Okay. Up next we have U.S. Bancorp, and I'm delighted to have with us today, Gunjan Kedia, Chairman and CEO of U.S. Bancorp, and John Stern, Vice Chair and CFO. Thanks so much for joining us.
It's our pleasure.
Gunjan, let's start with you've completed your first full year as CEO. As you reflect on the first year of leading the company, what have some of the biggest lessons been that you've taken away, and I guess what are you most focused on for the next phase of execution for U.S. Bancorp?
Well, thank you for hosting us, and congratulations.
Thank you
Manan, it's been a very real honor and a pleasure to be leading a wonderful bank. Just over 12 months back when I stepped into the role, our focus was very much on delivering the medium-term targets that we had committed to during our Investor Day. That's what we got very focused on. What did we do? The first was positive operating leverage. There was a lot of question marks around the efficiency ratio, and over the last two years, we've brought our efficiency ratio down by 4% or so and delivered very strong positive operating leverage. The second was fee growth. As you know, our franchise is unique in being very fee heavy. Not just the size of the fee base, but also the mix and the quality of the fee base.
We had committed to mid-single digit growth, and we're certainly there and on the upper end of that. We built capital by 30%. We are on the verge of entering a Category II designation, that was important. What we were very proud of is we maintained our ROCE. By the third quarter of last year, we had started operating in our medium-term targets. We're very confident in that range. Looking forward, our focus is on maintaining the profitability and the return profile of the bank, but accelerating EPS growth. We're getting ready to publish our next set of medium-term targets next year at Investor Day. The focus really is the next era of very profitable growth.
I'm sure that that'll be an exciting Investor Day, we look forward to it.
Yes. We look forward to it.
Maybe, Gunjan, stepping back, U.S. Bank has a unique lens into consumers, small businesses, corporates. We're hearing from different banks at this conference that, well, things, survey data might suggest people are being cautious, but you're not really seeing it in the numbers. I guess, what are you seeing from your seat?
Our perspective would be very consistent with that framing. Earlier in the year, we entered the year with very strong tailwinds in the industry, much of the substance of that is very intact. Starting with consumer, the spend levels stay quite robust. The things that we watch for is the lowest end of the customer tier. As you know, we have a very affluent, high FICO business. We are also looking at discretionary spend, where you see the stress more, and it's all good. You are seeing some extra rotation into gas-related spend, the consumer is healthy. More importantly, employment is solidifying and strengthening, and real wage growth is strengthening, we feel good about the customer.
What's been the real pleasure this year is core loan demand from not just the AI trade or the data centers trade or NDFI, but broad-based Mid-American core growth for all the right reasons. You are right, the sentiment is getting bleaker even as the facts are quite strong. That's what we are looking at.
It is something you're focused on, but nothing is coming through in the numbers.
Nothing is coming through in the numbers. It's the sentiment and the forward gauge is what we are focused on.
Okay. Perfect. John, maybe I'll come to you. With two-thirds of the quarter now behind us, I guess how does that translate into what you're seeing so far in the numbers this quarter?
Sure. Yeah. Good morning, everyone, and thanks for hosting. Great conference. We are up for another strong quarter. Maybe just to give a little color on some of the components. Net interest income, we talked about 6%-7% year-on-year growth. We'll be toward the upper end of the range on that for the quarter. Fee revenue, we also talked about 6%-7% year-on-year growth, and we'll be above that range this quarter on the strength of capital markets. Expenses will come in as we expected, so 3%-4% year-on-year growth. When you put all that together, we have a lot of positive operating leverage, and we're very excited about the end of the quarter here. I'd also say just from a full year perspective, no change really to our guidance.
We still have mid-single digits from a revenue standpoint, we expect at least 200 basis points or more positive operating leverage for the full year.
Great.
Manan, just to add.
Yeah.
We closed on our BTIG deal.
Yeah.
We'll update the guidance at earnings.
That's right.
With that included.
Okay. This excludes the BTIG side.
Excludes. Yeah. In July, we'll comment on BTIG, and how we incorporate that in the guidance, we'll be more clear about that at that time.
