The fifth-largest U.S. bank by deposits and among the very best in terms of return on capital, U.S. Bancorp (NYSE:USB) has been finding it more and more challenging to surpass expectations. It may be a good problem to have, from an operational standpoint, but U.S. Bancorp's quality is well known on the Street and reflected in the share price. While the bank can still make sense as a long-term holding given its superior risk characteristics, shareholders should not expect dramatic short-term capital gains from these levels.

Better Than The Rest, But That Was Expected

Relative to the average large bank, Minneapolis-based U.S. Bancorp did well in its first quarter. That sort of performance has become the baseline expectation, though, and it will likely take higher rates to really start moving the earnings higher.

Revenue fell 1% yoy and 2% from the December quarter. Net interest income was down 1% sequentially as reported, which was on par with Winston-Salem, N.C.'s BB&T Corp. (NYSE:BBT) and a bit better than the 2% declines of San Francisco's Wells Fargo & Co. (NYSE:WFC), New York's Citigroup Inc. (NYSE:C), and Charlotte, N.C.-based Bank of America Corp. (NYSE:BAC), and the 3% decline at Pittsburgh-based PNC Financial Services Group Inc (NYSE:PNC). The five basis-point decline in net interest margin was pretty much on par with the comps, as U.S. Bancorp saw pressure from more competitive loan pricing and the winding down of its payroll lending operations.

Fee income performance was a little better, though, as U.S. Bancorp's earnings here fell 2% (about half the average of its peers). Mortgage banking was up a reported 2%, though core mortgage-related earnings were down about 16% on a 27% decline in production volume. Relative to peers like Wells Fargo or BB&T, this was not a particularly surprising outcome, though U.S. Bancorp did better on deposit service charges.

U.S. Bancorp has always done particularly well on expenses, so it's not surprising to see the bank surpass its peer group here – expenses were down 5% sequentially, while the peer group saw an average 2% decline with Wells Fargo down 1%, BB&T down 3%, and Citi up 1%. All told, this lead to a 3% sequential increase in pre-provision profits, one of the better results of the large banks.

Lending Still Sluggish, But Credit Quality Stays Strong

Like its peer group, U.S. Bancorp saw a 1% increase in period-end loans, with most of the growth in commercial lending. The spring selling season should help mortgage demand, but competition in commercial and CRE lending remains fierce as smaller banks get more aggressive on pricing.

On the credit side, U.S. Bancorp saw the non-performing asset ratio tick down two basis points (to 0.78%), while the net charge-of ratio rose five basis points to 0.60%. Both of these numbers compare favorably to the peer group and U.S. Bancorp remains one of the strongest credit stories among the large banks.

Where Do You Go From The Top?

One of the challenges facing U.S. Bancorp management is finding new business opportunities that can generate profits on par with the existing operations. The company's large payment systems operation is a significant source of profits (around one-quarter of company profits) and unlike the insurance operations of Wells Fargo and BB&T, it doesn't require large levels of capital to support. As integrated payment services are becoming more important in the acquiring/processing space, U.S. Bancorp should be well-positioned to offer these value-added services, but it remains to be seen if the company will commit the capital to build a larger non-U.S. business.

There still remain opportunities to improve the core banking operations. Its wholesale banking operations have enjoyed national scale for only a relatively short period of time, while the company has also built up its share in auto and mortgage lending to compete more significantly with Wells Fargo and Bank of America.

U.S. Bancorp also recently availed itself of an opportunity to grow its Chicago-area business. U.S. Bancorp agreed to acquire RBS's Charter One branches in Chicago for $315 million (a 6% deposit premium). This move roughly doubles the company's share to 3.5%, but at #8 in the market (and well behind the likes of J.P. Morgan Chase & Co. (NYSE:JPM), Bank of Montreal (NYSE:BMO) and Bank of America) there's more work to do. Strong local market share can be an invaluable source of low-cost funding, but U.S. Bancorp really needs to get into the top five to reap those benefits in the Chicago area.

The Bottom Line

U.S. Bancorp has virtually all of the quality that an investor could want, but at a value. A long-term ROE estimate of 17% supports a fair value of about $42.50, while the company's return on tangible equity supports a multiple to tangible book value of about 3.0x to 3.1x. Neither of those argue that these shares aren't basically fairly valued today. There are worse things than holding the fairly-valued shares of an excellent company, so I would not be in a hurry to sell out of a position in U.S. Bancorp. That said, the next couple of quarters will likely see sluggish growth prospects and there are slightly cheaper options like Wells Fargo and BB&T that could offer a little more appreciation potential.

Disclosure – As of this writing, the author owned shares of JPMorgan and BB&T.

Related Articles
  1. Economics

    What is Fractional Reserve Banking?

    Fractional reserve banking is the banking system most countries use today.
  2. Chart Advisor

    ChartAdvisor for October 9 2015

    Weekly technical summary of the major U.S. indexes.
  3. Investing

    Has Apple Finally Hit the Wall With the iPhone?

    We look at how the iPhone has sold over its brief existence and what that means for the future of the smartphone market.
  4. Stock Analysis

    How Yelp Adds Value to Local Businesses

    Understand how the Yelp platform operates and how it adds value to the business world. Learn about the top five ways Yelp helps small businesses.
  5. Stock Analysis

    Top 4 Companies Owned by Yahoo

    Understand Yahoo's acquisition strategies and how the company has been able to make so many acquisitions. Learn about the top companies owned by Yahoo.
  6. Stock Analysis

    YouTube Vs. Vimeo: Which One Should You Choose?

    Understand why online videos have become popular and how platforms are capitalizing on the trend. Learn about the differences between YouTube and Vimeo.
  7. Stock Analysis

    Markets Are Tanking: Time to Buy Like Buffett

    Learn about three value stocks Warren Buffett holds in his portfolio. See how Buffett uses market declines to find good deals on stocks.
  8. Stock Analysis

    Is BP's High-Yield Dividend Safe?

    Learn how receiving a greater than 7% yield from an oil major is a rare opportunity and one that comes with a fair share of potential dangers.
  9. Stock Analysis

    How Expensive Is Whole Foods, Really?

    Learn about Whole Foods Market, Inc., and discover how Whole Foods pricing actually compares to that of other grocery store operations.
  10. Stock Analysis

    4 Quick Service Restaurants for Your Portfolio

    Learn about the four quick service restaurants with attractive investment theses and growth prospects that can be valuable additions to your portfolio.
  1. Does working capital measure liquidity?

    Working capital is a commonly used metric, not only for a company’s liquidity but also for its operational efficiency and ... Read Full Answer >>
  2. Can mutual funds only hold stocks?

    There are some types of mutual funds, called stock funds or equity funds, which hold only stocks. However, there are a number ... Read Full Answer >>
  3. Does working capital include short-term debt?

    Short-term debt is considered part of a company's current liabilities and is included in the calculation of working capital. ... Read Full Answer >>
  4. Who do hedge funds lend money to?

    Many traditional lenders and banks are failing to provide loans. In their absence, hedge funds have begun to fill the gap. ... Read Full Answer >>
  5. Can working capital be too high?

    A company's working capital ratio can be too high in the sense that an excessively high ratio is generally considered an ... Read Full Answer >>
  6. Who decides to print money in Canada?

    In Canada, new money comes from two places: the Bank of Canada (BOC) and chartered banks such as the Toronto Dominion Bank ... Read Full Answer >>

You May Also Like

Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!