美國合眾銀行 (USB) 2007 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the U.S.

Bancorp's first quarter 2007 earnings conference call.

Following a review of the results by Richard Davis, President and Chief Executive Officer, and Andy Cecere, U.S.

Bancorp's Vice Chairman and Chief Financial Officer, there will be a formal question and answer session.

[OPERATOR INSTRUCTIONS].

This call will be recorded and available for replay beginning today at approximately 4:00 p.m.

Eastern through Tuesday, April 24 at 12 o'clock midnight Eastern Time.

I'll now turn the call over to your moderator for today, Judy Murphy, Senior Vice President.

Go ahead, please.

Thank you for joining us.

This is Judy Murphy, Director of Investor Relations at U.S.

Bancorp.

Richard Davis and Andy Cecere are here with me today to review U.S.

Bancorp's first quarter 2007 results.

If you have not received a copy of our earnings release and supplemental analyst schedules, they are available on our website at USBank.com

I would like to remind you that any forward-looking statements made during today's call are subject to risk and uncertainty.

factors that could materially change our current forward-looking assumptions are detailed in our press release and in our form 10K report on file with the SEC.

I will now turn the call over to Richard.

on file with the SEC.

I will now turn the call over to Richard.

Thank you, Judy and thank you for joining us today.

I'd like to begin the call by taking a few minutes to review the highlights of our first quarter results, and I'll then turn the call over to Andy who will provide you with additional details about our earnings and after we've completed our formal remarks, we're happy to open up the line for questions and answers.

Our Company recorded net income of $1.130 billion, in the first quarter of 2007.

Earnings per diluted common share for the first quarter were $0.63, equal to the earnings per share in the first quarter of 2006, and $0.03 or 4.5% lower than the first quarter of 2006.

As many of you know, growth in the first quarter for our Company is seasonably lower, while growth in the second and third quarters is seasonably higher.

This year was no exception as diluted earnings per share for the first quarter were lower than the fourth.

This linked quarter comparison was also affected by a number of significant items in the fourth quarter of 2006, including a gain on the sale of the Company's 401(k) defined contribution record keeping business and incremental benefits from the resolution of certain State and federal tax examinations.

After adjusting for these notable items, earnings in the First Quarter would have actually been slightly higher on a link quarter basis.

As Andy and I discuss the current quarter with you today, we would like to keep you in mind there were no unusual items, positive or negative affecting our reported earnings.

Importantly, these results represent a solid base from which our earnings will grow in the remaining quarters of 2007 and beyond.

The challenging economic environment that our Company and the banking industry as a whole has faced during this past year will continue but I'm confident our Company is well positioned to meet these challenges and will continue to grow.

The investments we have made in our fee based business, our disciplined expense control, and our high credit quality standards will all help to mitigate the impact of this less than favorable environment.

That being said, let's review some of the highlights from our first quarter results.

First, we achieved a return on average asset ratio of 2.09% and a return on average common equity of 22.4% for the first quarter.

These profitability metrics continue to be among the best in our industry.

Second, our first quarter net interest margin of 3.51% was five basis points lower than the net interest margin we reported in the fourth quarter of 2006.

The margin declined slightly more than we had anticipated, and Andy will discuss the specific reasons for the reduction in more detail in just a moment.

So recall that we had assumed the net interest margin would stabilize based on results from both the third and fourth quarters of last year.

We now believe that given the current rate environment, yield curve and our balance sheet mix, that net interest margin will continue to decline modestly another 5 to 10 basis points in the aggregate over the next few quarters.

On a year-over-year basis, the net interest margin declined by 29 basis points.

I mention this variance as well because of the impact of tighter credit spreads has had on the margin.

At the moment, credit spreads appear to have stabilized for both commercial and retail loans, but we remain watchful as we continue to see aggressive competition.

We expect to be challenged going forward to grow credit products at a reasonable spread, a spread that is no less than what we need to win the business and still compensate us for the risk we take.

Given our efficiency, we can afford to be competitive to win the business and it also gives us the opportunity to cross sell our fee based products.

Fee revenue, particularly the trust and payment processing related revenue, was strong again this quarter.

Year-over-year, our payment related fees grew by over 13.4%, the majority of which was organic, while trust and Investment Management fees increased by 8.4% over the first quarter of 2006.

In addition to the trust and payment processing-related fees, deposit service charges posted an increase of 4.7% in the first quarter of 2007 over the same quarter of 2006, driven primarily by the net new account growth and transaction related fees.

As many of you know, growth in net checking accounts is the only non-financial measure for which I hold the branches accountable.

In the first quarter of 2007, excluding our new branch acquisitions, we added 78,000 net new checking accounts, representing an annualized growth rate of 5.3% from our January 1st starting point of just about 6 million checking accounts.

We continue to demonstrate our expense discipline this quarter while investing capital in a prudent manner.

Although total operating expense increased by $45 million, or 3% year-over-year, the majority of that change can be attributed to our recent acquisition and integration-related expenses.

Because of our disciplined approach to expense control, which importantly will continue to be a focus and a hallmark for our Company.

Our tangible efficiency ratio for the first quarter of 2006 was 43.2%.

We still remain one of the most efficient financial institutions in the industry.

In addition, we created positive operating leverage for the quarter.

One of the balance sheet highlights for the quarter was solid year-over-year growth in average total commercial loans, and total retail loans of 7% and 7.3% respectively.

Going forward, we expect that our Company's growth in commercial and commercial real estate loans will be slightly lower than the industry average as we continue to concentrate on originating high quality credits.