All right. Perfect. Just to recap, full year guide, no change there. For the quarter, you're seeing even more operating leverage.
Yeah.
Because you're coming in at the high end of the NII guide above the range of the fee guide,
Yep
in line with the expenses.
That's right.
All right.
Good summary.
That's a great update. Thank you for that. I think let's start on deposits because that's been an area of debate amongst the investor community. I think at earnings you said the deposit cost should remain relatively stable even if the Fed doesn't cut rates this year. We're starting to see a hike getting priced in towards the end of the year. Can you provide us with an update on how you're thinking about deposit costs here?
Yeah, sure. Really no change to our outlook on deposits. I think how you summarize is how we still think about it. There really isn't too much change in terms of how our deposit base is presented. We feel like where we've gone is really more focused on consumer deposits, and we've been doing that for the last couple of years in terms of shifting the mix to more consumer based. Over the last several quarters, we've moved that mix up 2 points. We expect another, in terms of total amounts, another record amount of consumer deposits so that the consumer part of the deposit engine is working very well. What has changed, as you pointed out, the rates have changed. For us, we're pretty agnostic to that move in shift in sentiment just because we're neutral from an interest rate risk positioning.
If rates go up or down, that's not going to impact us too much. What I would say though is where we're focused is really on how we go to market and how we accumulate deposits. There's three areas I always focus on with the team. First, it's going to be about our distribution. We've made a lot of investments in branches over the last several years. We've improved the way we go to market with our bankers in either in the call center or in the branches, updated incentive plans, things of that variety. The second thing would be on the modeling capabilities, so really getting really surgical on the pricing, whether it's on an individual basis or it's within MSA type level, so we can get very granular with respect to that sort of pricing. Thirdly is just the products.
We've been enhancing our product set over the last couple of years. As an example, Bank Smartly is a flagship product that we use, and the savings product of that has actually gone from nothing a couple of years ago to nearly $50 billion right now. We've seen a lot of good momentum in that space, and we feel really good about the deposit base right now.
One area of, I guess, deposit competition that might not be near term that people are talking about is the impact of having stablecoin and agentic AI agent, well, agentic AI in that driving deposit cost. What are you thinking about that debate in terms of the longer-term impact on deposit costs across the industry?
We are not seeing the impact, the noise is far outpacing any observed behavior in the franchise. The bear case around bank deposits with AI and stablecoin that we hear about is AI tools will create transparency to deposit pricing, and rewards on stablecoin will provide one way to risk deposits out of the system. That's sort of what the bear thesis is, there's a lot of barriers to that coming through really around consumer behavior. On the institutional side, Manan, there's a lot of price transparency, and that part of the business can get the rate they want. It's a very efficient market. There may be some exposure on the small cross-border flows to inflationary economies where stablecoin seems to have been, but we don't have almost no exposure to that business. On the consumer side, it's even more robust.
If this narrative that people are just sleepy and sit on deposits without earning is not the world we experience. We add value by access to physical branches, by advice from people, by ability to call into a call center if your identity gets stolen, assurance that a bank will be around for 100 years, and you can rely on that assurance that if you have a fraud event, somebody will be there to help you. All of this collectively is the value proposition of a bank, we spend a lot of time trying to strengthen that. The AI tools will be a real positive benefit from our point of view. The positivity is the ability to provide a personalized set of advice to people, which is not affordable today.
If that AI tools do what we are beginning to see them do, we could have the same client advisor in a branch handle twice the customer base. Like our AI tool at the branch, we call it Pearl. What it is meant to do is to read the notes that have been written about every customer's interaction across all channels and give to the advisor a very precise view of what's the best product for the customer, not for the bank. That increases your leverage. I would just say to you with quite sort of real conviction that this narrative is overblown on sort of the impact of AI and stablecoins on sort of core deposits of the bank in the near term.
Okay. I definitely want to dig in on the AI side, maybe to round out the conversation on deposits and NII. Gunjan, you've emphasized that you're winning deposits through deeper relationships and differentiated capabilities, you're also densifying in certain markets, right? As you expand in some and you're densifying in others. How are those strategies working together-
Working. Yeah
to drive deposit growth, which products or capabilities are resonating-
Yeah
most amongst clients?
