美國合眾銀行 (USB) 2006 Q2 法說會逐字稿

Thank you for joining us.

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

Jerry Grundhofer and David Moffett are here with me today to review U.S.

Bancorp's second-quarter 2006 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 10-K report on file with the SEC.

I will now turn the call over to Jerry.

Judy, thank you.

I'd like to begin by discussing the highlights of our second-quarter 2006 results and David will provide more detail on the quarter in his commentary.

We achieved record earnings of $1,201,000,000 in the second quarter of 2006, a 7.1% increase over the same quarter of last year.

Earnings per diluted common share for the second quarter were $0.66, a 10% increase over the second quarter of 2005.

We improved on our industry-leading performance metrics with a return on assets of 2.27% and return on common equity of 24.3%.

In fact, that 24.3% return on common equity is another record high for our company.

We believe that being the low-cost provider is a distinct advantage in today's economic environment.

Our tangible efficiency ratio for the second quarter of 2006 was 41.8% making us one of the most efficient financial institutions in the industry.

Total revenue increased 4.5% over the second quarter of 2005 while revenue per share increased 7.3% over that same time period.

The 4.5% increase in total revenue year-over-year was the result of outstanding growth in fee revenue partially offset by a reduction in net interest income.

The net interest margin for the second quarter of 2006 was 368 compared with 399 in the second quarter of 2005 and 380 in the first quarter of 2006.

David will discuss the margin changes in more detail later, but I would like to make a few comments.

Competitive pricing and growth in lower spread fixed-rate assets continue to have an impact on our net interest margin.

On a linked quarter comparison 7 of the 12 basis point reduction can be attributed to those factors.

As many of you already know, our company strategy is to focus on high-quality credits.

The recent changes in net interest margin are in part a reflection of this strategy.

These higher quality credits carry lower margins and subsequently lower spread income.

We believe, however, that the reward is lower net charge-offs which we are now experiencing and would expect to see during the next credit cycle.

Bottom line, we are not reaching for return at the expense of credit quality.

Although credit spreads are tighter than they were a year ago, it does appear as though they have stabilized for both commercial and retail loans.

Our challenge going forward is to grow credit products at a reasonable spread that compensates us for that risk while giving us the opportunity to cross sell our powerful fee-based products.

Moving on to the balance sheet -- commercial loan growth showed good progress again this quarter.

Average commercial loans increased 6% over the same quarter of last year while commercial real estate loans grew at a moderate 4.4% year-over-year.

Average retail loans grew by 4.9% over the same quarter of 2005 driven by credit cards, installment and auto lending.

Residential mortgages were higher than the second quarter of 2005 by 21.3%, but were slightly lower than the previous quarter.

This change reflects the Company's previously announced decision to package and sell the majority of the mortgage loans that we originate through our traditional channels.

As many of you know, the second quarter of the year is a seasonally strong quarter for our fee-based businesses.

This year was certainly no exception as total non-interest income increased 13.9% over the same quarter of 2005 and 8.7% over the prior order.

I'd like to take a minute to highlight a few of our fee income categories.

Of note, fee income was over 50% of total revenue for this quarter.

Our strategy for increasing fee revenues in this challenged net interest income environment is working.

The payment fee categories, products and services that have received the majority of our investment dollars over the past few years and which include credit and debit cards, corporate payment products, ATM processing and merchant processing, increased 18.7% year-over-year.

Organic growth in payment-related fees was excellent at approximately 13% year-over-year while the remaining increase reflected the impact of several small acquisitions.

The payments businesses are very important to the overall future of this company.

These businesses differentiate U.S.

Bancorp from many of our peers, providing opportunities to cross sell our existing customers and acquire new customers.

In the second quarter 2006 trust and investment management fees grew by more than 24% over the same quarter of 2005 aided by the purchase of a corporate trust and institutional custody business as well as improved equity market conditions and incremental account and balance growth.

Trust and investment management fees are just a part of this business line story.

Wealth management, which includes private client, corporate trust, asset management, institutional trust, fund services and investment sales, continues to increase its contribution to the Company's earnings through deposit gathering as well as high-quality loan portfolios.

Deposit service charges increased 12.8% in the second quarter of 2006 over the second quarter of 2005 and 13.8% over the prior quarter driven primarily by net new account growth and transaction-related fees.

We expect deposit service charges to continue to show growth in 2006 as we see increases in net new checking accounts.

