US BANCORP \DE\ - Quarter Report: 2020 June (Form 10-Q)

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule of the Exchange Act).

Table of Contents and Cross Reference Index

 

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non-banks;

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Management’s Discussion and Analysis

 

U.S. Bancorp and its subsidiaries (the “Company”) reported net income attributable to U.S. Bancorp of $689 million for the second quarter of 2020, or $0.41 per diluted common share, compared with $1.8 billion, or $1.09 per diluted common share, for the second quarter of 2019. Return on average assets and return on average common equity were 0.51 percent and 5.3 percent, respectively, for the second quarter of 2020, compared with 1.55 percent and 15.0 percent, respectively, for the second quarter of 2019. During a challenging period adversely impacted by the pandemic, the Company’s diversified business mix generated growth in net revenue and supported a provision for credit losses of $1.7 billion resulting in a $1.3 billion increase in the allowance for credit losses in the second quarter of 2020.

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Net income attributable to U.S. Bancorp for the first six months of 2020 was $1.9 billion, or $1.12 per diluted common share, compared with $3.5 billion, or $2.10 per diluted common share, for the first six months of 2019. Return on average assets and return on average common equity were 0.72 percent and 7.5 percent, respectively, for the first six months of 2020, compared with 1.52 percent and 14.7 percent, respectively, for the first six months of 2019.

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the first six months of 2020, partially offset by gains on sale of certain businesses in the first six months of 2020.

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Average total loans in the second quarter and first six months of 2020 were $28.9 billion (10.0 percent) and $20.2 billion (7.0 percent) higher, respectively, than the same periods of 2019. The increases were primarily due to higher commercial loans, reflecting the utilization of bank credit facilities by customers to support liquidity requirements as well as the impact of loans made under the Small Business Administration’s (“SBA”) Paycheck Protection Program, along with growth in residential mortgages given the lower interest rate environment. These increases were partially offset by lower credit card loans reflecting lower consumer spending during the first six months of 2020, as well as lower other retail loans.

Average investment securities in the second quarter and first six months of 2020 were $5.4 billion (4.7 percent) and $6.0 billion (5.3 percent) higher, respectively, than the same periods of 2019, primarily due to purchases of mortgage-backed securities, net of prepayments and maturities, partially offset by U.S. Treasury securities sales and maturities, net of purchases.

 

 

 

 

 The provision for credit losses was $1.7 billion for the second quarter and $2.7 billion for the first six months of 2020, representing increases of $1.4 billion and $2.0 billion, respectively, from the same periods of 2019. During 2020, the Company adopted accounting guidance which changed previous impairment recognition to a model that is based on expected losses rather than incurred losses. In March 2020 economic conditions began to deteriorate, and subsequently continued to deteriorate during the second quarter, due to the impact of the health crisis. As a result, economic projections for the Gross Domestic Product declined dramatically and unemployment levels increased significantly due to information related to the evolving impacts of the health crisis. This resulted in the Company’s expectations related to loan delinquencies, credit risk ratings, nonperforming assets and related future credit losses to reflect deteriorating credit quality. As a result, the Company recognized increases of $1.3 billion and $1.9 billion, during the second quarter and first six months of 2020, respectively, in the allowance for credit losses due to these deteriorating economic conditions. The expected loss estimates consider various factors including the changing economic conditions, potential mitigating effects of government stimulus, estimated duration of the health crisis, customer specific information impacting changes in risk ratings, projected delinquencies and the impact of industrywide loan modification efforts designed to limit long-term effects of the pandemic, among other factors. Net charge-offs increased $87 million (24.9 percent) and $113 million (15.8 percent) in the second quarter and first six months of 2020, respectively, compared with the same periods of the prior year, primarily due to higher commercial loan, commercial real estate loan and retail leasing net charge-offs, partially offset by a decrease in other retail loan net charge-offs. The increases in retail leasing charge-offs reflected the inclusion of end of term losses on residual lease values as of January 1, 2020. Refer to “Corporate Risk Profile” for further information on the provision for credit losses, net charge-offs, nonperforming assets and other factors considered by the Company in assessing the credit quality of the loan portfolio and establishing the allowance for credit losses.

