UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2006March 31, 2007
Commission file number 001-2979
WELLS FARGO & COMPANY
(Exact name of registrant as specified in its charter)
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Delaware | | 41-0449260 |
(State or other jurisdiction of | | (I.R.S. Employer |
incorporation or organization) | | 41-0449260 (I.R.S. Employer Identification No.) |
420 Montgomery Street, San Francisco, California 94163
(Address of principal executive offices) (Zip Code)
Registrant’s telephone number, including area code: 1-866-249-3302
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.
Yes þ No o¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
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Large accelerated filerþ | | Accelerated filer¨ | | Accelerated filero | | Non-accelerated filero¨ |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes o¨ No þ
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
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| | Shares Outstanding |
| | October 31, 2006April 30, 2007 |
Common stock, $1-2/3 par value | | 3,375,964,759 | 3,339,747,324 | |
FORM 10-Q
CROSS-REFERENCE INDEX
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PART I — FINANCIAL INFORMATION
FINANCIAL REVIEW
SUMMARY FINANCIAL DATA
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| | % Change | | | | | | | % Change | |
| | Quarter ended | | Sept. 30, 2006 from | | Nine months ended | | | | | Quarter ended | | Mar. 31, 2007 from | |
| | Sept. 30 | , | | June 30 | , | | Sept. 30 | , | | June 30 | , | | Sept. 30 | , | | Sept. 30 | , | | Sept. 30 | , | | % | | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , |
($ in millions, except per share amounts) | | 2006 | | 2006 | | 2005 | | 2006 | | 2005 | | 2006 | | 2005 | | Change | | | 2007 | | 2006 | | 2006 | | 2006 | | 2006 | |
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For the Period | | |
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For the Quarter | | |
Net income | | $ | 2,194 | | $ | 2,089 | | $ | 1,975 | | | 5 | % | | | 11 | % | | $ | 6,301 | | $ | 5,741 | | | 10 | % | | $ | 2,244 | | $ | 2,181 | | $ | 2,018 | | | 3 | % | | | 11 | % |
Diluted earnings per common share | | 0.64 | | 0.61 | | 0.58 | | 5 | | 10 | | 1.85 | | 1.68 | | 10 | | | 0.66 | | 0.64 | | 0.60 | | 3 | | 10 | |
Profitability ratios (annualized) | | |
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Profitability ratios (annualized): | | |
Net income to average total assets (ROA) | | | 1.76 | % | | | 1.71 | % | | | 1.75 | % | | 3 | | 1 | | | 1.73 | % | | | 1.75 | % | | | (1 | ) | | | 1.89 | % | | | 1.79 | % | | | 1.72 | % | | 6 | | 10 | |
Net income to average stockholders’ equity (ROE) | | 20.00 | | 19.76 | | 19.72 | | 1 | | 1 | | 19.89 | | 19.70 | | 1 | | | 19.65 | | 18.99 | | 19.89 | | 3 | | | (1 | ) |
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Efficiency ratio (1) | | 56.9 | | 58.9 | | 57.5 | | | (3 | ) | | | (1 | ) | | 58.3 | | 57.8 | | 1 | | | 58.5 | | 57.5 | | 59.3 | | 2 | | | (1 | ) |
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Total revenue | | $ | 8,934 | | $ | 8,789 | | $ | 8,503 | | 2 | | 5 | | $ | 26,278 | | $ | 24,457 | | 7 | | | $ | 9,441 | | $ | 9,413 | | $ | 8,555 | | — | | 10 | |
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Dividends declared per common share | | — | | 0.54 | | 0.26 | | | (100 | ) | | | (100 | ) | | 0.80 | | 0.74 | | 8 | | | 0.28 | | 0.28 | | 0.26 | | — | | 8 | |
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Average common shares outstanding | | 3,371.9 | | 3,363.8 | | 3,373.5 | | — | | — | | 3,364.6 | | 3,379.8 | | — | | | 3,376.0 | | 3,379.4 | | 3,358.3 | | — | | 1 | |
Diluted average common shares outstanding | | 3,416.0 | | 3,404.4 | | 3,410.6 | | — | | — | | 3,405.5 | | 3,418.7 | | — | | | 3,416.1 | | 3,424.0 | | 3,395.7 | | — | | 1 | |
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Average loans | | $ | 303,980 | | $ | 300,388 | | $ | 295,611 | | 1 | | 3 | | $ | 305,141 | | $ | 292,874 | | 4 | | | $ | 321,429 | | $ | 312,166 | | $ | 311,132 | | 3 | | 3 | |
Average assets | | 494,679 | | 491,456 | | 448,159 | | 1 | | 10 | | 487,182 | | 438,143 | | 11 | | | 482,105 | | 482,585 | | 475,195 | | — | | 1 | |
Average core deposits (2) | | 260,430 | | 257,695 | | 247,187 | | 1 | | 5 | | 257,402 | | 239,171 | | 8 | | | 290,586 | | 283,790 | | 257,466 | | 2 | | 13 | |
Average retail core deposits (3) | | 212,440 | | 213,588 | | 205,078 | | | (1 | ) | | 4 | | 212,980 | | 198,881 | | 7 | | | 223,729 | | 220,025 | | 213,876 | | 2 | | 5 | |
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Net interest margin | | | 4.79 | % | | | 4.76 | % | | | 4.86 | % | | 1 | | | (1 | ) | | | 4.80 | % | | | 4.87 | % | | | (1 | ) | | | 4.95 | % | | | 4.93 | % | | | 4.85 | % | | — | | 2 | |
At Period End | | |
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At Quarter End | | |
Securities available for sale | | $ | 52,635 | | $ | 71,420 | | $ | 34,480 | | | (26 | ) | | 53 | | $ | 52,635 | | $ | 34,480 | | 53 | | | $ | 45,443 | | $ | 42,629 | | $ | 51,195 | | 7 | | | (11 | ) |
Loans | | 307,491 | | 300,622 | | 296,189 | | 2 | | 4 | | 307,491 | | 296,189 | | 4 | | | 325,487 | | 319,116 | | 306,676 | | 2 | | 6 | |
Allowance for loan losses | | 3,799 | | 3,851 | | 3,886 | | | (1 | ) | | | (2 | ) | | 3,799 | | 3,886 | | | (2 | ) | | 3,772 | | 3,764 | | 3,845 | | — | | | (2 | ) |
Goodwill | | 11,192 | | 11,091 | | 10,776 | | 1 | | 4 | | 11,192 | | 10,776 | | 4 | | | 11,275 | | 11,275 | | 11,050 | | — | | 2 | |
Assets | | 483,441 | | 499,516 | | 453,494 | | | (3 | ) | | 7 | | 483,441 | | 453,494 | | 7 | | | 485,901 | | 481,996 | | 492,428 | | 1 | | | (1 | ) |
Core deposits (2) | | 260,793 | | 260,427 | | 248,384 | | — | | 5 | | 260,793 | | 248,384 | | 5 | | | 296,469 | | 288,068 | | 263,136 | | 3 | | 13 | |
Stockholders’ equity | | 44,862 | | 41,894 | | 39,835 | | 7 | | 13 | | 44,862 | | 39,835 | | 13 | | | 46,135 | | 45,876 | | 41,961 | | 1 | | 10 | |
Tier 1 capital (4) | | 35,551 | | 33,344 | | 30,996 | | 7 | | 15 | | 35,551 | | 30,996 | | 15 | | | 36,476 | | 36,808 | | 32,758 | | | (1 | ) | | 11 | |
Total capital (4) | | 50,197 | | 47,202 | | 43,925 | | 6 | | 14 | | 50,197 | | 43,925 | | 14 | | | 50,733 | | 51,427 | | 45,331 | | | (1 | ) | | 12 | |
Capital ratios | | |
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Capital ratios: | | |
Stockholders’ equity to assets | | | 9.28 | % | | | 8.39 | % | | | 8.78 | % | | 11 | | 6 | | | 9.28 | % | | | 8.78 | % | | 6 | | | | 9.49 | % | | | 9.52 | % | | | 8.52 | % | | — | | 11 | |
Risk-based capital (4) | | |
Tier 1 capital | | 8.74 | | 8.35 | | 8.35 | | 5 | | 5 | | 8.74 | | 8.35 | | 5 | | | 8.70 | | 8.95 | | 8.30 | | | (3 | ) | | 5 | |
Total capital | | 12.34 | | 11.82 | | 11.84 | | 4 | | 4 | | 12.34 | | 11.84 | | 4 | | | 12.10 | | 12.50 | | 11.49 | | | (3 | ) | | 5 | |
Tier 1 leverage (4) | | 7.41 | | 6.99 | | 7.16 | | 6 | | 3 | | 7.41 | | 7.16 | | 3 | | | 7.83 | | 7.89 | | 7.13 | | | (1 | ) | | 10 | |
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Book value per common share | | $ | 13.30 | | $ | 12.46 | | $ | 11.86 | | 7 | | 12 | | $ | 13.30 | | $ | 11.86 | | 12 | | | $ | 13.77 | | $ | 13.58 | | $ | 12.50 | | 1 | | 10 | |
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Team members (active, full-time equivalent) | | 156,400 | | 154,300 | | 151,300 | | 1 | | 3 | | 156,400 | | 151,300 | | 3 | | | 159,600 | | 158,000 | | 152,000 | | 1 | | 5 | |
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Common Stock Price | | |
High | | $ | 36.89 | | $ | 34.86 | | $ | 31.44 | | 6 | | 17 | | $ | 36.89 | | $ | 31.44 | | 17 | | | $ | 36.64 | | $ | 36.99 | | $ | 32.76 | | | (1 | ) | | 12 | |
Low | | 33.36 | | 31.90 | | 29.00 | | 5 | | 15 | | 30.31 | | 28.89 | | 5 | | �� | | 33.01 | | 34.90 | | 30.31 | | | (5 | ) | | 9 | |
Period end | | 36.18 | | 33.54 | | 29.29 | | 8 | | 24 | | 36.18 | | 29.29 | | 24 | | | 34.43 | | 35.56 | | 31.94 | | | (3 | ) | | 8 | |
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(1) | | The efficiency ratio is noninterest expense divided by total revenue (net interest income and noninterest income). |
(2) | | Core deposits are noninterest-bearing deposits, interest-bearing checking, savings certificates, and market rate and other savings.savings, and certain foreign deposits (Eurodollar sweep balances). During 2006, certain customer accounts (largely Wholesale Banking) were converted to deposit balances in the form of Eurodollar sweep accounts from off-balance sheet money market funds and repurchase agreements. Included in average core deposits were converted balances of $9,888 million, $8,888 million and $1,234 million for the quarters ended March 31, 2007, December 31, 2006, and March 31, 2006, respectively. Average core deposits increased 10% from first quarter 2006 and 9% (annualized) from fourth quarter 2006, not including these converted balances. |
(3) | | Retail core deposits are total core deposits excluding Wholesale Banking core deposits and retail mortgage escrow deposits. |
(4) | | See Note 1819 (Regulatory and Agency Capital Requirements) to Financial Statements for additional information. |
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This Report on Form 10-Q for the quarter ended September 30, 2006,March 31, 2007, including the Financial Review and the Financial Statements and related Notes, has forward-looking statements, which may include forecasts of our financial results and condition, expectations for our operations and business, and our assumptions for those forecasts and expectations. We identify some of the forward-looking statements contained in this Report in the “Risk Factors” section. Do not unduly rely on forward-looking statements. Actual results might differ significantly from our forecasts and expectations due to several factors. Some of these factors are described in the Financial Review and in the Financial Statements and related Notes. For a discussion of other factors, refer to the “Risk Factors” section in this Report and to the “Risk Factors” and “Regulation and Supervision” sections of our Annual Report on Form 10-K for the year ended December 31, 2005 (20052006 (2006 Form 10-K), filed with the Securities and Exchange Commission (SEC) and available on the SEC’s website at www.sec.gov.
OVERVIEW
Wells Fargo & Company is a $483$486 billion diversified financial services company providing banking, insurance, investments, mortgage banking and consumer finance through banking stores, the internet and other distribution channels to consumers, businesses and institutions in all 50 states of the U.S. and in other countries. We ranked fifth in assets and fourth in market value of our common stock among U.S. bank holding companies at September 30, 2006.March 31, 2007. When we refer to “the Company,” “we,” “our” andor “us” in this Report, we mean Wells Fargo & Company and Subsidiaries (consolidated). When we refer to the “Parent,” we mean Wells Fargo & Company.
In thirdfirst quarter 2006,2007, we achieved record diluted earnings per share of $0.64,$0.66, up 10% from a year ago, and record net income of $2.19$2.24 billion, up 11% from a year ago. All common shareOur first quarter 2007 results reflected the balance across our broadly diverse business segments, continued improvement in operating margins, and per share disclosuresa modest decline in this Report reflect the two-for-one stock splitnet credit losses from fourth quarter 2006 levels. In terms of business performance, growth was once again well balanced between consumer and commercial with most of our 80 plus businesses producing double-digit earnings or revenue growth in the formquarter. In terms of a 100% stock dividend distributed August 11, 2006. Our results were driven by solid revenue growth, with revenue in businesses other than Wells Fargo Home Mortgage (Home Mortgage) up a combined 13% from last year, and positive operating leverage, and once again demonstrated the advantage of our diversified business model. Despite the uncertain economic and interest rate environment, our diverse group of more than 80 businesses once again produced double-digit earnings growth, led by particular strength in regional banking and wholesale/commercial banking. We continued to have strong performance on numerous financial measures, including a widermargins, net interest margin improved to 4.95%, up 10 basis points from a year ago; return on assets, which includes credit costs, improved to 1.89%, up 17 basis points from a year ago; operating efficiencyleverage was positive with revenue growth of 10% exceeding 9% expense growth; and at 20%, the highest return on equity sinceremained strong at 19.65%, among the best in the industry. Earnings growth and operating margins were solid and improved in first quarter 2004. We continued to have the widest net interest margin among2007, despite an increase in nonperforming assets and credit charge-offs from a year ago, reflecting in large bank holding companies. The relative stability ofpart our margin, despite the persistently challenging yield curve, reflected ourongoing discipline aroundin managing our loanbusinesses and securities portfoliosbalance sheet for high long-term yield, as well as continued growth in our large base of core deposits while maintaining disciplined deposit pricing.industry-leading risk-adjusted returns.
Our vision is to satisfy all theour customers’ financial needs, of our customers, help them succeed financially, be recognized as the premier financial services company in our markets and be one of America’s great companies. Our primary strategy to achieve this vision is to increase the number of products our customers buy from us and to give them all of the financial products that fulfill their needs. Our cross-sell strategy and diversified business model facilitate growth in strong and weak economic cycles, as we can grow by expanding the number of products our current customers have with us. Our average retail banking household now has a record 5.15.3 products with us and our average Wholesale Banking customer has 5.9 products.us. Our goal is eight
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products per customer, which is currently half of our estimate of potential demand. Our core products in thirdgrew this quarter 2006 grew fromcompared with a year ago, with average loans up 3%, even with the sales of lower-yielding adjustable rate mortgages (ARMs) through second quarter 2006, average core deposits up 5%13% and assets managed and administered up 17%26%. Our owned mortgage loan servicing portfolio was a record $1.33 trillion at September 30, 2006, including the $140 billion mortgage servicing portfolio acquired from Washington Mutual, Inc. in July 2006.
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We believe it is important to maintain a well-controlled environment as we continue to grow our businesses. We manage our credit risk by maintaining prudentsetting risk-adjusted credit policies for underwriting, and effective procedures forwhile continuously monitoring and review.reviewing the performance of our loan portfolio. We maintain a well-diversified loan portfolio, measured by industry, geography and product type. We manage the interest rate and market risks inherent in our asset and liability balances within prudent ranges, while ensuring adequate liquidity and funding. Our stockholder value has increased over time due to customer satisfaction, strong financial results, investment in our businesses, consistent execution of our business model and the prudent way we attempt to managemanagement of our business risks.
Our financial results included the following:
Net income for thirdfirst quarter 20062007 increased 11% to $2.19$2.24 billion from $1.98$2.02 billion for thirdfirst quarter 2005.2006. Diluted earnings per share for thirdfirst quarter 20062007 increased 10% to $0.64$0.66, from $0.58$0.60 for thirdfirst quarter 2005.2006. Return on average assets (ROA) was 1.76%1.89% and return on average commonstockholders’ equity (ROE) was 20.00%19.65% for thirdfirst quarter 2006, and 1.75% and 19.72%, respectively, for third quarter 2005.
Net income for the first nine months of 2006 was $6.30 billion, or $1.85 per share, compared with $5.74 billion, or $1.68 per share, for the first nine months of 2005. ROA was 1.73% in the first nine months of 2006, compared with 1.75% for the first nine months of 2005. ROE was 19.89% in the first nine months of 2006, compared with 19.70% for the first nine months of 2005.2007.
Net interest income on a taxable-equivalent basis increased 8%3% to $5.08$5.04 billion for thirdfirst quarter 2007 from $4.89 billion for first quarter 2006 on 9% earning assets growth from $4.70 billion for third quarter 2005. Solid growth in net interest income again was driven by continued growtha 1% increase in high-qualityaverage earning assets and solid core deposit growth. With short-terma 10 basis point increase in the net interest rates now above 5%, our cumulativemargin. The net interest margin was 4.95% for first quarter 2007, compared with 4.85% for first quarter 2006. The completion of the sales of adjustable rate mortgages (ARMs) and lower-yielding ARMs and debtinvestment securities last year reduced the earning asset growth rate year over year, but helped increase the last two yearsnet interest margin. Net interest margin continued to add to net interest income.benefit from growth in core deposits.
Noninterest income increased $60 million, or 2%,20% to $3.89$4.43 billion for first quarter 2007, from $3.69 billion for first quarter 2006. Growth in third quarter 2006 from $3.83 billionfee income was strong, reflecting our ongoing success in third quarter 2005. Excluding mortgage banking, noninterest income for third quarter 2006 increasedcross-selling products and services to both consumer and commercial relationships. Deposit service fees rose 10% from third quarter 2005, reflecting strongsolid growth in deposit service charges (up 8%),balances and accounts; trust and investment fees (up 8%),rose 10% reflecting increases in equity/bond markets from a year ago and success in building new wealth management relationships; debit and credit card fees (up 23%)rose 22% reflecting deeper customer penetration rates and increased activity; insurance fees (up 26%).
Mortgagerose 10% reflecting higher revenue; and mortgage banking noninterestfee income declined $259 million in third quarter 2006 from a year ago, largelywas higher due to increased originations and a 41% increase in gross servicing income, including the change$140 billion servicing portfolio acquired last year. In line with our asset/liability management process, we sold $4 billion of our lowest-yielding bonds in mortgage servicing rights (MSRs) valuation. In thirdfirst quarter 2005 –2007 at a quarter in which long-term mortgage interest rates increased 51 basis points – the difference between MSRs impairment reserve release (income) and hedging losses was a net gain of $296$29 million. In third quarter 2006 – a quarter in which mortgage rates declined 48 basis points – the reduction in the value of MSRs net of hedging gains was a net loss of $86 million.
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Revenue, the sum of net interest income and noninterest income, grew $431$886 million, or 5%10%, to $8.93$9.44 billion in thirdfirst quarter 20062007 from $8.50$8.56 billion in thirdfirst quarter 2005. Home Mortgage2006. Community Banking and Wholesale Banking revenue declined $502 million to $923 million from $1.4 billion in third quarter 2005, largely due togrowth was 12% and 15%, respectively, reflecting the $356 million mortgage servicing rights valuation reserve release (income) partly offset by $60 millionstrength and balance of hedging losses recorded in third quarter 2005. Combined revenue of businesses other than Home Mortgage grew 13% from third quarter 2005.our business model. Businesses with double-digit, or near double-digit, year-over-year revenue growth included commercial banking, asset-based lending, asset management, international/trade finance, capital markets, real estate brokerage, business direct, regional banking, merchantwealth management, card services, home equity lending, personal credit cards, debit cards,management, corporate trust, asset-based lending, Eastdil Secured, commercial banking, insurance, international, commercial real estate, specialized financialand home mortgage. Year-over-year revenue growth was driven by growth in net interest income and particularly strong increases in fee income across products and services, reflecting continued growth in cross-sell. Given the deterioration in the nonprime mortgage market during first quarter 2007, we took a number of actions that reduced revenue by approximately $90 million
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(pre tax), including reducing the carrying value of all nonprime loans in our mortgage warehouse and consumer finance.providing for additional estimated early payment default losses on securitized mortgages. In addition, given the decline in mortgage rates during the quarter, revenue was reduced by $34 million (pre tax) reflecting the decline in the value of mortgage servicing rights (MSRs) net of hedging.
Noninterest expense was $5.08$5.53 billion for thirdfirst quarter 2006,2007, up 4%$452 million, or 9%, from $4.89 billion for the same period of 2005. Noninterest expense included $28 million in stock option expense. Wefirst quarter 2006. The increase was primarily driven by continued to investinvestment in our businesses, during the quarter. In the last 12 months,both additional sales personnel and new stores. During first quarter 2007, we opened 119 new18 regional banking stores, including 27 stores this quarter. We grewadded 57 newwebATM® machines and converted 151 ATMs in Central California toEnvelope-FreeSMwebATMmachines to better serve our sales and service force by adding 5,100 team members (full-time equivalents), including 667 retail bankerscustomers. Expenses in third quarter 2006. As a result of continued positive operating leverage, our efficiency ratio improved to 56.9%, the lowest since first quarter 2004.2007 included $50 million of stock option expense, $29 million of seasonal FICA expenses and $16 million of integration costs.
Net charge-offs for thirdfirst quarter 20062007 were $663$715 million (0.86%(0.90% of average total loans outstanding, annualized), compared with $541$726 million (0.73%(0.92%) during thirdfourth quarter 2005. During the2006 and $433 million (0.56%) during first nine months ofquarter 2006, net charge-offs were $1,528 million (0.67%), compared with $1,580 million (0.72%), for the first nine months of 2005, which included $163 million (0.11%) related to changes in loss recognition rules at Wells Fargo Financial to conform to Federal Financial Institutions Examination Council (FFIEC) bank standards for recognizing credit losses. Our wholesale businesses continued to show little or no loss andwas positively impacted by historically low levels of nonperforming assets. However, we saw an increase in loss rates in consumer loans to 1.17% in third quarter 2006 from 0.91% in third quarter 2005 due primarily to higher losses in other revolving credit and installment loans. Third quarter 2006 loan losses in other consumer loan categories were comparable to, or better than, loss rates in third quarter 2005, and were well within a range of acceptable expected losses.
Consumer auto loan losses increased $150 million from second quarter 2006, accounting for 65% of the total increase in consolidated net charge-offs of $231 million for the same period. The increase in consumer auto loan losses in part was due to growth and expected seasoning in the portfolio. In addition, loss rates in this portfolio increased in third quarter 2006 in large part due to collection capacity constraints experienced by Wells Fargo Financial and restrictive payment extension practices in the spring of 2006 while Wells Fargo Financial began integrating the prime and non-prime auto loan businesses. During third quarter 2006, Wells Fargo Financial adopted collection practices and standards appropriate for the combined portfolio, began reducing higher risk new auto loans and hired additional collectors and managers, which have now been increased by almost 1,000, or 60%, since the beginning of the year. We believe we will see improvement in collections by early 2007, but losses will remain above normal through at leastpersonal bankruptcies after the fourth quarter given2005 bankruptcy spike caused by the limits to how fastthen impending change in the increased collection capability produces effective results. Loans 90 days or more past duebankruptcy law. Auto related losses for first quarter 2007, while still at historically elevated levels, declined from third and still accruing for other revolving credit and installment consumer loans increased $85 million to $516 million at September 30,fourth quarter 2006 from June 30, 2006, with approximately half of the increase due to our intensive management efforts, in both collections and underwriting, along with seasonality. Losses remained at predicted levels in our consumer unsecured and small business portfolios, and we continued to experience historically low losses in our commercial portfolios. Home equity losses have increased due to current real estate market conditions, including stress in certain regional markets, along with underperformance in home equity loans acquired from correspondents. We have tightened our underwriting standards and focused additional collections resources on targeted portfolio segments. During 2007, we expect higher but manageable losses in the autohome equity portfolio.
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The allowance for credit losses, which consists of the allowance for loan losses and the reserve for unfunded credit commitments, was $3.98$3.96 billion, (1.29%or 1.22% of total loans)loans, at September 30, 2006,March 31, 2007, compared with $4.06$3.96 billion, (1.31%)or 1.24%, at December 31, 2005,2006, and $4.06$4.03 billion, (1.37%)or 1.31%, at September 30, 2005. In third quarter 2005, we provided $100 million for estimated credit losses related to Hurricane Katrina. Since that time, we have identified and recorded approximately $50 million of Katrina-related losses. Because we do not anticipate any further credit losses attributable to Katrina, we released the remaining $50 million balance in third quarter 2006. We consider the allowance for credit losses of $3.98 billion adequate to cover losses inherent in the loan portfolio at September 30,March 31, 2006.
Total nonaccrual loans were $1.49$1.75 billion, (0.48%or 0.54% of total loans)loans, at September 30, 2006,March 31, 2007, compared with $1.34$1.67 billion, (0.43%)or 0.52%, at December 31, 2005,2006, and $1.30$1.39 billion, (0.44%)or 0.45%, at September 30, 2005.March 31, 2006. Total nonperforming assets (NPAs) were $2.10$2.67 billion, (0.68%or 0.82% of total loans)loans, at September 30, 2006,March 31, 2007, compared with $1.53$2.42 billion, (0.49%)or 0.76%, at December 31, 2005,2006, and $1.49$1.85 billion, (0.50%)or 0.60%, at September 30, 2005.March 31, 2006. Foreclosed assets were $608$909 million at September 30, 2006,March 31, 2007, compared with $191$745 million at December 31, 2005,2006, and $187$455 million at September 30, 2005.March 31, 2006. Foreclosed assets, a component of total nonperforming assets,NPAs, included an additional $266$381 million, $322 million and $227 million of foreclosed real estate securing Government National Mortgage Association (GNMA) loans at September 30,March 31, 2007, December 31, 2006 due to a change inand March 31, 2006, respectively, consistent with regulatory reporting requirements effective January 1, 2006.requirements. The GNMA foreclosed real estate securing GNMA loans of $266$381 million represented 912 basis points of the ratio of nonperforming assets to loans at September 30, 2006. These assetsMarch 31, 2007. Both principal and interest for GNMA loans secured by the foreclosed real estate are fully collectible because the corresponding GNMA loans are insured by the Federal Housing Administration (FHA) or guaranteed by the Department of Veterans Affairs. Commercial nonperforming assets continued at historically low levels, and our loan impairment
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analysis indicated only modest loss potential. We are constantly monitoring residential mortgage and auto nonperforming levels and have active programs to determine the best strategy to hold and workout or sell these assets.
The Company and each of its subsidiary banks continued to remain well-capitalized. During first quarter 2007 we repurchased $1.6 billion of our common stock. The ratio of stockholders’ equity to total assets was 9.28%9.49% at September 30, 2006, 8.44%March 31, 2007, 9.52% at December 31, 2005,2006, and 8.78%8.52% at September 30, 2005.March 31, 2006. Our total risk-based capital (RBC) ratio at September 30, 2006,March 31, 2007, was 12.34%12.10% and our Tier 1 RBC ratio was 8.74%8.70%, exceeding the minimum regulatory guidelines of 8% and 4%, respectively, for bank holding companies. Our RBC ratios at September 30, 2005,March 31, 2006, were 11.84%11.49% and 8.35%8.30%, respectively. Our Tier 1 leverage ratios were 7.41%7.83% and 7.16%7.13% at September 30,March 31, 2007 and 2006, and 2005, respectively, exceeding the minimum regulatory guideline of 3% for bank holding companies.
Current Accounting Developments
On July 13, 2006, the Financial Accounting Standards Board (FASB) issued Financial Interpretation No. 48,Accounting for Income Tax Uncertainties(FIN 48). FIN 48 supplements Statement of Financial Accounting Standards No. 109,Accounting for Income Taxes(FAS 109), by defining the threshold for recognizing tax benefits in the financial statements as “more-likely-than-not” to be sustained by the applicable taxing authority. The benefit recognized for a tax position that meets the “more-likely-than-not” criterion is measured based on the largest benefit that is more than 50% likely to be realized, taking into consideration the amounts and probabilities of the outcomes upon settlement. We will adopt FIN 48 on January 1, 2007, as required. Any necessary adjustment must be recorded directly towe adopted the beginning balancefollowing new accounting pronouncements:
| • | | FIN 48 — Financial Accounting Standards Board (FASB) Interpretation No. 48,Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109; |
| • | | FSP 13-2 — FASB Staff Position 13-2,Accounting for a Change or Projected Change in the Timing of Cash Flows Relating to Income Taxes Generated by a Leveraged Lease Transaction; |
| • | | FAS 155 — Statement of Financial Accounting Standards No. 155,Accounting for Certain Hybrid Financial Instruments,an amendment of FASB Statements No. 133 and 140; |
| • | | FAS 157,Fair Value Measurements; and |
| • | | FAS 159,The Fair Value Option for Financial Assets and Financial Liabilities, including an amendment of FASB Statement No. 115. |
The adoption of retained earnings in the period of adoptionFIN 48, FAS 155, FAS 157 and reported as a change in accounting principle. We are currently in the process of identifying the impact of this guidanceFAS 159 did not have any effect on our consolidated financial statements.statements at the date of adoption. For additional information, see Note 11 (Income Taxes) and Note 16 (Fair Values of Assets and Liabilities) to Financial Statements.
Also on July 13, 2006, the FASB issued Staff Position 13-2,Accounting for a Change or Projected Change in the TimingUpon adoption of Cash Flows Related to Income Taxes Generated by a
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Leveraged Lease Transaction(FSP 13-2). FSP 13-2, relates to the accounting for leveraged lease transactions for which there have been cash flow estimate changes based on when income tax benefits are recognized. Certain of our leveraged lease transactions have been challenged by the Internal Revenue Service (IRS). While we have not made investments inrecorded a broad class of transactions that the IRS commonly refers as “Lease-In, Lease-Out” (LILO) transactions, we have previously invested in certain leveraged lease transactions that the IRS labels as “Sale-In Lease-Out” (SILO) transactions. We have paid the IRS the income tax associated with our SILO transactions. However, we are continuing to vigorously defend our initial filing position as to the timing of the tax benefits associated with these transactions. We will adopt FSP 13-2 on January 1, 2007, as required. We estimate that the cumulative effect of change in accounting principle upon adoption of the FSP will require a reduction ofto reduce the beginning balance of 2007 retained earnings by approximately $75$71 million after tax ($115 million pre tax). This amount will be recognized back into income over the remaining terms of the affected leases.
On February 16, 2006, the FASB issued FAS 155,Accounting for Certain Hybrid Financial Instruments, which amends FAS 133, Accounting for Derivatives and Hedging Activities, and FAS 140,Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities. Hybrid financial instruments are single financial instruments that contain an embedded derivative. Under FAS 155, entities can elect to record certain hybrid financial instruments at fair value as individual financial instruments. Prior to this amendment, certain hybrid financial instruments were required to be separated into two instruments – a derivative and host – and generally only the derivative was recorded at fair value. FAS 155 also requires that beneficial interests in securitized assets be evaluated for either freestanding or embedded derivatives. FAS 155 is effective for all financial instruments acquired or issued after January 1, 2007. FAS 155 will have no effect on our consolidated financial statements on the date of adoption.
On September 15, 2006, the FASB issued FAS 157,Fair Value Measurements, which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles (GAAP), and expands disclosures about fair value measurements. FAS 157 applies under other accounting pronouncements that require or permit fair value measurements, the FASB having previously concluded in those accounting pronouncements that fair value is the relevant measurement attribute. FAS 157 is effective for the year beginning January 1, 2008, with early adoption permitted on January 1, 2007. We are currently evaluating if we will choose to adopt FAS 157 early, on January 1, 2007. We do not expect that the adoption of FAS 157 will have a material effect on our consolidated financial statements.
On September 29, 2006, the FASB issued FAS 158,Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans—An Amendment of FASB Statements No. 87, 88, 106, and 132R, requiring an employer to recognize on its balance sheet the funded status of pension and other postretirement plans, measure a plan’s assets and its obligations that determine its funded status as of the end of the employer’s fiscal year and recognize changes in a plan’s funded status in the year in which the changes occur in comprehensive income. The requirement to recognize the funded status of our plans is effective December 31, 2006. The funded status will be determined by comparing the fair value of plan assets and the projected benefit obligation or accumulated postretirement benefit obligation, as applicable, including actuarial gains and losses, prior service cost, and any remaining transition amounts. To the extent the fair value of plan assets is larger, the plan is considered overfunded and an asset is recorded. Any previously recorded prepaid pension asset would be adjusted to reflect the funded status of the plan with the
7
offset to accumulated other comprehensive income. Conversely, if a plan is underfunded, a liability would be reported. The requirement to measure plan assets and benefit obligations as of the date of the employer’s fiscal year-end statement of financial position is effective for fiscal years ending after December 15, 2008. We do not expect adoption of FAS 158 to have a material impact on our consolidated balance sheet.
CRITICAL ACCOUNTING POLICIES
Our significant accounting policies are fundamental to understanding our results of operations and financial condition, because some accounting policies require that we use estimates and assumptions that may affect the value of our assets or liabilities and financial results. Three of these policies are critical because they require management to make difficult, subjective and complex judgments about matters that are inherently uncertain and because it is likely that materially different amounts would be reported under different conditions or using different assumptions. These policies govern the allowance for credit losses, the valuation of residential MSRs and pension accounting. Management has reviewed and approved these critical
6
accounting policies and has discussed these policies with the Audit and Examination Committee. Policies covering the allowance for credit losses and pension accountingThese policies are described in “Financial Review –— Critical Accounting Policies” and Note 1 (Summary of Significant Accounting Policies) to Financial Statements in our 20052006 Form 10-K. Due to adoption of FAS 156,Accounting for Servicing of Financial Assets – an amendment of FASB Statement No. 140,our accounting policy covering the valuation of residential mortgage servicing rights has been updated and is described below.
VALUATION OF RESIDENTIAL MORTGAGE SERVICING RIGHTS
We recognize as assets the rights to service mortgage loans for others, or mortgage servicing rights (MSRs), whether we purchase the servicing rights, or the servicing rights result from the sale or securitization of loans we originate (asset transfers). Effective January 1, 2006, under FAS 156, we elected to initially measure and carry our MSRs related to residential mortgage loans (residential MSRs) using the fair value measurement method. Under this method, purchased MSRs and MSRs from asset transfers are capitalized and carried at fair value. Prior to the adoption of FAS 156, we capitalized purchased residential MSRs at cost, and MSRs from asset transfers based on the relative fair value of the servicing right and the residential mortgage loan at the time of sale, and carried both purchased MSRs and MSRs from asset transfers at the lower of cost or market. Effective January 1, 2006, upon the remeasurement of our residential MSRs at fair value, we recorded a cumulative-effect adjustment to the 2006 beginning balance of retained earnings of $101 million after tax ($158 million pre tax) in our Statement of Changes in Stockholders’ Equity.
At the end of each quarter, we determine the fair value of MSRs using a valuation model that calculates the present value of estimated future net servicing income. The model incorporates assumptions that market participants use in estimating future net servicing income, including estimates of prepayment speeds, discount rate, cost to service, escrow account earnings, contractual servicing fee income, ancillary income and late fees. The valuation of MSRs is discussed further in this section and in Note 1 (Summary of Significant Accounting Policies) and Note 15 (Mortgage Banking Activities) to Financial Statements in this Report and in Note 20 (Securitizations and Variable Interest Entities) and Note 21 (Mortgage Banking Activities) to Financial Statements in our 2005 Form 10-K.
8
To reduce the sensitivity of earnings to interest rate and market value fluctuations, we may use securities available for sale and free-standing derivatives (economic hedges) to hedge the risk of changes in the fair value of MSRs, with the resulting gains or losses reflected in income. Changes in the fair value of the MSRs from changing mortgage interest rates are generally offset by gains or losses in the fair value of the derivatives depending on the amount of MSRs we hedge. We may choose not to fully hedge MSRs, partly because origination volume tends to act as a “natural hedge.” For example, as interest rates decline, servicing values decrease and fees from origination volume tend to increase. Conversely, as interest rates increase, the fair value of the MSRs increases, while fees from origination volume tend to decline. See “Risk Management – Asset/Liability and Market Risk Management – Mortgage Banking Interest Rate Risk” in this Report for discussion of the timing of the effect of changes in mortgage interest rates.
Net servicing income, a component of mortgage banking noninterest income, includes the changes from period to period in fair value of both our residential MSRs and the free-standing derivatives (economic hedges) used to hedge our residential MSRs. Changes in the fair value of residential MSRs from period to period result from (1) changes in the valuation model inputs or assumptions (principally reflecting changes in discount rates and prepayment speed assumptions, mostly due to changes in interest rates) and (2) other changes, representing changes due to collection/realization of expected cash flows over time. Prior to the adoption of FAS 156, we carried residential MSRs at the lower of cost or market, with amortization of MSRs and changes in the MSRs valuation allowance recognized in net servicing income.
We use a dynamic and sophisticated model to estimate the value of our MSRs. The model is validated by an independent internal model validation group operating in accordance with Company policies. Senior management reviews all significant assumptions quarterly. Mortgage loan prepayment speed – a key assumption in the model – is the annual rate at which borrowers are forecasted to repay their mortgage loan principal and is based on historical experience. The discount rate used to determine the present value of estimated future net servicing income – another key assumption in the model – is the required rate of return investors in the market would expect for an asset with similar risk. To determine the discount rate, we consider the risk premium for uncertainties from servicing operations (e.g., possible changes in future servicing costs, ancillary income and earnings on escrow accounts). Both assumptions can, and generally will, change quarterly valuations as market conditions and interest rates change. For example, an increase in either the prepayment speed or discount rate assumption results in a decrease in the fair value of the MSRs, while a decrease in either assumption would result in an increase in the fair value of the MSRs. In recent years, there have been significant market-driven fluctuations in loan prepayment speeds and the discount rate. These fluctuations can be rapid and may be significant in the future. Therefore, estimating prepayment speeds within a range that market participants would use in determining the fair value of MSRs requires significant management judgment.
These key economic assumptions and the sensitivity of the fair value of MSRs to an immediate adverse change in those assumptions are shown in Note 20 (Securitizations and Variable Interest Entities) to Financial Statements in our 2005 Form 10-K.
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EARNINGS PERFORMANCE
NET INTEREST INCOME
Net interest income is the interest earned on debt securities, loans (including yield-related loan fees) and other interest-earning assets minus the interest paid for deposits and long-term and short-term debt. The net interest margin is the average yield on earning assets minus the average interest rate paid for deposits and our other sources of funding. Net interest income and the net interest margin are presented in the table on page 8 on a taxable-equivalent basis to consistently reflect income from taxable and tax-exempt loans and securities based on a 35% marginal tax rate.
Net interest income on a taxable-equivalent basis increased 3% to $5.04 billion in first quarter 2007 from $4.89 billion in first quarter 2006, primarily driven by a 1% growth in average earning assets and a 10 basis point increase in the net interest margin. The net interest margin was 4.95% in first quarter 2007, up from 4.85% in first quarter 2006. The completion of the sales of ARMs and lower-yielding investment securities last year reduced the earning asset growth rate year over year, but also helped boost net interest margin. The net interest margin continued to benefit from growth in core deposits.
Average earning assets increased to $410.8 billion in first quarter 2007 from $407.5 billion in first quarter 2006. Average loans increased to $321.4 billion in first quarter 2007 from $311.1 billion in first quarter 2006. Excluding real estate 1-4 family first mortgages, the loan category affected by the sales of ARMs last year, total average loans grew by $30.2 billion, or 13%, from first quarter 2006. Average mortgages held for sale decreased to $32.3 billion in first quarter 2007 from $39.5 billion in first quarter 2006. Average debt securities available for sale increased to $44.7 billion in first quarter 2007 from $43.5 billion in first quarter 2006.
Average core deposits are an important contributor to growth in net interest income and the net interest margin. This low-cost source of funding rose to $290.6 billion for first quarter 2007 from $257.5 billion a year ago and funded 90% and 83% of average loans at March 31, 2007 and 2006, respectively. Core deposits are noninterest-bearing deposits, interest-bearing checking, savings certificates, market rate and other savings, and certain foreign deposits (Eurodollar sweep balances). Core deposits now include those foreign deposits that were previously swept into non-deposit products. Including only the growth in these funds from the date of conversion to deposits, average core deposits grew 10% year over year. Total average retail core deposits, which exclude Wholesale Banking core deposits and retail mortgage escrow deposits, for first quarter 2007 grew $9.9 billion, or 5%, from a year ago. Average mortgage escrow deposits were $20.6 billion for first quarter 2007, up $5.1 billion from a year ago. Average savings certificates of deposits increased to $38.5 billion in first quarter 2007 from $28.7 billion in first quarter 2006 and average noninterest-bearing checking accounts and other core deposit categories (interest-bearing checking and market rate and other savings) increased to $234.3 billion in first quarter 2007 from $225.3 billion in first quarter 2006. Total average interest-bearing deposits increased to $221.0 billion in first quarter 2007 from $215.9 billion in first quarter 2006.