Well, thank you for asking. It's a big conversation and a big focus for us to improve the quality of the deposit base, and we define that by anchor around a real relationship value proposition. We do not subscribe to the thesis that sort of lazy customers are the way to prosperity going forward. Also very focused on the Gen Z customer base and not just sort of create a model that is attractive to only one generation. Our strategies are how do you be really exciting to the person like my dad, and how do you be very exciting to my son? That's sort of the range. John talked about two of the big strategies to deepen the client relationships, which is precision pricing by micro MSA, so that you're really balancing growth with the cost of deposits. The big push has been acute product.
Bank Smartly, which is now up to $50 billion, allows you to earn attractive returns and rewards on your credit card based on your checking and savings relationship. There is something in it for the customer to consolidate their relationship. Our deepening statistics have steadily improved, and that's what's driving the consumer deposit. The densify is a matter of expanding our reach, not just deepening our share of wallet with the client. Just a quick sort of history lesson on how we grew up. U.S. Bank really grew up over since the 1990s with a lot of bank M&A roll-ups. The markets were put together with a deep emphasis on what I would call Tier 3 and 4 markets within our 26-state footprint.
What we've been working on for the last 10 years now is changing the format of in-store service-oriented branches to large advice hubs that deliver maybe two to three times the deposit per branch. They're nice branches. This is where you really get into the advice part. We are moving to Tier 1 and 2 markets within our franchise. That's the densify strategy. There are about a dozen or so markets where the household growth is about twice national average within our 26, and we are really wanting to get the branch density above 8% there. That's when you get disproportionate deposit growth, and the acquisition costs are low. Our goal is to be top four depositor in these high-growth densify markets.
In addition, we are now inching out to one or two contiguous states, which is what we would expect to do, go up from 26 to a few more. Before we did the Union Bank deal, the CapEx investment into branches used to be roughly $200 million on average.
We think that'll inch up to $300 million or so, and that's really part of our POL commitment. It's designed, it's just the evolution of having some what I call renovated the existing franchise enough that we are now taking the model out. These branches are very tech-enabled. They are very different from a servicing mindset. That's sort of the branch densify strategy.
You mentioned 8%. Is 8% the right number to get more deposit trend in the market and have enough scale?
It seems to be the sweet spot where you're not over-branched and where your acquisition costs are low and the brand is very present. Certainly within the densify region, the cost of branding and marketing is very efficient. The ROI and the break-evens are just really very attractive there. There's a formula here. Of course, we tweak it based on competitive actions, but that's the focus of the strategy right now.
Got it. Maybe pivoting to loans. We spoke about deposit competition. Maybe let's talk about loan competition. We're hearing the loan spreads are coming in. Are you seeing any of that, any specific trends to call out across any loan categories there?
Sure. Yeah. Gunjan, you touched on it just a little bit ago. Loan demand is broad-based across. There is virtually all categories that we care to be active in. Maybe just to double-click on a couple of those commercial and industrial loans. Wide-ranging demand in all different geographies, all different industries. Very much focused on CapEx for their own, or M&A for their own business and their growth needs. That has been a very big focus. We see a tremendous amount of growth there. Commercial real estate also is doing well from a growth standpoint. That's being led more or less by multifamily. But what I'd also say there is there's just fewer paydowns than we had. We've been having growth in that, but it's just been masked by the paydowns over the last couple quarters.
That's starting to abate, excuse me, you're starting to see growth in the commercial real estate side of the equation. Credit cards, Gunjan also mentioned, spend levels are still robust. It's almost a carbon copy from prior quarter, maybe with a plus to the gasoline purchases that people are making. That is also driving more spend and more balance sheet in terms of balances that we have from a credit card standpoint. All those areas are areas where we're focused on multi-servicing the client, multiple products in a variety of different areas. Not just growing for growth's sake. It's got to make sure we make hurdles and things of that variety, we feel really good about it. You mentioned loan spreads. I might just touch on that.
We do see that has grinded in a little bit over the course of the year, in line with where credit spreads just from a macro standpoint have been. I think a little bit is the mix too. You see more large corporates and things that c ommand a little bit tighter spread, still good returning loans. That's kind of the lay of the land of the loan market.
I'll add one thing, Manan. The loan mix, we are intentionally also evolving. You talked about deposits, here our focus is on C&I and credit card. We are oversized in mortgage. After our Union Bank acquisition, they brought a lot of California mortgages to it. The C&I and the credit card bring really significant fees associated with it. Credit card is obviously the fee business there. On the C&I side, because we have such a big investment services business, it's a very positive. There's a little bit of extra sort of execution effort around those two categories of the loans, the market is very favorable to do that.
Let's talk about fees. You've talked about fees becoming a bigger driver of growth and returns over time. Where are the biggest opportunities here?
We have 42% of our revenues is fees. It's organized in four different chunks, very attractive chunks of fees. The biggest is payments. The second is our trust and investment fees, that's wealth and our investment services. The third is capital markets, and of course, the traditional consumer fees. There's opportunity in the first three categories that we are very excited about. In mortgage, we are maintaining. The market's not favorable for mortgage right now, and as I said, we are overweighted that business. Capital markets has been the big focus. We had product gaps there that we filled with our BTIG. Honestly, Manan, we were just underweight the balance sheet that we are deploying. It's about just getting a fair share of rotations into it.
We had great products on the fixed income. As John said, that's been a big driver even of this quarter fee growth, and we expect that to grow to about 11% of our revenue is the target, we think, and we are with BTIG about 7%. That'll be a big driver of growth. The second is payments, where we have had sort of sluggish growth for some time. A lot of momentum there, and trust and investment has been performing very well for us so we're very bellwether business. All three of them will drive growth, and we do expect to grow fees higher than our NII, and over time have that 42% inch up. It gives us a stable earnings profile, and it gives us a structurally high return profile, and it creates sticky client relationships.
There's a strategic issue here, not just sort of fees for the sake of a financial portfolio.
I want to double-click on cards and payments. Let's start with card. You've talked about how the maturation cycle of that works, right?
Yeah.
You have a customer acquisition strategy. There's upfront costs associated with that, then you get some more of the-
Yeah
earnings and profitability there. Can you talk about that trajectory-
Yeah
How you see that evolving?
Yeah. Our credit card business is about three quarters of our total payments business. I know we get a lot of questions on merchant, but it's the card business that is sort of the dominant business. After COVID, there was just a period when our marketing spend had settled at an inappropriate level to drive the growth that we aspire to. About two years back, we really started to enhance very meaningfully both the marketing spend, but also the product set that would be focused on transactors. Traditionally, we had done very well with loan balances on the credit card side because the products leaned into that. Now we are beginning to see the revenue growth start to inch. It's a 12 to 18-month cycle before the upfront rewards, which are negative revenue, phase out.
Just last quarter, we showed the trajectory of how the growth is strengthening. Of course, with the Amazon deal coming online in the third quarter, we expect that to strengthen. The products are doing really well in the market. The Smartly is bringing a lot of card fees as well, we are very confident. The new thing this quarter is the corporate card is actually beginning to revive a little bit after a tough year last year. It's a lot of good strategies, a lot of good momentum on the card side.
Got it. Then payments, that's been a high priority as well. It feels like it has a little bit more of a longer tail to it.
Yeah.
I guess, how are you thinking about the near-term aspects of it relative to the longer-term aspects of it?
The merchant business, I'll just repeat a few things because so many investors ask me this question, and I think there's a little bit of a misunderstanding. First, it's a very high margin business, so often people think it's a threadbare business, and it's not for us. It's also a business that's very interconnected with our core small business franchise. Of course, the enterprise side too, but the core small business franchise. It's been operated for a very high profit margin for the needs of the business. What we have done with our transformation over the last two years is to refocus the efforts around five vertical segment strategies, which is a shift from the way we operated for the last 20 years, which is broad generic clearings and across the entire industry set. That model has sort of gone away.
That transformation is a little bit slower. You have to wait for contracts to come due. You have to change the distribution. We track about 1% to 2% to 3% improvement in what we think are the vertical business models. We are about a third of the way there, and each quarter it sort of inches up. There's some natural variation based on sort of spend levels. We like the business. We are committed to it. We think we will prevail. Our value proposition is very different from the fintechs. It appeals to industries like healthcare that are regulated, that have HIPAA requirements, that have data privacy requirements. They expect a level of resiliency and fraud protection. We've become very focused on where our value proposition works. As you say, it is a slow transformation.
Got it. Very clear. Maybe we'll pivot over to expenses. You're currently tracking ahead of your guide of 200 basis points in operating leverage, but you've also said that you're keeping the guide because you might want to make some investments as well. Where are those investments being directed today? Well, let's stop there. Maybe we can pivot over to the longer-term efficiency ratio.
Sure. Yeah. I think from an expense standpoint, we've made a lot of progress, as we've talked about. Over the last couple of years, we've moved about 420 basis points on our efficiency ratio positively. We've made a lot of efficiencies. We've had some areas where we've been able to just take costs out that weren't aligned with the strategic priorities that we set out with. We've been able to do that. We think there's still room and improvement that we can do, particularly on things like AI and efficiencies and simplification and things of that variety. Where the expense is, as you mentioned, how is that going to relay? We were very committed to positive operating leverage. As revenues are stronger, we want to lean in more. Where you'll see that spend is going to be more on the technology side for products.
Some of the branch items that Gunjan just talked about, as well as the marketing, brand awareness, things of that variety. That's really where we're going to spend most of our emphasis as we move forward.
How do you think about the longer-term efficiency ratio and operating leverage of the bank?
Sure. As I said, we've made significant progress. We're now kind of in that upper 50s% right now. We want to be in that mid 50s%-upper 50s% over long periods of time. The reason for that is as we gain more into the fees categories, as we gain more into capital markets, and we have high expectations for growth there, as well as payments and other areas, those are going to naturally have more of an efficiency ratio that it's going to put upward pressure, and that's okay. That's why we think the mid to high 50s% over a long period of time is the right area for us to be at to make sure we're balanced between investments as well as making sure we have good ratios for us to produce.
Manan, I would just add, though, that we have flexibility.
Correct.
I want to reiterate our commitment to bringing the efficiency ratio in line with our targets and positive operating leverage. To that extent, to the extent that something happens in the economy, we've been very clear that we'll take care of the shareholder interest and commitments. Some of these investments, they're variable investments. We can flex a little bit up and down as needed.
That's right.
Another thing you've spoken about is the $2.5 billion or so in tech spend. It goes a lot further today because of the advancements in AI and automation. Given that the pace of AI continues to accelerate, how are you thinking about the right level of investment there? You spoke about Pearl, you spoke about the various tools that you have for FAs and for the rest of the organization. Talk about the right level of investment for AI and where you see that whole process going.
Sure. Yeah. Maybe I'll back up just a little bit to level set on the number of $2.5 billion. We actually did some work internally to just look at comparing that number to how peers represent it and what's included or not in that. There are some expenses that are already embedded in our cost structure that actually should be applied to that. We think of it more as like in a $3.2 billion is really the amount of tech spend that we have collectively. The way I would think about that number is that's somewhere in that 10%-11% of revenues. That will give you kind of a gauge of where we'll migrate depending on kind of the revenue spend. That's just kind of as a big picture, how we think about where we need to spend.
From an AI perspective, as you mentioned, we're getting efficiencies on some of the coding, and as that happens, we can allocate more and more cost into things like AI and the dozens and dozens, if not hundreds of projects that we have around the bank right now in terms of utilizing that. One of the things that we did, Manan, is that we've gained so much efficiency from just sort of the simplifications that we've been doing and the focus on our strategic priorities that we've been able to open up some costs for the business lines. We've established a growth fund. If there are good ready shovel-made projects, if you will, that are ready to go that have AI use cases or other sorts of automation type of use case, we will fund that. That's something that we can do very quickly.