In the second quarter of 2006 net new checking accounts increased by 77,000 for a total of 159,000 net new checking accounts year-to-date.

This represents an annualized growth rate of 5.7% on our January 1st starting point.

As many of you have heard me say in the past, we believe net new checking account growth is one of the primary indicators of the success of our branch distribution strategy.

Mortgage banking revenue was lower by 35 million while other income was higher by 44 million when compared to the same period of last year.

Both categories were affected by accounting or unusual items, so David will discuss these changes in greater detail in just a moment.

On to credit quality; the Company's asset quality remains outstanding.

Net charge offs were at 36 basis points of average loans for second quarter 2006 compared with 33 basis points in the first quarter of '06 and 44 basis points in the second quarter of '05.

The slight increase over the prior quarter was expected and was the result of a decrease in commercial loan recoveries.

Gross charge offs remained stable quarter to quarter.

Nonperforming assets declined to $550 million at June 30, 2006 from $619 million at March 31, 2006 and $610 million at June 30, 2005.

That's a 10% decrease in nonperforming assets year-over-year.

We have worked very hard over the past few years to reduce the overall risk profile of our company and we're seeing the results.

During the first quarter of 2006 we announced a change to our capital management target.

We've been targeting a 6% tangible common ratio.

Given the focus on Basel II and regulatory capital, we are now targeting a Tier I capital ratio at 8.5% and a total capital ratio at 12%.

We exceeded both of these targets in the second quarter with Tier I and total capital ratios at 8.9% and 13.1% at June 30th respectively.

We have repurchased approximately 50 million shares of our stock so far this year and this combined with our normal quarterly dividends has resulted in 116% return of earnings to shareholders year-to-date.

In fact, since the fourth quarter of 2003 we've returned 102% of earnings to shareholders in the form of dividends and share repurchases with the share repurchases resulting in a significant 7.5% reduction in common shares outstanding.

In summary, we're producing the results we have promised as evidenced by earnings per share growth of 10% for second quarter 2006; revenue per-share growth of 7.3%; non-interest revenue growth of 13.9%; continued growth in the net new checking accounts and raw material for future revenue growth; total loan growth of 7.3%; excellent credit quality; the achievement of a 41.8% tangible efficiency ratio for the second quarter; and by returning 116% of earnings to shareholders year-to-date.

We will continue to focus on organic growth.

We have the people, the markets and the products and services to produce superior results for our customers and shareholders.

One more comment before I turn the call over to David.

In June we announced two acquisitions.

We announced definitive agreements to acquire Vail Banks, the parent company of WestStar Bank of Colorado and Schneider Payment Services, a division of Schneider National.

These two acquisitions fit very well into our current expansion strategy.

The 24 branches that we'll acquire through Vail Banks will expand our footprint and distribution in attractive markets in the state of Colorado while Schneider Payment Services enhances our ability to provide payment solutions in the freight payment space.

These are both great examples of how we can use our capital to strengthen our presence and product offerings in our banking footprint and payments businesses.

You will see us work to take advantage of more of these types of opportunities in the future as they add to our overall scale and enhance our future performance.

Let me now turn it over to David to give you more details on the quarter.

Thanks, Jerry.

Today we reported second-quarter net income of $1,201,000,000 and earnings per common share of $0.66.

This was a 7.1% increase in net income and a 10% increase in diluted earnings per common share over the second quarter of 2005.

As many of you know, our second quarter is seasonally one of our best quarters.

Net income increased $48 million or 4.2% over the first quarter of 2006.

Earnings of $0.66 per common share on a diluted basis were $0.03 higher than our first-quarter 2006 diluted earnings per common share of $0.63.

We were very pleased with the quality of our earnings this quarter, but I do want to point out a few items that will affect the comparison of quarterly results.

First, mortgage banking revenue in the second quarter of 2006 was lower than the same quarter of 2005 by $35 million, but $51 million higher than the first quarter of 2006.

Variances from both time periods were primarily due to the adoption of FAS 156, the fair value method of accounting for mortgage servicing rights during the first quarter of 2006.

Second, other non-interest income in the current quarter included a $35 million gain related to the Company's proportionate share of the initial public offering of MasterCard Inc.

In addition, please note that other non-interest income in the first quarter of 2006 included a $44 million trading gain related to interest rate swap.

The current quarter did not include any unusual non-interest expense items.

