DBRS Comments on U.S. Bancorp’s 1Q11 Earnings – Senior at AA Unchanged

DBRS Inc. (DBRS) has today commented that the ratings of U.S. Bancorp (USB or the Company), including its Issuer & Senior Debt rating of AA, are unchanged following the release of the Company’s 1Q11 earnings. The trend on all ratings remains Stable. For the quarter, USB reported net income of $1.0 billion, up 7.4% from 4Q10.

In DBRS’s view, the Company’s franchise strength and its ability to generate consistent revenues with well-managed expenses were again evident in quarterly results. First quarter results reflected further improvement in credit and solid underlying balance sheet trends. Deposits increased sharply from year end and USB reported a third consecutive quarter of average loan growth and the first y-o-y growth in average commercial loans since 2Q09. Still, loan demand remains tepid, as linked-quarter average loan growth was just 0.7% (adjusted for acquisitions) and line utilization rates remain at historically low levels. Nevertheless, DBRS continues to see USB as well-positioned to capitalize on the eventual return of loan demand. In the interim, the Company continues to deploy excess liquidity into short-term, high quality securities. DBRS notes that USB and two of its subsidiaries did receive consent orders as part of regulators’ review of the mortgage servicing industry; however, given the Company’s market share (around 2%) and sound modification and foreclosure practices, any financial impact is not expected to be material.

Excluding net securities losses and one-time items, notably the $46 million gain on the acquisition of First Community Bank (FCB) in 1Q11 and the $103 million pre-tax gain on the Nuveen transaction in 4Q10, USB’s 1Q11 net revenues were $4.5 billion, down 3.3% from 4Q10. Positively, lower operating expenses and a 17.2% linked-quarter decline in the provision for credit losses were able to offset the modest revenue pressure in the first quarter.

First quarter net interest income increased 0.3% from 4Q10 to $2.5 billion, as higher levels of earning assets offset a declining NIM. The 5% linked-quarter growth in average earning assets to $274 billion was driven by expected growth in the average securities portfolio (up 13.3% to $56 billion), as well as surprisingly robust deposit growth (average balances up 7.4% from year-end), which led to a large increase in USB’s deposits at the Federal Reserve. Given the growth in lower-yielding asset classes, NIM declined 14 basis points from the fourth quarter to 3.69%.

Though down 9.5% sequentially to $2.0 billion in 1Q11, the Company’s diverse set of fee businesses continue to represent a significant portion of quarterly revenues and remain an important underpinning of the Company’s high ratings. Most key payments-related lines showed positive y-o-y trends, though merchant processing revenues, and credit and debit card revenues did decline from the seasonally strong fourth quarter. Trust and investment management fees declined $26 million from 4Q10 to $256 million, primarily due to the Nuveen transaction in 4Q10, though that impact was somewhat offset by growth related to the securitization trust acquisition. Also, mortgage banking revenues declined $51 million from 4Q10 to $199 million, driven by a 38% decline in production volume.

Credit quality continued to trend better in the quarter. Non-performing assets (NPAs), excluding covered assets and FCB acquired assets, and net charge-offs (NCOs) declined in 1Q11. Criticized asset levels, excluding covered assets and FCB acquired assets, improved for a fifth consecutive quarter. Early stage and 90+ day delinquencies also declined as a percent of loans (excluding covered loans) in the quarter indicating likely continued improvement in credit costs in coming quarters. Given these trends, USB, for the second consecutive quarter, reduced its reserves. First quarter NCOs, excluding covered loans, fell $131 million to $803 million, while the provision for credit losses was $755 million. DBRS notes that at 2.97% of total loans, excluding covered loans, and 180% of nonperforming loans, excluding covered loans, the Company’s $5.5 billion allowance for credit losses remains solid.

USB’s financial fundamentals and capital position remain sound, and support the Company’s rating levels and Stable trend. Reflecting its capital strength and internal capital generation ability, the Company’s Tier 1 and Tier 1 Common capital ratios improved to 10.8% (4Q10: 10.5%) and 8.2% (4Q10: 7.8%), respectively, at quarter end. In addition, the Company estimates that its Tier 1 Common ratio under Basel III was 7.7% at March 31, 2011, up from 7.3% at December 31, 2010, and above the level required by 2019 under current guidelines. DBRS believes that USB’s capital position provides substantial loss absorption capacity.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organizations. Other methodologies used include the Enhanced Methodology for Bank Ratings – Intrinsic and Support Assessments, Rating Bank Subordinated Debt and Hybrid Instruments with Discretionary Payments and Rating Bank Preferred Shares and Equivalent Hybrids, all of which can be found on the DBRS website under Methodologies.

The sources of information used for this rating include the company documents, the Federal Deposit Insurance Corporation and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

Lead Analyst: William Schwartz
Approver: Roger Lister
Initial Rating Date: 4 April 2005
Most Recent Rating Update: 8 June 2010

For additional information on this rating, please see the linking document below.