U.S. Bancorp (USB) — Q2 2015 Form 10-Q
Reporting period: Three and six months ended June 30, 2015. Dollar amounts are in millions unless stated otherwise. Comparisons are year over year for income and cash-flow measures, and versus December 31, 2014 for period-end balances.
Business context and results
U.S. Bancorp is a diversified banking and financial-services company. Q2 net income attributable to U.S. Bancorp was $1,483, or $0.80 per diluted share, compared with $1,495 and $0.78 a year earlier. For the first half, attributable net income was $2,914, or $1.56 per diluted share, versus $2,892 and $1.51.
Key financial metrics
| Metric | Q2 2015 | Q2 2014 | First half 2015 | First half 2014 |
|---|---|---|---|---|
| Net interest income, taxable-equivalent | $2,770 | $2,744 | $5,522 | $5,450 |
| Noninterest income | $2,272 | $2,444 | $4,426 | $4,552 |
| Total net revenue, taxable-equivalent | $5,042 | $5,188 | $9,948 | $10,002 |
| Noninterest expense | $2,682 | $2,753 | $5,347 | $5,297 |
| Provision for credit losses | $281 | $324 | $545 | $630 |
| Net income attributable to U.S. Bancorp | $1,483 | $1,495 | $2,914 | $2,892 |
| Diluted earnings per share | $0.80 | $0.78 | $1.56 | $1.51 |
| Return on average assets | 1.46% | 1.60% | 1.45% | 1.58% |
| Return on average common equity | 14.3% | 15.1% | 14.2% | 14.9% |
| Net interest margin, taxable-equivalent | 3.03% | 3.27% | 3.05% | 3.31% |
| Efficiency ratio | 53.2% | 53.1% | 53.7% | 53.0% |
For the six months, operating cash flow was $3,397, investing cash outflow was $8,124, and financing cash inflow was $11,998. Cash and due from banks increased $7,271 to $17,925.
At June 30, assets were $419,075, up 4.1% from year-end; loans were $248,639, up 0.3%; investment securities were $103,311, up 2.2%; and deposits were $296,848, up 5.0%. Total shareholders’ equity was $44,537, up 2.4%. Short-term borrowings were $27,784, down from $29,893, while long-term debt was $34,141, up from $32,260.
Credit quality improved overall: nonperforming assets declined 12.8% to $1,577, and net charge-offs were $296 for Q2 (0.48% of average loans, annualized) versus $349 (0.58%) a year earlier. The allowance for credit losses was $4,326, or 1.74% of period-end loans, compared with $4,375, or 1.77%, at year-end.
Regulatory capital ratios at June 30 included Basel III transitional standardized common equity tier 1 of 9.5%, Tier 1 of 11.0%, total risk-based capital of 13.1%, and leverage of 9.2%. The company reported that all regulatory ratios exceeded “well-capitalized” requirements. It had $89.2 billion of unencumbered investment securities and estimated additional secured borrowing capacity of $77.4 billion at the Federal Home Loan Bank and Federal Reserve. It reported compliance with the fully implemented Liquidity Coverage Ratio requirement based on its interpretation of the rule.
Material changes and management commentary
- Q2 total net revenue fell 2.8% year over year, as the 7.0% decline in noninterest income outweighed 0.9% net interest income growth. Lower Visa stock-sale income and mortgage banking revenue were key drags; trust and investment management fees, merchant processing, and card revenue increased.
- Net interest income benefited from growth in earning assets and lower-cost core deposits, but margin contracted 24 basis points to 3.03%. Management cited lower reinvestment and new-loan rates, portfolio mix, and the wind-down of its Checking Account Advance product.
- Q2 expenses declined 2.6%, largely because the prior-year quarter included an FHA-related DOJ settlement. Current-period compensation, benefits, and mortgage servicing costs increased. First-half expenses rose 0.9% year over year.
- Average earning assets rose 9.1% in Q2, average loans rose 2.5%, and average deposits rose 8.9%. The company transferred about $3 billion of student loans to loans held for sale in Q1; loans held for sale reached $8,498 at quarter-end.
- Management cited energy-price weakness as a credit concern. Energy-related commercial loans were approximately $3.3 billion; $907 million had a special-mention or classified rating at June 30, up from $122 million at year-end. The company said deterioration had not been material to it at that time.
Outlook, risks, contingencies, and unusual items
- The filing provides no specific earnings or revenue guidance. Management describes forward-looking statements as subject to economic, interest-rate, credit, market, liquidity, regulatory, litigation, operational, cybersecurity, competitive, and other risks.
- The company’s Q2 Visa-related antitrust litigation liability, net of escrow, was $19 million. The class settlement remained subject to appeals and opt-out litigation; 8.1 million remaining Class B Visa shares were not yet eligible for conversion to publicly marketable Class A shares.
- The company amended its 2011 OCC mortgage-servicing consent order in June 2015 and must complete an action plan; further orders, fines, penalties, restitution, or business-practice changes remain possible. Other mortgage, foreclosure, anti-money-laundering, and compliance investigations and examinations were ongoing. Management stated that, where estimable, aggregate reasonably possible losses above established probable-loss reserves were not expected to be material, while emphasizing significant uncertainty.
- Other notable exposures include $13,506 maximum potential future payments under standby letters of credit; $4,661 for asset-sale guarantees (excluding certain loan-sale representations and warranties); and merchant-processing contingent exposure, with $9.7 billion of airline tickets purchased for future delivery and $481 million of collateral held. Maximum potential payments are not estimates of expected losses.
- Management noted that unrealized losses on available-for-sale securities were primarily associated with interest-rate changes; it had no plans to sell the securities and did not expect to be required to sell them before cost recovery. Mortgage servicing rights are valuation-sensitive: the filing cites prepayment and discount-rate assumptions as key inputs.
- The board authorized up to $3.022 billion of common-share repurchases from April 1, 2015 through June 30, 2016; $2.398 billion remained available at June 30. The quarterly dividend was raised 4.1% to $0.255 per share.
Important facts for investors to verify
- Whether net interest margin pressure continues and how deposit growth, loan pricing, and securities reinvestment affect revenue.
- Whether fee income recovers, particularly mortgage banking and Visa-related income, and whether MSR valuation and hedging remain effective.
- Whether credit quality continues improving, with particular attention to energy-rated exposures, consumer charge-offs, and allowance adequacy.
- Developments in the OCC action plan, mortgage-related investigations, Visa litigation, and any resulting costs or operating restrictions.
- Capital and liquidity trends, including the effect of repurchases and dividends, debt maturities, and regulatory capital requirements.