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AVERAGE BALANCES, YIELDS AND RATES PAID (TAXABLE-EQUIVALENT BASIS) (1) (2)(1) (2)
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| | | | |
| | Quarter ended September 30 | , | | Quarter ended March 31 | , |
| | 2006 | | 2005 | | | 2007 | | 2006 | |
| | Interest | | Interest | | | Interest | | Interest | |
| | Average | | Yields/ | | income/ | | Average | | Yields/ | | income/ | | | Average | | Yields/ | | income/ | | Average | | Yields/ | | income/ | |
(in millions) | | balance | | rates | | expense | | balance | | rates | | expense | | | balance | | rates | | expense | | balance | | rates | | expense | |
| | |
| | |
EARNING ASSETS | | |
Federal funds sold, securities purchased under resale agreements and other short-term investments | | $ | 4,247 | | | 5.00 | % | | $ | 53 | | $ | 5,647 | | | 3.17 | % | | $ | 45 | | | $ | 5,867 | | | 5.15 | % | | $ | 75 | | $ | 5,192 | | | 4.21 | % | | $ | 54 | |
Trading assets | | 3,880 | | 5.19 | | 51 | | 4,782 | | 3.68 | | 44 | | | 4,305 | | 5.53 | | 59 | | 6,099 | | 4.61 | | 69 | |
Debt securities available for sale (3): | | |
Securities of U.S. Treasury and federal agencies | | 912 | | 4.42 | | 10 | | 1,042 | | 3.70 | | 10 | | | 753 | | 4.31 | | 8 | | 866 | | 4.30 | | 9 | |
Securities of U.S. states and political subdivisions | | 3,240 | | 7.99 | | 63 | | 3,321 | | 8.12 | | 63 | | | 3,532 | | 7.39 | | 63 | | 3,106 | | 8.13 | | 60 | |
Mortgage-backed securities: | | |
Federal agencies | | 47,009 | | 6.09 | | 716 | | 17,815 | | 6.08 | | 264 | | | 30,640 | | 6.19 | | 467 | | 27,718 | | 5.92 | | 406 | |
Private collateralized mortgage obligations | | 7,696 | | 6.78 | | 129 | | 4,245 | | 5.63 | | 59 | | | 3,993 | | 6.33 | | 62 | | 6,562 | | 6.46 | | 104 | |
| | | | | | | | | | | | | | | | | | | | |
Total mortgage-backed securities | | 54,705 | | 6.19 | | 845 | | 22,060 | | 5.99 | | 323 | | | 34,633 | | 6.21 | | 529 | | 34,280 | | 6.02 | | 510 | |
Other debt securities (4) | | 6,865 | | 6.80 | | 116 | | 3,888 | | 7.21 | | 68 | | | 5,778 | | 7.44 | | 106 | | 5,280 | | 7.86 | | 104 | |
| | | | | | | | | | | | | | | | | | | | |
Total debt securities available for sale (4) | | 65,722 | | 6.31 | | 1,034 | | 30,311 | | 6.29 | | 464 | | | 44,696 | | 6.43 | | 706 | | 43,532 | | 6.36 | | 683 | |
Mortgages held for sale (3) | | 42,369 | | 6.63 | | 702 | | 47,510 | | 5.68 | | 674 | | |
Loans held for sale (3) | | 622 | | 7.73 | | 12 | | 626 | | 5.86 | | 9 | | |
Mortgages held for sale (5) | | | 32,343 | | 6.55 | | 530 | | 39,523 | | 6.16 | | 609 | |
Loans held for sale | | | 794 | | 7.82 | | 15 | | 651 | | 6.93 | | 11 | |
Loans: | | |
Commercial and commercial real estate: | | |
Commercial | | 66,216 | | 8.36 | | 1,395 | | 59,434 | | 6.83 | | 1,023 | | | 71,063 | | 8.30 | | 1,455 | | 62,769 | | 7.71 | | 1,195 | |
Other real estate mortgage | | 29,851 | | 7.47 | | 562 | | 28,614 | | 6.42 | | 464 | | | 30,590 | | 7.41 | | 560 | | 28,686 | | 7.01 | | 497 | |
Real estate construction | | 15,073 | | 8.13 | | 309 | | 12,259 | | 6.64 | | 204 | | | 15,892 | | 8.01 | | 314 | | 13,850 | | 7.59 | | 259 | |
Lease financing | | 5,385 | | 5.65 | | 76 | | 5,252 | | 5.74 | | 75 | | | 5,503 | | 5.74 | | 79 | | 5,436 | | 5.80 | | 79 | |
| | | | | | | | | | | | | | | | | | | | |
Total commercial and commercial real estate | | 116,525 | | 7.98 | | 2,342 | | 105,559 | | 6.64 | | 1,766 | | | 123,048 | | 7.93 | | 2,408 | | 110,741 | | 7.42 | | 2,030 | |
Consumer: | | |
Real estate 1-4 family first mortgage | | 50,138 | | 7.54 | | 951 | | 72,479 | | 6.60 | | 1,201 | | | 54,444 | | 7.33 | | 995 | | 74,383 | | 6.82 | | 1,259 | |
Real estate 1-4 family junior lien mortgage | | 65,991 | | 8.14 | | 1,353 | | 56,412 | | 6.71 | | 954 | | | 69,079 | | 8.17 | | 1,393 | | 59,972 | | 7.65 | | 1,131 | |
Credit card | | 12,810 | | 13.45 | | 431 | | 10,867 | | 12.38 | | 336 | | | 14,557 | | 13.55 | | 493 | | 11,765 | | 13.23 | | 389 | |
Other revolving credit and installment | | 51,988 | | 9.75 | | 1,278 | | 45,380 | | 8.72 | | 998 | | | 53,539 | | 9.75 | | 1,287 | | 48,329 | | 9.39 | | 1,120 | |
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Total consumer | | 180,927 | | 8.81 | | 4,013 | | 185,138 | | 7.49 | | 3,489 | | | 191,619 | | 8.78 | | 4,168 | | 194,449 | | 8.10 | | 3,899 | |
Foreign | | 6,528 | | 12.42 | | 204 | | 4,914 | | 13.35 | | 164 | | | 6,762 | | 11.54 | | 192 | | 5,942 | | 12.57 | | 185 | |
| | | | | | | | | | | | | | | | | | | | |
Total loans (5) | | 303,980 | | 8.57 | | 6,559 | | 295,611 | | 7.29 | | 5,419 | | | 321,429 | | 8.51 | | 6,768 | | 311,132 | | 7.95 | | 6,114 | |
Other | | 1,348 | | 5.12 | | 18 | | 1,511 | | 3.83 | | 16 | | | 1,327 | | 5.12 | | 16 | | 1,389 | | 4.62 | | 16 | |
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Total earning assets | | $ | 422,168 | | 7.95 | | 8,429 | | $ | 385,998 | | 6.89 | | 6,671 | | | $ | 410,761 | | 8.04 | | 8,169 | | $ | 407,518 | | 7.50 | | 7,556 | |
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| | |
FUNDING SOURCES | | |
Deposits: | | |
Interest-bearing checking | | $ | 4,370 | | 3.24 | | 36 | | $ | 3,698 | | 1.50 | | 13 | | | $ | 4,615 | | 3.25 | | 37 | | $ | 4,069 | | 2.23 | | 22 | |
Market rate and other savings | | 132,906 | | 2.55 | | 854 | | 129,390 | | 1.57 | | 513 | | | 140,934 | | 2.77 | | 963 | | 134,228 | | 2.08 | | 687 | |
Savings certificates | | 33,909 | | 4.03 | | 344 | | 23,434 | | 2.98 | | 176 | | | 38,514 | | 4.43 | | 421 | | 28,718 | | 3.45 | | 245 | |
Other time deposits | | 36,920 | | 5.27 | | 491 | | 22,204 | | 3.48 | | 196 | | | 9,312 | | 5.13 | | 118 | | 33,726 | | 4.48 | | 373 | |
Deposits in foreign offices | | 22,303 | | 4.84 | | 272 | | 12,359 | | 3.28 | | 102 | | | 27,647 | | 4.67 | | 318 | | 15,152 | | 4.16 | | 155 | |
| | | | | | | | | | | | | | | | | | | | |
Total interest-bearing deposits | | 230,408 | | 3.44 | | 1,997 | | 191,085 | | 2.08 | | 1,000 | | | 221,022 | | 3.41 | | 1,857 | | 215,893 | | 2.78 | | 1,482 | |
Short-term borrowings | | 21,539 | | 4.99 | | 271 | | 22,797 | | 3.28 | | 189 | | | 11,498 | | 4.78 | | 136 | | 26,180 | | 4.17 | | 270 | |
Long-term debt | | 84,112 | | 5.13 | | 1,084 | | 82,840 | | 3.75 | | 780 | | | 89,027 | | 5.15 | | 1,138 | | 81,686 | | 4.49 | | 910 | |
| | | | | | | | | | | | | | | | | | | | |
Total interest-bearing liabilities | | 336,059 | | 3.96 | | 3,352 | | 296,722 | | 2.64 | | 1,969 | | | 321,547 | | 3.94 | | 3,131 | | 323,759 | | 3.33 | | 2,662 | |
Portion of noninterest-bearing funding sources | | 86,109 | | — | | — | | 89,276 | | — | | — | | | 89,214 | | — | | — | | 83,759 | | — | | — | |
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Total funding sources | | $ | 422,168 | | 3.16 | | 3,352 | | $385,998 | | 2.03 | | 1,969 | | | $ | 410,761 | | 3.09 | | 3,131 | | $ | 407,518 | | 2.65 | | 2,662 | |
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Net interest margin and net interest income on a taxable-equivalent basis(6) | | | 4.79 | % | | $ | 5,077 | | | 4.86 | % | | $ | 4,702 | | | | 4.95 | % | | $ | 5,038 | | | 4.85 | % | | $ | 4,894 | |
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| | |
NONINTEREST-EARNING ASSETS | | |
Cash and due from banks | | $ | 12,159 | | $ | 13,100 | | | $ | 11,862 | | $ | 12,897 | |
Goodwill | | 11,156 | | 10,736 | | | 11,274 | | 10,963 | |
Other | | 49,196 | | 38,325 | | | 48,208 | | 43,817 | |
| | | | | | | | | | |
Total noninterest-earning assets | | $ | 72,511 | | $ | 62,161 | | | $ | 71,344 | | $ | 67,677 | |
| | | | | | |
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NONINTEREST-BEARING FUNDING SOURCES | | |
Deposits | | $ | 89,245 | | $ | 90,665 | | | $ | 88,769 | | $ | 86,997 | |
Other liabilities | | 25,839 | | 21,074 | | | 25,474 | | 23,320 | |
Stockholders’ equity | | 43,536 | | 39,698 | | | 46,315 | | 41,119 | |
Noninterest-bearing funding sources used to fund earning assets | | | (86,109 | ) | | | (89,276 | ) | | | | (89,214 | ) | | | (83,759 | ) | |
| | | | | | | | | | |
Net noninterest-bearing funding sources | | $ | 72,511 | | $ | 62,161 | | | $ | 71,344 | | $ | 67,677 | |
| | | | | | | | | | |
| | |
TOTAL ASSETS | | $ | 494,679 | | $ | 448,159 | | | $ | 482,105 | | $ | 475,195 | |
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(1) | | Our average prime rate was 8.25% and 6.42%7.43% for the quarters ended September 30,March 31, 2007 and 2006, and 2005, respectively, and 7.86% and 5.93% for the nine months ended September 30, 2006 and 2005, respectively. The average three-month London Interbank Offered Rate (LIBOR) was 5.43%5.36% and 3.77%4.76% for the same quarters, ended September 30, 2006 and 2005, respectively, and 5.14% and 3.30% for the nine months ended September 30, 2006 and 2005, respectively. |
(2) | | Interest rates and amounts include the effects of hedge and risk management activities associated with the respective asset and liability categories. |
(3) | | Yields are based on amortized cost balances computed on a settlement date basis. |
(4) | | Includes certain preferred securities. |
(5) | | Nonaccrual loans and related income are included in their respective loan categories. |
(6) | | Includes taxable-equivalent adjustments primarily related to tax-exempt income on certain loans and securities. The federal statutory tax rate was 35% for the periods presented. |
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| |
| | Nine months ended September 30 | , |
| | 2006 | | | 2005 | |
| | | | | | | | | | Interest | | | | | | | | | | | Interest | |
| | Average | | | Yields/ | | | income/ | | | Average | | | Yields / | | | income/ | |
(in millions) | | balance | | | rates | | | expense | | | balance | | | rates | | | expense | |
|
EARNING ASSETS | | | | | | | | | | | | | | | | | | | | | | | | |
Federal funds sold, securities purchased under resale agreements and other short-term investments | | $ | 4,761 | | | | 4.58 | % | | $ | 163 | | | $ | 5,546 | | | | 2.81 | % | | $ | 117 | |
Trading assets | | | 5,298 | | | | 4.91 | | | | 195 | | | | 5,529 | | | | 3.43 | | | | 142 | |
Debt securities available for sale (3): | | | | | | | | | | | | | | | | | | | | | | | | |
Securities of U.S. Treasury and federal agencies | | | 905 | | | | 4.38 | | | | 30 | | | | 979 | | | | 3.78 | | | | 28 | |
Securities of U.S. states and political subdivisions | | | 3,120 | | | | 8.11 | | | | 183 | | | | 3,441 | | | | 8.28 | | | | 202 | |
Mortgage-backed securities: | | | | | | | | | | | | | | | | | | | | | | | | |
Federal agencies | | | 38,366 | | | | 5.99 | | | | 1,723 | | | | 18,495 | | | | 6.06 | | | | 815 | |
Private collateralized mortgage obligations | | | 7,149 | | | | 6.65 | | | | 352 | | | | 4,140 | | | | 5.55 | | | | 169 | |
| | | | | | | | | | | | | | | | | | | |
Total mortgage-backed securities | | | 45,515 | | | | 6.10 | | | | 2,075 | | | | 22,635 | | | | 5.97 | | | | 984 | |
Other debt securities (4) | | | 6,136 | | | | 7.06 | | | | 324 | | | | 3,511 | | | | 7.25 | | | | 184 | |
| | | | | | | | | | | | | | | | | | | |
Total debt securities available for sale (4) | | | 55,676 | | | | 6.28 | | | | 2,612 | | | | 30,566 | | | | 6.30 | | | | 1,398 | |
Mortgages held for sale (3) | | | 44,533 | | | | 6.34 | | | | 2,119 | | | | 37,958 | | | | 5.57 | | | | 1,585 | |
Loans held for sale (3) | | | 619 | | | | 7.33 | | | | 34 | | | | 3,617 | | | | 5.02 | | | | 136 | |
Loans: | | | | | | | | | | | | | | | | | | | | | | | | |
Commercial and commercial real estate: | | | | | | | | | | | | | | | | | | | | | | | | |
Commercial | | | 64,816 | | | | 8.07 | | | | 3,914 | | | | 57,469 | | | | 6.55 | | | | 2,816 | |
Other real estate mortgage | | | 29,162 | | | | 7.26 | | | | 1,585 | | | | 29,325 | | | | 6.14 | | | | 1,347 | |
Real estate construction | | | 14,485 | | | | 7.89 | | | | 854 | | | | 10,428 | | | | 6.43 | | | | 501 | |
Lease financing | | | 5,416 | | | | 5.74 | | | | 233 | | | | 5,185 | | | | 5.97 | | | | 232 | |
| | | | | | | | | | | | | | | | | | | |
Total commercial and commercial real estate | | | 113,879 | | | | 7.73 | | | | 6,586 | | | | 102,407 | | | | 6.39 | | | | 4,896 | |
Consumer: | | | | | | | | | | | | | | | | | | | | | | | | |
Real estate 1-4 family first mortgage | | | 59,758 | | | | 7.20 | | | | 3,221 | | | | 78,822 | | | | 6.31 | | | | 3,725 | |
Real estate 1-4 family junior lien mortgage | | | 62,923 | | | | 7.91 | | | | 3,723 | | | | 54,760 | | | | 6.38 | | | | 2,612 | |
Credit card | | | 12,178 | | | | 13.29 | | | | 1,213 | | | | 10,439 | | | | 12.16 | | | | 952 | |
Other revolving credit and installment | | | 50,152 | | | | 9.57 | | | | 3,592 | | | | 41,926 | | | | 8.68 | | | | 2,723 | |
| | | | | | | | | | | | | | | | | | | |
Total consumer | | | 185,011 | | | | 8.49 | | | | 11,749 | | | | 185,947 | | | | 7.19 | | | | 10,012 | |
Foreign | | | 6,251 | | | | 12.53 | | | | 587 | | | | 4,520 | | | | 13.66 | | | | 462 | |
| | | | | | | | | | | | | | | | | | | |
Total loans (5) | | | 305,141 | | | | 8.29 | | | | 18,922 | | | | 292,874 | | | | 7.01 | | | | 15,370 | |
Other | | | 1,366 | | | | 4.90 | | | | 50 | | | | 1,637 | | | | 4.30 | | | | 52 | |
| | | | | | | | | | | | | | | | | | | |
Total earning assets | | $ | 417,394 | | | | 7.72 | | | | 24,095 | | | $ | 377,727 | | | | 6.66 | | | | 18,800 | |
| | | | | | | | | | | | | | | | | | | |
FUNDING SOURCES | | | | | | | | | | | | | | | | | | | | | | | | |
Deposits: | | | | | | | | | | | | | | | | | | | | | | | | |
Interest-bearing checking | | $ | 4,243 | | | | 2.77 | | | | 88 | | | $ | 3,543 | | | | 1.29 | | | | 34 | |
Market rate and other savings | | | 133,767 | | | | 2.31 | | | | 2,307 | | | | 128,364 | | | | 1.31 | | | | 1,255 | |
Savings certificates | | | 30,997 | | | | 3.75 | | | | 868 | | | | 21,299 | | | | 2.74 | | | | 437 | |
Other time deposits | | | 36,324 | | | | 4.94 | | | | 1,343 | | | | 25,775 | | | | 2.95 | | | | 569 | |
Deposits in foreign offices | | | 19,477 | | | | 4.58 | | | | 667 | | | | 10,450 | | | | 2.85 | | | | 222 | |
| | | | | | | | | | | | | | | | | | | |
Total interest-bearing deposits | | | 224,808 | | | | 3.14 | | | | 5,273 | | | | 189,431 | | | | 1.78 | | | | 2,517 | |
Short-term borrowings | | | 24,168 | | | | 4.59 | | | | 830 | | | | 23,629 | | | | 2.84 | | | | 502 | |
Long-term debt | | | 83,437 | | | | 4.81 | | | | 3,004 | | | | 79,126 | | | | 3.43 | | | | 2,034 | |
| | | | | | | | | | | | | | | | | | | |
Total interest-bearing liabilities | | | 332,413 | | | | 3.66 | | | | 9,107 | | | | 292,186 | | | | 2.31 | | | | 5,053 | |
Portion of noninterest-bearing funding sources | | | 84,981 | | | | — | | | | — | | | | 85,541 | | | | — | | | | — | |
| | | | | | | | | | | | | | | | | | | |
Total funding sources | | $ | 417,394 | | | | 2.92 | | | | 9,107 | | | $ | 377,727 | | | | 1.79 | | | | 5,053 | |
| | | | | | | | | | | | | | | | | | | |
Net interest margin and net interest income on a taxable-equivalent basis(6) | | | | | | | 4.80 | % | | $ | 14,988 | | | | | | | | 4.87 | % | | $ | 13,747 | |
| | | | | | | | | | | | | | | | | | | |
NONINTEREST-EARNING ASSETS | | | | | | | | | | | | | | | | | | | | | | | | |
Cash and due from banks | | $ | 12,495 | | | | | | | | | | | $ | 13,060 | | | | | | | | | |
Goodwill | | | 11,066 | | | | | | | | | | | | 10,680 | | | | | | | | | |
Other | | | 46,227 | | | | | | | | | | | | 36,676 | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | |
Total noninterest-earning assets | | $ | 69,788 | | | | | | | | | | | $ | 60,416 | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | |
NONINTEREST-BEARING FUNDING SOURCES | | | | | | | | | | | | | | | | | | | | | | | | |
Deposits | | $ | 88,395 | | | | | | | | | | | $ | 85,965 | | | | | | | | | |
Other liabilities | | | 24,007 | | | | | | | | | | | | 21,055 | | | | | | | | | |
Stockholders’ equity | | | 42,367 | | | | | | | | | | | | 38,937 | | | | | | | | | |
Noninterest-bearing funding sources used to fund earning assets | | | (84,981 | ) | | | | | | | | | | | (85,541 | ) | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | |
Net noninterest-bearing funding sources | | $ | 69,788 | | | | | | | | | | | $ | 60,416 | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | |
TOTAL ASSETS | | $ | 487,182 | | | | | | | | | | | $ | 438,143 | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | |
|
| | |
(1) | | Our average prime rate was 8.25% and 6.42% for the quarters ended September 30, 2006 and 2005, respectively, and 7.86% and 5.93% for the nine months ended September 30, 2006 and 2005, respectively. The average three-month London Interbank Offered Rate (LIBOR) was 5.43% and 3.77% for the quarters ended September 30, 2006 and 2005, respectively, and 5.14% and 3.30% for the nine months ended September 30, 2006 and 2005, respectively. |
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(2) | | Interest rates and amounts include the effects of hedge and risk management activities associated with the respective asset and liability categories. |
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(3) | | Yields are based on amortized cost balances computed on a settlement date basis. |
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(4) | | Includes certain preferred securities. |
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(5) | | Nonaccrual loans and related income are included in their respective loan categories. |
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(6) | | Includes taxable-equivalent adjustments primarily related to tax-exempt income on certain loans and securities. The federal statutory tax rate was 35% for the periods presented. |
11
NET INTEREST INCOME
Net interest income is the interest earned on debt securities, loans (including yield-related loan fees) and other interest-earning assets minus the interest paid for deposits and long-term and short-term debt. The net interest margin is the average yield on earning assets minus the average interest rate paid for deposits and our other sources of funding. Net interest income and the net interest margin are presented in the table on pages 10 and 11 on a taxable-equivalent basis to consistently reflect income from taxable and tax-exempt loans and securities based on a 35% marginal tax rate.
Net interest income on a taxable-equivalent basis increased 8% to $5.08 billion in third quarter 2006 from $4.70 billion in third quarter 2005, primarily driven by a 9% growth in average earning assets and purchases of securities in the last year.
Our net interest margin has remained relatively stable since the Federal Reserve began raising short-term interest rates in mid 2004, increasing 3 basis points from second quarter 2006 to 4.79% in third quarter 2006, and down only 7 basis points from third quarter 2005. The relative stability of our net interest margin in the face of a 4.25 percentage point increase in the federal funds rate and flattening of the yield curve since June 2004 is the result of our continued growth in low-cost transaction and savings deposits as well as the cumulative effect of selling our lower-yielding ARMs and debt securities during the past two years.
Average earning assets increased $36.2 billion to $422.2 billion in third quarter 2006 from $386.0 billion in third quarter 2005, due to an increase in average loans and mortgage-backed securities. Loans averaged $304.0 billion in third quarter 2006, compared with $295.6 billion in third quarter 2005. The increase was primarily due to an increase in commercial and commercial real estate loans, real estate 1-4 family junior lien mortgages, and other revolving credit and installment loans, partly offset by the sale of lower-yielding ARMs through second quarter 2006.
Average mortgages held for sale decreased to $42.4 billion in third quarter 2006 from $47.5 billion in third quarter 2005, due to the sale of lower-yielding ARMs completed in second quarter 2006, partly offset by an increase in loan originations. Debt securities available for sale averaged $65.7 billion during third quarter 2006 and $30.3 billion in third quarter 2005.
Average core deposits are an important contributor to growth in net interest income and the net interest margin. This low-cost source of funding rose 5% from a year ago. Average core deposits were $260.4 billion and $247.2 billion in third quarter 2006 and 2005, respectively. Total average retail core deposits, which exclude Wholesale Banking core deposits and retail mortgage escrow deposits, for third quarter 2006 grew $7.4 billion, or 4%, from a year ago. Average mortgage escrow deposits were $19.4 billion for third quarter 2006, up $367 million from a year ago. Savings certificates of deposits increased on average to $33.9 billion in third quarter 2006 from $23.4 billion in third quarter 2005 and noninterest-bearing checking accounts and other core deposit categories increased on average to $226.5 billion in third quarter 2006 from $223.8 billion in third quarter 2005. Total average interest-bearing deposits increased to $230.4 billion in third quarter 2006 from $191.1 billion in third quarter 2005.
12
NONINTEREST INCOME
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Quarter | | Nine months | | | | | Quarter | | | |
| | ended Sept. 30 | , | | % | | ended Sept. 30 | , | | % | | | ended March 31 | , | | % | |
(in millions) | | 2006 | | 2005 | | Change | | 2006 | | 2005 | | Change | | | 2007 | | 2006 | | Change | |
| | | |
Service charges on deposit accounts | | $ | 707 | | $ | 654 | | | 8 | % | | $ | 1,995 | | $ | 1,857 | | | 7 | % | | $ | 685 | | $ | 623 | | | 10 | % |
| | |
Trust and investment fees: | | |
Trust, investment and IRA fees | | 508 | | 473 | | 7 | | 1,508 | | 1,374 | | 10 | | | 537 | | 491 | | 9 | |
Commissions and all other fees | | 156 | | 141 | | 11 | | 494 | | 439 | | 13 | | | 194 | | 172 | | 13 | |
| | | | | | | | | | | | | | |
Total trust and investment fees | | 664 | | 614 | | 8 | | 2,002 | | 1,813 | | 10 | | | 731 | | 663 | | 10 | |
| | |
Card fees | | 464 | | 377 | | 23 | | 1,266 | | 1,064 | | 19 | | | 470 | | 384 | | 22 | |
| | |
Other fees: | | |
Cash network fees | | 48 | | 45 | | 7 | | 140 | | 135 | | 4 | | | 45 | | 44 | | 2 | |
Charges and fees on loans | | 244 | | 280 | | | (13 | ) | | 735 | | 785 | | | (6 | ) | | 238 | | 242 | | | (2 | ) |
All other | | 217 | | 195 | | 11 | | 632 | | 531 | | 19 | | | 228 | | 202 | | 13 | |
| | | | | | | | | | | | | | |
Total other fees | | 509 | | 520 | | | (2 | ) | | 1,507 | | 1,451 | | 4 | | | 511 | | 488 | | 5 | |
| | |
Mortgage banking: | | |
Servicing income, net | | 188 | | 373 | | | (50 | ) | | 579 | | 730 | | | (21 | ) | | 216 | | 81 | | 167 | |
Net gains on mortgage loan origination/ sales activities | | 179 | | 273 | | | (34 | ) | | 811 | | 816 | | | (1 | ) | |
Net gains on mortgage loan origination/sales activities | | | 495 | | 273 | | 81 | |
All other | | 117 | | 97 | | 21 | | 244 | | 248 | | | (2 | ) | | 79 | | 61 | | 30 | |
| | | | | | | | | | | | | | |
Total mortgage banking | | 484 | | 743 | | | (35 | ) | | 1,634 | | 1,794 | | | (9 | ) | | 790 | | 415 | | 90 | |
| | |
Operating leases | | 192 | | 202 | | | (5 | ) | | 593 | | 612 | | | (3 | ) | | 192 | | 201 | | | (4 | ) |
Insurance | | 313 | | 248 | | 26 | | 1,041 | | 943 | | 10 | | | 399 | | 364 | | 10 | |
Trading assets | | 106 | | 184 | | | (42 | ) | | 331 | | 391 | | | (15 | ) | | 265 | | 134 | | 98 | |
Net gains (losses) on debt securities available for sale | | 121 | | | (31 | ) | | — | | | (70 | ) | | 4 | | -- | | | 31 | | | (35 | ) | | — | |
Net gains from equity investments | | 159 | | 146 | | 9 | | 482 | | 418 | | 15 | | | 97 | | 190 | | | (49 | ) |
Net gains on sales of loans | | 2 | | 3 | | | (33 | ) | | 7 | | 3 | | 133 | | |
All other | | 166 | | 167 | | | (1 | ) | | 589 | | 442 | | 33 | | | 260 | | 258 | | 1 | |
| | | | | | |
| | | | | | | | | | |
Total | | $ | 3,887 | | $ | 3,827 | | 2 | | $ | 11,377 | | $ | 10,792 | | 5 | | | $ | 4,431 | | $ | 3,685 | | 20 | |
| | | | | | | | | | | | | | |
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We earn trust, investment and IRA fees from managing and administering assets, including mutual funds, corporate trust, personal trust, employee benefit trust and agency assets. At September 30, 2006,March 31, 2007, these assets totaled $868 billion,$1.02 trillion, up 17%26% from $744$808 billion at September 30, 2005.March 31, 2006. Generally, trust, investment and IRA fees are based on a tiered scale relative to the market value of the assets that are managed, administered, or both. The increase in these fees in first quarter 2007 from third quarter 2005a year ago was due to continued strong momentum in growth of managedacross all trust and investment accounts for institutional customers and our successful efforts to grow the business.management businesses.
Also, weWe also receive commissions and other fees for providing services to full-service and discount brokerage customers. At September 30,March 31, 2007 and 2006, and 2005, brokerage balances were $110totaled $120 billion and $94$103 billion, respectively. Generally, these fees include transactional commissions, which are based on the number of transactions executed at the customer’s direction, or asset-based fees, which are based on the market value of the customer’s assets. The increase from third quarter 2005 was primarily due to continued growth in asset-based fees.
13
Card fees increased 23%22% from thirdfirst quarter 2005,2006, due to growth in distribution of debit and credit cards to our customers and increased usage. Purchase volume on debit and creditthese cards was up 21%19% from a year ago and average card balances were up 18%20%.
Mortgage banking noninterest income was $484 million and $1,634$790 million in the thirdfirst quarter and first nine months of 2006, respectively,2007, compared with $743 million and $1,794$415 million in the same periodsperiod of 2005. The decrease of $2592006. Servicing fees, included in net servicing income, increased to $1.05 billion in first quarter 2007 from $747 million from third quarter 2005 to third quarter 2006 was largely due to the change in MSRs valuation. With the adoption of FAS 156 in first quarter 2006, and measuring our residential MSRs due to growth in loans serviced for others. Our portfolio of loans serviced for others was $1.31 trillion
9
at fair value, net servicingMarch 31, 2007, up 41% from $931 billion at March 31, 2006. Servicing income also includes both changes in the fair value of MSRs during the period as well as changes in the value of derivatives (economic hedges) used to hedge the MSRs. Prior to adoption of FAS 156,Net servicing income for first quarter 2007 included a $34 million net derivative gainsMSRs valuation loss that was recorded to earnings ($11 million fair value loss and losses (primarily the ineffective portion of the change ina $23 million economic hedging loss) and for first quarter 2006 included a $184 million net MSRs valuation loss ($522 million fair value of derivatives used to hedge MSRs under FAS 133), amortization and MSRs impairment, which are all influenced by both the level and direction of mortgage interest rates.gain less $706 million economic hedging loss).
Net gains on mortgage loan origination/sales activities decreased $94were $495 million to $179 million for thirdin first quarter 2006,2007, up from $273 million in first quarter 2006. Residential real estate originations totaled $68 billion in first quarter 2007, up from $66 billion in first quarter 2006. Under FAS 159 we elected to account for third quarter 2005, largely due to lower investor demand for ARMs loans. Third quarter 2006 results included a $48 million loss due to the impact of interest rate volatility on ARMs spreads, reflecting changes in the value of ARMs productionnew prime mortgages held for sale not fully offset by Treasury and LIBOR-indexed economic hedging activity. Net(MHFS) at fair value. These loans are initially measured at fair value, with subsequent changes in fair value recognized as a component of net gains on mortgage loan origination/sales activities. Prior to the adoption of FAS 159, these fair value gains would have been deferred until the sale of these loans. Included in the $495 million of net gains on mortgage loan origination/sales activities in first quarter 2007 was $229 million of $811gains from the initial measurement and subsequent changes to fair value of the prime MHFS that we elected to carry at fair value under FAS 159, which included $151 million related to loans that were originated and sold during first quarter 2007. (For additional detail, see “Asset/Liability and Market Risk Management — Mortgage Banking Interest Rate Risk,” and Notes 1 (Significant Accounting Policies) and 16 (Fair Values of Assets and Liabilities) to Financial Statements.)
In first quarter 2007, we recognized $103 million of origination fees in mortgage loan originations/sales activities that would have previously been deferred and recognized at the time of sale. In first quarter 2007, we recognized $92 million in origination costs in noninterest expense that would have previously been deferred and recognized as a reduction of net gains on mortgage loan origination/sales activities at the time of sale. Separately included in net gains on mortgage loan origination/sales activities was a lower-of-cost-or-market write-down of $66 million for the first nine monthsremaining MHFS portfolio, primarily nonprime loans, which, as a consequence of 2006our adoption of FAS 159, were comparablevalued separately from the prime MHFS. Prior to the same period a year ago. Mortgage originationsadoption of FAS 159, these MHFS would have been valued together and the write-down would not have been required. The 1-4 family first mortgage unclosed pipeline was $57 billion at March 31, 2007, $48 billion at December 31, 2006, and $59 billion at March 31, 2006.
Income from trading assets increased to $265 million in thirdfirst quarter 2007 from $134 million in first quarter 2006, totaled $104 billion, compared with $103 billion a year ago. Mortgage originations included $27 billion and $11 billion of co-issue volume in third quarter 2006 and 2005, respectively. Under co-issue arrangements, we become the servicer when the correspondent securitizes the related loans. The application pipeline at quarter end was $55 billion, down from $66 billion a year ago.
Servicing fees grew to $947 million in third quarter 2006 from $619 million in third quarter 2005 largely due to a 52% increase in the portfolio of mortgage loans serviced for others, which was $1.24 trillion at September 30, 2006, up from $815 billion a year ago. In July 2006, we acquired a $140 billion mortgage servicing portfolio from Washington Mutual, Inc. The change in the value of MSRs net of economic hedging results in third quarter 2006 – a quarter in which interest rates declined – was a loss of $86 million. The interest rate-related effect (impairment reserve release net of hedging results) in third quarter 2005 – a quarter in which interest rates increased – was a gain of $296 million.
Insurance income increased 26% from third quarter 2005 primarily due to an increase in premium volume.
higher capital markets income. Net gains (losses) on debt securities available for sale were $121 million and $(70)$31 million in the thirdfirst quarter and first nine months of 2006, respectively,2007, compared with $(31) million and $4net losses of $35 million in the same periods of 2005. Gains in thirdfirst quarter 2006 included $106 million related to securities previously held on the balance sheet as economic hedges of mortgage banking activities. Third quarter 2006 other noninterest income includes a $38 million loss on certain forward sales contracts related to these securities.2006. Net gains from equity investments were $159 million and $482$97 million in the thirdfirst quarter and first nine months of 2006, respectively, and $146 million and $4182007, compared with $190 million in the same periods of 2005.first quarter 2006.
14
We routinely review our investment portfolios and recognize impairment write-downs based primarily on issuer-specific factors and results, and our intent to hold such securities. We also consider general economic and market conditions, including industries in which venture capital investments are made, and adverse changes affecting the availability of venture capital. We determine impairment based on all of the information available at the time of the assessment, with particular focus on the severity and duration of specific security impairments, but new information or economic developments in the future could result in recognition of additional impairment.
10
NONINTEREST EXPENSE
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Quarter | | Nine months | | | | | Quarter | | | |
| | ended Sept. 30 | , | | % | | ended Sept. 30 | , | | % | | | ended March 31 | , | | % | |
(in millions) | | 2006 | | 2005 | | Change | | 2006 | | 2005 | | Change | | | 2007 | | 2006 | | Change | |
| | | |
Salaries | | $ | 1,769 | | $ | 1,571 | | | 13 | % | | $ | 5,195 | | $ | 4,602 | | | 13 | % | | $ | 1,867 | | $ | 1,672 | | | 12 | % |
Incentive compensation | | 710 | | 676 | | 5 | | 2,092 | | 1,703 | | 23 | | | 742 | | 668 | | 11 | |
Employee benefits | | 458 | | 467 | | | (2 | ) | | 1,534 | | 1,446 | | 6 | | | 665 | | 589 | | 13 | |
Equipment | | 294 | | 306 | | | (4 | ) | | 913 | | 939 | | | (3 | ) | | 337 | | 335 | | 1 | |
Net occupancy | | 357 | | 354 | | 1 | | 1,038 | | 1,068 | | | (3 | ) | | 365 | | 336 | | 9 | |
Operating leases | | 155 | | 159 | | | (3 | ) | | 473 | | 474 | | — | | | 153 | | 161 | | | (5 | ) |
Outside professional services | | 240 | | 230 | | 4 | | 669 | | 582 | | 15 | | | 192 | | 193 | | | (1 | ) |
Contract services | | 143 | | 163 | | | (12 | ) | | 414 | | 443 | | | (7 | ) | | 118 | | 132 | | | (11 | ) |
Travel and entertainment | | 132 | | 120 | | 10 | | 401 | | 347 | | 16 | | | 109 | | 130 | | | (16 | ) |
Advertising and promotion | | | 91 | | 106 | | | (14 | ) |
Outside data processing | | 111 | | 114 | | | (3 | ) | | 324 | | 341 | | | (5 | ) | | 111 | | 104 | | 7 | |
Advertising and promotion | | 123 | | 128 | | | (4 | ) | | 354 | | 334 | | 6 | | |
Postage | | 75 | | 72 | | 4 | | 235 | | 212 | | 11 | | | 87 | | 81 | | 7 | |
Telecommunications | | 70 | | 74 | | | (5 | ) | | 213 | | 213 | | — | | | 81 | | 70 | | 16 | |
Insurance | | 43 | | 17 | | 153 | | 218 | | 196 | | 11 | | | 128 | | 76 | | 68 | |
Stationery and supplies | | 57 | | 48 | | 19 | | 163 | | 148 | | 10 | | | 53 | | 51 | | 4 | |
Operating losses | | 33 | | 52 | | | (37 | ) | | 140 | | 156 | | | (10 | ) | | 87 | | 62 | | 40 | |
Security | | 43 | | 42 | | 2 | | 130 | | 125 | | 4 | | | 43 | | 43 | | — | |
Core deposit intangibles | | 28 | | 30 | | | (7 | ) | | 85 | | 93 | | | (9 | ) | | 26 | | 29 | | | (10 | ) |
Charitable donations | | 15 | | 8 | | 88 | | 51 | | 48 | | 6 | | |
Net gains from debt extinguishment | | | (2 | ) | | | (1 | ) | | 100 | | | (6 | ) | | | (1 | ) | | 500 | | |
All other | | 227 | | 259 | | | (12 | ) | | 695 | | 666 | | 4 | | | 271 | | 236 | | 15 | |
| | | | | | | | | | | | | | |
Total | | $ | 5,081 | | $ | 4,889 | | 4 | | $ | 15,331 | | $ | 14,135 | | 8 | | | $ | 5,526 | | $ | 5,074 | | 9 | |
| | | | | | | | | | | | | | |
| | | |
The 4% increase in noninterestNoninterest expense to $5.08 billion in third quarter 2006increased 9% from third quarter 2005 wasthe prior year due to the increase in salary and incentive compensation from an additional 5,100 team members (full-time equivalent), largely sales people, across our businesses. We recognized stock option expense, included in incentive compensation, of $28 million in third quarter 2006 and $108 million in the first nine months of 2006, which included $33 million in first quarter 2006 for the immediate expensing of stock options for retirement-eligible team members. We continued to investinvestment in our businesses during the quarter.businesses. In the last 12 months, we opened 119 new regional104 retail banking stores, including 2718 stores this quarter.quarter, and added 7,600 full-time equivalent (FTE) team members. Expenses in first quarter 2007 also included $50 million of stock option expense, $29 million of seasonal FICA expenses and $16 million of acquisition-related integration costs. In addition, expenses in first quarter 2007 included $92 million in origination costs that would have been deferred and recognized as a reduction of net gains on mortgage loan origination/sales activities at the time of sale, prior to the adoption of FAS 159.
INCOME TAX EXPENSE
On January 1, 2007, we adopted FASB Interpretation No. 48,Accounting for Uncertainty in Income Taxes(FIN 48). Implementation of FIN 48 did not result in a cumulative effect adjustment to retained earnings. At January 1, 2007, the total amount of unrecognized tax benefits was $3.1 billion, of which $1.7 billion related to tax benefits that, if recognized, would impact the annual effective tax rate. During the quarter, $119 million of net tax benefits were recorded, primarily reflecting the resolution of certain outstanding federal income tax matters. (See Note 11 (Income Taxes) to Financial Statements.) Our effective income tax rate was 32.28%29.87% for thirdfirst quarter 2006,2007, down from 33.57%33.80% for thirdfirst quarter 2005, largely reflecting the benefits associated with tax-advantaged investments and favorable resolution of disputed positions with taxing jurisdictions. For the first nine months of 2006,2006. We expect that FIN 48 will cause more volatility in our effective tax rate was 33.45% compared with 33.57%from quarter to quarter as we are now required to recognize tax positions in our financial statements based on the same periodprobability that such positions will effectively be sustained by taxing authorities, and to reassess those positions each quarter based on our evaluation of 2005.new information.
1511
OPERATING SEGMENT RESULTS
OurWe have three lines of business for management reporting arereporting: Community Banking, Wholesale Banking and Wells Fargo Financial. For a more complete description of our operating segments, including additional financial information and the underlying management accounting process, see Note 13 (Operating Segments) to Financial Statements.
Segment results for prior periods have been revised dueCommunity Banking’snet income increased 27% to the realignment of our insurance business into Wholesale Banking$1.53 billion in first quarter 2007 from $1.21 billion in first quarter 2006, designeddue in part to leverage the expertise, systemsgrowth in retail banking and resources of the existing businesses.
