\U.S. Bancorp (USB 0.64%) generated solid earnings in the third quarter, with $1.30 diluted earnings per share on total revenue of nearly $5.9 billion. Both numbers beat estimates from analysts.The results were fine, although loan growth continues to be muted.
But beyond the numbers, my biggest takeaway from earnings came when management divulged more information about how the bank will further integrate its payments business into the commercial bank, a big part of its strategic vision and something that could be a significant driver of revenue over the next few years.
The opportunity from deeper integration
U.S. Bancorp, which has $567 billion in assets, has achieved a strong valuation with a differentiated business model that includes a strong traditional banking operation and a more niche payments business that contributes roughly a quarter of the bank's overall profits. U.S. Bancorp's payments business serves a range of clients. The unit has retail payment solutions offering credit, debit, and prepaid cards. It also serves businesses in the hotel and airline industries with its global merchant acquiring technology, as well as corporations and businesses in the aviation, fleet, transportation, and travel industries with corporate card and payments services.
Image source: U.S. Bancorp.
While management has been heavily investing in its payments capabilities, analysts and investors have wondered how U.S. Bancorp could do more with the payments business. Management on the bank's third-quarter earnings call said it sees a big opportunity among its 1.1 million business banking clients, which it defines as those with less than $25 million in revenue. It believes this segment, which currently uses traditional banking products such as loans, bank accounts, lines of credit, and more, will be ripe for a payments product. Management also believes that payments customers could be a target for cross-selling more traditional banking products.
Image source: U.S. Bancorp Q3 investor presentation.
As you can see, 72% of business banking clients don't have a payments product, while half of payments customers don't have a banking product. U.S. Bancorp CEO Andrew Cecere said he believes the bank can change the left chart regarding business banking customers to at least a 50-50 split. He also said he thinks the bank can grow small-business relationships by 15% to 20% and "related revenue by 25% to 30% over the next few years."
When asked how he intends to do this, Cecere said the bank plans to roll out a product that helps business banking clients better run their companies by managing all aspects of their business from payables to receivables to payroll and banking services all on one dashboard. U.S. Bancorp also has buy now, pay later capabilities (through a subsidiary) that it is testing and may roll out to its merchant customers to help them expand their capabilities.
The other exciting recent news around this area is that U.S. Bancorp recently acquired the U.S. banking operations from the Japanese bank Mitsubishi UFJ Financial Group. The subsidiary, which is called Union Bank, comes with 190,000 business banking clients not included in the 1.1 million number above. Not only are these customers good candidates for payments products, but the acquisition gives U.S. Bancorp increased scale in California, the state with the most small businesses in the country.
Why this is important
As I mentioned above, U.S. Bancorp has a high valuation. At Thursday's prices, the bank trades at roughly 250% of tangible book value, which is what a bank would be worth if it were immediately liquidated. The payments business is so important because not only does it set U.S. Bancorp apart from its peers, but it's also a major way the bank plans to drive revenue in future years and further enhance shareholder value. In my opinion, the further integration of the payments business and commercial bank shows shareholders there is plenty of value left in the stock.
