Q3 2021 U.S. Bancorp Earnings Call

October 14, 2021

[music].

Welcome to U S Bancorp's third quarter 2021 earnings conference call.

Following a review of the results by Andy to Siri, 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 one on your Touchtone phone and press the pound key to us.

Draw this call will be recorded and available for replay beginning today at approximately 10, a M central time through Thursday October 20, <unk> 'twenty 'twenty. One at 10.59 P. M. Central time, I will now turn the conference call over to Jen Thompson director of Investor Relations and economic.

Alex's for U S Bancorp.

Thank you Erica and good morning, everyone with me today are Andy Siri are chairman, President and CEO and Terry Dolan, our Chief Financial Officer.

During their prepared remarks, Andy and Terry will be referencing a slide presentation a.

A copy of the slide presentation as well as our earnings release and supplemental analyst schedules are available on our website.

S Bank Dot com.

I'd like to remind you that any forward looking statements made during today's call are subject to risks 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, Jan Good morning, everyone and thank you for joining our call. Following our prepared remarks, Terry and I will take any questions.

<unk> you have.

I'll begin on slide three in the third quarter, we reported earnings per share of $31.0, and generated total revenue of $14.0 billion.

Our linked quarter pre tax pre provision net revenue growth of two 7% was driven by continued momentum across our fee businesses growth in average loan balances and continued focus on expense management, resulting in positive operating leverage.

We released $310 million of loan loss reserves this quarter supported by our outlook on the economy and better than expected credit quality metrics turning to capital our book value per share totaled $54.0 shots at September 30, which was one 5% higher than June 30, our CET one ratio.

Was 10, 2% at September 30th.

Slide four provides key third quarter performance metrics, including a return on tangible common equity of over 20%.

Slide five highlights strong trends in digital engagement.

On slide six we are providing initial information about our business banking and payment relationships, which we plan to update every quarter.

Our complete payments ecosystem as a competitive advantage for us and provides a number of cyclical.

And secular growth opportunities over the next few years, we believe there is significant potential to expand and deepen relationships within this ecosystem.

Our starting point is that we have about $2.0 million business banking relationships, which we define its businesses with under $25 million in revenue currently about half of our payments customers of this size of a business banking product and just under one third of our business banking customers have a payments product.

The opportunity is to both increase the number of business banking relationships and to deepen these relationships by connecting our banking customers with our payments products and services and connecting our payments customers with their banking products and services as.

As we discussed previously we believe we can grow our small business relationships by 15% to 20% and related revenue by 25% to 30% over the next few years.

Now, let me turn the call over to Terry who will provide more detail on the quarter.

Thanks, Andy.

Turn to slide seven I will start with a balance sheet review followed by a discussion of third quarter earnings trends.

Average loans increased <unk>, 8% compared with the second quarter driven by growth in other retail loans, primarily installment loans as well as growth in credit card and residential mortgages.

This growth was partially offset by lower commercial loan balances, which was impacted by lower levels of PPP loans.

At September 30th PPP loan balances totaled $6.0 billion compared to $13.0 billion at June 30.

Excluding PPP loans.

Third quarter average loans grew by one 8% on a linked quarter basis.

Turning to slide eight average deposits increased <unk>, 5% compared with the second quarter, and six 4% compared with a year ago on both a linked quarter and year over year basis, we continued to benefit from favorable mix shift as average non interest bearing deposits increased while higher costs.

Deposits declined.

Slide nine shows credit quality trends nonperforming assets declined on both a linked quarter and year over year basis, and our net charge off ratio hit a record low of 20 basis points.

Our reserve release was $310 million this quarter, primarily reflecting strong credit quality metrics are.

Our allowance for credit losses as of September 30 totaled $9.0 billion or two 1% of loans.

The allowance level reflected our best estimate of the economic outlook and trajectory of credit quality within the portfolios.

Slide 10 provides an earnings summary in the third quarter of 2021, we earned $31.0 per diluted share. These results include a reserve release of $310 million.

Turning to slide 11, net interest income on a fully taxable equivalent basis.

$5.0 billion increased by 1.0% compared with the second quarter. The growth was primarily driven by higher loan fees associated with the paycheck protection program.

Excluding PPP related fees net interest income would have been stable reflecting lower.

Loan yields and the impact of changing loan mix offset by the beneficial impact of core loan growth lower premium amortization and an additional day in the quarter.

Our net interest margin was stable compared with the second quarter.

Slide 12 highlights trends in noninterest income compared with a year ago noninterest income declined to 0.7% as decreases in mortgage revenue and commercial products revenue more than offset strong growth in payments revenue Trust and investment management fees deposit service charges and Treasury management.

<unk> fees.

On a linked quarter basis, noninterest income increased two 8%, reflecting higher than expected payments revenue and a 20% increase in mortgage revenue driven by growth in production volume and related gain on sale margins as well as higher loan sales.

Slide 13 provides information on our payment services business, our payments business continues to benefit from improving economic conditions and spend activity.

In the third quarter sales volumes for both our credit card and merchant processing businesses exceeded the pandemic compared period in 2019, while Cps volume was about in line.

As expected prepaid card volume declined in the third quarter as the impact of government related stimulus continues to diminish the reduced pre paid volume resulted in a slight decline in credit and debit card revenue on a linked quarter basis.

<unk> corporate payment revenues increased by 13.

Percent, which was better than expected driven by improving business spend activity.

Merchant processing revenue increased by four 8% due to higher merchant and equipment fees as well as higher sales volumes.

Turning to slide 14, noninterest expense increased one 2% compared to the second quarter. This increase primarily reflected higher revenue related compensation and performance based incentives.

Slide 15 highlights our capital position, our common equity tier one capital ratio at September 30 was 10, 2%, which increased slightly compared to June 30.

At the beginning of the third quarter, we suspended our share buyback program due to our recent announcement that we have agreed to acquire <unk> Union Bank.

We expect that our share repurchase program will be deferred until the second quarter.

2022 after the closing of the acquisition, we expect to operate at a CET one capital ratio between our target ratio and 9.0%.

I will now provide some forward looking guidance as PPP winds down and we approach the end of the forgiveness period, we expect PPP fees to decline $60 million to $70 million in the fourth quarter compared with the third quarter, excluding the impact of PPP fees, we expect fully taxable equivalent net interest.

Net income to be relatively stable on a linked quarter basis, we expect PPP to be immaterial to both net interest income and the net interest margin in 2022.

In the fourth quarter, we expect total payments revenue trends to continue to strengthen driven by improving sales volumes. However, the fourth quarter is typically seasonally lower than the third quarter, which affects linked quarter comparisons in.

In the fourth quarter, we expect to see a seasonal increase in amortization of tax advantage investments of approximately $60 million as well as some seasonal impacts in marketing and business investments.

Credit quality remains strong.

Over the next few quarters, we expect the net charge off ratio to remain lower than normal for the full year of 'twenty.

2021, we expect our taxable equivalent tax rate to be approximately 22%.

I'll hand, it back to Andy for closing remarks, Thanks, Terry to summarize our third quarter results were positive on several fronts highlighted by a solid growth in core loans, good fee revenue momentum and strong credit quality.

We're finishing off the year in a strong position heading into 2022, and we're excited about the many organic growth opportunities we see across the franchise supported by our continued investment in people digital technology and data analytics.

Our three payments businesses will continue to benefit from the improved spend activity, particularly as consumer and business travel recovers towards pre pandemic levels. More importantly, we believe our secular growth initiatives aimed at connecting payments with banking provide a meaningful potential for market share gains over the immediate and longer term.

Our business banking initiatives are still in the early innings, but we're gaining traction and our partnership with state farm continues to evolve and grow we are encouraged by the results we're seeing.

