US Bancorp Profit Hit by Provision Increases

US Bancorp fourth-quarter earnings declined year over year, but the company has remained profitable while staying ahead of its credit-related losses.
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Updated from 12:30 p.m. EST

Shares of

US Bancorp

(USB) - Get Report

fell as much as 23% Wednesday after the company announced a sharp decline in fourth-quarter earnings and failed to quell jumpy investors' concerns about its future revenues and capital ratios.

The Minneapolis-based bank holding company on Wednesday posted net income of $330 million, or 15 cents a share, down from $942 million, or 53 cents a share, in the year-ago quarter. For the third quarter, the company earned $576 million, or 32 cents a share.

The fourth-quarter results were hampered by one-time items, including a loss of 9 cents a share in securities and market-valuation losses. In addition, credit-loss provisions outside net charge-offs equivalent to 25 cents a share. Analysts surveyed by Thomson Reuters were expecting fourth-quarter earnings of 22 cents a share.

For the year, the company said it earned $2.95 billion, or $1.61 a share, down 34% from $4.32 billion, or $2.43 a share, in 2007.

Although credit costs were providing a drag on results, US Bancorp's provisions for losses on its credit portfolio were adequate. The cushion exceeded net charge-offs by $635 million, the same amount as its fourth-quarter loan losses. The company also increased its ratio of loan-loss provisions to loans at the end of the quarter to 2%, vs. 1.7% at the end of the third quarter.

"We intend to maintain the strength of our balance sheet throughout this credit cycle and beyond, and will rely on our solid, core operating earnings to absorb the higher, but manageable, credit-related costs that we expect in 2009," said Chairman and CEO Richard K. Davis in a statement. Davis also said that higher credit costs were in line with guidance the company had offered in December.

Despite Davis' assurances, some analysts expressed concern about the company's lower-than-expected fee revenues. The company cited a decline in transaction volumes and a tough economy as a source of the results.

"Weaker fees and higher expenses than we thought will likely weigh on our existing EPS expectations," Sandler O'Neill managing director Scott Siefers wrote in a research note.

Worries about the company's ratio of tangible common equity to assets also took the luster out of the company's results. "With common dividends likely to cost $3

billion in 2009 and TARP preferred dividends another

$300 million, it's unclear to us how

US Bancorp will build capital, even though we expect

US Bancorp to be one of the few banks to report positive EPS in '09," wrote UBS analyst Matthew O'Connor.

O'Connor also said that US Bancorp's capital levels are "a bit low," but company executives gave little indication they planned to raise money.

"We don't have any projected view of needing any additional capital or any government assistance in virtually any combination of outcomes," Davis said on a conference call with analysts.

O'Connor's skepticism, as well as the decline in US Bancorp's shares, are reflective of a wider tendency for investors to look askance at earnings reports from the banking sector.

Ladenburg Thalmann analyst Richard Bove wrote in a note that following the government-induced mergers of

Wachovia

(bought by

Wells Fargo

(WFC) - Get Report

) and

Washington Mutual

(bought by

JPMorgan Chase

(JPM) - Get Report

), investors are fearful even of banks that appear well-capitalized.

"What better reason to reject anything that a bank says or produces when two of the nation's top seven banks are driven out of business," wrote Bove, referring to a tendency to rely on tangible common equity, adjusted for assumed losses, in valuing stocks. "Lacking any guidepost as to what a bank is worth, investors have created their own," he said. "The result has been total chaos and people start thinking the banking industry needs to be nationalized."

Beyond worries about fee-related incomes and equity-to-asset ratios, there were indications that US Bancorp faced additional consumer-related headwinds. On a conference call with analysts, management said that it expects unemployment to reach 8% by the end of 2009. It said that additional rises unemployment would have a greater impact on its consumer credit portfolio going forward, as higher-quality borrowers begin to lose their jobs.

Net-interest income grew 23% year over year. Loans and deposits also improved. USBancorp cited customer "flight to quality" from less-capitalized banks as a reason for the improvement. It registered average year-over-year loan growth of 17%, and deposit growth of 15%.

US Bancorp has issued $6.6 billion in preferred stock to the government through the Treasury Department's Troubled Assets Relief Program. It also bought assets and liabilities of both

Downey Savings and Loan

and

PFF Bank and Trust

on Nov. 21, entering into a loss-sharing agreement with the Federal Deposit Insurance Corp. on assets tied to the acquisitions. The company said it expects, after the first $1.6 billion in losses it is responsible for covering, to incur 20% of the next $3.1 billion in losses and only 5% of losses beyond that limit.

Thanks to the Downey and PFF acquisitions, US Bancorp added 213 branches, expanding the company's presence in southern California.

However, nonperforming assets also increased to $2.62 billion at the end of the fourth quarter, vs. $1.49 billion at the end of the third quarter, in part because of the mergers. US Bancorp said that it included in this increase $643 million in assets covered by its loss-sharing agreement with the FDIC.

"There is a minimal amount of potential loss given the terms of the agreement with the FDIC," said Davis on the conference call.

US Bancorp's apparently low-risk acquisitions stand in contrast with other major deals banks have struck recently for troubled peers.

PNC Financial Services

on Wednesday warned shareholders that it would post a loss resulting in part from the acquisition of

National City

.

On Jan. 16,

Bank of America

(BAC) - Get Report

posted a fourth-quarter loss and secured a second government investment through TARP to help it absorb its Jan. 1 purchase of brokerage

Merrill Lynch

. The government also agreed to backstop some $118 billion in losses related to the Merrill deal.

Shares of US Bancorp, which rose more than 7% earlier Wednesday, were down 8.3% at $14.07 in recent trading.