Welcome to U.S. Bancorp's fourth quarter 2021 earnings conference call. Following a review of the results by Andy Cecere, 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 would like to ask a question, please press star one on your touchtone phone and press the pound key to withdraw. This call will be recorded and available for replay beginning today at 11:00 A.M. Central Time through Wednesday, January 26th, 2022 at 10:59 P.M. Central Time. I will now turn the conference call over to Jen Thompson, Director of Investor Relations and Economic Analysis for U.S. Bancorp.
Thank you, Natalia, and good morning, everyone. With me today are Andy Cecere, 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 copy of the slide presentation, as well as our earnings release and supplemental analyst schedules are available on our website at usbank.com. I would like to remind you that any forward-looking statements made during today's call are subject to risk and uncertainty. Factors that could materially change our current forward-looking assumptions are described on page two of today's presentation, in our press release, and in our Form 10-K and subsequent reports on file with the SEC. I'll now turn the call over to Andy.
Thanks, Jen. Good morning, everyone, and thank you for joining our call. Following our prepared remarks, Terry and I will take any questions you have. I'll begin on slide three. In the fourth quarter, we reported earnings per share of $1.70 and generated total revenue of $5.7 billion. We saw strong balance sheet growth this quarter, including deposit growth of over $18 billion or 4.3% compared with the third quarter. Average loans grew by 2% linked quarter or 2.7%, excluding the impact of loan forgiveness related to PPP. We are encouraged by the loan growth momentum, and we have a positive outlook for 2022, given improving client sentiment and business conditions and continued strength in certain focused commercial portfolios such as ABS lending and supply chain financing.
The significant increase in liquidity provided by the strong deposit inflows this quarter puts us in a favorable position to support future balance sheet growth. Deposit growth provided the opportunity for tactical investment and cash management strategies that pressured the net interest margin for the fourth quarter but was both accretive to net interest income and maintained asset sensitivity for our rising rate environment. Turning to fees. Underlying client acquisition and market share trends across our business lines were healthy and payment sales trends continued to improve on a year-over-year basis. This quarter, we released $145 million in loan loss reserves, reflecting continued strong credit quality, including a record low net charge-off ratio. In the lower right quadrant, you can see that our book value per share totaled $32.71 at December 31, which was 1.5% higher than September 30.
Our CET1 capital ratio was 10% at the 31st. Slide four provides key performance metrics. Slide five highlights trends in digital engagement. Digital transactions now account for over 80% of total transactions, and digital loan sales account for 2/3 of total loan sales. Turning to slide six, we continue to believe our initiatives aimed at connecting our banking customers with our payment products and our services and our payments customers with our banking products and services will allow us to grow our small business relationships by 15%-20% and related revenue by 25%-30% over the next few years. Now let me turn the call over to Terry to provide more detail on the quarter.
Thanks, Andy. If you turn to slide seven, I'll start with a balance sheet review, followed by a discussion of fourth quarter earnings trends. Average loans increased 2.0% compared to the third quarter, driven by a 2.6% increase in commercial loans, which benefited from new business activity and improved utilization rates. Retail loan growth was driven primarily by higher credit card balances, growth in residential mortgages, and strong production of installment loans, including auto lending. At December 31, PPP loan balances totaled $1.4 billion compared to $2.4 billion at September 30. Excluding PPP loans, fourth quarter average loans grew by 2.7% on a linked quarter basis. Turning to slide eight, total average deposits increased by $18.4 billion or 4.3% compared with the third quarter.
We continued to see a favorable mix shift with average non-interest-bearing deposits increasing by 5.4% and average savings deposits increasing by 4.4%, while higher cost time deposits declined by 3.0%. Slide nine shows credit quality trends. The ratio of non-performing assets to loans and other real estate was 0.28% at December 31, compared with 0.32% at September 30 and 0.44% a year ago. Our fourth quarter net charge-off ratio of 0.17% improved on both a linked quarter and year-over-year basis. Borrower liquidity and stronger asset valuations continued to support repayment and recovery of problem loans. Our reserve release was $145 million this quarter, primarily reflecting strong credit quality metrics.
Our allowance for credit losses as of September 30 totaled $6.2 billion or 1.97% of loans. Slide 10 provides an earnings summary. In the fourth quarter of 2021, we earned $7 per diluted share. These results included a reserve release of $145 million. Turning to slide 11. Net interest income on a fully taxable equivalent basis of $3.2 billion came in a little higher than our expectations. The $47 million decrease compared with the third quarter was driven by a $82 million decline in PPP interest and fees, partially offset by earning asset growth. Our net interest margin declined by 13 basis points on a linked quarter basis to 2.40%.
The net interest margin decline was related to a six basis points impact from lower PPP loan interest and fees, and a six basis points impact from elevated liquidity and related investment portfolio and cash management strategies aimed at optimizing our asset sensitivity going into 2022. Slide 12 highlights trends in non-interest income. Compared with a year ago, non-interest income declined by 0.6% as strong growth in payments revenue, trust and investment management fees, deposit service charges, and commercial product revenue was more than offset by a decrease in mortgage revenue, reflecting the interest rate environment and lower securities gains and other fee revenue. On a linked quarter basis, non-interest income declined by 5.9%, primarily reflecting seasonally lower payments and capital markets revenues and declining mortgage banking revenue as expected.