Aside from our organic growth opportunities, our recently announced acquisition of Union Bank provides a platform to achieve cost synergies expand our distribution network and demographically attractive west coast markets and leverage our broad product set and leading digital capabilities across our loyal but underpenetrated customer base all of.

This will enable us to accelerate revenue and earnings growth and continue to deliver the industry leading returns on equity that our shareholders have come to expect in closing I'd like to thank our employees for all they have done throughout the year, we will now open up the call for Q&A.

At this time, if you'd like to ask a question. Please press star one on your telephone keypad again that SAR wanted to ask a question.

Your first question comes from the line of Gerard Cassidy from RBC.

Good morning, Andy Good morning, Terry good.

Good morning, Gerard Gerard.

Andy Slide six it was very interesting and as you pointed out it's a new slide.

Two questions on this slide you talked about the growth that you are anticipating in that business banking area to get customers that their business banking only it can be both banking and payments what percent can you get it to them.

The percent that you have on the other circle with the payments area can you get it to that area and how long would it take you to get there and second if you put in the Union bank customers, how large will that $2.0 million grow too.

So Gerard <unk> Union Bank has about 190000 comparable customers so that would be added to the $2.0 million.

And I do believe we can get to your first question that left hand side to the $100.0 at least again the way we are thinking about this product set is really a combination of dashboard. If you will it helps these customers manage their business.

Payables receivables travel activity payroll and so forth in one comprehensive viewpoint and I think that will allow us to both deepen the relationships as well as expand so I do believe we can give that $100.0 as well.

Very good and then as a follow up you guys are.

Well regarded on your credit through the full cycle and you pointed out Terry I think that 20 basis points is a record low and net charge offs.

What do you anticipate when will things kind of normalize and I hate that word because of this.

First thing is normal credit charge offs, but it seems like how sustainable are these record low levels do you think as we look out over the next 12 to 24 months.

Yes, that's a great question and I get your point about it really would be difficult to predict is right on where we end up looking at and kind of looking at forecast et cetera. Now we do expect it's probably going to stay at these lower levels for a few quarters and then it's going to start to normalize.

He doesn't get back there until what we would kind of define as normal which is kind of that 45 to 50 basis points overall.

Until at least the end of 2022 and probably sometime in 2020 III.

But it is very hard to predict.

Yes, no I agree thank you gentlemen.

Thank you.

Your next question comes from the line of Betsy <unk> with Morgan Stanley.

Good morning, Betsy Hi, good morning, Hi, good morning.

He had a couple of questions. One was on just loan growth in general and I wanted to understand where you see some signs of life that might be accelerating as we move into an area.

<unk> and into next year I ask because I saw a nice uptick in the consumer side.

Our commercial seem to be a little bit weaker and wondering if what you're seeing there. Thanks.

Yeah. So when we ended up looking first of all maybe to the fourth quarter, we would expect probably modest growth going into the fourth quarter on a linked quarter basis.

And if you just kind of look at the puts and takes and I think that this will play out over time as well, but the puts and takes at least.

Near term is that we would continue to expect to see reasonably good growth in our auto lending business, which has been very strong of late and we would also expect that our credit card balances would start to strengthen and a big part of that is both consumer spend but we've also been investing.

In terms of account growth.

And various sort of promotional activities. So that will help to drive it and then as consumer spend or excuse me as government stimulus kind of starts to dissipate, which has I think been slowly doing.

We do expect that the payment rate will start to come down.

Really kind of at a historic high right now and as that comes down credit card balances should strengthen.

Certainly on the consumer side, we expect growth in the near term.

The C&I as you said is a little more challenging and the principal challenge. There is that we continue to see a fair amount of pay offs and then PPP forgiveness is also dampening the C&I growth in that particular space, where we are seeing.

Nice areas of opportunity.

In C&I is in ASP.

Asset backed securitization type of lending mortgage.

Warehouse lines.

Some supply chain finance activities. Those are all areas that have been of particular strength. When we end up looking at kind of middle market space.

We're seeing lots of confidence in terms of customers and relatively strong pipelines and so we do expect that that is an area of opportunity once we get beyond the drag of PPP. So hopefully that kind of gives you. Some perspective in terms of some of the puts and takes.

And the PPP in the fourth quarter I think you indicated it would be down obviously Q on Q.

But is it is it sizable in the fourth quarter.

Yes, it ends up coming down.

<unk>, we talked a little bit about the decline this quarter I think it is going to come down probably half of that again in the fourth quarter and then and then it's hard to tell in terms of what does it stabilize at that level or does it come down a little bit further, but our expectation at least right now Betsy is that by the end of the fourth quarter.

The vast majority of PPP has been forgiven and the impact to for example balances and net interest income and margin will be.

Really immaterial when we think about 2022.

And in the fourth quarter and the PPP contribution to NII in the fourth quarter how.

How would you size that.

I think it's modest Betsy.

P quarter, certainly was the third quarter it becomes very modest in the fourth quarter.

Okay.

Alright, and then just lastly, as you think about the.

The forward look here on integrating Mfg, USA bank Hal into your operation how should we be thinking about.

The.

The trajectory of the efficiencies here, because when you announced that deal and we had that conference call. We obviously.

A lot about the cost saves that youre anticipating getting from the <unk>.

The USA side, but I'm wondering is there a tech angle as well.

On Europe legacy platform that will also be enhanced.

Does one plus one equal to that for example.

So I think just to remind you of the timeframe we did actually.

Put submit our application for the transaction on October six so that is in our expectation is a close sometime late first quarter early second quarter with a conversion integration.

In the third into the fourth quarter of 2022, as we talked about on that call. We would expect about 75% of the savings the efficiencies to occur in that first year of 2023 and as we also talked about that's the real benefit here is we have the platform and it's a lift and shift from what they do to our platform.

Which allows for the majority of that cost savings in the second enhancement on that as our platform has more capabilities and will in my view.

More opportunities a better customer experience and more products and services. So there's also a revenue component as well so in that mine in <unk>, yes. It is more than just one plus one.

Thanks.

Sure.

Your next question comes from the line of John <unk>.

Ari with Evercore ISI.

Good morning, John John Good morning.

Wanted to see if you can elaborate a little bit more on the trends youre seeing in your payments business. I know you had mentioned the increased spend activity you wanted to see if you can give us a little bit more color on how that breaks out and then separately maybe if you can elaborate a little bit on what your 2022 expectation is at this time based upon the trends you are beginning to see in the payment side.

Yes, so maybe let me take the first part and then Andy can kind of pipe in with respect to what we're seeing as we go into 2022, so maybe as a comparator.

First of all you know arm.

As we said you know the merchant and the and the <unk>.

Card business is now above 2019 levels.

In the third quarter.

Sales were about almost 5% higher than 2019 in terms of merchant processing and if you end up looking at credit debit card <unk>.

Plus percent above where it was in 2019. So those those have made really nice recoveries I'd also kind of keep in mind is that when you end up looking at merchant as an example airline travel entertainment is still down.

Down quite a bit and probably I would say flattened a bit in the third quarter simply because of the delta variant, but as we kind of think about going forward and as you know the delta variant kind of subsides a bit we would expect that to start to accelerate again.

End up looking at the card business as I said credit card debit card business the sales volumes have been.

Quite strong relative to 2019, and thats driven by consumer spend.

The one thing that we will end up impacting card revenue is the fact that prepaid continues to come down as government stimulus dissipates, but by at the end of the year going into 2022 again.

The.

The quarter over quarter impact will be relatively immaterial and then the last thing I would just kind of talk about it on the corporate payments side of the equation.

It's pretty much at 2019 levels.

But the travel and entertainment.

The <unk> spend is still about 50% to 55% below 2019, and we would expect that to continue to kind of normalize. So we think that there is opportunity still there for that to continue to strengthen we have seen what I would say other commercial spend strengthening.

