U.S. Bancorp — Q3 2014 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2014. Unless noted, amounts are U.S. dollars; financial results compare with the corresponding 2013 period, while balance-sheet comparisons are with December 31, 2013.
Business context and results
U.S. Bancorp is a diversified banking and financial services company. For Q3 2014, net income attributable to U.S. Bancorp was $1.471 billion and diluted EPS was $0.78, versus $1.468 billion and $0.76 a year earlier. For the first nine months, attributable net income was $4.363 billion and diluted EPS was $2.29, versus $4.380 billion and $2.25.
- Revenue: Taxable-equivalent total net revenue was $4.990 billion in Q3, up 2.0%; nine-month revenue was $14.992 billion, up 1.9%. Q3 growth reflected higher net interest and fee income, partly offset by weaker mortgage banking.
- Net interest and margin: Taxable-equivalent net interest income was $2.748 billion in Q3 and $8.198 billion year to date, each up 1.3%. Net interest margin declined to 3.16% in Q3 from 3.43%, and to 3.26% year to date from 3.45%, reflecting lower asset yields and mix effects, partly offset by lower funding costs.
- Expenses and efficiency: Noninterest expense was $2.614 billion in Q3, up 1.9%, and $7.911 billion year to date, up 4.2%. The efficiency ratio was 52.4% in Q3 (unchanged) and 52.8% year to date, versus 51.6%.
- Credit costs: Provision for credit losses was $311 million in Q3, up 4.4%, and $941 million year to date, down 11.5%. Net charge-offs were $336 million in Q3 versus $328 million; year-to-date net charge-offs were $1.026 billion versus $1.153 billion. Annualized net charge-offs were 0.55% of average loans in Q3.
- Returns: Q3 return on average assets was 1.51% and return on average common equity 14.5%, compared with 1.65% and 15.8%. Nine-month figures were 1.56% and 14.7%, versus 1.67% and 16.0%.
Balance sheet, funding and capital
- Total assets were $391.3 billion, up 7.5% from year-end; loans were $245.6 billion, up 4.4%; deposits were $273.1 billion, up 4.2%. Investment securities rose 21.4% to $96.9 billion, primarily from purchases of agency-backed securities in preparation for liquidity rules.
- Long-term debt increased 53.5% to $30.8 billion, principally due to debt issuance and higher Federal Home Loan Bank advances. Short-term borrowings were $30.0 billion, up 8.8%. Management said increased borrowings funded loan growth and securities purchases.
- Shareholders’ equity was $43.1 billion, up 4.9%. Regulatory capital ratios at September 30 included common equity Tier 1 of 9.7%, Tier 1 of 11.3%, and total risk-based capital of 13.6% under the Basel III transitional standardized approach; all regulatory ratios exceeded “well-capitalized” requirements.
- Liquidity resources included $82.9 billion of unencumbered investment securities and $78.9 billion of additional potential FHLB and Federal Reserve borrowing capacity. The company expected to meet the fully implemented Liquidity Coverage Ratio requirement by December 31, 2014.
- For the first nine months, operating cash flow was $4.466 billion, compared with $8.657 billion; investing cash outflow was $23.372 billion, compared with $12.663 billion; financing cash inflow was $16.612 billion, compared with $7.369 billion. Cash and due from banks ended at $6.183 billion, versus $8.477 billion at year-end 2013.
Material changes and unusual items
- Q2 results included a $214 million gain on sale of Visa Class B shares and a $200 million Department of Justice settlement concerning FHA-insured mortgage loan endorsements. Management said the two items together had no effect on nine-month diluted EPS.
- In June, the company acquired Charter One’s Chicago-area branch operations, including approximately $969 million of loans and $4.8 billion of deposits.
- Mortgage banking revenue declined 20.7% in Q3 and 31.2% year to date, due in part to MSR valuation and hedging effects and lower mortgage origination and sales activity.
- Performance was uneven by business: Wealth Management and Securities Services and Payment Services reported higher income, while Wholesale Banking and Commercial Real Estate and Consumer and Small Business Banking reported lower income. The latter’s mortgage banking business remained pressured.
- The board authorized up to $2.3 billion of common-stock repurchases through March 31, 2015; $1.015 billion remained under the program at September 30. The quarterly common dividend was raised 6.5% to $0.245 per share.
Outlook, risks and contingencies
- Management expected nonperforming assets and net charge-offs to remain relatively stable in Q4 2014. The filing provides no broader earnings or revenue guidance.
- Most FDIC loss-sharing coverage on covered assets was due to expire December 31, 2014, except for certain single-family residential mortgages with remaining coverage terms of up to five years.
- Risks cited include interest-rate and margin pressure, economic or real-estate deterioration, credit losses, regulatory and compliance changes, litigation, competition, cybersecurity and operational disruption, and liquidity and market risks. A 200-basis-point market-value-of-equity shock was estimated to reduce that value by 4.3% for a rate increase and 4.4% for a rate decrease at quarter-end.
- Legal and regulatory matters include mortgage-related investigations and examinations. The company said ultimate resolution of existing matters was not expected to materially affect its financial condition, results or cash flows, but additional accruals or losses above reserves could adversely affect results. The Visa class-action settlement remained subject to challenges and appeals; the recorded net Visa litigation liability was $19 million.
- Other notable exposures include $62 million reserved for mortgage-sale representation and warranty losses and $15.2 billion of maximum potential standby-letter-of-credit payments. Maximum potential amounts are not forecasts of likely losses.
Most important facts for investors to verify
- Whether net interest margin pressure and declining mortgage banking revenue persist, and whether fee growth can offset them.
- Whether credit performance remains stable, particularly commercial charge-offs and the adequacy of the $4.414 billion allowance for credit losses.
- How the expiration of FDIC loss-sharing agreements affects credit costs and earnings.
- Whether the company meets liquidity and capital requirements on the stated timelines, and how higher debt levels affect funding costs.
- Developments in mortgage-related investigations, Visa litigation and representation-and-warranty claims, including any losses beyond recorded reserves.
- The effects of the Charter One integration, share repurchases and the higher dividend on future earnings, capital and per-share results.