By Dan Freed and Sweta Singh
(Reuters) - Wells Fargo & Co <WFC.N> management signaled on Friday that the bank may struggle to hit expense targets through next year, raising questions about how much a sales scandal is weighing on the bottom line.
The third-largest U.S. bank by assets said its third-quarter profit fell 19 percent, due mostly to a $1 billion mortgage litigation accrual.
But management also revised its outlook on a key expense-related metric, saying the bank expects to spend 61 cents for every dollar of revenue it generates this year, up from a range of 60 to 61 cents. Chief Financial Officer John Shrewsberry suggested Wells Fargo may also face issues hitting next year's cost-efficiency target.
Management now hopes to spend 59 cents for every dollar of revenue next year, the high end of a target range of 55 to 59 cents, he said.
But much depends on loan growth and interest rates, as well as elevated costs from regulations, technology and "lingering sales practice issues," Shrewsberry cautioned.
Wells Fargo's loan balances at the end of the third quarter were $951.9 billion, down $5.6 billion from the second quarter and down $9.4 billion from a year earlier
"We are waiting for the quarter that Wells shows stronger momentum across the business and this was not the quarter," analysts from Keefe, Bruyette & Woods said in a client note.
The mortgage litigation accrual is for a still-pending lawsuit brought by a U.S. Justice Department-led task force, Shrewsberry told Reuters.
The Residential Mortgage-Backed Securities Working Group has reached multi-billion dollar settlements with other banks over pre-financial crisis conduct, including Bank of America Corp <BAC.N>, JPMorgan Chase & Co <JPM.N> and Goldman Sachs Group Inc <GS.N>.
"They're working down toward the end of that list and now we're sort of in discussions with them," Shrewsberry said in an interview. "The billion dollars is in connection with that activity."
The bank's shares were last down 3.3 percent to $53.40.
Wells Fargo has been embroiled in a sales practices scandal for more than a year. It has acknowledged opening perhaps 3.5 million accounts in customers' names without their permission, signing others up for unwanted auto insurance, charging some for a mortgage rate-lock feature they did not request and tacking other costly add-ons to accounts.
The bank also has the same underlying challenges as rivals, including a drop in mortgage refinancing, interest income rising slowly after a prolonged period of rock-bottom rates, expensive technology investments and new regulations.
That has made it hard for outsiders to quantify how Wells Fargo's scandal has influenced results.
On a conference call, analysts asked management whether weak loan growth was attributable to consumers backing away from the bank due to the scandal, or to the bank's caution about credit risk.
The bank missed consensus revenue expectations for the fourth straight quarter due to the weak loan growth, and its lending profit fell.
Overall earnings fell to $4.6 billion. On an adjusted basis, profit was $1.04 per share, scraping past estimates of $1.03, according to Thomson Reuters I/B/E/S.
Revenue fell 2 percent to $21.9 billion, hit by a 37 percent slump in mortgage banking and auto lending. Analysts had forecast revenue of $22.4 billion.
Wells Fargo's net interest margin, which measures the difference between what banks spend on funds and what they generate from lending those funds, was 2.87 percent, down from 2.9 percent the prior quarter and below some analyst expectations.
The bank spent 65.5 cents per dollar of revenue during the quarter and 63.1 cents per dollar year-to-date.
Shrewsberry said the bank is committed to a previously stated plan to cut costs by $4 billion by the end of 2019, half of which will be reinvested into businesses.
Net income in Wells Fargo's community banking segment, the largest of its three major businesses and the one most directly impacted by the sales scandal, was $2.2 billion, down 31 percent due to the legal charge.
(Reporting by Sweta Singh in Bengaluru and Dan Freed in New York; Editing by Lauren Tara LaCapra and Meredith Mazzilli)