Quarter over quarter, and we would expect that to continue as well.

I think thats exactly rytary and just to summarize what Terry said.

Ex travel and airlines and entertainment activity spend is up versus pre pandemic levels in that 20% range or so and I would expect that to continue to increase into 2022, I think the real opportunity is and how travel category, which as Terry mentioned do you think about merchant or card whatever category you look at it is.

Down in that 35, 40% range as that recovers, that's where a lot of opportunity exists as well as what Terry mentioned in the corporate travel entertainment, which is down closer to 50%.

Okay, great. Thank you and then I know you mentioned on the expense side, some marketing and business investments at least for the fourth quarter.

Is there anything there that is going to carry through into 2022, as you're putting money into the business I know you're you recently launched the buy now pay later product. So just curious if there's ongoing marketing our business investments that we should consider as we dial in our expense expectations for 2022.

Yeah, I think as we kind of think about 2022 the level of investment probably doesn't go up significantly from here.

Okay got it alright, thank you.

Thank you.

Your next question comes from the line of Ebrahim <unk> with Bank of America.

Good morning, Hey, Brian Abraham good morning.

Good morning, just wanted to one follow up with you on.

You commented on loan growth.

Specifically, if you can address two things one just.

The outlook for CRE lending as you think about next year given potential disruption from just changing.

From home et cetera, how youre approaching CRE lending and on the consumer side do you expect.

Do we need to see a big drawdown in the U S savings need before you actually see consumer lending pick up substantially.

As you pointed out the Goldman.

Feeding ore we had enough.

Next to that growth.

Yes, so maybe to the first question with respect to CRE, we actually saw some growth on a linked quarter basis in CRE this quarter.

The the project level of pipeline things like that are reasonably strong.

As we kind of think about the next couple of quarters, though I think what we're seeing in the marketplace is pretty strong competition and so we'll have to kind of watch and see what happens with respect to paydowns.

Regarding.

It kind of returned to office and some of those impacts when we end up looking at it maybe in terms of.

The areas to watch.

I think that as return to office occurs.

We are starting to see collateral valuations improving.

And we're starting to see some of those trends improving as well and I think that that generally would be a positive thing in terms of CRE investment by by underlying.

Developers and finance hears.

But I think that for right now.

We're just kind of watching what sort of paydown levels occur because of competition.

And then on the consumer side of the equation.

I mean, we're actually see 99, we do expect that credit card balances from here start to grow and possibly accelerate as we get into 2022.

When you think about customers that are kind of revolving type of customers.

I believe that with government stimulus starting to dissipate that they are going to be looking to.

Credit products in terms of being able to.

To support their consumer spend.

And we've continued to see relatively strong growth in auto lending and I would anticipate that that will continue.

Dependent upon supply chain impacts associated with chips and things like that but overall, we're fairly bullish on consumer lending.

That's helpful color, Thank you and just.

Separate note in terms of when you look at.

Stickiness of the deposit growth that you've seen over the last 18 months. If you could just talk to your outlook in terms of a dish.

Deposit balances to continue to grow and.

Do you at any point as you look forward into next year or two expect deposit growth to actually turn negative in any meaningful way.

Our deposit growth.

Has been reasonably strong.

But particularly if you kind of Peel back the onion, it's been particularly strong in the consumer and business banking areas with year over year growth of about 16% linked quarter growth at about one 1% in the third quarter.

So I I.

I would fully expect that a lot of that will stick.

Dependent upon obviously the excess savings rate that we talked about we're also seeing growth in the wealth management businesses, and we would expect that a fair amount of that would stick as well.

So as we kind of think about deposits.

Think we have been growing what I would call kind of the core balances quite a bit.

As liquidity does come out of the system, though I would expect that we would see some runoff or.

They're investors start to utilize those deposits to invest in like CDO CLO sort of structure. So within our wealth management investment services business, we would expect to see some runoff.

Thanks for taking my questions.

Thank you.

Your next question comes from the line of Scott <unk>.

With Piper Sandler.

Good morning, guys. Thanks for taking the question Scott.

Okay.

Was hoping you might be able to address the durable durability of mortgage revenues at the current level I thought it was a pretty pretty solid quarter.

Better than I had anticipated and just hoping you can address some of the puts and takes.

Arjun origination levels.

And just overall durability of this quarter's level.

Yeah great.

Great question.

Obviously in the third quarter, we saw a little bit of an uptick with respect to applications because of.

Refinancing activities when interest rates came down I would say Scott that over the course of the last several years, we've been making a significant amount of investment in a couple of different things. One is a strong focus on purchase.

Purchase money.

Area.

And a fairly significant amount of our.

Our volume is on the purchase money side. So home sales you know to the extent that that continues to grow.

It should allow us to hold up really well and then the second thing is that we've invested a lot in the retail channel and our digital capabilities and were taking nice market share in the mortgage banking space. So.

While while mortgage banking revenue will trend.

In the same sort of way is kind of the industry I think that we do have the opportunity of Bel outperformed the industry.

Andrew what would you add degree.

Alright, perfect. Thank you and then was hoping for maybe a little more color on.

Expenses, particularly that.

Comment you made earlier about the $60 million seasonal increase in amortization of tax advantaged.

The fourth quarter.

Or does that just does that go up and then come all the way back down or is there sort of a head.

A headwind.

Emergence in in 2022, and then presumably it's kind of a wash from an earnings standpoint, given our.

Corresponding tax impact.

How should we be thinking about as we go sooner than that.

Yeah, Great question. So what ends up happening in that particular space is about 60% of the overall production for the year happens in the fourth quarter and so if you look kind of historically, we always see a blip in the fourth quarter and then it comes back down.

In the first quarter and then it kind of slowly builds and then we see a blip in the fourth quarter of the following year. So it's usually it's a seasonal thing in the fourth quarter.

Okay. Okay. Thank you very much.

Mhm.

Your next question comes from the line of Ken <unk> with Jefferies.

Alright, Thanks, a lot.

Guys. Terry can you just make sure we understand the offset to that $60 million and expenses, where we see that in the income statement yes.

Yes.

Flowing through is in the tax rate and.

Usually what that ends up happening is kind of on a lag basis. So youll start to see the tax rate improve.

Improving in 2022 as a result of the investments we're making today.

Right, Okay and in the fourth quarter, you see that the offset to the 60 and the tax rate as well.

<unk> limited and the tax rate in the fourth quarter.

Why we got it.

Yes, it's really more forward looking.

Okay got it thank you secondly.

Mentioned in the press release that fee waivers were down a little bit can you give us an update on what they were in the quarter and also what you need from rates to get rid of the fee waivers.

So they were about just about $70 million in the third quarter down just a couple of million dollars versus the second quarter, principally due to the repo rate.

We get about 50% of it back with the first 25 basis points and about 95% of it back with the second 25 basis points.

Okay, Great and then just last one.

In terms of.

The.

The payments business is again like so on merchant when when we see growth in can you just compare and contrast, when we see growth in the.

The volumes I know, it's mix dependent but just with your mix of business.

The correlation between increases and improvements in merchant vis vis the improvements that we see in the sales volumes. Thanks guys.

Yeah.

Typically what's happening right now is a mix change so something what's coming back or some of the areas that have a little thinner margin, which is what's the what's causing you to differential on sales being up about 5% in piece being down about 5% and so thats, partly and this is I'm using these numbers versus 2000.22019, and you can look at it versus 2020.

Sales were up about 30% and fees are up about 13%, so there'll be a bit of a gap there partly because of the mix of what's coming back and as we look forward I would expect a bit of a differential revenue growth being slightly below sales growth on a go forward basis.

Okay. Thanks, sorry can I ask one more I forgot to ask about the expense you had on the airline and travel got a onetime update on was that meaningful can you tell us how much that was.