 Noninterest income was $2.6 billion in the second quarter and $5.1 billion in the first six months of 2020, representing increases of $124 million (5.0 percent) and $358 million (7.5 percent), respectively, compared with the same periods of 2019. The increases from a year ago reflected higher mortgage banking revenue, commercial products revenue, trust and investment management fees and gains on sales of investment securities, partially offset by lower payment services revenue, deposit service charges and other noninterest income. Mortgage banking revenue increased due to higher mortgage production and stronger gain on sale margins, partially offset by changes in mortgage servicing rights (“MSRs”) valuations, net of hedging activities. The Company expects mortgage banking revenue to decline in the third quarter of 2020, as compared with the second quarter of 2020, reflecting slower refinancing activity for the industry. Commercial products revenue increased primarily due to higher corporate bond issuance fees and trading revenue. Trust and investment management fees were higher due to business growth and favorable market conditions over the past year. Payment services fee revenue decreased reflecting lower merchant processing services revenue, credit and debit card revenue, and corporate payment products revenue, driven by lower sales volume due to the worldwide impact of the pandemic on consumer and business spending. Payment services revenue is likely to be adversely affected through the remainder of 2020 due to reduced consumer and business spending activity. However, sales volume trends continue

 

 

 

 

to improve from the levels seen in late March and early April, and the Company expects continued gradual improvement in sales volumes throughout the remainder of the year. Deposit service charges decreased primarily due to lower volume and higher fee waivers related to customers impacted by Other noninterest income decreased due to lower equity investment income, lower investment syndication revenue and asset impairments as a result of property damage from civil unrest in the second quarter of 2020. The decrease in other noninterest income in the first six months of 2020, compared with the first six months of 2019, was partially offset by gains on sale of certain businesses in the first quarter of 2020.

 Noninterest expense was $3.3 billion in the second quarter and $6.6 billion in the first six months of 2020, representing increases of $165 million (5.2 percent) and $394 million (6.3 percent), respectively, over the same periods of 2019. The increases from a year ago were driven by incremental costs related to and revenue-related expenses due to higher mortgage production and capital markets activities of $150 million in the second quarter and $299 million in the first six months of 2020, in addition to business investments, including increased digital capabilities. The categories of expense impacted include higher personnel expense, technology and communications expense, and other noninterest expense, partially offset by lower marketing and business development expense. Compensation expense increased due to the impacts of merit increases and higher variable compensation related to business production within mortgage banking and fixed income capital markets. Technology and communications expense increased primarily due to capital expenditures supporting business growth. Other noninterest expense increased, reflecting $79 million and $179 million of expenses in the second quarter and first six months of 2020, respectively, related to and higher state franchise taxes, partially offset by lower costs related to projects in 2020. Incremental costs related to include increased liabilities driven by the Company’s exposure as a credit card processor to charge-back risk on undelivered goods and services, including prepaid airline tickets, as well as expenses related to paying premium compensation to front-line workers and providing a safe working environment for employees. The Company expects these incremental costs to begin to dissipate in the second half of 2020. Marketing and business development expense decreased due to the timing of marketing campaigns and a reduction in travel as a result of

 The provision for income taxes was $64 million (an effective rate of 8.4 percent) for the second quarter and $324 million (an effective rate of 14.7 percent) for the first six months of 2020, compared with $449 million (an effective rate of 19.7 percent) and $827 million (an effective rate of 19.0 percent) for the same periods of 2019. The reduced tax rates for 2020 were primarily a result of reduced pretax income being impacted by current economic conditions, including the higher provision for credit losses. For further information on income taxes, refer to Note 11 of the Notes to Consolidated Financial Statements.

