Why U.S. Bancorp’s Business Model Delivers In The Current Environment

by Trefis Team
U.S. Bancorp
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U.S. Bancorp (NYSE:USB) may be the country’s sixth biggest banking group in terms of assets, but it sets itself apart from its bigger competitors JPMorgan Chase (NYSE:JPM), Bank of America (NYSE:BAC) and Citigroup (NYSE:C) in being dedicated to a “boring” business model which focuses on providing more traditional banking services. Accepting deposits, making loans, issuing cards and providing wealth management advice: that sums up how U.S. Bancorp makes its money, and it is pretty good at what it does.

This is demonstrated well by the bank’s performance figures for the third quarter of the year. For a period that was a tough one for most banks with a prolonged low-interest environment squeezing interest margins and the demand for mortgages continuing to fall, U.S. Bancorp bucked the trend of declining income figures for big banks by churning out earnings which were identical to those in the previous quarter. With its expenses remaining on a tight leash, U.S. Bancorp could compensate for the small reduction in total revenues by setting aside less cash as provisions thanks to improving credit quality. The bigger banks, in comparison, saw results being dragged down largely due to their investment banking results – fixed-income trading revenues especially.

Given the current market conditions, U.S. Bancorp’s business models looks sound. It does not promise high returns, but the low-risk, steady growth promise it guarantees provides comfort to investors.  We currently have a price estimate for U.S. Bancorp’s stock of $40, which is slightly ahead of the current market price.

See our complete analysis for U.S. Bancorp

Fall In Net Interest Margins Finally Arrested…

U.S. Bancorp’s business model, due to its reliance on traditional banking operations, is very sensitive to its interest rate margins. This is why the biggest concern among investors about its performance over recent quarters has been the sequential decline in its net interest margin (NIM). Due to the extended low interest-rate environment, safe investment options with reasonably high rates of return have been difficult to come by, which has squeezed margins.

The table below summarizes U.S. Bancorp’s reported net NIM figures for each quarter since early 2011:

Q1 2011 Q2 2011 Q3 2011 Q4 2011 Q1 2012 Q2 2012 Q3 2012 Q4 2012 Q1 2013 Q2 2013 Q3 2013
3.69% 3.67% 3.65% 3.60% 3.60% 3.58% 3.59% 3.55% 3.48% 3.43% 3.43%

The bank’s NIM fell from 3.69% to 3.43% between Q1 2011 and Q2 2013, with a large part of this decline witnessed since late 2012. Thankfully, it did not fall any further in Q3 – allowing U.S. Bancorp to report a slightly higher net interest income figure for the quarter due to the accompanying increase in interest-earning assets.

You can understand the partial impact of falling net interest margins on the bank’s total value by making changes to the chart below, which represents U.S. Bancorp’s NIM on credit card loans.

… And Improving Loan Portfolio Quality Required Lower Provisions

The steady improvement in credit quality since the economic downturn of 2008 has helped U.S. Bancorp cut down a lot on loan losses over the years. With the proportion of bad loans decreasing, the bank has been able to set aside sequentially lower provisions to cover these loans. The bank reported provisions of less than $300 million for the first time since the recession – the last time it set aside this little cash was in Q4 2007, when total provisions were $225 million. The impact of this on the bank’s share value can be partially understood by making changes to the chart below, which shows that provisions for the commercial lending division have fallen from more than 2.5% of the outstanding loan volume in 2009 to under 0.15% now.

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