The expense on the airline and travel.

Okay.

I think you're talking about the investment that we're making on our credit card business or cause ready to really go through this.

Yes, Nicole it's expensive.

Got it.

<unk> principal we're talking about the merchant airline reserve.

Exactly.

Oh yeah.

Yes, I mean that has been relatively stable over the last couple of quarters because.

Fundamentally you've got people are flying people starting to fly right. So that has been not material.

Thank you.

Sure.

Your next question comes from Matt O'connor with Deutsche Bank.

Hey, Matt Hey, Matt morning, can you guys give us an update on your rate sensitivity the flexibility to add.

Swaps and how the UBS deal might impact that.

Yeah. So maybe just the last question first.

Union Bank is a little bit more asset sensitive than we are and we would expect that they would probably add to our asset sensitivity kind of in that 30 to 40 basis points kind of range.

Where we're at today.

If you end up looking at <unk>.

First second quarter Weird about 280.

Internet to two 8% asset sensitive to a 50 basis point shock, we've been expanding that Matt.

And a couple of different ways, we've been holding more cash looking for a better kind of investment sort of entry point.

So that asset Simpson has been coming up in addition to that we have been.

Just looking at different hedge strategies that have been expanding our asset sensitivity as well so.

Today.

Probably about $53.0

Three 5% kind of asset sensitivity and and that's kind of the position that we're at right now we.

We do have the opportunity is and we have the expectation that rates are going to start moving up at least on the long end and so we're trying to be patient and be in a position to be opportunistic when rates are in the right spot.

Okay. That's helpful. And then just separately a clarification question on payments when.

When you talk about the seasonality in <unk>, maybe remind us what that is and I guess I was thinking it's on the corporate payment side, which may not be as seasonal this year than normal.

But just elaborate on that and I'm kind of digging into just because last quarter. You said, you thought payments would be flat and ends up being a bit better than expected and.

It seems like it might be a conservative guide again for far too. Thank you yeah, usually usually merchant is flat to down a little bit, but it's a seasonally affected in the fourth quarter card actually performs a little bit better in the fourth quarter because of holiday sales, but Cps is the business that ends up coming.

Because you have a significant amount of government spending in the third quarter.

Okay. Thank you.

Thanks Pat.

Your next question comes from the line of Mike Mayo with Wells Fargo Securities.

Correct.

Hi, Mike.

Got it.

We got a new slide slide six.

Asking about combining banking with payments.

But if you could just elaborate a little bit more.

You say well what are we looking at we're looking at 28% of banking customers.

What are we looking at.

Lot of customer banking guys break out your statements at the bottom line and you want to get them to use it and happier payments cosmic that he's banking services you want them to use that to and I think you said you seek to grow the small business relationships by 15% to 20% and the related revenues by 25% to 30%.

Over what timeframe is that and how are you going to do that and when are you rolling out some of the new products that are going to help enable that.

Thanks, Mike first you got the numbers correct.

<unk>.

This this is starts at $2.0 million customers. We have about another 190000 that would be added with Union bank.

The timeframe as the next few years will continue to add to decided to give you more specifics, including the progress.

Progress on these numbers as well as the thinking about revenue the way we're going to do this is by a combined dashboard and product offering that has both payments and banking on that dashboard to help those businesses run their company payables receivables travel payroll as well as banking products and services.

We have been rolling out that dashboard, making enhancement to it as we speak and we'll continue to do it each and every month, each and every quarter and Thats the way we think about it.

Yeah.

Okay. So what is.

I guess, how do you think about the profit margins on these relationships I mean, it seems like we provide more one stop shopping.

It should be better service for the customer and you should be making more on that so not just the revenues I mean, what would you expect the earnings to increase by H I assume more than the 25% to 30% yes.

Yes, they will.

I was quoting a revenue number I would expect the earnings to be higher than that because the marginal cost of many of these products and services is not as high because they go on the platforms, we already have established.

Yes.

Okay, and then lastly, since we're on the topic of Tech and it's been six years since U S Bancorp shown.

As shown positive operating leverage you had two quarters in a row it looks like maybe.

On a linked quarter basis, we showed it maybe you won't share that in the fourth quarter you didn't talk about.

Linked quarter operating leverage, but can you commit to 2020 to having positive operating leverage I guess there'll be some noise with union, but.

Are you on that trajectory now and if so why.

Yes, Mike that there will be some noise with union as you mentioned, it's always our goal.

We've made a lot of investments in the company and those investments are going to do two things that are going to drive revenue growth and they're going to also create more efficiencies in terms of our operations and the tech stack modernization in particular created a less expensive operating environment. So I think those are all positives as we look into 'twenty two that's always our objective.

22 of it dependent upon the yield curve and what happens with rates, but that's our objective.

Alright, thank you.

Right.

Your next question comes from the line of a weak junejo with J P.

J P Morgan.

Good morning, Vivek Vivek morning morning, Andy wanted Terry couple of questions.

Investment securities they shrank any color on the outlook.

Yes, I mean, our expectation again is that what do we think about longer term rates, we do expect them to be moving up given the inflationary pressures and other things that are kind of just in terms of economic growth.

So we have been holding off with respect to.

Reinvestment of Av.

Maturities and things like that and building cash balances kind of to improve our asset sensitivity and we will look for opportunities to reinvest that.

In the in the future as rates start to move.

Okay. Thanks, another one.

Different topic.

I hear you say that you expect revenue growth in payments fees to be better than the sales trends and if so can you elaborate.

No.

The other way around so the sales number will be a bit higher than the revenue growth, partly because of the mix, partly because of the investments we're making so for example in card as we have the sales growth occurring some of the investments in new business generation comes through and impacts the revenue growth.

Okay. Okay, great. Thank you.

Sure.

Your next question comes from the line of Bill <unk> with Wolfe with Wolfe Research.

Alright good.

Good morning, I wanted to follow up on the relatively softer commercial loan growth that you guys are seeing are you hearing anything from your commercial customers that suggest that the depressed line utilization rates are really just an extension of the supply chain problems that theyre having.

And if so does that suggest that line utilization is unlikely to improve until the supply chain problems are resolved any color you can give on that would be great.

Yeah, I mean, obviously the supply chain is impacting customers in terms of their ability to be able offer products and services et cetera, but it hasnt necessarily come up in topic conversation with them.

Certainly you know I do think that as supply chain challenges start to resolve themselves.

No that that will create opportunity for us in terms of line utilization and bank financing.

But it's not something that has been.

Discuss a lot with clients, let's put it that way or that they brought up.

Understood that's helpful.

Separately on the merchant acquiring business <unk>.

Business certainly puts you guys in a unique position to be able to turn on buy now pay later solutions for your merchant partners in a way that other banks can't.

Can you discuss whether you are considering offering buy now pay later solutions to your merchant customers and separately I guess a broader question.

How do you guys think about the NPL does it pose disintermediation risks to your card business or is that the NPL customer really more likely someone who typically would not even qualify for a credit card and.

And so the Npls essentially just something that they are using that allows them to turn their debit card into a credit card and it also helps merchants drive incremental sales.

Yes.

Thoughts around how you guys are thinking about it and the opportunity if you see one.

Yes. They also I think it's a little of both of the topics you brought most of the <unk>.

Ways you described it so first of all we have a number of test cases going out we already offer by not paying library credit card offering.

Sometimes that customer wants to have a large purchase specific from a payment plan and that could be occurring credit card customer choosing to do you have a very plan set of payments going forward at other times of BMO buy now pay later can allow for a customer who would otherwise not have a credit card to have to acquire or purchase something using the buying out.

Later capability and in that sense, you do partner with the merchants to increase the sales base of that merchant portfolio. So we're working on all those fronts.

