U.S. Bancorp (USB) Earnings Call Transcript & Summary

Next up, if everyone can take their seats. I'm very pleased to have U.S. Bancorp from the company, Gunjan Kedia, Chief Executive Officer; and John Stern, Chief Financial Officer. Welcome back, guys.

Glad to be here.

Good, so, maybe just start with you. You're a little bit more than a year into your job as CEO at this point. Over that spend, we've definitely seen a pickup in revenue growth. I think a pickup in sentiment around the name. Maybe just talk about how the pace of improvement at USB has better than you expected, worse than you expected? And maybe what have been some of the biggest drivers of the success the market is needing to realize?

Well, thank you, Jason. Very nice to be here, and thank you for recognizing the progress in our results. It feels really rewarding to see the banks start to deliver financials that are consent with our potential. When I stepped into my role, April last year, I did inherit a very attractive franchise. Largely, the mix of businesses is, the fee heavy businesses, it's very differentiating. It's very distinctive. The products were good. We had invested a lot in digital, and the customer base was very strong, especially the Union Bank acquisition in California. There was just a very attractive customer base to work on. So the fundamentals were all in place. Our opportunity was just good, consistent execution. So first year we credit a lot of the inflection in the results to just urgency and pace. The first thing we did was to focus our efforts on 3 strategic priorities that was expense management, organic growth and payments transformation and did some meaningful shift in resource allocations to support those priorities. And a lot of organizational changes, we elevated some revenue-facing roles in the structure of the company. There's been a very meaningful refresh of the talent, almost 1/4 of the top 200 roles are new to bank or new to roles, higher aspirations, flatter corporate center processes, a more leveraged compensation plan and all of that collectively picked up more consistent financial results. And that was the first year. We are now 4 quarters operating within our medium-term financial guidance. And the first year has closed the valuation gap with our peers. But of course, a lot more upside, but a good start in the first year.

I guess on the flip side, as everything has not gone quite as well as you have planned so far. And also as you kind of look to year 2 or so under your leadership, just how are your priorities shifting? And are there areas you're more focused on to get them up to speed?

What's not gone to plan or disappointing. I would -- the biggest would be the mortgage and auto businesses. They are almost 10% of our companies, very large businesses for us, and our base case was to see some moderation in rates and pickup in that activity and the demand there is very muted. So those have probably underperformed the base case in the last year. But for the rest, what has gone exceptionally well is expense management. We have taken almost 5-plus points out of our efficiency ratio in the last 2 years and fee growth inflection. We are at double digits over the last quarters and those 2 pillars have surprised on the positive and quite a lot of runway going forward. So going forward, there continue to be very strong parts of the agenda. What gets added on in year 2 and beyond Jason, are 2 other areas. The first is NII growth. We are very focused on our consumer and small business franchise, that improves our funding mix, our deposit mix, and we've seen some good results there. It will be another quarter of record consumer deposits. And on the loan side, we have focused very much on C&I and credit card growth, so that improves the loan mix. And collectively, they create both NII growth and NIM improvement. So that's an important part of the priority this year and beyond. And then the second broadly is making sure we get full leverage out of the twin technology shocks of AI and stable coins. Those are transformative levers for the industry, and we want to be very front-footed and ahead in terms of creating enduring success. And then, I think all of the organizational health things that we started in the first year, as you know, these things take time and they build a real high-performance culture. So as I think about my second year and beyond, keep the momentum with expenses and fees, really inflect NII, just get very front-footed with AI and stable coin and just create a really high-performing bank.

You mentioned fees in that last remark is 1 of the areas I think almost 45% of revenue is the U.S. banks. So kind of certainly differentiates you from some of the other super regionals. Just as you kind of think about the fee complex, maybe which areas you're most excited about over the next year or 2? And maybe which one is a little less so?

So first, I'm most excited that it is a fee complex, and it's a very marquee complex. We categories, payments that we are known for the trust and investments, which is very good for us, capital markets and then the consumer fees, which is that you traditionally seen in most banks. These are attractive. These are differentiated and very difficult to replicate either through organic growth or through acquisitions. So we think it will be a differentiating feature for a long time. And the beauty of these, the fee complexes that they do stabilize your earnings because there's a diversification benefit to them. The underlying growth trends are faster than GDP or population growth, which is really what the banking side gets anchored around. They also create very sticky relationships. So really, that is a strategic focus for us is to keep the diversification of the complex and inch up even beyond the 44% that we see. The big 2 areas, though is capital markets and payments. Capital markets just because we are about 7%, 8% of revenue, we should be 10%, 11%. BTIG was a very strong start and we expect to grow into the balance sheet we are already deploying. So this is not more use of balance sheet that could inflect it even more. But right now, we're just trying to get fair share of the balance sheet that's being deployed. And the second is payments. That was one of my first priorities even in my President's role. And we are beginning to see the results in fleet every quarter, the growth rates are inching up. It is a long game, though. You have to wait for contracts to come to you even on the credit card side, you have to wait for your marketing offers to sort of deplete out of the upfront cost. So we are very pleased with those, and those 2 will create sort of the 3 engines going forward. other categories, too, but they tend to be more ballast like and steady.

Got it. Maybe we'll come back to maybe strategy and longer-term topics in a bit, but maybe kind of pull up for a second? And could you just talk to what you're seeing and hearing from your clients in terms of sentiment, spending trends, et cetera?

It's all favorable, and our outlook is that as we end the year. The commercial clients are particularly vibrant. Loan pipelines continue to be very strong and quite diversified. So it's not just the AI trade. And the consumer is stable. We see some moderation of spend in August relative to the FIFA bump of June, but still very healthy delinquency credit all looks good. So it's a favorable outlook for the rest of the year.

I guess, John, we have to bring you in against that backdrop. You had your slide deck, your slide in July with the outlook for 3Q and the full year. Anything you want to call out or update us on?

Yes. Jason, it's going to be another strong quarter for us. We talked about net interest income being in that 4% to 6%. We anticipate being on the high end of that range on a year-over-year basis. Fee revenues, we mentioned to be 12% to 14%. We again expect to be on the high end of the range and maybe even above that, depending on some of the capital markets transactions that may or may not occur, but not in the third quarter, will happen certainly in the fourth. So we feel really good about the momentum there on the revenue side. Expenses are going to come in as expected. We have 8% was what we had anticipated. So we feel like that's a good place for that to be, and charge-offs are very stable. And as Gunjan mentioned, there's a lot of momentum on the client side. So overall, we feel very good about where we're at. And we feel looking at it from a full-year perspective, our outlook was 7% to 9%. We -- as the third quarter is coming into shape that just gives us confidence that we'll be on the higher end of the range. So it's just looking to be a very strong year for us.

Great. Maybe we can kind of maybe double click into some of those components, starting with NII. But one of the things we're hearing about is just a competitive environment. Maybe just talk to how it's evolving for loans of the deposit this quarter and anything you just call out in terms of demand and pricing?

Yes. I mean, loans, just looking at that, the market has always as competitive, but I spreads and everything like that have been pretty stable over the last several quarters. And I haven't -- really haven't really seen anything that's unique or different there. Demand is still very strong. So we see just a lot of -- a lot of growth in that particular area. Gunjan mentioned some of the areas that we're paying more attention to from a growth standpoint. The deposit side, I'd say it is -- there is a lot of competition there. We're seeing more of our peers do specials, whether it's CD specials at higher rates or they're asking for funder or they're providing $750 to $500 for our new operating account on the consumer side. That money goes through marketing expense generally, but it's still all the same from a competition standpoint, right? And so we we compete against that. The good news for us is we're competing very well on that space. Gunjan mentioned, record consumer deposits. We feel like we're going to get that again. We've gotten some of the seasonality back on our commercial side. So we're going to have a very strong growth amount in the deposit side this quarter. Actually probably will outpace our loan side of the loan growth this quarter, which is a little bit of a reversal of the second quarter. So all in all, we feel that the markets are -- we're right there in line with where we need to be.

Got it. And maybe one thing that some people talk to when you kind of see in the H8 data, just a slowing of C&I growth so far this quarter. Maybe kind of just elaborate what you're seeing there?

Loan growth is -- I'd say the demand is still very strong. I mean, there's a lot of companies that are looking for CapEx. They're looking for additional capital and things like that. I think what we have seen is still very strong growth, but there is some timing. I think there is some time for things to get booked. I also think we are being a little bit more -- we're looking at our levels of -- in terms of return hurdles and things like that, and we're being a little bit more prescriptive on that. The first half, we saw some tremendous growth on the loan side of the equation. I'd say now we're being a little bit more strict about return hurdles and less fewer exceptions, things of that variety. So -- but still beyond that -- I mean, demand is still quite strong.

Yes. I guess all that said on the July call, you mentioned that you expect it to be a little bit better than mid-single-digit growth for loans for the full year? And is that still the case?

Yes, that is the case. Yes, we -- I expect 6% to 7% loan growth this year on a full year basis, yes.

Got it. SP1 And then maybe a little bit more on deposits. Gunjan, you mentioned before, record consumer deposits, I think, for this quarter. That's certainly, I think, outpacing the industry there. Maybe talk to kind of what have been the primary drivers of the success? And just how do you think about sustaining that growth over time.

Well, we are very intensely focused on strengthening the consumer and small business franchise, not only does it anchor high-quality deposits, it also provides the base that then we deepen quite -- in a quite disciplined manner with credit cards and then wealth. So our fee complexes really benefit from a vibrant consumer and small business franchise. So we have 3 very integrated strategies that we have deployed and are maturing. The first is just the products need to be attractive and differentiated so that you don't just pay up for deposits. We have done just some really good work interconnecting our banking and payments product. This is the smartly suite. It is now 84 billion. So it's like a mini bank in itself and has just been a very attractive value proposition to the customers. Our branch and digital marketing people tell us it's easy to convey the value proposition and get people excited about something different. So we'll continue to lean in on creative value propositions that play to our strengths in terms of breadth. The second is deposit pricing, Jason. We have invested a fair amount in making it highly granular, highly surgical, and it allows us to optimize growth and cost of funds in a way that we were not doing a few years back. And so the micro pricing disciplines have been helpful to us here. And now we are just scaling up the branch side. You might recall that over the last 5-ish years, we've been at about $200 million a year in investment into the branch. And a big portion of that has gone into reformatting service branches and Tier 3 locations into these broad multiproduct hubs. That work is largely concluding at this point. And what we're looking at is the $300 million like investment per year and going far more into new branch formats, our earlier focus is on densifying into -- within our footprint, those areas that have much higher household formation growth rates. And all of that, along with good branch execution and elevation and refreshing of the incentive structure, the tools that we are supporting them with some AI-enabled tools and all of that is just coming together to create a sustainable, better-performing consumer and small business franchise. A lot of that movement coming into the small business side too, but the consumer is a few years ahead there.

Right. And I guess you put out a press release out a couple of weeks ago talking about Florida, Georgia, Texas, new markets that, I guess, we ritually didn't think of you, maybe in a branch standpoint. Just why now? And just will you need branches over time to kind of serve that segment?

Yes. So maybe I'll step back and just explain the context of the press release, we -- we got a lot of interest in our business banking expansion markets press release. So the -- the 3/4 of our businesses. So this is all our institutional businesses, our payments businesses, our belt businesses do operate fully nationally and have been for some time. Approximately 5 years back, we started to be intentional about creating client centers that co-locate our wealth, our commercial real estate, our commercial and our mortgage teams. And these client centers sometimes have branch licenses, but they are cashless branches. They're mostly sort of nonbranches and like office spaces. We have found that the upper end of the small business can also serve clients in that model. So this recent expansion is to co-locate the higher end of the small businesses with these client centers. These are in all the Vanguard markets that is seeing a lot of population and business growth. The smaller end of the small business, which is also very attractive from a deposit side does need branch presence. So it is our expectation that in due course, our retail network will follow these expansion markets or a key some of them. Although right now, our retail focus, as I said, is really on densifying markets. So it's a very long-range strategy that sees ourselves inching out of our traditional places. We are just choosing to do it with Vanguard businesses. For example, Atlanta, we have -- it is a hub for our payments business. That's where Elavon and merchant is. And Dallas, we have a very large technology presence in Dallas and Houston. And Houston is very big for our corporate trust business. So we're also leveraging some of our national presence. It gives you connectivity. It gives you a reason to extend the brand presence. And we be investing a lot in national brands with the NFL with the sense that these are all ingredients you need on top of just a pure branch expansion to truly to sort of create a better national presence.

You can probably guess the next question would a bank acquisition help accelerate that process?

I get asked that question a lot, and I do feel like I have to say I don't have anything ideological philosophical against a bank acquisition. Our organic opportunities are very high. So when we look at any of our inorganic or organic options, we are saying, what's the bar for strategic fit, for execution risk, for financial and cultural fit. And right now, our organic opportunities are very clear and present and that's been our focus.

Fair. I guess, John, maybe back to you, there's this ongoing debate with investors seeing the trade between NII dollar growth and NIM. Banks that can grow both seems to be ideal. There's not all of them to do that, but you've talked before and about a path to like a 3% NIM at some point next year, which I think is up like 20 basis points from where we are. At the same time, a couple of banks have kind of talked about some pressure there. So just how do you think about that 3% number? And can you get there? Or will you get there? And just any updated thoughts around that?

Yes. Your first comment there, the debate, which is an interesting way to put it. I mean we have that conversation quite a bit internally. Just is it in net interest income? Is it net interest margin? And I think the answer is yes. You have to look at both. I mean I would lean towards net interest income because at the end of the day, that's going to drive EPS and all that sort of thing. But you can't do that and just completely ignore the metric of net interest margin. I think there's a feel of efficiency there. There is a balance sheet stewardship mindset that you have that goes along with net interest margin. Fortunately, for us, we're -- we expect to grow both interest income and net interest margin here in the third and the fourth quarter. We think that's powered very much by the asset mix. Vince has talked about that a little bit. Fixed ancillary pricing is favorable. So yes, we do see and continue to see a path on 3% net interest margin. And you asked, does it get in any harder. I guess, 18 months ago, I didn't -- we didn't know if the Fed was going to be in a hike cycle, and that's new and different. And so not that the hikes themselves are consequential to net interest income for us, but it's the curve after that, right? What does the curve look like? So that's something that we'll focus on very much in 2027 as we kind of think about our budgeting and all that sort of thing. But we definitely see a path. And -- but at the end of the day, I do lean noninterest income. That's where our clients -- where our clients seem to be is going to be about most importance. We're not going to manage to a metric just for the sake of managing to it, but it's really all about the client growth and where is that coming from?

Got it. And then on fee income, you guided to the upper end of 12% to 14% for the quarter. I think in the year, you're talking about low teens growth if there's an update there. maybe just kind of drill down and just give us some flavor in terms of what's performing better than expected this quarter on an expected.