 The Company’s loan portfolio was $310.3 billion at June 30, 2020, compared with $296.1 billion at December 31, 2019, an increase of $14.2 billion (4.8 percent). The increase was driven by higher commercial loans, commercial real estate loans and residential mortgages, partially offset by lower credit card loans and other retail loans.

Commercial loans increased $16.4 billion (15.8 percent) at June 30, 2020, compared with December 31, 2019, reflecting the utilization of bank credit facilities by customers to support liquidity

 

 

 

 

requirements as well as the impact of loans made under the SBA’s Paycheck Protection Program.

Commercial real estate loans increased $1.3 billion (3.3 percent) at June 30, 2020, compared with December 31, 2019, primarily the result of new originations, partially offset by customers paying down balances.

Residential mortgages held in the loan portfolio increased $743 million (1.1 percent) at June 30, 2020, compared with December 31, 2019, as origination activity more than offset the effect of customers paying down balances in the first six months of 2020 given the lower interest rate environment. Residential mortgages originated and placed in the Company’s loan portfolio include well-secured jumbo mortgages and branch-originated first lien home equity loans to borrowers with high credit quality.

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Other retail loans decreased $706 million (1.2 percent) at June 30, 2020, compared with December 31, 2019, the result of decreases in home equity loans, auto loans and revolving credit balances, partially offset by an increase in installment loans.

The Company generally retains portfolio loans through maturity; however, the Company’s intent may change over time based upon various factors such as ongoing asset/liability management activities, assessment of product profitability, credit risk, liquidity needs, and capital implications. If the Company’s intent or ability to hold an existing portfolio loan changes, it is transferred to loans held for sale.

 Loans held for sale, consisting primarily of residential mortgages to be sold in the secondary market, were $8.2 billion at June 30, 2020, compared with $5.6 billion at December 31, 2019. The increase in loans held for sale was principally due to a higher level of mortgage loan closings in the second quarter of 2020 given the lower interest rate environment, compared with the fourth quarter of 2019. Almost all of the residential mortgage loans the Company originates or purchases for sale follow guidelines that allow the loans to be sold into existing, highly liquid secondary markets; in particular in government agency transactions and to government-sponsored enterprises (“GSEs”).

 

investment securities totaled $128.1 billion at June 30, 2020, compared with $122.6 billion at December 31, 2019. The $5.5 billion (4.5 percent) increase was primarily due to a $3.1 billion favorable change in net unrealized gains (losses) on investment securities and $2.3 billion of net investment purchases. The Company had no outstanding investment securities classified as at June 30, 2020 and December 31, 2019.

 

$448 million at December 31, 2019. At June 30, 2020, the Company had no plans to sell securities with unrealized losses, and believes it is more likely than not that it would not be required to sell such securities before recovery of their amortized cost.

Refer to Notes 3 and 14 in the Notes to Consolidated Financial Statements for further information on investment securities.

 Total deposits were $413.3 billion at June 30, 2020, compared with $361.9 billion at December 31, 2019. The $51.4 billion (14.2 percent) increase in total deposits reflected increases in noninterest-bearing and total savings deposits, partially offset by a decrease in time deposits. Noninterest-bearing deposits increased $34.1 billion (45.2 percent) at June 30, 2020, compared with December 31, 2019, primarily due to higher Corporate and Commercial Banking, Consumer and Business Banking, and Wealth Management and Investment Services balances. Money market deposit balances increased $9.0 billion (7.5 percent) at June 30, 2020, compared with December 31, 2019, primarily due to higher Corporate and Commercial Banking, and Consumer and Business Banking balances, partially offset by a decrease in Wealth Management and Investment Services balances. Interest checking balances increased $7.6 billion (10.0 percent), while savings account balances increased $5.2 billion (11.1 percent), both driven by higher Consumer and Business Banking balances. The growth in noninterest-bearing and total savings deposits was primarily a result of the economic impact of the pandemic on the world economy resulting in actions by the federal government to increase liquidity in the financial system, customers maintaining balance sheet liquidity by utilizing existing credit facilities and government stimulus programs. Time deposits decreased $4.6 billion (10.7 percent) at June 30, 2020, compared with December 31, 2019, driven by a decrease in those deposits managed as an alternative to other funding sources, based largely on relative pricing and liquidity characteristics.

