Wells Fargo, one of the largest investment banks in the United States, reported its Q4 2020 earnings last Friday. The company reported $0.64 diluted EPS (Earnings Per Share) on $3 billion net income. While the basic EPS beat expectations, the company missed revenue estimates by about $100 million. As such, investors sent the shares lower on Friday, although they gained about 6% since the start of the new trading year.
Before looking into more details at Friday’s report, it is worth mentioning what is the difference between basic and diluted EPS and how it affects the net income’s interpretation. Net income also called the “bottom line,” is used in the calculation of both basic and diluted EPS. If a company has dilutive debt, for example (e.g., convertible debt into stocks), then the dilutive number shows how much the company would have earned if the dilutive interest were fully converted. As such, the dilutive EPS is always lower than basic EPS, with the exception of anti-dilutive securities.
Total Revenue Declined in December 2020 when Compared to December 2019
Wells Fargo reported revenue of $17.92 billion when compared to $19.86 billion a year ago. Unsurprisingly, the provision for credit losses affected the bottom line, as the pandemic hit the United States.
An interesting take of Friday’s report is the MD&A (Management Discussion & Analysis) guidance. Besides the financial statements required by the SEC (Security and Exchange Commission), public companies also issue guidance, and the MD&A is one of the juiciest parts of financial reporting, usually part of the notes and footnotes that accompany financial reports. On this occasion, the management announced that it stands ready to buy back 500 million shares bringing the total to 667 million common shares.
Why would a company want to buy back its listed shares? Multiple reasons exist, and one of the most common ones is that the company perceives its shares as undervalued. In other words, the stock price is below the intrinsic value, and the management buys them back – just another way of paying dividends to shareholders.
Wells Fargo is down 33% in the last twelve months as the banking sector took a hit from the pandemic. Low interest rates and the prospect of more easing made it tough for the banking sector to outperform. As such, the management’s decision to buy back common shares may be viewed as a strong signal that the shares are well below their potential.