Got it.

My my other questions have been largely addressed but if I could squeeze in one last one.

On a separate topic you guys recently announced that you'll be providing crypto currency custody services for your institutional clients could you frame the revenue opportunity there and.

Some large banks yields as indicated.

Can't provide cryptocurrency customer services, but.

It would be great. Andy if you could discuss whats different in the way that USB is thinking about providing custody and what gives you guys comfort.

Doing that at a time when there is still some controversy and I guess unwillingness among some large players around providing those services.

Yes so.

So let me step back in our institutional investors are looking to participate in the digital currency market as an investment class. We have a large fund services business that provides fund services transfer Agency Fund administration to those clients.

An asset class that they choose to have is one that we need to be able to provide a service for and will now offer a crypto currency custody for those fund managers and that's the way we're thinking about it. So it is really providing a service that we do for their other asset classes for crypto currency and we've selected.

Now to help us with that from a from a sub custodian standpoint, and actually a number of other banks do that as well sometimes for their own customer base.

Got it and the revenue opportunity.

Just any high level color on that we haven't defined the revenue opportunity. It's early innings of this capability.

Capability, certainly and so.

It is really providing a full set of services to those customers.

Got it. Thank you so much for taking my questions sure.

We have a follow up question from the line of Ken <unk> with Jefferies.

Hey, Terry sorry for the follow up but you gave us the $60 million to $70 million expected decline in PPP in the fourth quarter. I was just wondering if the first time, you've given us a number do you have the base of what it was total PPP net interest income in <unk>.

Yes, it was about $120 million.

Okay got it thank you very much.

And at this time there are no further questions I'll turn the call back to the speakers for any closing remarks.

Okay.

Maybe one comment John asked me to clarify something in the transcript or when I was earlier I mentioned that the share buyback program would be deferred until second quarter actually it will be the second half of 2022 after about a quarter. After we finished the closing.

Great.

Thank you everyone for listening to our earnings call and please contact the Investor Relations Department. If you have any follow up questions.

Thank you for participating you may disconnect at this time.

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Okay.

Welcome to U S Bancorp's third quarter 2021 earnings conference call.

Following a review of the results by Andy <unk> theory, Chairman, President and Chief Executive Officer, and Terry Dolan, Vice Chair and Chief Financial Officer, There will be a formal question and answer session.

To ask a question. Please press star one on your Touchtone phone and press the pound key.

Draw this call will be recorded and available for replay beginning today at approximately 10, a M. Central time through Thursday October 21, 2021 at 10.59 P. M. Central time, I will now turn the conference call over to Jen Thompson director of Investor Relations and economic.

Dallas is our U S Bancorp.

Thank you Erica and good morning, everyone with me today are Andy sorry, our chairman, President and CEO and Terry Dolan, our Chief Financial Officer.

During their prepared remarks, Andy and Terry will be referencing a slide presentation a.

A copy of the slide presentation as well as our earnings release and supplemental analyst schedules are available on our website.

Bank Dot com if.

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

<unk> you have.

I'll begin on slide three in the third quarter, we reported earnings per share of $31.0, and generated total revenue of $14.0 billion.

We released $310 million of loan loss reserves this quarter supported by our outlook on the economy and better than expected credit quality metrics turning to capital our book value per share totaled $32.22 at September 30, which was one 5% higher than June 30, our CET one.

Show was 10, 2% at September 30.

Slide four provides key third quarter performance metrics, including a return on tangible common equity of over 20%.

Slide five highlights strong trends in digital engagement.

On slide six we are providing initial information about our business banking and payment relationships, which we plan to update every quarter.

Our complete payments ecosystem as a competitive advantage for us and provides a number of cyclical.

And secular growth opportunities over the next few years, we believe there is significant potential to expand and deepen relationships within this ecosystem.

Our starting point is that we have about $2.0 million business banking relationships, which we define as businesses with under $25 million in revenue currently about half of our payments customers of this size of a business banking product and just under one third of our business banking customers have a payments product.

As we discussed previously we believe we can grow our small business relationships by 15% to 20% and related revenue by 25% to 30% over the next few years.

Now, let me turn the call over to Terry will provide more detail on the quarter.

Thanks, Andy.

Turning to slide seven I'll start with a balance sheet review, followed by a discussion of third quarter earnings trends.

Average loans increased <unk>, 8% compared with the second quarter driven by growth in other retail loans, primarily installment loans as well as growth in credit card and residential mortgages.

This growth was partially offset by lower commercial loan balances, which was impacted by lower levels of PPP loans at.

At September 30th PPP loan balances totaled $6.0 billion compared to $13.0 billion at June 30th.

Excluding PPP loans third quarter average loans grew by one 8% on a linked quarter basis.

Turning to slide eight average deposits increased <unk>, 5% compared with the second quarter, and six 4% compared with a year ago on both a linked quarter and year over year basis, we continued to benefit from favorable mix shift as average noninterest bearing deposits increased while higher cost.

Time deposits declined.

Slide nine shows credit quality trends nonperforming assets declined on both a linked quarter and year over year basis, and our net charge off ratio hit a record low of 20 basis points.

Our reserve release was $310 million this quarter, primarily reflecting strong credit quality metrics.

Our allowance for credit losses as of September 30 totaled $9.0 billion.

Our two 1% of loans the.

The allowance level reflected our best estimate of the economic outlook and trajectory of credit quality within the portfolios.

Slide 10 provides an earnings summary in the third quarter of 2021, we earned $31.0 per diluted share. These results include a reserve release of $310 million.

Turning to slide 11, net interest income on a fully taxable equivalent basis.

$5.0 billion increased by 1.0% compared with the second quarter. The growth was primarily driven by higher loan fees associated with the paycheck protection program.

Excluding PPP related fees net interest income would have been stable reflecting lower.

Loan yields and the impact of changing loan mix offset by the beneficial impact of core loan growth lower premium amortization and an additional day in the quarter.

Our net interest margin was stable compared with the second quarter.

<unk> fees.

Slide 13 provides information on our payment services business, our payments business continues to benefit from improving economic conditions and spend activity.

In the third quarter sales volumes for both our credit card and merchant processing businesses exceeded the pandemic compared period in 2019, while Cps volume was about in line.

Percent, which was better than expected driven by improving business spend activity.

Merchant processing revenue increased by four 8% due to higher merchant and equipment fees as well as higher sales volumes.

Turning to slide 14, noninterest expense increased one 2% compared to the second quarter. This increase primarily reflected higher revenue related compensation and performance based incentives.

Slide 15 highlights our capital position, our common equity tier one capital ratio at September 30th was 10, 2%, which increased slightly compared to June 30 at the beginning of the third quarter, we suspended our share buyback program due to our recent announcement that we have agreed to acquire <unk> Union.

Bank.

We expect that our share repurchase program will be deferred until the second quarter two.

2022 after the closing of the acquisition, we expect to operate at a CET one capital ratio between our target ratio and 9.0%.

Net interest income to be relatively stable on a linked quarter basis.

We expect PPP to be immaterial to both net interest income and the net interest margin in 2022.

Credit quality remained strong over the next few quarters, we expect the net charge off ratio to remain lower than normal for the full year of 'twenty.

2021, we expect our taxable equivalent tax rate to be approximately 22%.

I'll hand, it back to Andy for closing remarks, Thanks, Terry to summarize our third quarter results were positive on several fronts.

By a solid growth in core loans, good fee revenue momentum and strong credit quality, we are finishing off the year in a strong position heading into 2022 and we're excited about the many organic growth opportunities we see across the franchise supported by our continued investment in people digital technology and data analytics.

Prepayments businesses will continue to benefit from the improved spend activity, particularly as consumer and business travel recovers towards pre pandemic levels. More importantly, we believe our secular growth initiatives aimed at connecting payments with banking provide a meaningful potential for market share gains over the immediate and longer term.