 The Company utilizes both short-term and long-term borrowings as part of its asset/liability management and funding strategies. Short-term borrowings, which include federal funds purchased, commercial paper, repurchase agreements, borrowings secured by high-grade assets and other short-term borrowings, were $20.6 billion at June 30, 2020, compared with $23.7 billion at December 31, 2019. The $3.1 billion (13.2 percent) decrease in short-term borrowings was primarily due to a decrease in short-term Federal Home Loan Bank (“FHLB”) advances and other short-term borrowings balances, partially offset by higher commercial paper, repurchase agreement and federal funds purchased balances. Long-term debt was $42.6 billion at June 30, 2020, compared with $40.2 billion at December 31, 2019. The $2.4 billion (6.0 percent) increase was primarily due to $3.3 billion of bank note and $1.5 billion of medium-term note issuances, partially offset by $3.2 billion of bank note repayments and maturities. Refer to the “Liquidity Risk Management” section for discussion of liquidity management of the Company.

Managing risks is an essential part of successfully operating a financial services company. The Company’s Board of Directors has approved a risk management framework which establishes governance and risk management requirements for all risk-taking activities. This framework includes Company and business line risk appetite statements which set boundaries for the types and amount of risk that may be undertaken in pursuing business objectives and initiatives. The Board of Directors, primarily through its Risk Management Committee, oversees performance relative to the risk management framework, risk appetite statements, and other policy requirements.

The Executive Risk Committee (“ERC”), which is chaired by the Chief Risk Officer and includes the Chief Executive Officer and other members of the executive management team, oversees execution against the risk management framework and risk appetite statements. The ERC focuses on current and emerging risks, including strategic and reputation risks, by directing timely and comprehensive actions. Senior operating committees have also been established, each responsible for overseeing a specified category of risk.

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The Company’s Board and management-level governance committees are supported by a “three lines of defense” model for establishing effective checks and balances. The first line of defense, the business lines, manages risks in conformity with established limits and policy requirements. In turn, business line leaders and their risk officers establish programs to ensure conformity with these limits and policy requirements. The second line of defense, which includes the Chief Risk Officer’s organization as well as policy and oversight activities of corporate support functions, translates risk appetite and strategy into actionable risk limits and policies. The second line of defense monitors first line of defense conformity with limits and policies, and provides reporting and escalation of emerging risks and other concerns to senior management and the Risk Management Committee of the Board of Directors. The third line of defense, internal audit, is responsible for providing the Audit Committee of the Board of Directors and senior management with independent assessment and assurance regarding the effectiveness of the Company’s governance, risk management and control processes.

Management regularly provides reports to the Risk Management Committee of the Board of Directors. The Risk Management Committee discusses with management the Company’s risk management performance, and provides a summary of key risks to the entire Board of Directors, covering the status of existing matters, areas of potential future concern and specific information on certain types of loss events. The Risk Management Committee considers quarterly reports by management assessing the Company’s performance relative to the risk appetite statements and the associated risk limits, including:

 The Company’s strategy for credit risk management includes well-defined, centralized credit policies, uniform underwriting criteria, and ongoing risk monitoring and review processes for all commercial and consumer credit exposures. In evaluating its credit risk, the Company considers changes, if any, in underwriting activities, the loan portfolio composition (including product mix and geographic, industry or customer-specific concentrations), collateral values, trends in loan performance and macroeconomic factors, such as changes in unemployment rates, gross domestic product and consumer bankruptcy filings, as well as the potential impact on customers and the domestic economy resulting from new tariffs or increases in existing tariffs, and the pandemic. The Risk Management Committee oversees the Company’s credit risk management process.

