Wachovia Corp.'s announcement that it nearly doubled its first-quarter loss after unearthing a huge hit to three bank-owned life insurance contracts is giving analysts another reason to scrutinize banking companies' balance sheets.
Citing $315 million of additional losses tied to the insurance contracts, Wachovia raised its first-quarter net loss Tuesday to $708 million.
The hit is one in a string for the $808 billion-asset Charlotte company. Exposure to weak housing markets in Florida and California brought about through the 2006 acquisition of the Oakland, Calif., thrift company Golden West Financial Corp. forced it to set aside $2.8 billion in the first quarter to cover loan losses, cut its dividend, and raise $8 billion of capital. Last month it agreed to pay $144 million to settle a government investigation into its relationship with telemarketers, and it is caught in the crosshairs of a money laundering investigation. Last week Wachovia said it would take an after-tax noncash charge of $800 million to $1 billion this quarter to cover its exposure to sale-in, lease-out transactions.
It is not the first company to report an earning hit from bank-owned life insurance, but analysts said Wachovia's announcement gives them pause.
"It gives us another set of rocks to look under," Jefferson Harralson, an analyst at KBW Inc.'s Keefe, Bruyette & Woods Inc., said in an interview Tuesday.
Gerard S. Cassidy, an analyst at Royal Bank of Canada's RBC Capital Markets, said it is "certainly fair to assume that other banks with BOLI on their balance sheets will be scrutinized."
Both Fifth Third Bancorp of Cincinnati and BB&T Corp. of Winston-Salem, N.C., have cited hits from the insurance of late. Fifth Third took a fourth-quarter charge of $155 million, and last month BB&T reported a $12 million charge for the first quarter.
Not every BOLI-related impact has been negative. Abington Bancorp Inc. of Jenkintown, Pa., said its first-quarter jump in noninterest income came primarily from an increase in income from BOLI policies.
The insurance, often used to cover banking executives, allows a company to earn tax-free income, because the earnings — from growth in the policy's value and payouts when an insured party dies — are held within the contract on a tax-deferred basis.
Analysts say the tax-free component has led many banking companies to start investing more in this form of insurance over the past five years.
Most of the banking companies invested in BOLI are using products benchmarked to traditional bond indexes. But Richard Dolan, a co-founder and the chief financial officer of the New York asset management firm First Principles Capital Management LLC, warned in a Viewpoint published in February in American Banker that some of the investment strategies have included leveraged mortgage funds, which have come under intense pressure in the wake of the subprime mortgage mess.
Wachovia said Tuesday in a Securities and Exchange Commission filing that it increased its first-quarter loss after further reviewing its BOLI holdings, specifically $360 million of stable-value agreements covering three contracts provided by a third-party guarantor. The company did not name the guarantor or specify what went wrong with the contracts, and a spokeswoman would not discuss the matter.
Jack A. Ablin, the chief investment officer at Bank of Montreal's Harris Private Bank in Chicago, said it is likely either the guarantor notified Wachovia that it could no longer able guarantee the contracts or that an investment within the contracts was tied to rapidly falling mortgage funds. Mr. Harralson and Mr. Cassidy said the increased loss amplifies deep concerns about Wachovia's ability to manage risk. "The one-off items are really adding up at a time when capital is precious," Mr. Harralson said.
On April 14, Wachovia reported a first-quarter loss of $393 million, or 20 cents a share. Tuesday's filing raised the loss to 36 cents a share.
"I'm not here to sugarcoat things, make excuses, or say that we are a victim of circumstances," G. Kennedy Thompson, Wachovia's chairman and chief executive officer, said at its annual meeting last month when pressed about his company's performance. "Nothing is more important to me than restoring credibility."