In fact, commercial real estate loans, which we have never grown as fast as the industry are down versus prior quarters as refinancings have exceeded the growth in new business.

Further, the growth itself has been affected by the slowdown in residential homebuilding and the Company's decision to reduce condominium construction financing.

Moving on to credit, once again, our credit quality metrics were strong.

Net charge-offs were 50 basis points of the average loans for the first quarter of 2007.

Slightly higher than the 47 basis points in the fourth quarter of 2006, and higher than the 34 basis points in the first quarter of 2006.

The increase over the prior quarter and the first quarter of last year was primarily the result of an expected increase in retail bankruptcy related charge-offs, the implementation of minimum payment balance requirements, and higher commercial charge-offs.

Going forward, we expect that both commercial and retail net charge-offs will increase modestly as we move through this credit cycle.

Given our risk reward profile, however, we expect our credit quality to be favorable when compared to our peers.

Non-performing assets decreased to $582 million at the March 31, 2007 date from $587 million at December 31, 2006.

They were also well below the $619 million balance at March 31 of last year and looking forward into 2007, we would expect any increases in non-performing assets to be fairly modest.

As many of you know, we have been very prudent in our approach to subprime lending.

Our exposure to subprime residential loans in addition to the related wholesale business is minimal and very manageable.

At the end of the first quarter we had $3.1 billion of residential real estate loans outstanding to customers that could be considered subprime.

As well, we had $900 million of home equity and second mortgage loans to subprime borrowers.

The average FICO score on that residential Real Estate portfolio is 622 while the home equity and second mortgage FICO scores averaged approximately 653.

Together, these portfolios account for just 2.7% of our total loans outstanding.

In terms of buybacks, we repurchased approximately 34 million shares of stock in the first quarter of 2007.

The buyback activity included a accelerated stock repurchase program for more than 25 million shares that settled in February.

This combined with our quarterly dividend resulted in 165% return of earnings to the shareholders in the first quarter.

Our continued emphasis on returning 80% of our capital to the shareholders does not diminish our growth prospects for the Company.

We feel strongly that the 20% of earnings that we can retain is more than enough to support growth in our balance sheet, capital expenditures and cash acquisitions.

The higher dividend pay out ratio, the direct result of our dividend increase last December is consistent with our strategy of low risk, dependable earnings and financial discipline.

At this point, I'd like to share a few non-financial highlights from our business lines.

Our payment services group reported an impressive 14.3% increase in average loans outstanding year-over-year.

The result of both organic growth initiatives and acquired portfolios from the number of our financial institution partners.

The group also completed the back end conversion of 53,000 First Horizon merchants and we just announced the signing of a new merchant process agreement with American Airlines.

Our Wealth Management group successfully completed the systems conversion and integration of the SunTrust corporate trust business, while the First American Real Estate Fund was named for the second year in a row, one of the 24 best funds in the 2007 Standard & Poor's Business Week Excellence in Management funds.

It had the highest five year average annual total return on the 24 funds named, at 25.8%.

And finally, the private client group launched a new SMA product.

At the end of the first quarter we had 23 money-market managers including our own FAF Advisors representing 27 models on our platform.

Our consumer banking business lines completed the acquisition of United Financial Corp, the parent Company of Heritage Bank in Montana.

The conversion, which is expected to be completed in June.

The consumer bank also continued to see very positive results from our power bank initiative in the St.

Louis market.

The growth in net new DDAs is ahead of first quarter of 2006.

Client loyalty scores are among the strongest of all of our metropolitan traditional branch markets and employee turnover hit a record low in St.

Louis in February.

Although we're still not at the point where we would expect to see a positive lift to the bottom line, these are all leading indicators of the potential success of the initiative.

We'll be introducing the power bank initiative to the Portland market later this month.

And finally highlights for the wholesale banking group include the opening of the New York City corporate banking office under the leadership of Leslie Godrich, a 25 year veteran of corporate banking.

While our SBA production in the first quarter of $232 million established us as the fourth largest bank lender for SBA in the United States, and after the first share of operations, our principal commercial funding unit, a jointly owned CMVS business with Principal Real Estate Investors, has securitized over $2.2 billion of commercial Real Estate loans.

And before turning the call over to Andy, I'd like to take a minute or two to talk about customer service.

We believe great customer service is what will differentiate us from our competitors over time.

In fact, our five star service guarantee program reached its 11th anniversary this month.

Since the first quarter of 2002, we have tracked and monitored our customer satisfaction and loyalty as a measure of our success in delivering five star service.

I'm proud to say that our customer satisfaction loyalty scores reached another high again this quarter, the first quarter of the year.

These scores are great, but they don't tell us how we're doing against our competition, so once again in the fourth quarter of last year, we engaged the American Consumer Satisfaction Index, or ACSI, to survey our retail customers.

Our results were obtained using the same measurement system as the uniform ACSI retail bank survey so we could compare ourselves to our major competitors.

As you may know, the ACSI only measures the largest four or five companies in each category including retail banking and U.S.

Bank being the sixth largest, we can't make the cut, so we scored ourselves against the same measures and scored very well in terms of the ACSI score versus the major competitors in our banking foot print.

In fact, we continue to perform better than any other large bank in the 24 states that we perform retail banking.

We posted a slide with this year's survey results on our website.

I'd encourage you to log on and view the results for yourself.

At this point I'd like to turn the call over to Andy to give you more details on the quarter.

Thanks, Richard.

Net income in the first quarter of 2007 was $23 million, or 2% lower than the first quarter of 2006, and $64 million or 5.4% below the fourth quarter of 2006.