Slide 13 provides information on our payment services businesses. Sales volumes in each of our three businesses exceeded pre-pandemic levels in the fourth quarter, despite some Omicron-related softness in late December. We expect year-over-year payments momentum to continue into 2022, as lagging sectors such as airline hospitality and corporate T&E benefit from a continuous cyclical recovery toward pre-pandemic levels, and as our multi-year investments in e-commerce and tech lead drive secular growth improvements. As we saw in our earnings press release this morning, effective January 3, U.S. Bank has eliminated fees for certain non-sufficient funds. We believe this is not only the right thing to do for customers, but it is a smart business decision.
For some time, we have been at the forefront of using digital technology to help our customers avoid overdraft charges, and our efforts have helped our customers more easily and effectively manage their money, which has contributed to increased customer satisfaction. This latest move is simply the next step in the process. Turning to slide 14. Non-interest expense increased by $104 million or 3.0% compared with the third quarter. This increase was driven by higher medical claims within employee benefit expense and higher professional services expenses, higher marketing and business development costs. Tax credit amortization expense was also higher in the fourth quarter, in line with typical seasonal trends. Slide 15 highlights our capital position.
Our common equity tier 1 capital ratio at December 31 was 10.0%, which decreased slightly compared with September 30, driven by risk-weighted asset growth and the impact of acquisitions completed near the end of the quarter. As a reminder, at the beginning of the third quarter, we suspended our share buyback program due to our recent announcement that we have agreed to acquire Union Bank. We continue to expect that our share repurchase program will be deferred until the second half of 2022. After the closing of the acquisition, we expect to operate at a CET1 capital ratio between our target ratio and 9.0%. I will now provide some forward-looking guidance.
We expect both net interest income on a taxable equivalent basis, as well as our net interest margin to be relatively stable on a linked quarter basis, with growth expected in subsequent quarters. Under our base case scenario, which incorporates three rate hikes, we expect full year 2022 net interest income on a taxable equivalent basis to increase at a mid-single digit pace. We expect mortgage revenue to be slightly lower in the first quarter on a linked quarter basis, in line with slower refinancing activity in the market. Payments revenue is seasonally lower in the first quarter. On a year-over-year basis, we expect total revenue to increase at a high single digit pace driven by double-digit growth in both merchant processing revenue and corporate payments revenue.
We expect credit card revenue to be stable on a year-over-year basis as high single digit growth in credit and debit card fees is offset by lower prepaid processing fees. Excluding the prepaid headwind, which will abate after the first quarter, we expect total payment revenue to increase at a low-teen rate on a year-over-year basis in the first quarter. We expect other revenue to approximate $125 million-$150 million per quarter over the course of 2022. We expect expenses to be relatively stable in the first quarter compared with the fourth quarter. Credit quality remains strong.
Over the next few quarters, we expect the net charge-off ratio to remain lower than historical levels, but will normalize over time as the effects of the pandemic continue to subside. For the full year of 2022, we expect our taxable equivalent tax rate to be approximately 21.0%. I will hand it back to Andy for closing comments.
Thanks, Terry. Fourth quarter results were in line with our expectations, and we are starting off the year with momentum building across our lending and fee businesses. We feel good about the trajectory of loan growth and are well positioned to benefit from a rising rate environment. We expect client acquisition growth and account penetration to drive market share gains across our fee businesses. In particular, we believe 2022 will be another good year for our payments business. Due to the Omicron surge, year-over-year sales growth has slowed somewhat in the past few weeks from the exceptionally strong pace we saw in the second half of 2021. However, growth rates remain strong, and we believe this will likely prove to be a speed bump rather than an extended slowdown. Nonetheless, the situation is fluid, and we'll continue to monitor trends closely and update you along the way.
Our investments in technology to support our digital transformation and payments ecosystem initiatives are paying off, and we continue to look for uses of capital that will drive higher returns. In the fourth quarter, we acquired TravelBank, a fintech that provides tech-driven expense and travel management solutions to help businesses manage their operations more efficiently. Also, in the fourth quarter, we closed on the acquisition of PFM Asset Management, which not only increased our assets under management but has enhanced our position in a niche area within the money market world. We are looking forward to closing our previously announced acquisition of Union Bank later this year.
The addition of Union Bank will increase our scale, improve our market share in a demographically attractive market, and add over one million consumer clients and over 190,000 business banking customers to whom we can offer our leading digital capabilities and our expansive product set. The strategic and financial benefits of this combination will accrue to shareholders over many years. The numbers only tell part of the U.S. Bank story. As we start a new year, I want to emphasize that how we do things will continue to be as important as what we do. In closing, I'd like to thank our employees who come in every day with the goal of doing the right thing for our customers, our communities, their fellow employees, and our constituents.