To Gunjan's point, if things don't go quite as planned on the revenue side, we can also pull back. We feel like we have a lot of flexibility on this front to move forward.
The $3.2 billion number is not an additional number.
Not an additional number.
It is what you've already been doing. You're just including that.
We weren't including some of the information systems, some of the security, some of these other things that should have been embedded in that number. We just wanted to update investors on how we think about internally our tech and digital spend is collectively, and all that number is just embedded in our run rate that we have right now.
Got it.
Yeah.
All right. Got it. That's very clear. Maybe in the last five minutes or so that we have, pivoting over to regulatory capital. Gunjan, one of the bigger strategic debates right now. Well, actually, before we get into capital, let's talk about the CLARITY Act and the broader evolution of stablecoins and tokenized deposits. Given the scale that U.S. Bancorp has, h ow are you thinking about the risk versus the opportunities there?
We are thinking, not doing as much. It's very experimental still. If you look at the world of digital assets, it comes in the form of the capital markets trading side and the commerce payment side. Much of the numbers are on the capital market side. We do see revenue momentum from that. It comes in the form of very rapid increase in ETFs that are chasing some form of digital assets. We have some unique products for startup ETFs. We are quite attentive to that, and that's in production and operational cryptocurrency, custody, et cetera. The real debate though in the industry, as you know, is around core commerce and payments and where it is very experimental. Even large e-commerce platforms are not reporting client demand for stablecoin related. We are ready with the product set.
What is very interesting just in the last six months is amount of work we are doing to get capture the tokenized technology benefits in the fiat system of banking. Much good will come out of that. Real-time payments, better, cheaper payments, just with the safety and soundness of banking. I'm actually more excited about that part of the work we are doing. Lots of experimentation, not much real client demand on the payment side.
Got it. All right, perfect. To talk about capital, John, you're already operating close to that 10% CET1 target.
I think you mentioned the Basel Endgame proposal is about 5%-7% RWAs.
Yep.
Is there a potential to step up capital returns over the 70%-75% long-term payout ratio that you've highlighted?
Sure. A couple points I'd make here is that we're very close to Category II, so that's kind of where we're aiming for right now. We know there are pending rules that could be on indexing on the Basel III Endgame and all that sort of thing, and that may come to be, but we want to make sure we're ready, and we are from a Category II standpoint, getting that capital to be at that level. We're also, at the same time, very much committed to our long-term payout ratios. That's 70%-75%. We're just under that today, but we are gliding that up, and over time you'll see that happening. As the rules come and go in terms of how the timing of all these things occur, that's something that we'll deal with at that particular juncture.
For now, it's steady as it goes, and we're preparing for that Category II level.
Got it. Are there any changes to how you might allocate capital as the new rules come through?
I don't think so, not materially. I think we're interested in the Endgame getting finalized. We will, whatever is earliest practical to adhere to it. We would love to get into that rule set as soon as we can. We think that's a smarter way from a capital perspective, and I think those risk weights that apply to those will help us just refine where we are from a pricing standpoint. I don't expect wholesale changes there.
Got it. All right, perfect. Gunjan, maybe to conclude, one final question. You're generating the 17%-18% ROIC, which is in line with the high teens medium-term target. As you think about returns from here, which areas of the franchise do you think have the biggest opportunity from here? Where do you see the biggest opportunity to improve profitability?
Thank you for letting me close it out. Our first year, my first year was really about getting the foundations in place, getting the leadership transitions. We have a fantastic team, wonderful chemistry in the team. We wanted to execute very sharply, put some points on the board, and arrive at a medium-term target. That has created a lot of confidence. It's restored investor confidence. Looking forward, our goal is to stay a very high return bank but accelerate EPS growth and lean into the stature of our franchise. We are the largest non-G-SIB. We will be Category II, which means a high quality of data. We have a great fee mix and just execution momentum. I would expect that the opportunity here is to sustain the efficiency and the return, but just really drive EPS growth, which we think will be very valuation enhancing.
All right, perfect. With that, we're right out of time. Gunjan and John, thanks so much for joining us.
Thank you.
Thank you.
Pleasure.