U.S. Bancorp Gains Momentum

If what U.S. Bancorp (USB) had to say at its annual investor day last week is any indication, good things are happening out in Minneapolis. U.S.B. is stepping up investment in its key businesses, especially its fast-growing payments business, and is looking to get its various units to work more closely together. In addition, it’s begun a big push to boost both employee and customer engagement. The payoff from all this could take time, but when it happens it could be substantial. My bottom line: U.S. Bancorp could be the most attractive of all the big banks right now.

The main catalyst for the changes at the company is its new CEO, Richard Davis, who took over last December. Davis is one of the canniest, most competent executives in the banking industry. (I admit to being biased on that score; he’s on our advisory board.) Davis says he wants to move the company away from it historical focus on cost to a greater emphasis on revenue and employee issues, and has already made a number of encouraging moves.

First, the company is looking to break down internal silos so its business units can work more closely together to deliver more innovative solutions to customers. Along that line, U.S.B. has created what it calls an Enterprise Revenue Office, and has put a top manager, Mac McCullough, in charge of it. U.S.B. has identified fifteen specific initiatives to deepen customer relationships. All told, these fifteen initiatives are expected to generate between $500 million and $750 million in incremental revenue (3% to 5% of the company’s current run-rate) once they’re fully phased in by 2009.c

The new venture group will be focused on U.S.B.’s payments and processing business. However, it will extend across business lines. Essentially the company is formalizing an innovation process, and even referred to it as “intra-M&A”—which means the process will take on the same urgency and investment as an M&A deal. If the plan works—and I believe it will—it could be a very big deal.

Increased fous on customers and employees

And as noted, U.S.B. is also working hard to boost customer and employee engagement. For instance, it does 60,000 customer surveys per month to measure customers’ overall satisfaction, likelihood of recommending U.S.B. to a friend, and likelihood of continuing to bank with U.S.B. The company says it has seen its "loyalty" rating (defined as a nine or ten on a ten-point scale) rise to 65% from 59% on all three metrics in the past three years.

And for the first time in six years, the company is going to conduct an employee survey. The reason why is important: "because we will act on the results." Additionally U.S.B. will also completely overhaul its incentive plans, and give credit to any employee who sells any product. This will help break down silos and replace the "black box" incentive plan currently in place.

Payment services is key

The main growth driver at U.S.B. is its payment services unit. The business represents 22% of net income, and should grow by 16% annually, the company says. U.S.B. sees four expansion opportunities in particular. First, the company is working to cross-sell to its financial partners. U.S.B. has relationships with 4,600 financial institutions and only 28% of them have more than one payment product with it. So there’s a real opportunity there. Second, U.S.B.’s small-business card business is growing 20% to 25% a year driven by strong secular growth. That growth should continue. Currently, only 5% of small-business transactions (ex payroll) are done with cards. U.S.B. has recruited people from American Express and Advanta to help expand this business. Third, U.S.B. has built an international processing platform that will allow for all payment types and all currencies. Finally, in the new product area, U.S.B is developing healthcare payments and B2B payment systems.

In all, the company expects 12% annual revenue growth and 16% pre-provision income growth at its payments unit.

Wholesale slow but steady

The outlook at U.S.B.’s consumer and wholesale banking business, which accounts for 24% of earnings, seems to be improving, as well. On the wholesale side, for instance, the company is finally seeing credit spreads starting to move to more reasonable levels. Not much widening has happened yet on the corporate side, but U.S.B. is hopeful for later this year or early 2008. The real widening has occurred in the commercial real estate market, where spreads have expanded by about 10 to 15 basis points.

The company’s main focus in wholesale is its corporate banking effort, aimed at companies with sales in excess of $250 million. U.S.B. has recently opened a corporate banking office in New York and is also leveraging its payments capabilities to get into larger companies outside its footprint. Overall, the wholesale business should grow by 8% annually. Momentum growing in consumer

Consumer banking is U.S.B.'s largest business (it contributes 39% of earnings) and is expected to grow by 8% annually. Growth in the near-term could be slower than that, though, since the company is increasing investment spending on its “PowerBank” retail initiative. Under the PowerBank plan, U.S.B. will upgrade its physical branches, add customer-facing personnel, and expand hours to evenings and weekends. The initiative is then backed by stepped-up marketing spending.

PowerBank-related spending is already showing positive results. The company reports client loyalty increases, net new checking growth increases as attrition slows, new sales increase (by 200% in St Louis in 2006, for instance), and lower employee attrition as a result of implementing PowerBank. Importantly, the earnings out of St. Louis, where PowerBank was first implemented in early 2006, are now back to where they were pre-PowerBank, despite the heavy upfront spending.

After St. Louis, PowerBank will be rolled out in Portland and Denver in 2007, and Minneapolis, Seattle, Boise, Cincinnati, and Milwaukee in 2008. This will cost money in the near-term but then start to pay off in 2009.

U.S.B. also says it’s very excited about the mortgage business, as well. It’s seeing big growth in application volume as the market has melted down. Additionally, since 90% of production has always been agency, they have not had to make any changes to production mix.

Finally on the consumer side, U.S.B. is excited about its BLAST (Banker Leads Alerts & Sales Tools) predictive sales tool. BLAST analyzes transaction data for out-of-pattern behaviors that signal a potential product need. It then combines that with creditworthiness data to pick a product to pitch. The customer is then flagged so that next time he comes through any channel (online, call center, branch, etc.) he gets a pitch.

Since U.S.B. launched BLAST in early 2006, lead and alert contacts have increased to 452,000 per quarter. Additionally, 48% of new revenue now comes from "trigger-based marketing" versus 28% from "targeted marketing" and 24% from "reactive marketing."

Credit is solid

On the credit front, meanwhile, things look great. U.S.B. has just $1.2 billion (0.9% of total loans) in exposure to mortgage companies. Two of their lenders did fail, but the company is comfortable that its collateral (MSRs and p