USB US Bancorp

We maintain our Neutral recommendation on U.S. Bancorp (USB) based on strong second-quarter 2011 results. The results outpaced the Zacks Consensus Estimate and were ahead of the prior-year quarter as well as prior quarter’s earnings.

In July, U.S. Bancorp reported second-quarter 2011 earnings of 60 cents per share, surpassing the Zacks Consensus Estimate of 53 cents. Earnings beat the prior-year quarter figure by 8 cents per share and prior-quarter by 15 cents.

Quarterly results at U.S. Bancorp indicate an improvement in credit metrics, driven by a decline in provision for credit losses and a growth in revenue. However, these positives were dampened by an increase in expenses.

U.S. Bancorp remains one of the most profitable large-cap banks in the industry, with a return on equity of 15.9% and a return on assets of 1.54% in the second quarter of 2011. With a wide range of product offerings, U.S. Bancorp remains well positioned for organic growth. We believe its strong retail banking franchise and leadership in payment processing would continue to create growth opportunities over time.

U.S. Bancorp is also focused on expanding its business through acquisitions. For instance, the company’s lead bank acquired the banking operations of First Community Bank (New Mexico), a subsidiary of First State Bancorporation, in an FDIC assisted deal.

Given its asset base, First Community Bank was New Mexico’s third largest bank. Early in January 2011, the company completed the purchase of Bank of America’s U.S. and Europe-based securitization trust administration businesses. The acquisition provides the bank with a prospect of expanding its presence in the European market with offices in Ireland and London, England. Previously, the company acquired BB&T Corp.'s banking operations in Nevada and FBOP Banks in an FDIC-assisted deal. These opportunistic acquisitions bode well going forward.

The company is experiencing an improvement in its credit quality with a drop in nonperforming assets, charge-offs and provisions for loan losses. With the recovery of the economy, we expect this trend to continue in the upcoming quarters.

On the flip side, a slowing economy that adversely affected consumer and business spending has impacted a number of fee-based categories over the last several quarters. Moreover, given the current rate environment and the yield curve, net interest margin is also expected to decline throughout 2011 from continued security purchases, which are anticipated to continue throughout the remainder of 2011.

Further, based on the current regulatory reform, we expect the company to be subject to both top- and bottom-line headwinds. Currently, impact of regulatory changes and oversight from changes to overdraft policies and pricing are expected to reduce revenue by about $460 million per year. The impact of Card Act is also expected to reduce revenue by about $250 million on an annual basis. Moreover, the debit card pricing guidelines issued by the Federal Reserve in July will reduce the company’s debit fee revenue by approximately $300 million annually. The impact will begin in the fourth quarter of 2011.

Going forward, we expect strategic acquisitions to abet its top-line growth. The company has weathered the economic downturn relatively well. Moreover, the dividend hike and share buyback in the first quarter would significantly boost investors’ confidence in the stock. However, regulatory issues and sluggish economic recovery will continue to restrict any robust development within the company.

U.S. Bancorp currently retains its Zacks #3 Rank, which translates into a short-term Hold rating. Moreover, U.S. Bancorp’s closest competitor – Wells Fargo & Company (WFC) also retains a Zacks #3 Rank.

 
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