However, comparisons to prior quarters were affected by the $13 million incremental stock-based compensation expense recorded in the first quarter 2006 related to the adoption of FAS 123R.

In addition, other intangible expense in the quarter -- current quarter was lower by $92 million year-over-year due to the elimination of mortgage servicing rights, amortization and impairment with the adoption of FAS 156 in the first quarter of 2006.

The effective tax rate in the second quarter of 2006 was 32.8%, essentially equal to the tax rate in the prior quarter, but higher than the 28% effective tax rate in the second quarter of 2005.

The increase in the effective tax rate was due to a $94 million reduction in income tax expense in the second quarter of 2005 related to the resolution of a number of federal tax examinations at the time.

This quarter we were once again very pleased with the Company's credit quality metrics.

The provision for credit losses was lower in the second quarter of 2006 by $19 million than the same quarter of 2005 and just $10 million higher than the prior quarter.

Net charge-offs in the second quarter of 2006 were $125 million compared with $[115] million in the first quarter of 2006 and $144 million in the second quarter of 2005.

The level of net charge-offs in the second quarter reflects a continued strong credit quality and near-term favorable impact of the new bankruptcy legislation.

Commercial recoveries were slightly lower than the previous quarter while gross charge-offs were essentially equal.

We expect net charge-offs to trend modestly higher over the coming quarters due to the diminishing impact of the accelerated bankruptcies and a further decline in commercial loan recoveries.

Nonperforming assets declined to $550 million at June 30, 2006, a 10% favorable change from June 30, 2005.

We continue to believe that the allowance for credit losses is adequate at June 30, 2006.

Now turning to the balance sheet.

Average earning assets rose by $8.2 billion or a 4.6% increase over the second quarter of 2005 as total commercial loans, including lease financing, increased by 6%.

Commercial real estate loans rose by 4.4% and retail loans increased 4.9%.

In addition, the residential mortgages increased 21.3% year-over-year; loans held for sale and other earning assets also increased on a year-over-year basis.

These positive growth trends were somewhat offset by a 5.3% reduction in investment securities.

The reduction in the investment securities portfolio primarily reflected the asset liability management decision to reduce some of the Company's exposure to residential mortgage assets in addition to a reclassification of $460 million of principal only securities to the trading account in connection with the adoption of FAS 156.

On a [linked] quarter basis total commercial loans, construction and development loans and credit card loans recorded the strongest growth with annualized growth rates of 10.4%, 12% and 13.6% respectively.

Despite the 4.6% growth in earning assets, net interest income declined by $64 million or 3.6% from the second quarter of 2005 as the net interest margin declined to 3.68% from 3.99% during that same period.

As compared to the second quarter of 2005, tighter credit spreads driven by increased competition and a higher proportion of lower spread credit products accounted for 23 of the 31 basis point decline.

The remaining decline primarily reflected the impact of funding incremental growth with higher cost wholesale funding, share repurchases and asset liability management decisions designed to minimize the Company's rate sensitivity position.

These negative factors were partially offset by the higher value of net pre funds and loan fees.

On a linked quarter basis net interest income declined by $28 million or 1.6%.

Although the average earning assets increased by $1.8 billion quarter over quarter, the 12 basis point drop in the margin more than offset that positive variance.

The 12 basis point decline in the net interest margin on a linked quarter basis primarily reflected the mix of loan growth towards competitively priced fixed rate product funding a higher percentage of earning assets with wholesale funding and the ongoing impact of the flat yield curve.

Of the 12 basis point decline in the margin 7 basis points were due to credit spreads and growth in more competitively priced products.

Once the Fed quits tightening we would expect our margins to begin to stabilize as the cost of funding the balance sheet levels off and the yield on earning assets continues to rise through repricing and incremental growth.

Total average deposits in the second quarter of 2006 were essentially flat to the second quarter of 2005.

Deposit balances and lower rate money market and regular savings accounts continue to migrate to higher rate time certificates of deposit in both the wholesale and consumer business lines.

This migration reflected the Company's deposit pricing decision for money market products in relation to other fixed-rate deposit products.

Total average deposits in the second quarter were higher than in the prior quarter partially reflecting the seasonality in the government banking and corporate trust balances.

Our capital ratios remain strong; we are comfortably above the minimum regulatory targets to achieve well capitalized status with a Tier I capital ratio of 8.9% and total capital ratio of 13.1%.

As Jerry mentioned, we changed our capital targets to a Tier I ratio at 8.5% and a total capital ratio at 12%.

Taking a quick look at the business unit results compared to the second quarter of last year, wholesale banking increased net income by 2.1%, the result of a 3.1% increase in total net revenue and controlled non-interest expense, partially offset by an unfavorable variance in the provision for credit losses.

Total revenue was higher year-over-year for the wholesale line of business due to growth in net interest income.

The favorable change in net interest income was primarily the result of higher earnings credit on deposits and loan growth.

Although average loans increased 5.9% year-over-year driven by a 6.7% increase in average total commercial loans and a 4.3% increase in commercial real estate loans, the net interest income benefit from this favorable volume variance was mitigated by lower spreads.

The business line posted net charge-offs of just $1 million in the second quarter compared with $11 million of net recoveries in the second quarter of 2005.

Consumer banking increased net operating earnings by 13.8% over the second quarter of 2005.

Net revenue was higher by 1.6%, net interest income rose by 2% while the business line fee revenue grew 0.6%.

Fee revenue was impacted by the first-quarter adoption of FAS 156.

Consumer banking excluding mortgage banking increased net revenue by 5.3% year-over-year including increases in both net interest income and non-interest income of 3.4% and 10.2% respectively.

The favorable change in net interest income was primarily driven by higher earnings credit on deposits.

Although the business line's average total loans grew by 8.6% year-over-year, the net interest income benefit from these volume changes was substantially offset by lower spreads.

Fee income, excluding mortgage banking income, was driven by continued strength in deposit service charges and improved end of term lease residuals.

Total non-interest expense decreased year-over-year by 9.1% primarily due to the adoption of FAS 156 which eliminated the amortization of mortgage servicing intangibles.

The provision for credit losses declined from $63 million in the second quarter of 2005 to $54 million in the second quarter of 2006, reflecting the group's overall reduction in net charge-offs.

Wealth management, formerly known as private client trust and asset management, recorded a 27.6% increase in net income over last year.

Please note that the December acquisition of Wachovia's corporate and institutional trust businesses had little impact on the group's net contribution this quarter.

Net interest income increased 19.8% driven primarily by a 16.7% increase in total deposits and higher earnings credit for those deposits.

Non-interest income was higher by 22.2% year-over-year reflecting the acquisitions, favorable equity market conditions and the new account growth.

The 17.5% increase in non-interest expense year-over-year was primarily due to acquisitions.

Assets under management, which include all the equity, fixed-income and money market assets, increased 6.5% over the second quarter of 2005 and 3.9% over the first quarter of 2006 primarily reflect the organic growth in addition to incremental increases related to the acquisitions.

Finally, payment services net operating earnings rose by 37.2% over last year, the net result of an 18.8% increase in revenue, a 15.8% increase in expense driven by recent investments and initiatives and a 29.3% decrease in the provision for credit losses.

Total net interest income grew by 15.6% as higher volume and better spreads on credit card receivables as well as an increase in loan fees more than offset higher non-interest bearing corporate card balances and rebates.

The 19.6% increase in fee revenue was driven by a 13.6% increase in retail credit and debit card fees, a 15.8% increase in corporate payment fees, an 11.9% increase in ATM processing service revenue which benefited from the expansion of our ATM business and a 27.8% increase in merchant processing services.

Volume increases at all card products are driving the majority of the increases in fee income.

Debit card transaction volume increased 19.2% over the second quarter of 2005 while credit card transaction volumes continue to show strong growth on both the consumer and corporate sides of the business.

Our consumer card transaction volumes were up 7.6% compared to the second quarter of 2005.

Our corporate card transaction volumes were up 12.7% over the second quarter of 2005.

In conclusion, we made great progress in the quarter and we were very pleased with the results.

Our high-value fee generating businesses provided exceptional results this quarter and we will continue to invest in these capital efficient payment and fiduciary businesses.

We also continue to add distribution in high growth markets through in-store expansion, select de novo branches and our previously announced agreement to purchase Vail Banks Inc.

We believe that our balanced business mix, advantaged scale, reduced risk profile, low-cost leadership position and an emphasis on customer service will allow us to achieve our long-term goal of 10% plus earnings per share growth.

Now I'd like to turn it back over to Judy for some closing remarks.

Thank you for listening to our review of second-quarter 2006 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.