All of this will enable us to accelerate revenue and earnings growth and continue to deliver the industry leading returns on equity that our shareholders have come to expect in closing I'd like to thank our employees for all they have done throughout the year, we will now open up the call for Q&A.

At this time, if you'd like to ask a question. Please press star one on your telephone keypad again, Thats star one to ask a question.

Your first question comes from the line of Gerard Cassidy from RBC.

Good morning, Andy Good morning, Terry.

Good morning, Gerard Gerard.

Yeah.

Andy Slide six it was very interesting and as you pointed out it's a new slide.

Two questions on this slide you talked about the growth that you are anticipating in that business banking area to get the customers that their business banking only to be both banking and payments what percentage can you get it to that 50% that you have on the other circle you know with the payments area can you get it to that area and how long would it.

Take you to get there and second if you put in the Union bank customers, how large will that $2.0 million grow too.

So Gerard <unk> Union Bank has about 190000 comparable customers so that would be added to the $2.0 million.

And I do believe we can get to your first question that left hand side to the $100.0 at least again the way we're thinking about this product set is really a combination of dashboard. If you will it helps these customers manage their business.

Payables receivables travel activity payroll and so forth in one comprehensive viewpoint I think that will allow us to both deepen the relationships as well as expand so I do believe we can get that $100.0 as well.

Very good and then as a follow up.

Or.

Well regarded on your credit through the full cycle and you pointed out I think the 20 basis points is a record low and net charge offs.

What what do you anticipate one woman things kind of normalize and I hate that word because there's no such thing as normal credit charge offs, but it seems like how sustainable are these record low levels do you think as we look out over the next 12 months to 24 months, yes.

Yes, that's a great question and I get your point about really being difficult to predict is right on where we end up looking at and kind of looking at forecast et cetera. Now we do expect it's probably going to stay at these lower levels for a few quarters and then it's going to start to normalize.

Probably doesn't get back there until what we would kind of define as normal which is kind of that 45 to 50 basis points overall.

Until at least the end of 2022 and probably sometime in 2023.

But it is very hard to predict.

No I agree thank you gentlemen.

Thank you.

Your next question comes from the line of Betsy <unk> with Morgan Stanley.

Good morning, Betsy Hi, good morning, Hi, good morning.

He had a couple of questions. One was on just loan growth in general and I wanted to understand where you see some signs of life that might be accelerating as we move into <unk>.

<unk> and into next year I asked because I saw a nice uptick in the consumer side.

Our commercial seem to be a little bit weaker and wondering what you're seeing there. Thanks.

Yeah. So when we ended up looking first of all maybe to the fourth quarter. You know, we would expect probably modest growth going into the fourth quarter on a linked quarter basis.

And if you just kind of look at the puts and takes and I think that this will play out over time as well, but the puts and takes at least.

In terms of account growth.

And various sort of promotional activities. So that will help to drive it and then as consumer spend or excuse me as a government stimulus kind of starts to dissipate, which has I think been slowly doing.

We do expect that the payment rate will start to come down.

Really kind of at a historic high right now and as that comes down credit card balances should strengthen.

Certainly on the consumer side, we expect growth in the near term.

The C&I as you said is a little more challenging and the principal challenge. There is that we continue to see a fair amount of payoffs and then PPP forgiveness is also dampening the C&I growth in that particular space, where we are seeing.

Nice areas of opportunity.

Is C&I is in ASP.

Asset backed securitization type of lending mortgage.

Warehouse lines.

Some supply chain finance activities. Those are all areas that had been a particular strength when we end up looking at kind of middle market space.

And the PPP in the fourth quarter I think you indicated it would be down obviously Q on Q.

But is it is it sizable in the fourth quarter.

Yes, it ends up coming down.

You suck or we talked a little bit about you know the decline this quarter I think it's going to come down probably half of that again in the fourth quarter and then and then it's hard to tell in terms of what does it stabilize at that level or does it come down a little bit further, but our expectation at least right now Betsy is that by the end of the fourth quarter.

The vast majority of PPP has been forgiven and the impact to for example balances and net interest income and margin will be.

Really immaterial when we think about 2022.

And in the fourth quarter and the PPP contribution to NII in the fourth quarter, what do you how.

How would you size that.

I think it's modest Betsy.

P quarter, certainly was the third quarter it becomes very modest in the fourth quarter.

Okay.

Alright, and then just lastly, as you think about the.

The forward look here on integrating Mfg, USA bank Hal into your operation how should we be thinking about.

The.

Trajectory of the efficiencies here, because when you announced that deal and we had that conference call. We obviously.

Heard a lot about the cost saves that youre anticipating getting from the <unk>.

USA side, but I'm wondering is there a tech angle as well on your legacy platform that will also be enhanced.

It's one plus one equal two and a half for example.

So I think just to remind you of the timeframe we did actually.

Submit our application for the transaction on October six so that is in.

Our expectation is close sometime late first quarter early second quarter with a conversion integration in the <unk>.

Third into the fourth quarter of 2022, as we talked about on that call. We would expect about 75% of the savings the efficiencies to occur in that first year of 2023 and as we also talked about thats. The real benefit here is we have the platform and it's a lift and shift from what they do to our platform.

Which allows for the majority of the cost savings in the second enhancement on that as our platform has more capabilities and more.

My view.

More opportunities a better customer experience and more products and services. So there is also a revenue component as well so in that mine in that view, yes. It is more than just one plus one.

Thanks sure.

Sure.

Your next question comes from the line of John <unk> with Evercore ISI.

John John Good morning, I wanted to see if you can elaborate a little bit more on the trends youre seeing in your payments business. I know you had mentioned the increased spend activity you wanted to see if you can give us a little bit more color on how that breaks out and then separately maybe if you can elaborate a little bit on what your 2022 expectation is at this time based upon the trends you are beginning to.

See in the payment side.

Thanks.

Yeah. So maybe let me take the first part and then Andy can kind of pipe in with respect.

What we're seeing as we go into 2022, so maybe as a comparison.

First of all.

As we said you know the <unk>.

Merchant.

The card.

This is now above 2019 levels.

In the third quarter.

<unk>, we're about almost 5% higher than 2019 in terms of merchant processing and if you end up looking at credit debit card 20 plus percent above.

Where it was in 2019, so those those have made a really nice recoveries I'd also kind of keep in mind is that when you end up looking at merchant as an example airline travel entertainment is still.

End up looking at the card business as I said credit card debit card business you know the sales volumes have been.

Quite strong relative to 2019, and thats driven by consumer spend.

The one thing that we'll end up impacting card revenue is the fact that prepaid continues to come down as government stimulus dissipates, but by at the end of the year going into 2022 again.

The quarter over quarter impact will be relatively immaterial and then the last thing I would just kind of talk about it on the corporate payments side of the equation.

It's pretty much at 2019 levels.

But the travel and entertainment.

TNF spend is still about 50% to 55% below 2019, and we would expect that to continue to kind of normalize. So we think that there is opportunity still there for that to continue to strengthen we have seen what I would say other commercial spend strengthening.

Quarter over quarter, and we would expect that to continue as well.

I think thats exactly rytary and just to summarize what Terry said.

Is down in that 35, 40% range as that recovers, that's where a lot of opportunity exists as well as what Terry mentioned in the corporate travel entertain which was down closer to 50%.

Okay, great. Thank you and then I know you mentioned on the expense side, some marketing and business investments at least for the fourth quarter.

Is there anything there that is going to carry through into 2022, as you're putting money into the business I know you're you recently launched the buy now pay later product. So just curious if there's ongoing marketing a business investment that we should consider as we dial in our expense expectations for 2022.

Yeah, I think as we kind of think about 2022, you know the level of investment probably doesn't go up significantly from here.

Okay got it alright, thank you.

Thank you.

Your next question comes from the line of Ebrahim <unk>.

<unk> with bank of America.

Good morning, Hey, Brian Abraham good morning.

Good morning, just wanted to one follow up with you on.

You commented on loan growth.

Specifically, if you can address two things one is the outlook for CRE lending as you think about next year given potential disruption from just changing.

From home et cetera, how youre approaching CRE lending and on the consumer side do you expect.

Do we need to see a big drawdown in the U S savings need before you actually see consumer lending pick up substantially or as you pointed out the Goldman Sachs.

Feeding or we add enough to see some next to that growth.

Yes, so maybe to the first question with respect to CRE, we actually saw some growth on a linked quarter basis in CRE this quarter.

The project level of pipeline things like that are reasonably strong.

You know as we kind of think about the next couple of quarters, though I think what we're seeing in the marketplace is pretty strong competition and so we will have to kind of watch to see what happens with respect to paydowns rigor.

Regarding.

Kind of returned to office and some of those impacts when we end up looking at it maybe in terms of you know the.

The areas to watch.

I think that as return to office occurs.

We're starting to see collateral valuations improving.

And we're starting to see some of those trends improving as well and I think that that generally would be a positive thing in terms of CRE investment by by underlying.

Developers and finance hears.

But I think that for right now.

We're just kind of watching what sort of paydown levels occur because of competition.

And then on the consumer side of the equation.

I mean, we're actually seeing now we do expect that credit card balances from here start to grow and possibly accelerate as we get into 2022.

When you think about customers that are kind of revolving type of customers.

I believe that with government stimulus starting to dissipate that they are going to be looking to.

Credit products in terms of being able to.

To support their consumer spend.

And we've continued to see relatively strong growth in auto lending and I would anticipate that that will continue.

Dependent upon supply chain impacts associated with chips and things like that but overall, we're fairly bullish on consumer lending.

That's helpful color, Thank you and just.

Separate node in terms of when you look at the.

The stickiness of the deposit growth that you've seen over the last 18 months. If you could just talk to your outlook in terms of a dish.

Deposit balances will continue to grow.

And.

Do you at any point as you look forward in the next year or two expect deposit growth to actually turn negative in any meaningful way.

Our deposit growth.

It has been reasonably strong.

So I.

I would fully expect that a lot of that will stick.

Dependent upon obviously the excess savings rate that we talked about relative to seeing growth in the wealth management businesses, and we would expect that a fair amount of that would stick as well.

So as we kind of think about deposits.

Think we have been growing what I would call kind of the core balances quite a bit.

As liquidity does come out of the system, though I would expect that we would see some runoff or.

Where investors start to utilize those deposits to invest in like CDO CLO structures. So within our wealth management investment services business, we would expect to see some runoff.

Thanks for taking my questions.

Thank you.

Your next question comes from the line of Scott.

With Piper Sandler.

Good morning, guys. Thanks for taking it.

Got it.

Hey, I was hoping you might be able to address the durable durability of mortgage revenues at the current level I thought it was a pretty pretty solid quarter.

Better than I had anticipated and just hoping you can address some of the puts and takes.

Arjun origination levels and just overall durability of this quarter's level.

Yeah.

Great question.

Obviously in the third quarter, we saw a little bit of an uptick with respect to applications because of <unk>.

Purchase money.

Area.

And a fairly significant amount of R. R.

Our volume is on the purchase money side. So home sales you know to the extent that that continues to grow.

It should.

Allow us to hold up really well and then the second thing is that we've invested a lot in the retail channel and our digital capabilities and we're taking a nice market share in the mortgage banking space. So.

While while mortgage banking revenue will trend.

In the same sort of way is kind of the industry I think that we do have the opportunity of Bel outperformed the industry.

Andy what would you add degree.

Alright, perfect. Thank you and then was hoping for maybe a little more color on.

Expenses, particularly that.

Comment you made earlier about the $60 million seasonal increase in amortization of taxes merger.

The fourth quarter.

Or does that just does that go up and then come all the way back down or is there sort of a head.

A headwind that.

Emergence in in 2022, and then presumably it's kind of a wash from an earnings standpoint, given our.

Corresponding tax impact.

How should we be thinking about as we go sooner than that.

In the first quarter and then it kind of slowly builds and we see a blip in the fourth quarter of the following year. So it's usually it's a seasonal thing in the fourth quarter.

Okay. Okay. Thank you very much.

Mhm.

Your next question comes from the line of Ken <unk> with Jefferies.

Alright, Thanks, a lot.

Guys. Terry can you just make sure we understand the offset to that $60 million of expenses, where we see that in the income statement.

Yeah, where that ends up flowing through is in the tax rate and.

Usually what that ends up happening is kind of on a lag basis. So youll start to see the tax rate.

Improving in 2022 as a result of the investments we're making today.

Right, Okay and in the fourth quarter, you see that the offset to the 60 and the tax rate as well.

<unk> limited and the tax rate in the fourth quarter.

Why we got it.

Yes, it's really more forward looking.

Got it. Thank you secondly, you mentioned in the press release that fee waivers were down a little bit can you give us an update on what they were in the quarter and also what you need from rates to get rid of the fee waivers.

So they were about just about $70 million.

Third quarter down just a couple of million dollars versus the second quarter, principally due to the repo rate.

We get about 50% of it back with the first 25 basis points and about 95% of it back with the second 25 basis points.

Okay, Great and then just last one.

In terms of the.

<unk>.

The payments business is again like so on merchant when when we see growth in can you just compare and contrast, when we see growth in the <unk>.

Volumes I know, it's mix dependent but just with your mix of business what's.

What's the correlation between increases and improvements in merchant vis vis the improvements that we see in the sales volumes. Thanks guys.

Yeah.

Typically what's happening right now is a mix change so what's coming back or some of the areas to have a little thinner margin, which is what's the what's causing the differential on sales being up about 5% in piece being down about 5% and so thats, partly and this is I'm using these numbers versus 2000.22019, and if you look at it versus 2020.

Okay. Thanks, sorry can I ask one more I forgot to ask about the expense you had on the airline and travel.

Onetime update on was that meaningful can you tell us how much that was.

The expense on the airline and travel.

Yeah.

I think you're talking about the investment that we're making on our credit card business or cause ready to really go through this.

Yes.

Spencer.

It goes it goes principally talking about the merchant airline reserve.

Exactly.

Oh yeah.

Yes, I mean that that has been relatively stable over the last couple of quarters because fund.

Fundamentally you've got equal our clients starting to fly right. So that has been not material.

Thank you.

Sure.

Your next question comes from Matt O'connor with Deutsche Bank.

Hey, Matt good morning.

Can you guys give us an update on your rate sensitivity the flexibility to add.

Swaps and how the UBS deal might impact that.

Yes, so maybe just the last question first.

Union Bank is a little bit more asset sensitive than we are and we would expect that they would probably add to our asset sensitivity kind of in that 30 to 40 basis points kind of range.

Where we're at today.

If you end up looking at.

First second quarter Weird about 280.

In turn it to two 8% asset sensitive to a 50 basis point shock, we've been expanding that Matt.

A couple of different ways, we've been holding more cash looking for a better kind of investment sort of entry point and.

So that asset Simpson, who has been coming up in addition to that we have been.

Just looking at different hedge strategies that have been expanding our SUV as well so.

Today.

Probably about $53.0

And three 5% kind of asset sensitivity and and that's kind of the position that we're at right now.

Okay. That's helpful. And then just separately a clarification question on payments.

When you talk about the seasonality in the <unk>, maybe remind us what that is and I guess I was thinking it's on the corporate payment side, which may not be as seasonal.