As Richard mentioned, historically the first quarter of the year has always been the weakest in terms of growth for our Company.

This year is no exception.

The good news, however, is that the first quarter results were solid and pointed to continued growth in our fundamental businesses as well as ongoing improvement in operating leverage.

In addition, several significant items in the first and fourth quarters of 2006 impacted the comparability of non- interest income and non-interest expense, as well as the bottom line results quarter-over-quarter and I would point them out as I review the variances.

Let me start with the big picture.

The $23 million or 2% reduction in net income year-over-year was primarily due to lower net interest income and an increase in provision for credit losses, partially offset by favorable variance in non-interest income and controlled expenses and a reduction in the effective tax rate.

The decline in net interest income was the primary driver of the unfavorable variance of net income year-over-year.

Despite an $8 billion or 4.4% increase in earning assets, net interest income declined as the net interest margin fell by 29 basis points.

Of the 29 basis point decline in margin, about 11 basis points could be attributed to tighter credit spreads, a combination of competitive loan pricing and a change in the mix of assets to lower spread credit products.

We also saw a decrease in recoveries year-over-year.

In addition, the cost of funding has risen as rates on non- interest bearing deposits, excuse me, on interest bearing deposits have gone up, and the mix continues to shift towards higher cost deposits and funding sources.

An increase in the margin benefit of net refunds partially offset these negative factors.

Total non-interest income in the first quarter of 2006 included three items that netted to $17 million.

The three 2006 items included first, the adoption of FAS 156 , which reduced mortgage banking revenue by $37 million, second, the adoption of FAS 133 which added $44 million to other income, and third, a merchant processing settlement agreement which added $10 million to other income.

Outside of these three items which resulted in an unfavorable $17 million variance in the current quarter versus the prior year, non-interest income was better than the prior year, driven by favorable variance in payment, fee revenue, reflecting both organic and acquisition related growth, in addition to an increase in trust and Investment Management fees.

Non-interest expense in the first quarter of 2006 included one unusual item, which was a $13 million compensation expense related to the adoption of FAS 123-R.

The resulting favorable variance created by this prior year expense was more than offset by acquisition related expense, a $12 million increase in legal and professional fees and an increase and operating expense related to tax credit investments.

Finally, income tax in the current quarter, income taxes in the current quarter were lower than the first quarter of 2006 due to the decline in the Company's effective tax rate, the result of an increase in tax credit investments, a higher balance of tax exempt municipal securities and bank owned life insurance.

Moving on to a discussion of link quarter variances.

Net income in the first quarter of 2007 was $64 million, or 5.4% less than the fourth quarter of 2006.

This unfavorable variance was driven by a number of significant items that added approximately $90 million of net income to the fourth quarter of 2006.

Two of the most significant of which were the gain in the sale of our 401 (k) business and the resolution of past federal and state tax returns.

In addition, a decline in net interest income from the previous quarter, as well as increase in the provision for credit losses were offset by favorable variances in non-interest income and non-interest expense.

Net interest income declined by $29 million link quarter, the result of a five basis points decrease in net interest margin.

As Richard mentioned, the net interest margin declined more than we had expected during the quarter.

Approximately half of the decline was due to management actions, including the accelerated share repurchase program initiated in February, and the purchase of bank-owned life insurance at an earlier date than originally expected.

Just to clarify, the purchase of bank owned life insurance has the effect of reducing net interest income, but benefiting the Company from the standpoint of non-interest income and taxes.

Additionally, net interest income declined by $19 million on a link quarter basis due to two fewer days in the quarter, plus lower net interest recoveries.

As we previously highlighted, non-interest income in the fourth quarter of 2006 included $69 million of notable items, including a $52 million gain on the sale of our 401 (k) business, net security gains of $11 million, and a $6 million trading gain related to certain interest rate swaps.

Apart from these items, non-interest income was higher on a link quarter basis primarily due to a $42 million increase in mortgage banking income, the result of an adverse change in the MSR hedge in the fourth quarter which was partially offset by a $16 million unfavorable variance in deposit service charges.

Non-interest expense in the current quarter was $67 million lower than the fourth quarter of 2006.

Items of note were a $22 million charge related to the repayment of debt in the fourth quarter of 2006, and the re reduction in operating expenses related to tax credit investments in the current quarter.

Favorable variance in legal and professional, marketing and a number of other expense items, reflecting both seasonality and the timing reflecting both seasonality and the timing of some business initiatives.

Offsetting these positive variance and expense were employee benefits, which included an expected first quarter increase in payroll taxes and the impact of a reduction in medical benefits in the fourth quarter of 2006.

In addition, compensation expense also increased on a link quarter basis primarily due to higher incentives.

Finally, income taxes in the current quarter were higher than the previous quarter, primarily due to benefits from the resolution of certain federal and state tax returns in the fourth quarter of 2006.

Going forward, we expect the effective tax rate to be comparable to the current quarter at approximately 30.4%.

Moving to the balance sheet.

Average earning assets rose by $8 billion or 4.4% over the first quarter of 2006, primarily due to a 5% increase in total loans.

Loans held for sale, which include both residential mortgages and student loans and other earning assets also increased year-over-year.

In addition, average investment securities rose year-over-year by 3%.

The increase in the investment securities portfolio from a year ago reflected asset liability Management decisions to reduce some of the Company's exposure to residential mortgage assets and a shift to a higher proportion of municipal securities.

On a link quarter basis, average earning assets grew by $1.5 million, or just under 1%.

Driven by an increase in total loans of slightly less than 1% and an increase in average investment securities of 1.5%.

