Wells Fargo & Company

Good morning. My name is Regina, and I will be your conference operator today. At this time, I would like to welcome everyone to the Wells Fargo Second Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. Please note that today's call is being recorded. I would now like to turn the call over to John Campbell, Director of Investor Relations. Sir, you may begin the conference.

Thank you, Regina. Good morning, everyone. Thank you for joining our call today where our CEO, Charlie Scharf, and our CFO, John Shrewsbury, will discuss second quarter results and answer your questions. This call is being recorded. Before we get started, I would like to remind you that our second quarter earnings release and quarterly supplement are available on our website at wellsargo.com. I'd also like to caution you that we may make forward-looking statements during today's call that are subject to risks and uncertainties. Factors that may cause actual results to differ materially from expectations are detailed in our SEC filings, including the Form 8-K filed today containing our earnings release and quarterly supplements. Information about any non-GAAP financial measures referenced, including a reconciliation of those measures to GAAP measures, can also be found in our SEC filings in the earnings release and in the quarterly supplement available on our website. I will now turn the call over to Charlie.

Good morning, everyone. Thank you, John. I'm going to open the call by reviewing what is clearly a very poor quarter for us. I will review the drivers of our results, make some comments about the environment, and discuss the rationale for the intended dividend reduction. I'll then turn the call over to John to review second quarter results in more detail. Our view of the length and severity of the downturn deteriorated considerably from our assumptions at the end of the first quarter, and this, as well as the knock-on impacts from COVID, substantially impacted our results this quarter. We added $8.4 billion to the allowance for credit losses. Charge-offs increased $204 million from the prior quarter to $1.1 billion. Net interest income was down 13% from the prior quarter, driven primarily by lower rates. The constraints of operating under the asset cap has limited our ability to offset lower rates with balance sheet growth, and we actually took actions during the quarter to limit loan and deposit growth, which John will highlight. Expenses included approximately $400 million related to decisions we made due to COVID, most of which we do not expect to be permanent, but was the right thing to do for employees, and to improve the safety of our facilities. About $350 million of deferred comp with an offset in fee revenue, $1.2 billion of operating losses, primarily for customer remediation accruals related to our ongoing work to remediate the historical issues in community banking as we took another look under new leadership at outstanding matters. This accrual will enable us to do the right thing for our customers while resolving these matters as quickly as possible. Revenues were lowered by about $295 million due to COVID-related fee and interest waivers for certain products. In addition, a strong quarter of mortgage production revenue was partially offset by a $531 million write-down of our mortgage servicing rights asset due to higher projected defaults and faster prepayment assumptions. And while it's a smaller part of the company, we did have record revenues this quarter in our corporate and investment bank, Even with the loss this quarter, our CET1 ratio increased to 10.9% from 10.7% last quarter and is well above our regulatory minimum of 9%. As a reminder, our regulatory minimum reflects our expected stress capital buffer of 2.5%, the minimum possible. As you know, Wells Fargo is predominantly a U.S. bank that takes deposits and makes loans. Our balance sheet composition is 80% cash, loans, and our investment portfolio. When consumers, small businesses, middle market companies, and corporates suffer, we do as well. As the economic environment brought on by COVID negatively impacts our customers and clients, it will filter through to our results primarily in the form of outsized credit losses and compressed net interest margins. Additionally, Given we operate with a balance sheet cap, we must prioritize balance sheet capacity, both assets and deposits, and there is certainly an opportunity cost for us in an environment like this. In addition, given the uncertainty of the recovery, we must manage the balance sheet to a level where we can remain below the asset cap, even if there is another period of material loan drawdowns or upward pressure on our deposit base. Having said that, we are responsible for the position we're in, The balance sheet cap exists because leadership failed to both oversee and build the appropriate infrastructure of the company, and our financial underperformance is because leadership didn't make the difficult decisions necessary. We are focused on both of these. We still have much to do to build the right risk and control foundation, which is what our regulators expect, and nothing can or will stand in the way of those activities. It is our highest priority. But we also recognize that we've been extremely inefficient for too long, and we will begin to take decisive actions, none of which will impact our risk and regulatory work, to increase our margins. To the first point, we continue to make meaningful changes to improve the foundation of the company. In the second quarter, we announced corporate risk organizational structure to provide greater oversight of all risk-taking activities and a more comprehensive view of risk across the company. Our new risk model will have five line of business chief risk officers to complement the teams and leaders by risk type. During the quarter, we hired a new chief operational risk officer, a new chief risk officer for consumer lending, and a chief control executive. We continue to add additional talent to the senior leadership team. Since I joined the company nine months ago, I've announced six new members to the operating committee, all coming from outside of Wells Fargo with strong and relevant industry experience. Over two-thirds of our operating committee have joined Wells Fargo since 2018. All of our business line CEOs are now in place, including Mike Weinbach, who joined Wells Fargo in May as CEO of Consumer Lending, and Barry Summers, who joined at the end of June as CEO of Wealth and Investment Management. Lester Owens will be joining us next week in a newly created role as head of operations. Lester has more