U.S. Bancorp

Welcome to U.S. Bancorp's first quarter 2021 earnings conference call. Following a review of the results by Andy Cesare, Chairman, President, and Chief Executive Officer, and Terry Dolan, Vice Chair and Chief Financial Officer, there will be a formal question and answer session. If you'd like to ask a question, please press star 1 on your touchtone phone and press the pound key to withdraw. This call will be recorded and available for replay beginning today at approximately 1 o'clock p.m. Central Time through Thursday, April 22, 2021, at 1059 p.m. Central Time. I will now turn the conference call over to Jen Thompson, Director of Investor Relations and Economic Analysis for U.S. Bancorp.

Thank you, Cara, and good morning, everyone. With me today are Andy Cesaria, our Chairman, President, and CEO. and Terry Dolan, our Chief Financial Officer. Also joining us on the call are our Chief Risk Officer, Jody Richard, and our Chief Credit Officer, Mark Runkle. During their prepared remarks, Andy and Terry will be referencing a slide presentation. A copy of the slide presentation, as well as our earnings release and supplemental analyst schedules, are available on our website at usbank.com. I would like to remind you that any forward-looking statement made during today's call are subject to risk and uncertainty. Factors that could materially change our current forward-looking assumptions are described on page two of today's presentation, in our press release, and in our Form 10-K and subsequent reports on file with the SEC. I'll now turn the call over to Andy.

Thanks, Jen. Good morning, everyone, and thanks for joining our call today. Following our prepared remarks, Terry, Jody, Mark, and I will take any questions you have. I'll begin on slide three. In the first quarter, we reported earnings per share of $1.45. Credit quality trends were better than expected, and the economic outlook has improved meaningfully over the past several months, given the pace of the vaccine rollout and the ongoing impact of significant government stimulus. Based on these factors, we released a little over $1 billion in loan loss reserves this quarter. Revenue totaled $5.5 billion in the first quarter. As expected, net interest income decreased compared with the fourth quarter. However, we expect loans to grow as the year progresses, and given that securities reinvestment rates are now accretive to asset yields and our belief that premium amortization expense is likely peaked, we expect that the first quarter will be a low point for net interest income. Improved economic activity is driving better consumer and business spending trends. which in turn is translating into improving payments volume. In each of our payments businesses, volumes, excluding COVID-impacted travel, hospitality, and entertainment sectors, exceeded first quarter 2019 pre-pandemic levels. Our expenses were relatively stable compared with the fourth quarter. In the lower right quadrant, you can see that our capital and liquidity positions remained strong, and during the quarter we returned $1.3 billion to shareholders in the forms of dividends and share buybacks. Slide four provides key performance metrics. This quarter, our returns benefited from improved credit performance and reserve release. Longer term, we believe we will continue to deliver industry-leading returns on tangible common equity driven by strong PPNR performance consistent through the cycle credit performance and prudent capital management. Slide five shows the pace of migration to the digital channel. Digital uptake is correlated with higher customer satisfaction, ease of use, and lower cost of service, which we measure very closely. Digital transactions now account for nearly 80% of all transactions. In a lower right-hand chart, you can see that more than 60% of loan sales now occur digitally, which compares to less than 40% a year ago. Now let me turn the call over to Terry, who will provide more detail on the quarter. Thanks, Andy. If you turn to slide six, I'll start with a balance sheet review followed by a discussion of first quarter earnings trends. Average loans declined 2.8% compared with the fourth quarter as the low interest rate environment continued to impact borrower behavior. Elevated corporate pay down activity late in the fourth quarter negatively impacted average commercial loan growth in the first quarter. Recently, we have seen improving pipelines and we expect inventory building and M&A activity to pick up as we move further into 2021. Similarly, lower interest rates impacted consumer loans as increased refinancing activity impacted real estate loan balances. Credit card revolve rates continued to decline this quarter, causing balances to contract as consumers used excess liquidity from government stimulus programs to pay down debt. TURNING TO SLIDE SEVEN, AVERAGE DEPOSITS INCREASED 0.9% COMPARED WITH THE FOURTH QUARTER, REFLECTING THE LEVEL OF LIQUIDITY IN THE FINANCIAL SYSTEM. AS A REMINDER, OUR DEPOSITS ARE TYPICALLY SEASONALLY LOWER IN THE FIRST QUARTER OF THE YEAR. OUR OVERALL DEPOSIT MIX CONTINUES TO BE FAVORABLE. IN THE FIRST QUARTER, OUR NON-INTEREST-BEARING DEPOSITS GREW 2.8%, WHILE TIME DEPOSITS DECLINED 17.7%. Slide 8 shows our credit quality trends, which continue to be better than our expectations, reflecting improving economic conditions supported by additional stimulus and increased vaccine availability. Our net charge-off ratio totaled 0.31% in the first quarter compared with 0.58% in the fourth quarter. The improvement reflects lower total commercial, credit card, and other retail net charge-offs. The ratio of non-performing assets to loans and other real estate was 0.41% at the end of the first quarter compared with 0.44% at the end of the fourth quarter. We released reserves this quarter reflective of better than expected credit trends and an improving economic outlook versus our previous expectations. In the first quarter, our loan loss provision was negative $827 million or $1.1 billion less than net charge-offs of $223 million. Our allowance for credit losses as of March 31st totaled $7.0 billion or 2.36% of loans. The allowance level reflected our best estimate of the impact of improving economic growth, lower unemployment, and changing credit quality within the portfolios driven in part by the benefits of continued government stimulus programs. Slide 9 highlights our key underwriting metrics and loan loss allowance breakdown by loan category. Turning to slide 10, exposures to certain at-risk segments, given the current environment, are stable compared with the fourth quarter. The left table shows that customer balances included in payment relief programs continue to decline meaningfully in the first quarter to less than 1% of total loans. Slide 11 provides an earnings summary. In the first quarter of 2021, we earned $1.45 per diluted share. These results include a reserve release of $1.1 billion. Turning to slide 12, net interest income on a fully taxable equivalent basis of $3.1 billion declined 3.5% compared with the fourth quarter due to fewer days in the quarter lower average loan balances, and a seven basis point decline in net interest margin. The decrease in the net interest margin was primarily driven by higher premium amortization expense, lower portfolio reinvestment rates, and mortgage loan prepayments. As mentioned earlier, we expect loans to grow as the year progresses. Also, given that securities reinvestment rates are now accretive to asset yields and our belief that premium amortization has likely peaked, We expect the first quarter will be the low point for net interest income. Slide 13 highlights trends in non-interest income, which as a reminder, is typically seasonally lower in the first quarter of each year. Non-interest income declined 5.7% from a year ago, primarily driven by lower mortgage revenue. On a year-over-year basis, strong refinancing activity drove higher production volumes and related production revenue. However, in the first quarter we recorded a reduction of $120 million to the fair value of our mortgage servicing rights net of hedges, which compares with a favorable increase in the valuation net of hedges of $25 million a year ago. With prepayments speeds declining, we would expect future changes in the MSR fair value adjustment to be more moderate. Business activity and strong underlying market conditions drove growth in trust and investment management fees, treasury management revenue, and commercial product revenue, although deposit service charges were negatively impacted by lower consumer spend and increased consumer liquidity from government stimulus. Slide 14 provides information on our payment services business, including a breakdown of segment volume for the first quarter of 2021. compared with more normalized 2019 levels. Slide 15 indicates that sales volumes across our payments businesses have continued to rebound since bottoming in April of 2020. In the first quarter, total payments fee revenue was essentially flat compared with the first quarter of 2020. Credit and debit card revenue increased 10.5% on a year-over-year basis, driven by higher interchange revenue and higher prepaid card fees as a result of government stimulus programs. Merchant services revenue decreased 5.6% compared with a year ago, which was better than what we had expected coming into the quarter. Improving sales growth in North America was more than offset by expected declines in European sales due to COVID-related shutdowns. corporate payments revenue declined 13.1% year-over-year as travel and entertainment revenue continued to lag. Turning to slide 16, non-interest expenses were relatively stable on a linked quarter basis as expected. Year-over-year growth of 1.9% was driven by increased mortgage and capital markets production incentive costs and expenses related to business investments in digital and technology. which was partly offset by a decline in costs related to COVID-19 and a future delivery liability incurred in the first quarter of 2020. Slide 16 highlights our capital position. Our common equity Tier 1 capital ratio at March 31st was 9.9% compared with our target CET1 ratio of 8.5%. Given improving economic conditions in the first quarter, We bought back $650 million of common stock as part of our previously announced $3.0 billion repurchase program. I'll now provide some forward-looking guidance. For the second quarter of 2021, we expect fully taxable equivalent net interest income to increase in the low single digits compared with the first quarter, and we look for modest loan growth. We expect payments fee revenue to continue to improve sequentially, as economic activity continues to accelerate. Starting in the second quarter, growth rates will be meaningfully impacted by favorable year-over-year comps given the 2020 COVID environment. We expect non-interest expenses to be relatively stable compared with the first quarter. The outlook for credit quality has improved in the past two quarters along with the improving economic environment. However, we think that the net charge-off ratio is likely to remain low as the first quarter level of zero 0.31%. As we move further into the year, we expect the net charge off ratio to normalize toward pre-pandemic levels. We will continue to assess the adequacy of the allowance for credit losses as conditions change. For the full year 2021, we currently expect our taxable equivalent tax rate to be approximately 21%. I'll hand it back to Andy for closing remarks. Thanks, Jerry. One year ago, we were at the beginning stages of a pandemic driven economic downturn, which had no precedent. We were confident in the strength of our balance sheet and our ability to support our customers, employees, and communities through a difficult time. But we, along with the entire industry, faced an uncertain outlook. A lot has changed in a year. Our first quarter results were reflective of the lingering impact of an economic economy that continues to heal, but has not fully recovered the pre-pandemic activity levels. However, we are optimistic about the trajectory from here. We believe we are well positioned to benefit from what many expect to be the strongest economic growth this country has seen in decades as we capture the potential of increased consumer and business spending across all of our business lines, most directly related to our three payments businesses. Importantly, we expect our multi-year investments in digital and payments to continue to pay off well beyond any cyclical benefit that we see in the upcoming quarters. These investments, aimed at enhancing the customer experience and leveraging the power of our payments ecosystem, will position us at the forefront in banking and drive market share gains for many years to come. Ultimately, our goal is to deliver industry-leading returns through the cycle. And if such, we invest to drive top-line revenue growth while prudently managing expenses, credit quality, and capital with the best interests of our long-term shareholders in mind. In closing, I'd like to thank our employees for all their hard work. and their commitment to serving our customers with the expertise and integrity they have come to expect from us. We'll now open up the call to Q&A.