Milwaukee-based Marshall &IIsley (NYSE:MI), or M&I, reported third-quarter results yesterday. M&I, one of the top 20 largest banks in the country in terms of market capitalization, is primarily a traditional bank -- but it possesses another division that sets it apart from its peers.
For the quarter, diluted operating income grew 8% to $0.81 per share. Reported net income actually increased almost 23%, but that was due to a non-operating adjustment to the way M&I accounts for derivatives on the balance sheet. Management made a point of declaring that the move has no impact on company growth or credit quality. The adjustment is expected to shave $0.03 off fourth-quarter results as well.
M&I's net interest income grew a strong 21.3% for the quarter. Non-interest revenue grew 21.2%; it consists mostly of data processing, a segment I'll detail more below. M&I's return on average assets was 1.53% for the quarter, while return on average equity was 14.22%. Both were ahead of overall industry averages, but were down compared to M&I's third quarter last year, illustrating that interest spreads are less favorable in part because certain shorter-term rates are higher than long-term rates, a condition referred to as an inverted yield curve. Return on assets and return on equity offer insight into the returns banks reap on their loans, and overall equity invested in the business.
M&I's lower net interest margin of 3.29% best illustrates that the current interest rate environment is lowering spreads for banks in general. Last year, the margin stood at 3.36%; that small percentage difference can have a huge effect, given M&I's $34 billion in deposits and $41 billion in loans and leases. Fortunately, the bank was able to lower its efficiency ratio to 59.6% for the quarter, keeping overhead expenses in check.
While M&I has posted annual double-digit growth in net and non-interest income over the past five years, its dividend yield of 2.2% is about half that of the country's largest banks, which include Wachovia (NYSE:WB), Bank of America (NYSE:BAC), and JPMorganChase (NYSE:JPM). Citigroup (NYSE:C) is the largest U.S. bank, but it does most of its business overseas. Wells Fargo (NYSE:WFC) has a dividend yield closer to 3%, but is generally considered one of the more consistent growers from an internal, or organic, standpoint.
To offset M&I's lower dividend yield compared to the competition, the company needs to grow faster than its larger rivals. Industry consolidation allowed the biggest players to grow by acquiring market share and cutting costs, but that trend has largely run its course. By law, an individual bank cannot control more than 10% of the nation's deposits, and Bank of America is already bumping up against this number. In any case, the larger banks will probably be able to continue growing as fast as -- if not faster than -- M&I, due to their market clout.
One advantage for M&I is its Metavante data-services segment, which accounts for almost 40% of revenue. (To give you an idea of the competition, Jack Henry & Associates (NASDAQ:JKHY) is a pure-play competitor in this space.) For the quarter, data-processing services grew 14.7%. Metavante's banking and payment technology is obviously dependent on the health of the overall banking and financial industry, but it probably offers some stability should the economy head south. Regardless of interest rate levels or the expansion rate of borrowing and lending, banks will still need to process payments and other transactions.
I'm not sure whether owning Metavante offsets the lower dividend or M&I's status as a regional player. Nonetheless, it could pay off if the entire banking industry begins to suffer at some point in the future.
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Fool contributor Ryan Fuhrmann has no financial interest in any company mentioned. Feel free to email him with feedback or to discuss any companies mentioned further. The Fool has an ironclad disclosure policy.
