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Wachovia Corp. saved its worst for last.
In likely its final earnings report as an independent company, the Charlotte-based bank said Wednesday that it lost $23.89 billion, or $11.18 per share, in the third quarter as it took an array of writedowns and charges before its planned sale to Wells Fargo & Co.
The massive loss, much higher than analysts had expected, included an $18.8 billion accounting writedown to reflect the company's lower market value and the terms of the Wells purchase. The report highlighted burgeoning losses in the bank's troubled Pick-A-Payment loan portfolio and a flight of deposits at the end of the quarter as concerns mounted about the company's soundness.
The report, the worst for any bank in the recent financial crisis, is the third straight quarterly trip into the red for Wachovia, which lost $9.1 billion in the second quarter and $707 million in the first quarter.
Despite the ugly numbers, Wells said the results were within its expectations and that the purchase remains on track to close by year's end. In a deal now worth about $13.5 billion, the San Francisco-based bank is buying Wachovia after it neared collapse twice during the quarter. The West Coast banking giant prevailed in a bidding war with New York-based Citigroup Inc., which ultimately backed off an offer to buy most of Wachovia's operations for $2.16 billion.
Wachovia executives appear to be “attempting to get as much of their potential losses behind them before the acquisition by (Wells Fargo) closes,” Sandler O'Neill + Partners analyst Kevin Fitzsimmons said in a report Wednesday.
After releasing Wednesday's report, Wachovia did not hold its traditional conference call with analysts. Instead, Wachovia chief executive Bob Steel, who joined the bank in July, and two recently hired lieutenants spoke on a pre-recorded message, emulating a Wells tradition. Wachovia executives as well as board chairman Lanty Smith were not made available for interviews.
In a note Wednesday, analyst Dick Bove of Ladenburg Thalmann & Co, a longtime critic of the bank's board and some of its acquisitions, lamented the demise of a company that became an East Coast giant under CEOs such as John Medlin and Ed Crutchfield. Under the tenure of Steel's predecessor, Ken Thompson, the bank became known for its stellar customer service, he noted, but also its ill-fated purchase of mortgage specialist Golden West Financial Corp. at the peak of the housing boom.
“I never dreamed that Wachovia would come to such an ignominious end,” Bove wrote. “Today three men who are not old Wachovians, reported in a recorded message, the passing of the company to buyer Wells Fargo, while explaining how Wachovia built one of the largest losses recorded by any bank in history.”
Stark contrast to '07
The nearly $24 billion loss compared with a profit of $1.62 billion, or 85 cents per share, in the third quarter of last year, when banks were first being hit by a global credit crunch. Excluding the goodwill writedown and merger-related charges, Wachovia lost $4.76 billion, or $2.23 per share, in the period.
Wachovia said its core businesses such as retail banking continued to be healthy. Total revenue fell to $5.8 billion from $7.5 billion a year ago. Revenue in the general bank, normally the bank's biggest profit driver, increased 8 percent from last year to $4.8 billion.
The bank's Achilles' heel has been its 2006 purchase of Golden West, an Oakland, Calif.-based lender that made exotic option adjustable-rate mortgages, which allowed customers to pay less than the interest owed. Borrowers have fallen behind on their payments even as their property values have plunged, making it difficult to refinance or sell their homes for a price above their loan value.
Wachovia set aside $6.6 billion to cover loan losses during the quarter – about two-thirds for Pick-A-Pay mortgages. The bank now expects cumulative losses in the $118.7 billion Pick-A-Pay portfolio of 22 percent, or about $26 billion. That's nearly double an estimate in July of 12 percent cumulative losses.
“The big takeaways from the quarter were the rapid deterioration in (Wachovia's) option ARM portfolio and the news that (Wachovia) raised its cumulative loss estimate,” Friedman Billings Ramsey analyst Paul Miller wrote.
Wachovia stopped making Pick-A-Pay loans in June and announced an effort in July to persuade borrowers to refinance into conventional loans such as Federal Housing Administration products. Of 4,700 customers contacted through Sept. 1, 47 percent have applied for refinancing, 30 percent are discussing options and 23 percent declined the offer. As of Sept. 1, the bank estimates $77 billion in loans could be eligible for refinancing.
Overall, the bank's troubled loans rose to $14.9 billion, or 3.1 percent of total loans, up from about $3 billion a year ago. The bank noted that non-Pick-a-Pay loans were faring much better, with 1.65 percent of these $363 billion in consumer and commercial loans in delinquency.
Goodwill hit is bigger
The $18.8 billion noncash goodwill writedown followed a $6.1 billion goodwill writedown in the second quarter. Goodwill is the difference between the purchase price of an asset and its fair market value. Banks accumulate goodwill on their balance sheets as they acquire companies over time at premium prices. Taking a goodwill impairment charge doesn't affect Wachovia's required regulatory capital levels.
When Wachovia announced the second-quarter goodwill hit in July, former chief financial officer Tom Wurtz said it was unlikely the bank would need to take a charge related to its retail banking unit, which includes the Golden West portfolio, because of that business' overall earnings power. But in his remarks Wednesday, new chief financial officer David Zwiener said “the unprecedented, almost unimaginable events of the third quarter” led to the incorrect prediction.
Wachovia's results were also hit by nearly $4 billion in other writedowns and charges, including $2.5 billion in markdowns from mortgage-related and other investments that have declined in value, $515 million in restructuring charges, $497 million for a settlement over auction-related securities and a $397 million loss on the sale of securities in firms such as Fannie Mae and Freddie Mac.
The deposits plunge
The Observer previously reported that Wachovia began losing deposits following the Sept. 25 collapse of Seattle-based Washington Mutual Inc., the biggest banking failure in U.S. history. Over the following weekend, the Federal Deposit Insurance Corp. pressed the bank into its initial sale to Citigroup.
From the end of June to the end of September, Wachovia said its overall deposits fell 6 percent to $418.8 billion, a loss of about $29 billion in deposits. Commercial deposits fell by nearly one fourth to $83.4 billion, while consumer deposits dropped 1 percent to $286.6 billion. “While we experienced significant pressure on our higher cost commercial deposits given the uncertainty following the Wamu announcement, since quarter end we have begun to see our commercial deposit trends improve due to our clients' confidence in our merger partner,” Wachovia CFO Zwiener said. Wachovia spokeswoman Christy Phillips-Brown declined to provide a current deposits figure.
In a memo to “clients, shareholders and friends” posted on Wachovia's Web site, Steel on Wednesday said the bank has taken steps to shore up its financing and is now seeing “stabilizing deposit activities.” He noted that deposits up to $250,000 remain insured by the FDIC.
With the Wells merger, the bank hasn't made any changes to accounts and will notify customers in advance, he said. “For now,” he said, “please continue to bank and conduct other business with Wachovia as usual.”
Wachovia's shares fell 6 percent Wednesday to $5.71 on a down day for the markets.
