US Bancorp Beats Fourth Quarter, Credit Concerns Remain

| About: U.S. Bancorp (USB)

US Bancorp (NYSE:USB) has reported fourth quarter earnings of $602 million or 30 cents per share, 2 cents ahead of the Zacks Consensus Estimate. Results were driven by higher revenue. Results were flat compared to the prior quarter and up from the year-ago quarter when the company had earned $330 million or 15 cents.

However, credit losses and non-performing assets continued to trend higher in this quarter, reflecting continued stress in the commercial, commercial real estate, residential real estate and consumer loan portfolios. However, we note that the rate of deterioration has somewhat moderated in the quarter.

Quarterly results were impacted by a $278 million of provision for credit losses in excess of net charge-offs and net securities losses of $158 million. These items reduced earnings by 18 cents per share.

For the full year 2009, US Bancorp reported a net income of $2.2 billion, or 97 cents per share, compared to net income of $2.9 billion or $1.61 per share in 2008.

Inside the Headline Numbers

For the reported quarter, results were driven by a record total net revenue of $4.4 billion, representing an increase of 3.0% sequentially and 20.8% year-over-year. Results reflected a growth in interest income and fee income.

Credit metrics continued to deteriorate in the quarter. Net charge-offs were 230 basis points (bps) of average loans outstanding, up 3 bps sequentially and 88 bps year-over-year.

Non-performing assets as a percentage of related assets were 3.02%, up 63 bps sequentially and 160 bps year-over-year. Though the provision for credit losses increased 9.6% year-over-year, on a sequential basis, provisions were down 4.7% to $1.4 billion.

Profitability metrics deteriorated slightly sequentially but improved year-over-year. Return on average assets and return on average common equity were 0.86% (down 4 bps sequentially but up 35 bps year-over-year) and 9.6% (down 40 bps sequentially but up 430 bps year-over-year), respectively. Book value was $12.79 per common share as of Dec 31, 2009, compared to $12.38 as of Sep 30, 2009 and $10.47 as of Dec 31, 2008.

US Bancorp’s Tier 1 capital ratio was 9.6% as of Dec 31, 2009, compared with 9.5% as of Sep 30, 2009, and 10.6% as of Dec 31, 2008. The Tier 1 common equity ratio was 6.8%, flat sequentially but up compared with 5.1% as of Dec 31, 2008.

Tax-equivalent net interest income was $2.4 billion, up 9.4% sequentially and 9.2% from the prior-year quarter, driven by an increase in average earning assets and growth in lower cost core deposit funding. Net interest margin was up 16 bps sequentially and 2 bps year-over-year to 3.83%.

Average loans were up 5.3% sequentially and 8.2% year-over-year. Average total deposits were up 8.7% sequentially and 25.2% year-over-year, reflecting acquisitions.

Non-interest income decreased 3.7% sequentially but was up 37.8% year-over-year to $2.0 billion. The sequential decline was primarily due to higher net securities losses and lower mortgage banking revenue. However, the year-over-year increase was driven by a growth in mortgage banking revenue and enhanced commercial products revenue.

Non-interest expense increased 8.5% sequentially and 15.0% year-over-year, reflecting the impact of acquisitions, higher FDIC deposit insurance expense and for reinstating certain salary levels which were previously reduced as part of US Bancorp’s cost containment activities. The tangible efficiency ratio deteriorated slightly to 46.8% from 45.3% in the previous quarter but improved from 47.6% reported in the year-ago quarter.

Successful Exit from the TARP

We have been encouraged by the company’s exit from the Treasury’s Capital Purchase program. Despite the dilutive impact, the capital bolstering initiatives are also viewed positively as these will not only reduce government intervention but also help in maintaining a strong capital base in a soft economic environment.

US Bancorp is also focused on expanding its business. The company completed the purchase of BB&T Corp.'s (NYSE:BBT) banking operation in Nevada last Friday. In October 2009, the company acquired the FBOP Banks in an FDIC-assisted deal. Together, these two transactions added more than 160 branch locations to its franchise and over $15 billion in deposits. Additionally, a bond trustee business and a mutual fund accounting and servicing operation were acquired by its Wealth Management and Securities Services Group. These opportunistic acquisitions bode well going forward.

Nevertheless, we expect the overall uncertainties for the industry, competitive market conditions and higher credit costs to continue weighing on the shares of US Bancorp in the coming quarters. However, we expect the company to post growth in core earnings and benefit from its diversified revenue base and strategic acquisitions.