In addition, credit quality ratings as defined by the Company, are an important part of the Company’s

 

Form 10-K

The Company manages its credit risk, in part, through diversification of its loan portfolio which is achieved through limit setting by product type criteria, such as industry, and identification of credit concentrations. As part of its normal business activities, the Company offers a broad array of lending products. The Company categorizes its loan portfolio into two segments, which is the level at which it develops and documents a systematic methodology to determine the allowance for credit losses. The Company’s two loan portfolio segments are commercial lending and consumer lending.

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The Company further disaggregates its loan portfolio segments into various classes based on their underlying risk characteristics. The two classes within the commercial lending segment are commercial loans and commercial real estate loans. The three classes within the consumer lending segment are residential mortgages, credit card loans and other retail loans.

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underwriting and origination activity manages unique credit risk characteristics and prices its loan production commensurate with the differing risk profiles.

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The following tables provide summary information of residential mortgages and home equity and second mortgages by LTV and borrower type at June 30, 2020:

 

 

 

Home equity and second mortgages were $13.9 billion at June 30, 2020, compared with $15.0 billion at December 31, 2019, and included $3.6 billion of home equity lines in a first lien position and $10.3 billion of home equity and second mortgage loans and lines in a junior lien position. Loans and lines in a junior lien position at June 30, 2020, included approximately $4.0 billion of loans and lines for which the Company also serviced the related first lien loan, and approximately $6.3 billion where the Company did not service the related first lien loan. The Company was able to determine the status of the related first liens using information the Company has as the servicer of the first lien or information reported on customer credit bureau files. The Company also evaluates other indicators of credit risk for these junior lien loans and lines including delinquency, estimated average CLTV ratios and updated weighted-average credit scores in making its assessment of credit risk, related loss estimates and determining the allowance for credit losses.

 

The following table provides a summary of delinquency statistics and other credit quality indicators for the Company’s junior lien positions at June 30, 2020:

 

See the “Analysis and Determination of the Allowance for Credit Losses” section for additional information on how the Company determines the allowance for credit losses for loans in a junior lien position.

Trends in delinquency ratios are an indicator, among other considerations, of credit risk within the Company’s loan portfolios. The Company measures delinquencies, both including and excluding nonperforming loans, to enable comparability with other companies. Accruing loans 90 days or more past due totaled $556 million at June 30, 2020, compared with $605 million at December 31, 2019. These balances exclude loans purchased from Government National Mortgage Association (“GNMA”) mortgage pools whose repayments are primarily insured by the Federal Housing Administration or guaranteed by the United States Department of Veterans Affairs. Accruing loans 90 days or more past due are not included in nonperforming assets and continue to accrue interest because they are adequately secured by collateral, are in the process of collection and are reasonably expected to result in repayment or restoration to current status, or are managed in homogeneous portfolios with specified timeframes adhering to regulatory guidelines. The ratio of accruing loans 90 days or more past due to total loans was 0.18 percent at June 30, 2020, compared with 0.20 percent at December 31, 2019.

 

 

 

 

The following table provides summary delinquency information for residential mortgages, credit card and other retail loans included in the consumer lending segment:

 

 

 

In certain circumstances, the Company may modify the terms of a loan to maximize the collection of amounts due when a borrower is experiencing financial difficulties or is expected to experience difficulties in the near-term. In most cases the modification is either a concessionary reduction in interest rate, extension of the maturity date or reduction in the principal balance that would otherwise not be considered.

Concessionary modifications are classified as TDRs unless the modification results in only an insignificant delay in the payments to be received. TDRs accrue interest if the borrower complies with the revised terms and conditions and has demonstrated repayment performance at a level commensurate with the modified terms over several payment cycles, which is generally six months or greater. At June 30, 2020, performing TDRs were $3.5 billion, compared with $3.8 billion at December 31, 2019.

