Wells Fargo (WFC) and the Wachovia (WB) Bid: Crafty or Crazy?
October 4th, 2008 by 
James Cullen
Back in mid-July, I presented the idea that Wells Fargo (WFC) and US Bank (USB) are the two best-positioned banks, and are therefore the only bank stocks worth owning. Both are up about 25% since, against a single-digit rise in the KBW Bank Index (ETF ticker: KBE), though that hardly captures the entire picture as a non-diversified set of bank holdings could have easily gotten your portfolio killed.
The particular irony here is that while I praised the prudence and conservatism of Wells and US Bank in that post, I also ripped on Wachovia (WB) and their low loss reserves, which I speculated would have shown the company to be effectively bankrupt if they were “trued up” to something reasonable. Fast forwarding, and Wachovia’s independence is all but gone and they are caught in a takeover fight between Citigroup (C) and the same Wells Fargo that I liked for staying clear (so far) of this credit mess.
Now that Wells Fargo is wading in to the acquisition arena with a $15 billion (give or take, not including assumed debt) all-stock bid for Wachovia, is it a sign they’ve grown impatient from sitting on their hands as undercapitalized and less-rigorous institutions failed, or was this a shrewd time to strike? The bid values Wachovia at 1.3x 2007 pre-tax, pre-provision earnings; by comparison, Wells Fargo trades at 6.9x the same metric. Throw in the recently clarified rule about tax offsets for losses from an acquisition and the fact that Wells can still raise equity capital, and this could actually work out for them.
Of course, there is another nuance worth noting – Wells isn’t offering cash for Wachovia, they’re offering their stock, which has performed fantastically relative to your typical financial. A high priced stock is a great currency for acquisitions, and a smart management team will take advantage of that. Given that Wells Fargo stock is still (incredibly) within spitting distance of its peak price-to-book multiple in the post-2000 bubble era, I imagine that this confluence of factors provided a powerful incentive for Wells’ management team to make the offer they did.
The chart below shows the trailing 10-year average price-to-book multiples of Wells, US Bank, Citi and Bank of America (BAC) – with US Bank’s valuation holding up even better than that of Wells, will it be long before they too look to take advantage of that and make acquisitions of weaker rivals?
Subscribe to our feed using your favorite service:
See more BAC, Banks, C, Financials, James Cullen, Large Caps, USB, WB, WFC | 
October 5th, 2008 at 2:20 am
I don’t know if you watched the Buffett/cnbc interview on Friday. Buffett seemed ok with the whole WB takeover (although it seems Citi is gonna put up a good fight). Furthermore, he disclosed that he bought Wells stock for his own personal account claiming it’s the only stock he’s bought in the last decade or two! He must percieve a lot of value in Wells.
October 5th, 2008 at 12:13 pm
Simon,
Great catch, thanks for bringing that to my attention.
A follow-up thought… my intuition says that given how S&P has treated bank acquirers, this is almost assured to get Wells put on review, and could cost them their AAA/Aaa.
October 5th, 2008 at 5:28 pm
Do you think Buffett will provide financing for the WFC/WB deal? As you might have noticed, I’ve become very interested in Wells Fargo over the past week.
October 6th, 2008 at 12:48 am
S&P and another rating agency have already indicated that they will downgrade Wells, but i don’t think Wells’ management mind too much. In fact earlier this year the CEO remarked that they would be willing to risk a downgrade if they find a good takeover candidate.
Buffett said he could not resist buying wfc for his own personal account in the low 20’s. And he has certainly been buying wells in the mid 30’s for Berkshire. How is that for a stock tip from the greatest investing mind of all time?
October 6th, 2008 at 1:17 am
George,
From what I’ve seen, Wells is going to add capital by issuing stock - not a bad move, in my opinion, to monetize a high stock price… so I don’t see how Buffett would be directly involved, unless he is buying into the secondary, or comes in with another special GS/GE-style preferred offering.
Simon,
Just checked Moody’s and see the “negative watch” note - good for Stumpf and Kovacevich to effectively tell the ratings agencies to take a long walk off a short pier. Should the merger execution go well, the reversal to upgrade the combined Wells/Wachovia to Aaa will make your head spin.
October 6th, 2008 at 7:24 am
[...] Wells Fargo (WFC) and the Wachovia (WB) Bid: Crafty or Crazy? posted at College Analysts. An analysis of the valuations given to major banks… Includes a nice graph of historical price to book ratios for the major banks. Stocks: WFC, WB, USB, C, KBE, BAC [...]
October 6th, 2008 at 11:35 pm
[...] • Wells Fargo (WFC) and Citi (C) are battling it out for what’s left of Wachovia (WB). Read more analysis here. • California is seeking $7 billion of short term financing from the Treasury because they [...]
September 8th, 2009 at 12:31 am
[...] - James nailed Wells Fargo (WFC) and USB (USB) [...]