Tuesday, April 28, 2009
Wells Fargo Shareholder Meeting (2009): the Age of Uncertainty
I attended Wells Fargo's 2009 annual meeting today in San Francisco, California. Wells Fargo (WFC) did not seem to anticipate such a large crowd attending its meeting. It had to scramble to set up more chairs in an adjacent viewing area where shareholders could view the meeting on a large video screen. In a scene reminiscent of a Friday night club, some shareholders (including myself) had to wait downstairs before security allowed us to take the elevator to enter the meeting. Per its conservative image, Wells Fargo did not offer any coffee or refreshments. I asked an employee whether Wells Fargo had served coffee or refreshments at last year's meeting, and she said she didn't remember Wells Fargo serving food or drinks at any annual shareholder meeting.
Chairman Richard "Dick" Kovacevich spoke first and appeared in a good mood, making several well-received jokes. He earned my respect for being forthright in this earlier speech, where he stated, "We [the financial sector] really caused this crisis."
After the formal portion of the meeting had concluded, he turned the meeting over to President and CEO John Stumpf. First, let me give you some visuals. Mr. Kovacevich is a tall man who exudes confidence in a friendly way. Mr. Stumpf, on the other hand, is shorter, more intense, and much more brusque. I would almost compare them to Robert DeNiro and Joe Pesci (Goodfellas or Casino, take your pick)--effective men, each in his own way.
Mr. Stumpf delivered a short presentation. He began by rattling off all the names of failed financial institutions--AIG, Bear Stearns, Countrywide, Fannie Mae, Lehman Brothers, Merrill Lynch, and WaMu. These are "difficult times," he said. He went through some slides showing that Wells Fargo had made money and continues to grow. One slide was confusing--it showed WFC reporting $0.70 of diluted EPS, but had a shadow area that added $1.51 in EPS, which assumed the inclusion of credit reserves. Including the credit reserve build, the additional EPS would have brought the numbers in line with previous earnings. I did not understand what the additional EPS meant, and even after I asked Mr. Stumpf to explain it again during the Q&A, I still didn't fully understand it. (My current understanding is that Wells Fargo had set aside billions of dollars to cover expected future loan losses, especially due to the Wachovia acquisition, and had it not been forced to account for its expected losses, its earnings per share would have increased.)
Mr. Stumpf talked about the dividend and the "difficult decision" to cut it. He indicated WFC would increase the dividend when "practicable" to do so. Wells Fargo's cutting of its dividend signals a tectonic shift. If you go back to a time when banks were staid creatures, people would buy banking shares for the dividend. They expected that a bank would slowly and conservatively increase deposits and make more loans over time, allowing the bank to steadily increase its dividend. As a result of their consistent dividends, banking stocks were called "widows and orphans" stocks--held by husbands to protect their families when they died. That age is over. Banks have lost the public's trust, and with it, we have entered a new world of uncertainty. This change is shocking because even banks that acted conservatively, like Wells Fargo, had to cut their dividends, breaking their implicit promise to maintain steady payouts. If there is one unfortunate lesson to be learned from this crisis, it's that being good didn't pay off. As a result of widespread and creative financial engineering, the good banks got sucked into the morass created by bad banks like Citigroup (C) and Bank of America (BAC). Now, senior citizens looking for income have few places to invest. Even preferred shares are suspect.
Mr. Stumpf returned to his theme of consistent growth. He said that even during this tough time, WFC "grew revenues by 6%" while reducing expenses by 1%. He said the amounts loaned also increased, although most of that increase came from the commercial and wholesale areas, not the consumer. Deposits also increased as a result of the "flight to quality."
Mr. Stumpf then talked about Wells Fargo's two major events: Wachovia and the government's $25 billion investment in Wells Fargo. He said the Wachovia acquisition was going well, and Wells Fargo would pay back the government as soon as practicable. He said companies fail when they confuse their mission with the results. WFC's mission was to help people succeed financially, and the result was that "we make money." Bad companies, he said, mix these up and focus on making money over serving their customers. Mr. Stumpf ended his presentation by pointing out Wells Fargo's charitable contributions, which were impressive.
The Q&A session was longer than usual, and most shareholders had interesting questions. One thing about Mr. Stumpf, though--if he doesn't like your question, he'll give you a quick answer and expect you to move on. Several times, he avoided answering questions by using humor to deflect the question (Those of you who remember my Joe Pesci comparison can start visualizing him saying, "Funny? Funny how?").
One shareholder asked about Citibank's (C) lawsuit against Wells Fargo (which relates to the Wachovia acquisition). Mr. Stumpf said Wells Fargo would defend itself vigorously.
I asked whether the government forced Wells Fargo to take TARP money. After all, if Wells Fargo didn't need it, why didn't they reject it? Mr. Stumpf tried to avoid answering the question, so I asked Mr. Kovacevich directly for an answer. He said government negotiations were confidential, but added, "We did not ask for the money." He said he took the money because it was in the best interests of the company at the time.