Community Banking’sWells Fargo Home Mortgage net income. Net interest income decreased 1% to $1.47$3.22 billion in thirdfirst quarter 2007 from $3.26 billion in first quarter 2006, due to a decline in earning assets that resulted from $1.49the sales of ARMs at the end of first quarter 2006. The decline related to ARM sales was partially offset by an improvement in net interest margin of 21 basis points to 5.03% in first quarter 2007, despite pressures from the flat-to-inverted yield curve. Average loans were $180.8 billion in thirdfirst quarter 2005. Net income decreased 2% to $4.022007, down 5% from $190.4 billion in the first nine months of 2006quarter 2006. Noninterest income in first quarter 2007 increased $704 million, or 33%, from $4.09$2.14 billion in the first nine months of 2005. Net interestquarter 2006. The growth was due primarily to higher fee income related to mortgage and consumer loans, cards, brokerage and deposits. Noninterest expense increased 3% to $3.29 billion, and 5% to $9.87 billion in the third quarter and first nine months of 2006, respectively, from the same periods of 2005,$253 million, or 7%, primarily due to growth in earning assetspersonnel expenses. The provision for credit losses increased $117 million, or 62%, primarily due to higher losses in credit card and deposits. Average loans were $172.5 billion in thirdhome equity lending. Income tax expense for first quarter 2006, down 6%2007 decreased from a year ago predominantly due to sales of ARMs. Excluding real estate 1-4 family mortgages – the loan category affected by the sales of ARMs – total average loans grew by $13.8 billion, or 11%. Core deposits averaged $231.2 billion in third quarter 2006, up 3% over the prior year. Noninterest income of $2.49 billion in third quarter 2006 decreased $127 million, or 5%, from third quarter 2005, predominantly due to a $356 million MSRs valuation reserve release (income) recorded in thirdbenefit from the resolution during the quarter 2005, partially offset by gains of $106 million on the sale of debt securities in third quarter 2006. Noninterestcertain outstanding federal income tax matters for the first nine months of 2006 increased by $47 million from the same period of 2005. Noninterest expense increased $42 million and $628 million in the third quarter and first nine months of 2006, respectively, from the same periods of 2005, primarily dueprior to an increase in the number of sales and service team members, as well as investments in new banking stores, ATMs and online banking.2002.
Wholesale Banking’snet income increased 31%13% to $527$598 million in thirdfirst quarter 20062007 from $403$528 million in thirdfirst quarter 2005. Net income increased 17% to $1.582006. Revenue was $2.05 billion in the first nine months of 2006quarter 2007, up 15% from $1.34 billion in the first nine months of 2005. Revenue was $1.78 billion in thirdfirst quarter 2006, up 20% from $1.49 billion in third quarter 2005, primarily due to strong asset management,loan and deposit growth and higher fee income. Average loans in first quarter 2007 increased 15% from a year ago. Average core deposits grew 64% from first quarter 2006, all in interest-bearing balances, reflecting a mix of organic growth and the conversions in 2006 of customer sweep accounts from off-balance sheet money market funds into deposits. Noninterest income increased $169 million in first quarter 2007 from a year ago due to higher trust and investment income, insurance revenue, commercial real estate brokerage fees and capital markets revenue, along with the acquisition of Secured Capital Corp in January 2006 and Reilly Mortgage in July 2006. Average loans increased 14% and average core deposits grew 23% from third quarter 2005. Noninterest income for the third quarter and first nine months of 2006 increased by $140 million and $365 million, respectively, from the same periods of 2005. Wholesale Banking recorded no provision for credit losses in third quarter 2006 or third quarter 2005.activity. Noninterest expense increased 12% to $999$145 million, mainly from higher personnel-related costs, including team member additions and 15% to $3.01 billion in the third quarter and first nine months of 2006, respectively,higher incentive payments, along with higher expenses from the same periods of 2005, dueacquisitions, expenses related to higher personnel related expensessales volumes and additional expenses from the Secured Capital Corpinvestments in new offices, businesses and Reilly Mortgage acquisitions.systems.
Wells Fargo Financial’snet income increased 146%decreased to $194$114 million in thirdfirst quarter 2007 from $280 million in first quarter 2006, from $79due to the $127 million gain realized on the sale of our consumer lending business in third quarter 2005. For the first nine months of 2006, net income was $704 million, compared with $311 million for the same period a year ago, which included aPuerto Rico in first quarter $163 million pre-tax charge to conform Wells Fargo Financial’s charge-off practices with FFIEC guidelines. Net income for third quarter 2006, included a $50 million (pre tax) release ofas well as the higher provision for credit losses reversing the remaining portion of the $100 million (pre tax) provision
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for credit losses related to Hurricane Katrina recorded in thirdfirst quarter 2005.2007. Total revenue rose 15%declined 4% in thirdfirst quarter 2006, reaching $1.372007 to $1.32 billion, compared with $1.18$1.38 billion in thirdfirst quarter 2005.2006. Net interest income increased $135$71 million, or 16%8%, to $1.0$1.01 billion in thirdfirst quarter 2007 from $934 million in first quarter 2006, from $869 million in third quarter 2005, due to continued growth in average loans.the real estate and auto loan portfolios. Average real estate secured receivables increased 21%20% to $21.0$23.6 billion and average auto finance receivables rose 34%23% to $26.4 billion from third quarter 2005.$27.6 billion. Noninterest expense increased 7% to $690$54 million, or 8%, in first quarter 2007 from $695 million in thirdfirst quarter 2006, primarily due to additionaldriven by normal annual increases in personnel costs, as well as staffing level increases in collections and other investments in the collections, underwriting and service teams as a result of the growth of the business.business processes.
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BALANCE SHEET ANALYSIS
SECURITIES AVAILABLE FOR SALE
Our securities available for sale portfolio consists of both debt and marketable equity securities. We hold debt securities available for sale primarily for liquidity, interest rate risk management and yield enhancement. Accordingly, this portfolio primarily includes very liquid, high-quality federal agency debt securities. At September 30, 2006,March 31, 2007, we held $51.8$44.7 billion of debt securities available for sale, compared with $40.9$41.8 billion at December 31, 2005,2006, with a net unrealized gaingains of $733$774 million and $591$722 million for the same periods, respectively. The $18.8 billion decline in debt securities from $70.6 billion at June 30, 2006, was primarily due to sales of debt securities related to securities held on the balance sheet as economic hedges of mortgage banking activities. We also held $829$765 million of marketable equity securities available for sale at September 30, 2006,March 31, 2007, and $900$796 million at December 31, 2005,2006, with a net unrealized gaingains of $232$174 million and $342$204 million for the same periods, respectively.
The weighted-average expected maturity of debt securities available for sale was 5.25.3 years at September 30, 2006.March 31, 2007. Since 79%78% of this portfolio was mortgage-backed securities, the expected remaining maturity may differ from contractual maturity because borrowers may have the right to prepay obligations before the underlying mortgages mature.
The estimated effect of a 200 basis point increase or decrease in interest rates on the fair value and the expected remaining maturity of the mortgage-backed securities available for sale portfolio areis shown below.
MORTGAGE-BACKED SECURITIES
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Fair | | Net unrealized | | Remaining | | | Fair | | Net unrealized | | Remaining | |
(in billions) | | value | | gain (loss) | | maturity | | | value | | gain (loss) | | maturity | |
| | | |
At September 30, 2006 | | | $ 41.0 | | $ | 0.6 | | 4.3yrs | |
At September 30, 2006, assuming a 200 basis point: | | |
| | | $ | 34.8 | | $ | 0.6 | | 4.3 yrs. | |
At March 31, 2007, assuming a 200 basis point: | | |
Increase in interest rates | | 37.7 | | | (2.7 | ) | | 6.9yrs | | 32.0 | | | (2.2 | ) | | 7.0 yrs. | |
Decrease in interest rates | | 41.8 | | 1.4 | | 1.1yrs | | 35.4 | | 1.2 | | 1.1 yrs. | |
| | | |
See Note 4 (Securities Available for Sale) to Financial Statements for securities available for sale by security type.
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LOAN PORTFOLIO
A discussion of average loan balances is included in “Earnings Performance –— Net Interest Income” on page 127 and a comparative schedule of average loan balances is included in the table on page 10;8; quarter-end balances are in Note 5 (Loans and Allowance for Credit Losses) to Financial Statements.
Total loans at September 30, 2006,March 31, 2007, were $307.5$325.5 billion, compared with $296.2up 6% from $306.7 billion at September 30, 2005.March 31, 2006. Real estate 1-4 family first mortgage loans decreased $19.5$10.1 billion to $49.8$56.0 billion at September 30, 2006,March 31, 2007, from $69.3$66.1 billion at September 30, 2005,March 31, 2006, due to the salesales of lower-yielding ARMs earlier thislast year. This wasdecrease offset by an increase of $9.7$8.4 billion in real estate 1-4 family junior lien mortgage loansmortgages to $67.2$69.5 billion from $57.5$61.1 billion for the same periods. Commercial and commercial real estate loans increased $10.6$12.9 billion, to $117.6 billionor 11%, from September 30, 2005.first quarter 2006. Mortgages held for sale decreased to $39.9$32.3 billion at September 30, 2006,March 31, 2007, from $46.1$43.5 billion a year ago.
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DEPOSITS
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Sept. 30 | , | | Dec. 31 | , | | Sept. 30 | , | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , |
(in millions) | | 2006 | | 2005 | | 2005 | | | 2007 | | 2006 | | 2006 | |
| | | |
Noninterest-bearing | | $ | 86,849 | | $ | 87,712 | | $ | 89,304 | | | $ | 89,067 | | $ | 89,119 | | $ | 88,701 | |
Interest-bearing checking | | 3,279 | | 3,324 | | 2,992 | | | 3,652 | | 3,540 | | 3,459 | |
Market rate and other savings | | 135,837 | | 134,811 | | 130,829 | | | 146,911 | | 140,283 | | 136,605 | |
Savings certificates | | 34,828 | | 27,494 | | 25,259 | | | 38,753 | | 37,282 | | 29,377 | |
Foreign deposits (1) | | | 18,086 | | 17,844 | | 4,994 | |
| | | | | | | | | | | | | | |
Core deposits | | 260,793 | | 253,341 | | 248,384 | | | 296,469 | | 288,068 | | 263,136 | |
Other time deposits | | 32,185 | | 46,488 | | 26,718 | | | 4,503 | | 13,819 | | 33,317 | |
Deposits in foreign offices | | 21,341 | | 14,621 | | 13,927 | | |
Other foreign deposits | | | 10,185 | | 8,356 | | 11,852 | |
| | | | | | | | | | | | | | |
Total deposits | | $ | 314,319 | | $ | 314,450 | | $ | 289,029 | | | $ | 311,157 | | $ | 310,243 | | $ | 308,305 | |
| | | | | | | | | | | | | | |
| | | |
| | |
(1) | | During 2006, certain customer accounts (largely Wholesale Banking) were converted to deposit balances in the form of Eurodollar sweep accounts from off-balance sheet money market funds and repurchase agreements. We include Eurodollar sweep balances in total core deposits. |
Average core deposits increased $13.2$33.1 billion to $260.4$290.6 billion in thirdfirst quarter 2007 from first quarter 2006, from third quarter 2005, predominantlyprimarily due to growth in market rate and other savings, and savings certificates, partially offset by a decreasealong with growth in non-interest bearingforeign deposits. Included in average core deposits were converted balances of $9,888 million, $8,888 million and $1,234 million for the quarter ended March 31, 2007, December 31, 2006, and March 31, 2006, respectively. Average core deposits increased 10% from first quarter 2006 and 9% (annualized) from fourth quarter 2006, not including the converted foreign balances.
OFF-BALANCE SHEET ARRANGEMENTS AND AGGREGATE CONTRACTUAL OBLIGATIONS
In the ordinary course of business, we engage in financial transactions that are not recorded onin the balance sheet, or may be recorded onin the balance sheet in amounts that are different than the full contract or notional amount of the transaction. We also enter into certain contractual obligations. For additional information on off-balance sheet arrangements and other contractual obligations see “Financial Review –— Off-Balance Sheet Arrangements and Aggregate Contractual Obligations” in our 20052006 Form 10-K and Note 1718 (Guarantees) to Financial Statements in this Report.
RISK MANAGEMENT
CREDIT RISK MANAGEMENT PROCESS
Our credit risk management process provides for decentralized management and accountability by our lines of business. Our overall credit process includes comprehensive credit policies,
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judgmental or statistical credit underwriting, frequent and detailed risk measurement and modeling, extensive credit training programs and a continual loan review and audit review process. In addition, regulatory examinersagencies review and perform detailed tests of our credit underwriting, loan administration and allowance processes.
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Nonaccrual Loans and Other Assets
The table below shows the comparative data for nonaccrual loans and other assets. We generally place loans on nonaccrual status when:
| • | | the full and timely collection of interest or principal becomes uncertain; |
| • | | they are 90 days (120 days with respect to real estate 1-4 family first and junior lien mortgages)mortgages and auto loans) past due for interest or principal (unless both well-secured and in the process of collection); or |
| • | | part of the principal balance has been charged off. |
Note 1 (Summary of Significant Accounting Policies) to Financial Statements in our 20052006 Form 10-K describes our accounting policy for nonaccrual loans.
NONACCRUAL LOANS AND OTHER ASSETS
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Sept. 30 | , | | June 30 | , | | Dec. 31 | , | | Sept. 30 | , | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , |
(in millions) | | 2006 | | 2006 | | 2005 | | 2005 | | | 2007 | | 2006 | | 2006 | |
| | | |
Nonaccrual loans: | | |
Commercial and commercial real estate: | | |
Commercial | | $ | 256 | | $ | 253 | | $ | 286 | | $ | 293 | | | $ | 350 | | $ | 331 | | $ | 256 | |
Other real estate mortgage | | 116 | | 137 | | 165 | | 197 | | | 114 | | 105 | | 163 | |
Real estate construction | | 90 | | 31 | | 31 | | 43 | | | 82 | | 78 | | 21 | |
Lease financing | | 27 | | 26 | | 45 | | 68 | | | 31 | | 29 | | 31 | |
| | | | | | | | | | | | | | | | |
Total commercial and commercial real estate | | 489 | | 447 | | 527 | | 601 | | | 577 | | 543 | | 471 | |
Consumer: | | |
Real estate 1-4 family first mortgage(1) | | 595 | | 585 | | 471 | | 409 | | | 701 | | 688 | | 508 | |
Real estate 1-4 family junior lien mortgage | | 200 | | 179 | | 144 | | 119 | | | 233 | | 212 | | 190 | |
Other revolving credit and installment | | 167 | | 139 | | 171 | | 149 | | | 195 | | 180 | | 188 | |
| | | | | | | | | | | | | | | | |
Total consumer | | 962 | | 903 | | 786 | | 677 | | | 1,129 | | 1,080 | | 886 | |
Foreign | | 38 | | 45 | | 25 | | 23 | | | 46 | | 43 | | 37 | |
| | | | | | | | | | | | | | | | |
Total nonaccrual loans (1)(2) | | 1,489 | | 1,395 | | 1,338 | | 1,301 | | | 1,752 | | 1,666 | | 1,394 | |
As a percentage of total loans | | | 0.48 | % | | | 0.46 | % | | | 0.43 | % | | | 0.44 | % | | | 0.54 | % | | | 0.52 | % | | | 0.45 | % |
Foreclosed assets: | | |
GNMA loans (2)(3) | | 266 | | 238 | | — | | — | | | 381 | | 322 | | 227 | |
Other | | 342 | | 275 | | 191 | | 187 | | | 528 | | 423 | | 228 | |
Real estate and other nonaccrual investments (3)(4) | | 3 | | 9 | | 2 | | 2 | | | 5 | | 5 | | — | |
| | | | | | | | | | | | | | | | |
Total nonaccrual loans and other assets | | $ | 2,100 | | $ | 1,917 | | $ | 1,531 | | $ | 1,490 | | | $ | 2,666 | | $ | 2,416 | | $ | 1,849 | |
| | | | | | | | | | | | | | | | |
As a percentage of total loans | | | 0.68 | % | | | 0.64 | % | | | 0.49 | % | | | 0.50 | % | | | 0.82 | % | | | 0.76 | % | | | 0.60 | % |
| | | | | | | | | | | | | | | | |
| | | |
| | |
(1) | | Includes nonaccrual mortgages held for sale. |
(2) | | Includes impaired loans of $192$251 million, $138 million, $190$230 million and $240$137 million at September 30, 2006, June 30, 2006,March 31, 2007, December 31, 2005,2006, and September 30, 2005,March 31, 2006, respectively. See Note 5 to Financial Statements in this Report and Note 6 (Loans and Allowance for Credit Losses) to Financial Statements in our 20052006 Form 10-K for further information on impaired loans. |
(2)(3) | | As a result of a change inConsistent with regulatory reporting requirements, effective January 1, 2006, foreclosed real estate securing GNMA loans has beenis classified as nonperforming. These assets are fully collectible because the corresponding GNMA loans are insured by the FHA or guaranteed by the Department of Veterans Affairs. |
(3)(4) | | Includes real estate investments (contingent interest loans accounted for as investments) that would be classified as nonaccrual if these assets were recorded as loans. |
About half of the $67 million increase in other foreclosed assets from June 30, 2006, to September 30, 2006, related to consumer auto loans. We expect that the amount of nonaccrual loans will change due to portfolio growth, portfolio seasoning, routine problem loan recognition and resolution through collections, sales or charge-offs. The performance of any one loan can be
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affected by external factors, such as economic or market conditions, or factors particular to a borrower, such as actions of a borrower’s management.
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Loans 90 Days or More Past Due and Still Accruing
Loans included in this category are 90 days or more past due as to interest or principal and still accruing, because they are (1) well-secured and in the process of collection or (2) real estate 1-4 family first mortgage loans or consumer loans exempt under regulatory rules from being classified as nonaccrual.
The total of loans 90 days or more past due and still accruing was $3,664$4,812 million, $3,343 million, $3,606$5,073 million and $2,955$3,412 million at September 30, 2006, June 30, 2006,March 31, 2007, December 31, 2005,2006, and September 30, 2005,March 31, 2006, respectively. At September 30, 2006, June 30, 2006,March 31, 2007, December 31, 2005,2006, and September 30, 2005,March 31, 2006, the total included $2,689$3,683 million, $2,526 million, $2,923$3,913 million and $2,328$2,680 million, respectively, in advances pursuant to our servicing agreements to GNMA mortgage pools whose repayments are insured by the FHA or guaranteed by the Department of Veterans Affairs.
LOANS 90 DAYS OR MORE PAST DUE AND STILL ACCRUING
(EXCLUDING INSURED/GUARANTEED GNMA ADVANCES)
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Sept. 30 | , | | June 30 | , | | Dec. 31 | , | | Sept. 30 | , | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , |
(in millions) | | 2006 | | 2006 | | 2005 | | 2005 | | | 2007 | | 2006 | | 2006 | |
| | | |
Commercial and commercial real estate: | | |
Commercial | | $ | 20 | | $ | 11 | | $ | 18 | | $ | 19 | | | $ | 29 | | $ | 15 | | $ | 17 | |
Other real estate mortgage | | 8 | | 2 | | 13 | | 3 | | | 4 | | 3 | | 4 | |
Real estate construction | | 4 | | 10 | | 9 | | 3 | | | 5 | | 3 | | 13 | |
| | | | | | | | | | | | | | | | |
Total commercial and commercial real estate | | 32 | | 23 | | 40 | | 25 | | | 38 | | 21 | | 34 | |
Consumer: | | |
Real estate 1-4 family first mortgage(1) | | 123 | | 107 | | 103 | | 100 | | | 159 | | 154 | | 92 | |
Real estate 1-4 family junior lien mortgage | | 50 | | 39 | | 50 | | 41 | | | 64 | | 63 | | 47 | |
Credit card | | 213 | | 181 | | 159 | | 145 | | | 272 | | 262 | | 158 | |
Other revolving credit and installment | | 516 | | 431 | | 290 | | 272 | | | 560 | | 616 | | 364 | |
| | | | | | | | | | | | | | | | |
Total consumer | | 902 | | 758 | | 602 | | 558 | | | 1,055 | | 1,095 | | 661 | |
Foreign | | 41 | | 36 | | 41 | | 44 | | | 36 | | 44 | | 37 | |
| | | | | | | | | | | | | | | | |
Total | | $ | 975 | | $ | 817 | | $ | 683 | | $ | 627 | | | $ | 1,129 | | $ | 1,160 | | $ | 732 | |
| | | | | | | | | | | | | | | | |
| | | |
Approximately half of the $85 million increase in other revolving credit and installment loans from June 30, 2006, to September 30, 2006, related to consumer auto loans.
| | |
(1) | | Includes mortgages held for sale 90 days or more past due and still accruing. |
Allowance for Credit Losses
The allowance for credit losses, which consists of the allowance for loan losses and the reserve for unfunded credit commitments, is management’s estimate of credit losses inherent in the loan portfolio at the balance sheet date. We assume that our allowance for credit losses as a percentage of charge-offs and nonaccrual loans will change at different points in time based on credit performance, loan mix and collateral values. The detail of the changes in the allowance for credit losses, including charge-offs and recoveries by loan category, is in Note 5 (Loans and Allowance for Credit Losses) to Financial Statements.
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In third quarter 2005, we provided $100 million for estimated credit losses related to Hurricane Katrina. Since that time, we have identified and recorded approximately $50 million of Katrina-related losses. Because we do not anticipate any further credit losses attributable to Katrina, we released the remaining $50 million balance in third quarter 2006.
We consider the allowance for credit losses of $3.98$3.96 billion adequate to cover credit losses inherent in the loan portfolio, including unfunded credit commitments, at September 30, 2006.March 31, 2007. Given that the majority of our loan portfolio is consumer loans, for which losses tend to emerge within a relatively short, predictable timeframe, and that a significant portion of the allowance for credit losses relates to estimated credit losses associated with consumer loans, management believes that the provision for credit losses for consumer loans, absent any significant credit event, will closely track the level of related net charge-offs. The process for determining the adequacy of the
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allowance for credit losses is critical to our financial results. It requires difficult, subjective and complex judgments, as a result of the need to make estimates about the effect of matters that are uncertain. (See “Financial Review –— Critical Accounting Policies –— Allowance for Credit Losses” in our 20052006 Form 10-K.) Therefore, we cannot provide assurance that, in any particular period, we will not have sizeable credit losses in relation to the amount reserved. We may need to significantly adjust the allowance for credit losses, considering current factors at the time, including economic or market conditions and ongoing internal and external examination processes. Our process for determining the adequacy of the allowance for credit losses is discussed in “Financial Review — Critical Accounting Policies — Allowance for Credit Losses” and Note 6 (Loans and Allowance for Credit Losses) to Financial Statements in our 20052006 Form 10-K.
ASSET/LIABILITY AND MARKET RISK MANAGEMENT
Asset/liability management involves the evaluation, monitoring and management of interest rate risk, market risk, liquidity and funding. The Corporate Asset/Liability Management Committee (Corporate ALCO) –, which oversees these risks and reports periodically to the Finance Committee of the Board of Directors, – consists of senior financial and business executives. Each of our principal business groups – Community Banking (including Mortgage Banking), Wholesale Banking and Wells Fargo Financial – havehas individual asset/liability management committees and processes linked to the Corporate ALCO process.
Interest Rate Risk
Interest rate risk, which potentially can have a significant earnings impact, is an integral part of being a financial intermediary. We are subject to interest rate risk because:
| • | | assets and liabilities may mature or reprice at different times (for example, if assets reprice faster than liabilities and interest rates are generally falling, earnings will initially decline); |
| • | | assets and liabilities may reprice at the same time but by different amounts (for example, when the general level of interest rates is falling, we may reduce rates paid on checking and savings deposit accounts by an amount that is less than the general decline in market interest rates); |
| • | | short-term and long-term market interest rates may change by different amounts (for example, the shape of the yield curve may affect new loan yields and funding costs differently); or |
| • | | the remaining maturity of various assets or liabilities may shorten or lengthen as interest rates change (for example, if long-term mortgage interest rates decline sharply, mortgage-backed securities held in the securities available for sale portfolio may prepay significantly earlier than anticipated –— which could reduce portfolio income). |
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Interest rates may also have a direct or indirect effect on loan demand, credit losses, mortgage origination volume, the value of MSRs, the value of the pension liability and other sources of earnings.
We assess interest rate risk by comparing our most likely earnings plan with various earnings simulations using many interest rate scenarios that differ in the direction of interest rate changes, the degree of change over time, the speed of change and the projected shape of the yield curve. For example, as of September 30, 2006,March 31, 2007, our most recent simulation indicated estimated earnings at
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risk of less than 1%is 1.8% of our most likely earnings plan over the next 12 months to either a scenario in which the federal funds rate declines 275 basis points to 2.50% and the Constant Maturity Treasury bond yield declines 125 basis points to 3.75%, orunder a scenario in which the federal funds rate rises 175 basis points to 7.00% and the Constant Maturity Treasury bond yield rises 225250 basis points to 7.25%, over the same 12 month12-month period. Simulation estimates depend on, and will change with, the size and mix of our actual and projected balance sheet at the time of each simulation. Due to timing differences between the quarterly valuation of MSRs and the eventual impact of interest rates on mortgage banking volumes, earnings at risk in any particular quarter could be higher than the average earnings at risk over the twelve month12-month simulation period, depending on the path of interest rates and on our MSRs hedging strategies.strategies for MSRs. See “Mortgage Banking Interest Rate Risk” below.
We use exchange-traded and over-the-counter interest rate derivatives to hedge our interest rate exposures. The credit risk amount and estimated net fair values of these derivatives as of September 30, 2006,March 31, 2007, and December 31, 2005,2006, are presented in Note 1920 (Derivatives) to Financial Statements. We use derivatives for asset/liability management in three ways:
| • | | to convert a major portion of our long-term fixed-rate debt, which we issue to finance the Company, from fixed-rate payments to floating-rate payments by entering into receive-fixed swaps; |
| • | | to convert the cash flows from selected asset and/or liability instruments/portfolios from fixed-rate payments to floating-rate payments or vice versa; and |
| • | | to hedge our mortgage origination pipeline, funded mortgage loans and MSRs using interest rate swaps, swaptions, futures, forwards and options. |
Mortgage Banking Interest Rate Risk
We originate, fund and service mortgage loans, which subjects us to various risks, including credit, liquidity and interest rate risks. We reduce unwanted credit and liquidity risks by selling or securitizing virtually all of the long-term fixed-rate mortgage loans we originate and most of the ARMs we originate. From time to time, we have heldhold originated ARMs in our loan portfolio as an investment for our growing base of core deposits. We determine whether the loans will be held for investment or held for sale at the time of origination. We may subsequently change our intent to hold loans for investment and sell some or all of our ARMs as part of our corporate asset/liability management.
While credit and liquidity risks have historically been relatively low for mortgage banking activities, interest rate risk can be substantial. Changes in interest rates may potentially impact total origination and servicing fees, the value of our residential MSRs measured at fair value and the associated income and loss reflected in mortgage banking noninterest income, the income
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and expense associated with instruments (economic hedges) used to hedge changes in the fair value of MSRs, and the value of derivative loan commitments extended to mortgage applicants.
Interest rates impact the amount and timing of origination and servicing fees because consumer demand for new mortgages and the level of refinancing activity are sensitive to changes in mortgage interest rates. Typically, a decline in mortgage interest rates will lead to an increase in mortgage originations and fees and may also lead to an increase in servicing fee income, depending on the level of new loans added to the servicing portfolio and prepayments. Given the time it takes for consumer behavior to fully react to interest rate changes, as well as the time required for processing a new application, providing the commitment, and securitizing and selling the loan, interest rate changes will impact origination and servicing fees with a lag. The
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amount and timing of the impact on origination and servicing fees will depend on the magnitude, speed and duration of the change in interest rates.
Under FAS 159, which we adopted January 1, 2007, we elected to measure MHFS at fair value prospectively for new prime MHFS originations for which an active secondary market and readily available market prices currently exist to reliably support fair value pricing models used for these loans. We also elected to remeasure at fair value certain of our other interests held related to residential loan sales and securitizations. We believe that the election for MHFS and other interests held (which are now hedged with free-standing derivatives (economic hedges) along with our MSRs) will reduce certain timing differences and better match changes in the value of these assets with changes in the value of derivatives used as economic hedges for these assets. Loan origination fees are recorded when earned, and related direct loan origination costs and fees are recognized when incurred.
Under FAS 156, which we adopted January 1, 2006, we have elected to use the fair value measurement method to initially measure and carry our residential MSRs, which represent substantially all of our MSRs. Under this method, the initial measurement ofMSRs are recorded at fair value of MSRs at the time we sell or securitize is recorded as a component of net gains onthe related mortgage loan origination/sales activities.loans. The carrying value of MSRs reflects changes in fair value at the end of each quarter and changes are included in net servicing income, a component of mortgage banking noninterest income. If the fair value of the MSRs increases, income is recognized; if the fair value of the MSRs decreases, a loss is recognized. We use a dynamic and sophisticated model to estimate the fair value of our MSRs. While the valuation of MSRs can be highly subjective and involve complex judgments by management about matters that are inherently unpredictable, changes in interest rates influence a variety of assumptions included in the periodic valuation of MSRs. Assumptions affected include prepayment speed, expected returns and potential risks on the servicing asset portfolio, the value of escrow balances and other servicing valuation elements impacted by interest rates.
We hedge the risk of changes in the fair value of residential MSRs with market-based free-standing derivative instruments (economic hedges), such as swaps, swaptions, Treasury futures and options, Eurodollar futures and options, and forward contracts, and we also use securities available for sale. Changes in the fair value of these free-standing derivatives, based on quoted market prices, as well as changes in the fair value of MSRs determined by our valuation model, are both included in net servicing income. Changes in fair value of securities available for sale (unrealized gains and losses) are not included in net servicing income, but are reported in cumulative other comprehensive income (net of tax) or, upon sale or determination that any impairment is other than temporary, are reported in gains (losses) on debt securities available for sale.
A decline in interest rates increases the propensity for refinancing, reduces the expected duration of the servicing portfolio and therefore reduces the estimated fair value of MSRs. This reduction in fair value causes a charge to income (net of any gains on free-standing derivatives (economic hedges) used to hedge MSRs). We may choose to not fully hedge all of the potential decline in the value of our MSRs resulting from a decline in interest rates because the potential increase in origination/servicing fees in that scenario may provideprovides a partial “natural business hedge.” In a rising rate period, when the MSRs may not be fully hedged with free-standing derivatives, the change in the fair value of the MSRs that can be recaptured into income will typically –— although
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not always –— exceed the losses on any free-standing derivatives hedging the MSRs. In thirdfirst quarter 2006, the decrease in the fair value of our MSRs exceeded the gains on derivatives used to hedge the MSRs by $86 million. In the first nine months of 2006,2007, the decrease in the fair value of our MSRs and the losses on free-standing derivatives used to hedge the MSRs totaled $253$34 million.
Hedging the various sources of interest rate risk in mortgage banking is a complex process that requires sophisticated modeling and constant monitoring. While we attempt to balance these various aspects of the mortgage business, there are several potential risks to earnings:
MSRs valuation changes associated with interest rate changes are recorded in earnings immediately within the accounting period in which those interest rate changes occur, whereas the impact of those same changes in interest rates on origination and servicing fees occur with a lag and over time. Thus, the mortgage business could be protected from adverse changes in interest rates over a period of time on a cumulative basis but still
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| • | | MSRs valuation changes associated with interest rate changes are recorded in earnings immediately within the accounting period in which those interest rate changes occur, whereas the impact of those same changes in interest rates on origination and servicing fees occur with a lag and over time. Thus, the mortgage business could be protected from adverse changes in interest rates over a period of time on a cumulative basis but still display large variations in income in anyfrom one accounting period.period to the next. |
| • | | The degree to which the “natural business hedge” offsets changes in MSRs valuations is imperfect, varies at different points in the interest rate cycle, and depends not just on the direction of interest rates but on the pattern of quarterly interest rate changes. For example, given the relatively high level of refinancing activity in recent years and the increase in interest rates during the same period, any significant increase in refinancing activity would likely occur only if rates drop substantially from year-end 2005 levels. |
| • | | Origination volumes, the valuation of MSRs and hedging results and associated costs are also impacted by many factors. Such factors include the mix of new business between ARMs and fixed-ratefixed-rated mortgages, the relationship between short-term and long-term interest rates, the degree of volatility in interest rates, the relationship between mortgage interest rates and other interest rate markets, and other interest rate factors. Many of these factors are hard to predict and we may not be able to directly or perfectly hedge their effect. |
| • | | While our hedging activities are designed to balance our mortgage banking interest rate risks, the financial instruments we use may not perfectly correlate with the values and income being hedged. For example, the change in the value of ARMs production held for sale from changes in mortgage interest rates may or may not be fully offset by Treasury and LIBOR index-based financial instruments used as economic hedges for such ARMs. |
The total carrying value of our residential and commercial MSRs was $18.0$18.2 billion at September 30, 2006,March 31, 2007, and $12.5 billion, net of a valuation allowance of $1.2$18.0 billion at December 31, 2005.2006. The weighted-average note rate on the owned servicing portfolio was 5.86%5.93% at September 30, 2006,March 31, 2007, and 5.72%5.92% at December 31, 2005.2006. Our total MSRs were 1.46%1.39% of mortgage loans serviced for others at September 30, 2006,March 31, 2007, compared with 1.44%1.41% at December 31, 2005.2006.
As part of our mortgage banking activities, we enter into commitments to fund residential mortgage loans at specified times in the future. A mortgage loan commitment is an interest rate lock that binds us to lend funds to a potential borrower at a specified interest rate and within a specified period of time, generally up to 60 days after inception of the rate lock. These loan commitments are derivative loan commitments if the loans that will result from the exercise of the commitments will be held for sale. Under FAS 133, theseThese derivative loan commitments are
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recognized at fair value onin the balance sheet with changes in their fair values recorded as part of mortgage banking noninterest income. Consistent with Emerging Issues Task Force Issue No. 02-3,Issues Involved in Accounting for Derivative Contracts Held for Trading Purposes and Contracts Involved in Energy Trading and Risk Management Activities,and SEC Staff Accounting Bulletin No. 105,Application of Accounting Principles to Loan Commitments,weWe record no value for the loan commitment at inception. Subsequent to inception, we recognize the fair value of the derivative loan commitment based on estimated changes in the fair value of the underlying loan that would result from the exercise of that commitment and on changes in the probability that the loan will not fund within the terms of the commitment (referred to as a fall-out factor). The value of that loan is affected primarily by changes in interest rates and the passage of time. The value of the MSRs is recognized only after the servicing asset has been contractually separated from the underlying loan by sale or securitization.
Outstanding derivative loan commitments expose us to the risk that the price of the loans underlying the commitments might decline due to increases in mortgage interest rates from inception of the rate lock to the funding of the loan. To minimize this risk, we utilize Treasury futures, forwards and options, Eurodollar futures and forward contracts as economic hedges against the potential decreases in the values of the loans that could result from the exercise of the loan commitments. We expect that these derivative financial instruments will experience changes in fair value that will either fully or partially offset the changes in fair value of the derivative loan commitments.
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Market Risk —- Trading Activities
From a market risk perspective, our net income is exposed to changes in interest rates, credit spreads, foreign exchange rates, equity and commodity prices and their implied volatilities. The primary purpose of our trading businesses is to accommodate customers in the management of their market price risks. Also, we take positions based on market expectations or to benefit from price differences between financial instruments and markets, subject to risk limits established and monitored by Corporate ALCO. All securities, foreign exchange transactions, commodity transactions and derivatives – transacted with customers or used to hedge capital market transactions with customers –in our trading businesses are carried at fair value. The Institutional Risk Committee establishes and monitors counterparty risk limits. The credit risk amount and estimated net fair value of all customer accommodation derivatives at September 30, 2006,March 31, 2007, and December 31, 2005,2006, are included in Note 1920 (Derivatives) to Financial Statements. Open, “at risk” positions for all trading business are monitored by Corporate ALCO.
The standardized approach for monitoring and reporting market risk for the trading activities is the value-at-risk (VAR) metrics complemented with factor analysis and stress testing. VAR measures the worst expected loss over a given time interval and within a given confidence interval. We measure and report daily VAR at a 99% confidence interval based on actual changes in rates and prices over the past 250 days. The analysis captures all financial instruments that are considered trading positions. The average one-day VAR throughout thirdfirst quarter 20062007 was $19.6$12 million, with a lower bound of $10.2$10 million and an upper bound of $35.1$14 million.
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Market Risk –- Equity Markets
We are directly and indirectly affected by changes in the equity markets. We make and manage direct equity investments in start-up businesses, emerging growth companies, management buy-outs, acquisitions and corporate recapitalizations. We also invest in non-affiliated funds that make similar private equity investments. These private equity investments are made within capital allocations approved by management and the Board of Directors (the Board). The Board reviews business developments, key risks and historical returns for the private equity investments at least annually. Management reviews these investments at least quarterly and assesses them for possible other-than-temporary impairment. For nonmarketable investments, the analysis is based on facts and circumstances of each individual investment and the expectations for that investment’s cash flows and capital needs, the viability of its business model and our exit strategy. Private equity investments totaled $1.65$1.75 billion at September 30, 2006, compared with $1.54March 31, 2007, and $1.67 billion at December 31, 2005.2006.
We also have marketable equity securities in the available for sale investment portfolio, including securities relating to our venture capital activities. We manage these investments within capital risk limits approved by management and the Board and monitored by Corporate ALCO. Gains and losses on these securities are recognized in net income when realized and other-than-temporary impairment may be periodically recorded when identified. The initial indicator of impairment for marketable equity securities is a sustained decline in market price below the amount recorded for that investment. We consider a variety of factors such asas: the length of time and the extent to which the market value has been less than cost; the issuer’s financial condition, capital strength, and near-term prospects; any recent events specific to that issuer and economic conditions of its industry; and to a lesser degree, our investment horizon in relationship to an anticipated near-term recovery in the stock price, if any. The fair value of marketable equity
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securities was $829$765 million and cost was $597$591 million at September 30, 2006, compared with $900March 31, 2007, and $796 million and $558$592 million, respectively, at December 31, 2005.2006.
Changes in equity market prices may also indirectly affect our net income (1) by affecting the value of third party assets under management and, hence, fee income, (2) by affecting particular borrowers, whose ability to repay principal and/or interest may be affected by the stock market, or (3) by affecting brokerage activity, related commission income and other business activities. Each business line monitors and manages these indirect risks.
Liquidity and Funding
The objective of effective liquidity management is to ensure that we can meet customer loan requests, customer deposit maturities/withdrawals and other cash commitments efficiently under both normal operating conditions and under unpredictable circumstances of industry or market stress. To achieve this objective, Corporate ALCO establishes and monitors liquidity guidelines that require sufficient asset-based liquidity to cover potential funding requirements and to avoid over-dependence on volatile, less reliable funding markets. We set these guidelines for both the consolidated balance sheet and for the Parent to ensure that the Parent is a source of strength for its regulated, deposit-taking banking subsidiaries.
Debt securities in the securities available for sale portfolio provide asset liquidity, in addition to the immediately liquid resources of cash and due from banks and federal funds sold, securities
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purchased under resale agreements and other short termshort-term investments. Asset liquidity is further enhanced by our ability to sell or securitize loans in secondary markets through whole-loan sales and securitizations.
Core customer deposits have historically provided a sizeable source of relatively stable and low-cost funds. The remaining assets were fundedAdditional funding is provided by long-term debt (including trust preferred securities), other foreign deposits in foreign offices,and short-term borrowings (federal funds purchased, securities sold under repurchase agreements, commercial paper and other short-term borrowings) and trust preferred securities..
Liquidity is also available through our ability to raise funds in a variety of domestic and international money and capital markets. We access capital markets for long-term funding by issuing registered debt, private placements and asset-backed secured funding. Rating agencies base their ratings on many quantitative and qualitative factors, including capital adequacy, liquidity, asset quality, business mix and level and quality of earnings. In September 2003, Moody’s Investors Service rated Wells Fargo Bank, N.A. as “Aaa,” its highest investment grade, and rated the Company’s senior debt as “Aa1.” In August 2006,July 2005, Dominion Bond Rating Service raised the Company’s senior debt rating to “AA” from “AA(low).” In February 2007, Standard & Poor’s Ratings Services raised Wells Fargo Bank, N.A.’s credit rating to “AA+”“AAA” from “AA,“AA+,” and raised the Company’s senior debt rating to “AA”“AA+” from “AA-.“AA.” Rating agencies base their ratings on many quantitativeWells Fargo Bank, N.A. is now the only U.S. bank to have the highest possible credit rating from both Moody’s and qualitative factors, including capital adequacy, liquidity, asset quality, business mix, and level and quality of earnings.S&P.
Parent. Under SEC rules effective December 1, 2005, the Parent is classified as a “well-known seasoned issuer,” which allows it to file a registration statement that does not have a limit on issuance capacity. “Well-known seasoned issuers” generally include those companies with a public float of common equity of at least $700 million or those companies that have issued at least $1 billion in aggregate principal amount of non-convertible securities, other than common
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equity, in the last three years. However, the Parent’s ability to issue debt and other securities under a registration statement filed with the SEC under these new rules is limited by the debt issuance authority granted by the Board. The Parent is currently authorized by the Board to issue $20$25 billion in outstanding short-term debt and $90$95 billion in outstanding long-term debt, subject to a total outstanding debt limit of $100$110 billion. In June 2006, the Parent’s registration statement with the SEC for issuance of senior and subordinated notes, preferred stock and other securities became effective. During the first nine months of 2006,quarter 2007, the Parent issued a total of $8.9$9.2 billion of registered senior notes, including $0.9 billion (denominated in pounds sterling) sold primarily in the United Kingdom and $2.0 billion (denominated in euros) sold primarily in Europe. Also, in the first nine months of 2006, the Parent issued $0.5 billion in private placements (denominated in Australian dollars) under the Parent’s Australian debt issuance program.notes. We used the proceeds from securities issued in the first nine months of 2006quarter 2007 for general corporate purposes and expect that the proceeds in the future will also be used for general corporate purposes. The Parent also issues commercial paper from time to time, subject to its short-term debt limit.
