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Wells Fargo's (WFC) Q1 Earnings Beat on High Interest Income

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Driven by net interest income, Wells Fargo & Company’s (WFC - Free Report) first-quarter 2017 earnings recorded a positive surprise of about 3.1%. Earnings of $1.00 per share outpaced the Zacks Consensus Estimate by 3 cents. Moreover, the figure compared favorably with the prior-year quarter’s earnings of 99 cents per share.

Wells Fargo witnessed organic growth aided by strong loans and deposit balances. Higher net interest income was also favorable. In addition, a solid capital position and improving credit quality acted as the key drivers. However, higher expenses and lower non-interest income were a concern.

Notably, reserve release of $200 million was recorded in the reported quarter, driven by improved residential real estate, and oil and gas portfolio. First-quarter net income came in at $5.5 billion, in line with the prior-year quarter.

The quarter’s total revenue was $22.0 billion, lagging the Zacks Consensus Estimate of $22.1 billion. Revenues were also below the prior-year quarter figure of $22.2 billion.

Furthermore, on a year-over-year basis, revenue generation at the business segments was impressive. Wholesale Banking and Wealth and Investment Management segments’ total quarterly revenue climbed around 1.1% and 8.8%, respectively, while Community Banking revenues dipped 4.0%.

Loans and Deposits Rises, Costs Flare Up

Wells Fargo’s net interest income in the quarter came in at $12.3 billion, up 5% on a year-over-year basis. Increased interest income from trading assets and mortgages held for sale, along with higher other interest income, mainly drove results. However, net interest margin contracted 3 basis points year over year to 2.87%.

Non-interest income at Wells Fargo came in at around $9.7 billion, down 8% year over year, mainly due to reduced insurance, mortgage banking revenue, lower net gains from debt securities and reduced other income. These negatives were partially mitigated by higher lease income, and increased net gains from trading activities and equity investments.

As of Mar 31, 2017, total loans were $958.4 billion, inching up 1.2% year over year. Growth in commercial loan portfolio contributed to the rise, partially offset by reduction in consumer loan portfolio. Total deposits were $1.3 trillion, up 8.3% from the prior-year quarter.

Non-interest expense at Wells Fargo was $13.8 billion, up 6% from the year-ago quarter. The rise in expenses was primarily stemmed by higher FDIC and other deposit assessments, as well as elevated other and employee benefits expenses.

The company’s efficiency ratio of 62.7% was above 58.7% recorded in the year-ago quarter and also exceeded the targeted efficiency ratio range of 55–59%. A rise in efficiency ratio indicates a fall in profitability. Wells Fargo hopes efficiency ratio to remain elevated, moving ahead.

Credit Quality Improved

Wells Fargo’s credit quality metrics was a mixed bag in the quarter. Allowance for credit losses, including the allowance for unfunded commitments, totaled $12.3 billion as of Mar 31, 2017, down 3.1% year over year.

Provision for credit losses was $605 million, plunging 44.3% year over year. Net charge-offs were $805 million or 0.34% of average loans in the reported quarter, down from the year-ago quarter net charge-offs of $886 million (0.38%). Non-performing assets were down 20.7% to $10.7 billion in the quarter under review from $13.5 billion in the prior-year quarter.

Strong Capital Position

Wells Fargo has maintained a sturdy capital position. In the reported quarter, the company repurchased 53.1 million shares of common stock.

Wells Fargo’s Tier 1 common equity under Basel III (fully phased-in) increased to $148.7 billion from $142.7 billion in the prior-year quarter. The Tier 1 common equity to total risk-weighted assets ratio was estimated at 11.2% under Basel III (fully phased-in) as of Mar 31, 2017, compared with 10.6% recorded in the prior-year quarter.

Book value per share increased to $35.70 from $34.58 in the comparable period last year.

Our Viewpoint

Wells Fargo has reported decent revenue numbers and we expect top-line headwinds to subside, given the improving interest rate environment. However, escalating expenses remained a major drag, along with slowdown in mortgage business.

Cross-selling, which has been the company’s major strength in recent years, drew regulators’ attention as they discovered that thousands of bank employees were unlawfully enrolling consumers for products and services without their knowledge or consent, in order to receive incentives for meeting the sales targets. This affected retail banking activities during the quarter. The bank has also been subjected to severe political and public outrage, and faced several lawsuits and investigations as well.

Nevertheless, we believe that over the long term, investors will not be disappointed with their investment in Wells Fargo, given its diverse geographic and business mix, which enables it to sustain consistent earnings growth. Going forward, we believe that strategic acquisitions and the bank’s efforts to address current adversities will help the company expand its business and enhance profitability.

Currently, Wells Fargo carries a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Wells Fargo & Company Price, Consensus and EPS Surprise

Wells Fargo & Company Price, Consensus and EPS Surprise | Wells Fargo & Company Quote

Meanwhile, banking major – Citigroup Inc. (C - Free Report) – delivered a positive earnings surprise of 8.9% in first-quarter 2017, riding on higher revenues. The company’s earnings per share of $1.35 for the quarter outpaced the Zacks Consensus Estimate of $1.24. Also, earnings compared favorably with the year-ago figure of $1.10 per share. Notably, results reflect one-time adjustments of 1 cent.

Among other Wall Street giants, U.S. Bancorp (USB - Free Report) is scheduled to report first-quarter 2017 earnings on Apr 19, while Comerica Inc. (CMA - Free Report) will report on Apr 18.

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