than 30 years of experience in the financial services industry and senior operations roles. He will be responsible for building a more integrated approach to Wells Fargo's business operations functions. He has a proven track record in delivering a better customer experience while driving substantial efficiencies at the same time. We also made significant hires and roles won down from our operating committee, including a new head of government relations, corporate communications, and corporate responsibility, as well as chief administrative officer and a new head of our home lending businesses. We continue to have over 200,000 employees working from home, and we plan to have employees who are currently working from home continue to do so until at least September. It is too early to determine exactly when we will ultimately return to a more traditional work environment, but we will be cautious about bringing people back into the office. While I do believe there are meaningful benefits of people working physically together, we will move forward when we are comfortable that the health risks are manageable. Where there is a specific need, we will do so with the appropriate safety precautions in place, and we will make these decisions by geography, by facility. We have done this since the beginning of the crisis, and we will continue to do so and serve our customers and communities. We've made significant accommodations for our customers. Through the end of June, we have helped more than 2.7 million consumer and small business customers by deferring payments and waiving fees. This includes over 2.5 million payment deferrals, representing more than $5 billion in principal and interest, including $3.2 billion in mortgage loans serviced for others. We provided approximately 6 million fee waivers for consumer and small business customers, exceeding $200 million. For our commercial clients, we processed approximately 246,000 deferrals, representing more than $1.5 billion of principal and interest payments. In addition, for commercial distribution and auto finance customers, we provided maturity date extensions representing approximately $6.6 billion of outstanding principal and interest. Through the end of June, we have funded 179,000 PPP loans totaling $10.1 billion with an average loan size of $6,000. Sixty percent of those were for loan amounts of less than $25,000. Eighty-four percent of those were for companies that had fewer than 10 employees. Ninety percent have less than $2 million in annual revenues. And 41 percent were to companies in low- and moderate-income areas for at least 50 percent minority census tracts. And we announced last week our Open for Business Fund. We have committed to donating approximately $400 million in gross processing fees earned from the Payroll Protection Plan to help support businesses impacted by the COVID-19 pandemic, and we will work with nonprofit organizations to provide capital, technical support, and long-term resiliency programs to small businesses with an emphasis on serving minority-owned businesses. Customer deposits have continued to increase, reflecting unprecedented government stimulus programs, lower spending, and customers converting investments into cash, while commercial deposits declined, reflecting actions we took to manage under the asset cap, which John will describe in more detail. In March, our commercial customers utilized over $80 billion of their loan commitments during the market turbulence at the onset of the pandemic, and almost all of those loans were paid down in the second quarter. Debit card spend started to increase in April and returned to pre-COVID levels in May, and and in the last full week of June were up approximately 10% from the same week a year ago. Consumer credit card spend improved steadily starting in mid-April, but was still down approximately 10% from a year ago as of the end of June. Commercial card spend remained significantly lower throughout the second quarter and was still down over 30% in the last full week of June compared to the same week a year ago with declines across industry segments. We continue to monitor our consumer and commercial customer spending trends as the nation goes through the various stages of reopening. Trends in digital usage are strong. Mobile deposit dollar volume was up over 100% in the second quarter compared with a year ago. In the second quarter, digital logins were up 21% from a year ago. Let me turn to the dividend now. Today we announced that our board expects to reduce our dividend by for the third quarter to 10 cents per share. The Federal Reserve has authorized banks to pay common stock dividends that do not exceed an amount equal to the average of the bank's net income for the four preceding calendar quarters. Based on these instructions, we previously announced that this limitation would cause us to reduce the dividend from the current level of 51 cents a share. In addition, while this requirement currently applies to the third quarter, The Federal Reserve stated it reserves the right to extend the limitations and learns more about the evolution of the COVID event. Separately from this, our board has been reviewing the level of the dividend, and I've discussed the way in which we would approach evaluating the right go-forward level. We first would look at our capital position. As I said, our capital position remains quite strong, so our current capital level is not the driving factor in our decision. Having said that, as we look forward, We do not pretend to have a deeper understanding of the path of the recovery than others. Using our economic assumptions, our capital levels remain above the minimum required, and our CCAR results confirm the strength of our capital position, but we believe it's prudent to note that our assumptions are just that, so we felt it was appropriate to factor this uncertainty into our thinking around the appropriate dividend level in this environment. After evaluating our capital position, we considered our current and expected earnings level. We expect the impact of COVID to continue to negatively impact our earnings until we see a clear trend of meaningful improvements in unemployment and GDP. This will result in continued lower levels of NII and certain economically sensitive fee revenues, as well as potentially unforeseen expenses to operate in this environment. In addition, while our ACL is intended to cover expected losses based on our current economic assumptions, we're mindful of the uncertainty and the need to reevaluate these assumptions continually. And I will discuss this more, but while we have actively begun to address