the height of the financial crisis, Wells never had a negative year, with its lowest annual earnings of $0.75 per share coming in 2008.  In contrast, Bank of America (NYSE: BAC) has had two straight years in the red as a result of the crisis, and Citigroup (NYSE: C) did as well, including a particularly awful 2008 where they lost $47.20 per share, more than the stock itself was worth

Wells Fargo is also very attractively valued, especially considering its solid financial state, and the company currently trades at 10.7 times TTM earnings.  Wells is expected to announce 2012 earnings of $3.35 when it reports on Friday, and consensus estimates call for earnings to grow to $3.63 and $3.92 in 2013 and 2014, respectively.  In other words, Wells trades at less than 8.9 times 2014’s earnings.  Not too bad for a company expected to grow its earnings by 8.6% per year.  If Wells beats the aforementioned 2012 estimate, this may be the catalyst needed to increase the company’s valuation.  Pay attention to this, as well as the outlook for the next couple of years.

To truly appreciate just how attractively valued Wells Fargo is, let’s look at the valuation of their competition.  Bank of America currently trades at 27.5 times 2012’s earnings.  Although earnings are expected to rebound at a very nice growth rate, from $0.44 this past year to $1.25 in 2014, Bank of America trades at over 9.6 times 2014 earnings and is seen as much higher risk than Wells.  Additionally, Bank of America has an anemic dividend yield of 0.33% per year due to the Treasury’s control.  Wells pays out 2.6% currently and has an active share repurchase program.

Even the closest competitor I can find to Wells, U.S. Bancorp (NYSE: USB), is overvalued in comparison.  Currently trading at a P/E ratio of 11.6 times earnings, the company is expected to grow its earnings by a slower 7.8% rate, according to consensus.  In other words, USB trades at 9.95 times 2014 earnings (as opposed to 8.9 times for Wells). 

Basically, Wells is already a bargain, and investors should pay attention to their earnings report and conference call mainly to make sure that the company is still on track.  Listen especially for details about an increased share buyback or a dividend increase, both of which are very likely for the coming year, and both of which could mean the next leg up in the stock.  Also, it would be great news for 2012’s loan losses (a large portion of which are Wachovia-related) to be less than the consensus estimate of $7.5 billion.  Any guidance on this issue going forward could also be a positive or negative catalyst, as the company has been anticipating 2013 loan losses to drop to $6.0 billion. 

Again, Wells Fargo is a solid bank that has taken the correct steps to add market share and increase shareholder value.  What the market will be listening for on Friday is “Are their plans working?”  Any indication that the company is still healthy and getting even healthier is very positive indeed.

KWMatt82 has no position in any stocks mentioned. The Motley Fool recommends Wells Fargo & Company. The Motley Fool owns shares of Bank of America Corp, Citigroup Inc , and Wells Fargo & Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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