Thank you for helping to make 2021 a successful year and positioning us well for the future. We will now open up the call to Q&A.
Ladies and gentlemen, at this time, please press star followed by the number one on your telephone keypad. Again, that's star one. To withdraw your question, press the pound key. We will pause for just a moment to compile the Q&A roster. Your first question is on the line of Scott Siefers with Piper Sandler.
Morning, everybody. Thank you for taking the question.
Morning, Scott.
Hey.
Let's see. Maybe, Terry, I was hoping you could please discuss in just a bit more detail your updated thoughts on rate sensitivity, given some of the changes in the balance sheet in the fourth quarter?
Yeah. You know, we had the opportunity because the deposit flows to be able to both invest in investment securities to help a little bit in terms of the fourth quarter. We also at the same time utilize hedging strategies to keep the duration of that of those purchases relatively short. You know the expectation, Scott, is that you know when long-term rates rise, which we're starting to see now, that we're gonna be able to unwind those swaps and to be able to take advantage of the rising rate environment. We did all of that fundamentally to be able to maintain as much asset sensitivity going into 2022 as we possibly could.
Perfect. Okay, good. Thank you. Perhaps either for Andy or Terry, maybe just a thought or comment regarding the anticipated kind of composition of loan growth through 2022. You know, certainly sounds like a constructive outlook, but maybe just kind of commercial versus consumer as you see it.
Yeah. Maybe I'll just kind of start with fourth quarter. You know, one of the things we saw in the fourth quarter, not only strong consumer continuing, but the C&I portfolio actually starting to expand very nicely. We talked a little bit about that. You know, as we look into 2022, you know, we continue to expect that consumer credit is gonna continue to strengthen. You know, auto lending may be a little bit more moderate than it was in 2022, but I think credit card continues to be very strong as payment rates come down. Then we also would expect that the residential mortgage portfolio loans would be growing.
I think the real story is that we're now starting to see a nice shift with respect to the commercial, the C&I portfolios. You know, we're continuing to see growth in certain segments like asset-backed securitization lending, some of those sorts of things that we saw earlier in the year. At the end of the fourth quarter, you know, we saw nice expansion of utilization rates. I think it was like 60 basis points on average, third versus fourth quarter, but in December, it was up almost 2.5%. You know, we would expect to kind of see that.
I think the other thing I would say is that sentiment on the commercial side, you know, people are rebuilding their inventories. I think from a supply chain perspective, they still have some concerns about that. I think that they're being, you know, cautious about making sure that they have inventory to be able to run their business. I think they're starting to make business investment ahead of the consumer spend that they see and the economic growth that they see in 2022. Andy, what would you add?
Terry, I think you hit the high points. You know, two changes in trends in the fourth quarter that look positive going into 2022, Scott. Number one, as Terry mentioned, the increase in utilization rates, which we haven't seen for a number of quarters. Secondly is the start of the decline in payment rates, which helps credit card volume. Those are two positives I call out as well.
Perfect. All right. Thank you very much.
Your next question is from the line of Gerard Cassidy with RBC.
Good morning, Gerard.
Good morning.
Good morning, Terry. Good morning, Andy. Andy, coming back to the big transaction that obviously you guys are doing, you touched on all the benefits that Union Bank will bring to the table to you as Bancorp. Can you share with us what the update is on the regulatory approval process? There's a lot of obvious uncertainty in Washington today at the Fed and other regulatory agencies with the heads, new heads coming in over time. Maybe an update of could this be delayed? What is the risk of it just being delayed, getting the approval?
Yeah. Thanks, Gerard. We submitted our application in early October. We've been working with Union Bank, and we have a number of acquisition teams both on our side as well as the Union Bank side working on integration activities, including technology and as well as the business lines. We've been responding and working with the regulators in terms of questions on the submission, which is normal course for this process. We continue to believe that this will close in the first half. It may be later in the first half, but that's our continued belief with a conversion in the late third quarter or September, October timeframe. Nothing to have us believe that it would be any different from that. We're preparing for that timeframe.
Very good. Thank you.
Sure.
Obviously, there's a lot of discussion on your call and other calls about asset sensitivity and what the outlook is for this year. Pivoting for a moment, I'm kind of looking at what we're all gonna be talking about on the fourth quarter call for 2022 in January of 2023. I get a sense it might be more about credit than it is today. You guys have stood out as being some of the best underwriters in the industry. Can you share with us what are you seeing out there in terms of underwriting from your competitors? Are people getting more aggressive to generate revenue, loan growth? Or no, everybody's still pretty conservative?
Yeah. You know, Gerard, I think that the way I would kind of describe it, you know, from our perspective, we haven't changed our credit box really at all. We really try to underwrite through the cycle. I think that there has been a lot of competition in the industry for loan growth over the last 12 months. As you know, you know, when the cycle turns, you know, it's the decisions you made today that are gonna end up impacting you know, two or three years down the road. I do think that, you know, credit normalizes as we go through the year.