the fact that our expenses are significantly too high, it will take some time to see the impact of our actions in our results. Putting this all together, it is critical in these uncertain times that our common stock dividend reflects current earnings capacity, assuming a continued difficult operating environment, evolving regulatory guidance, and protects our capital position if economic conditions were to further deteriorate. Given this, we believe it's prudent to be extremely cautious until we see a clear path to broad economic improvement. We're confident that this eventual economic improvement, combined with our actions to increase our margins, will allow our wonderful franchise to support a higher dividend in the future. We're extremely disappointed to take this action and do understand that many rely on this stream of income However, we must be prudent in this environment. I have acknowledged in the past that our expenses are too high and that we're building roadmaps to improve our efficiency ratio. To repeat, there's nothing structurally different about Wells Fargo that should prevent us from being as efficient as our large peers, but we are far from it. For us to bring our level of efficiency close to our peers, the math would tell you we need to eliminate over $10 billion of expenses. While our work is not yet complete to commit to specific numbers and timeframes, we expect to take a series of actions beginning in the second half of the year to begin to reduce our expense base and bring our expenses in line with the size and composition of our businesses. This will be a multi-year effort for sure, but would like to see a reduction in expenses next year. And we now have a centralized team driving the effort across the enterprise, and our lines of business and functional areas have dedicated resources stacked against us. This work did not start in the last few months, but the extremely challenging operating environment and uncertain outlook has accelerated our sense of urgency. It is important to note that I deeply believe that this exercise is about making us a better and more efficient company, not just about reducing expenses. We have too many management layers, spans of controls for managers are too narrow, and we have resources dedicated to activities that are not a priority today. This cannot continue. We also have the opportunity to apply lessons we have learned since the onset of the pandemic to drive efficiency across the company. Over the medium term, we have the opportunity to materially reduce our expense, including increasing digital adoption for retail and commercial clients, reducing third-party spend, consolidating locations, including branches, field offices, and corporate sites, and applying technology differently. In addition, the opportunity to consolidate our operational platforms is still meaningful. As a financial company, and specifically a G-SIB, we must be strong financially to serve our customers and support our communities, but also to provide growing opportunities for our employees. And while our balance sheet is strong, our margins are too narrow. To ensure we're that source of strength, we need to begin to take action to improve our results. As I've said, and I'll say it again, we will not do anything that will impact the work we have underway to build out our risk and control environment. The opportunity to become more efficient exists elsewhere in the organization, and we will protect this work at all costs. I will continue to share more specifics about our plans as they develop, and we will be talking more about this next quarter. While there remains much economic uncertainty, many market liquidity trends are strong as Fed programs continue to effectively support the smooth functioning of the capital markets. While still wide to pre-crisis levels, market spreads have continued to improve since the peak of the dislocation and have retraced 70% to 90% of their mid-March widening. Liquidity in Treasury and interest rate swap markets returned to pre-crisis levels, and the Fed's open market purchase program has stabilized mortgage basis valuations and improved liquidity. HQLA bid-ask, a measure of the cost to transfer risk, has retraced to pre-crisis levels, while measures of volatility are now below pre-crisis levels. However, the economic recovery will not be smooth. Much of the economy is still essentially closed or just beginning to open, and additional restrictions are being implemented as the spread of the virus continues to increase in many areas of the country. world. While consumer spending has increased from levels at the end of the first quarter, it is still down from a year ago with significant declines in areas like travel, entertainment, and restaurants. And while government stimulus programs have provided a safety net for many, they are scheduled to run off, raising the possibility of more economic hardship ahead. Having said all of this, cities, communities, people, and businesses are all learning and what it takes to reopen safely, and there is progress on vaccines and therapeutics. We will do what we can to support the fastest recovery possible, but we will be cautious in our outlook until we see the facts. I want to conclude my comments today by discussing an important topic, racial injustice. In my conversations with different groups over the past months, the pain and frustration with the lack of progress within both our country and Wells Fargo is clear. Inequality and discrimination has been clearly exposed and must not continue. Wells Fargo has not been effective in creating enough diversity or a consistently inclusive environment, and I've outlined a number of actions we are taking around race to change the outcomes, including creating a new role, which will have a broad mandate of driving diversity and inclusion in both the workplace but also our business. We'll be evaluating operating committee members based upon their progress in improving diverse representation and inclusion in their area of responsibility, and it will have a direct impact on year-end compensation decisions. And we've announced the donation of these gross processing fees for PPP, estimated to be approximately $400 million. This is just the beginning of the work needed to address this crisis. and to meaningful contribute to the change that is necessary. But I believe that this is a watershed moment, and we will be part of making sure this time is different. Finally, I want to thank all of the employees at Wells Fargo who continue to work tirelessly to serve our customers and successfully execute on our priorities. I will now turn the call over to John.