Normal.

But just elaborate on that and I'm kind of digging into just because last quarter. You said you thought payments would be flat and ended up getting a little bit better than expected in that.

It seems like it might be a conservative guide again for <unk>. Thank you yeah, usually usually merchant is flat to down a little bit, but it's a seasonally affected in the fourth quarter card actually.

Performs a little bit better in the fourth quarter because of holiday sales, but Cps is the business that ends up coming down because you have a significant amount of government spending in the third quarter.

Okay. Thank you.

Thanks, Matt.

Your next question comes from the line of Mike Mayo with Wells Fargo Securities.

Correct.

Hi, Mike.

Got it.

We got a new slide the slide six talking about combining banking with payments.

But if you could just elaborate a little bit more I think I heard.

You say well what are we looking at we're looking at 28% of banking customers.

What are we looking at.

A lot of customer banking guys break out these payments into the bottom line and you're going to get them to use it and have your payments cosmic banking services, you want them to use that Joe and I think you said you'd seek to grow the small business relationships by 15%, 20% and related revenues by 25% to 30%.

Over what timeframe is that and how are you going to do that and when are you rolling out some of the new products that are going to help enable that.

Thanks, Mike first you got the numbers correct second.

This this is starts at $2.0 million customers. We have about another 190000 that would be added with Union bank.

The timeframe as the next few years will continue to add to this slide to give you more specifics including.

The progress on these numbers as well as thinking about revenue the way we're going to do this is by a combined dashboard and product offering that has both payments and banking that dashboard to help those businesses run their company payables receivables travel payroll as well as banking products and services.

We have been rolling out that dashboard, making enhancement to it as we speak and we'll continue to do it each and every month, each and every quarter and Thats the way we think about it.

Okay. So what is.

I guess, how do you think about the profit margins are in these relationships I mean, it seems like we provide more one stop shopping.

It should be better service for the customer and you should be making more on that so not just the revenues I mean, what would you expect the earnings to increase by ice I assume more than the 25% to 30%.

Yes, they will.

Okay, and then lastly.

We're on the topic of tech and it's been six years since U S. Bancorp shown as shown positive leverage you have two quarters in a row it looks like maybe.

On a linked quarter basis, we showed it maybe you won't show that in the fourth quarter you didn't talk about.

Linked quarter operating leverage, but can you commit to 2020 to having positive operating leverage I guess there'll be some noise with union, but.

Are you on that trajectory now and if so why.

Yes, Mike that there will be some noise with union as you mentioned, it's always our goal.

We've made a lot of investments in the company and those investments are going to do two things they are going to drive revenue growth and they're going to also create more efficiencies in terms of our operations and the tech stack modernization in particular creates a less expensive operating environment. So I think those are all positives as we look into 'twenty two that's always our objective.

22 of it dependent upon the yield curve and what happens with rates, but that's our objective.

Alright, thank you.

Right.

Your next question comes from the line of a weak junejo with J P.

J P Morgan.

Good morning, Vivek <unk> morning morning antibody Terry couple of questions can you.

Investment securities they shrank any color on the outlook.

So we have been holding off with respect to.

Reinvestment of Av.

Maturities and things like that and building cash balances kind of to improve our asset sensitivity and we will look for opportunities to reinvest that.

And then in the.

Future as rates start to move.

Okay, Thanks, and another one.

Different topic.

Did I hear you say that you expect revenue growth in payments fees to be better than the sales trends and if so can you elaborate.

No.

The other way around so the sales number will be a bit higher than the revenue growth, partly because of that mix, partly because of the investments. We're making so for example in card as we have the sales growth occurring some of the investments in new business generation comes through and impacts the revenue growth.

Okay. Okay, great. Thank you.

Sure Okay.

Your next question comes from the line of Bill <unk> with Wolfe with Wolfe Research.

Alright.

Good morning, I wanted to follow up on the relatively softer commercial loan growth that you guys are seeing are you hearing anything from your commercial customers that suggests that the depressed line utilization rates are really just an extension of the supply chain problems that theyre having.

And if so does that suggest that line utilization is unlikely to improve until the supply chain problems are resolved any color you can give on that would be great.

Yeah, I mean, obviously the supply chain is impacting customers in terms of their ability to be able to offer products and services et cetera, but it hasnt necessarily come up in topic conversation with them.

Certainly you know I do think that as supply chain challenges start to resolve themselves.

No that that will create opportunity for us in terms of line utilization and bank financing.

But it's not something that has been.

Discuss a lot with clients, let's put it that way or that they brought up.

Understood that's helpful.

Separately on the merchant acquiring business <unk>.

Business certainly puts you guys in a unique position to be able to turn on buy now pay later solutions for your merchant partners in a way that other banks can't.

Can you discuss whether you are considering offering buy now pay later solutions to your merchant customers and separately I guess a broader question.

How do you guys think about the NPL does it pose disintermediation risks to your card business or is that BNP, all customer really more likely someone who typically would not even qualify for a credit card and so the npls essentially just something that they are using that allows them to turn their debit card into a credit card and it also helps merchants.

Drive incremental sales.

Any thoughts around how you guys are thinking about it and the opportunity if you see one.

Yes, so I think it's a little of both of the topics you brought most of the <unk>.

Ways you described it so first of all we have a number of test cases going out we already offer by not paying library credit card offering.

Sometimes the customer wants to have a large purchase specific from a payment plan and that could be occurring credit card customer choosing to do you have a very planned set of payments going forward at other times of BMO buy now pay later can allow for a customer who would otherwise not have a credit card to have to acquire or purchase something using the by now.

Pay later capability and in that sense, you do partner with the merchants to increase the sales base of that merchant portfolio. So we're working on all those fronts.

Got it.

My my other questions have been largely addressed but if I could squeeze in one last one.

On a separate topic you guys recently announced that you'll be providing cryptocurrency custody services for your institutional clients could you frame the revenue opportunity there.

Some large banks to yields.

<unk> indicated that they can't provide cryptocurrency custody services, but it would be great. Andy if you could discuss whats different in the way that USB is thinking about providing custody and what gives you guys comfort with doing that at a time when theres still some controversy and I guess unwillingness among some large players providing those services.

So if so let me step back our institutional investors.

Looking to participate in the digital currency market as an investment class. We have a large fund services business that provides fund services transfer Agency Fund administration to those clients if an asset class that they choose to have is one that we need to be able to provide a service for and we will now offer a crypto currency.

Today for those fund managers and that's the way we're thinking about it. So it is really providing a service that we do for their other asset classes for crypto currency and we've selected.

<unk> to help us with that from a from a sub custodian standpoint, and actually a number of other banks do that as well sometimes for their own customer base.

Got it and the revenue opportunity there.

High level color on that we haven't defined the revenue opportunity. It's early innings of this capability.

Capability, certainly and so.

It is really providing a full set of services to those customers.

Got it. Thank you so much for taking my questions sure.

We have a follow up question from the line of Ken <unk> with Jefferies.

Hey, Terry sorry for the follow up.

You gave us the $60 million to $70 million expected decline in PPP in the fourth quarter. I was just wondering if the first time, you've given us a number do you have the base of what it was total PPP net interest income in <unk>.

Yes, it was about $120 million.

Okay got it thank you very much.

And at this time there are no further questions I will turn the call back to the speakers for any closing remarks.

Yeah.

Maybe maybe one comment John asked me to clarify something in the transcript or when I was earlier I mentioned that the share buyback program would be deferred until second quarter actually it will be the second half of 2022 after about a quarter. After we finished the closing.

Great.

Thank you everyone for listening to our earnings call and please contact the Investor Relations Department. If you have any follow up questions.

Thank you for participating you may disconnect at this time.

Q3 2021 U.S. Bancorp Earnings Call

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