Wells Fargo Bank, N.A.Wells Fargo Bank, N.A. is authorized by its board of directors to issue $20 billion in outstanding short-term debt and $40 billion in outstanding long-term debt. In March 2003, Wells Fargo Bank, N.A. established a $50 billion bank note program under which, subject to any other debt outstanding under the limits described above, it may issue $20 billion in outstanding short-term senior notes and $30 billion in long-term senior notes. Securities are issued under this program as private placements in accordance with Office of the Comptroller of the Currency (OCC) regulations. During the first nine months of 2006, Wells Fargo Bank, N.A. issued $3.2 billiondid not issue any debt in long-term senior and subordinated notes, which included long-term senior notes issued under the bank note program.first quarter 2007.
Wells Fargo Financial. In January 2006, Wells Fargo Financial Canada Corporation (WFFCC), a wholly-owned Canadian subsidiary of Wells Fargo Financial, Inc. (WFFI), qualified for
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distribution with the provincial securities exchanges in Canada $7.0 billion (Canadian) of issuance authority. During theWFFI did not issue any debt in first nine months of 2006, WFFCC issued $1.3 billion (Canadian) in senior notes.quarter 2007. At September 30, 2006,March 31, 2007, the remaining issuance capacity for WFFCC was $5.7$5.4 billion (Canadian). WFFI issued $0.5 billion (U.S.) in private placements in the first nine months of 2006.
CAPITAL MANAGEMENT
We have an active program for managing stockholder capital. We use capital to fund organic growth, acquire banks and other financial services companies, pay dividends and repurchase our shares. Our objective is to produce above marketabove-market long-term returns by opportunistically using capital when returns are perceived to be high and issuing/accumulating capital when the cost of doing so issuch costs are perceived to be low.
From time to time the Board of Directors authorizes the Company to repurchase shares of our common stock. Although we announce when the Board authorizes share repurchases, we typically do not give any public notice before we repurchase our shares. Various factors determine the amount and timing of our share repurchases, including our capital requirements, the number of shares we expect to issue for acquisitions and employee benefit plans, market conditions (including the trading price of our stock), and legal considerations. These factors can change at any time, and there can be no assurance as to the number of shares we will repurchase or when we will repurchase them.
Historically, our policy has been to repurchase shares under the “safe harbor” conditions of Rule 10b-18 of the Exchange Act including a limitation on the daily volume of repurchases. Rule 10b-18 imposes an additional daily volume limitation on share repurchases during a pending merger or acquisition in which shares of our stock will constitute some or all of the
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consideration. Our management may determine that during a pending stock merger or acquisition when the safe harbor would otherwise be available, it is in our best interest to repurchase shares in excess of this additional daily volume limitation. In such cases, we intend to repurchase shares in compliance with the other conditions of the safe harbor, including the standing daily volume limitation that applies whether or not there is a pending stock merger or acquisition.
In 2005, the Board authorized the repurchase of up to 150 million additional shares of our outstanding common stock. In June 2006, the Board authorized the repurchase of up to 50 million additional shares of our outstanding common stock. In March 2007, the Board authorized the repurchase of up to 75 million additional shares of our common stock. During the first nine months of 2006,quarter 2007, we repurchased approximately 47 million shares of our common stock. At September 30, 2006,March 31, 2007, the total remaining common stock repurchase authority under the 2005 and 2006 authorizations was 73approximately 90 million shares. (For additional information regarding share repurchases and repurchase authorizations, see Part II Item 2 of this Report.)
On June 27, 2006, the Board declared a two-for-one stock split in the form of a 100% stock dividend on our common stock which was distributed August 11, 2006, to stockholders of record at the close of business August 4, 2006. We distributed one share of common stock for each share of common stock issued and outstanding or held in the treasury of the Company. Also, in June 2006, the Board declared an increase in the quarterly common stock dividend to 56 cents per share, up 4 cents, or 8%. The cash dividend was on a pre-split basis and was payable September 1, 2006, to stockholders of record at the close of business August 4, 2006.
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Our potential sources of capital include retained earnings and issuances of common and preferred stock and subordinated debt.stock. In the first nine months of 2006,quarter 2007, retained earnings increased $3.5$1.2 billion, predominantly resulting from net income of $6.3$2.2 billion, and $0.1 billion from the adoption of FAS 156 upon remeasurement of our residential MSRs to fair value, less dividends of $2.7$0.9 billion. In the first nine months of 2006,quarter 2007, we issued $1.7 billion$576 million of common stock (including shares issued for our ESOP plan) under various employee benefit and director plans and under our dividend reinvestment and direct stock repurchase programs.
At September 30, 2006,March 31, 2007, the Company and each of our subsidiary banks were “well capitalized” under the applicable regulatory capital adequacy guidelines. SeeFor additional information see Note 1819 (Regulatory and Agency Capital Requirements) to Financial Statements for additional information.Statements.
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RISK FACTORS
An investment in the Company has risk. In addition, in accordance with the Private Securities Litigation Reform Act of 1995, we caution you that actual results may differ from forward-looking statements about our future financial and business performance contained in this Report and other reports we file with the SEC and in other Company communications. This Report contains forward-looking statements about:that:
| • | | we expect in 2007 higher but manageable credit losses in our belief that we will see an improvement in early 2007 in collections relating to our consumer auto loans;home equity loan portfolio; |
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| • | | our anticipation that we will not incur additional credit losses attributable to Hurricane Katrina;loan impairment analysis of GNMA loans indicated only modest loss potential; |
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| • | | the expected impact of changeswe expect FIN 48 will cause more volatility in interest rates on loan demand, credit losses, mortgage origination volume, the value of MSRs, and other items that may affect earnings;our effective tax rate from quarter to quarter; |
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| • | | it is reasonably possible that the expected time periods over whichtotal unrecognized compensation expense relating to stock optionstax benefit as of January 1, 2007, could decrease by an estimated $380 million by December 31, 2007, as a result of expiration of statutes of limitations and restricted share rights willpotential settlements with federal and state taxing authorities and that this benefit could be recognized;substantially offset by new tax matters arising during the same period; |
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| • | | we expect the expected timingamount of nonaccrual loans will change due to portfolio growth, portfolio seasoning, routine problem loan recognition and impact of the adoption of new accounting standards and policies;resolution through collections, sales or charge-offs; |
| • | | futurewe expect the provision for credit losses and nonperforming assets, including changes infor consumer loans, absent a significant credit event, to closely follow the amountlevel of nonaccrual loans due to portfolio growth, portfolio seasoning, and other factors;related net charge-offs; |
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| • | | we believe the extentelection to whichmeasure new prime mortgages held for sale and other interests held at fair value will reduce certain timing differences and better match changes in the value of these interests with changes in the value of derivatives used to hedge these interests; |
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| • | | we expect changes in the fair value of derivative financial instruments used to hedge derivative loan commitments will fully or partially offset changes in the fair value of derivative loansuch commitments; |
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| • | | we expect to use the proceeds of securities issued in the future short-term and long-term interest rate levels and their impact on net interest margin, net income, liquidity and capital;for general corporate purposes; |
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| • | | the anticipated use of proceeds from the issuance of securities;we expect to complete one pending business combination transaction in second quarter 2007; |
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| • | | how and when we intenddo not expect to repurchase shares of our common stock;be required to make a minimum contribution in 2007 for the Cash Balance Plan; |
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| • | | the amount and timingwe expect to recover our affordable housing investments over time through realization of future contributions to the Cash Balance Plan;federal low-income housing tax credits; |
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| • | | we do not expect the recoveryamount of our investmentany additional consideration that may be payable in variable interest entities;connection with previous acquisitions to be material; and |
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| • | | future reclassification to earningswe expect $20 million of deferred net gains on derivatives; |
| • | | expected completion dates of pending business combinations andderivatives in other acquisitions; and |
| • | | comprehensive income at March 31, 2007, will be reclassified as earnings in the amount of contingent consideration payable in connection with certain acquisitions.next 12 months. |
This Report also includes various statements about the estimated impact on our earnings from simulated changes in interest rates.
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Factors that could cause our financial results and condition to vary significantly from quarter to quarter or cause actual results to differ from our expectations for our future financial and business performance include:
lower or negative revenue growth because of our inability to sell more products to our existing customers;
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| • | | lower or negative revenue growth because of our inability to sell more products to our existing customers; |
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| • | | decreased demand for our products and services because of an economic slowdown; |
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| • | | reduced fee income from our brokerage and asset management businesses because of a fall in stock market prices; |
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| • | | lower net interest margin, decreased mortgage loan originations and reductions in the value of our MSRs because of changes in interest rates; |
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| • | | reduced earnings because ofdue to higher credit losses generally and specifically because of higher than expected because: |
| ° | | losses in our consumer auto loan portfolio becauseremain at or above historic levels notwithstanding our increased collection effortscollections and underwriting efforts; and/or |
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| ° | | losses in our residential real estate loan portfolio (including home equity) are not as effective as we expectgreater than expected due to declining home values, increasing interest rates, increasing unemployment or take longer than we expect to produce meaningful results;other economic factors; |
| • | | reduced earnings because of changes in the value of our venture capital investments; |
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| • | | changes in our accounting policies or in accounting standards; |
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| • | | reduced earnings from not realizing the expected benefits of acquisitions or from unexpected difficulties integrating acquisitions; |
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| • | | federal and state regulations; |
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| • | | reputational damage from negative publicity; |
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| • | | fines, penalties and other negative consequences from regulatory violations, even inadvertent or unintentional violations; |
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| • | | the loss of checking and saving account deposits to alternative investments such as the stock market and higher-yielding fixed income investments; and |
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| • | | fiscal and monetary policies of the Federal Reserve Board. |
Refer to our 20052006 Form 10-K, including “Risk Factors,” for information about these factors. Refer also to this Report, including the discussion below and under “Risk Management” in the Financial Review section, for additional risk factors and other information that may supplement or modify the discussion of risk factors in our 20052006 Form 10-K.
Changes in interest rates could reduce the value of our mortgage servicing rights (MSRs) and earnings.
We have a sizeable portfolio of MSRs. A mortgage servicing right (MSR) is the right to service a mortgage loan – collect principal, interest, escrow amounts, etc. – for a fee. We acquire MSRs when we keep the servicing rights after we sell or securitize the loans we have originated or when we purchase the servicing rights to mortgage loans originated by other lenders. Effective January 1, 2006, upon adoption of FAS 156, we elected to initially measure and carry our residential MSRs using the fair value measurement method. Fair value is the present value of estimated future net servicing income, calculated based on a number of variables, including assumptions about the likelihood of prepayment by borrowers.
Changes in interest rates can affect prepayment assumptions and thus fair value. When interest rates fall, borrowers are more likely to prepay their mortgage loans by refinancing them at a lower rate. As the likelihood of prepayment increases, the fair value of our MSRs can decrease. Each quarter we evaluate the fair value of our MSRs, and any decrease in fair value reduces earnings in the period in which the decrease occurs.
For more information, refer to “Critical Accounting Policies” and “Risk Management – Asset/Liability and Market Risk Management – Mortgage Banking Interest Rate Risk” in the Financial Review section of this Report.
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Our mortgage banking revenue can be volatile from quarter to quarter.We earn revenue from fees we receive for originating mortgage loans and for servicing mortgage loans. When rates rise, the demand for mortgage loans tends to fall, reducing the revenue we receive from loan originations. At the same time, revenue from our MSRs can increase, through increases in fair value. When rates fall, mortgage originations tend to increase and the value of our MSRs tends to decline, also with some offsetting revenue effect. Even though they can act as a “natural hedge,” the hedge is not perfect, either in amount or timing. For example, the negative effect on revenue from a decrease in the fair value of residential MSRs is immediate, but any offsetting revenue benefit from more originations and the MSRs relating to the new loans would accrue over time.
We typically use derivatives and other instruments to hedge our mortgage banking interest rate risk. We generally do not hedge all of our risk, and the fact that we attempt to hedge any of the risk does not mean we will be successful. Hedging is a complex process, requiring sophisticated models and constant monitoring, and is not a perfect science. We may use hedging instruments tied to U.S. Treasury rates, LIBOR or Eurodollars that may not perfectly correlate with the value or income being hedged. We could incur losses from our hedging activities. There may be periods where we elect not to use derivatives and other instruments to hedge mortgage banking interest rate risk.
For more information, refer to “Risk Management – Asset/Liability and Market Risk Management – Mortgage Banking Interest Rate Risk” in the Financial Review section of this Report.
We may incur fines, penalties and other negative consequences from regulatory violations, possibly even inadvertent or unintentional violations.
We maintain systems and procedures designed to ensure that we comply with applicable laws and regulations. However, some legal/regulatory frameworks provide for the imposition of fines or penalties for noncompliance even though the noncompliance was inadvertent or unintentional and even though there was in place at the time systems and procedures designed to ensure compliance. For example, we are subject to regulations issued by the Office of Foreign Assets Control (OFAC) that prohibit financial institutions from participating in the transfer of property belonging to the governments of certain foreign countries and designated nationals of those countries. OFAC may impose penalties for inadvertent or unintentional violations even if reasonable processes are in place to prevent the violations. Therefore, the establishment and maintenance of systems and procedures reasonably designed to ensure compliance cannot guarantee that we will be able to avoid a fine or penalty for noncompliance. For example, in April 2003 and January 2005 OFAC reported settlements with Wells Fargo Bank, N.A. in amounts of $5,500 and $42,833, respectively. These settlements related to transactions involving inadvertent acts or human error alleged to have violated OFAC regulations. There may be other negative consequences resulting from a finding of noncompliance, including restrictions on certain activities. Such a finding may also damage our reputation (see “Negative publicity could damage our reputation” under “Risk Factors” in our 2005 Form 10-K) and could restrict the ability of institutional investment managers to invest in our securities.
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CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
As required by SEC rules, the Company’s management evaluated the effectiveness, as of September 30, 2006,March 31, 2007, of the Company’s disclosure controls and procedures. The Company’s chief executive officer and chief financial officer participated in the evaluation. Based on this evaluation, the Company’s chief executive officer and chief financial officer concluded that the Company’s disclosure controls and procedures were effective as of September 30, 2006.March 31, 2007.
Internal Control Over Financial Reporting
Internal control over financial reporting is defined in Rule 13a-15(f) promulgated under the Securities Exchange Act of 1934 as a process designed by, or under the supervision of, the company’s principal executive and principal financial officers and effected by the company’s board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles (GAAP) and includes those policies and procedures that:
| • | | pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of assets of the company; |
|
| • | | provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and |
|
| • | | provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements. |
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. No change occurred during thirdfirst quarter 20062007 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
3227
WELLS FARGO & COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF INCOME
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Quarter ended Sept. 30 | , | | Nine months ended Sept. 30 | , | | Quarter ended March 31 | , |
(in millions, except per share amounts) | | 2006 | | 2005 | | 2006 | | 2005 | | | 2007 | | 2006 | |
|
INTEREST INCOME | | |
Trading assets | | $ | 45 | | $ | 44 | | $ | 179 | | $ | 142 | | | $ | 53 | | $ | 69 | |
Securities available for sale | | 1,014 | | 442 | | 2,552 | | 1,327 | | | 686 | | 663 | |
Mortgages held for sale | | 702 | | 674 | | 2,119 | | 1,585 | | | 530 | | 609 | |
Loans held for sale | | 12 | | 9 | | 34 | | 136 | | | 15 | | 11 | |
Loans | | 6,555 | | 5,416 | | 18,910 | | 15,359 | | | 6,764 | | 6,110 | |
Other interest income | | 71 | | 60 | | 214 | | 169 | | | 91 | | 70 | |
| | | | | | | | | | | | | | |
Total interest income | | 8,399 | | 6,645 | | 24,008 | | 18,718 | | | 8,139 | | 7,532 | |
| | | | | | | | | | | | | | |
INTEREST EXPENSE | | |
Deposits | | 1,997 | | 1,000 | | 5,273 | | 2,517 | | | 1,857 | | 1,482 | |
Short-term borrowings | | 271 | | 189 | | 830 | | 502 | | | 136 | | 270 | |
Long-term debt | | 1,084 | | 780 | | 3,004 | | 2,034 | | | 1,136 | | 910 | |
| | | | | | | | | | | | | | |
Total interest expense | | 3,352 | | 1,969 | | 9,107 | | 5,053 | | | 3,129 | | 2,662 | |
| | | | | | | | | | | | | | |
NET INTEREST INCOME | | 5,047 | | 4,676 | | 14,901 | | 13,665 | | | 5,010 | | 4,870 | |
Provision for credit losses | | 613 | | 641 | | 1,478 | | 1,680 | | | 715 | | 433 | |
| | | | | | | | | | | | | | |
Net interest income after provision for credit losses | | 4,434 | | 4,035 | | 13,423 | | 11,985 | | | 4,295 | | 4,437 | |
| | | | | | | | | | | | | | |
NONINTEREST INCOME | | |
Service charges on deposit accounts | | 707 | | 654 | | 1,995 | | 1,857 | | | 685 | | 623 | |
Trust and investment fees | | 664 | | 614 | | 2,002 | | 1,813 | | | 731 | | 663 | |
Card fees | | 464 | | 377 | | 1,266 | | 1,064 | | | 470 | | 384 | |
Other fees | | 509 | | 520 | | 1,507 | | 1,451 | | | 511 | | 488 | |
Mortgage banking | | 484 | | 743 | | 1,634 | | 1,794 | | | 790 | | 415 | |
Operating leases | | 192 | | 202 | | 593 | | 612 | | | 192 | | 201 | |
Insurance | | 313 | | 248 | | 1,041 | | 943 | | | 399 | | 364 | |
Net gains (losses) on debt securities available for sale | | 121 | | | (31 | ) | | | (70 | ) | | 4 | | | 31 | | | (35 | ) |
Net gains from equity investments | | 159 | | 146 | | 482 | | 418 | | | 97 | | 190 | |
Other | | 274 | | 354 | | 927 | | 836 | | | 525 | | 392 | |
| | | | | | | | | | | | | | |
Total noninterest income | | 3,887 | | 3,827 | | 11,377 | | 10,792 | | | 4,431 | | 3,685 | |
| | | | | | | | | | | | | | |
NONINTEREST EXPENSE | | |
Salaries | | 1,769 | | 1,571 | | 5,195 | | 4,602 | | | 1,867 | | 1,672 | |
Incentive compensation | | 710 | | 676 | | 2,092 | | 1,703 | | | 742 | | 668 | |
Employee benefits | | 458 | | 467 | | 1,534 | | 1,446 | | | 665 | | 589 | |
Equipment | | 294 | | 306 | | 913 | | 939 | | | 337 | | 335 | |
Net occupancy | | 357 | | 354 | | 1,038 | | 1,068 | | | 365 | | 336 | |
Operating leases | | 155 | | 159 | | 473 | | 474 | | | 153 | | 161 | |
Other | | 1,338 | | 1,356 | | 4,086 | | 3,903 | | | 1,397 | | 1,313 | |
| | | | | | | | | | | | | | |
Total noninterest expense | | 5,081 | | 4,889 | | 15,331 | | 14,135 | | | 5,526 | | 5,074 | |
| | | | | | | | | | | | | | |
INCOME BEFORE INCOME TAX EXPENSE | | 3,240 | | 2,973 | | 9,469 | | 8,642 | | | 3,200 | | 3,048 | |
Income tax expense | | 1,046 | | 998 | | 3,168 | | 2,901 | | | 956 | | 1,030 | |
| | | | | | | | | | | | | | |
NET INCOME | | $ | 2,194 | | $ | 1,975 | | $ | 6,301 | | $ | 5,741 | | | $ | 2,244 | | $ | 2,018 | |
| | | | | | | | | | | | | | |
EARNINGS PER COMMON SHARE | | $ | 0.65 | | $ | 0.59 | | $ | 1.87 | | $ | 1.70 | | | $ | 0.66 | | $ | 0.60 | |
DILUTED EARNINGS PER COMMON SHARE | | $ | 0.64 | | $ | 0.58 | | $ | 1.85 | | $ | 1.68 | | | $ | 0.66 | | $ | 0.60 | |
DIVIDENDS DECLARED PER COMMON SHARE | | $ | — | | $ | 0.26 | | $ | 0.80 | | $ | 0.74 | | | $ | 0.28 | | $ | 0.26 | |
| | | | | | |
Average common shares outstanding | | 3,371.9 | | 3,373.5 | | 3,364.6 | | 3,379.8 | | | 3,376.0 | | 3,358.3 | |
Diluted average common shares outstanding | | 3,416.0 | | 3,410.6 | | 3,405.5 | | 3,418.7 | | | 3,416.1 | | 3,395.7 | |
| | | |
The accompanying notes are an integral part of these statements.
3328
WELLS FARGO & COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | September 30 | , | | December 31 | , | | September 30 | , | | March 31 | , | | December 31 | , | | March 31 | , |
(in millions, except shares) | | 2006 | | 2005 | | 2005 | | | 2007 | | 2006 | | 2006 | |
|
ASSETS | | |
Cash and due from banks | | $ | 12,591 | | $ | 15,397 | | $ | 13,931 | | | $ | 12,485 | | $ | 15,028 | | $ | 13,224 | |
Federal funds sold, securities purchased under resale agreements and other short-term investments | | 4,079 | | 5,306 | | 5,861 | | | 4,668 | | 6,078 | | 4,954 | |
Trading assets | | 5,300 | | 10,905 | | 8,477 | | | 6,525 | | 5,607 | | 9,930 | |
Securities available for sale | | 52,635 | | 41,834 | | 34,480 | | | 45,443 | | 42,629 | | 51,195 | |
Mortgages held for sale | | 39,913 | | 40,534 | | 46,119 | | |
Mortgages held for sale (includes $25,692 million carried at fair value at March 31, 2007) | | | 32,286 | | 33,097 | | 43,521 | |
Loans held for sale | | 617 | | 612 | | 629 | | | 829 | | 721 | | 629 | |
Loans | | 307,491 | | 310,837 | | 296,189 | | | 325,487 | | 319,116 | | 306,676 | |
Allowance for loan losses | | | (3,799 | ) | | | (3,871 | ) | | | (3,886 | ) | | | (3,772 | ) | | | (3,764 | ) | | | (3,845 | ) |
| | | | | | | | | | | | | | |
Net loans | | 303,692 | | 306,966 | | 292,303 | | | 321,715 | | 315,352 | | 302,831 | |
| | | | | | | | | | | | | | |
Mortgage servicing rights: | | |
Measured at fair value (residential MSRs beginning 2006) | | 17,712 | | — | | — | | |
Measured at fair value (residential MSRs) | | | 17,779 | | 17,591 | | 13,800 | |
Amortized | | 328 | | 12,511 | | 10,711 | | | 400 | | 377 | | 142 | |
Premises and equipment, net | | 4,645 | | 4,417 | | 4,223 | | | 4,864 | | 4,698 | | 4,493 | |
Goodwill | | 11,192 | | 10,787 | | 10,776 | | | 11,275 | | 11,275 | | 11,050 | |
Other assets | | 30,737 | | 32,472 | | 25,984 | | | 27,632 | | 29,543 | | 36,659 | |
| | | | | | | | | | | | | | |
Total assets | | $ | 483,441 | | $ | 481,741 | | $ | 453,494 | | | $ | 485,901 | | $ | 481,996 | | $ | 492,428 | |
| | | | | | | | | | | | | | |
LIABILITIES | | |
Noninterest-bearing deposits | | $ | 86,849 | | $ | 87,712 | | $ | 89,304 | | | $ | 89,067 | | $ | 89,119 | | $ | 88,701 | |
Interest-bearing deposits | | 227,470 | | 226,738 | | 199,725 | | | 222,090 | | 221,124 | | 219,604 | |
| | | | | | | | | | | | | | |
Total deposits | | 314,319 | | 314,450 | | 289,029 | | | 311,157 | | 310,243 | | 308,305 | |
Short-term borrowings | | 13,800 | | 23,892 | | 23,243 | | | 13,181 | | 12,829 | | 21,350 | |
Accrued expenses and other liabilities | | 26,369 | | 23,071 | | 22,795 | | | 25,101 | | 25,903 | | 36,312 | |
Long-term debt | | 84,091 | | 79,668 | | 78,592 | | | 90,327 | | 87,145 | | 84,500 | |
| | | | | | | | | | | | | | |
Total liabilities | | 438,579 | | 441,081 | | 413,659 | | | 439,766 | | 436,120 | | 450,467 | |
| | | | | | | | | | | | | | |
STOCKHOLDERS’ EQUITY | | |
Preferred stock | | 465 | | 325 | | 389 | | | 740 | | 384 | | 634 | |
Common stock – $1-2/3 par value, authorized 6,000,000,000 shares; issued 3,472,762,050 shares | | 5,788 | | 5,788 | | 5,788 | | |
Common stock — $1-2/3 par value, authorized 6,000,000,000 shares; issued 3,472,762,050 shares | | | 5,788 | | 5,788 | | 5,788 | |
Additional paid-in capital | | 7,667 | | 7,040 | | 6,984 | | | 7,875 | | 7,739 | | 7,479 | |
Retained earnings | | 34,080 | | 30,580 | | 29,636 | | | 36,439 | | 35,277 | | 31,750 | |
Cumulative other comprehensive income | | 633 | | 665 | | 721 | | | 289 | | 302 | | 576 | |
Treasury stock – 100,057,636 shares, 117,595,986 shares and 114,421,240 shares | | | (3,273 | ) | | | (3,390 | ) | | | (3,267 | ) | |
Treasury stock — 122,242,186 shares, 95,612,189 shares and 115,124,934 shares | | | | (4,204 | ) | | | (3,203 | ) | | | (3,587 | ) |
Unearned ESOP shares | | | (498 | ) | | | (348 | ) | | | (416 | ) | | | (792 | ) | | | (411 | ) | | | (679 | ) |
| | | | | | | | | | | | | | |
Total stockholders’ equity | | 44,862 | | 40,660 | | 39,835 | | | 46,135 | | 45,876 | | 41,961 | |
| | | | | | | | | | | | | | |
Total liabilities and stockholders’ equity | | $ | 483,441 | | $ | 481,741 | | $ | 453,494 | | | $ | 485,901 | | $ | 481,996 | | $ | 492,428 | |
| | | | | | | | | | | | | | |
| | | |
The accompanying notes are an integral part of these statements.
3429
WELLS FARGO & COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY
AND COMPREHENSIVE INCOME
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Cumulative | | | | | | | Cumulative | | | | | |
| | Additional | | other | | Unearned | | Total | | | Additional | | other | | Unearned | | Total | |
| | Number of | | Preferred | | Common | | paid-in | | Retained | | comprehensive | | Treasury | | ESOP | | stockholders' | | | Number of | | Preferred | | Common | | paid-in | | Retained | | comprehensive | | Treasury | | ESOP | | stockholders' | |
(in millions, except shares) | | common shares | | stock | | stock | | capital | | earnings | | income | | stock | | shares | | equity | | | common shares | | stock | | stock | | capital | | earnings | | income | | stock | | shares | | equity | |
|
BALANCE DECEMBER 31, 2004 | | 3,389,183,274 | | $ | 270 | | $ | 5,788 | | $ | 6,912 | | $ | 26,482 | | $ | 950 | | $ | (2,247 | ) | | $ | (289 | ) | | $ | 37,866 | | |
| | | | | | | | | | | | | | | | | | | | |
Comprehensive income: | | |
Net income | | 5,741 | | 5,741 | | |
Other comprehensive income, net of tax: | | |
Translation adjustments | | 6 | | 6 | | |
Net unrealized losses on securities available for sale and other interests held, net of reclassification of $96 million of net gains included in net income | | | (316 | ) | | | (316 | ) | |
Net unrealized gains on derivatives and hedging activities, net of reclassification of $39 million of net losses on cash flow hedges included in net income | | 81 | | 81 | | |
| | | | |
Total comprehensive income | | 5,512 | | |
Common stock issued | | 35,491,748 | | | (44 | ) | | | (82 | ) | | 984 | | 858 | | |
Common stock issued for acquisitions | | 3,909,004 | | 12 | | 110 | | 122 | | |
Common stock repurchased | | | (78,367,178 | ) | | | (2,343 | ) | | | (2,343 | ) | |
Preferred stock (363,000) issued to ESOP | | 363 | | 24 | | | (387 | ) | | — | | |
Preferred stock released to ESOP | | | (16 | ) | | 260 | | 244 | | |
Preferred stock (243,669) converted to common shares | | 8,123,962 | | | (244 | ) | | 16 | | 228 | | — | | |
Common stock dividends | | | (2,505 | ) | | | (2,505 | ) | |
Tax benefit upon exercise of stock options | | 80 | | 80 | | |
Other, net | | 1 | | 1 | | |
| | | | | | | | | | | | | | | | | | | | |
Net change | | | (30,842,464 | ) | | 119 | | — | | 72 | | 3,154 | | | (229 | ) | | | (1,020 | ) | | | (127 | ) | | 1,969 | | |
| | | | | | | | | | | | | | | | | | | | |
BALANCE SEPTEMBER 30, 2005 | | 3,358,340,810 | | $ | 389 | | $ | 5,788 | | $ | 6,984 | | $ | 29,636 | | $ | 721 | | $ | (3,267 | ) | | $ | (416 | ) | | $ | 39,835 | | |
| | | | | | | | | | | | | | | | | | | | |
BALANCE DECEMBER 31, 2005 | | 3,355,166,064 | | $ | 325 | | $ | 5,788 | | $ | 7,040 | | $ | 30,580 | | $ | 665 | | $ | (3,390 | ) | | $ | (348 | ) | | $ | 40,660 | | | 3,355,166,064 | | $ | 325 | | $ | 5,788 | | $ | 7,040 | | $ | 30,580 | | $ | 665 | | $ | (3,390 | ) | | $ | (348 | ) | | $ | 40,660 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Cumulative effect from adoption of FAS 156 | | 101 | | 101 | | | 101 | | 101 | |
| | | | | | | | | | |
BALANCE JANUARY 1, 2006 | | 3,355,166,064 | | 325 | | 5,788 | | 7,040 | | 30,681 | | 665 | | | (3,390 | ) | | | (348 | ) | | 40,761 | | | 3,355,166,064 | | 325 | | 5,788 | | 7,040 | | 30,681 | | 665 | | | (3,390 | ) | | | (348 | ) | | 40,761 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Comprehensive income: | | |
Net income | | 6,301 | | 6,301 | | |
Comprehensive income Net income | | | 2,018 | | 2,018 | |
Other comprehensive income, net of tax: | | |
Translation adjustments | | 4 | | 4 | | |
Net unrealized losses on securities available for sale and other interests held, net of reclassification of $53 million of net gains included in net income | | | | (205 | ) | | | (205 | ) |
Net unrealized gains on derivatives and hedging activities, net of reclassification of $30 million of net gains on cash flow hedges included in net income | | | 119 | | 119 | |
Minimum pension liability adjustment | | | (3 | ) | | | (3 | ) | | | (3 | ) | | | (3 | ) |
Net unrealized losses on securities available for sale and other interests held, net of reclassification of $87 million of net gains included in net income | | | (6 | ) | | | (6 | ) | |
Net unrealized losses on derivatives and hedging activities, net of reclassification of $71 million of net gains on cash flow hedges included in net income | | | (27 | ) | | | (27 | ) | |
| | | | | | |
Total comprehensive income | | 6,269 | | | 1,929 | |
Common stock issued | | 56,859,649 | | | (48 | ) | | | (207 | ) | | 1,674 | | 1,419 | | | 19,798,358 | | | (16 | ) | | | (75 | ) | | 576 | | 485 | |
Common stock repurchased | | | (47,488,608 | ) | | | (1,566 | ) | | | (1,566 | ) | | | (20,613,612 | ) | | | (646 | ) | | | (646 | ) |
Preferred stock (414,000) issued to ESOP | | 414 | | 29 | | | (443 | ) | | — | | | 414 | | 29 | | | (443 | ) | | — | |
Preferred stock released to ESOP | | | (19 | ) | | 293 | | 274 | | | | (7 | ) | | 112 | | 105 | |
Preferred stock (274,457) converted to common shares | | 8,167,309 | | | (274 | ) | | 31 | | 243 | | — | | |
Preferred stock (105,037) converted to common shares | | | 3,286,306 | | | (105 | ) | | 9 | | 96 | | — | |
Common stock dividends | | | (2,695 | ) | | | (2,695 | ) | | | (874 | ) | | | (874 | ) |
Tax benefit upon exercise of stock options | | 179 | | 179 | | | 52 | | 52 | |
Stock option compensation expense | | 108 | | 108 | | | 52 | | 52 | |
Net change in deferred compensation and related plans | | 39 | | | (23 | ) | | 16 | | | 12 | | | (12 | ) | | — | |
Reclassification of share-based plans | | 308 | | | (211 | ) | | 97 | | | 308 | | | (211 | ) | | 97 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Net change | | 17,538,350 | | 140 | | — | | 627 | | 3,399 | | | (32 | ) | | 117 | | | (150 | ) | | 4,101 | | | 2,471,052 | | 309 | | — | | 439 | | 1,069 | | | (89 | ) | | | (197 | ) | | | (331 | ) | | 1,200 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
BALANCE SEPTEMBER 30, 2006 | | 3,372,704,414 | | $ | 465 | | $ | 5,788 | | $ | 7,667 | | $ | 34,080 | | $ | 633 | | $ | (3,273 | ) | | $ | (498 | ) | | $ | 44,862 | | |
BALANCE MARCH 31, 2006 | | | 3,357,637,116 | | $ | 634 | | $ | 5,788 | | $ | 7,479 | | $ | 31,750 | | $ | 576 | | $ | (3,587 | ) | | $ | (679 | ) | | $ | 41,961 | |
| | | | | | | | | | | | | | | | | | | | |
BALANCE DECEMBER 31, 2006 | | | 3,377,149,861 | | $ | 384 | | $ | 5,788 | | $ | 7,739 | | $ | 35,277 | | $ | 302 | | $ | (3,203 | ) | | $ | (411 | ) | | $ | 45,876 | |
| | | | | | | | | | | | | | | | | | | | |
Cumulative effect of adoption of FSP 13-2 | | | | (71 | ) | | | (71 | ) |
| | | | | | |
BALANCE JANUARY 1, 2007 | | | 3,377,149,861 | | 384 | | 5,788 | | 7,739 | | 35,206 | | 302 | | | (3,203 | ) | | | (411 | ) | | 45,805 | |
| | | | | | | | | | | | | | | | | | | | |
Comprehensive income Net income | | | 2,244 | | 2,244 | |
Other comprehensive income, net of tax: | | |
Translation adjustments | | | 1 | | 1 | |
Net unrealized gains on securities available for sale and other interests held, net of reclassification of $32 million of net gains included in net income | | | 18 | | 18 | |
Net unrealized losses on derivatives and hedging activities, net of reclassification of $39 million of net gains on cash flow hedges included in net income | | | | (38 | ) | | | (38 | ) |
Defined benefit pension plans: | | |
Amortization of actuarial loss and prior service cost included in net income | | | 6 | | 6 | |
| | | | |
Total comprehensive income | | | 2,231 | |
Common stock issued | | | 16,732,843 | | | (17 | ) | | | (63 | ) | | 528 | | 448 | |
Common stock repurchased | | | | (47,068,819 | ) | | | (1,631 | ) | | | (1,631 | ) |
Preferred stock (484,000) issued to ESOP | | | 484 | | 34 | | | (518 | ) | | -- | |
Preferred stock released to ESOP | | | | (9 | ) | | 137 | | 128 | |
Preferred stock (127,646) converted to common shares | | | 3,705,979 | | | (128 | ) | | 8 | | 120 | | -- | |
Common stock dividends | | | | (948 | ) | | | (948 | ) |
Tax benefit upon exercise of stock options | | | 51 | | 51 | |
Stock option compensation expense | | | 50 | | 50 | |
Net change in deferred compensation and related plans | | | 19 | | | (18 | ) | | 1 | |
| | | | | | | | | | | | | | | | | | | | |
Net change | | | | (26,629,997 | ) | | 356 | | — | | 136 | | 1,233 | | | (13 | ) | | | (1,001 | ) | | | (381 | ) | | 330 | |
| | | | | | | | | | | | | | | | | | | | |
| | | 3,350,519,864 | | $ | 740 | | $ | 5,788 | | $ | 7,875 | | $ | 36,439 | | $ | 289 | | $ | (4,204 | ) | | $ | (792 | ) | | $ | 46,135 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | |
The accompanying notes are an integral part of these statements.
3530
WELLS FARGO & COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
| | | | | | | | | | | | | | | | |
| | | | |
| | Nine months ended September 30 | , | | Quarter ended March 31 | , |
(in millions) | | 2006 | | 2005 | | | 2007 | | 2006 | |
|
Cash flows from operating activities: | | |
Net income | | $ | 6,301 | | $ | 5,741 | | | $ | 2,244 | | $ | 2,018 | |
Adjustments to reconcile net income to net cash provided by operating activities: | | |
Provision for credit losses | | 1,478 | | 1,680 | | | 715 | | 433 | |
Provision for MSRs in excess of fair value | | — | | | (323 | ) | |
Change in fair value of residential MSRs | | | (1,736 | ) | | — | | |
Changes in fair value of MSRs (residential) and MHFS carried at fair value | | | 570 | | | (45 | ) |
Depreciation and amortization | | 2,250 | | 3,002 | | | 382 | | 540 | |
Net gains on securities available for sale | | | (117 | ) | | | (138 | ) | |
Net losses (gains) on mortgage loan origination/sales activities | | 811 | | | (816 | ) | |
Other net gains | | | (200 | ) | | | (29 | ) | | | (513 | ) | | | (503 | ) |
Preferred shares released to ESOP | | 274 | | 244 | | | 128 | | 105 | |
Stock option compensation expense | | 108 | | — | | | 50 | | 52 | |
Excess tax benefits related to stock option payments | | | (179 | ) | | — | | | | (46 | ) | | | (52 | ) |
Net decrease in trading assets | | 5,582 | | 523 | | |
Net increase in deferred income taxes | | 877 | | 214 | | |
Net increase in accrued interest receivable | | | (265 | ) | | | (500 | ) | |
Net increase in accrued interest payable | | 358 | | 271 | | |
Originations of mortgages held for sale | | | (180,739 | ) | | | (170,005 | ) | |
Proceeds from sales of mortgages originated for sale | | 175,655 | | 150,456 | | |
Principal collected on mortgages originated for sale | | 1,762 | | 923 | | |
Net increase (decrease) in loans originated for sale | | | (5 | ) | | 666 | | |
Originations of MHFS | | | | (54,688 | ) | | | (51,280 | ) |
Proceeds from sales of and principal collected on mortgages originated for sale | | | 55,290 | | 53,683 | |
Net change in: | | |
Trading assets | | | | (936 | ) | | 975 | |
Loans originated for sale | | | | (108 | ) | | | (17 | ) |
Deferred income taxes | | | 184 | | 206 | |
Accrued interest receivable | | | | (11 | ) | | | (17 | ) |
Accrued interest payable | | | | (179 | ) | | 43 | |
Other assets, net | | 2,949 | | | (353 | ) | | 3,262 | | | (2,753 | ) |
Other accrued expenses and liabilities, net | | 3,136 | | 2,680 | | | | (673 | ) | | 13,269 | |
| | | | | | | | | | |
Net cash provided (used) by operating activities | | 18,300 | | | (5,764 | ) | |
Net cash provided by operating activities | | | 5,671 | | 16,657 | |
| | | | | | | | | | |
Cash flows from investing activities: | | |
Net change in: | | |
Federal funds sold, securities purchased under resale agreements and other short-term investments | | | 1,410 | | 370 | |
Securities available for sale: | | |
Sales proceeds | | 43,896 | | 7,343 | | | 4,545 | | 16,964 | |
Prepayments and maturities | | 5,757 | | 5,295 | | | 2,244 | | 1,644 | |
Purchases | | | (61,347 | ) | | | (10,578 | ) | | | (9,513 | ) | | | (28,397 | ) |
Net cash acquired from (paid for) acquisitions | | | (526 | ) | | 54 | | |
Loans: | | |
Increase in banking subsidiaries’ loan originations, net of collections | | | (26,503 | ) | | | (25,867 | ) | | | (7,367 | ) | | | (8,841 | ) |
Proceeds from sales (including participations) of loans by banking subsidiaries | | 35,637 | | 35,141 | | | 983 | | 9,244 | |
Purchases (including participations) of loans by banking subsidiaries | | | (4,136 | ) | | | (5,611 | ) | | | (1,068 | ) | | | (1,562 | ) |
Principal collected on nonbank entities’ loans | | 18,130 | | 16,679 | | | 5,574 | | 5,909 | |
Loans originated by nonbank entities | | | (19,956 | ) | | | (24,503 | ) | | | (5,943 | ) | | | (6,908 | ) |
Net cash paid for acquisitions | | | — | | | (266 | ) |
Proceeds from sales of foreclosed assets | | 376 | | 331 | | | 291 | | 140 | |
Net decrease (increase) in federal funds sold, securities purchased under resale agreements and other short-term investments | | 1,282 | | | (836 | ) | |
Net increase in MSRs | | | (1,655 | ) | | | (2,922 | ) | |
Other changes in MSRs | | | | (1,026 | ) | | | (723 | ) |
Other, net | | | (3,287 | ) | | | (3,528 | ) | | | (620 | ) | | | (1,495 | ) |
| | | | | | | | | | |
Net cash used by investing activities | | | (12,332 | ) | | | (9,002 | ) | | | (10,490 | ) | | | (13,921 | ) |
| | | | | | | | | | |
Cash flows from financing activities: | | |
Net increase (decrease) in deposits | | | (376 | ) | | 13,540 | | |
Net increase (decrease) in short-term borrowings | | | (10,139 | ) | | 1,230 | | |
Proceeds from issuance of long-term debt | | 14,987 | | 22,285 | | |
Long-term debt repayment | | | (10,632 | ) | | | (17,470 | ) | |
Proceeds from issuance of common stock | | 1,419 | | 859 | | |
Common stock repurchased | | | (1,566 | ) | | | (2,343 | ) | |
Cash dividends paid on common stock | | | (2,695 | ) | | | (2,505 | ) | |
Net change in: | | |
Deposits | | | 914 | | | (6,216 | ) |
Short-term borrowings | | | 352 | | | (2,542 | ) |
Long-term debt: | | |
Proceeds from issuance | | | 9,536 | | 8,499 | |
Repayment | | | | (6,356 | ) | | | (3,646 | ) |
Common stock: | | |
Proceeds from issuance | | | 448 | | 485 | |
Repurchased | | | | (1,631 | ) | | | (646 | ) |
Cash dividends paid | | | | (948 | ) | | | (874 | ) |
Excess tax benefits related to stock option payments | | 179 | | — | | | 46 | | 52 | |
Other, net | | 49 | | 198 | | | | (85 | ) | | | (21 | ) |
| | | | | | | | | | |
Net cash provided (used) by financing activities | | | (8,774 | ) | | 15,794 | | | 2,276 | | | (4,909 | ) |
| | | | | | | | | | |
Net change in cash and due from banks | | | (2,806 | ) | | 1,028 | | | | (2,543 | ) | | | (2,173 | ) |
Cash and due from banks at beginning of period | | 15,397 | | 12,903 | | |
Cash and due from banks at beginning of quarter | | | 15,028 | | 15,397 | |
| | | | | | | | | | |
Cash and due from banks at end of period | | $ | 12,591 | | $ | 13,931 | | |
Cash and due from banks at end of quarter | | | $ | 12,485 | | $ | 13,224 | |
| | | | | | | | | | |
Supplemental disclosures of cash flow information: | | |
Cash paid during the period for: | | |
Cash paid during the quarter for: | | |
Interest | | $ | 8,749 | | $ | 5,324 | | | $ | 3,308 | | $ | 2,619 | |
Income taxes | | 1,423 | | 1,564 | | | 106 | | 90 | |
Noncash investing and financing activities: | | |
Net transfers from loans to mortgages held for sale | | $ | 32,381 | | $ | 34,906 | | |
Net transfers from loans held for sale to loans | | — | | 7,444 | | |
Net transfers from loans to MHFS | | | $ | — | | $ | 14,546 | |
Transfers from loans to foreclosed assets | | 1,243 | | 416 | | | 1,087 | | 493 | |
Transfers from mortgages held for sale to securities held for sale | | — | | 3,382 | | |
| | | |
The accompanying notes are an integral part of these statements.