Total average deposits in the first quarter of 2007 were $565 million or 0.5% higher than the first quarter of 2006.

Increases in average interest checking, time certificates and time deposit balances were partially offset by decreases in non-interest bearing deposit, money-market and regular savings accounts year-over-year.

The decline in average non-interest bearing deposits year-over-year reflected reduction in business demand deposits as our customers reduced excess liquidity, deposit balances in lower rate money-market and regular savings accounts continued to migrate to higher rate time certificates of deposits in both the wholesale and consumer business lines.

Total average deposits in the first quarter were $254 million or 0.2% lower than the prior quarter.

Increases in interest checking account balances and time certificates of deposit were more than offset by reductions in non-interest bearing and money-market savings deposits.

Much of the decline in average non-interest bearing deposits was due to seasonality.

Finally as Richard mentioned earlier, we returned 165% of earnings to shareholders in the form of dividends and buybacks in the first quarter of 2007.

Even with this return of capital to shareholders, we remained well capitalized and exceeded our capital targets with tier one and total capital ratios of 8.6% and 13.1 respectively at March 31.

I would now like to turn the call back to Richard for

Thanks, Andy.

In conclusion, we will continue to focus on organic growth and invest in the businesses that will enhance our product and service offerings.

We'll also continue to add distribution and high growth markets through in store expansion, select de novo branch editions and small branch acquisitions in attractive markets at the right price.

Our long term goals have not changed.

Our constituents are counting on us to meet the challenges presented by this environment but not take the risk that might place us in harm's way in the future.

We are committed, and I believe, well positioned, to produce a consistent, predictable, and repeatable earnings stream for the benefit of our customers, communities, employees and shareholders.

At this time, Andy and I would be very happy to answer any questions from the audience and we'll turn this back over to you, Blake, the operator.

Certainly.

[OPERATOR INSTRUCTIONS].

It looks like our first question comes from the site of Lori Appelbaum of Goldman Sachs.

Hi, Richard.

My question relates to the subprime portfolios.

If you could give us credit statistics on how the portfolio is doing in terms of losses and delinquencies quarter to quarter, and any indication that you're seeing a noticeable or very moderate deterioration in the portfolio?

Thanks, Lori, for joining.

As you know, we have about $3.1 billion in residential first mortgages, about $0.9 billion in home equity.

I'll separate those two.

The $3 billion in residential mortgages is about 2.1% of total loans.

The FICO is 622 on that group, and the charge-offs are just above 1% for the first quarter of '07.

Juxtapose that against the $0.9 billion for home equity, FICOs of 653, total portfolio size of 0.6% and charge-offs of just over 2.5% for the first quarter of '07.

I will add to that, you didn't ask, but I'll give you more, we also have $399 million in auto subprime through our commercial -- our consumer finance business, and about $399 million in balances is 0.3% of our total loans.

FICOs are near 570 to 575 range, and the charge-offs in that portfolio are just over 3.4%.

So the total exposure for U.S.

Bank in all subprime categories on the loan side would be just short of short of $4.4 billion, just short of 3% of total loans, average FICOs of 624, and quarterly charge-offs for the first quarter of just over 1.5%.

Those charge off rates, how do they compare with where they stood in the fourth quarter?

Lori, those numbers are moving about slowly but not measurably.

On the residential side, the 1% that I mentioned a year ago was 0.78% so that's up 24 or 22 basis points.

The home equity has gone from 1.5 to a little over 2.5 and the auto was actually 4.7 last year at this time and it's now down below 3.5 or 3.4, so overall the total portfolio is up slightly but not to a point of concern on our part and frankly, some of this has to do with seasoning more than it does originating credit quality concerns.

And what's your expectation for losses going forward on these three portfolios?

We think that these are all three are coming into some point of stability.

I think that we'll still see some marginal lift in the residential mortgages.

I think the home equity, the 2.5 will stay in the 2.5 to 3 range.

The auto, as I said, is coming down and I would say our total subprime portfolio will grow modestly and the charge-offs at 1.5 probably will stay in the 150 to 175 range in the near term.

I'll also say that we have caps in our lending business for subprime activities and the portfolio size I just shared with you will not grow demonstrably over the next couple of quarters because we've capped ourselves quite some time ago to make sure that we limit any kind of portfolio concentration and in this case, I think we are more profound than we knew at the time but subprime at this level is pretty close to where we want to be.

Okay, thank you.

Yes.

Next we'll go to the site of Gary Townsend of Friedman, Billings, Ramsey.

Go ahead, please.

Good morning, gentlemen.

How are you?

Good morning.

One area of focus for us is what happens in the deposit growth area.

I know that you brought in a new Management team, you've been investing in your branches and changing approaches.

Could you give us an update there describing the progress and efforts to improve deposit growth and how quickly we should be able to see the needle move?

Thanks, Gary.

I'd be happy to.

This is Richard.

I'll start off by saying that you know that we don't pay the highest rates of our peer group and in any measure, except maybe less than other bank, we are the lower end.

We've been that way for 13 years now, and I just call that out because we don't measure total deposits as a accomplishment of success necessarily.

We do think that the mix of business is important and we are evaluating ourselves as much on our net DDA growth and our core checking as we are with everything else.

Having said that, what I'm telegraphing to you is we're not going to do an across-the-board deposit rate increase.

Not now and not into the future.

We don't think we need to.

We feel we're quite capable and quite experienced that knowing what the market will tolerate in certain markets different being our position in different based on who the competitors are.

The power bank we talk a lot about, Gary, as you know has in it part of that is to increase our rates in certain categories where we think it will affect our core customer growth.

That being checking, interest bearing checking, and the more transaction based related businesses.

We will instead though spend the money in power bank to do the all on kind of leadership position in some of our larger more legacy markets and that will include some deposit rates but otherwise what you won't see but I keep telling everyone is that in the smaller markets where we are a predator, not a driver, we can afford to be quite aggressive in our deposit positioning and accordingly we have little to lose and a lot to gain and you'll see that our growth trajectory in some of those markets are really quite attractive.

So we will not move from the bottom third of deposit prices to the top third.

I don't expect that will probably happen ever.

We certainly have never been there, but we'll continue to recognize that there's different tolerance based on our position, our size, our legacy and our competitors and we'll continue to add back deposit pricing where it needs to be, both in power bank and in the lesser visible, yet unnamed predator approach we take in the smaller markets.

When we visited last August, you described your pricing on deposits as maybe in the lower decile.

Right.

And you indicated you would probably shift that toward the lower, top of the lower third maybe.

I did.

And have you done that, and where are you in that?

Yes.

We're making progress toward that.

Again it's not a stated goal necessarily but it will be the result of power bank being rolled out in all six of the Markets that will include the St.

Louis which is rolled out, Portland is this month, we will still add Minneapolis, Milwaukee, Denver and Cincinnati, not in that order, between now and the end of 2008.

By my calculations, and by what I think will happen in any yield environments, yield curve environments, we will by de facto, end up in that top of the bottom third so to speak or the bottom of the second third based on those actions plus the ones we're taking in the smaller Markets where we take a more predator approach to pricing deposits.

And with respect to credit, it sounds like you're pretty sanguine in your outlook.

Is that a fair read and what makes you so confident you'll be able to keep that steady?

Yes.

That's a good word, by the way.

I don't know how to spell it but I can say it.

I think that's a good portrayal.

One of the reasons is because you know that probably a bit defensively for the last couple of years we have suggested that our slower growth in the earning assets of loan side has been in part because we simply won't take the risk on the structure and on the credit side and we haven't, and I should say that if we don't show it in our success in the next coming quarters when the cycle starts to deteriorate a bit then we probably weren't doing a very good job a few years ago, so to me, I'm not only sanguine but I'm confident because I know that the actions we didn't take at the temptation of having higher optics and higher balance sheet growth will pay us I think handsomely in the next couple of quarters as our non- performs continue to be stable to modest and our charge-offs, I believe vis-a-vis our peers will continue to be impressive while still growing.

Thank you.

Yes.

Thanks, Gary.

[OPERATOR INSTRUCTIONS].

We'll go next to the site of David Hilder of Bear Stearns.

Go ahead, please.

Good afternoon, gentlemen.

Just a brief question on your effort in New York.

Is that targeted to any particular industry or industries, or could you talk about its geographic mandate?

I can.

Leslie was hired by one of the larger banks in the New York City market, a very Senior Manager I might add, to bring with her a set of customers and hopefully a set of employees to help us build our masthead in the New York City and I'll call it the New England Markets including Boston and Philly and down into DC.

Leslie will report to Dick Payne, Head of our Corporate Banking who we brought over about a year ago and she will be charged with what I'll call out of foot print corporate lending activities, and when I say corporate, I mean everything from high end middle market to all of the traditional corporate activities you would expect.

Given that we are very very expansive in 24 states through our natural footprint, you know we have a lot of corporate customers that have a footprint larger than the 24 states we would typically see them, so this allows us to be on the ground, if you will, on the street in New York, Boston, Philly, DC, to allow for a more localized approach to some of the corporate banking needs and expectations and I think it's appropriate and I think the timing is right for us to stay then to a more national footprint for corporate banking.

I might close by saying it follows our last two years entrance into those same cities and a few in the southeast and our commercial real estate businesses to move it from a regional to a national business to enjoy the benefits of the higher diversity of geography and the opportunities I think we are missing out on before.

So, we're not going to take New York by storm and be a thorn in everyone's side but for us the opportunities to grow from what little we have to becoming an Eastern seaboard corporate partner I think is quite substantial and Leslie is the right person to lead us there.

But no particular focus on any individual industry such as we might have seen at her prior employer for example?

Great question.

I know what you mean now and the answer is no.

We are looking at really, we're not going to classify, we have some heavy concentrations and things like ag and mortgage and some other portfolios in our foot print, but I will say in the more specialized areas, we'll stay in foot print where we actually know a lot more about our customers and we know the business from the inside out.

This will be more traditional corporate top line line of credit and extension of credit products and services that you are more familiar with.

Great.

Thanks very much.

Thanks, David.

Next we'll go to the site of Nancy Bush of NAB Research LLC.

Go ahead please.

Good afternoon, Richard.

Hi, Nancy.

A couple of questions.

The first one would be on your, when you had discussed the outlook for net interest income in the fourth quarter, you had not only looked for stability in the margin or close to stability in the margin but also I think there was an intimation that we had reached the inflection point in net interest income and obviously, that has not happened.

Right.

Is that a function of the curve primarily or are there other ingredients that we need to discuss?

I'll have Andy answer that technically because he will do better than I but I will tell you that I am chagrined that we forecasted incorrectly, and the reason we're so transparent with you all right now on our projection that between now and year's end, it could fall 5 to 10, is because I want to leave it clear to you that we don't think the inflection point has hit yet.

God, I wish it had but it hadn't.

Part of that, Nancy, is to my surprise of the loan yields continue to come down further from where they were 90 days ago when we chatted.

I didn't think it was possible.

We collectively didn't think it was possible but with the private equity, the international funding and the other alternatives in the marketplace it simply hasn't gotten better.

I would also say that we incorrectly predicted the customers, particularly corporate customers moving upstream from the lower yielding deposits to the higher yielding and off balance sheet alternatives and while none of those are permanent situations until the curve moves from inverted or flat to more of a curve we're going to find ourselves needing to predict that we are not to that point yet.

And I think we're also saying that the end of that 5 to 10 as far as we can see there is that inflection point.

I think this Company, I've long saw this Company as probably a 340 to 360 kind of margin company and I think we'll prove that over the course of the next couple quarters.

Finally in quarter one, there were some management-induced activities that Andy you might want to remind because they did accelerate perhaps where we were but we wanted to be abundantly clear with you guys.

Right.

Thanks, Nancy.

Of the five basis point decrease from the fourth quarter to first quarter I would say about half of that was due to two items, the accelerated stock repurchase and the transaction that we actually implemented a month sooner than we expected, so on a core basis we were probably down on a business basis 2 to 3 basis points and it is the three items that Richard mentioned, loan spread, about a third of it, about a third of it DDA volume and about a third of it consumer deposit mix so if you think about us declining two or three basis points what we're seeing is the fact that we have that same expectation for the next few quarters, again in the 5 to 10 basis point standpoint.

Let me explain the accelerated stock repurchase and why we did that.

With regard to the Heritage Bank transaction, we were required to be out of the market from December 15 in conjunction with the proxy mailing to the shareholder meeting in late January so we were effectively out of the market for the entire month of January, so we had the capacity as you saw, from our capital ratio, so in order to catch up we did the ASR effective February first, and again, that impacted margin also.

Second question just on deposit service charges, you know we continue to decline there and the fourth quarter to first quarter decline looked like it was a bit more than I had anticipated.

Is that primarily a commercial function or where is that coming from?

Nancy, this is Andy.

I would say about half of the decline is related to seasonality.

The number of days in the first quarter and the billing cycles that occur versus the fourth quarter And about half was just a little lower in terms of overdraft charges that occurred to our consumer based customers.

Nancy I'll tell you it surprised me too because I've been in consumer banking for as long as I've been walking upright and we always see the first few weeks of the New Year to be lower in classic deposit service charges and then it kicks in.

I won't tell you but we actually know which date in the second month it kicks in and then it just hits stride.

It was entirely five, almost six weeks later this quarter.

I'm relieved to tell you it has kicked in, but I'm surprised that we don't understand why it was so delayed and while we're enjoying now the run rate we expected originally, there was a delay, I'm actually myself looking forward to reading my peers' performances in the next couple days to see if we all enjoyed or in a funny warped sort of way, enjoyed the same impact or whether or not there's something unique about our customers because the 4.7% growth is actually slightly below the net number of core customers we've added in that year, and so there is something that we have to learn and if it comes right back to normal and gets into the eight, nine, 10% range I'll just write it off as an anomaly but I'm, not unlike you, I'm trying to learn from it and frankly a bit surprised and holding my final assessment until we learn a little bit more.

Thank you.

Yes.

Thanks.

Next we'll go to the site of Mike Mayo from Deutsche Bank.

Good afternoon.

Hi, Mike.

Just a couple follow-up questions.

The average margin since the merger, the last five years has been 420.

Last year it was 365.

And now you're kind of giving us a range of 340 to 360, so just conceptually, what's changed with kind of a normal margin?

Well I think the most significant change over that time period, Mike, is the yield curve, and as you know, we had a more normal sloping yield curve three years ago.

It's become flattened and inverted and that's probably the single most significant impact.

In addition to credit spreads that have been pressured over the last six quarters, eight quarters.

And Mike it's Richard.

You'll also recall that we were declarative right after the merger of the companies our credit profile was too high.

Our risk profile was too high.

We merged the companies and right at the same time had a fairly high risk proposition.

The good news is if you do it well, you get paid for it at least, and while we've taken risk out of the balance sheet, we're not going to get payment for it so in part it would be that and then lastly, little known fact and not enough to move the needle, as we continue to grow our corporate payment businesses, it actually as we have the on balance sheet, the offsetting deposits and things to compensate for the corporate payments, they serve as kind of a contra effect to our margin and I think that's worth 11 or 12 basis points in total and it's been growing since the merger I'd say at least 50 to 100% since we merged without having done the math so I think it's besides what Andy said, it's the portfolio composition, the choice to be more stalwart in our credit and the fact that corporate payments have become meaningful to be noticed.

And a second follow-up, in taking corporate banking from regional to national, I guess that has its own set of credit risk.

Right.

And also, you start competing against bigger players that have a broader suite of Capital Market products to cross sell so can you just comment on that?

I can.

At least if nothing else I'm consistent.

While staying in the very classic corporate lending corporate line activities, the more simple vanilla stuff, in doing so, there's a number of our customers as I said earlier we participate out deals or we could leave now instead of syndicate and in partnership with companies that are say Omaha-based or Portland-based or Chicago-based and instead of participating some of that out by being on the East Coast and more proximity resident to them, we can find ourselves with better hold positions for the very very top quality customers so you're just going to keep hearing in this Company, we'll stay aggressive in the conservative space of top quality, because we're not going to take the risk reward profile of a lower quality asset base, so I think in moving to corporate banking to a national foot print, it allows us to expect higher hold position, higher accommodations to current customers and be attracted to some of the people that have payment needs on the East Coast that don't enjoy some of our opportunities now that we can sell into them based on our lead positions and corporate payment activities.

Lastly, my question, just the first conference call with Andy as CFO, so any philosophical changes in the CFO role, and then Richard, this might be a follow on for you, you returned 165% of earnings this quarter.

I guess that's not sustainable forever.

The trade off between why don't you guys go ahead and do some deals.

You're efficient in taking out others.

The trade off between buybacks and dividends versus going out and doing more deals.

Got you.

There's a lot in there.

First of all I should have publicly welcomed Andy to our call but I couldn't be more proud to serve with him.

We had our Board meeting today, as you know, and probably know that we had a shareholder meeting as well.

I told the Board today that if there is a thing called business religion Andy and I have exactly the same religion.

We are of two minds, we are highly encouraged by what we see in this Company.

We're both extreme pundits of transparency and direct communication and we're really quite excited to be working together.

I would say that as you look at philosophy versus data, there's no change.

We will continue to be on the smart edge of knowing what's opportune while making sure we use our capital wisely and leverage it to the extent it's good for the shareholders and still in the conservative view and we didn't adopt any FAS 159 or 157 actions, we simply will be conservative probably across-the-board in just about every way you can find us.

In terms of our return to shareholders, the 165 is not sustainable, I'll give you that, but I'll tell you this, as much as we will do a small deal, as payments deal, the trust deal, the bank deal, when they come along I promise you were looking at them and we will take advantage of those opportunities and unless they come along and they are not right now, they think it's our wise its best use of capital in part to give it back to the shareholders while not harming our capital positions or our flexibility going forward to take advantage of the things when they do come along.

So you're right to call it out, we continue to promise 80% minimum.

I would actually love to find something we could do with it that might be long term gains but right now we think this is the wisest use of our position for our shareholders.

Andy?

And Mike the 165% was partly driven by a little bit more hybrid trust preferred security issuance and the fact we were well above our capital ratio going into the end of the fourth quarter and asset capacity to bring that down still well above our 8.5%.

Do you have any philosophy comment?

No.

I think the religion comment was good.

We hope you guys like our religion.

Thank you.

Thanks, Mike.

[OPERATOR INSTRUCTIONS].

And next we'll go to the site of Todd Hagerman of Fox-Pitt Kelton.

Go ahead, please.

Hi, Todd.

Good afternoon.

My question has been answered.

Thank you.

Thanks, Todd.

All right we'll go ahead and go on to Vivek Juneha of JPMorgan.

Richard, can you explain national condo financing was something that you all were doing over the last couple of years and I guess you pulled back from that once things started to soften in the markets in various markets across the country.

Right.

And now you're going international corporate lending outside of your foot print.

Can you explain from a timing standpoint, given that weave already seen a lot of liquidity flow into these areas why now given that you've done that in one case and pulled back realizing that it wasn't probably the right thing to do because you started to see a little bit of pressure from a credit standpoint?

Thanks for the question.

First of all, on the commercial real estate side you're right.

We've gotten out of the condo activities in some of the riskier markets.

I will remind you that I think with the fourth largest commercial real estate portfolio in the country and we deal almost exclusively with the large national players who have a long history and have a really good prudent approach to the way they do their business and they have diversified earnings so we are not going to be found with a lot of these smaller and regional activities but we did see our national partners also getting out of some of these hotter markets.

We got out of them with them and pretty much followed their lead and have not enjoyed getting back into those riskier areas.

I think you said international corporate and I want to clarify, we're not doing any lending overseas.

We have no expatriates.

I'm sorry.

I meant national.

I guess if you're in Minneapolis it could feel like it's international but in terms of national corporate that is very consistent as I answered to Mike.

We would stay in the very classic LIBOR low-yielding kind of lending activities at higher positions for top AAA kind of credit customers with a goal we would have more deposit opportunities and more corporate payment space to provide them.

If that doesn't yield that kind of fruit, we're not going to do it just to prove the mettle of being in more cities and states.

We believe based on our own analysis and the people we can attract to be part of Leslie and Dick's new mission as I brought them both to the Company, we think there's a really good chance to run that flag up the poland see what kind of opportunity we have outside of our foot print but trust me, we're not taking undue risk and we're not changing our risk profile.

We're certainly not swapping one risk for another.

And a question for Andy.

In the tangible comment I know it's a ratio that you're not focusing on as much as the tier one risk weighted capital but the Company is to tick down, it's at 5.3, where should we expect it to go over the next year?

Are you going to stick with the five handle and can you give some color on that?

Yes, Vivek, our primary ratio as you mentioned is tier one, again our target there is no lower than 8.5.

I would expect the tangible ratio not to fall below five somewhere in that neighborhood.

Meaning to stay in the five at the current level or tick down a little further?

It may go down a little further as we continue to optimize to the 8.5 in tier one but I don't think it will fall below five.

Thanks.

You bet.

We also have a question from the site of John McDonald of Banc of America.

Go ahead, please.

Yes, hi.

Wondering about seasonality.

I think you covered the seasonality of the deposit business pretty well.

Could you just review for us what are the other seasonal pressures in first quarter, what's the typical driver of earnings improvement from first quarter levels?

Sure, thank you, John.

First in net interest income just a function of the number of days in the first quarter is about a $20 million impact to net interest income.

In fee income, there are two categories that are weekly, seasonally weaker in the first quarter, the first is deposit service charge, the second is our payment businesses, so typically our payments businesses are strongest in the second half of the year and first quarter is a little lower, maybe a few percentage points than what would be typical quarter-over-quarter growth percentage.

Okay.

In fact, John, this is Richard.

Quarter three is strong for our corporate payments because we have a great deal of municipal and federal government businesses and the good news is they will spend their budget by September 30 and we'll benefit from that.

Quarter four would be the retailing part of our merchant acquiring our issuing side and quarter one, neither of those are present in their strength and certainly not together, so quarter one turns out to be our low point, works its way back up to two and three and then starts to soften again in four as the rest of the bank from the core corporate and consumer bank starts to settle in.

Finally, John, the first quarter, like many organizations is one of the higher for payroll taxes, FICA and also when merits on an annual basis get implemented so that will tick up a little higher in first quarter versus other quarters during the year.

And is it possible for you to summarize perhaps the cumulative impact of some of the payments and trust acquisitions that you announced primarily towards the second half of last year?

Are they collectively a net drag better than current earnings or starting to become modestly accretive?

Is there a way to summarize the collective impact of those deals?

Yes.

I will give it a shot.

I think from a net income, net pre-tax income standpoint in the first quarter versus the first quarter of '06, it was within $9 million a little lower than breakeven, primarily due to some of the integration activities that are still occurring.

On a fourth quarter versus first quarter basis it was fairly flat.

I would say collectively, top of head, it would be going, they're red when they start, they're pink right after that.

As a group they are going from pink to gray and later part of this year you'll see unless we do some other activities you'll see the maturity of those businesses, the post-conversion benefits of the pricing take outs and we're excited to see it become organic from what we might as well have been more acquisition.

We do do a review of all our acquisitions three, six, nine months and a year later and we just completed that in the last few weeks and they are all on track for what we expected.

Flat from the fourth to first and at some point you'll get modest accretion from those?

Yes.

And by the way, John, the trust will be the benefits of the final conversion of getting all the costs wrung out of it, and on the payment side it will be the run rate and momentum we get from the synergies of getting the payment businesses up and running and inculcated into the rest of the Company.

So one is more of an expense benefact at the end and the other one is a revenue benefact.

Okay, and then just two real quick ones on the non- interest income for Andy.

The mortgage banking line has been stronger than expected.

Is this kind of a sustainable level going forward, the $67 million non-interest income in mortgage?

You know it's interesting, John.

This quarter, we really had no unusual impact in mortgage banking.

Our MSR and our hedge worked sort of the way it was supposed to work so it was sort of a core normal activity so I would expect the answer to that is yes, again given the interest rate fluctuations that may occur in the future.

Okay, and the same question on the other, or the non-interest income 159 this quarter didn't have some of the specials from the past couple quarters?

Absolutely nothing unusual in that number.

So that's the rate to go forward on?

Yes, up or down a little bit but no unusual gain in that number.

John, I'll take a side bar here and tell you that we realize that the opportunity for predictable earnings comes from the core, and I'm actually quite pleased with our core performance and I know our seasonality and despite the headline risk of having missed the consensus, I think as you guys evaluate our numbers, you'll be alt least as pleased as I am that our core is still performing quite well and while win gains happen and they will and losses too I suppose, we will always bring them forward, we will always benefit our shareholders if they are to be benefited by.

We will not time anything but we don't believe that some of the gains that we enjoyed in 2006 notably there was a sale of our trust business, the benefits we enjoyed from the MasterCard equity position sale, and the opportunities we had in some very meaningful tax settlements all of which we deserve, all of which we showed the world and all of which we took the credit for, those kinds of remarkable confluents of net gains I don't believe are likely and in accordance with that, the core is what you'll trade us on and I'm really quite pleased with where the core is now, and I do believe that over the future quarters you'll see the slope of our curve is quite sound.

Great.

Thanks.

Yes.

Thank you.

Next we have a question from the site of Matt O'Connor of UBS.

Go ahead, please.

Hi, Matt.

Hi, guys.

I guess just as a follow-up to John's question and the comments he just made, as we start looking at earnings throughout this year, you talked about them increasing off the 1Q level but will we be relatively flattish year-over-year as both in the specials from the year ago, comps are tough?

Matt, you know, we don't give guidance and I know you're not testing me on that, but I won't answer that directly but I will say if you look at the core bank any time in the last three to five years you'll see we do have seasonality hasn't changed that much.

The slope of our curve is usually strongest in quarters two and three and without what I'll call remarkable net positive gains, I will expect nothing less than that in the rest of this year and I think you can expect the same thing.

Okay, so try interpret that as you're still hoping to grow earnings full year to full year?

We did, yes, we would say that.

Okay.

And then just separately, you mentioned about not adopting fair value accounting to be conservative and I'm just wondering, there's some banks that have adopted it to boost their margin going forward.

You've got large securities booked like most banks, it's under market-rates.

I'm just wondering the thought process for not taking advantage of that opportunity that seems to be out there.

Matt, we're going through a fairly large project within a Company now going through each area of the bank and we will adopt in the First Quarter of '08, when adoption is required and whatever impacts will occur will occur at that time.

And you know what I know.

The SEC has not rendered its strong opinion on what the intent of what this was for.

They will look untoward anyone that I call it cherry picks.

We don't leave we have enough guidance and we didn't feel we needed to do it and given this is going to be mandated next year we thought we would use the time to learn more, watch from others and take the advantages that are appropriate at the beginning of '08.

Okay.

Thank you.

Thank you.

Thanks, Matt.

Due to time constraints, I'll go ahead and turn the program back over to Judy Murphy for any closing remarks.

Okay.

Thank you for listening to our review of first quarter 2007 results.

If you have any follow-up questions or need hard copies of our press release and supplemental schedules, please feel free to contact me at 612-303-0783.

Thank you very much.

Appreciate it.

Thanks, operator.

Thanks, everybody.

Thank you.