Following aggressive repayment trends, on Monday, Wells Fargo & Co. (WFC) announced its inclination to repay the entire $25 billion of bailout money it received from the government for its participation in the Troubled Asset Relief Program (TARP) in Oct 2008. This will follow the company’s successful completion of a $10.4 billion common stock offering.

This makes Wells Fargo the third big bank to announce its intention to exit the government’s bailout program this month (till date) after Bank of America Corp. (BAC) who recently repaid the full $45 billion it had received in two government bailouts and Citigroup Inc. (C) who has also decided to repay its $20 billion TARP money in order to free itself from pay restrictions. In order to repay the loan amount, the company expects to sell new stock worth $10.4 billion.

Another $1.35 billion is expected to be raised through the issuance of common stock to Wells Fargo benefit plans while also intending to make asset sales of $1.5 billion by the end of 2010 in turn to increase equity and boost its capital position. However, the company awaits the approval on asset sales of the board of governors of the Federal Reserve.

Additionally, the repayment of the government bailout money is expected to help the bank save the annual payment of $1.25 billion in preferred stock dividends to the government. This is projected to be slightly accretive to earnings in 2010. We believe the decision of repayment of the TARP fund was crucial to the company as the Treasury Department and banking regulators had already sanctioned its exit from TARP fund.

Besides, most of the company’s peers have come out of it or are in process of leaving TARP. The cumulative repayments will help the Treasury Department regain more than $185 billion out of the $245 billion given to various banks under the TARP. This in turn will aid the macro outlook and the banks’ position in the U.S., which had been badly hurt during the peak of the financial crisis.

However, the near term outlook of Wells Fargo remains sluggish as the buyback of preferred stock from the government is expected to shrink income available to common shareholders in the fourth quarter of 2009 by $2 billion. The reduction is expected on the back of the fact that the book value of the preferred stock is less than the amount paid.

Moreover, even after the repayment, the Treasury Department will continue to hold warrants to procure approximately 110 million shares of Wells Fargo common stock at an exercise price of $34.01 per share. This does not liberate the company entirely from government stringencies, thereby causing some concern over the near term. Hence, for the time being we recommend a Neutral stance on the stock.

Zacks Investment Research

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