3631
NOTES TO FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Wells Fargo & Company is a diversified financial services company. We provide banking, insurance, investments, mortgage banking and consumer finance through banking stores, the internet and other distribution channels to consumers, businesses and institutions in all 50 states of the U.S. and in other countries. When we refer to “the Company”, “we”,Company,” “we,” “our” andor “us” in this Form 10-Q, we mean Wells Fargo & Company and Subsidiaries (consolidated). Wells Fargo & Company (the Parent) is a financial holding company and a bank holding company.
Our accounting and reporting policies conform with U.S. generally accepted accounting principles (GAAP) and practices in the financial services industry. To prepare the financial statements in conformity with GAAP, management must make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and income and expenses during the reporting period.
The information furnished in these unaudited interim statements reflects all adjustments that are, in the opinion of management, necessary for a fair statement of the results for the periods presented. These adjustments are of a normal recurring nature, unless otherwise disclosed in this Form 10-Q. The results of operations in the interim statements do not necessarily indicate the results that may be expected for the full year. The interim financial information should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2005 (20052006 (2006 Form 10-K).
InOn January 1, 2007, we adopted the following new accounting pronouncements:
| • | | FIN 48 — Financial Accounting Standards Board (FASB) Interpretation No. 48,Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109; |
|
| • | | FSP 13-2 — FASB Staff Position 13-2,Accounting for a Change or Projected Change in the Timing of Cash Flows Relating to Income Taxes Generated by a Leveraged Lease Transaction; |
|
| • | | FAS 155 — Statement of Financial Accounting Standards No. 155,Accounting for Certain Hybrid Financial Instruments,an amendment of FASB Statements No. 133 and 140; |
|
| • | | FAS 157,Fair Value Measurements; and |
|
| • | | FAS 159,The Fair Value Option for Financial Assets and Financial Liabilities, including an amendment of FASB Statement No. 115. |
The adoption of FIN 48, FAS 155, FAS 157 and FAS 159 did not have any effect on our financial statements at the date of adoption. For additional information, see Note 11 (Income Taxes) and Note 16 (Fair Values of Assets and Liabilities) to Financial StatementsStatements.
FSP 13-2 relates to the accounting for leveraged lease transactions for which there have been cash flow estimate changes based on when income tax benefits are recognized. Certain of our leveraged lease transactions have been challenged by the Internal Revenue Service (IRS). We have paid the IRS the contested income tax associated with these transactions. However, we are continuing to vigorously defend our initial filing position as to the timing of the tax benefits associated with these transactions. Upon adoption of FSP 13-2, we recorded a cumulative effect
32
of change in accounting principle to reduce the beginning balance of 2007 retained earnings by $71 million after tax ($115 million pre tax). Since this adjustment changes only the timing of income tax cash flows and related Notes, all common share and per share disclosures reflectnot the two-for-one stock split intotal net income for these leases, this amount will be recognized back into income over the formremaining terms of a 100% stock dividend distributed August 11, 2006.the affected leases.
Descriptions of our significant accounting policies are included in Note 1 (Summary of Significant Accounting Policies) to Financial Statements in our 20052006 Form 10-K. There have been no significant changes to these policies, except as discussed below for transfersmortgages held for sale and servicing of financial assetsincome taxes, based on these new pronouncements.
MORTGAGES HELD FOR SALE
Mortgages held for sale (MHFS) include commercial and stock-based compensation.
TRANSFERS AND SERVICING OF FINANCIAL ASSETS
We accountresidential mortgages originated for a transfer of financial assetssale and securitization in the secondary market, which is our principal market, or for sale as a sale when we surrender control of the transferred assets.whole loans. Effective January 1, 2006,2007, upon adoption of Statement of Financial Accounting Standards No. 156,Accounting for Servicing of Financial Assets – an amendment of FASB Statement No. 140(FAS 156), servicing rights resulting from the sale or securitization of loans159, we originate and purchase (asset transfers), are initially measuredelected to measure MHFS at fair value prospectively for new prime MHFS originations. (See Note 16.) These loans are carried at the date of transfer. We recognize the rights to service mortgage loans for others, or mortgage servicing rights (MSRs), as assets whether we purchase the MSRs or the MSRs result from an asset transfer. We determinefair value, with changes in the fair value of servicing rights at the date of transfer using the present value of estimated future net servicing income, using assumptions that market participants usethese loans recognized in their estimates of values. We use quoted market pricesmortgage banking noninterest income. Loan origination fees are recorded when available to determine the value ofearned, and related direct loan origination costs and fees are recognized when incurred.
In addition, other interests held. Gain or loss on sale of loans depends on (a) net proceeds received (including cash proceeds and the value of any servicing asset recorded) and (b) the previous carrying
37
amount of the financial assets transferred and any interests we continue to hold (such as interest-only strips) based on relative fair value at the date of transfer.
To determine the fair value of MSRs, we use a valuation model that calculates the present value of estimated future net servicing income. We use assumptions in the valuation model that market participants use in estimating future net servicing income, including estimates of prepayment speeds, discount rate, cost to service, escrow account earnings, contractual servicing fee income, ancillary income and late fees. This model is validated by an independent internal model validation group operating in accordance with a model valuation policy approved by the Corporate Asset/Liability Management Committee.
MSRs Measured at Fair Value
Effective January 1, 2006, upon adoption of FAS 156, we elected to initially measure and subsequently carry our MSRs related to residential mortgage loans (residential MSRs) using the fair value method. Under the fair value method, residential MSRs are carried on the balance sheet at fair value and the changes in fair value, primarily due to changes in valuation inputs and assumptions and to the collection/realization of expected cash flows, are reported in earnings in the period in which the change occurs.
Effective January 1, 2006, upon the remeasurement of our residential MSRs at fair value, we recorded a cumulative-effect adjustment to the 2006 beginning balance of retained earnings of $101 million after tax ($158 million pre tax) in our Statement of Changes in Stockholders’ Equity.
Amortized MSRs
Amortized MSRs, which include commercial MSRs and, prior to January 1, 2006, residential MSRs,MHFS (predominantly nonprime loans) are carried at the lower of cost or market. These MSRsmarket value. For these MHFS, direct loan origination costs and fees are amortizeddeferred at origination of the loans and recognized in proportion to,mortgage banking noninterest income upon sale of the loan. Gains and over the period of, estimated net servicinglosses on loan sales (sales proceeds minus carrying value) are recorded in noninterest income. The amortization of MSRs is analyzed monthly and is adjusted to reflect changes in prepayment speeds, as well as other factors.
STOCK-BASED COMPENSATIONINCOME TAXES
We have several stock-based employee compensation plans, which are more fully discussedfile a consolidated federal income tax return and, in Note 10. Prior to January 1, 2006, we accountedcertain states, combined state tax returns.
We account for stock options and stock awards under the recognition and measurement provisions of Accounting Principles Board Opinion No. 25,Accounting for Stock Issued to Employees(APB 25), and related interpretations, as permitted by FAS 123,Accounting for Stock-Based Compensation. Under this guidance, no stock option expense was recognized in our income statement for periods prior to January 1, 2006, as all options granted under our plans had an exercise price equal to the market value of the underlying common stock on the date of grant. Effective January 1, 2006, we adopted FAS 123(R),Share-Based Payment, using the modified-prospective transition method. Accordingly, compensation cost recognized in the first nine months of 2006 includes; (1) compensation cost for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimatedtaxes in accordance with FAS 123,109,Accounting for Income Taxes, as interpreted by FIN 48, resulting in two components of income tax expense: current and (2) compensation costdeferred. Current income tax expense approximates taxes to be paid or refunded for all share-based awards granted onthe current period. We determine deferred income taxes using the balance sheet method. Under this method, the net deferred tax asset or after January 1, 2006, including cost for retirement-eligible team members, whichliability is immediately expensed upon grant, based on the grant date fair value estimatedtax effects of the differences between the book and tax bases of assets and liabilities, and recognizes enacted changes in accordance with FAS 123(R). Results for prior periods havetax rates and laws. Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are recognized subject to management judgment that realization is more likely than not. A tax position that meets the more likely than not been restated. In calculatingrecognition threshold is measured to determine the common stock equivalents for purposesamount of diluted earnings per share, we selectedbenefit to recognize. The tax position is measured at the transitionlargest amount of benefit that is greater than 50% likely of being realized upon settlement. Foreign taxes paid are generally applied as credits to reduce federal income taxes payable. Interest and penalties are recognized as a component of income tax expense.
3833
method provided by FASB Staff Position FAS 123(R)-3,Transition Election Related to Accounting for the Tax Effects of Share-Based Payment Awards.
As a result of adopting FAS 123(R), as required, on January 1, 2006, our income before income taxes of $3,240 million and net income of $2,194 million for the third quarter of 2006 was $28 million and $17 million lower, respectively, and our income before income taxes of $9,469 million and net income of $6,301 million for the first nine months of 2006 was $108 million and $67 million lower, respectively, than if we had continued to account for share-based compensation under APB 25. Earnings per share and diluted earnings per share for the third quarter of 2006 of $0.65 and $0.64, respectively, were both less than $0.01 per share lower than if we had not adopted FAS 123(R). Earnings per share and diluted earnings per share for the first nine months of 2006 of $1.87 and $1.85, respectively, were both $0.02 per share lower than if we had not adopted FAS 123(R).
Prior to the adoption of FAS 123(R), we presented all tax benefits of deductions resulting from the exercise of stock options as operating cash flows in the Statement of Cash Flows. FAS 123(R) requires the cash flows from the tax benefits resulting from tax deductions in excess of the compensation cost recognized for those options (excess tax benefits) to be classified as financing cash flows. The $179 million excess tax benefit for the first nine months of 2006 classified as a financing cash inflow would have been classified as an operating cash inflow under APB 25.
Pro forma net income and earnings per common share information are provided in the table below as if we accounted for employee stock option plans under the fair value method of FAS 123 in the third quarter and first nine months of 2005.
| | | | | | | | | | |
| |
| | | | Quarter ended | | | Nine months ended | |
(in millions, except per share amounts) | | Sept. 30, 2005 | | | Sept. 30, 2005 | |
|
Net income, as reported | | $ | 1,975 | | | $ | 5,741 | |
Add: | | Stock-based employee compensation expense | | | | | | | | |
| | included in reported net income, net of tax | | | 1 | | | | 1 | |
Less: | | Total stock-based employee compensation | | | | | | | | |
| | expense under the fair value method for | | | | | | | | |
| | all awards, net of tax | | | (19 | ) | | | (167 | ) |
| | | | | | | | |
Net income, pro forma | | $ | 1,957 | | | $ | 5,575 | |
| | | | | | | | |
Earnings per common share | | | | | | | | |
As reported | | $ | 0.59 | | | $ | 1.70 | |
Pro forma | | | 0.58 | | | | 1.65 | |
Diluted earnings per common share | | | | | | | | |
As reported | | $ | 0.58 | | | $ | 1.68 | |
Pro forma | | | 0.57 | | | | 1.63 | |
| |
Stock options granted in our February 2005 grant, under our Long-Term Incentive Compensation Plan, fully vested upon grant, resulting in full recognition of stock-based compensation expense under the fair value method in the table above.
39
2. BUSINESS COMBINATIONS
We regularly explore opportunities to acquire financial services companies and businesses. Generally, we do not make a public announcement about an acquisition opportunity until a definitive agreement has been signed.
Transactions completed in the first nine months of 2006 were:
| | | | | | | | |
| |
(in millions) | | Date | | | Assets | |
|
Secured Capital Corp / Secured Capital LLC, Los Angeles, California | | January 18 | | $ | 132 | |
Martinius Corporation, Rogers, Minnesota | | March 1 | | | 91 | |
Commerce Funding Corporation, Vienna, Virginia | | April 17 | | | 82 | |
Fremont National Bank of Canon City / Centennial Bank of Pueblo, Canon City and Pueblo, Colorado | | June 7 | | | 201 | |
Certain assets of the Reilly Mortgage Companies, McLean, Virginia | | August 1 | | | 303 | |
Other (1) | | Various | | | 19 | |
| | | | | | | |
| | | | | | $ | 828 | |
| | | | | | | |
| |
| | |
(1) | | Consists of six acquisitions of insurance brokerage businesses. |
At September 30, 2006,March 31, 2007, we had one pending business combination with total assets of approximately $8 million.$2.6 billion. We expect to complete this transaction in fourthsecond quarter 2006.2007.
3. FEDERAL FUNDS SOLD, SECURITIES PURCHASED UNDER RESALE AGREEMENTS AND OTHER SHORT-TERM INVESTMENTS
The following table provides the detail of federal funds sold, securities purchased under resale agreements and other short-term investments.
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Sept. 30 | , | | Dec. 31 | , | | Sept. 30 | , | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , |
(in millions) | | 2006 | | 2005 | | 2005 | | | 2007 | | 2006 | | 2006 | |
|
Federal funds sold and securities purchased under resale agreements | | $ | 2,768 | | $ | 3,789 | | $ | 3,854 | | | $ | 3,730 | | $ | 5,024 | | $ | 3,445 | |
Interest-earning deposits | | 629 | | 847 | | 1,289 | | | 361 | | 413 | | 904 | |
Other short-term investments | | 682 | | 670 | | 718 | | | 577 | | 641 | | 605 | |
| | | | | | | | | | | | | | |
Total | | $ | 4,079 | | $ | 5,306 | | $ | 5,861 | | | $ | 4,668 | | $ | 6,078 | | $ | 4,954 | |
| | | | | | | | | | | | | | |
| | | |
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4. SECURITIES AVAILABLE FOR SALE
The following table provides the cost and fair value for the major categories of securities available for sale carried at fair value. There were no securities classified as held to maturity as of the periods presented.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Sept. 30, 2006 | | Dec. 31, 2005 | | Sept. 30, 2005 | | | Mar. 31, 2007 | | Dec. 31, 2006 | | Mar. 31, 2006 | |
| | Estimated | | Estimated | | Estimated | | | Estimated | | Estimated | | Estimated | |
| | fair | | fair | | fair | | | fair | | fair | | fair | |
(in millions) | | Cost | | value | | Cost | | value | | Cost | | value | | | Cost | | value | | Cost | | value | | Cost | | value | |
|
Securities of U.S. Treasury and federal agencies | | $ | 892 | | $ | 886 | | $ | 845 | | $ | 839 | | $ | 1,061 | | $ | 1,058 | | | $ | 827 | | $ | 822 | | $ | 774 | | $ | 768 | | $ | 931 | | $ | 919 | |
Securities of U.S. states and political subdivisions | | 3,241 | | 3,388 | | 3,048 | | 3,191 | | 3,129 | | 3,291 | | | 3,528 | | 3,665 | | 3,387 | | 3,530 | | 2,923 | | 3,040 | |
Mortgage-backed securities: | | |
Federal agencies | | 35,549 | | 36,045 | | 25,304 | | 25,616 | | 17,803 | | 18,155 | | | 30,336 | | 30,874 | | 26,981 | | 27,463 | | 34,268 | | 34,312 | |
Private collateralized mortgage obligations (1) | | 4,842 | | 4,912 | | 6,628 | | 6,750 | | 6,118 | | 6,194 | | | 3,865 | | 3,921 | | 3,989 | | 4,046 | | 5,628 | | 5,730 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Total mortgage-backed securities | | 40,391 | | 40,957 | | 31,932 | | 32,366 | | 23,921 | | 24,349 | | | 34,201 | | 34,795 | | 30,970 | | 31,509 | | 39,896 | | 40,042 | |
Other | | 6,549 | | 6,575 | | 4,518 | | 4,538 | | 4,915 | | 4,965 | | | 5,348 | | 5,396 | | 5,980 | | 6,026 | | 6,301 | | 6,319 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Total debt securities | | 51,073 | | 51,806 | | 40,343 | | 40,934 | | 33,026 | | 33,663 | | | 43,904 | | 44,678 | | 41,111 | | 41,833 | | 50,051 | | 50,320 | |
Marketable equity securities | | 597 | | 829 | | 558 | | 900 | | 553 | | 817 | | | 591 | | 765 | | 592 | | 796 | | 556 | | 875 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Total | | $ | 51,670 | | $ | 52,635 | | $ | 40,901 | | $ | 41,834 | | $ | 33,579 | | $ | 34,480 | | | $ | 44,495 | | $ | 45,443 | | $ | 41,703 | | $ | 42,629 | | $ | 50,607 | | $ | 51,195 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | |
| | |
(1) | | MostSubstantially all of the private collateralized mortgage obligations are AAA-rated bonds collateralized by 1-4 family residential first mortgages. |
The following table provides the components of the estimated net unrealized net gains on securities available for sale. The estimated net unrealized net gains and losses on securities available for sale are reported on an after-tax basis as a component of cumulative other comprehensive income.
| | | | | | | | | | | | |
| |
| | Sept. 30 | , | | Dec. 31 | , | | Sept. 30 | , |
(in millions) | | 2006 | | | 2005 | | | 2005 | |
|
Estimated unrealized gross gains | | $ | 1,050 | | | $ | 1,041 | | | $ | 1,021 | |
Estimated unrealized gross losses | | | (85 | ) | | | (108 | ) | | | (120 | ) |
| | | | | | | | | |
Estimated unrealized net gains | | $ | 965 | | | $ | 933 | | | $ | 901 | |
| | | | | | | | | |
| |
| | | | | | | | | | | | |
| |
| | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , |
(in millions) | | 2007 | | | 2006 | | | 2006 | |
|
Estimated gross unrealized gains | | $ | 996 | | | $ | 987 | | | $ | 792 | |
Estimated gross unrealized losses | | | (48 | ) | | | (61 | ) | | | (204 | ) |
| | | | | | | | | |
Estimated net unrealized gains | | $ | 948 | | | $ | 926 | | | $ | 588 | |
| | | | | | | | | |
|
The following table shows the net realized net gains (losses) on the sales of securities from the securities available for sale portfolio, including marketable equity securities.
| | | | | | | | | | | | | | | | |
| |
| | Quarter | | | Nine months | |
| | ended Sept. 30 | , | | ended Sept. 30 | , |
(in millions) | | 2006 | | | 2005 | | | 2006 | | | 2005 | |
|
Realized gross gains | | $ | 143 | | | $ | 29 | | | $ | 390 | | | $ | 316 | |
Realized gross losses (1) | | | (15 | ) | | | (61 | ) | | | (273 | ) | | | (178 | ) |
| | | | | | | | | | | | |
Realized net gains (losses) | | $ | 128 | | | $ | (32 | ) | | $ | 117 | | | $ | 138 | |
| | | | | | | | | | | | |
| |
| | | | | | | | |
| |
| | Quarter ended March 31 | , |
(in millions) | | 2007 | | | 2006 | |
|
| | $ | 59 | | | $ | 171 | |
Gross realized losses (1) | | | (7 | ) | | | (85 | ) |
| | | | | | |
Net realized gains | | $ | 52 | | | $ | 86 | |
| | | | | | |
|
| | |
(1) | | Includes other-than-temporary impairment of $4 million and $17 million for the thirdfirst quarter and2007. No other-than-temporary impairment was recorded for first nine months of 2006, respectively, and $27 million and $42 million for the third quarter and first nine months of 2005, respectively.2006. |
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5. LOANS AND ALLOWANCE FOR CREDIT LOSSES
A summary of the major categories of loans outstanding is shown in the following table. Outstanding loan balances reflect unearned income, net deferred loan fees, and unamortized discount and premium totaling $3,050$3,169 million, $3,918$3,113 million and $3,586$3,561 million, at September 30, 2006,March 31, 2007, December 31, 2005,2006, and September 30, 2005,March 31, 2006, respectively.
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Sept. 30 | , | | Dec. 31 | , | | Sept. 30 | , | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , |
(in millions) | | 2006 | | 2005 | | 2005 | | | 2007 | | 2006 | | 2006 | |
|
Commercial and commercial real estate: | | |
Commercial | | $ | 66,797 | | $ | 61,552 | | $ | 60,588 | | | $ | 72,268 | | $ | 70,404 | | $ | 63,836 | |
Other real estate mortgage | | 29,914 | | 28,545 | | 28,571 | | | 31,542 | | 30,112 | | 28,754 | |
Real estate construction | | 15,397 | | 13,406 | | 12,587 | | | 15,869 | | 15,935 | | 14,308 | |
Lease financing | | 5,443 | | 5,400 | | 5,244 | | | 5,494 | | 5,614 | | 5,402 | |
| | | | | | | | | | | | | | |
Total commercial and commercial real estate | | 117,551 | | 108,903 | | 106,990 | | | 125,173 | | 122,065 | | 112,300 | |
Consumer: | | |
Real estate 1-4 family first mortgage | | 49,765 | | 77,768 | | 69,259 | | | 55,982 | | 53,228 | | 66,106 | |
Real estate 1-4 family junior lien mortgage | | 67,185 | | 59,143 | | 57,491 | | | 69,489 | | 68,926 | | 61,115 | |
Credit card | | 13,343 | | 12,009 | | 11,060 | | | 14,594 | | 14,697 | | 11,618 | |
Other revolving credit and installment | | 53,080 | | 47,462 | | 46,201 | | | 53,445 | | 53,534 | | 49,295 | |
| | | | | | | | | | | | | | |
Total consumer | | 183,373 | | 196,382 | | 184,011 | | | 193,510 | | 190,385 | | 188,134 | |
Foreign | | 6,567 | | 5,552 | | 5,188 | | | 6,804 | | 6,666 | | 6,242 | |
| | | | | | | | | | | | | | |
Total loans | | $ | 307,491 | | $ | 310,837 | | $ | 296,189 | | | $ | 325,487 | | $ | 319,116 | | $ | 306,676 | |
| | | | | | | | | | | | | | |
| | | |
The recorded investment in impaired loans and the methodology used to measure impairment was:
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Sept. 30 | , | | Dec. 31 | , | | Sept. 30 | , | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , |
(in millions) | | 2006 | | 2005 | | 2005 | | | 2007 | | 2006 | | 2006 | |
|
Impairment measurement based on: | | |
Collateral value method | | $ | 121 | | $ | 115 | | $ | 132 | | | $ | 163 | | $ | 122 | | $ | 111 | |
Discounted cash flow method | | 71 | | 75 | | 108 | | | 88 | | 108 | | 26 | |
| | | | | | | | | | | | | | |
Total (1) | | $ | 192 | | $ | 190 | | $ | 240 | | | $ | 251 | | $ | 230 | | $ | 137 | |
| | | | | | | | | | | | | | |
| | | |
| | |
(1) | | Includes $61$133 million, $56$146 million and $41$49 million of impaired loans with a related allowance of $8$21 million, $10$29 million and $9$11 million at September 30, 2006,March 31, 2007, December 31, 2005,2006, and September 30, 2005,March 31, 2006, respectively. |
The average recorded investment in impaired loans was $168$251 million for first quarter 2007 and $252$160 million during thirdfor first quarter 2006 and 2005, respectively, and $159 million and $278 million in the first nine months of 2006 and 2005, respectively.2006.
4236
The allowance for credit losses consists of the allowance for loan losses and the reserve for unfunded credit commitments. Changes in the allowance for credit losses were:
| | | | | | | | | | | | | | | | | |
| | | | | | | | | | |
| | Quarter | | Nine months | | | |
| | ended Sept. 30 | , | | ended Sept. 30 | , | | Quarter ended March 31 | , |
(in millions) | | 2006 | | 2005 | | 2006 | | 2005 | | | 2007 | | 2006 | |
|
Balance, beginning of period | | $ | 4,035 | | $ | 3,944 | | $ | 4,057 | | $ | 3,950 | | | $ | 3,964 | | $ | 4,057 | |
Provision for credit losses | | 613 | | 641 | | 1,478 | | 1,680 | | | 715 | | 433 | |
Loan charge-offs: | | |
Commercial and commercial real estate: | | |
Commercial | | | (103 | ) | | | (95 | ) | | | (275 | ) | | | (271 | ) | | | (126 | ) | | | (79 | ) |
Other real estate mortgage | | | (1 | ) | | | (1 | ) | | | (3 | ) | | | (6 | ) | | | (1 | ) | | | (1 | ) |
Real estate construction | | | (1 | ) | | | (1 | ) | | | (1 | ) | | | (6 | ) | |
Lease financing | | | (6 | ) | | | (7 | ) | | | (22 | ) | | | (27 | ) | | | (7 | ) | | | (9 | ) |
| | | | | | | | | | | | | | |
Total commercial and commercial real estate | | | (111 | ) | | | (104 | ) | | | (301 | ) | | | (310 | ) | | | (134 | ) | | | (89 | ) |
Consumer: | | |
Real estate 1-4 family first mortgage | | | (30 | ) | | | (24 | ) | | | (81 | ) | | | (83 | ) | | | (24 | ) | | | (29 | ) |
Real estate 1-4 family junior lien mortgage | | | (36 | ) | | | (37 | ) | | | (98 | ) | | | (100 | ) | | | (83 | ) | | | (34 | ) |
Credit card | | | (133 | ) | | | (128 | ) | | | (351 | ) | | | (389 | ) | | | (183 | ) | | | (105 | ) |
Other revolving credit and installment | | | (501 | ) | | | (369 | ) | | | (1,172 | ) | | | (1,015 | ) | | | (474 | ) | | | (322 | ) |
| | | | | | | | | | | | | | |
Total consumer | | | (700 | ) | | | (558 | ) | | | (1,702 | ) | | | (1,587 | ) | | | (764 | ) | | | (490 | ) |
Foreign | | | (74 | ) | | | (72 | ) | | | (222 | ) | | | (216 | ) | | | (62 | ) | | | (74 | ) |
| | | | | | | | | | | | | | |
Total loan charge-offs | | | (885 | ) | | | (734 | ) | | | (2,225 | ) | | | (2,113 | ) | | | (960 | ) | | | (653 | ) |
| | | | | | | | | | | | | | |
Loan recoveries: | | |
Commercial and commercial real estate: | | |
Commercial | | 26 | | 35 | | 84 | | 102 | | | 24 | | 27 | |
Other real estate mortgage | | 8 | | 4 | | 14 | | 13 | | | 2 | | 1 | |
Real estate construction | | — | | — | | 2 | | 7 | | | 1 | | 1 | |
Lease financing | | 4 | | 5 | | 16 | | 16 | | | 5 | | 6 | |
| | | | | | | | | | | | | | |
Total commercial and commercial real estate | | 38 | | 44 | | 116 | | 138 | | | 32 | | 35 | |
Consumer: | | |
Real estate 1-4 family first mortgage | | 8 | | 6 | | 20 | | 15 | | | 6 | | 3 | |
Real estate 1-4 family junior lien mortgage | | 9 | | 8 | | 27 | | 22 | | | 9 | | 8 | |
Credit card | | | 23 | | | | 20 | | | | 72 | | | | 64 | | | 31 | | 24 | |
Other revolving credit and installment | | 124 | | 97 | | 401 | | 250 | | | 149 | | 129 | |
| | | | | | | | | | | | | | |
Total consumer | | 164 | | 131 | | 520 | | 351 | | | 195 | | 164 | |
Foreign | | 20 | | 18 | | 61 | | 44 | | | 18 | | 21 | |
| | | | | | | | | | | | | | |
Total loan recoveries | | 222 | | 193 | | 697 | | 533 | | | 245 | | 220 | |
| | | | | | | | | | | | | | |
Net loan charge-offs | | | (663 | ) | | | (541 | ) | | | (1,528 | ) | | | (1,580 | ) | | | (715 | ) | | | (433 | ) |
| | | | | | | | | | | | | | |
Other | | | (7 | ) | | 13 | | | (29 | ) | | 7 | | | 1 | | | (32 | ) |
| | | | | | | | | | | | | | |
Balance, end of period | | $ | 3,978 | | $ | 4,057 | | $ | 3,978 | | $ | 4,057 | | | $ | 3,965 | | $ | 4,025 | |
| | | | | | | | | | | | | | |
Components: | | |
Allowance for loan losses | | $ | 3,799 | | $ | 3,886 | | $ | 3,799 | | $ | 3,886 | | | $ | 3,772 | | $ | 3,845 | |
Reserve for unfunded credit commitments | | 179 | | 171 | | 179 | | 171 | | | 193 | | 180 | |
| | | | | | | | | | | | | | |
Allowance for credit losses | | $ | 3,978 | | $ | 4,057 | | $ | 3,978 | | $ | 4,057 | | | $ | 3,965 | | $ | 4,025 | |
| | | | | | | | | | | | | | |
Net loan charge-offs (annualized) as a percentage of average total loans | | | 0.86 | % | | | 0.73 | % | | | 0.67 | % | | | 0.72 | % | | | 0.90 | % | | | 0.56 | % |
Allowance for loan losses as a percentage of total loans | | | 1.24 | % | | | 1.31 | % | | | 1.24 | % | | | 1.31 | % | | | 1.16 | % | | | 1.25 | % |
Allowance for credit losses as a percentage of total loans | | 1.29 | | 1.37 | | 1.29 | | 1.37 | | | 1.22 | | 1.31 | |
| | | |
4337
6. OTHER ASSETS
The components of other assets were:
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Sept. 30 | , | | Dec. 31 | , | | Sept. 30 | , | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , |
(in millions) | | 2006 | | 2005 | | 2005 | | | 2007 | | 2006 | | 2006 | |
|
Nonmarketable equity investments: | | |
Private equity investments | | $ | 1,654 | | $ | 1,537 | | $ | 1,500 | | | $ | 1,750 | | $ | 1,671 | | $ | 1,603 | |
Federal bank stock | | 1,338 | | 1,402 | | 1,423 | | | 1,325 | | 1,326 | | 1,370 | |
All other | | 2,084 | | 2,151 | | 2,106 | | | 2,199 | | 2,240 | | 2,054 | |
| | | | | | | | | | | | | | |
Total nonmarketable equity investments (1) | | 5,076 | | 5,090 | | 5,029 | | | 5,274 | | 5,237 | | 5,027 | |
Operating lease assets | | 3,120 | | 3,414 | | 3,425 | | | 3,084 | | 3,091 | | 3,391 | |
Accounts receivable | | 7,048 | | 11,606 | | 3,777 | | | 4,781 | | 7,522 | | 14,066 | |
Interest receivable | | 2,544 | | 2,279 | | 1,983 | | | 2,581 | | 2,570 | | 2,296 | |
Core deposit intangibles | | 410 | | 489 | | 519 | | | 356 | | 383 | | 462 | |
Foreclosed assets: | | |
GNMA loans (2) | | 266 | | — | | — | | | 381 | | 322 | | 227 | |
Other | | 342 | | 191 | | 187 | | | 528 | | 423 | | 228 | |
Due from customers on acceptances | | 140 | | 104 | | 133 | | | 61 | | 103 | | 91 | |
Other | | 11,791 | | 9,299 | | 10,931 | | | 10,586 | | 9,892 | | 10,871 | |
| | | | | | | | | | | | | | |
Total other assets | | $ | 30,737 | | $ | 32,472 | | $ | 25,984 | | | $ | 27,632 | | $ | 29,543 | | $ | 36,659 | |
| | | | | | | | | | | | | | |
| | | |
| | |
(1) | | At September 30, 2006,March 31, 2007, December 31, 2005,2006, and September 30, 2005, $4.4March 31, 2006, $4.5 billion, $3.1$4.5 billion and $3.1$4.4 billion, respectively, of nonmarketable equity investments, including all federal bank stock, were accounted for at cost. |
|
(2) | | As a result of a change inConsistent with regulatory reporting requirements, effective January 1, 2006, foreclosed assets includedinclude foreclosed real estate securing Government National Mortgage Association (GNMA) loans. These assets are fully collectible because the corresponding GNMA loans are insured by the Federal Housing Administration or guaranteed by the Department of Veterans Affairs. Such assets were included in accounts receivable at December 31, 2005, and September 30, 2005. |
Income related to nonmarketable equity investments was:
| | | | | | | | | | | | | | | | | |
| | | | | | | | | | |
| | Quarter | | Nine months | | | |
| | ended Sept. 30 | , | | ended Sept. 30 | , | | Quarter ended March 31 | , |
(in millions) | | 2006 | | 2005 | | 2006 | | 2005 | | | 2007 | | 2006 | |
|
Net gains from private equity investments | | $ | 152 | | $ | 147 | | $ | 295 | | $ | 284 | | | $ | 76 | | $ | 69 | |
Net gains (losses) from all other nonmarketable equity investments | | 8 | | 22 | | | (11 | ) | | 15 | | |
Net losses from all other nonmarketable equity investments | | | | (13 | ) | | | (3 | ) |
| | | | | | | | | | | | | | |
Net gains from nonmarketable equity investments | | $ | 160 | | $ | 169 | | $ | 284 | | $ | 299 | | | $ | 63 | | $ | 66 | |
| | | | | | | | | | | | | | |
| | | |
4438
7. INTANGIBLE ASSETS
The gross carrying amount of intangible assets and accumulated amortization was:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | September 30 | , | | March 31 | , |
| | 2006 | | 2005 | | | 2007 | | 2006 | |
| | Gross | | Accumulated | | Gross | | Accumulated | | | Gross | | Accumulated | | Gross | | Accumulated | |
(in millions) | | carrying amount | | amortization | | carrying amount | | amortization | | | carrying amount | | amortization | | carrying amount | | amortization | |
|
Amortized intangible assets: | | |
MSRs, before valuation allowance (1): | | |
Residential | | $ | — | | $ | — | | $ | 22,748 | | $ | 10,902 | | |
Commercial | | 396 | | 68 | | 147 | | 40 | | |
MSRs (commercial) (1) | | | $ | 496 | | $ | 96 | | $ | 194 | | $ | 52 | |
Core deposit intangibles | | 2,374 | | 1,964 | | 2,432 | | 1,913 | | | 2,374 | | 2,018 | | 2,370 | | 1,908 | |
Credit card and other intangibles | | 576 | | 370 | | 562 | | 301 | | | 583 | | 388 | | 568 | | 325 | |
| | | | | | | | | | | | | | | | | | |
Total intangible assets | | $ | 3,346 | | $ | 2,402 | | $ | 25,889 | | $ | 13,156 | | | $ | 3,453 | | $ | 2,502 | | $ | 3,132 | | $ | 2,285 | |
| | | | | | | | | | | | | | | | | | |
MSRs (fair value) (1) | | $ | 17,712 | | $ | — | | | $ | 17,779 | | $ | 13,800 | |
Trademark | | 14 | | 14 | | | 14 | | 14 | |
| | | |
| | |
(1) | | Prior to 2006, amortized intangible assets included both residential and commercial MSRs. Effective January 1, 2006, upon adoption of FAS 156, residential MSRs are measured at fair value and are no longer amortized. See Note 15 for additional information on MSRs. |
As of September 30, 2006, theThe current year and estimated future amortization expense for intangible assets was:as of March 31, 2007, follows:
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Core | | | | | | | Core | | | | | |
| | deposit | | | | | | | deposit | | | | | |
(in millions) | | intangibles | | Other(1) | | Total | | | intangibles | | Other(1) | | Total | |
|
Nine months ended September 30, 2006 (actual) | | $ | 85 | | $ | 77 | | $ | 162 | | |
Three months ended March 31, 2007 (actual) | | | $ | 26 | | $ | 32 | | $ | 58 | |
| | | | | | | | | | | | | | |
Estimate for year ended December 31, | | |
2006 | | $ | 112 | | $ | 99 | | $ | 211 | | |
2007 | | 102 | | 78 | | 180 | | | $ | 102 | | $ | 105 | | $ | 207 | |
2008 | | 94 | | 72 | | 166 | | | 94 | | 86 | | 180 | |
2009 | | 86 | | 66 | | 152 | | | 86 | | 78 | | 164 | |
2010 | | 77 | | 62 | | 139 | | | 77 | | 73 | | 150 | |
2011 | | 19 | | 53 | | 72 | | | 19 | | 63 | | 82 | |
2012 | | | 2 | | 56 | | 58 | |
| | | |
| | |
(1) | | Includes amortized commercial MSRs and credit card and other intangibles. |
We based theour projections of amortization expense for core deposit intangibles shown above on existing asset balances at September 30, 2006.March 31, 2007. Future amortization expense may vary based on additional core deposit or other intangibles acquired through business combinations.
4539
8. GOODWILL
The changes in the carrying amount of goodwill as allocated to our operating segments for goodwill impairment analysis were:
| | | | | | | | | | | | | | | | |
| |
| | Community | | | Wholesale | | | Wells Fargo | | | Consolidated | |
(in millions) | | Banking | | | Banking | | | Financial | | | Company | |
|
December 31, 2004 | | $ | 7,291 | | | $ | 3,037 | | | $ | 353 | | | $ | 10,681 | |
Reduction in goodwill related to divested business | | | (31 | ) | | | (3 | ) | | | — | | | | (34 | ) |
Goodwill from business combinations | | | 125 | | | | 2 | | | | — | | | | 127 | |
Realignment of automobile financing business | | | (11 | ) | | | — | | | | 11 | | | | — | |
Foreign currency translation adjustments | | | — | | | | — | | | | 2 | | | | 2 | |
| | | | | | | | | | | | |
September 30, 2005 | | $ | 7,374 | | | $ | 3,036 | | | $ | 366 | | | $ | 10,776 | |
| | | | | | | | | | | | |
December 31, 2005 | | $ | 7,374 | | | $ | 3,047 | | | $ | 366 | | | $ | 10,787 | |
Goodwill from business combinations (including contingent payments) | | | 30 | | | | 373 | | | | — | | | | 403 | |
Foreign currency translation adjustments | | | — | | | | — | | | | 2 | | | | 2 | |
Realignment of businesses (primarily insurance) | | | (19 | ) | | | 19 | | | | — | | | | -- | |
| | | | | | | | | | | | |
September 30, 2006 | | $ | 7,385 | | | $ | 3,439 | | | $ | 368 | | | $ | 11,192 | |
| | | | | | | | | | | | |
| |
| | | | | | | | | | | | | | | | |
| |
| | Community | | | Wholesale | | | Wells Fargo | | | Consolidated | |
(in millions) | | Banking | | | Banking | | | Financial | | | Company | |
|
| | $ | 7,374 | | | $ | 3,047 | | | $ | 366 | | | $ | 10,787 | |
Goodwill from business combinations | | | 11 | | | | 252 | | | | — | | | | 263 | |
Realignment of businesses (primarily insurance) | | | (19 | ) | | | 19 | | | | — | | | | — | |
| | | | | | | | | | | | |
March 31, 2006 | | $ | 7,366 | | | $ | 3,318 | | | $ | 366 | | | $ | 11,050 | |
| | | | | | | | | | | | |
December 31, 2006 and March 31, 2007 | | $ | 7,385 | | | $ | 3,524 | | | $ | 366 | | | $ | 11,275 | |
| | | | | | | | | | | | |
|
For our goodwill impairment analysis, we allocate all of the goodwill to the individual operating segments. For management reporting we do not allocate all of the goodwill to the individual operating segments:segments; some is allocated at the enterprise level. See Note 13 for further information on management reporting. The balances of goodwill for management reporting were:
| | | | | | | | | | | | | | | | | | | | |
| |
| | Community | | | Wholesale | | | Wells Fargo | | | | | | | Consolidated | |
(in millions) | | Banking | | | Banking | | | Financial | | | Enterprise | | | Company | |
|
September 30, 2005 | | $ | 3,516 | | | $ | 1,097 | | | $ | 366 | | | $ | 5,797 | | | $ | 10,776 | |
September 30, 2006 | | | 3,538 | | | | 1,489 | | | | 368 | | | | 5,797 | | | | 11,192 | |
| |
| | | | | | | | | | | | | | | | | | | | |
| |
| | Community | | | Wholesale | | | Wells Fargo | | | | | | | Consolidated | |
(in millions) | | Banking | | | Banking | | | Financial | | | Enterprise | | | Company | |
|
| | $ | 3,519 | | | $ | 1,368 | | | $ | 366 | | | $ | 5,797 | | | $ | 11,050 | |
| | $ | 3,538 | | | $ | 1,574 | | | $ | 366 | | | $ | 5,797 | | | $ | 11,275 | |
|
4640
9. PREFERRED STOCK
We are authorized to issue 20 million shares of preferred stock and 4 million shares of preference stock, both without par value. Preferred shares outstanding rank senior to common shares both as to dividends and liquidation preference but have no general voting rights. We have not issued any preference shares under this authorization.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Shares issued and outstanding | | Carrying amount (in millions) | | Adjustable | | | Shares issued and outstanding | | Carrying amount (in millions) | | Adjustable | |
| | Sept. 30 | , | | Dec. 31 | , | | Sept. 30 | , | | Sept. 30 | , | | Dec. 31 | , | | Sept. 30 | , | | dividends rate | | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , | | Mar. 31 | , | | Dec. 31 | , | | Mar. 31 | , | | dividends rate | |
| | 2006 | | 2005 | | 2005 | | 2006 | | 2005 | | 2005 | | Minimum | | Maximum | | | 2007 | | 2006 | | 2006 | | 2007 | | 2006 | | 2006 | | Minimum | | Maximum | |
ESOP Preferred Stock (1): | | |
| | | 363,754 | | — | | — | | $ | 364 | | $ | — | | $ | — | | | 10.75 | % | | | 11.75 | % |
2006 | | 162,493 | | — | | — | | $ | 162 | | $ | — | | $ | — | | | 10.75 | % | | | 11.75 | % | | 108,121 | | 115,521 | | 315,963 | | 108 | | 116 | | 316 | | 10.75 | | 11.75 | |
2005 | | 89,984 | | 102,184 | | 135,845 | | 90 | | 102 | | 136 | | 9.75 | | 10.75 | | | 84,284 | | 84,284 | | 95,184 | | 84 | | 84 | | 95 | | 9.75 | | 10.75 | |
2004 | | 71,280 | | 74,880 | | 81,180 | | 71 | | 75 | | 81 | | 8.50 | | 9.50 | | | 65,180 | | 65,180 | | 74,880 | | 65 | | 65 | | 75 | | 8.50 | | 9.50 | |
2003 | | 49,843 | | 52,643 | | 57,243 | | 50 | | 53 | | 57 | | 8.50 | | 9.50 | | | 44,843 | | 44,843 | | 52,643 | | 45 | | 45 | | 53 | | 8.50 | | 9.50 | |
2002 | | 37,774 | | 39,754 | | 44,554 | | 38 | | 40 | | 45 | | 10.50 | | 11.50 | | | 32,874 | | 32,874 | | 39,754 | | 33 | | 33 | | 40 | | 10.50 | | 11.50 | |
2001 | | 27,003 | | 28,263 | | 32,863 | | 27 | | 28 | | 33 | | 10.50 | | 11.50 | | | 22,303 | | 22,303 | | 28,263 | | 22 | | 22 | | 28 | | 10.50 | | 11.50 | |
2000 | | 18,542 | | 19,282 | | 23,482 | | 19 | | 19 | | 24 | | 11.50 | | 12.50 | | | 14,142 | | 14,142 | | 19,282 | | 14 | | 14 | | 19 | | 11.50 | | 12.50 | |
1999 | | 6,094 | | 6,368 | | 8,368 | | 6 | | 6 | | 8 | | 10.30 | | 11.30 | | | 4,094 | | 4,094 | | 6,368 | | 4 | | 4 | | 6 | | 10.30 | | 11.30 | |
1998 | | 1,863 | | 1,953 | | 2,853 | | 2 | | 2 | | 3 | | 10.75 | | 11.75 | | | 563 | | 563 | | 1,953 | | 1 | | 1 | | 2 | | 10.75 | | 11.75 | |
1997 | | 130 | | 136 | | 2,136 | | — | | — | | 2 | | 9.50 | | 10.50 | | | — | | — | | 136 | | — | | — | | — | | 9.50 | | 10.50 | |
1996 | | — | | — | | 370 | | — | | — | | — | | 8.50 | | 9.50 | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Total ESOP Preferred Stock | | 465,006 | | 325,463 | | 388,894 | | $ | 465 | | $ | 325 | | $ | 389 | | | 740,158 | | 383,804 | | 634,426 | | $ | 740 | | $ | 384 | | $ | 634 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Unearned ESOP shares (2) | | $ | (498 | ) | | $ | (348 | ) | | $ | (416 | ) | | | $ | (792 | ) | | $ | (411 | ) | | $ | (679 | ) | |
| | | | | | | | | | | | | | |
| | | |
| | |
(1) | | Liquidation preference $1,000. At March 31, 2007, December 31, 2006, and March 31, 2006, additional paid-in capital included $52 million, $27 million and $45 million, respectively, related to preferred stock. |
(2) | | In accordance with the American Institute of Certified Public Accountants (AICPA) Statement of Position 93-6,Employers’ Accounting for Employee Stock Ownership Plans, we recorded a corresponding charge to unearned ESOP shares in connection with the issuance of the ESOP Preferred Stock. The unearned ESOP shares are reduced as shares of the ESOP Preferred Stock are committed to be released. |
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10. COMMON STOCK PLANS
We offer several stock-based employee compensation plans, which are described below. Effective January 1, 2006, we adopted FAS 123(R),Share-Based Payment, using the “modified prospective” transition method. FAS 123(R) requires that we measure the cost of employee services received in exchange for an award of equity instruments, such as stock options or restricted share rights (RSRs), based on the fair value of the award on the grant date. The cost is normally recognized in our income statement over the vesting period of the award; awards with graded vesting are expensed on a straight-line method. Awards to retirement-eligible employees are subject to immediate expensing upon grant. Total stock option compensation expense was $108 million in the first nine months of 2006, with a related recognized tax benefit of $41 million. Stock option expense is based on the fair value of the awards at the date of grant and includes expense for awards granted in 2006 and expense for the unvested portion of awards granted prior to January 1, 2006. Prior to January 1, 2006, we did not record any compensation expense for stock options.
EMPLOYEE STOCK PLANS
Long-Term Incentive Compensation Plans Our stock incentive plans provide for awards of incentive and nonqualified stock options, stock appreciation rights, restricted shares, RSRs, performance awards and stock awards without restrictions. Options must have an exercise price at or above fair market value (as defined in the plan) of the stock at the date of grant (except for substitute or replacement options granted in connection with mergers or other acquisitions) and a term of no more than 10 years. Options granted in 2003 and prior generally become exercisable over three years from the date of grant. Options granted in 2004 and the beginning of 2005 generally were fully vested upon grant. Options granted in 2006 generally become exercisable over three years from the date of grant. Except as otherwise permitted under the plan, if employment is ended for reasons other than retirement, permanent disability or death, the option period is reduced or the options are canceled.
Options granted prior to 2004 may include the right to acquire a “reload” stock option. If an option contains the reload feature and if a participant pays all or part of the exercise price of the option with shares of stock purchased in the market or held by the participant for at least six months, upon exercise of the option, the participant is granted a new option to purchase, at the fair market value of the stock as of the date of the reload, the number of shares of stock equal to the sum of the number of shares used in payment of the exercise price and a number of shares with respect to related statutory minimum withholding taxes. Reload grants are fully vested upon grant and are expensed immediately under FAS 123(R) beginning in 2006.
Holders of RSRs are entitled to the related shares of common stock at no cost generally over three to five years after the RSRs were granted. Holders of RSRs generally are entitled to receive cash payments equal to the cash dividends that would have been paid had the RSRs been issued and outstanding shares of common stock. Except in limited circumstances, RSRs are canceled when employment ends.
The compensation expense for RSRs equals the quoted market price of the related stock at the date of grant and is accrued over the vesting period. Total compensation expense for RSRs was not significant in the first nine months of 2006 and 2005.
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For various acquisitions and mergers, we converted employee and director stock options of acquired or merged companies into stock options to purchase our common stock based on the terms of the original stock option plan and the agreed-upon exchange ratio.
Broad-Based Plans In 1996, we adopted thePartnerShares® Stock Option Plan, a broad-based employee stock option plan. It covers full- and part-time employees who generally were not included in the long-term incentive compensation plans described above. At September 30, 2006, there were 9,125,030 shares available for grant. The exercise date of options granted to date under thePartnerSharesPlan is the earlier of (1) five years after the date of grant or (2) when the quoted market price of the stock reaches a predetermined price. These options generally expire 10 years after the date of grant. No options have been granted under thePartnerSharesPlans since 2002. Because the exercise price of eachPartnerSharesgrant has been equal to or higher than the quoted market price of our common stock at the date of grant, we did not recognize any compensation expense in 2005 and prior years. In 2006, under FAS 123(R), we began to recognize expense related to these grants, based on the remaining vesting period.
DIRECTOR PLANS
We provide a stock award to non-employee directors as part of their annual retainer under our director plans. We also provide annual grants of options to purchase common stock to each non-employee director elected or re-elected at the annual meeting of stockholders. The options can be exercised after six months and through the tenth anniversary of the grant date.
49
The table below summarizes stock option activity and related information for the first nine months of 2006.
| | | | | | | | | | | | | | | | |
| |
| | | | | | | | | | Weighted- | | | | |
| | | | | | Weighted- | | | average | | | | |
| | | | | | average | | | remaining | | | Aggregate | |
| | | | | | exercise | | | contractual | | | intrinsic value | |
| | Number | | | price | | | term (in yrs.) | | | (in millions) | |
| |
Long-Term Incentive Compensation Plans | | | | | | | | | | | | | | | | |
Options outstanding as of December 31, 2005 | | | 221,182,224 | | | $ | 24.82 | | | | | | | | | |
First nine months of 2006: | | | | | | | | | | | | | | | | |
Granted | | | 43,933,400 | | | | 32.55 | | | | | | | | | |
Canceled or forfeited | | | (861,988 | ) | | | 30.88 | | | | | | | | | |
Exercised | | | (34,744,922 | ) | | | 22.80 | | | | | | | | | |
| | | | | | | | | | | | | | | |
Options outstanding as of September 30, 2006 | | | 229,508,714 | | | | 26.59 | | | | 6.1 | | | $ | 2,202 | |
| | | | | | | | | | | | | | | |
As of September 30, 2006: | | | | | | | | | | | | | | | | |
Options exercisable and expected to be exercisable (1) | | | 227,906,580 | | | | 26.55 | | | | 6.1 | | | | 2,196 | |
Options exercisable | | | 191,130,236 | | | | 25.50 | | | | 5.4 | | | | 2,042 | |
Broad-Based Plans | | | | | | | | | | | | | | | | |
Options outstanding as of December 31, 2005 | | | 48,985,522 | | | $ | 22.75 | | | | | | | | | |
First nine months of 2006: | | | | | | | | | | | | | | | | |
Canceled or forfeited | | | (1,785,224 | ) | | | 24.79 | | | | | | | | | |
Exercised | | | (7,848,848 | ) | | | 20.31 | | | | | | | | | |
| | | | | | | | | | | | | | | |
Options outstanding as of September 30, 2006 | | | 39,351,450 | | | | 23.15 | | | | 4.3 | | | $ | 513 | |
| | | | | | | | | | | | | | | |
As of September 30, 2006: | | | | | | | | | | | | | | | | |
Options exercisable and expected to be exercisable (1) | | | 39,191,022 | | | | 23.14 | | | | 4.3 | | | | 511 | |
Options exercisable | | | 21,166,000 | | | | 21.38 | | | | 3.3 | | | | 313 | |
Director Plans | | | | | | | | | | | | | | | | |
Options outstanding as of December 31, 2005 | | | 779,028 | | | $ | 24.33 | | | | | | | | | |
First nine months of 2006: | | | | | | | | | | | | | | | | |
Granted | | | 91,219 | | | | 32.69 | | | | | | | | | |
Exercised | | | (55,440 | ) | | | 15.43 | | | | | | | | | |
| | | | | | | | | | | | | | | |
Options outstanding as of September 30, 2006 | | | 814,807 | | | | 25.88 | | | | 5.8 | | | $ | 8 | |
| | | | | | | | | | | | | | | |
As of September 30, 2006: | | | | | | | | | | | | | | | | |
Options exercisable and expected to be exercisable (1) | | | 814,807 | | | | 25.88 | | | | 5.8 | | | | 8 | |
Options exercisable | | | 724,748 | | | | 25.03 | | | | 5.3 | | | | 8 | |
| |
| | |
(1) | | Adjusted for estimated forfeitures. |
As of September 30, 2006, there was $105 million of unrecognized compensation cost related to stock options. That cost is expected to be recognized over a weighted-average period of 2.3 years.
The total intrinsic value of options exercised during the first nine months of 2006 and 2005 was $485 million and $213 million, respectively.
Cash received from the exercise of options for the first nine months of 2006 and 2005 was $893 million and $418 million, respectively. The actual tax benefit recognized in stockholders’
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equity for the tax deductions from the exercise of options totaled $179 million and $80 million for the first nine months of 2006 and 2005, respectively.
We do not have a specific policy on repurchasing shares to satisfy share option exercises. Rather, we have a general policy on repurchasing shares to meet common stock issuance requirements for our benefit plans (including share option exercises), conversion of our convertible securities, acquisitions, and other corporate purposes. Various factors determine the amount and timing of our share repurchases, including our capital requirements, the number of shares we expect to issue for acquisitions and employee benefit plans, market conditions (including the trading price of our stock), and legal considerations. These factors can change at any time, and there can be no assurance as to the number of shares we will repurchase or when we will repurchase them.
Effective with the adoption of FAS 123(R), the fair value of each option award granted on or after January 1, 2006, is estimated using a Black-Scholes valuation model. The expected term of options granted is generally based on the historical exercise behavior of full-term options. Our expected volatilities are based on a combination of the historical volatility of our common stock and implied volatilities for traded options on our common stock. The risk-free rate is based on the U.S. Treasury zero-coupon yield curve in effect at the time of grant. Both expected volatility and the risk-free rates are based on a period commensurate with our expected term. The expected dividend is based on the current dividend, our historical pattern of dividend increases and the current market price of our stock.
Prior to the adoption of FAS 123(R), we also used a Black-Scholes valuation model to estimate the fair value of options granted for the pro forma disclosures of net income and earnings per common share that were required by FAS 123.
Effective with the adoption of FAS 123(R), we changed our method of estimating our volatility assumption. Prior to 2006, we used a volatility based on historical stock price changes. Effective January 1, 2006, we used a volatility based on a combination of historical stock price changes and implied volatilities of traded options as both volatilities are relevant in estimating our expected volatility.
The following table presents the weighted-average per share fair value of options granted and the assumptions used, based on a Black-Scholes valuation model.
| | | | | | | | |
| |
| | Nine months ended Sept. 30 | , |
| | 2006 | | | 2005 | |
| |
Per share fair value of options granted: | | | | | | | | |
Long-Term Incentive Compensation Plans | | $ | 4.06 | | | $ | 3.77 | |
Director Plans | | | 4.66 | | | | 3.13 | |
Expected volatility | | | 16.2 | % | | | 16.3 | % |
Expected dividends | | | 3.4 | | | | 3.4 | |
Expected term (in years) | | | 4.4 | | | | 4.4 | |
Risk-free interest rate | | | 4.4 | % | | | 4.0 | % |
| |
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A summary of the status of our RSRs at September 30, 2006, and changes during the first nine months of 2006 is in the following table:
| | | | | | | | |
| |
| | | | | | Weighted-average grant-date | |
| | Number | | | fair value | |
| |
Nonvested at January 1, 2006 | | | 212,366 | | | | $26.92 | |
Granted | | | 15,200 | | | | 32.93 | |
Vested | | | (91,800 | ) | | | 24.75 | |
| | | | | | | |
Nonvested at September 30, 2006 | | | 135,766 | | | | 29.05 | |
| | | | | | | |
| |
The weighted-average grant-date fair value of RSRs granted during the first nine months of 2005 was $30.74. At September 30, 2006, there was $2 million of total unrecognized compensation cost related to nonvested RSRs. The cost is expected to be recognized over a weighted-average period of 3.1 years. The total fair value of RSRs that vested during the first nine months of 2006 and 2005 was $3 million and $4 million, respectively.
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11. EMPLOYEE BENEFITS
We sponsor noncontributory qualified defined benefit retirement plans including the Cash Balance Plan. The Cash Balance Plan is an active plan that covers eligible employees (except employees of certain subsidiaries).
We do not expect that we will not be required to make a minimum contribution in 20062007 for the Cash Balance Plan. We are currently assessingThe maximum we can contribute in 2007 for the Cash Balance Plan depends on several factors, including the finalization of participant data. Our decision on how much to contribute, if any, to the Cash Balance Plan this year. Our decision depends on severalother factors, including the actual investment performance of plan assets. WeGiven these uncertainties, we cannot at this time reliably estimate the maximum deductible contribution or the amount that we will contribute in 20062007 to the Cash Balance Plan.
The net periodic benefit cost for the thirdfirst quarter 2007 and first nine months of 2006 and 2005 was:
| | | | | | | | | | | | | | | | | | | | | | | | | |
| | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | Quarter ended March 31 | , |
| | | | 2007 | | 2006 | |
| | Pension benefits | | Pension benefits | | | Pension benefits | | Pension benefits | | | |
| | Non- | | Other | | Non- | | Other | | | Non- | | Other | | Non- | | Other | |
(in millions) | | Qualified | | qualified | | benefits | | Qualified | | qualified | | benefits | | | Qualified | | qualified | | benefits | | Qualified | | qualified | | benefits | |
Quarter ended September 30, | | 2006 | | 2005 | | |
| | |
Service cost | | $ | 62 | | $ | 4 | | $ | 4 | | $ | 51 | | $ | 6 | | $ | 5 | | | $ | 70 | | $ | 4 | | $ | 4 | | $ | 62 | | $ | 4 | | $ | 4 | |
Interest cost | | 56 | | 4 | | 10 | | 55 | | 3 | | 11 | | | 61 | | 4 | | 10 | | 56 | | 4 | | 10 | |
Expected return on plan assets | | | (105 | ) | | — | | | (8 | ) | | | (98 | ) | | — | | | (6 | ) | | | (113 | ) | | — | | | (9 | ) | | | (105 | ) | | — | | | (8 | ) |
Recognized net actuarial loss (1) | | 14 | | 2 | | 1 | | 17 | | 1 | | 2 | | |
Amortization of net actuarial loss (1) | | | 8 | | 3 | | 1 | | 14 | | 2 | | 2 | |
Amortization of prior service cost | | — | | — | | | (1 | ) | | | (1 | ) | | | (1 | ) | | — | | | — | | — | | | (1 | ) | | — | | — | | | (1 | ) |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Net periodic benefit cost | | $ | 27 | | $ | 10 | | $ | 6 | | $ | 24 | | $ | 9 | | $ | 12 | | | $ | 26 | | $ | 11 | | $ | 5 | | $ | 27 | | $ | 10 | | $ | 7 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
Nine months ended September 30, | | |
Service cost | | $ | 186 | | $ | 12 | | $ | 12 | | $ | 155 | | $ | 16 | | $ | 15 | | |
Interest cost | | 168 | | 12 | | 30 | | 165 | | 10 | | 33 | | |
Expected return on plan assets | | | (315 | ) | | — | | | (24 | ) | | | (294 | ) | | — | | | (19 | ) | |
Recognized net actuarial loss (1) | | 42 | | 6 | | 4 | | 51 | | 3 | | 7 | | |
Amortization of prior service cost | | — | | — | | | (3 | ) | | | (3 | ) | | | (2 | ) | | | (1 | ) | |
Special termination benefits | | 2 | | — | | — | | — | | — | | — | | |
Curtailment gain | | — | | — | | | (9 | ) | | — | | — | | — | | |
| | | | | | | | | | | | | | |
Net periodic benefit cost | | $ | 83 | | $ | 30 | | $ | 10 | | $ | 74 | | $ | 27 | | $ | 35 | | |
| | | | | | | | | | | | | | |
| | |
| | |
(1) | | Net actuarial loss is generally amortized over five years. |
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11. INCOME TAXES
On January 1, 2007, we adopted FIN 48,Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109. Implementation of FIN 48 did not result in a cumulative effect adjustment to retained earnings at the date of adoption. At January 1, 2007, the total amount of unrecognized tax benefits was $3.1 billion, of which $1.7 billion was related to tax benefits that, if recognized, would impact the annual effective tax rate. We recognize both interest and penalties as a component of income tax expense. The liability for unrecognized tax benefits included $262 million of interest and no penalties. It is reasonably possible that the total unrecognized tax benefit as of January 1, 2007, could decrease by an estimated $380 million by December 31, 2007, as a result of expiration of statutes of limitations and potential settlements with federal and state taxing authorities. It is also reasonably possible that this benefit could be substantially offset by new matters arising during the same period. The Company files a consolidated federal income tax return and the Company and its subsidiaries file income tax returns in various state and foreign jurisdictions. With few exceptions, we are not subject to federal or foreign income tax examinations for taxable years prior to 2003, or state and local examinations prior to 2002.
We expect that the adoption of FIN 48 will result in increased volatility in our annual effective income tax rate because FIN 48 requires that any change in judgment or change in measurement of a tax position taken in a prior annual period be recognized as a discrete event in the period in which it occurs. The effective tax rate in first quarter 2007 was impacted by a $119 million net reduction to income tax expense. The net decrease, including refund interest, was primarily due to the resolution during the quarter of certain outstanding federal income tax matters for periods prior to 2002.
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12. EARNINGS PER COMMON SHARE
The table below shows earnings per common share and diluted earnings per common share and reconciles the numerator and denominator of both earnings per common share calculations.
| | | | | | | | | | | | | | | | | |
| | | | | | | | | | |
| | Quarter | | Nine months | | | |
| | ended Sept. 30 | , | | ended Sept. 30 | , | | Quarter ended March 31 | , |
(in millions, except per share amounts) | | 2006 | | 2005 | | 2006 | | 2005 | | | 2007 | | 2006 | |
| | | |
Net income (numerator) | | $ | 2,194 | | $ | 1,975 | | $ | 6,301 | | $ | 5,741 | | | $ | 2,244 | | $ | 2,018 | |
| | | | | | | | | | | | | | |
EARNINGS PER COMMON SHARE | | |
Average common shares outstanding (denominator) | | 3,371.9 | | 3,373.5 | | 3,364.6 | | 3,379.8 | | | 3,376.0 | | 3,358.3 | |
| | | | | | | | | | | | | | |
Per share | | $ | 0.65 | | $ | 0.59 | | $ | 1.87 | | $ | 1.70 | | | $ | 0.66 | | $ | 0.60 | |
| | | | | | | | | | | | | | |
DILUTED EARNINGS PER COMMON SHARE | | |
Average common shares outstanding | | 3,371.9 | | 3,373.5 | | 3,364.6 | | 3,379.8 | | | 3,376.0 | | 3,358.3 | |
Add: Stock options | | 44.0 | | 36.5 | | 40.8 | | 38.3 | | | 40.0 | | 37.3 | |
Restricted share rights | | 0.1 | | 0.6 | | 0.1 | | 0.6 | | | 0.1 | | 0.1 | |
| | | | | | | | | | | | | | |
Diluted average common shares outstanding (denominator) | | 3,416.0 | | 3,410.6 | | 3,405.5 | | 3,418.7 | | | 3,416.1 | | 3,395.7 | |
| | | | | | | | | | | | | | |
Per share | | $ | 0.64 | | $ | 0.58 | | $ | 1.85 | | $ | 1.68 | | | $ | 0.66 | | $ | 0.60 | |
| | | | | | | | | | | | | | |
| | | |
In third quarterAt March 31, 2007 and 2006, and 2005, options to purchase 4.46.1 million and 8.839.2 million shares, respectively, were outstanding but not included in the calculation of diluted earnings per common share because the exercise price was higher than the market price, and therefore they were antidilutive.
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13. OPERATING SEGMENTS
We have three lines of business for management reporting: Community Banking, Wholesale Banking and Wells Fargo Financial. The results for these lines of business are based on our management accounting process, which assigns balance sheet and income statement items to each responsible operating segment. This process is dynamic and, unlike financial accounting, there is no comprehensive, authoritative guidance for management accounting equivalent to generally accepted accounting principles. The management accounting process measures the performance of the operating segments based on our management structure and is not necessarily comparable with similar information for other financial services companies. We define our operating segments by product type and customer segments. If the management structure and/or the allocation process changes, allocations, transfers and assignments may change. To reflect the realignment of our insurance business into Wholesale Banking in first quarter 2006, results for prior periods have been revised.
The Community Banking Groupoffers a complete line of diversified financial products and services to consumers and small businesses with annual sales generally up to $20 million in which the owner generally is the financial decision maker. Community Banking also offers investment management and other services to retail customers and high net worth individuals, securities brokerage through affiliates and venture capital financing. These products and services include theWells Fargo Advantage FundsSM, a family of mutual funds, as well as personal trust and agency assets. Loan products include lines of credit, equity lines and loans, equipment and transportation (recreational vehicle and marine) loans, education loans, origination and purchase of residential mortgage loans and servicing of mortgage loans and credit cards. Other credit products and financial services available to small businesses and their owners include receivables and inventory financing, equipment leases, real estate financing, Small Business Administration financing, venture capital financing, cash management, payroll services, retirement plans, Health Savings Accounts and credit and debit card processing. Consumer and business deposit products include checking accounts, savings deposits, market rate accounts, Individual Retirement Accounts (IRAs), time deposits and debit cards.
Community Banking serves customers through a wide range of channels, which include traditional banking stores, in-store banking centers, business centers and ATMs. Also,Phone BankSM centers and the National Business Banking Center provide 24-hour telephone service. Online banking services include single sign-on to online banking, bill pay and brokerage, as well as online banking for small business.
The Wholesale Banking Groupserves businesses across the United States with annual sales generally in excess of $10 million. Wholesale Banking provides a complete line of commercial, corporate and real estate banking products and services. These include traditional commercial loans and lines of credit, letters of credit, asset-based lending, equipment leasing, mezzanine financing, high-yield debt, international trade facilities, foreign exchange services, treasury management, investment management, institutional fixed income and equity sales, interest rate, commodity and equity risk management, online/electronic products such as theCommercial Electronic Office® (CEO®) portal, insurance and investment banking services. Wholesale Banking manages and administers institutional investments, employee benefit trusts and mutual funds, including theWells Fargo Advantage Funds. Wholesale Banking includes the majority ownership interest in the Wells Fargo HSBC Trade Bank, which provides trade financing, letters of credit
55
and collection services and is sometimes supported by the Export-Import Bank of the United States (a public agency of the United States offering export finance support for American-made
45
products). Wholesale Banking also supports the commercial real estate market with products and services such as construction loans for commercial and residential development, land acquisition and development loans, secured and unsecured lines of credit, interim financing arrangements for completed structures, rehabilitation loans, affordable housing loans and letters of credit, permanent loans for securitization, commercial real estate loan servicing and real estate and mortgage brokerage services.
Wells Fargo Financialincludes consumer finance and auto finance operations. Consumer finance operations make direct consumer and real estate loans to individuals and purchase sales finance contracts from retail merchants from offices throughout the United States, and in Canada Latin America, the Caribbean and the Pacific Rim. Automobile finance operations specialize in purchasing sales finance contracts directly from automobile dealers and making loans secured by automobiles in the United States, Canada and Puerto Rico. Wells Fargo Financial also provides credit cards and lease and other commercial financing.
The Consolidated Companytotal of average assets includes unallocated goodwill balances held at the enterprise level.
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| | | | |
(income/expense in millions, | | Community | | Wholesale | | Wells Fargo | | Consolidated | | | Community | | Wholesale | | Wells Fargo | | Consolidated | |
average balances in billions) | | Banking | | Banking | | Financial | | Company | | | Banking | | Banking | | Financial | | Company | |
Quarter ended September 30, | | 2006 | | 2005 | | 2006 | | 2005 | | 2006 | | 2005 | | 2006 | | 2005 | | |
Net interest income (1) | | $ | 3,292 | | $ | 3,209 | | $ | 751 | | $ | 598 | | $ | 1,004 | | $ | 869 | | $ | 5,047 | | $ | 4,676 | | |
Provision for credit losses | | 236 | | 226 | | — | | — | | 377 | | 415 | | 613 | | 641 | | |
Noninterest income | | 2,492 | | 2,619 | | 1,033 | | 893 | | 362 | | 315 | | 3,887 | | 3,827 | | |
Noninterest expense | | 3,392 | | 3,350 | | 999 | | 895 | | 690 | | 644 | | 5,081 | | 4,889 | | |
| | | | | | | | | | | | | | | | | | |
Income before income tax expense | | 2,156 | | 2,252 | | 785 | | 596 | | 299 | | 125 | | 3,240 | | 2,973 | | |
Income tax expense | | 683 | | 759 | | 258 | | 193 | | 105 | | 46 | | 1,046 | | 998 | | |
| | | | | | | | | | | | | | | | | | |
Net income | | $ | 1,473 | | $ | 1,493 | | $ | 527 | | $ | 403 | | $ | 194 | | $ | 79 | | $ | 2,194 | | $ | 1,975 | | |
| | | | | | | | | | | | | | | | | | |
Average loans | | $ | 172.5 | | $ | 184.4 | | $ | 72.3 | | $ | 63.3 | | $ | 59.2 | | $ | 47.9 | | $ | 304.0 | | $ | 295.6 | | |
Average assets (2) | | 326.7 | | 298.8 | | 97.5 | | 90.1 | | 64.7 | | 53.5 | | 494.7 | | 448.2 | | |
Average core deposits | | 231.2 | | 223.5 | | 29.1 | | 23.6 | | 0.1 | | 0.1 | | 260.4 | | 247.2 | | |
Nine months ended September 30, | | |
| | |
Quarter ended March 31, | | | 2007 | | 2006 | | 2007 | | 2006 | | 2007 | | 2006 | | 2007 | | 2006 | |
Net interest income (1) | | $ | 9,869 | | $ | 9,421 | | $ | 2,137 | | $ | 1,755 | | $ | 2,895 | | $ | 2,489 | | $ | 14,901 | | $ | 13,665 | | | $ | 3,224 | | $ | 3,256 | | $ | 781 | | $ | 680 | | $ | 1,005 | | $ | 934 | | $ | 5,010 | | $ | 4,870 | |
Provision (reversal of provision) for credit losses | | 612 | | 610 | | | (9 | ) | | | (6 | ) | | 875 | | 1,076 | | 1,478 | | 1,680 | | | 306 | | 189 | | 13 | | | (2 | ) | | 396 | | 246 | | 715 | | 433 | |
Noninterest income | | 7,033 | | 6,986 | | 3,214 | | 2,849 | | 1,130 | | 957 | | 11,377 | | 10,792 | | | 2,847 | | 2,143 | | 1,265 | | 1,096 | | 319 | | 446 | | 4,431 | | 3,685 | |
Noninterest expense | | 10,264 | | 9,636 | | 3,009 | | 2,611 | | 2,058 | | 1,888 | | 15,331 | | 14,135 | | | 3,640 | | 3,387 | | 1,137 | | 992 | | 749 | | 695 | | 5,526 | | 5,074 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Income before income tax expense | | 6,026 | | 6,161 | | 2,351 | | 1,999 | | 1,092 | | 482 | | 9,469 | | 8,642 | | | 2,125 | | 1,823 | | 896 | | 786 | | 179 | | 439 | | 3,200 | | 3,048 | |
Income tax expense | | 2,007 | | 2,075 | | 773 | | 655 | | 388 | | 171 | | 3,168 | | 2,901 | | | 593 | | 613 | | 298 | | 258 | | 65 | | 159 | | 956 | | 1,030 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Net income | | $ | 4,019 | | $ | 4,086 | | $ | 1,578 | | $ | 1,344 | | $ | 704 | | $ | 311 | | $ | 6,301 | | $ | 5,741 | | | $ | 1,532 | | $ | 1,210 | | $ | 598 | | $ | 528 | | $ | 114 | | $ | 280 | | $ | 2,244 | | $ | 2,018 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Average loans | | $ | 178.8 | | $ | 186.0 | | $ | 70.1 | | $ | 61.3 | | $ | 56.2 | | $ | 45.6 | | $ | 305.1 | | $ | 292.9 | | | $ | 180.8 | | $ | 190.4 | | $ | 77.9 | | $ | 67.6 | | $ | 62.7 | | $ | 53.1 | | $ | 321.4 | | $ | 311.1 | |
Average assets (2) | | 322.9 | | 292.7 | | 96.9 | | 88.1 | | 61.6 | | 51.5 | | 487.2 | | 438.1 | | | 307.0 | | 314.8 | | 101.0 | | 95.9 | | 68.3 | | 58.7 | | 482.1 | | 475.2 | |
Average core deposits | | 230.0 | | 214.9 | | 27.3 | | 24.3 | | 0.1 | | — | | 257.4 | | 239.2 | | | 243.9 | | 229.0 | | 46.7 | | 28.4 | | — | | 0.1 | | 290.6 | | 257.5 | |
| | | | |
| | |
(1) | | Net interest income is the difference between interest earned on assets and the cost of liabilities to fund those assets. Interest earned includes actual interest earned on segment assets and, if the segment has excess liabilities, interest credits for providing funding to other segments. The cost of liabilities includes interest expense on segment liabilities and, if the segment does not have enough liabilities to fund its assets, a funding charge based on the cost of excess liabilities from another segment. In general, Community Banking has excess liabilities and receives interest credits for the funding it provides to other segments. |
(2) | | The Consolidated Company balance includes unallocated goodwill held at the enterprise level of $5.8 billion for all periods presented.both first quarter 2007 and 2006. |
5646
14. VARIABLE INTEREST ENTITIES
We are a variable interest holder in certain special-purpose entities that are consolidated because we absorb a majority of each entity’s expected losses, receive a majority of each entity’s expected returns or both. We do not hold a majority voting interest in these entities. Our consolidated variable interest entities, substantially all of which were formed to invest in securities and to securitize real estate investment trust securities, had approximately $3.2$3.7 billion and $2.5$3.4 billion in total assets at September 30, 2006,March 31, 2007, and December 31, 2005,2006, respectively. The primary activities of these entities consist of acquiring and disposing of, and investing and reinvesting in securities, and issuing beneficial interests secured by those securities to investors. The creditors of a majority of these consolidated entities have no recourse against us.
We also hold variable interests greater than 20% but less than 50% in certain special-purpose entities formed to provide affordable housing and to securitize corporate debt that had approximately $2.8$3.7 billion and $2.9 billion in total assets at September 30, 2006,March 31, 2007, and December 31, 2005,2006, respectively. We are not required to consolidate these entities. Our maximum exposure to loss as a result of our involvement with these unconsolidated variable interest entities was approximately $820 million$1.2 billion and $870$980 million at September 30, 2006,March 31, 2007, and December 31, 2005,2006, respectively, predominantlylargely representing investments in entities formed to invest in affordable housing. However, we expect to recover our investment over time, primarily through realization of federal low-income housing tax credits.
5747
15. MORTGAGE BANKING ACTIVITIES
Mortgage banking activities, included in the Community Banking and Wholesale Banking operating segments, consist of residential and commercial mortgage originations and servicing.
Effective January 1, 2006, upon adoption of FAS 156, we remeasured our residential mortgage servicing rights (MSRs) at fair value and recognized a pre-tax adjustment of $158 million to residential MSRs and recorded a corresponding cumulative effect adjustment of $101 million (after tax) to increase the 2006 beginning balance of retained earnings in our Statement of Changes in Stockholders’ Equity. The table below reconciles the December 31, 2005, and January 1, 2006, balance of MSRs.
| | | | | | | | | | | | |
| |
| | Residential | | | Commercial | | | Total | |
(in millions) | | MSRs | | | MSRs | | | MSRs | |
| |
Balance at December 31, 2005 | | $ | 12,389 | | | $ | 122 | | | $ | 12,511 | |
Remeasurement upon adoption of FAS 156 | | | 158 | | | | — | | | | 158 | |
| | | | | | | | | |
Balance at January 1, 2006 | | $ | 12,547 | | | $ | 122 | | | $ | 12,669 | |
| | | | | | | | | |
| |
stockholders’ equity.The changes in residential MSRs measured using the fair value method were:
| | | | | | | | | | | | | | | | |
| | | | |
| | Quarter ended | | Nine months ended | | | Quarter ended March 31 | , |
(in millions) | | Sept. 30, 2006 | | Sept. 30, 2006 | | | 2007 | | 2006 | |
| | | | |
Fair value, beginning of period | | $ | 15,650 | | $ | 12,547 | | |
Fair value, beginning of quarter | | | $ | 17,591 | | $ | 12,547 | |
Purchases | | 2,907 | | 3,637 | | | 159 | | 219 | |
Servicing from securitizations or asset transfers | | 965 | | 3,264 | | | 828 | | 989 | |
Changes in fair value: | | |
Due to changes in valuation model inputs or assumptions (1) | | | (1,147 | ) | | | (75 | ) | |
Due to change in valuation model inputs or assumptions (1) | | | | (11 | ) | | 522 | |
Other changes in fair value (2) | | | (663 | ) | | | (1,661 | ) | | | (788 | ) | | | (477 | ) |
| | | | | | | | | | |
Fair value, end of period | | $ | 17,712 | | $ | 17,712 | | |
Fair value, end of quarter | | | $ | 17,779 | | $ | 13,800 | |
| | | | | | | | | | |
| | | |
| | |
(1) | | Principally reflects changes in discount rates and prepayment speed assumptions, mostly due to changes in interest rates. |
(2) | | Represents changes due to collection/realization of expected cash flows over time. |
58
The changes in amortized MSRs were:
| | | | | | | | | | | | | | | | |
| |
| | Quarter ended Sept. 30 | , | | Nine months ended Sept. 30 | , |
(in millions) | | 2006 | | | 2005 | | | 2006 | | | 2005 | |
| |
Balance, beginning of period | | $ | 175 | | | $ | 10,096 | | | $ | 122 | | | $ | 9,466 | |
Purchases (1) | | | 161 | | | | 783 | | | | 225 | | | | 1,771 | |
Servicing from securitizations or asset transfers (1) | | | 2 | | | | 850 | | | | 2 | | | | 1,764 | |
Amortization | | | (10 | ) | | | (542 | ) | | | (21 | ) | | | (1,505 | ) |
Other (includes changes due to hedging) | | | — | | | | 766 | | | | — | | | | 457 | |
| | | | | | | | | | | | |
Balance, end of period | | $ | 328 | | | $ | 11,953 | | | $ | 328 | | | $ | 11,953 | |
| | | | | | | | | | | | |
Valuation allowance: | | | | | | | | | | | | | | | | |
Balance, beginning of period | | $ | — | | | $ | 1,598 | | | $ | — | | | $ | 1,565 | |
Reversal of provision for MSRs in excess of fair value | | | — | | | | (356 | ) | | | — | | | | (323 | ) |
| | | | | | | | | | | | |
Balance, end of period | | $ | — | | | $ | 1,242 | | | $ | — | | | $ | 1,242 | |
| | | | | | | | | | | | |
Amortized MSRs, net | | $ | 328 | | | $ | 10,711 | | | $ | 328 | | | $ | 10,711 | |
| | | | | | | | | | | | |
Fair value of amortized MSRs: | | | | | | | | | | | | | | | | |
Beginning of period | | $ | 252 | | | $ | 8,517 | | | $ | 146 | | | $ | 7,913 | |
End of period | | | 440 | | | | 10,845 | | | | 440 | | | | 10,845 | |
| |
| | | | | | | | |
| |
| | Quarter ended March 31 | , |
(in millions) | | 2007 | | | 2006 | |
| |
Balance, beginning of quarter | | $ | 377 | | | $ | 122 | |
Purchases (1) | | | 29 | | | | 25 | |
Servicing from securitizations or asset transfers (1) | | | 10 | | | | — | |
Amortization | | | (16 | ) | | | (5 | ) |
| | | | | | |
Balance, end of quarter (2) | | $ | 400 | | | $ | 142 | |
| | | | | | |
Fair value of amortized MSRs: | | | | | | | | |
Beginning of quarter | | $ | 457 | | | $ | 146 | |
End of quarter | | | 484 | | | | 205 | |
| |
| | |
(1) | | Based on September 30, 2006,March 31, 2007, assumptions, the weighted-average amortization period for MSRs added during the third quarter and first nine months of 2006 was approximately 18.0 years and 16.2 years, respectively.11.7 years. |
(2) | | There was no valuation allowance recorded for the periods presented. |
48
The components of our managed servicing portfolio were:
| | | | | | | | | | | | | | | | |
| | | | |
| | September 30 | , | | March 31 | , |
(in billions) | | 2006 | | 2005 | | | 2007 | | 2006 | |
| | | | |
Loans serviced for others (1) | | $ | 1,235 | | $ | 815 | | | $ | 1,309 | | $ | 931 | |
Owned loans serviced (2) | | 90 | | 115 | | | 88 | | 110 | |
| | | | | | | | | | |
Total owned servicing | | 1,325 | | 930 | | | 1,397 | | 1,041 | |
Sub-servicing | | 20 | | 29 | | | 26 | | 25 | |
| | | | | | | | | | |
Total managed servicing portfolio | | $ | 1,345 | | $ | 959 | | | $ | 1,423 | | $ | 1,066 | |
| | | | | | | | | | |
Ratio of MSRs to related loans serviced for others | | | 1.46 | % | | | 1.31 | % | | | 1.39 | % | | | 1.50 | % |
| | | | |
| | |
(1) | | Consists of 1-4 family first mortgage and commercial mortgage loans.
|
(2) | | Consists of mortgages held for sale and 1-4 family first mortgage loans. |
59
The components of mortgage banking noninterest income were:
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Quarter ended Sept. 30 | , | | Nine months ended Sept. 30 | , | | Quarter ended March 31 | , |
(in millions) | | 2006 | | 2005 | | 2006 | | 2005 | | | 2007 | | 2006 | |
| | | | |
Servicing income, net: | | |
Servicing fees (1) | | $ | 947 | | $ | 619 | | $ | 2,514 | | $ | 1,782 | | | $ | 1,054 | | $ | 747 | |
Changes in fair value of residential MSRs: | | |
Due to changes in valuation model inputs or assumptions (2) | | | (1,147 | ) | | — | | | (75 | ) | | — | | | | (11 | ) | | 522 | |
Other changes in fair value (3) | | | (663 | ) | | — | | | (1,661 | ) | | -- | | | | (788 | ) | | | (477 | ) |
Amortization | | | (10 | ) | | | (542 | ) | | | (21 | ) | | | (1,505 | ) | | | (16 | ) | | | (5 | ) |
Reversal of provision for MSRs in excess of fair value | | — | | 356 | | — | | 323 | | |
Net derivative gains (losses): | | |
Fair value accounting hedges (4) | | — | | | (60 | ) | | — | | 130 | | |
Economic hedges (5) | | 1,061 | | — | | | (178 | ) | | — | | |
Net derivative losses from economic hedges (4) | | | | (23 | ) | | | (706 | ) |
| | | | | | | | | | | | | | |
Total servicing income, net | | 188 | | 373 | | 579 | | 730 | | | 216 | | 81 | |
Net gains on mortgage loan origination/sales activities | | 179 | | 273 | | 811 | | 816 | | | 495 | | 273 | |
All other | | 117 | | 97 | | 244 | | 248 | | | 79 | | 61 | |
| | | | | | | | | | | | | | |
Total mortgage banking noninterest income | | $ | 484 | | $ | 743 | | $ | 1,634 | | $ | 1,794 | | | $ | 790 | | $ | 415 | |
| | | �� | | | | | | | | | | | | |
Market-related valuation changes to MSRs, net of hedge results (2) + (5) | | $ | (86 | ) | | $ | (253 | ) | | |
Market-related valuation changes to MSRs, net of hedge results (2) + (4) | | | $ | (34 | ) | | $ | (184 | ) |
| | | | | | | | | | |
| | | | |
| | |
(1) | | Includes contractually specified servicing fees, late charges and other ancillary revenues. |
(2) | | Principally reflects changes in discount rates and prepayment speed assumptions, mostly due to changes in interest rates. |
(3) | | Represents changes due to collection/realization of expected cash flows over time. |
(4) | | Results related to MSRs fair value hedging activities under FAS 133,Accounting for Derivative Instruments and Hedging Activities(as amended), consist of gains and losses excluded from the evaluation of hedge effectiveness and the ineffective portion of the change in the value of these derivatives. Gains and losses excluded from the evaluation of hedge effectiveness are those caused by market conditions (volatility) and the spread between spot and forward rates priced into the derivative contracts (the passage of time). See Note 19 – Fair Value Hedges for additional discussion and detail. |
(5) | | Represents results from free-standing derivatives (economic hedges) used to hedge the risk of changes in fair value of MSRs. See Note 19 –20 — Free-Standing Derivatives for additional discussion and detail. |
6049
16. FAIR VALUES OF ASSETS AND LIABILITIES
Effective January 1, 2007, upon adoption of FAS 159,The Fair Value Option for Financial Assets and Financial Liabilities, including an amendment of FASB Statement No. 115,we elected to measure mortgages held for sale (MHFS) at fair value prospectively for new prime MHFS originations for which an active secondary market and readily available market prices currently exist to reliably support fair value pricing models used for these loans. We also elected to remeasure at fair value certain of our other interests held related to residential loan sales and securitizations. We believe the election for MHFS and other interests held (which are now hedged with free-standing derivatives (economic hedges) along with our MSRs) will reduce certain timing differences and better match changes in the value of these assets with changes in the value of derivatives used as economic hedges for these assets. There was no transition adjustment required upon adoption of FAS 159 for MHFS because we continued to account for MHFS originated prior to 2007 at the lower of cost or market value. At December 31, 2006, the book value of other interests held was equal to fair value and, therefore, a transition adjustment was not required. Upon adoption of FAS 159, we were also required to adopt FAS 157,Fair Value Measurements.
In accordance with FAS 157, we group our financial assets and financial liabilities measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are:
| • | | Level 1 — Valuations for assets and liabilities traded in active exchange markets, such as the New York Stock Exchange. Level 1 also includes U.S. Treasury, other U.S. government and agency mortgage-backed securities that are traded by dealers or brokers in active markets. Valuations are obtained from readily available pricing sources for market transactions involving identical assets or liabilities. |
|
| • | | Level 2 — Valuations for assets and liabilities traded in less active dealer or broker markets. For example, MHFS are valued based on what securitization markets are currently offering for mortgage loans with similar characteristics. Valuations are obtained from third party pricing services for identical or comparable assets or liabilities. |
|
| • | | Level 3 — Valuations for assets and liabilities that are derived from other valuation methodologies, including option pricing models, discounted cash flow models and similar techniques, and not based on market exchange, dealer, or broker traded transactions. Level 3 valuations incorporate certain assumptions and projections in determining the fair value assigned to such assets or liabilities. |
50
The table below presents the balances of assets and liabilities measured at fair value on a recurring basis.
| | | | | | | | | | | | | | | | |
| |
| | March 31, 2007 | |
(in millions) | | Total | | | Level 1 | | | Level 2 | | | Level 3 | |
| |
| | $ | 6,525 | | | $ | 1,572 | | | $ | 4,599 | | | $ | 354 | |
Securities available for sale | | | 45,443 | | | | 32,412 | | | | 10,223 | | | | 2,808 | |
Mortgages held for sale | | | 25,692 | | | | — | | | | 25,692 | | | | — | |
Mortgage servicing rights (residential) | | | 17,779 | | | | — | | | | — | | | | 17,779 | |
Other assets | | | 538 | | | | 470 | | | | 58 | | | | 10 | |
| | | | | | | | | | | | |
Total | | $ | 95,977 | | | $ | 34,454 | | | $ | 40,572 | | | $ | 20,951 | |
| | | | | | | | | | | | |
| | $ | (3,056 | ) | | $ | (1,285 | ) | | $ | (1,460 | ) | | $ | (311 | ) |
| | | | | | | | | | | | |
| |
| | |
(1) | | Derivatives represent a major portion of this category. |
The changes in Level 3 assets and liabilities measured at fair value on a recurring basis are summarized as follows:
| | | | | | | | | | | | | | | | | | | | |
| |
| | Quarter ended March 31, 2007 | |
| | Trading | | | | | | | Mortgage | | | | | | | Other | |
| | assets | | | Securities | | | servicing | | | Net derivative | | | liabilities | |
| | (excluding | | | available | | | rights | | | assets and | | | (excluding | |
(in millions) | | derivatives) | | | for sale | | | (residential) | | | liabilities | | | derivatives) | |
| |
Balance, beginning of quarter | | $ | 360 | | | $ | 3,447 | | | $ | 17,591 | | | $ | (68 | ) | | $ | (282 | ) |
Total net gains (losses) included in net income | | | (41 | ) | | | — | | | | (799 | ) | | | 17 | | | | (6 | ) |
Purchases, sales, issuances and settlements, net | | | 34 | | | | (639 | ) | | | 987 | | | | — | | | | 39 | |
| | | | | | | | | | | | | | | |
Balance, end of quarter | | $ | 353 | | | $ | 2,808 | | | $ | 17,779 | | | $ | (51 | ) | | $ | (249 | ) |
| | | | | | | | | | | | | | | |
Net losses included in net income relating to assets held at March 31, 2007 (1) | | $ | (25 | )(2) | | $ | — | | | $ | (10 | )(3) | | $ | (43 | )(2) | | $ | (6 | )(3) |
| | | | | | | | | | | | | | | |
| |
| | |
(1) | | Represents only net losses that are due to changes in economic conditions and management’s estimates of fair value and excludes changes due to the collection/realization of cash flows over time. |
(2) | | Included in other noninterest income in the income statement. |
(3) | | Included in mortgage banking in the income statement. |
51
Also, we may be required, from time to time, to measure certain other financial assets at fair value on a nonrecurring basis in accordance with GAAP. These adjustments to fair value usually result from application of lower-of-cost-or-market accounting or write-downs of individual assets. For assets measured at fair value on a nonrecurring basis in first quarter 2007 that were still held in the balance sheet at quarter end, the following table provides the level of valuation assumptions used to determine each adjustment and the carrying value of the related individual assets or portfolios at quarter end.
| | | | | | | | | | | | | | | | | | | | |
| |
| | | | | | | | | | | | | | | | | | Quarter ended | |
| | | | | | | | | | | | | | | | | | March 31, 2007 | |
| | Carrying value at March 31, 2007 | | | Total | |
(in millions) | | Total | | | Level 1 | | | Level 2 | | | Level 3 | | | losses | |
| |
| | $ | 5,023 | | | $ | — | | | $ | 5,023 | | | $ | — | | | $ | (66 | ) |
Loans (1) | | | 592 | | | | — | | | | 592 | | | | — | | | | (575 | ) |
Private equity investments | | | 3 | | | | — | | | | — | | | | 3 | | | | (5 | ) |
Foreclosed assets (2) | | | 225 | | | | — | | | | 225 | | | | — | | | | (89 | ) |
| | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | $ | (735 | ) |
| | | | | | | | | | | | | | | | | | | |
| |
| | |
(1) | | Represents carrying value and related write-downs of loans for which adjustments are based on the appraised value of the collateral. The carrying value of loans fully charged-off, the majority of which are unsecured lines and loans, is zero. |
(2) | | Represents the fair value and related losses of foreclosed real estate and other collateral owned that were measured at fair value subsequent to their initial classification as foreclosed assets. |
Fair Value Option
The following table reflects the differences between fair value carrying amount of mortgages held for sale measured at fair value under FAS 159 and the aggregate unpaid principal amount we are contractually entitled to receive at maturity.
| | | | | | | | | | | | |
| |
| | March 31, 2007 | |
| | | | | | | | | | Excess of fair | |
| | | | | | | | | | value carrying | |
| | | | | | Aggregate | | | amount over | |
| | Fair value | | | unpaid | | | (under) unpaid | |
(in millions) | | carrying amount | | | principal | | | principal | |
| |
Mortgages held for sale reported at fair value: | | | | | | | | | | | | |
Total loans | | $ | 25,692 | | | $ | 25,417 | | | $ | 275 | (1) |
Nonaccrual loans | | | 30 | | | | 35 | | | | (5 | ) |
Loans 90 days or more past due and still accruing | | | 5 | | | | 5 | | | | — | |
| |
| | |
(1) | | The excess of fair value carrying amount over unpaid principal includes changes in fair value recorded at and subsequent to funding, gains and losses on the related loan commitment prior to funding, and premiums on acquired loans. |
52
The assets accounted for under FAS 159 are initially measured at fair value. Gains and losses from initial measurement and subsequent changes in fair value are recognized in earnings. The changes in fair values related to initial measurement and subsequent changes in fair value that are included in current period earnings for these assets measured at fair value are shown, by income statement line item, below.
| | | | | | | | |
| |
| | Quarter ended March 31, 2007 | |
| | | | | | Other | |
| | Mortgages | | | interests | |
(in millions) | | held for sale | | | held | |
| |
Changes in fair value included in net income: | | | | | | | | |
Mortgage banking noninterest income: | | | | | | | | |
Net gains on mortgage loan origination/sales activities | | $ | 229 | | | $ | — | |
Other noninterest income | | | — | | | | (41 | ) |
| |
Interest income on mortgages held for sale measured at fair value is calculated based on the note rate of the loan and is recorded in interest income in the income statement.
53
17. CONDENSED CONSOLIDATING FINANCIAL STATEMENTS
Following are the condensed consolidating financial statements of the Parent and Wells Fargo Financial Inc. and its wholly-owned subsidiaries (WFFI). The Wells Fargo Financial business segment for management reporting (see Note 13) consists of WFFI and other affiliated consumer finance entities managed by WFFI that are included within other consolidating subsidiaries in the following tables.
Condensed Consolidating Statement of Income
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Quarter ended September 30, 2006 | | | Quarter ended March 31, 2007 | |
| | Other | | | | | Other | | | |
| | consolidating | | Consolidated | | | consolidating | | Consolidated | |
(in millions) | | Parent | | WFFI | | subsidiaries | | Eliminations | | Company | | | Parent | | WFFI | | subsidiaries | | Eliminations | | Company | |
| | | |
Dividends from subsidiaries: | | |
Bank | | $ | 637 | | $ | — | | $ | — | | $ | (637 | ) | | $ | — | | | $ | 1,558 | | $ | — | | $ | — | | $ | (1,558 | ) | | $ | — | |
Nonbank | | 45 | | — | | — | | | (45 | ) | | — | | | 4 | | — | | — | | | (4 | ) | | — | |
Interest income from loans | | — | | 1,336 | | 5,231 | | | (12 | ) | | 6,555 | | | — | | 1,354 | | 5,421 | | | (11 | ) | | 6,764 | |
Interest income from subsidiaries | | 862 | | — | | — | | | (862 | ) | | — | | | 852 | | — | | — | | | (852 | ) | | — | |
Other interest income | | 27 | | 26 | | 1,794 | | | (3 | ) | | 1,844 | | | 34 | | 26 | | 1,317 | | | (2 | ) | | 1,375 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total interest income | | 1,571 | | 1,362 | | 7,025 | | | (1,559 | ) | | 8,399 | | | 2,448 | | 1,380 | | 6,738 | | | (2,427 | ) | | 8,139 | |
| | | | | | | | | | | | | | | | | | | | | | |
Deposits | | — | | — | | 1,997 | | — | | 1,997 | | | — | | — | | 2,060 | | | (203 | ) | | 1,857 | |
Short-term borrowings | | 139 | | 96 | | 288 | | | (252 | ) | | 271 | | | 59 | | 110 | | 218 | | | (251 | ) | | 136 | |
Long-term debt | | 834 | | 457 | | 180 | | | (387 | ) | | 1,084 | | | 897 | | 453 | | 197 | | | (411 | ) | | 1,136 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total interest expense | | 973 | | 553 | | 2,465 | | | (639 | ) | | 3,352 | | | 956 | | 563 | | 2,475 | | | (865 | ) | | 3,129 | |
| | | | | | | | | | | | | | | | | | | | | | |
NET INTEREST INCOME | | 598 | | 809 | | 4,560 | | | (920 | ) | | 5,047 | | | 1,492 | | 817 | | 4,263 | | | (1,562 | ) | | 5,010 | |
Provision for credit losses | | — | | 362 | | 251 | | — | | 613 | | | — | | 282 | | 433 | | — | | 715 | |
| | | | | | | | | | | | | | | | | | | | | | |
Net interest income after provision for credit losses | | 598 | | 447 | | 4,309 | | | (920 | ) | | 4,434 | | | 1,492 | | 535 | | 3,830 | | | (1,562 | ) | | 4,295 | |
| | | | | | | | | | | | | | | | | | | | | | |
NONINTEREST INCOME | | |
Fee income – nonaffiliates | | — | | 76 | | 2,268 | | — | | 2,344 | | |
Fee income — nonaffiliates | | | — | | 80 | | 2,317 | | — | | 2,397 | |
Other | | 85 | | 48 | | 1,417 | | | (7 | ) | | 1,543 | | | 31 | | 77 | | 1,938 | | | (12 | ) | | 2,034 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total noninterest income | | 85 | | 124 | | 3,685 | | | (7 | ) | | 3,887 | | | 31 | | 157 | | 4,255 | | | (12 | ) | | 4,431 | |
| | | | | | | | | | | | | | | | | | | | | | |
NONINTEREST EXPENSE | | |
Salaries and benefits | | 5 | | 280 | | 2,652 | | — | | 2,937 | | | 4 | | 307 | | 2,963 | | — | | 3,274 | |
Other | | 13 | | 217 | | 2,159 | | | (245 | ) | | 2,144 | | | 20 | | 312 | | 1,932 | | | (12 | ) | | 2,252 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total noninterest expense | | 18 | | 497 | | 4,811 | | | (245 | ) | | 5,081 | | | 24 | | 619 | | 4,895 | | | (12 | ) | | 5,526 | |
| | | | | | | | | | | | | | | | | | | | | | |
INCOME BEFORE INCOME TAX EXPENSE (BENEFIT) AND EQUITY IN UNDISTRIBUTED INCOME OF SUBSIDIARIES | | 665 | | 74 | | 3,183 | | | (682 | ) | | 3,240 | | | 1,499 | | 73 | | 3,190 | | | (1,562 | ) | | 3,200 | |
Income tax expense (benefit) | | | (54 | ) | | 27 | | 1,073 | | — | | 1,046 | | | | (11 | ) | | 34 | | 933 | | — | | 956 | |
Equity in undistributed income of subsidiaries | | 1,475 | | — | | — | | | (1,475 | ) | | — | | | 734 | | — | | — | | | (734 | ) | | — | |
| | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | |
NET INCOME | | $ | 2,194 | | $ | 47 | | $ | 2,110 | | $ | (2,157 | ) | | $ | 2,194 | | | $ | 2,244 | | $ | 39 | | $ | 2,257 | | $ | (2,296 | ) | | $ | 2,244 | |
| | | | | | | | | | | | | | | | | | | | | | |
| | | |
6154
Condensed Consolidating Statement of Income
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Quarter ended September 30, 2005 | | | Quarter ended March 31, 2006 | |
| | Other | | | | | Other | | | |
| | consolidating | | Consolidated | | | consolidating | | Consolidated | |
(in millions) | | Parent | | WFFI | | subsidiaries | | Eliminations | | Company | | | Parent | | WFFI | | subsidiaries | | Eliminations | | Company | |
| | | |
Dividends from subsidiaries: | | |
Bank | | $ | 900 | | $ | — | | $ | — | | $ | (900 | ) | | $ | — | | | $ | 595 | | $ | — | | $ | — | | $ | (595 | ) | | $ | — | |
Nonbank | | 566 | | — | | — | | | (566 | ) | | — | | | 5 | | — | | — | | | (5 | ) | | — | |
Interest income from loans | | — | | 1,154 | | 4,270 | | | (8 | ) | | 5,416 | | | — | | 1,290 | | 4,829 | | | (9 | ) | | 6,110 | |
Interest income from subsidiaries | | 598 | | — | | — | | | (598 | ) | | — | | | 754 | | — | | — | | | (754 | ) | | — | |
Other interest income | | 25 | | 21 | | 1,183 | | — | | 1,229 | | | 28 | | 23 | | 1,371 | | — | | 1,422 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total interest income | | 2,089 | | 1,175 | | 5,453 | | | (2,072 | ) | | 6,645 | | | 1,382 | | 1,313 | | 6,200 | | | (1,363 | ) | | 7,532 | |
| | | | | | | | | | | | | | | | | | | | | | |
Deposits | | — | | — | | 1,000 | | — | | 1,000 | | | — | | — | | 1,482 | | — | | 1,482 | |
Short-term borrowings | | 60 | | 62 | | 228 | | | (161 | ) | | 189 | | | 109 | | 94 | | 272 | | | (205 | ) | | 270 | |
Long-term debt | | 554 | | 350 | | 161 | | | (285 | ) | | 780 | | | 706 | | 408 | | 147 | | | (351 | ) | | 910 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total interest expense | | 614 | | 412 | | 1,389 | | | (446 | ) | | 1,969 | | | 815 | | 502 | | 1,901 | | | (556 | ) | | 2,662 | |
| | | | | | | | | | | | | | | | | | | | | | |
NET INTEREST INCOME | | 1,475 | | 763 | | 4,064 | | | (1,626 | ) | | 4,676 | | | 567 | | 811 | | 4,299 | | | (807 | ) | | 4,870 | |
Provision for credit losses | | — | | 486 | | 155 | | — | | 641 | | | — | | 272 | | 161 | | — | | 433 | |
| | | | | | | | | | | | | | | | | | | | | | |
Net interest income after provision for credit losses | | 1,475 | | 277 | | 3,909 | | | (1,626 | ) | | 4,035 | | | 567 | | 539 | | 4,138 | | | (807 | ) | | 4,437 | |
| | | | | | | | | | | | | | | | | | | | | | |
NONINTEREST INCOME | | |
Fee income – nonaffiliates | | — | | 61 | | 2,104 | | — | | 2,165 | | |
Fee income — nonaffiliates | | | — | | 64 | | 2,094 | | — | | 2,158 | |
Other | | 62 | | 90 | | 1,539 | | | (29 | ) | | 1,662 | | | | (23 | ) | | 66 | | 1,499 | | | (15 | ) | | 1,527 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total noninterest income | | 62 | | 151 | | 3,643 | | | (29 | ) | | 3,827 | | | | (23 | ) | | 130 | | 3,593 | | | (15 | ) | | 3,685 | |
| | | | | | | | | | | | | | | | | | | | | | |
NONINTEREST EXPENSE | | |
Salaries and benefits | | 43 | | 249 | | 2,422 | | — | | 2,714 | | | 33 | | 285 | | 2,611 | | — | | 2,929 | |
Other | | 31 | | 227 | | 2,105 | | | (188 | ) | | 2,175 | | | | (2 | ) | | 211 | | 2,158 | | | (222 | ) | | 2,145 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total noninterest expense | | 74 | | 476 | | 4,527 | | | (188 | ) | | 4,889 | | | 31 | | 496 | | 4,769 | | | (222 | ) | | 5,074 | |
| | | | | | | | | | | | | | | | | | | | | | |
INCOME BEFORE INCOME TAX EXPENSE (BENEFIT) AND EQUITY IN UNDISTRIBUTED INCOME OF SUBSIDIARIES | | 1,463 | | | (48 | ) | | 3,025 | | | (1,467 | ) | | 2,973 | | | 513 | | 173 | | 2,962 | | | (600 | ) | | 3,048 | |
Income tax expense (benefit) | | | (50 | ) | | | (18 | ) | | 1,066 | | — | | 998 | | | | (34 | ) | | 64 | | 1,000 | | — | | 1,030 | |
Equity in undistributed income of subsidiaries | | 462 | | — | | — | | | (462 | ) | | — | | | 1,471 | | — | | — | | | (1,471 | ) | | — | |
| | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | |
NET INCOME | | $ | 1,975 | | $ | (30 | ) | | $ | 1,959 | | $ | (1,929 | ) | | $ | 1,975 | | | $ | 2,018 | | $ | 109 | | $ | 1,962 | | $ | (2,071 | ) | | $ | 2,018 | |
| | | | | | | | | | | | | | | | | | | | | | |
| | | |
6255
Condensed Consolidating Statement of Income
| | | | | | | | | | | | | | | | | | | | |
| |
| | Nine months ended September 30, 2006 | |
| | | | | | | | | | Other | | | | | | | |
| | | | | | | | | | consolidating | | | | | | Consolidated | |
(in millions) | | Parent | | | WFFI | | | subsidiaries | | | Eliminations | | | Company | |
| |
Dividends from subsidiaries: | | | | | | | | | | | | | | | | | | | | |
Bank | | $ | 1,472 | | | $ | — | | | $ | — | | | $ | (1,472 | ) | | $ | — | |
Nonbank | | | 218 | | | | — | | | | — | | | | (218 | ) | | | — | |
Interest income from loans | | | — | | | | 3,933 | | | | 15,007 | | | | (30 | ) | | | 18,910 | |
Interest income from subsidiaries | | | 2,430 | | | | — | | | | — | | | | (2,430 | ) | | | — | |
Other interest income | | | 79 | | | | 76 | | | | 4,946 | | | | (3 | ) | | | 5,098 | |
| | | | | | | | | | | | | | | |
Total interest income | | | 4,199 | | | | 4,009 | | | | 19,953 | | | | (4,153 | ) | | | 24,008 | |
| | | | | | | | | | | | | | | |
Deposits | | | — | | | | — | | | | 5,273 | | | | — | | | | 5,273 | |
Short-term borrowings | | | 349 | | | | 274 | | | | 888 | | | | (681 | ) | | | 830 | |
Long-term debt | | | 2,333 | | | | 1,310 | | | | 473 | | | | (1,112 | ) | | | 3,004 | |
| | | | | | | | | | | | | | | |
Total interest expense | | | 2,682 | | | | 1,584 | | | | 6,634 | | | | (1,793 | ) | | | 9,107 | |
| | | | | | | | | | | | | | | |
NET INTEREST INCOME | | | 1,517 | | | | 2,425 | | | | 13,319 | | | | (2,360 | ) | | | 14,901 | |
Provision for credit losses | | | — | | | | 689 | | | | 789 | | | | — | | | | 1,478 | |
| | | | | | | | | | | | | | | |
Net interest income after provision for credit losses | | | 1,517 | | | | 1,736 | | | | 12,530 | | | | (2,360 | ) | | | 13,423 | |
| | | | | | | | | | | | | | | |
NONINTEREST INCOME | | | | | | | | | | | | | | | | | | | | |
Fee income — nonaffiliates | | | — | | | | 206 | | | | 6,564 | | | | — | | | | 6,770 | |
Other | | | 58 | | | | 171 | | | | 4,413 | | | | (35 | ) | | | 4,607 | |
| | | | | | | | | | | | | | | |
Total noninterest income | | | 58 | | | | 377 | | | | 10,977 | | | | (35 | ) | | | 11,377 | |
| | | | | | | | | | | | | | | |
NONINTEREST EXPENSE | | | | | | | | | | | | | | | | | | | | |
Salaries and benefits | | | 57 | | | | 817 | | | | 7,947 | | | | — | | | | 8,821 | |
Other | | | (4 | ) | | | 653 | | | | 6,566 | | | | (705 | ) | | | 6,510 | |
| | | | | | | | | | | | | | | |
Total noninterest expense | | | 53 | | | | 1,470 | | | | 14,513 | | | | (705 | ) | | | 15,331 | |
| | | | | | | | | | | | | | | |
INCOME BEFORE INCOME TAX EXPENSE (BENEFIT) AND EQUITY IN UNDISTRIBUTED INCOME OF SUBSIDIARIES | | | 1,522 | | | | 643 | | | | 8,994 | | | | (1,690 | ) | | | 9,469 | |
Income tax expense (benefit) | | | (114 | ) | | | 228 | | | | 3,054 | | | | — | | | | 3,168 | |
Equity in undistributed income of subsidiaries | | | 4,665 | | | | — | | | | — | | | | (4,665 | ) | | | — | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
NET INCOME | | $ | 6,301 | | | $ | 415 | | | $ | 5,940 | | | $ | (6,355 | ) | | $ | 6,301 | |
| | | | | | | | | | | | | | | |
| |
63
Condensed Consolidating Statement of Income
| | | | | | | | | | | | | | | | | | | | |
| |
| | Nine months ended September 30, 2005 | |
| | | | | | | | | | Other | | | | | | | | |
| | | | | | | | | | consolidating | | | | | | | Consolidated | |
(in millions) | | Parent | | | WFFI | | | subsidiaries | | | Eliminations | | | Company | |
| |
Dividends from subsidiaries: | | | | | | | | | | | | | | | | | | | | |
Bank | | $ | 3,824 | | | $ | — | | | $ | — | | | $ | (3,824 | ) | | $ | — | |
Nonbank | | | 751 | | | | — | | | | — | | | | (751 | ) | | | — | |
Interest income from loans | | | — | | | | 3,221 | | | | 12,146 | | | | (8 | ) | | | 15,359 | |
Interest income from subsidiaries | | | 1,553 | | | | — | | | | — | | | | (1,553 | ) | | | — | |
Other interest income | | | 78 | | | | 79 | | | | 3,202 | | | | — | | | | 3,359 | |
| | | | | | | | | | | | | | | |
Total interest income | | | 6,206 | | | | 3,300 | | | | 15,348 | | | | (6,136 | ) | | | 18,718 | |
| | | | | | | | | | | | | | | |
Deposits | | | — | | | | — | | | | 2,517 | | | | — | | | | 2,517 | |
Short-term borrowings | | | 171 | | | | 135 | | | | 623 | | | | (427 | ) | | | 502 | |
Long-term debt | | | 1,380 | | | | 990 | | | | 446 | | | | (782 | ) | | | 2,034 | |
| | | | | | | | | | | | | | | |
Total interest expense | | | 1,551 | | | | 1,125 | | | | 3,586 | | | | (1,209 | ) | | | 5,053 | |
| | | | | | | | | | | | | | | |
NET INTEREST INCOME | | | 4,655 | | | | 2,175 | | | | 11,762 | | | | (4,927 | ) | | | 13,665 | |
Provision for credit losses | | | — | | | | 1,123 | | | | 557 | | | | — | | | | 1,680 | |
| | | | | | | | | | | | | | | |
Net interest income after provision for credit losses | | | 4,655 | | | | 1,052 | | | | 11,205 | | | | (4,927 | ) | | | 11,985 | |
| | | | | | | | | | | | | | | |
NONINTEREST INCOME | | | | | | | | | | | | | | | | | | | | |
Fee income — nonaffiliates | | | — | | | | 169 | | | | 6,016 | | | | — | | | | 6,185 | |
Other | | | 133 | | | | 203 | | | | 4,366 | | | | (95 | ) | | | 4,607 | |
| | | | | | | | | | | | | | | |
Total noninterest income | | | 133 | | | | 372 | | | | 10,382 | | | | (95 | ) | | | 10,792 | |
| | | | | | | | | | | | | | | |
NONINTEREST EXPENSE | | | | | | | | | | | | | | | | | | | | |
Salaries and benefits | | | 55 | | | | 731 | | | | 6,965 | | | | — | | | | 7,751 | |
Other | | | 36 | | | | 571 | | | | 6,223 | | | | (446 | ) | | | 6,384 | |
| | | | | | | | | | | | | | | |
Total noninterest expense | | | 91 | | | | 1,302 | | | | 13,188 | | | | (446 | ) | | | 14,135 | |
| | | | | | | | | | | | | | | |
INCOME BEFORE INCOME TAX EXPENSE (BENEFIT) AND EQUITY IN UNDISTRIBUTED INCOME OF SUBSIDIARIES | | | 4,697 | | | | 122 | | | | 8,399 | | | | (4,576 | ) | | | 8,642 | |
Income tax expense (benefit) | | | (52 | ) | | | 40 | | | | 2,913 | | | | — | | | | 2,901 | |
Equity in undistributed income of subsidiaries | | | 992 | | | | — | | | | — | | | | (992 | ) | | | — | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
NET INCOME | | $ | 5,741 | | | $ | 82 | | | $ | 5,486 | | | $ | (5,568 | ) | | $ | 5,741 | |
| | | | | | | | | | | | | | | |
| |
64
Condensed Consolidating Balance Sheet
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | September 30, 2006 | | | March 31, 2007 | |
| | Other | | | | | Other | | | |
| | consolidating | | Consolidated | | | consolidating | | Consolidated | |
(in millions) | | Parent | | WFFI | | subsidiaries | | Eliminations | | Company | | | Parent | | WFFI | | subsidiaries | | Eliminations | | Company | |
| | | |
ASSETS | | |
Cash and cash equivalents due from: | | |
Subsidiary banks | | $ | 11,879 | | $ | 232 | | $ | — | | $ | (12,111 | ) | | $ | — | | | $ | 15,900 | | $ | 308 | | $ | — | | $ | (16,208 | ) | | $ | — | |
Nonaffiliates | | 77 | | 195 | | 16,398 | | — | | 16,670 | | | 79 | | 116 | | 16,958 | | — | | 17,153 | |
Securities available for sale | | 986 | | 1,798 | | 49,857 | | | (6 | ) | | 52,635 | | | 866 | | 1,821 | | 42,762 | | | (6 | ) | | 45,443 | |
Mortgages and loans held for sale | | — | | 29 | | 40,501 | | — | | 40,530 | | | — | | — | | 33,115 | | — | | 33,115 | |
Loans | | — | | 47,174 | | 261,213 | | | (896 | ) | | 307,491 | | | — | | 47,473 | | 278,372 | | | (358 | ) | | 325,487 | |
Loans to subsidiaries: | | |
Bank | | 3,400 | | — | | — | | | (3,400 | ) | | — | | | 3,400 | | — | | — | | | (3,400 | ) | | — | |
Nonbank | | 46,369 | | 63 | | — | | | (46,432 | ) | | — | | | 48,565 | | 543 | | — | | | (49,108 | ) | | — | |
Allowance for loan losses | | — | | | (1,147 | ) | | | (2,652 | ) | | — | | | (3,799 | ) | | — | | | (1,204 | ) | | | (2,568 | ) | | — | | | (3,772 | ) |
| | | | | | | | | | | | | | | | | | | | | | |
Net loans | | 49,769 | | 46,090 | | 258,561 | | | (50,728 | ) | | 303,692 | | | 51,965 | | 46,812 | | 275,804 | | | (52,866 | ) | | 321,715 | |
| | | | | | | | | | | | | | | | | | | | | | |
Investments in subsidiaries: | | |
Bank | | 41,335 | | — | | — | | | (41,335 | ) | | — | | | 43,591 | | — | | — | | | (43,591 | ) | | — | |
Nonbank | | 5,168 | | — | | — | | | (5,168 | ) | | — | | | 4,847 | | — | | — | | | (4,847 | ) | | — | |
Other assets | | 5,817 | | 1,456 | | 64,148 | | | (1,507 | ) | | 69,914 | | | 6,926 | | 1,694 | | 61,497 | | | (1,642 | ) | | 68,475 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total assets | | $ | 115,031 | | $ | 49,800 | | $ | 429,465 | | $ | (110,855 | ) | | $ | 483,441 | | | $ | 124,174 | | $ | 50,751 | | $ | 430,136 | | $ | (119,160 | ) | | $ | 485,901 | |
| | | | | | | | | | | | | | | | | | | | | | |
LIABILITIES AND STOCKHOLDERS’ EQUITY | | |
Deposits | | $ | — | | $ | — | | $ | 326,430 | | $ | (12,111 | ) | | $ | 314,319 | | | $ | — | | $ | — | | $ | 327,365 | | $ | (16,208 | ) | | $ | 311,157 | |
Short-term borrowings | | 18 | | 7,909 | | 19,072 | | | (13,199 | ) | | 13,800 | | | 20 | | 8,314 | | 18,725 | | | (13,878 | ) | | 13,181 | |
Accrued expenses and other liabilities | | 3,359 | | 1,018 | | 24,038 | | | (2,046 | ) | | 26,369 | | | 3,993 | | 1,507 | | 21,634 | | | (2,033 | ) | | 25,101 | |
Long-term debt | | 61,817 | | 37,944 | | 16,447 | | | (32,117 | ) | | 84,091 | | | 68,591 | | 37,940 | | 17,115 | | | (33,319 | ) | | 90,327 | |
Indebtedness to subsidiaries | | 4,975 | | — | | — | | | (4,975 | ) | | — | | | 5,435 | | — | | — | | | (5,435 | ) | | — | |
| | | | | | | | | | | | | | | | | | | | | | |
Total liabilities | | 70,169 | | 46,871 | | 385,987 | | | (64,448 | ) | | 438,579 | | | 78,039 | | 47,761 | | 384,839 | | | (70,873 | ) | | 439,766 | |
Stockholders’ equity | | 44,862 | | 2,929 | | 43,478 | | | (46,407 | ) | | 44,862 | | | 46,135 | | 2,990 | | 45,297 | | | (48,287 | ) | | 46,135 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total liabilities and stockholders’ equity | | $ | 115,031 | | $ | 49,800 | | $ | 429,465 | | $ | (110,855 | ) | | $ | 483,441 | | | $ | 124,174 | | $ | 50,751 | | $ | 430,136 | | $ | (119,160 | ) | | $ | 485,901 | |
| | | | | | | | | | | | | | | | | | | | | | |
| | | |
6556
Condensed Consolidating Balance Sheet
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | September 30, 2005 | | | March 31, 2006 | |
| | Other | | | | | Other | | | |
| | consolidating | | Consolidated | | | consolidating | | Consolidated | |
(in millions) | | Parent | | WFFI | | subsidiaries | | Eliminations | | Company | | | Parent | | WFFI | | subsidiaries | | Eliminations | | Company | |
| | | |
ASSETS | | |
Cash and cash equivalents due from: | | |
Subsidiary banks | | $ | 10,888 | | $ | 263 | | $ | 28 | | $ | (11,179 | ) | | $ | — | | | $ | 15,366 | | $ | 196 | | $ | 14 | | $ | (15,576 | ) | | $ | — | |
Nonaffiliates | | 235 | | 343 | | 19,214 | | — | | 19,792 | | | 75 | | 273 | | 17,830 | | — | | 18,178 | |
Securities available for sale | | 1,239 | | 1,771 | | 31,475 | | | (5 | ) | | 34,480 | | | 847 | | 1,768 | | 48,586 | | | (6 | ) | | 51,195 | |
Mortgages and loans held for sale | | — | | 25 | | 46,723 | | — | | 46,748 | | | — | | 25 | | 44,125 | | — | | 44,150 | |
Loans | | 1 | | 41,507 | | 255,570 | | | (889 | ) | | 296,189 | | | 1 | | 46,026 | | 261,535 | | | (886 | ) | | 306,676 | |
Loans to subsidiaries: | | |
Bank | | 2,300 | | — | | — | | | (2,300 | ) | | — | | | 3,400 | | — | | — | | | (3,400 | ) | | — | |
Nonbank | | 43,556 | | 949 | | — | | | (44,505 | ) | | — | | | 45,118 | | 330 | | — | | | (45,448 | ) | | — | |
Allowance for loan losses | | — | | | (1,200 | ) | | | (2,686 | ) | | — | | | (3,886 | ) | | — | | | (1,326 | ) | | | (2,519 | ) | | — | | | (3,845 | ) |
| | | | | | | | | | | | | | | | | | | | | | |
Net loans | | 45,857 | | 41,256 | | 252,884 | | | (47,694 | ) | | 292,303 | | | 48,519 | | 45,030 | | 259,016 | | | (49,734 | ) | | 302,831 | |
| | | | | | | | | | | | | | | | | | | | | | |
Investments in subsidiaries: | | |
Bank | | 36,364 | | — | | — | | | (36,364 | ) | | — | | | 38,451 | | — | | — | | | (38,451 | ) | | — | |
Nonbank | | 4,140 | | — | | — | | | (4,140 | ) | | — | | | 4,595 | | — | | — | | | (4,595 | ) | | — | |
Other assets | | 6,343 | | 1,149 | | 54,729 | | | (2,050 | ) | | 60,171 | | | 7,100 | | 1,290 | | 68,908 | | | (1,224 | ) | | 76,074 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total assets | | $ | 105,066 | | $ | 44,807 | | $ | 405,053 | | $ | (101,432 | ) | | $ | 453,494 | | | $ | 114,953 | | $ | 48,582 | | $ | 438,479 | | $ | (109,586 | ) | | $ | 492,428 | |
| | | | | | | | | | | | | | | | | | | | | | |
LIABILITIES AND STOCKHOLDERS’ EQUITY | | |
Deposits | | $ | — | | $ | — | | $ | 300,207 | | $ | (11,178 | ) | | $ | 289,029 | | | $ | — | | $ | — | | $ | 323,880 | | $ | (15,575 | ) | | $ | 308,305 | |
Short-term borrowings | | 82 | | 8,567 | | 29,004 | | | (14,410 | ) | | 23,243 | | | 68 | | 7,476 | | 25,717 | | | (11,911 | ) | | 21,350 | |
Accrued expenses and other liabilities | | 4,056 | | 1,262 | | 20,289 | | | (2,812 | ) | | 22,795 | | | 3,310 | | 1,158 | | 33,836 | | | (1,992 | ) | | 36,312 | |
Long-term debt | | 57,236 | | 32,501 | | 17,627 | | | (28,772 | ) | | 78,592 | | | 65,230 | | 37,343 | | 14,707 | | | (32,780 | ) | | 84,500 | |
Indebtedness to subsidiaries | | 3,857 | | — | | — | | | (3,857 | ) | | — | | | 4,384 | | — | | — | | | (4,384 | ) | | — | |
| | | | | | | | | | | | | | | | | | | | | | |
Total liabilities | | 65,231 | | 42,330 | | 367,127 | | | (61,029 | ) | | 413,659 | | | 72,992 | | 45,977 | | 398,140 | | | (66,642 | ) | | 450,467 | |
Stockholders’ equity | | 39,835 | | 2,477 | | 37,926 | | | (40,403 | ) | | 39,835 | | | 41,961 | | 2,605 | | 40,339 | | | (42,944 | ) | | 41,961 | |
| | | | | | | | | | | | | | | | | | | | | | |
Total liabilities and stockholders’ equity | | $ | 105,066 | | $ | 44,807 | | $ | 405,053 | | $ | (101,432 | ) | | $ | 453,494 | | | $ | 114,953 | | $ | 48,582 | | $ | 438,479 | | $ | (109,586 | ) | | $ | 492,428 | |
| | | | | | | | | | | | | | | | | | | | | | |
| | | |
6657
Condensed Consolidating Statement of Cash Flows
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Nine months ended September 30, 2006 | | | Quarter ended March 31, 2007 | |
| | Other | | | | | Other | | | |
| | consolidating | | | | | consolidating | | | |
| | subsidiaries/ | | Consolidated | | | subsidiaries/ | | Consolidated | |
(in millions) | | Parent | | WFFI | | eliminations | | Company | | | Parent | | WFFI | | eliminations | | Company | |
| | | |
Cash flows from operating activities: | | |
Net cash provided by operating activities | | $ | 2,235 | | $ | 714 | | $ | 15,351 | | $ | 18,300 | | | $ | 754 | | $ | 511 | | $ | 4,406 | | $ | 5,671 | |
| | | | | | | | | | | | | | | | | | |
Cash flows from investing activities: | | |
Securities available for sale: | | |
Sales proceeds | | 188 | | 443 | | 43,265 | | 43,896 | | | 115 | | 107 | | 4,323 | | 4,545 | |
Prepayments and maturities | | 4 | | 172 | | 5,581 | | 5,757 | | | — | | 77 | | 2,167 | | 2,244 | |
Purchases | | | (265 | ) | | | (646 | ) | | | (60,436 | ) | | | (61,347 | ) | | | (52 | ) | | | (276 | ) | | | (9,185 | ) | | | (9,513 | ) |
Net cash paid for acquisitions | | — | | — | | | (526 | ) | | | (526 | ) | |
Loans: | | |
Increase in banking subsidiaries’ loan originations, net of collections | | — | | | (1,448 | ) | | | (25,055 | ) | | | (26,503 | ) | | — | | | (414 | ) | | | (6,953 | ) | | | (7,367 | ) |
Proceeds from sales (including participations) of loans by banking subsidiaries | | — | | 50 | | 35,587 | | 35,637 | | | — | | — | | 983 | | 983 | |
Purchases (including participations) of loans by banking subsidiaries | | — | | | (202 | ) | | | (3,934 | ) | | | (4,136 | ) | | — | | — | | | (1,068 | ) | | | (1,068 | ) |
Principal collected on nonbank entities’ loans | | — | | 15,092 | | 3,038 | | 18,130 | | | — | | 4,570 | | 1,004 | | 5,574 | |
Loans originated by nonbank entities | | — | | | (16,638 | ) | | | (3,318 | ) | | | (19,956 | ) | | — | | | (4,734 | ) | | | (1,209 | ) | | | (5,943 | ) |
Net repayments from (advances to) nonbank entities | | | (54 | ) | | — | | 54 | | — | | | | (518 | ) | | — | | 518 | | — | |
Capital notes and term loans made to subsidiaries | | | (4,705 | ) | | — | | 4,705 | | — | | | | (1,933 | ) | | — | | 1,933 | | — | |
Principal collected on notes/loans made to subsidiaries | | 3,025 | | — | | | (3,025 | ) | | — | | | 1,900 | | — | | | (1,900 | ) | | — | |
Net decrease (increase) in investment in subsidiaries | | | (192 | ) | | — | | 192 | | — | | | | (71 | ) | | — | | 71 | | — | |
Other, net | | — | | 814 | | | (4,098 | ) | | | (3,284 | ) | | — | | | (11 | ) | | 66 | | 55 | |
| | | | | | | | | | | | | | | | | | |
Net cash used by investing activities | | | (1,999 | ) | | | (2,363 | ) | | | (7,970 | ) | | | (12,332 | ) | | | (559 | ) | | | (681 | ) | | | (9,250 | ) | | | (10,490 | ) |
| | | | | | | | | | | | | | | | | | |
Cash flows from financing activities: | | |
Net decrease in deposits | | — | | — | | | (376 | ) | | | (376 | ) | |
Net increase (decrease) in short-term borrowings | | 875 | | | (1,097 | ) | | | (9,917 | ) | | | (10,139 | ) | |
Proceeds from issuance of long-term debt | | 9,640 | | 5,255 | | 92 | | 14,987 | | |
Long-term debt repayment | | | (6,926 | ) | | | (2,576 | ) | | | (1,130 | ) | | | (10,632 | ) | |
Proceeds from issuance of common stock | | 1,419 | | — | | — | | 1,419 | | |
Common stock repurchased | | | (1,566 | ) | | — | | — | | | (1,566 | ) | |
Cash dividends paid on common stock | | | (2,695 | ) | | — | | — | | | (2,695 | ) | |
Net change in: | | |
Deposits | | | — | | — | | 914 | | 914 | |
Short-term borrowings | | | 446 | | 606 | | | (700 | ) | | 352 | |
Long-term debt: | | |
Proceeds from issuance | | | 9,235 | | 1,500 | | | (1,199 | ) | | 9,536 | |
Repayment | | | | (6,019 | ) | | | (2,049 | ) | | 1,712 | | | (6,356 | ) |
Common stock: | | |
Proceeds from issuance | | | 448 | | — | | — | | 448 | |
Repurchased | | | | (1,631 | ) | | — | | — | | | (1,631 | ) |
Cash dividends paid | | | | (948 | ) | | — | | — | | | (948 | ) |
Excess tax benefits related to stock option payments | | 179 | | — | | — | | 179 | | | 46 | | — | | — | | 46 | |
Other, net | | — | | 20 | | 29 | | 49 | | | | (2 | ) | | 67 | | | (150 | ) | | | (85 | ) |
| | | | | | | | | | | | | | | | | | |
Net cash provided (used) by financing activities | | 926 | | 1,602 | | | (11,302 | ) | | | (8,774 | ) | |
Net cash provided by financing activities | | | 1,575 | | 124 | | 577 | | 2,276 | |
| | | | | | | | | | | | | | | | | | |
Net change in cash and due from banks | | 1,162 | | | (47 | ) | | | (3,921 | ) | | | (2,806 | ) | | 1,770 | | | (46 | ) | | | (4,267 | ) | | | (2,543 | ) |
Cash and due from banks at beginning of period | | 10,794 | | 474 | | 4,129 | | 15,397 | | |
Cash and due from banks at beginning of quarter | | | 14,209 | | 470 | | 349 | | 15,028 | |
| | | | | | | | | | | | | | | | | | |
Cash and due from banks at end of period | | $ | 11,956 | | $ | 427 | | $ | 208 | | $ | 12,591 | | |
Cash and due from banks at end of quarter | | | $ | 15,979 | | $ | 424 | | $ | (3,918 | ) | | $ | 12,485 | |
| | | | | | | | | | | | | | | | | | |
| | | |
6758
Condensed Consolidating Statement of Cash Flows
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | Nine months ended September 30, 2005 | | | Quarter ended March 31, 2006 | |
| | Other | | | | | Other | | | |
| | consolidating | | | | | consolidating | | | |
| | subsidiaries/ | | Consolidated | | | subsidiaries/ | | Consolidated | |
(in millions) | | Parent | | WFFI | | eliminations | | Company | | | Parent | | WFFI | | eliminations | | Company | |
| | | |
Cash flows from operating activities: | | |
Net cash provided (used) by operating activities | | $ | 4,966 | | $ | 799 | | $ | (11,529 | ) | | $ | (5,764 | ) | | $ | (134 | ) | | $ | 263 | | $ | 16,528 | | $ | 16,657 | |
| | | | | | | | | | | | | | | | | | |
Cash flows from investing activities: | | |
Securities available for sale: | | |
Sales proceeds | | 219 | | 170 | | 6,954 | | 7,343 | | | 50 | | 140 | | 16,774 | | 16,964 | |
Prepayments and maturities | | 85 | | 208 | | 5,002 | | 5,295 | | | 1 | | 43 | | 1,600 | | 1,644 | |
Purchases | | | (177 | ) | | | (333 | ) | | | (10,068 | ) | | | (10,578 | ) | | | (5 | ) | | | (201 | ) | | | (28,191 | ) | | | (28,397 | ) |
Net cash acquired from acquisitions | | — | | — | | 54 | | 54 | | |
Loans: | | |
Increase in banking subsidiaries’ loan originations, net of collections | | — | | | (573 | ) | | | (25,294 | ) | | | (25,867 | ) | | — | | | (309 | ) | | | (8,532 | ) | | | (8,841 | ) |
Proceeds from sales (including participations) of loans by banking subsidiaries | | — | | 165 | | 34,976 | | 35,141 | | | — | | 50 | | 9,194 | | 9,244 | |
Purchases (including participations) of loans by banking subsidiaries | | — | | — | | | (5,611 | ) | | | (5,611 | ) | | — | | | (202 | ) | | | (1,360 | ) | | | (1,562 | ) |
Principal collected on nonbank entities’ loans | | — | | 14,584 | | 2,095 | | 16,679 | | | — | | 4,994 | | 915 | | 5,909 | |
Loans originated by nonbank entities | | — | | | (21,652 | ) | | | (2,851 | ) | | | (24,503 | ) | | — | | | (6,165 | ) | | | (743 | ) | | | (6,908 | ) |
Net repayments from (advances to) nonbank entities | | | (3,538 | ) | | — | | 3,538 | | — | | | 1,593 | | — | | | (1,593 | ) | | — | |
Capital notes and term loans made to subsidiaries | | | (7,351 | ) | | — | | 7,351 | | — | | | | (2,905 | ) | | — | | 2,905 | | — | |
Principal collected on notes/loans made to subsidiaries | | 2,101 | | — | | | (2,101 | ) | | — | | | 829 | | — | | | (829 | ) | | — | |
Net decrease (increase) in investment in subsidiaries | | 161 | | — | | | (161 | ) | | — | | | | (2 | ) | | — | | 2 | | — | |
Net cash paid for acquisitions | | | — | | — | | | (266 | ) | | | (266 | ) |
Other, net | | — | | | (969 | ) | | | (5,986 | ) | | | (6,955 | ) | | — | | 624 | | | (2,332 | ) | | | (1,708 | ) |
| | | | | | | | | | | | | | | | | | |
Net cash provided (used) by investing activities | | | (8,500 | ) | | | (8,400 | ) | | 7,898 | | | (9,002 | ) | |
Net cash used by investing activities | | | | (439 | ) | | | (1,026 | ) | | | (12,456 | ) | | | (13,921 | ) |
| | | | | | | | | | | | | | | | | | |
Cash flows from financing activities: | | |
Net increase in deposits | | — | | — | | 13,540 | | 13,540 | | |
Net increase (decrease) in short-term borrowings | | 927 | | 2,905 | | | (2,602 | ) | | 1,230 | | |
Proceeds from issuance of long-term debt | | 15,551 | | 8,069 | | | (1,335 | ) | | 22,285 | | |
Long-term debt repayment | | | (7,551 | ) | | | (3,249 | ) | | | (6,670 | ) | | | (17,470 | ) | |
Proceeds from issuance of common stock | | 859 | | — | | — | | 859 | | |
Common stock repurchased | | | (2,343 | ) | | — | | — | | | (2,343 | ) | |
Cash dividends paid on common stock | | | (2,505 | ) | | — | | — | | | (2,505 | ) | |
Net change in: | | |
Deposits | | | — | | — | | | (6,216 | ) | | | (6,216 | ) |
Short-term borrowings | | | 396 | | | (1,529 | ) | | | (1,409 | ) | | | (2,542 | ) |
Long-term debt: | | |
Proceeds from issuance | | | 7,328 | | 3,580 | | | (2,409 | ) | | 8,499 | |
Repayment | | | | (1,521 | ) | | | (1,296 | ) | | | (829 | ) | | | (3,646 | ) |
Common stock: | | |
Proceeds from issuance | | | 485 | | — | | — | | 485 | |
Repurchased | | | | (646 | ) | | — | | — | | | (646 | ) |
Cash dividends paid | | | | (874 | ) | | — | | — | | | (874 | ) |
Excess tax benefits related to stock option payments | | | 52 | | — | | — | | 52 | |
Other, net | | — | | — | | 198 | | 198 | | | — | | 3 | | | (24 | ) | | | (21 | ) |
| | | | | | | | | | | | | | | | | | |
Net cash provided by financing activities | | 4,938 | | 7,725 | | 3,131 | | 15,794 | | |
Net cash provided (used) by financing activities | | | 5,220 | | 758 | | | (10,887 | ) | | | (4,909 | ) |
| | | | | | | | | | | | | | | | | | |
Net change in cash and due from banks | | 1,404 | | 124 | | | (500 | ) | | 1,028 | | | 4,647 | | | (5 | ) | | | (6,815 | ) | | | (2,173 | ) |
Cash and due from banks at beginning of period | | 9,719 | | 482 | | 2,702 | | 12,903 | | |
Cash and due from banks at beginning of quarter | | | 10,794 | | 474 | | 4,129 | | 15,397 | |
| | | | | | | | | | | | | | | | | | |
Cash and due from banks at end of period | | $ | 11,123 | | $ | 606 | | $ | 2,202 | | $ | 13,931 | | |
Cash and due from banks at end of quarter | | | $ | 15,441 | | $ | 469 | | $ | (2,686 | ) | | $ | 13,224 | |
| | | | | | | | | | | | | | | | | | |
| | | |
6859
17.18. GUARANTEES
We provide significant guarantees to third parties including standby letters of credit, various indemnification agreements, guarantees accounted for as derivatives, contingentadditional consideration related to business combinations and contingent performance guarantees.
We issue standby letters of credit, which include performance and financial guarantees, for customers in connection with contracts between the customers and third parties. Standby letters of credit assure that the third parties will receive specified funds if customers fail to meet their contractual obligations. We will be requiredare obligated to make payment if a customer defaults. Standby letters of credit were $11.4$12.1 billion at September 30, 2006,March 31, 2007, and $10.9$12.0 billion at December 31, 2005,2006, including financial guarantees of $6.8$6.3 billion and $6.4$7.2 billion, respectively, that we had issued or purchased participations in. Standby letters of credit are net of participations sold to other institutions of $2.7$1.4 billion at September 30, 2006,March 31, 2007, and $2.1$2.8 billion at December 31, 2005.2006. We consider the credit risk in standby letters of credit in determining the allowance for credit losses. Deferred fees for these standby letters of credit were not significant to our financial statements. We also had commitments for commercial and similar letters of credit of $931$926 million at September 30, 2006,March 31, 2007, and $761$801 million at December 31, 2005.2006.
We enter into indemnification agreements in the ordinary course of business under which we agree to indemnify third parties against any damages, losses and expenses incurred in connection with legal and other proceedings arising from relationships or transactions with us. These relationships or transactions include those arising from service as a director or officer of the Company, underwriting agreements relating to our securities, securities lending, acquisition agreements, and various other business transactions or arrangements. Because the extent of our obligations under these agreements depends entirely upon the occurrence of future events, our potential future liability under these agreements is not fully determinable.
We write options, floors and caps. Periodic settlements occur on floors and caps based on market conditions. The fair value of the written options liability in our balance sheet was $460$740 million at September 30, 2006,March 31, 2007, and $563$556 million at December 31, 2005.2006. The aggregate written floors and caps liability was $143$88 million and $169$86 million, respectively. Our ultimate obligation under written options, floors and caps is based on future market conditions and is only quantifiable at settlement. The notional value related to written options was $47.1 billion at September 30, 2006,March 31, 2007, and $45.5$47.3 billion at December 31, 2005,2006, and the aggregate notional value related to written floors and caps was $12.2$11.7 billion and $24.3$11.9 billion, respectively. We offset substantially all options written to customers with purchased options and other derivatives.options.
We also enter into credit default swaps under which we buy loss protection from or sell loss protection to a counterparty in the event of default of a reference obligation. The carrying amount of the contracts sold was a liability of $5$9 million at September 30, 2006,March 31, 2007, and $6$2 million at December 31, 2005.2006. The maximum amount we would be required to pay under the swaps in which we sold protection, assuming all reference obligations default at a total loss, without recoveries, was $2.8 billion$698 million and $2.7 billion$599 million, based on notional value, at September 30, 2006,March 31, 2007, and December 31, 2005,2006, respectively. We purchased credit default swaps of comparable notional amounts to mitigate the exposure of the written credit default swaps at September 30, 2006,March 31, 2007, and December 31, 2005.2006. These purchased credit default swaps had terms (i.e., used the same reference obligation and maturity) that would offset our exposure from the written default swap contracts in which we are providing protection to a counterparty.
6960
In connection with certain brokerage, asset management, and insurance agency and other acquisitions we have made, the terms of the acquisition agreements provide for deferred payments or additional consideration based on certain performance targets. At September 30, 2006,March 31, 2007, and December 31, 2005,2006, the amount of contingentadditional consideration we expected to pay was not significant to our financial statements.
We have entered into various contingent performance guarantees through credit risk participation arrangements with remaining terms up to 2322 years. We will be required to make payments under these guarantees if a customer defaults on its obligation to perform under certain credit agreements with third parties. The extent of our obligations under these guarantees depends entirely on future events and was contractually limited to an aggregate liability of approximately $100 million at September 30, 2006,March 31, 2007, and $110$125 million at December 31, 2005.2006.
7061
18.19. REGULATORY AND AGENCY CAPITAL REQUIREMENTS
The Company and each of its subsidiary banks are subject to various regulatory capital adequacy requirements administered by the Federal Reserve Board (FRB) and the Office of the Comptroller of the Currency, respectively.
We do not consolidate our wholly-owned trusts (the Trusts) formed solely to issue trust preferred securities. The amount of trust preferred securities issued by the Trusts that was includable in Tier 1 capital in accordance with FRB risk-based capital guidelines was $4.2$3.5 billion at September 30, 2006.March 31, 2007. The junior subordinated debentures held by the Trusts were included in the Company’s long-term debt.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | To be well capitalized | | | To be well capitalized | |
| | under the FDICIA | | | under the FDICIA | |
| | For capital | | prompt corrective | | | For capital | | prompt corrective | |
| | Actual | | adequacy purposes | | action provisions | | | Actual | | adequacy purposes | | action provisions | |
(in billions) | | Amount | | Ratio | | Amount | | Ratio | | Amount | | Ratio | | | Amount | | Ratio | | Amount | | Ratio | | Amount | | Ratio | |
As of September 30, 2006: | | |
| | | |
| | |
Total capital (to risk-weighted assets) | | |
Wells Fargo & Company | | | | $ | 50.2 | | | | 12.34% | | ³ | | $ | 32.5 | | ³ | | | 8.00 | % | | | $ | 50.7 | | | 12.10 | % | | ³ | $33.5 | | ³ | 8.00 | % | |
Wells Fargo Bank, N.A. | | 39.7 | | 12.04 | | ³ | | 26.4 | | ³ | | 8.00 | | ³ | | $ | 33.0 | | ³ | | | 10.00 | % | | 40.0 | | 11.78 | | ³ | 27.2 | | ³ | 8.00 | | ³ | $34.0 | | ³ | 10.00 | % |
Tier 1 capital (to risk-weighted assets) | | |
Wells Fargo & Company | | | | $ | 35.6 | | | | 8.74% | | ³ | | $ | 16.3 | | ³ | | | 4.00 | % | | | $ | 36.5 | | | 8.70 | % | | ³ | $16.8 | | ³ | 4.00 | % | |
Wells Fargo Bank, N.A. | | 27.8 | | 8.43 | | ³ | | 13.2 | | ³ | | 4.00 | | ³ | | $ | 19.8 | | ³ | | | 6.00 | % | | 28.9 | | 8.50 | | ³ | 13.6 | | ³ | 4.00 | | ³ | $20.4 | | ³ | 6.00 | % |
Tier 1 capital (to average assets) (Leverage ratio) | | |
Tier 1 capital (to average assets) | | |
(Leverage ratio) | | |
Wells Fargo & Company | | | | $ | 35.6 | | | | 7.41% | | ³ | | $ | 19.2 | | ³ | | | 4.00 | %(1) | | | $ | 36.5 | | | 7.83 | % | | ³ | $18.6 | | ³ | 4.00 | %(1) | |
Wells Fargo Bank, N.A. | | 27.8 | | 6.92 | | ³ | | 16.1 | | ³ | | | 4.00 | (1) | | ³ | | $ | 20.1 | | ³ | | | 5.00 | % | | 28.9 | | 7.51 | | ³ | 15.4 | | ³ | 4.00 | (1) | | ³ | $19.2 | | ³ | 5.00 | % |
| | | |
| | |
(1) | | The leverage ratio consists of Tier 1 capital divided by quarterly average total assets, excluding goodwill and certain other items. The minimum leverage ratio guideline is 3% for banking organizations that do not anticipate significant growth and that have well-diversified risk, excellent asset quality, high liquidity, good earnings, effective management and monitoring of market risk and, in general, are considered top-rated, strong banking organizations. |
As an approved seller/servicer, Wells Fargo Bank, N.A., through its mortgage banking division, is required to maintain minimum levels of shareholders’ equity, as specified by various agencies, including the United States Department of Housing and Urban Development, Government National Mortgage Association, Federal Home Loan Mortgage Corporation and Federal National Mortgage Association. At September 30, 2006,March 31, 2007, Wells Fargo Bank, N.A. met these requirements.
7162
19.20. DERIVATIVES
Fair Value Hedges
Prior to January 1, 2006, we used derivatives as fair value hedges to manage the risk of changes in the fair value of residential MSRs and other interests held. These derivatives includedWe use interest rate swaps swaptions, Treasury futures and options, Eurodollar futures and options, and forward contracts. Derivative gains or losses caused by market conditions (volatility) and the spread between spot and forward rates priced into the derivative contracts (the passage of time) were excluded from the evaluation of hedge effectiveness, but were reflected in earnings. Upon adoption of FAS 156, derivatives used to hedge our residential MSRs are no longer accounted for as fair value hedges under FAS 133, but as economic hedges. Net derivative gains and losses related to our residential mortgage servicing activities are included in “Servicing income, net” in Note 15.
We use derivatives, such as Treasury and LIBOR futures and swaptions, to hedge changes in fair value due to changes in interest rates of our commercial real estate mortgages and franchise loans held for sale. The ineffective portion of these fair value hedges is recorded as part of mortgage banking noninterest income in the income statement. We also enter into interest rate swaps, designated as fair value hedges, to convert certain of our fixed-rate long-term debt and certificates of deposit to floating rates. In addition, werates to hedge our exposure to interest rate risk. We also enter into cross-currency swaps and cross-currency interest rate swaps to hedge our exposure to foreign currency risk and interest rate risk associated with the issuance of non-U.S. dollar denominated debt. The ineffective portion of these fair value hedges is recorded as part of other noninterest income in the income statement. In addition, we use derivatives, such as Treasury and LIBOR futures and swaptions, to hedge changes in fair value due to changes in interest expenserates of our commercial real estate mortgage loans held for sale. The ineffective portion of these fair value hedges is recorded as part of mortgage banking noninterest income in the income statement. For fair value hedges of long-term debt, certificates of deposit, foreign currency and commercial real estate long-term debt and foreign currency hedges,loans, all parts of each derivative’s gain or loss due to the hedged risk are included in the assessment of hedge effectiveness.
We enter into equity collars to lock in share prices between specified levels for certain equity securities. As permitted, we include the intrinsic value only (excluding time value) when assessing hedge effectiveness. The net derivative gain or loss related to the equity collars is recorded in “Other”other noninterest income in the income statement.
At September 30, 2006,March 31, 2007, all designated fair value hedges continued to qualify as fair value hedges.
Cash Flow Hedges
We hedge floating-rate senior debt against future interest rate increases by using interest rate swaps to convert floating-rate senior debt to fixed rates and by using interest rate caps and floors to limit variability of rates. We also useWith the issuance of FAS 159, derivatives used to hedge the forecasted sales of certain MHFS, such as Treasury futures, forwards and options, Eurodollar futures, and forward contracts, to hedge forecasted sales of mortgage loans.are accounted for as economic hedges. Previously, we accounted for these derivatives as cash flow hedges under FAS 133. Gains and losses on derivatives that are reclassified from cumulative other comprehensive income to current period earnings, are included in the line item in which the hedged item’s effect in earnings is recorded. All parts of gain or loss on these derivatives are included in the assessment of hedge effectiveness. As of September 30, 2006,March 31, 2007, all designated cash flow hedges continued to qualify as cash flow hedges.
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We expect that $24$20 million of deferred net lossesgains on derivatives in other comprehensive income at September 30, 2006,March 31, 2007, will be reclassified as earnings during the next twelve months, compared with $77$112 million of deferred net gains at September 30, 2005.March 31, 2006. We are hedging our exposure to the variability of future cash flows for all forecasted transactions for a maximum of 10 years for hedges of floating-rate senior debt and one year for hedges of forecasted sales of mortgage loans.debt.
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The following table provides net derivative gains and losses related to fair value and cash flow hedges resulting from the change in value of the derivatives excluded from the assessment of hedge effectiveness and the change in value of the ineffective portion of the derivatives.
| | | | | | | | | | | | | | | | |
| |
| | Quarter ended Sept. 30 | , | | Nine months ended Sept. 30 | , |
(in millions) | | 2006 | | | 2005 | | | 2006 | | | 2005 | |
| |
Gains (losses) from fair value hedges (1) from: | | | | | | | | | | | | | | | | |
Change in value of derivatives excluded from the assessment of hedge effectiveness | | $ | — | | | $ | (51 | ) | | $ | (8 | ) | | $ | 390 | |
Ineffective portion of change in value of derivatives | | | 3 | | | | (5 | ) | | | 14 | | | | (253 | ) |
Gains (losses) from ineffective portion of change in the value of cash flow hedges | | | (7 | ) | | | 25 | | | | 48 | | | | 17 | |
| |
| | |
(1) | | Includes hedges of equity securities, commercial real estate and franchise loans, long-term debt and certificates of deposit, and foreign currency, and, for 2005, residential MSRs. Upon adoption of FAS 156, derivatives used to hedge our residential MSRs are no longer accounted for as fair value hedges under FAS 133. |
| | | | | | | | |
| |
| | Quarter ended March 31 | , |
(in millions) | | 2007 | | | 2006 | |
| |
Net gains (losses) from fair value hedges from: | | | | | | | | |
Change in value of derivatives excluded from the assessment of hedge effectiveness | | $ | 2 | | | $ | (10 | ) |
Ineffective portion of change in value of derivatives | | | 3 | | | | 4 | |
Net gains from ineffective portion of change in the value of cash flow hedges | | | 25 | | | | 16 | |
| |
Free-Standing Derivatives
We use free-standing derivatives (economic hedges), in addition to debt securities available for sale, to hedge the risk of changes in the fair value of residential MSRs, new prime MHFS and other interests held,derivative loan commitments, with the resulting gain or loss reflected in income. These
The derivatives used to hedge residential MSRs include swaps, swaptions, Treasury futures and options, Eurodollar futures and options, and forward contracts, in addition to securities available for sale.contracts. Net derivative gains of $1,061 million and losses of $178$23 million for the thirdfirst quarter 2007 and $706 million for first nine months ofquarter 2006 respectively, from economic hedges related to our mortgage servicing activities are included onin the income statement in “Mortgage banking.” The aggregate fair value of these derivatives used as economic hedges was a net asset of $905$360 million at September 30, 2006,March 31, 2007, and $32$157 million at December 31, 2005, and is included on the balance sheet in “Other assets.”2006. Changes in fair value of debt securities available for sale (unrealized gains and losses) are not included in servicing income, but are reported in cumulative other comprehensive income (net of tax) or, upon sale, are reported in net gains (losses) on debt securities available for sale.
Interest rate lock commitments for residential mortgage loans that we intend to sell are considered free-standing derivatives. Our interest rate exposure on these derivative loan commitments, as well as new prime MHFS carried at fair value under FAS 159, is hedged with free-standing derivatives (economic hedges) such as Treasury futures, forwards and options, Eurodollar futures, and forward contracts. The commitments and free-standing derivatives are carried at fair value with changes in fair value recorded as a part of mortgage banking noninterest incomeincluded in the income statement.statement in “Mortgage banking.” We record a zero fair value for a derivative loan commitment at inception consistent with Emerging Issues Task Force Issue No. 02-3,Issues Involved in Accounting for Derivative Contracts Held for Trading Purposes and Contracts Involved in Energy Trading and Risk Management Activities, and Securities and Exchange Commission (SEC) Staff Accounting Bulletin No. 105,Application of Accounting
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Principles to Loan Commitments.inception. Changes subsequent to inception are based on changes in fair value of the underlying loan resulting from the exercise of the commitment and changes in the probability that the loan will not fund within the terms of the commitment, which is affected primarily by changes in interest rates and passage of time (referred to as a fall-out factor). The aggregate fair value of derivative loan commitments onin the consolidated balance sheet was a net asset of $46 million at September 30,March 31, 2007, and December 31, 2006, andwas a net liability of $54$48 million at December 31, 2005,and $65 million, respectively, and is included in the caption “Interest rate contracts” under Customer AccommodationsAccommodation, Trading and TradingOther Free-Standing Derivatives in the following table. Net derivative losses of $73 million for first quarter 2007 from economic hedges related to derivative loan commitments and MHFS are included in the income statement in “Mortgage
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banking.” The aggregate fair value of these derivatives used as economic hedges was a net asset of $31 million at March 31, 2007.
We also enter into various derivatives primarily to provide derivative products to customers. To a lesser extent, we take positions based on market expectations or to benefit from price differentials between financial instruments and markets. These derivatives are not linked to specific assets and liabilities onin the balance sheet or to forecasted transactions in an accounting hedge relationship and, therefore, do not qualify for hedge accounting. We also enter into free-standing derivatives for risk management that do not otherwise qualify for hedge accounting. They are carried at fair value with changes in fair value recorded as part of other noninterest income in the income statement. Additionally, free-standing derivatives include embedded derivatives that are required to be separately accounted for from their host contracts.
Derivative Financial Instruments – Summary Information
The total credit risk amount and estimated net fair value for derivatives at September 30, 2006,March 31, 2007, and December 31, 2005,2006, were:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | |
| | September 30, 2006 | | December 31, 2005 | | | March 31, 2007 | | December 31, 2006 | |
| | Credit | | Estimated | | Credit | | Estimated | | | Credit | | Estimated | | Credit | | Estimated | |
| | risk | | net fair | | risk | | net fair | | | risk | | net fair | | risk | | net fair | |
(in millions) | | amount(2) | | value | | amount (2) | | value | | | amount(2) | | value | | amount (2) | | value | |
| | | |
ASSET/LIABILITY MANAGEMENT HEDGES (1) | | |
| | |
ASSET/LIABILITY MANAGEMENT HEDGES | | |
Qualifying hedge contracts accounted for under FAS 133 | | |
Interest rate contracts | | $ | 1,580 | | $ | 734 | | $ | 726 | | $ | 218 | | | $ | 262 | | $ | (120 | ) | | $ | 621 | | $ | 199 | |
Equity contracts | | 1 | | | (12 | ) | | 3 | | — | | | — | | | (7 | ) | | — | | | (15 | ) |
Foreign exchange contracts | | 497 | | 437 | | 153 | | 93 | | | 692 | | 652 | | 548 | | 539 | |
CUSTOMER ACCOMMODATIONS AND TRADING | | |
Free-standing derivatives (economic hedges) | | |
Interest rate contracts (1) | | | 863 | | 371 | | 715 | | 183 | |
Foreign exchange contracts | | | 93 | | 90 | | 136 | | 87 | |
| | |
CUSTOMER ACCOMMODATION, TRADING AND OTHER FREE-STANDING DERIVATIVES | | |
Interest rate contracts | | 1,499 | | 223 | | 1,395 | | 47 | | | 1,360 | | 212 | | 1,454 | | 214 | |
Commodity contracts | | 450 | | 7 | | 801 | | 38 | | | 335 | | 28 | | 362 | | 22 | |
Equity contracts | | 207 | | | (27 | ) | | 258 | | | (12 | ) | | 451 | | | (1 | ) | | 300 | | | (13 | ) |
Foreign exchange contracts | | 261 | | 12 | | 315 | | 24 | | | 286 | | | (6 | ) | | 306 | | 19 | |
Credit contracts | | 34 | | | (14 | ) | | 23 | | | (33 | ) | | 164 | | 144 | | 30 | | 3 | |
| | | | |
| | |
(1) | | Includes fair value and cash flow hedges accounted for under FAS 133 and free-standing derivatives (economic hedges) used to hedge the risk of changes in the fair value of residential MSRs, MHFS, interest rate lock commitments and other interests held. |
(2) | | Credit risk amounts reflect the replacement cost for those contracts in a gain position in the event of nonperformance by all counterparties. |
7465
PART II – OTHER INFORMATION
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
The following table shows Company repurchases of its common stock for each calendar month in the quarter ended September 30, 2006.March 31, 2007.
| | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | |
| | Total number of | | | | | |
| | Weighted- | | shares repurchased | | Maximum number of | | | Maximum number of | |
| | Total number | | average | | as part of publicly | | shares that may yet | | | Total number | | shares that may yet | |
Calendar | | of shares | | price paid | | announced | | be repurchased under | | | of shares | | Weighted-average | | be repurchased under | |
month | | repurchased | (1) | | per share | | authorizations | (1) | | the authorizations | | | repurchased (1) | | price paid per share | | the authorizations | |
July | | 3,907,996 | | $ | 35.01 | | 3,907,996 | | 79,743,298 | | |
August | | 4,131,126 | | 35.79 | | 4,131,126 | | 75,612,172 | | |
September | | 2,728,002 | | 35.66 | | 2,728,002 | | 72,884,170 | | |
| | |
January | | | 4,420,613 | | | $35.90 | | 57,418,093 | |
| | |
February | | | 6,832,830 | | 35.52 | | 50,585,263 | |
| | |
March | | | 35,815,376 | | 34.33 | | 89,769,887 | |
| | | | | | | | |
Total | | 10,767,124 | | 10,767,124 | | | 47,068,819 | |
| | | | | | | | |
| | | | |
| | |
(1) | | All shares were repurchased under twothree authorizations each covering up to 50 million, 50 million and 75 million shares of common stock approved by the Board of Directors and publicly announced by the Company on November 15, 2005, and June 27, 2006.2006, and March 21, 2007, respectively. Unless modified or revoked by the Board, these authorizations do not expire. |
Item 6. Exhibits
A list of exhibits to this Form 10-Q is set forth on the Exhibit Index immediately preceding such exhibits and is incorporated herein by reference.
The Company’s SEC file number is 001-2979. On and before November 2, 1998, the Company filed documents with the SEC under the name Norwest Corporation. The former Wells Fargo & Company filed documents under SEC file number 001-6214.
3(a) | | Restated Certificate of Incorporation, incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K filed September 28, 2006 |
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(b) | | By-Laws, incorporated by reference to Exhibit 3 to the Company’s Current Report on Form 8-K filed January 30, 2006 |
|
4(a) | | See Exhibits 3(a) and 3(b) |
|
(b) | | The Company agrees to furnish upon request to the Commission a copy of each instrument defining the rights of holders of senior and subordinated debt of the Company |
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10(a) | | Amendments to Long-Term Incentive Compensation Plan, effective August 4, 2006, filed herewith |
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(b) | | Amendment to Deferred Compensation Plan, effective September 26, 2006, filed herewith |
|
(c) | | Amendment to PartnerShares Stock Option Plan, effective August 4, 2006, filed herewith |
|
(d) | | Amendment to Directors Stock Compensation and Deferral Plan, effective August 4, 2006, filed herewith |
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10(e) | | Amendment to Supplemental 401(k) Plan, effective August 4, 2006, filed herewith |
|
12 | | Computation of Ratios of Earnings to Fixed Charges, filed herewith |
| | | | | | | | | | | | | | | | |
| |
| | Quarter ended Sept. 30 | , | | Nine months ended Sept. 30 | , |
| | 2006 | | | 2005 | | | 2006 | | | 2005 | |
| |
Ratio of earnings to fixed charges: | | | | | | | | | | | | | | | | |
Including interest on deposits | | | 1.95 | | | | 2.47 | | | | 2.02 | | | | 2.66 | |
Excluding interest on deposits | | | 3.30 | | | | 3.92 | | | | 3.37 | | | | 4.22 | |
| |
31(a) | | Certification of principal executive officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith |
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(b) | | Certification of principal financial officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith |
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| | 32(a) Certification of Periodic Financial Report by Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and 18 U.S.C. § 1350, furnished herewith |
|
(b) | | Certification of Periodic Financial Report by Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and 18 U.S.C. § 1350, furnished herewith |
SIGNATURE
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this Reportreport to be signed on its behalf by the undersigned, thereunto duly authorized.
| | | | |
Dated: November 2, 2006May 7, 2007 | | WELLS FARGO & COMPANY |
| | | | |
| | By: | | /s/ RICHARD D. LEVY |
| | | | |
| | | | Richard D. Levy
Senior |
| | | | Executive Vice President and Controller
|
| | | | (Principal Accounting Officer) |
7666
EXHIBIT INDEX
| | | | |
Exhibit | | | | |
Number | | Description | | Location |
| | | | |
3(a) | | Restated Certificate of Incorporation. | | Incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K filed September 28, 2006. |
| | | | |
3(b) | | Certificate of Designations for the Company’s 2007 ESOP Cumulative Convertible Preferred Stock. | | Incorporated by reference to Exhibit 3(a) to the Company’s Current Report on Form 8-K filed March 19, 2007. |
| | | | |
3(c) | | Certificate Eliminating the Certificate of Designations for the Company’s 1997 ESOP Cumulative Convertible Preferred Stock. | | Incorporated by reference to Exhibit 3(b) to the Company’s Current Report on Form 8-K filed March 19, 2007. |
| | | | |
3(d) | | By-Laws. | | Incorporated by reference to Exhibit 3 to the Company’s Current Report on Form 8-K filed December 4, 2006. |
| | | | |
4(a) | | See Exhibits 3(a) through 3(d). | | |
| | | | |
4(b) | | The Company agrees to furnish upon request to the Commission a copy of each instrument defining the rights of holders of senior and subordinated debt of the Company. | | |
| | | | |
10(a) | | Amendment to Long-Term Incentive Compensation Plan, effective January 1, 2007. | | Filed herewith. |
| | | | |
10(b) | | Action of Human Resources Committee Specifying “Fair Market Value” for February 27, 2007, Option Grants Under the Long-Term Incentive Compensation Plan. | | Incorporated by reference to Exhibit 10(a) to the Company’s Annual Report on Form 10-K for the year ended December 31, 2006. |
| | | | |
10(c) | | Amendment to Long-Term Incentive Compensation Plan, effective February 28, 2007. | | Incorporated by reference to Exhibit 10(a) to the Company’s Annual Report on Form 10-K for the year ended December 31, 2006. |
| | | | |
10(d) | | Action of Governance and Nominating Committee Increasing Amount of Formula Stock and Option Awards Under Directors Stock Compensation and Deferral Plan, effective January 1, 2007. | | Incorporated by reference to Exhibit 10(f) to the Company’s Annual Report on Form 10-K for the year ended December 31, 2006. |
| | | | |
10(e) | | Amendment to Directors Stock Compensation and Deferral Plan, effective February 27, 2007. | | Incorporated by reference to Exhibit 10(f) to the Company’s Annual Report on Form 10-K for the year ended December 31, 2006. |
| | | | |
10(f) | | Amendment to Deferred Compensation Plan, effective January 1, 2007. | | Filed herewith. |
| | | | |
10(g) | | Amendment to PartnerShares Stock Option Plan, effective January 1, 2007. | | Filed herewith. |
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12 | | Computation of Ratios of Earnings to Fixed Charges: | | Filed herewith. |
| | | | | | | | | | | | | | |
| | | | Quarter ended March 31 | , |
| | | | | | | | 2007 | | | 2006 | |
| | |
| | | | | | | | | | | | | | |
| | Including interest on deposits | | | | | | | 2.01 | | | | 2.12 | |
| | | | | | | | | | | | | | |
| | Excluding interest on deposits | | | | | | | 3.41 | | | | 3.47 | |
| | | | | | | | | | | | | | |
| | |
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| | | | |
Exhibit | | | | |
Number | | Description | | Location |
| | | | |
31(a) | | Certification of principal executive officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | | Filed herewith. |
| | | | |
31(b) | | Certification of principal financial officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | | Filed herewith. |
| | | | |
32(a) | | Certification of Periodic Financial Report by Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and 18 U.S.C. § 1350. | | Furnished herewith. |
| | | | |
32(b) | | Certification of Periodic Financial Report by Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and 18 U.S.C. § 1350. | | Furnished herewith. |
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