I don't know if we quite get back to where we were, you know, pre-pandemic, but, you know, I think that it will start to migrate in that direction. You know, I would say that, you know, if there is loosening from an underwriting perspective, maybe stretching a little bit more with respect to structure. You know, but it has been competitive both from an underwriting perspective as well as from a pricing perspective out there.
Just to follow up on that quickly, Terry. How about exceptions? Are you seeing more exceptions to the credit underwriting box to get deals done?
Again, from our perspective, we really haven't changed our approach at all. You know, again, I think from a competitive standpoint, you know, again, they're focused on being as competitive as they possibly can in terms of underwriting and their structures and their pricing. From our perspective, we haven't really changed our approach.
As always, thank you. Appreciate the color.
Thanks, Gerard.
Your next question is from the line of John McDonald with Autonomous Research.
Morning, John.
Hi. Good morning, guys. Andy, maybe from a high level perspective, you might not wanna give specific guidance, but just kind of your thoughts about the revenue and expense dynamics that you're looking at heading into 2022. Maybe some thoughts on the revenue headwinds and tailwinds that you're looking at and how you plan on managing inflation on the expense base. You know, just kind of overall, how does operating leverage feel as a goal for this year?
Sure, John. You know, Terry gave a little guidance on net interest income for the year, but I will talk about the full balance sheet and income statement. We continue to expect mid-single digit earning asset growth for the year. That loan momentum that we talked about looks positive going into 2022. We would expect revenue growth of 3%-4%, John, on a full year basis, as well as positive operating leverage of at least 100 basis points for 2022.
Got it. On the, maybe just a question on the NII guide, Terry. You mentioned three hikes. Just what's the cadence of what you've built in on that? Is there any rule of thumb for what one Fed hike of 25 basis points does to the NIM or NII, everything else equal? That might be helpful for us. Thanks.
Yeah. So, you know, our base case, as we said, bakes in three rate hikes really starting in the second quarter and then, you know, kind of, as you might expect through the rest of the year. If you go back to our, just our disclosures at the end of third quarter, it really hasn't changed a lot. You know, a 50 basis points shock is about 3.5%, from a net interest income standpoint. So that, I would kind of refer you back to that. If you think about, you know, three rate hikes, kind of on that pace, you're probably talking about the equivalency of about a 35 basis points shock. You know, so if you're kind of doing the math, you can kind of go to that.
Terry, all those numbers are the impacts of net interest income. In addition, we have our waivers, which total about $70 million a quarter, John. You get about two-thirds of that back at the first rate hike at 25 basis points and about 90% of it back at the second rate hike.
Okay. Got it. Thank you.
Sure.
Your next question is from the line of Betsy Graseck with Morgan Stanley.
Hi, good morning.
Hey, Betsy.
Morning, Betsy.
Hey, a couple of questions. Just on the guide, a couple of cleanups. The NII mid-single digit pace, is that a Q1Q from 1Q or that's a full year 2022 versus full year 2021 excluding Union Bank?
Everything is excluding Union Bank, and it's the guidance that we're giving for 2022.
Right. That's full versus full year 2021.
Full year versus full year. Yeah.
Right. Okay. All right. Just want to make sure. When I'm thinking about the positive operating leverage of, you know, at least 100 basis points, that's obviously a nice uptick from what you've been doing recently over the past couple of years, I guess. Can you kind of highlight, is this a function of, you know, the rate environment being better primarily, or is it also from some of the investment spend that you've been making that you are leveraging and, you know, basically able to switch on the optimization side of the investment spend?
Yeah, Betsy, I would say it's kind of a combination of both. I mean, the improving revenue environment certainly helps that. You know, we have been, as you say, making some significant investment in digital capabilities. You know, as that investment matures, you know, we kind of fully expect that we would see some operating efficiencies on the expense side. You know, we have been working through tech modernization, which, you know, that helps us. You know, we're always looking for kind of from a continuous improvement point of view, you know, trying to optimize, you know, the branch network as well as our operations. I think it's a combination of both.
Okay. On the investment spend side, there'll be some in integrating Union Bank, of course. But beyond that, you know, where would you be targeting investment dollars from here?
You know, I think that you know, when we think about our technology investment, you know, continuing to have investment in our mortgage business and our digital mobile app capabilities, but a strong focus on real-time payments, money movement, and on the whole B2B side of the equation is gonna be important. Then, of course, we've been talking about the ecosystem between our payments business and our business banking, and so we'll continue to make investment there. You know, I think it's kind of a continuation of many of the same themes that we've had over the last year. You know, we, on a core basis, we really don't expect any significant increase in the investment levels, but we continue to expect that we will maintain those investment levels going forward.
Got it. Okay, thanks for the color on that.
Thanks, Betsy.
Your next question is from the line of Ken Usdin with Jefferies.
Hi, good morning, guys.
Morning, Ken.
A couple NII cleanups, please. You mentioned that PPP was an $80 million decline, which I think was bigger than what you had anticipated previously at $60 million-$70 million. I'm just wondering what kind of PPP decline do you still have in that first quarter outlook for NII flat sequentially?