Another shareholder talked about a personal issue. Apparently, Wells Fargo had increased his interest rate. The shareholder complained about Wells Fargo's customer service. At first, Mr. Stumpf asked whether the shareholder had a question. (At this point, I started thinking Mr. Stumpf might take a bat to this guy's knees.) After the shareholder meekly said, "I guess I don't have a question," Mr. Stumpf wisely turned on the charm. He said, "I'm sorry," and directed the shareholder to a specific Wells Fargo employee for further assistance.
Another shareholder praised the bank. He was a former employee who had held Wells Fargo shares since at least 1998.
Another shareholder talked about zombie banks and whether nationalization would be a good idea. Mr. Stumpf replied, "We are solvent" and "clearly not a zombie bank." He said his understanding was that the President and Congress had rejected nationalization.
Another shareholder asked whether Wells Fargo anticipated raising its capital base, thereby diluting its common equity shareholders. In a telling sign of how uncertain the current environment is, Mr. Stumpf refused to comment one way or another. When you strip down the optimism, no one really knows. Look at page 78 of Wells Fargo's 10K:
Under SOP 030-3 (Accounting for Certain Loans or Debt Securities Acquired in a Transfer), we recorded at fair value all credit-impaired loans acquired in the merger based on the present value of the expected cash flows...using assumptions about matters that are inherently uncertain.
Essentially, Wells Fargo itself admits its numbers are "inherently uncertain." The only thing we know for sure is that Wells Fargo's earnings received a boost from a recent loosening of the mark-to-market accounting rules. Still, regardless of any accounting changes, at the end of the day, no one really knows anything, because there are too many unknown variables. That's why Wells Fargo accepted $25 billion of our money--it doesn't really know, either, and if it did, it would have paid back the government already. [Update: some banks have already paid back TARP funds. See here.] So of course the CEO can't promise to avoid further capital injections. Of course the CEO can't promise to avoid diluting the common equity shareholders. Like everyone else, he doesn't really know what's around the corner. When historians study this current time period, the honest ones will admit no one really knew anything. It's sheer hope and faith that's driving many Americans, and, by extension, the banks to which they owe money.
I went up to the mic one last time. I told Mr. Stumpf some people think that "too big to fail" should be "too big to exist." I implied that we weren't addressing any of the root causes of our current problems and that this crisis could happen again. I said it was frightening to see the stock market go up and down based on the appearance of the banking sector's good or bad health. I indicated that banks, a relatively small group, had tremendous power over the average Joe's 401k. I said that Wells Fargo had spoken against some regulation, such as executive pay restrictions (see also 10K: page 78), but it hadn't talked about what regulation it favored. I asked Mr. Stumpf to talk about what regulations he favored so that we could avoid another crisis.
Mr. Stumpf had a two-part answer. He said that only 22% of financial assets are held in commercial banks. He said most financial assets are held by unregulated entities, such as AIG (and others who thought credit default swaps were a great idea). At this point, his answer became somewhat confusing. From what I understood (and discussed with an Aussie couple after the meeting), Mr. Stumpf implied that we should expand financial regulation, but without adding another government agency. He did not favor the current situation, where multiple regulatory bodies cover select financial entities while excluding other major financial players. (Or, according to the Aussie gentleman, "Don't go swimmin' without your trunks"--demand everyone have some covering if they want to play in the pool.)
Mr. Stumpf also suggested we should try to minimize systemic risk. He seemed to indicate that all of the banks' assets should come under one umbrella so that the overall risk of the banking sector could be easily ascertained. Again, I am not certain this is what he said, because Mr. Stumpf talks quickly. While he clearly understands complex financial terms and ideas, he seems to have a hard time communicating those ideas to the general public. (This is why WFC needs Mr. Kovacevich--his easygoing, amiable style balances Mr. Stumpf's abrupt demeanor.) From what I heard, however, it sounded like even the banking sector's head honchos acknowledged that greater transparency and governmental involvement were necessary to minimize systemic risk. Perhaps thinking he'd said too much, Mr. Stumpf stopped. That's when I realized the point and theme of the meeting was to project confidence, because at the end of the day, that's what America needs, especially from the banking sector. I think Wells Fargo did an admirable job at the meeting, but again, no one knows anything. Only time will tell whether America exits this banking crisis stronger.
The AP's Michael Liedtke's review of the meeting can be found here. As of the record date, I had 9000 WFC shares. I used margin and felt uncomfortable with the volatility, selling all my shares at around $14/share. Investors who bought Wells Fargo stock recently and had the fortitude to hold on have been rewarded. As I wrote here earlier, an investor could have made 46% had s/he timed the market properly.
Random fact: Warren Buffett owns approximately 7.4% of WFC common shares. See page 13 of Wells Fargo's 2009 proxy statement.
Bonus: The Economist has an interesting article (May 14, 2009: "Three trillion dollars later...") on banking: