Wells Bracing For OCC Audit Of Its Loans
SAN FRANCISCO - The thud that may soon be heard out West could be the other shoe dropping at Wells Fargo & Co.
Having been slammed by a regulatory audit of its loans to highly leveraged companies, San Francisco-based Wells may take another hit when the Office of the Comptroller of the Currency soon completes its examination of the bank's entire loan portfolio.
"They're going to get hammered," predicted the chief executive of another West Coast bank that recently went though a Comptroller's office examination.
A tough examination could force Wells to boost its loan-loss reserve again, which could take a huge bite out of earnings. While that would hardly be life threatening, it would come at a most inopportune time.
BankAmerica Corp. and Security Pacific Corp., Wells' two biggest rivals, are combining to form a banking behemoth. Wells needs to be in top competitive shape to take on such a formidable foe.
After last spring's Shared National Credit Regulatory Examination, an annual review of loans over $20 million syndicated among banks, Wells was forced to add $350 million to its loan-loss reserve in the second quarter and take a $183 million in loans chargeoffs, mainly to cover loans for highly leveraged buyouts. The moves reduced Wells' earnings for the quarter to a puny $14 million, 94% below profits reported for the same period of 1990.
Is Real Estate Next?
Now it could be real estate's turn.
The regular, full-dress review of Wells' loans by the Comptroller's office is either under way or about to begin, according to industry sources. While the examination does not target real estate, the realty portfolio is certain to be the focus of attention, given the slump in the California property market. About $4.5 billion in loans secured by land or office buildings will be under the microscope.
Last year, Wells slid through its Comptroller's office's audit with only minor bruises. But since then, California commercial real estate has tanked, especially the office and land development markets in the Los Angeles area. When this year's examination results are reflected in earnings, probably in the fourth quarter, most observers believe Wells will report higher provisions, credit losses, and nonperforming assets.
"We could see another quarter like the second," said Thomas K. Brown, an analyst with Donaldson, Lufkin & Jenrette Securities Corp. "And we can't rule out that they could lose money."
Asked about credit quality trends, a spokeswoman referred to previous comments by chairman and chief executive Carl E. Reichardt.
"Because of continuing uncertainties in the economy and the banking environment . . . we remain cautious and expect continued pressure on the loan portfolio," Mr. Reichardt warned in the company's second-quarter earnings release.
Wells has a reputation as one of the country's top-quality real estate lenders. The results of its audit will be closely watched as an indicator of the depth of California's realty recession.
There are two separate issues concerning Wells' loan portfolio, analysts noted. "One is what is happening in the portfolio. The second is how examiners will treat what is happening," said Raphael Soifer of Brown Brothers Harriman & Co.
On the actual condition of the portfolio, Wells is still considered an excellent credit maker.
The company's problem is one of concentration in a troubled market: some 27.6% of its loans at the end of the second quarter were for commercial mortgages or real estate construction, mostly in California.
"Banks that have an over-exposure in high-risk areas get hit," said Carole Berger, an analyst with C.J. Lawrence Inc.
How will the Comptroller's office react to the presumed decline in the quality of Wells' loans? The signs are ominous.
In a reprise of the kind of regulatory crackdown already experienced in the East, California bankers report that federal agencies, including the Comptroller's office, have been harsh this year.
While reports of the office's SWAT teams imported from Texas and New England appear to be overblown, there is little doubt that the agency is carrying out tougher, more confrontational reviews and taking a dark view of real estate values. A number of Southern California banks, including Security Pacific, have already reported results that reflect such hard-nosed examinations.
"All of a sudden, you're looking at an adversarial situation," said one California chief executive about his bank's examination by the Comptroller's office.
Wells, of course, could be partially protected by the quality of its underwriting, its top-notch reputation, and regulators' concerns about avoiding the kind of fallout that could result if Wells reported devastating results.
But Wells' new resident Comptroller's office examiner, Tim Long, is not someone who shrinks from confrontation. Mr. Long, known as a tough but fair regulator, was previously examiner in charge of First Interstate Bancorp's national bank subsidiaries. Under his supervision, First Interstate recorded massive provisions and losses at its banks in Arizona, Nevada, Oregon, and Texas.
Wells reportedly lodged vehement protests against examiners' classifications of its leveraged deal loans earlier this year. With the looming possibility of similar clashes over real estate, the company appears to be battening down the hatches.
Analysts report Wells is dodging questions about credit quality. And the company has dropped out of a September Montgomery Securities investors conference, the brokerage house said. "Wells is clamming up," said Montgomery analyst J. Richard Fredericks.