Yeah. I mean, the decline from third to fourth quarter was the most significant. It was a little bit higher than what we had expected. Part of that is because some of what we had expected to occur in 2022 actually kind of got pulled forward into the fourth quarter. You know, currently in our baseline or our expectation is that there will be a very immaterial decline in PPP going from fourth to first. It's about $15 million-$16 million, so it's pretty insignificant.
Okay. Is that the last kind of meaningful step down from there? Is it pretty much wind down from there? Just trying to get to, like, that baseline where we can, you know, move past the PPP.
We look at 2022 as being past PPP in all respects. Yes, I would agree that the first quarter is probably the last step down that we have. Again, it's not really significant, and it's incorporated into our guidance.
Yep. Okay. Second question. You obviously did decide to buy securities. It's like $30-something billion. The yield on the book went down a little bit. I was just wondering if you can help us understand the prepayment and delta and also just, you know, where you're buying versus runoff, front book, back book at this point. Thanks.
Yeah. You're right. We did step up the investment portfolio a lot. It has to do with what I talked about earlier in that deployment of excess cash. You know, we made that deployment in the fourth quarter. You know, while we did it in treasuries, we swapped it short. You know, that is why you see net interest margin coming down as well as the yields related to the investment portfolio coming down. But we also did that because we want maximum flexibility as long-term rates start to rise. You know, we would expect to kind of unwind that, you know, the benefit coming through in 2022. That's kind of how we're positioning it in terms of the overall investment portfolio. The vast majority of it was shorter term, and with the hedging strategies.
Just to follow up on that. So when you say you unwind it, do you mean that you're at the right size now, or you'd rather see it go into loans? Meaning like, how do you think about the mix of the balance sheet and earning asset mix as you look further ahead?
Yeah. As we go forward, I would expect that our investment portfolio will be relatively flat to fourth quarter levels. That's kind of our expectation. The vast majority of earning asset growth is more on the loan side than it is in other areas.
Okay. Understood. Thank you.
Mm-hmm.
Your next question is from the line of John Pancari with Evercore.
Hi, John.
Morning.
Hey, John.
Morning. Just on the loan growth front, I heard the color you gave in terms of some of the drivers you saw in the quarter on the commercial side, et cetera. The end-of-period balances came in a fair amount above average. Is that a good indicator as we model out? Separately, anything you can attribute aside from just the continued macro strengthening to the notable strength you saw in end-of-period growth this quarter? I mean, it's better than a lot of your peer banks. Any calling efforts or pricing campaign or anything else to call out on that front? Thanks.
Yeah. You're right, John, we did see some pretty significant growth in terms of end-of-period balances. I think that sets us up well with respect to 2022. You know, one of the things that's a little bit hard, you know, because you have LIBOR transition and everything else happening, you know, we don't know whether or not, you know, some of that is just people pulling forward LIBOR a little bit into 2021. You know, when we talk to our customers, I guess, you know, the thing that we see is that, you know, the underlying momentum, the underlying sentiment is pretty strong.
You know, they're actively out building their inventories again, you know, and all those sorts of things, I think is you know, when we think about kind of our baseline growth going into 2022, why we're pretty optimistic. You are right, the end-of-period balance growth was pretty significant for us. It wasn't because of any you know, one specific thing that we were doing. It was pretty broad-based across segments, across categories and you know, across geographies.
Got it. Thanks, Terry. That's helpful. Separately on the payment side, just higher level, given the, you know, clearly intensely competitive payments backdrop, I wanna see if you can kind of elaborate on U.S. Bancorp's value proposition in the payments business as we continue to get this macro reopening or strengthening. As T&E spend rebounds as you've been flagging, how would you characterize your positioning in terms of a value proposition for customers? Thanks.
Yeah, John. We've talked about the fact that we're trying to really weave together our banking products with our payment products and a comprehensive product set to help businesses, business banking customers basically manage the way they're running their cash flows and their business on a day-to-day basis. That's our value proposition is that combination of payments and banking in easy-to-use dashboard information to help them run their businesses and manage their cash flows on a day-to-day basis. That's consistent with the TravelBank acquisition that we made in the third quarter and other acquisitions, Bento and others that we made earlier in the year. That's the objective. We'll continue to focus on that. I would highlight the simplicity component of that, the navigation.
The simplicity of use is a real key to that on a go-forward basis.
Got it. All right. Thanks. One follow-up to that, Andy, just regarding that strategy. Do you think you need bolt-on deals, or anything on the fintech side to continue to effect that strategy or do you think you have what you need?
You know, I think we have made a lot of investment both organic as well as acquisition in this capability. We're gonna continue to focus on it, as Terry mentioned, but I think we have most of what we need. We just continue to model or refine the capabilities and simplify the offering.
Got it. Thanks, Andy.
Sure.
Your next question is from the line of Bill Carcache with Wolfe Research.
Morning, Bill.
Morning, Bill.
Good morning, Andy and Terry. I wanted to follow up on slide six. Within your business banking relationship at the left, there was a modest increase in the number of customers that are now also payments customers from last quarter. Can you frame for us what the revenue benefit is of seeing that light blue region continue to grow over time? You know, how high can that 28% go?
Well, again, we think that we can get additional movement on both of those charts, more banking customers using payments capabilities and more banking using payments. We talked about the number of customers. The revenue in that total bucket is about $1.5 billion as we think about the penetration. That's the base we're working with.
Understood. Then maybe separately, can you give a little bit of color on the process for converting some of those business banking customers, you know, the business banking only customers in that dark blue region, to also be users of your payment products? Just curious what the receptivity is so far.
Yeah, it's-
Have you come across any pushback from customers who may already be using alternative payment solutions, or has the customer base been broadly receptive?
You know, I would say that it's early innings, Bill, let me start there. I think the fundamental offering, which is a simple, easy-to-use combination of banking and payments products in one simple dashboard to help them manage their cash flows is a receptive thought from a business standpoint. That's really what we're focused on. Again, many of the customers have a banking product or a payments products, but it's weaving it together for that offering that we're focused on. The receptivity of that has been pretty strong.
Got it. Lastly, if I could squeeze in one final one. On the increase in expenses, you know, attributable to compensation and employee benefits, can you parse out for us how much of that was a function of greater production versus inflationary pressures? You know, how much of that upward pressure you'd expect to persist?
Yeah. You know, I mean, certainly what we ended up seeing, for example, in the capital markets business, it was stronger. Some of it is related to production incentives. You know, a fair amount of it in the fourth quarter is also related to performance-based incentives that are driven by the overall performance of the company. You know, we certainly did see that. You know, I would say, and maybe Andy, you want to comment as well, you know, certainly there is a lot of competition for talent that's out there.
I think the pressure is, especially when you're looking for, you know, high-skilled areas in technology and development and payments, and/or digital sorta space, you know, if you're in the hiring mode, you're paying top dollar in order to be able to acquire that. You know, that competition for talent is certainly, you know, increasing and out there.
I think that's right, Terry. Sometimes it takes a little longer and sometimes it's a little bit more expensive, but that's all been incorporated into the guidance that we offered for 2022. Then as a reminder, you know, we the other area that is challenging in this environment is entry-level employees on the branch side. We get the benefit of having Union Bank combine with us this year, which I think is a positive. As we talked about, we're committing to frontline employees on the branch side to employment. In this environment, that's a positive.
Very helpful. Thank you for taking my questions, Andy and Terry.
Sure.
Mm-hmm.
Your next question is from the line of David Long with Raymond James.
Good morning, everyone.
Hey, David.
David.
The last remaining question I have is related to your reserve level. If you look back pre-pandemic, I think you guys are targeting close to 2% in reserves. You're below that now, just below that. What is the right CECL level of reserves for U.S. Bancorp here? Within your current reserves, on the qualitative side, how much do you have built in for you know, maybe Omicron or the pandemic still as part of that?
Yeah. David, I mean, probably the way I would describe the last one is, you know, we still certainly believe that there's some level of uncertainty that's out there in the economy. We take that into consideration when we go through the different scenarios that we kind of model out. Maybe kind of coming back to your first question, you know, what is the right level? I mean, obviously that's gonna end up impacting, you know, based upon economic outlook and what happens with respect to credit quality. What I would say, and you're right, we started, you know, the pre-pandemic or at the adoption of CECL at about 2%.
When you end up looking at the mix of the portfolio and how it's shifted, we're kind of right at, you know, we're right at kind of the level that we had started with, I guess, is the way I would describe it. You know, from a reserving point of view, I would just kind of keep in mind from, in terms of CECL, you have to provide for low growth on day one. You know, as loan portfolio start to grow across the industry, I think that dynamic of reserve release will probably change a bit, going into 2022. Again, all of that's been kind of taken into consideration when we're thinking about, you know, our baseline forecast for 2022.
Got it. Thank you. I appreciate the color.
Mm-hmm.
Your next question is from the line of Mike Mayo with Wells Fargo Securities.
Hey, Mike.
Hi. I'm gonna give the question, then I'll give a wind-up, then I'll come back. My question is, why are you not planning for even higher positive operating leverage in 2022? And as you know, going back in time, it was either some combination of Jerry Grundhofer, Jack Grundhofer, Richard Davis, who said, if you grow revenues faster than expenses, great things happen. I've asked this question before. For the last five years, you guys have had negative operating leverage, and during that time, the stock price has barely moved as of year-end when banks are up almost 50% and the market has doubled. I think there's some relationship between the two. It's good that you're guiding for positive operating leverage in 2022.
I think that'd be the first year in six years when you'd achieve that on a core basis. I think you're guiding for 7%-9% revenue growth for this year, so I guess that implies 6%-8% expense growth, which still seems to be a lot of spending. I get it, there's wage pressures. It seems to me that just from the benefit of rates, you can get positive operating leverage, which means the tech investments aren't paying off to the bottom line. I don't question whether they're paying off, you're a conservative, trustworthy bank. Are the tech investments paying off in a way that we as investors can see those, and why don't you have higher positive operating leverage guidance? Thanks.
Yeah. Well, let me start with revenue just 'cause I wanna make sure that we're all on the same page. You know, in earlier comments, we talked about the fact that we expect total revenue growth in 2022 to be in the range of 3%-4%. When you think about the components of it, Mike, you know, the net interest income is probably gonna be at the higher end or maybe even a little bit above that range. The fee income is probably gonna be growing at the lower end or maybe a little bit below that range. The primary drivers when you think about fee income, you know, we're still gonna see in a rising rate environment mortgage banking revenue coming down.
Then, you know, in our lease residual portfolio, end of term gains will be coming down a bit, and that shows up in other income. I think that there's a couple things that will mute the growth in fee income. You know, the other thing that we talked about a little bit earlier is some changes in terms of our overall, our overdraft, pricing, and that's gonna have a bit of a drag in terms of deposit service charges in terms of fee income. You know, the range of growth, again, for 2022 in terms of total revenue is in that 3%-4% range. Maybe that kinda level sets us with respect to, you know, our guidance or our expectations for revenue.
You know, on the expenses, and I'll have Andy kind of weigh in, but you know, at least 100 basis points of positive operating leverage is kind of what our expectation or target is. You know, that's gonna be balancing short-term and long-term expectations in terms of investment. You know, we're very committed to being able to deliver at least that in 2022. Andy, what would you add regarding the investment?
Yeah, Mike, you know, just to comment on your question overall, you know, we've been focused on making the necessary investments in our digital capabilities and our payments business, as we've talked about that, we talked to you about that. Our objective is to position ourselves to be successful in this environment, and I think we are. We're in a strong position, and I think you're gonna start to see the benefits both from a revenue growth standpoint as well as an expense efficiency standpoint, particularly as we see the secular trends starting to increase overall. We made those investments eyes wide open and very intentional, at the same time balancing some short-term expense opportunities on the operating core basis. I think on a go-forward basis, you're gonna see positive operating leverage because of those investments.
Just to follow up on the technology part. You know, when we think about your level of investments, is that still increasing? Is it increasing at a slower rate? And my understanding was your past investments were for foundation building, non-revenue areas, and now the investments are for revenue areas. So if you could just think in terms of the tech investing relative to the payoff, where are you in terms of reaping those benefits?
Yeah, Mike, we're leveling off, so we're not gonna continue to see increases in those investments. We did see some increases in the past five years, but I think we're at a level set area right now, number one. Number two, we migrated from about 40%-60% defense and offense to 60%-40% offense right now. Most of the investments we're making are for revenue-generating areas, digital capabilities, payments, business banking, and the other things we've talked about.
The other thing that I would just add maybe is, and this is really more kind of looking into 2023, we don't really see a need to increase the amount of investment, even with bringing Union Bank into the U.S. Bank fold. That's because, as we've talked about in the past, most of this is just a lift and shift from their systems to ours, and so we'll be able to leverage all the investment that we've been making and bring a lot of digital capability to, you know, their customer base.
Great. Thank you.
Thanks, Mike.
Your next question is from the line of Vivek Juneja with JPMorgan.
Hey, Vivek. How you doing?
Hi, Andy. Hi, Terry. Couple of questions. Credit cards, your period-end was up only, it seems like 1.5% linked-quarter. You saw a bigger jump in certainly the Fed weekly data. Any color on what's going on there? You know, why it was slow for you guys?
In terms of credit card revenue? Credit card and debit card revenue?
No, credit card loans. Period-end loans.
Yeah, you know, what's really being still impacted, at least for us, is, you know, the payment rate is still relatively high. It did peak in the third quarter. It came down just a little bit in the fourth quarter. You know, so until we start to see that measurably improve, you know, I think that's gonna end up impacting growth rates of credit card loan balances. Our expectation, though, Vivek, is that, you know, those payment rates do start to migrate down nicely, as 2022 progresses. It'll also help net interest margin and obviously net interest income.
Okay. Second question. The merchant processing decline in fees that you saw quarter-over-quarter, was that all Omicron-related incoming in December, or was there something else going on there too?
Yeah. From third to fourth quarter, that's really-
Yeah.
I mean, very, very little is really related to Omicron. We did see a little bit of a slow-up that was kind of late in December. Really what is happening there is that as sales continue to pick up in travel and in that sector, that tends to be a little bit of a different rate or, and so it's more of a mix thing than it is anything else, Vivek.
Okay. All right. Thank you.
Mm-hmm.
Your final question is from the line of Erika Najarian with the UBS.
Morning, Erika.
Hey, Erika.
I'm trying to figure out, given your outlook for positive operating leverage, why the stock has opened so weakly. Maybe following up on Vivek's question, I think that the Street had anticipated, you know, a much lower or lesser seasonal step down in payments. What happened with the interchange rate in the quarter?
Yeah. I mean, let me kind of just kind of step back and when we think about kind of seasonality in the payments business overall, usually from third to fourth quarter credit and debit card depending upon the amount of investment we're making at that particular point in time is usually you know fourth quarter is a little bit better than third quarter. Merchant and corporate payments typically you know fourth quarter is seasonally lower and that's fundamentally kind of what we saw both in terms of merchant and corporate. Now corporate ends up getting impacted by government spend, which tends to be highest in the third quarter. You know, you get the effect of holidays impacting travel and all sorts of things with respect to payments and that sort of thing.
That's why that tends to step down. I think what we ended up seeing is fairly similar to what we would have expected in terms of the seasonality of the businesses.
The lower interchange rate that you mentioned on slide 12, was that anything unusual there?
Yeah. I mean, Again, I think that ends up getting impacted by the mix of the business. As travel grows, the interchange rates and the margins associated with that particular business in the merchant acquiring is that narrower spread. As that is recovering, you know, it ends up impacting the margins a little bit.
Got it. Okay. Just to take another step back, on your net interest income guide, for three rate hikes, mid-single digit, what kind of deposit betas are you assuming? I think everybody is very well aware that your corporate trust deposits are quite rate sensitive. Has there been a change in your mix since the 15-18 rate cycle? In general, what have you baked into your NII guide for deposit repricing and what do you expect to actually happen?
Yeah. Maybe at a high level, you know, typically what we see in the early stages of rising rates is that, you know, deposit betas don't move a lot in any of the different categories. You are right, the trust corporate trust deposits tend to be a little bit more sensitive, as you get into maybe the second or third rate hike. You know, when we think about maybe that first 50 basis points, you know, we would expect deposit betas to probably be in that 15-25 range, and then progressively getting a little bit stronger as the cycle continues. That's kind of how we think about it.
Now, I would say that, you know, when we have looked at the mix of business we have had, you know, today versus, let's say, four or five years ago, you know, we have kind of a strong mix of consumer base where we have seen a lot of the growth in deposits in 2021 was actually on the consumer side of the equation, as opposed to some of the other businesses. You know, the deposit betas, my expectation deposit betas, especially in the early stages, are probably a little bit lower than what we have experienced in the past.
Got it. Just maybe a last one for Andy. You know, as we think about us in a cost inflationary environment, but in an environment where you, as you said, you know, to Mike, where your investment spend is steady state, you know, what is really the underlying expense growth of this company. Forget just 2022, but going forward next three years, what is the underlying expense growth of this company. You know, you had mentioned, I think at a conference call in 2021, that low 50s is something that you could achieve from an efficiency standpoint. Is that something that can only be achieved with the deals that you have pending.
Erika, part of achieving that is also getting back to a more normal revenue environment, which we're starting to migrate to with rates as we talked about in terms of our assumptions. I would expect next year again, that revenue growth to be well below that expense growth to be well below revenue growth and that positive operating leverage. I would expect us to achieve that on a go-forward basis. We've made the investments to position ourselves to be successful. Those investments are gonna result in additional revenue, but also importantly, more efficiencies in the operations. Those digital capabilities allow us to do things more effectively and more efficiently. We've also optimized the branch network, and we're gonna continue to focus on that.
It's sort of this balance, Erika, of optimizing the current to continue to invest for the future, and that's what we've done and that's what we'll continue to do.
Okay. Thank you.
We do have a follow-up from the line of John McDonald with Autonomous Research.
Hey, John.
Hi. Hey, thanks. Two quick follow-ups, one for Terry, one for Andy. Terry, could you quantify the impact of the changes you're making, the customer-friendly changes, to the NSF and OD fees and what that might be for this year on a go-forward basis as well? Andy, just kind of wondering, with all the dynamics in Washington, people are worried about the deal approval process for you and others getting delayed. What's the cost of that to the organization? Are you doing a lot of prep work that gets put on hold? If you do end up waiting longer for approval, what kind of cost is that to the organization? Just some thoughts on that would be helpful. Thank you both.
Let me address the overdraft. You know, if you end up looking at our call reports, you know, 2021, I think our overdraft fees were about a little less than 2% of total revenue or $340 million. O n a fully implemented sort of basis, we would expect that impact of the changes we're making is probably in that $160 million-$170 million. We'll probably end up realizing about 75% of that next year. The other thing that I would just mention is that, you know, with fee waivers from a fee income standpoint, and we've taken both these things into consideration, fee waivers will help offset most of that.
Okay. Terry, sorry, just next year, does that mean, like, next this year or?
Yeah. In 2022, we would realize about 75% of the full year, full effect.
Yeah. Okay.
John, you know, we're not incurring a lot of incremental expense right now as part of the integration efforts. We have teams working on it, but they're not what I would call incremental in nature. The impact of a delay would be really delaying the efficiencies and the cost takeouts that we projected for you. That would be the principal impact.
Got it. Okay. Thanks.
Sure.
I will turn the call back over for any closing remarks.
Okay, thank you everyone for listening to our earnings call. Please contact the Investor Relations department if you have any follow-up questions.
This concludes the U.S. Bancorp's fourth quarter 2021 earnings conference call. Thank you for your participation. You may now disconnect.