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Tickers in this Article: USB, JPM, WFC, C
U.S. Bancorp (USB) has delivered encouraging results in its second quarter of 2012. Aided by a growth in revenue and lower provision for credit losses, the company reported earnings per share of 71 cents, topping the Zacks Consensus Estimate of 69 cents. Moreover, it compared favorably with earnings per share of 67 cents in the prior quarter and 60 cents in the year-ago period. U.S. Bancorp's revenues came in at $5.1 billion, up 2.8% sequentially, 8.1% year over year and also exceeding the Zacks Consensus Estimate of $4.95 billion. Results were supported by increases in net interest income and fee-based revenue.

However, on the negative side, expenses also advanced and, to some extent, dwarfed the positive impact on profit from the top-line growth. 

Provision for credit losses at U.S. Bancorp decreased both sequentially and year over year, with net charge-offs showing a declining trend. Provision for credit losses was $470 million, down 2.3% sequentially and 17.8% year over year.

Quarter in Detail

U.S. Bancorp's tax-equivalent net interest income stood at $2.7 billion, reflecting a 6.6% rise from the comparable quarter last year. This upside was spurred by an increase in average earning assets and growth in lower cost core deposit funding. Average earnings assets were up 9.4% year over year.

However, net interest margin of 3.58% fell 2 basis points (bps) sequentially and 9 bps year over year. The year-over-year decline was primarily due to higher balances in lower yielding investment securities and a drop in loan yields. These were, however, partially offset by lower deposit rates, a decrease in the average cash balances held at the Federal Reserve and the credit card balance transfer fees classification change in the prior quarter.

U.S. Bancorp's average total loans climbed 7.7% year over year, owing to growth in total commercial loans, residential mortgages, credit card loans and total commercial real estate loans. These increases were partially offset by drops in total other retail and covered loans.

Excluding covered loans, average total loans accelerated 10.0% year over year. Average total deposits were up 10.5% from the prior-year quarter, primarily reflecting growth in non-interest-bearing deposits and savings deposits.

U.S. Bancorp's non-interest income moved up 9.7% year over year to $2.4 billion. Solid mortgage banking revenue as well as higher merchant processing services revenue primarily contributed to this uptick. These were partially offset by reductions in credit and debit card revenue and ATM processing services revenue.

On the negative side, non-interest expense increased 7.3% year over year to $2.6 billion at U.S. Bancorp. Higher compensation expense, employee benefits costs, mortgage servicing review-related professional services costs and other expense, which included the Visa accrual, resulted in the year over year increase in non-interest expense.

Credit Quality

Credit metrics continued to improve at U.S. Bancorp. Net charge-offs (excluding covered loans) were 1.04% of average loans outstanding, down 13 bps sequentially and 59 bps year over year. The sequential decrease in charge-offs was principally attributable to improvement in the commercial and commercial real estate and other retail portfolios.

U.S. Bancorp's nonperforming assets as a percentage of related assets (excluding covered assets) were 1.11%, down 11 bps sequentially and 66 bps year over year. This year-over-year downside was due to the fall in the construction and development portfolio, as well as by improvement in commercial mortgages and other commercial loan portfolios. These were partially offset due to a rise in nonperforming other retail loans primarily as a result of the policy change for junior lien lines and loans.

As a result of the positive trends in nonperforming assets, as well as the favorable changes in early and late-stage delinquencies and criticized assets, U.S. Bancorp's management anticipates further improvement in credit quality in the third quarter.
 
Capital Position

During the quarter under review, U.S. Bancorp posted mixed capital ratios, which were although decent overall. Tier 1 capital ratio of 10.7% was down from 10.9% reported in the prior quarter and 11.0% in the year-ago quarter. The Tier 1 common equity to risk-weighted assets ratio was 8.8% as of June 30, 2012, slightly ahead of 8.7% as of March 31, 2012, and 8.4% as of June 30, 2011.

All regulatory ratios continued to be in excess of "well-capitalized" requirements. Moreover, using proposed rules for the Basel III standardized approach released in June 2012, the Tier 1 common equity to risk-weighted assets ratio was around 7.9% as of June 30, 2012.

U.S. Bancorp also posted an improvement in book value per share, which increased to $17.45 as of June 30, 2012, from $16.94 at the end of the prior quarter and $15.50 at the end of the prior-year quarter.

Capital Deployment Update

During the second quarter, U.S. Bancorp declared $369 million in common stock dividends and bought back common stock worth $401 million in total.

Notably, U.S. Bancorp cleared the stress test this year and following the Fed's approval of its capital plan, announced a 56% hike in dividend along with a new 100 million share repurchase authorization.

We believe that the stress test clearance well justifies U.S. Bancorp's capital strength and its solid business model. As a matter of fact, year-to-date, the company has returned 62% of its earnings to its shareholders and this is within the range of its long-term goal of returning 60-80%.

Peer Performance

Among U.S. Bancorp's peers, Citigroup Inc. C), after reporting a mixed bag in the prior quarter, posted somewhat encouraging results in the second quarter of 2012. Earnings per share came in at 95 cents for the quarter, comfortably surpassing the Zacks Consensus Estimate of 88 cents on lower loan loss provisions, higher transaction services revenues and a drop in expenses.

Another peer, JPMorgan Chase & Co. (JPM), reported second quarter earnings per share of $1.21, way ahead of the Zacks Consensus Estimate of 78 cents. Notably, its results included $4.4 billion in its Chief Investment Office's synthetic credit portfolio.

Excluding significant nonrecurring items, JPMorgan's earnings came in at $1.20 per share. Lower non-interest expenses and a substantial slowdown in provision for credit losses aided its results. However, the positives were partially offset by lower revenue.

Likewise, Wells Fargo & Company (WFC), which achieved its tenth consecutive quarter of growth in earnings per share, recorded earnings of 82 cents per share in the reported quarter. Results were a cent ahead of the Zacks Consensus Estimate as the company benefited from improvements in mortgage banking as well as credit quality. Lower non-interest expenses also attributed to the profit growth.

In Conclusion

We believe that U.S. Bancorp has weathered the economic downturn relatively well. Its core franchisee is attractive and the diverse revenue stream is encouraging. Going forward, we expect strategic acquisitions to abet its top-line growth.

Though regulatory issues and low interest rate environment remain headwinds for U.S. Bancorp, we believe the company's solid capital position, improving credit quality and increase in lending activities should help propel its earnings forward.  Moreover, impressive capital deployment efforts following the stress test clearance also boost investors' confidence.

Currently, the shares of U.S. Bancorp has a Zacks #3 Rank, which translates into a short-term Hold rating.

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