The Company has also implemented certain residential mortgage loan restructuring programs that may result in TDRs. The Company modifies residential mortgage loans under Federal Housing Administration, United States Department of Veterans Affairs, and its own internal programs. Under these programs, the Company offers qualifying homeowners the opportunity to permanently modify their loan and achieve more affordable monthly payments by providing loan concessions. These concessions may include adjustments to interest rates, conversion of adjustable rates to fixed rates, extensions of maturity dates or deferrals of payments, capitalization of accrued interest and/or outstanding advances, or in limited situations, partial forgiveness of loan principal. In most instances, participation in residential mortgage loan restructuring

 

programs requires the customer to complete a short-term trial period. A permanent loan modification is contingent on the customer successfully completing the trial period arrangement, and the loan documents are not modified until that time. The Company reports loans in a trial period arrangement as TDRs and continues to report them as TDRs after the trial period.

Credit card and other retail loan TDRs are generally part of distinct restructuring programs providing customers modification solutions over a specified time period, generally up to 60 months.

In accordance with regulatory guidance, the Company considers secured consumer loans that have had debt discharged through bankruptcy where the borrower has not reaffirmed the debt to be TDRs. If the loan amount exceeds the collateral value, the loan is charged down to collateral value and the remaining amount is reported as nonperforming.

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The following table provides a summary of TDRs by loan class, including the delinquency status for TDRs that continue to accrue interest and TDRs included in nonperforming assets:

 

 

 

		Percentage of Loan Accounts in Payment Relief Programs				Percentage of Loan Balances in Payment Relief Programs				Program Details
Commercial			1.07	%			2.86	%		Primarily 3 month payment deferral up to a maximum of 6 months; interest continues to accrue with various payment options; may include short-term covenant waivers
Commercial real estate			7.28				13.13			Primarily 3 month payment deferral up to a maximum of 6 months; interest continues to accrue with various payment options; may include short-term covenant waivers
Residential mortgages (a)			7.45				9.50			Primarily 6 month payment forbearance, which may be extended up to 12 months; interest continues to accrue; cumulative payments suspended during forbearance period are either paid-off immediately or under a short-term repayment plan, or addressed through a permanent loan modification that either requires repayment at maturity or through restructured payments over time
Credit cards			.35				.81			Primarily 3 month payment deferral; interest continues to accrue
Other retail			1.96				3.05			Home equity loan programs are similar to residential mortgage programs; programs for other loan portfolios are primarily 2 month payment deferral up to a maximum of 4 months; interest continues to accrue
Total loans			.97	%			5.64	%

(a)

Includes loans purchased from GNMA mortgage pools, whose repayments are primarily insured by the Federal Housing Administration or guaranteed by the United States Department of Veterans Affairs, representing 30.74 percent of the total number of accounts and 35.79 percent of the total loan balances of loans purchased from GNMA mortgage pools at June 30, 2020.

The level of nonperforming assets represents another indicator of the potential for future credit losses. Nonperforming assets include nonaccrual loans, restructured loans not performing in accordance with modified terms and not accruing interest, restructured loans that have not met the performance period required to return to accrual status, other real estate owned (“OREO”) and other nonperforming assets owned by the Company. Interest payments collected from assets on nonaccrual status are generally applied against the principal balance and not recorded as income. However, interest income may be recognized for interest payments if the remaining carrying amount of the loan is believed to be collectible.

At June 30, 2020, total nonperforming assets were $1.2 billion, compared to $829 million at December 31, 2019. The $344 million (41.5 percent) increase in nonperforming assets was driven by increases in nonperforming commercial and commercial real estate loans. The ratio of total nonperforming assets to total loans and other real estate was 0.38 percent at June 30, 2020, compared with 0.28 percent at December 31, 2019. The Company expects nonperforming assets to increase given current economic conditions.

OREO was $52 million at June 30, 2020, compared with $78 million at December 31, 2019, and was related to foreclosed properties that previously secured loan balances. These balances exclude foreclosed GNMA loans whose repayments are primarily insured by the Federal Housing Administration or guaranteed by the United States Department of Veterans Affairs.

 

The following table provides an analysis of OREO, as a percent of their related loan balances, including geographical location detail for residential (residential mortgage, home equity and second mortgage) and commercial (commercial and commercial real estate) loan balances: