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(U.S. BANCORP LOGO


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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
þ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2007
OR
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from (not applicable)
Commission file number 1-6880
U.S. BANCORP
(Exact name of registrant as specified in its charter)
     
Delaware
(State or other jurisdiction of
incorporation or organization)
  41-0255900
(I.R.S. Employer
Identification No.)
800 Nicollet Mall
Minneapolis, Minnesota 55402
(Address of principal executive offices, including zip code)
651-466-3000
(Registrant’s telephone number, including area code)
(not applicable)
(Former name, former address and former fiscal year, if changed since last report)
 
     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days.
YES þ     NO o
     Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer þ     Accelerated filer o     Non-accelerated filer o
     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
YES o     NO þ
     Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
     
Class
Common Stock, $.01 Par Value
  Outstanding as of October 31, 2007
1,726,662,458 shares
 
 


 

Table of Contents and Form 10-Q Cross Reference Index
       
   
   
 
a)  Overview
  3
    4
    7
    25
    25
   
 
a)  Overview
  8
    9
    16
    16
    16
    18
    19
    19
  19
  26
   
  38
  38
  38
4)  Signature
  39
  40
 Form of 2007 U.S. Bancorp Director Restricted Stock Unit Award Agreement
 Computation of Ratio of Earnings to Fixed Charges
 Certification of Chief Executive Officer pursuant to Rule 13a-14(a)
 Certification of Chief Financial Officer pursuant to Rule 13a-14(a)
 Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. section 1350
“Safe Harbor” Statement under the Private Securities Litigation Reform Act of 1995.
     This Form 10-Q contains forward-looking statements. Statements that are not historical or current facts, including statements about beliefs and expectations, are forward-looking statements. These statements often include the words “may,” “could,” “would,” “should,” “believes,” “expects,” “anticipates,” “estimates,” “intends,” “plans,” “targets,” “potentially,” “probably,” “projects,” “outlook” or similar expressions. These forward-looking statements cover, among other things, anticipated future revenue and expenses and the future plans and prospects of U.S. Bancorp. Forward-looking statements involve inherent risks and uncertainties, and important factors could cause actual results to differ materially from those anticipated, including changes in general business and economic conditions, changes in interest rates, legal and regulatory developments, increased competition from both banks and non-banks, changes in customer behavior and preferences, effects of mergers and acquisitions and related integration, effects of critical accounting policies and judgments, and management’s ability to effectively manage credit risk, market risk, operational risk, legal risk, and regulatory and compliance risk. For discussion of these and other risks that may cause actual results to differ from expectations, refer to our Annual Report on Form 10-K for the year ended December 31, 2006, on file with the Securities and Exchange Commission, including the sections entitled “Risk Factors” and “Corporate Risk Profile.” Forward-looking statements speak only as of the date they are made, and U.S. Bancorp undertakes no obligation to update them in light of new information or future events.
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Table 1 Selected Financial Data
                                                     
    Three Months Ended     Nine Months Ended
    September 30,     September 30,
     
            Percent         Percent
(Dollars and Shares in Millions, Except Per Share Data)   2007   2006   Change     2007   2006   Change
       
Condensed Income Statement
                                                 
Net interest income (taxable-equivalent basis) (a)
  $1,685     $1,673       .7 %     $5,001     $5,095       (1.8 )%
Noninterest income
    1,837       1,748       5.1         5,384       5,114       5.3  
Securities gains (losses), net
    7             *         11       3       *  
                       
 
Total net revenue
    3,529       3,421       3.2         10,396       10,212       1.8  
Noninterest expense
    1,628       1,538       5.9         4,813       4,568       5.4  
Provision for credit losses
    199       135       47.4         567       375       51.2  
                       
 
Income before taxes
    1,702       1,748       (2.6 )       5,016       5,269       (4.8 )
Taxable-equivalent adjustment
    18       13       38.5         53       34       55.9  
Applicable income taxes
    508       532       (4.5 )       1,501       1,678       (10.5 )
                       
 
Net income
  $1,176     $1,203       (2.2 )     $3,462     $3,557       (2.7 )
                       
 
Net income applicable to common equity
  $1,161     $1,187       (2.2 )     $3,417     $3,524       (3.0 )
                       
Per Common Share
                                                 
Earnings per share
  $.67     $.67       %     $1.97     $1.98       (.5 )%
Diluted earnings per share
    .67       .66       1.5         1.94       1.95       (.5 )
Dividends declared per share
    .40       .33       21.2         1.20       .99       21.2  
Book value per share
    11.46       11.30       1.4                            
Market value per share
    32.53       33.22       (2.1 )                          
Average common shares outstanding
    1,725       1,771       (2.6 )       1,737       1,784       (2.6 )
Average diluted common shares outstanding
    1,745       1,796       (2.8 )       1,762       1,809       (2.6 )
Financial Ratios
                                                 
Return on average assets
    2.09 %     2.23 %               2.09 %     2.24 %        
Return on average common equity
    23.3       23.6                 22.9       23.7          
Net interest margin (taxable-equivalent basis) (a)
    3.44       3.56                 3.46       3.68          
Efficiency ratio (b)
    46.2       45.0                 46.3       44.7          
Average Balances
                                                 
Loans
  $147,517     $141,491       4.3 %     $145,965     $139,561       4.6 %
Loans held for sale
    4,547       3,851       18.1         4,244       3,560       19.2  
Investment securities
    41,128       39,806       3.3         40,904       39,858       2.6  
Earning assets
    194,886       187,190       4.1         192,788       185,075       4.2  
Assets
    223,505       214,089       4.4         221,694       212,188       4.5  
Noninterest-bearing deposits
    26,947       28,220       (4.5 )       27,531       28,666       (4.0 )
Deposits
    119,145       119,975       (.7 )       119,610       120,456       (.7 )
Short-term borrowings
    29,155       23,601       23.5         28,465       23,398       21.7  
Long-term debt
    46,452       41,892       10.9         44,696       40,462       10.5  
Shareholders’ equity
    20,741       20,917       (.8 )       20,947       20,543       2.0  
                       
   
September 30,
2007
  December 31,
2006
                                 
                                       
Period End Balances
                                                 
Loans
  $149,039     $143,597       3.8 %                          
Allowance for credit losses
    2,260       2,256       .2                            
Investment securities
    40,371       40,117       .6                            
Assets
    227,628       219,232       3.8                            
Deposits
    122,748       124,882       (1.7 )                          
Long-term debt
    45,241       37,602       20.3                            
Shareholders’ equity
    20,766       21,197       (2.0 )                          
Regulatory capital ratios
                                                 
 
Tier 1 capital
    8.6 %     8.8 %                                  
 
Total risk-based capital
    12.8       12.6                                    
 
Leverage
    8.1       8.2                                    
 
Tangible common equity
    5.3       5.5                                    
                                                 
 
 * Not meaningful.
(a) Presented on a fully taxable-equivalent basis utilizing a tax rate of 35 percent.
(b) Computed as noninterest expense divided by the sum of net interest income on a taxable-equivalent basis and noninterest income excluding securities gains (losses), net.
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Management’s Discussion and Analysis
OVERVIEW
Earnings Summary U.S. Bancorp and its subsidiaries (the “Company”) reported net income of $1,176 million for the third quarter of 2007 or $.67 per diluted common share, compared with $1,203 million, or $.66 per diluted common share for the third quarter of 2006. Return on average assets and return on average common equity were 2.09 percent and 23.3 percent, respectively, for the third quarter of 2007, compared with returns of 2.23 percent and 23.6 percent, respectively, for the third quarter of 2006. The Company’s results for the third quarter of 2007 declined from the same period of 2006, as strong fee-based revenue growth in Payment Services and Wealth Management & Securities Services was offset by higher operating expenses and an expected increase in credit costs. In addition, the third quarter of 2006 included a $32 million gain on the sale of equity interests in a cardholder association.
     Total net revenue, on a taxable-equivalent basis, for the third quarter of 2007, was $108 million (3.2 percent) higher than the third quarter of 2006, primarily reflecting a 5.5 percent increase in noninterest income. Net interest income also increased slightly from a year ago, driven by growth in earning assets. Noninterest income growth was driven primarily by organic business growth in fee-based revenue. This growth in noninterest income was muted somewhat by adverse market conditions experienced during the third quarter of 2007. These market factors reduced trading and other revenue by approximately $21 million from a year ago. Additionally, the third quarter of 2006 included a $32 million gain on the sale of equity interests in a cardholder association.
     Total noninterest expense in the third quarter of 2007 was $90 million (5.9 percent) higher than in the third quarter of 2006, principally due to higher operating costs from investments in personnel, branches, customer service initiatives, marketing, business integration costs related to acquisitions, costs related to tax-advantaged investments and an increase in credit-related costs for other real estate owned and collection activities.
     The provision for credit losses for the third quarter of 2007 increased $64 million (47.4 percent), compared with the third quarter of 2006. The increase in the provision for credit losses from a year ago reflected growth in credit card accounts and higher commercial loan losses. In addition, the provision for credit losses in the third quarter of 2006 partially reflected the favorable residual impact on net charge-offs, principally for credit cards and other retail charge-offs, resulting from changes in bankruptcy laws in the fourth quarter of 2005. Net charge-offs in the third quarter of 2007 were $199 million, compared with $135 million in the third quarter of 2006. Refer to “Corporate Risk Profile” for further information on the provision for credit losses, net charge-offs, nonperforming assets and factors considered by the Company in assessing the credit quality of the loan portfolio and establishing the allowance for credit losses.
     The Company reported net income of $3,462 million for the first nine months of 2007 or $1.94 per diluted common share, compared with $3,557 million, or $1.95 per diluted common share for the first nine months of 2006. Return on average assets and return on average common equity were 2.09 percent and 22.9 percent, respectively, for the first nine months of 2007, compared with returns of 2.24 percent and 23.7 percent, respectively, for the first nine months of 2006. The Company’s results for the first nine months of 2007 declined from the same period of 2006, as strong fee-based revenue growth was offset by higher operating expenses and an expected increase in credit costs. In addition, the first nine months of 2006 included $67 million of gains from the initial public offering and subsequent sale of equity interests of a cardholder association.
     Total net revenue, on a taxable-equivalent basis, for the first nine months of 2007, was $184 million (1.8 percent) higher than the first nine months of 2006, primarily reflecting a 5.4 percent increase in noninterest income, partially offset by a 1.8 percent decline in net interest income from a year ago. Noninterest income growth was driven by organic business growth and expansion in payment processing and trust businesses. Fee-based revenue growth was partially offset by the net favorable impact in the first nine months of 2006 of $84 million from several previously reported items, including a $44 million trading gain related to certain derivatives, $67 million of gains from the initial public offering and subsequent sale of a cardholder association and a $10 million gain related to a favorable settlement in the merchant processing business, offset by a $37 million reduction in mortgage banking revenue due principally to the adoption of fair value accounting standards for mortgage servicing rights (“MSRs”).
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     Total noninterest expense in the first nine months of 2007 was $245 million (5.4 percent) higher than in the first nine months of 2006, principally due to higher operating costs from investments in business initiatives, business integration costs related to acquisitions, costs related to tax-advantaged investments, credit-related costs for other real estate owned and collection activities and an increase in merchant airline processing expenses primarily due to sales volumes and business expansion with a major airline. Growth in expenses from a year ago was partially offset by an $11 million debt prepayment charge recorded in the first nine months of 2006.
     The provision for credit losses for the first nine months of 2007 increased $192 million (51.2 percent), compared with the same period of 2006. The increase in the provision for credit losses from a year ago reflected growth in credit card accounts and higher commercial loan losses. In addition, the provision for credit losses in the first nine months of 2006 partially reflected the favorable residual impact on net charge-offs, principally for credit cards and other retail charge-offs, resulting from changes in bankruptcy laws in fourth quarter of 2005. Net charge-offs in the first nine months of 2007 were $567 million, compared with $375 million in the first nine months of 2006. Refer to “Corporate Risk Profile” for further information on the provision for credit losses, net charge-offs, nonperforming assets and factors considered by the Company in assessing the credit quality of the loan portfolio and establishing the allowance for credit losses.
STATEMENT OF INCOME ANALYSIS
Net Interest Income Net interest income, on a taxable-equivalent basis, was $1,685 million in the third quarter of 2007, compared with $1,673 million in the third quarter of 2006. Net interest income, on a taxable-equivalent basis, was $5,001 million in the first nine months of 2007, compared with $5,095 million in the first nine months of 2006. Compared with the same periods of 2006, average earning assets increased $7.7 billion in both the third quarter and first nine months of 2007, or 4.1 percent and 4.2 percent, respectively. The increases were primarily driven by growth in total average loans of $6.0 billion (4.3 percent) and $6.4 billion (4.6 percent) in the third quarter and first nine months of 2007, respectively, compared with the same periods of 2006. The positive impact on net interest income from the growth in earning assets was offset by a lower net interest margin. The net interest margin in the third quarter and first nine months of 2007 was 3.44 percent and 3.46 percent, respectively, compared with 3.56 percent and 3.68 percent, respectively, for the same periods of 2006, reflecting the competitive environment and the impact of a flat yield curve during the past several quarters. Compared with the same periods of 2006, credit spreads tightened by approximately 5 basis points in the third quarter and 8 basis points in the first nine months of 2007 across most lending products due to competitive loan pricing. In addition, funding costs were higher as rates paid on interest-bearing deposits increased and the funding mix continued to shift toward higher cost deposits and other funding sources. Net interest margin was also impacted by a decline in net free funds due to a decline in noninterest-bearing deposits, investment in bank-owned life insurance, share repurchases and the impact of acquisitions. An increase in loan fees partially offset these factors.
     The Company anticipates the net interest margin to remain relatively stable throughout the remainder of the year. Refer to the “Consolidated Daily Average Balance Sheet and Related Yields and Rates” table for further information on net interest income.
     Average loans for the third quarter and first nine months of 2007 were $6.0 billion (4.3 percent) and $6.4 billion (4.6 percent) higher, respectively, than the same periods of 2006, reflecting growth in retail loans, commercial loans and residential mortgages, partially offset by a decline in commercial real estate loans. Average credit card balances for the third quarter and first nine months of 2007 increased $2.1 billion (26.9 percent) and $1.8 billion (24.1 percent), respectively, compared with the same periods of 2006, as a result of growth in branch originated, co-branded and financial institution partner portfolios.
     Average investment securities in the third quarter and first nine months of 2007 were $1.3 billion (3.3 percent) and $1.0 billion (2.6 percent) higher, respectively, than the same periods of 2006, driven primarily by an increase in the municipal securities portfolio, partially offset by a reduction in mortgage-backed assets.
     Average noninterest-bearing deposits for the third quarter and first nine months of 2007 decreased $1.3 billion (4.5 percent) and $1.1 billion (4.0 percent), respectively, compared with the same periods of 2006, reflecting a decline in business demand deposits within most business lines as customers utilized deposit balances to fund business growth and meet other liquidity requirements.
     Average total savings deposits increased $1.0 billion (1.9 percent) and $.3 billion (.5 percent) in the third quarter and first nine months of 2007, compared with the same periods of 2006, as increases in interest
4 U.S. Bancorp


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checking balances were offset by declines in money market and savings balances, primarily within Consumer Banking. Interest checking balances for the third quarter and first nine months of 2007 increased $2.5 billion (10.4 percent) and $2.3 billion (9.9 percent), respectively, compared with the same periods of 2006, due to higher broker-dealer, government and institutional trust balances. Average money market and savings balances for the third quarter and first nine months of 2007 decreased $1.4 billion (4.5 percent) and $2.0 billion (6.2 percent), respectively, compared with the same periods of 2006, as a result of the Company’s deposit pricing decisions for money market products in relation to other fixed-rate deposit products. A portion of branch-based money market savings accounts migrated to fixed-rate time certificates, as customers took advantage of higher interest rates for these products.
     Average time certificates of deposit less than $100,000 were higher in the third quarter and first nine months of 2007 by $.7 billion (5.2 percent) and $1.0 billion (7.3 percent), respectively, compared with the same periods of 2006. The year-over-year growth in time certificates less than $100,000 was primarily due to consumer-based time deposits, reflecting customer migration to higher rate deposit products. Average time deposits greater than $100,000 decreased $1.3 billion (5.9 percent) and $1.0 billion (4.6 percent) in the third quarter and first nine months of 2007, respectively, compared with the same periods of 2006. Time deposits greater than $100,000 are largely viewed as purchased funds and are managed at levels deemed appropriate, given alternative funding sources.
Provision for Credit Losses The provision for credit losses for the third quarter and first nine months of 2007 increased $64 million (47.4 percent) and $192 million (51.2 percent), respectively, compared with the same periods of 2006. The increases in the provision for credit losses in the third quarter and first nine months of 2007 from the same periods a year ago reflected growth in credit card accounts and higher commercial loan losses. In addition, the provision for credit losses in the third quarter and first nine months of 2006 partially reflected the favorable residual impact on net charge-offs, principally for credit cards and other retail charge-offs, resulting from changes in bankruptcy laws in the fourth quarter of 2005. Net charge-offs were $199 million in the third quarter and $567 million in the first nine months of 2007, compared with $135 million in the third quarter and $375 million in the first nine months of 2006. Refer to “Corporate Risk Profile” for further information on the provision for credit losses, net charge-offs, nonperforming assets and factors considered by the Company in assessing the credit quality of the loan portfolio and establishing the allowance for credit losses.
Noninterest Income Noninterest income in the third quarter and first nine months of 2007 was $1,844 million and $5,395 million, respectively, compared with $1,748 million and $5,117 million in the same periods of 2006. The $96 million (5.5 percent) increase during the third quarter and $278 million (5.4 percent) increase during the first nine months of 2007, compared with the same periods in 2006, were driven by strong organic fee-based revenue growth, offset somewhat by market conditions in the third
Table 2 Noninterest Income
                                                     
    Three Months Ended     Nine Months Ended
    September 30,     September 30,
     
        Percent         Percent
(Dollars in Millions)   2007   2006   Change     2007   2006   Change
       
Credit and debit card revenue
  $235     $206       14.1 %     $668     $590       13.2 %
Corporate payment products revenue
    164       150       9.3         466       416       12.0  
ATM processing services
    62       63       (1.6 )       183       183        
Merchant processing services
    287       253       13.4         822       719       14.3  
Trust and investment management fees
    331       305       8.5         995       916       8.6  
Deposit service charges
    271       268       1.1         786       764       2.9  
Treasury management fees
    118       111       6.3         355       334       6.3  
Commercial products revenue
    107       100       7.0         312       311       .3  
Mortgage banking revenue
    76       68       11.8         211       167       26.3  
Investment products fees and commissions
    36       34       5.9         108       114       (5.3 )
Securities gains (losses), net
    7             *         11       3       *  
Other
    150       190       (21.1 )       478       600       (20.3 )
           
 
Total noninterest income
  $1,844     $1,748       5.5 %     $5,395     $5,117       5.4 %
       
* Not meaningful.
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quarter of 2007 adversely impacting valuations for certain trading securities and loans held for sale within a commercial real estate joint venture. Additionally, the third quarter and first nine months of 2006 were impacted by several previously reported, one-time items.
     The growth in credit and debit card revenue was primarily driven by an increase in customer accounts and higher customer transaction volumes from a year ago. The corporate payment products revenue growth reflected organic growth in sales volumes and card usage, and an acquired business. Merchant processing services revenue growth reflected an increase in customers and sales volumes. Trust and investment management fees increased year-over-year due to core account growth and favorable market conditions. Deposit service charges grew year-over-year due primarily to increased transaction-related fees and continued growth in net new checking accounts. Additionally, deposit account-related revenue, traditionally reflected in this fee category, continued to migrate to yield-related loan fees as customers utilized new consumer products. Treasury management fees increased over the prior year due to new customer growth, higher cross-selling activities with existing customers and new product offerings. Mortgage banking revenue grew year-over-year due to an increase in mortgage servicing income and production gains, partially offset by a change in the valuation of MSRs and related economic hedging activities. Mortgage banking revenue further increased in the first nine months of 2007 due to changes in accounting for MSRs and mortgage banking revenue that resulted in a $37 million reduction in revenue in the first quarter of 2006. Commercial products revenue increased in the third quarter of 2007, compared with the same period of the prior year, due to higher foreign exchange revenue, syndication fees and commercial leasing revenue.
     Favorable changes in fee-based revenue were partially offset by a decline in other income. The reduction in other income in the third quarter of 2007, compared with the third quarter of 2006, reflected the $32 million gain recognized in the third quarter of 2006 related to the sale of equity interests of a cardholder association. The decline also included third quarter 2007 market valuation losses of approximately $21 million, partially offset by an increase in revenue from investment in bank-owned life insurance programs. Other income further declined in the first nine months of 2007, compared with the first nine months of 2006, as a result of a $10 million favorable settlement within the merchant processing business and a $44 million trading gain related to terminating certain interest rate swaps recognized in the first quarter of 2006, as well as a $35 million gain on the initial public offering of a cardholder association recognized in the second quarter of 2006.
Noninterest Expense Noninterest expense was $1,628 million in the third quarter and $4,813 million in the first nine months of 2007, reflecting increases of $90 million (5.9 percent) and $245 million (5.4 percent), respectively, from the same periods of 2006. Compensation expense increased due to ongoing bank operations and acquired businesses. Net occupancy and equipment expense increased primarily due to acquisitions and branch-based business initiatives. Professional services expense for the first nine months of 2007 increased over the same period of the prior year due to revenue enhancing business initiatives and higher legal fees associated with the establishment of a bank charter in Ireland to support pan-European payment processing and litigation. Marketing and
Table 3 Noninterest Expense
                                                     
    Three Months Ended     Nine Months Ended
    September 30,     September 30,
     
        Percent         Percent
(Dollars in Millions)   2007   2006   Change     2007   2006   Change
       
Compensation
  $ 656     $ 632       3.8 %     $ 1,950     $ 1,892       3.1 %
Employee benefits
    119       123       (3.3 )       375       379       (1.1 )
Net occupancy and equipment
    175       168       4.2         511       494       3.4  
Professional services
    56       54       3.7         162       130       24.6  
Marketing and business development
    66       58       13.8         178       156       14.1  
Technology and communications
    127       128       (.8 )       378       372       1.6  
Postage, printing and supplies
    70       66       6.1         210       198       6.1  
Other intangibles
    94       89       5.6         283       263       7.6  
Debt prepayment
                              11       *  
Other
    265       220       20.5         766       673       13.8  
           
 
Total noninterest expense
  $ 1,628     $ 1,538       5.9 %     $ 4,813     $ 4,568       5.4 %
           
Efficiency ratio (a)
    46.2 %     45.0 %               46.3 %     44.7 %        
       
* Not meaningful
(a) Computed as noninterest expense divided by the sum of net interest income on a taxable-equivalent basis and noninterest income excluding securities gains (losses), net.
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business development expense for the third quarter and first nine months of 2007 increased year-over-year due to the timing of customer promotions, solicitations and advertising activities. Postage, printing and supplies expense increased primarily due to changes in postal rates. Other intangibles expense increased from the same periods of 2006 due to recent acquisitions in Consumer Banking, Wealth Management & Securities Services and Payment Services. Other expense increased over the prior year due to costs related to affordable housing and other tax-advantaged investments, an increase in merchant processing expenses driven by transaction volumes, integration expenses related to recent acquisitions and higher credit-related costs for other real estate owned and loan collection activities.
Income Tax Expense The provision for income taxes was $508 million (an effective rate of 30.2 percent) for the third quarter and $1,501 million (an effective rate of 30.2 percent) for the first nine months of 2007, compared with $532 million (an effective rate of 30.7 percent) and $1,678 million (an effective rate of 32.1 percent) for the same periods of 2006. For further information on income taxes, refer to Note 7 of the Notes to Consolidated Financial Statements.
BALANCE SHEET ANALYSIS
Loans The Company’s total loan portfolio was $149.0 billion at September 30, 2007, compared with $143.6 billion at December 31, 2006, an increase of $5.4 billion (3.8 percent). The increase was driven by growth in retail loans, commercial loans and residential mortgages, partially offset by a slight decrease in commercial real estate loans. The $1.8 billion (3.9 percent) increase in commercial loans was primarily driven by new customer relationships, utilization under lines of credit and growth in corporate payment card and commercial leasing balances.
     Commercial real estate loans decreased slightly to $28.5 billion at September 30, 2007, compared with $28.6 billion at December 31, 2006. The decline in commercial real estate balances reflected customer refinancing, a management decision to reduce condominium construction financing in selected markets and a slowdown in residential homebuilding impacting construction lending.
     Residential mortgages held in the loan portfolio increased $1.3 billion (6.0 percent) at September 30, 2007, compared with December 31, 2006, reflecting an increase in consumer finance originations.
     Total retail loans outstanding, which include credit card, retail leasing, home equity and second mortgages and other retail loans, increased $2.5 billion (5.2 percent) at September 30, 2007, compared with December 31, 2006. The increase was primarily driven by growth in credit card, installment and home equity loans, partially offset by decreases in retail leasing and student loan balances.
     At September 30, 2007, the residential and home equity and second mortgage portfolios included approximately $3.2 billion and $.9 billion, respectively, of loans to customers that may be defined as sub-prime borrowers. Together, these balances represented 2.8 percent of the Company’s total loans outstanding at September 30, 2007.
Loans Held for Sale Loans held for sale, consisting primarily of residential mortgages and student loans to be sold in the secondary market, were $4.6 billion at September 30, 2007, compared with $3.3 billion at December 31, 2006. The increase in loans held for sale was principally due to loan originations and the timing of sales during the first nine months of 2007.
Investment Securities Investment securities, including available-for-sale and held-to-maturity, totaled
Table 4 Available-for-Sale Investment Securities
                                                                     
    September 30, 2007     December 31, 2006
     
        Weighted-       Weighted-    
        Average   Weighted-         Average   Weighted-
    Amortized       Maturity   Average     Amortized       Maturity   Average
(Dollars in Millions)   Cost   Fair Value   in Years   Yield (c)     Cost   Fair Value   in Years   Yield (c)
       
U.S. Treasury and agencies
  $444     $440       9.9       5.98 %     $472     $467       10.1       5.94 %
Mortgage-backed securities (a)
    32,005       31,130       7.0       5.16         34,465       33,787       5.6       5.10  
Asset-backed securities (a)
    5       5       .1       5.65         7       7       .1       5.32  
Obligations of state and political subdivisions (b)
    6,691       6,624       10.7       6.77         4,463       4,539       9.7       6.68  
Other debt securities
    1,883       1,772       27.0       6.16         994       993       23.8       6.08  
Other investments
    333       322             7.00         229       237             6.26  
           
 
Total available-for-sale investment securities
  $41,361     $40,293       8.6       5.50 %     $40,630     $40,030       6.6       5.32 %
       
(a) Information related to asset and mortgage-backed securities included above is presented based upon weighted-average maturities anticipating future prepayments.
(b) Information related to obligations of state and political subdivisions is presented based upon yield to first optional call date if the security is purchased at a premium, yield to maturity if purchased at par or a discount.
(c) Average yields are presented on a fully-taxable equivalent basis under a tax rate of 35 percent. Yields are computed based on historical cost balances. Average yield and maturity calculations exclude equity securities that have no stated yield or maturity.
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$40.4 billion at September 30, 2007, compared with $40.1 billion at December 31, 2006, reflecting purchases of $5.4 billion of securities, which were offset by sales, maturities, prepayments and a $.5 billion increase in the unrealized loss on the available-for-sale portfolio. As of September 30, 2007, approximately 36 percent of the investment securities portfolio represented adjustable-rate financial instruments, compared with 37 percent at December 31, 2006. Adjustable-rate financial instruments include variable-rate collateralized mortgage obligations, mortgage-backed securities, agency securities, adjustable-rate money market accounts, asset-backed securities, corporate debt securities and floating-rate preferred stock.
     The Company conducts a regular assessment of its investment portfolios to determine whether any securities are other-than-temporarily impaired. The substantial portion of securities that have unrealized losses are either government securities, issued by government-backed agencies or privately issued securities with high investment grade credit ratings. As of the reporting date, the Company expects to receive all contractual principal and interest related to these securities.
Deposits Total deposits were $122.7 billion at September 30, 2007, compared with $124.9 billion at December 31, 2006, a decrease of $2.1 billion (1.7 percent). The decrease in total deposits was primarily the result of decreases in noninterest-bearing deposits and money market savings accounts, partially offset by increases in interest checking accounts and time deposits. The $3.9 billion (12.0 percent) decrease in noninterest-bearing deposits was primarily due to a decline of business demand deposits. The $2.5 billion (9.7 percent) decrease in money market savings account balances reflected the Company’s deposit pricing decisions for money market products in relation to other fixed-rate deposit products and business customer decisions to utilize deposit liquidity. Interest checking account balances increased $2.5 billion (10.0 percent) primarily due to higher broker-dealer, government and institutional trust balances.
     Time deposits greater than $100,000 increased $1.1 billion (5.1 percent), including a $.5 billion (10.9 percent) increase in personal certificates of deposit, at September 30, 2007, compared with December 31, 2006. Time deposits greater than $100,000 are largely viewed as purchased funds and are managed to levels deemed appropriate given alternative funding sources.
Borrowings The Company utilizes both short-term and long-term borrowings to fund growth of assets in excess of deposit growth. Short-term borrowings, which include federal funds purchased, commercial paper, repurchase agreements, borrowings secured by high-grade assets and other short-term borrowings, were $28.9 billion at September 30, 2007, compared with $26.9 billion at December 31, 2006. Short-term funding is managed within approved liquidity policies. Long-term debt was $45.2 billion at September 30, 2007, compared with $37.6 billion at December 31, 2006, reflecting the issuances of $3.0 billion of convertible senior debentures, $1.3 billion of subordinated notes, $1.4 billion of medium-term bank notes and $.5 billion of junior subordinated debentures, and the net addition of $8.8 billion of Federal Home Loan Bank (“FHLB”) advances, partially offset by long-term debt maturities and repayments. The $7.6 billion (20.3 percent) increase in long-term debt reflected wholesale funding associated with the Company’s asset growth and asset/liability management activities. Refer to the “Liquidity Risk Management” section for discussion of liquidity management of the Company.
CORPORATE RISK PROFILE
Overview Managing risks is an essential part of successfully operating a financial services company. The most prominent risk exposures are credit, residual value, operational, interest rate, market and liquidity risk. Credit risk is the risk of not collecting the interest and/or the principal balance of a loan or investment when it is due. Residual value risk is the potential reduction in the end-of-term value of leased assets or the residual cash flows related to asset securitization and other off-balance sheet structures. Operational risk includes risks related to fraud, legal and compliance risk, processing errors, technology, breaches of internal controls and business continuation and disaster recovery risk. Interest rate risk is the potential reduction of net interest income as a result of changes in interest rates, which can affect the repricing of assets and liabilities differently, as well as their market value. Market risk arises from fluctuations in interest rates, foreign exchange rates, and security prices that may result in changes in the values of financial instruments, such as trading and available-for-sale securities that are accounted for on a mark-to-market basis. Liquidity risk is the possible inability to fund obligations to depositors, investors or borrowers. In addition, corporate strategic decisions, as well as the risks described above, could give rise to reputation risk. Reputation risk is the risk that negative publicity or press, whether true or not, could result in costly litigation or cause a decline in the Company’s stock value, customer base or revenue.
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Table 5 Delinquent Loan Ratios as a Percent of Ending Loan Balances
                       
    September 30,   December 31,
90 days or more past due excluding nonperforming loans   2007   2006
 
Commercial
               
 
Commercial
    .09 %     .06 %
 
Lease financing
           
     
   
Total commercial
    .07       .05  
Commercial real estate
               
 
Commercial mortgages
    .02       .01  
 
Construction and development
    .08       .01  
     
   
Total commercial real estate
    .04       .01  
Residential mortgages
    .64       .45  
Retail
               
 
Credit card
    1.66       1.75  
 
Retail leasing
    .06       .03  
 
Other retail
    .25       .23  
     
   
Total retail
    .52       .48  
     
     
Total loans
    .30 %     .24 %
 
                   
    September 30,   December 31,
90 days or more past due including nonperforming loans   2007   2006
 
Commercial
    .51 %     .57 %
Commercial real estate
    .83       .53  
Residential mortgages (a)
    .86       .62  
Retail
    .58       .58  
     
 
Total loans
    .65 %     .57 %
 
(a) Delinquent loan ratios exclude advances made pursuant to servicing agreements to Government National Mortgage Association (“GNMA”) mortgage pools whose repayments are insured by the Federal Housing Administration or guaranteed by the Department of Veterans Affairs. Including the guaranteed amounts, the ratio of residential mortgages 90 days or more past due was 3.20 percent at September 30, 2007, and 3.11 percent at December 31, 2006.
Credit Risk Management The Company’s strategy for credit risk management includes well-defined, centralized credit policies, uniform underwriting criteria, and ongoing risk monitoring and review processes for all commercial and consumer credit exposures. In evaluating its credit risk, the Company considers changes, if any, in underwriting activities, the loan portfolio composition (including product mix and geographic, industry or customer-specific concentrations), trends in loan performance, the level of allowance coverage relative to similar banking institutions and macroeconomic factors. Refer to “Management’s Discussion and Analysis — Credit Risk Management” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, for a more detailed discussion on credit risk management processes.
Loan Delinquencies Trends in delinquency ratios represent an indicator, among other considerations, of credit risk within the Company’s loan portfolios. The Company measures delinquencies, both including and excluding nonperforming loans, to enable comparability with other companies. Accruing loans 90 days or more past due totaled $451 million at September 30, 2007, compared with $349 million at December 31, 2006. These loans are not included in nonperforming assets and continue to accrue interest because they are adequately secured by collateral, and/or are in the process of collection and are reasonably expected to result in repayment or restoration to current status. The ratio of accruing loans 90 days or more past due to total loans was ..30 percent at September 30, 2007, compared with ..24 percent at December 31, 2006.
     The Company’s retail lending business utilizes several distinct business processes and channels to originate retail credit, including traditional branch lending, indirect lending, portfolio acquisitions and a consumer finance division. Generally, loans managed by the Company’s consumer finance division exhibit higher credit risk characteristics, but are priced commensurate with the differing risk profile. To monitor credit risk associated with retail loans, the Company monitors delinquency ratios in the various stages of collection, including nonperforming status.
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The following table provides summary delinquency information for residential mortgages and retail loans:
                                         
          As a Percent of Ending
    Amount     Loan Balances
     
    September 30,   December 31,     September 30,   December 31,
(Dollars in Millions)   2007   2006     2007   2006
       
Residential mortgages
                                 
   
30-89 days
    $273       $154         1.21 %     .72 %
   
90 days or more
    145       95         .64       .45  
   
Nonperforming
    48       36         .21       .17  
           
     
Total
    $466       $285         2.06 %     1.34 %
       
Retail
                                 
 
Credit card
                                 
   
30-89 days
    $243       $204         2.37 %     2.35 %
   
90 days or more
    170       152         1.66       1.75  
   
Nonperforming
    17       31         .16       .36  
           
     
Total
    $430       $387         4.19 %     4.46 %
 
Retail leasing
                                 
   
30-89 days
    $33       $34         .53 %     .49 %
   
90 days or more
    4       2         .06       .03  
   
Nonperforming
                         
           
     
Total
    $37       $36         .59 %     .52 %
 
Home equity and second mortgages
                                 
   
30-89 days
    $76       $79         .47 %     .51 %
   
90 days or more
    33       28         .20       .18  
   
Nonperforming
    12       14         .07       .09  
           
     
Total
    $121       $121         .74 %     .78 %
 
Other retail
                                 
   
30-89 days
    $160       $131         .93 %     .80 %
   
90 days or more
    52       44         .30       .27  
   
Nonperforming
    3       3         .02       .02  
           
     
Total
    $215       $178         1.25 %     1.09 %
       
Within these product categories, the following table provides information on delinquent and nonperforming loans as a percent of ending loan balances, by channel:
                                         
    Consumer Finance     Other Retail
     
    September 30,   December 31,     September 30,   December 31,
    2007   2006     2007   2006
       
Residential mortgages
                                 
   
30-89 days
    1.67 %     .83 %       .88 %     .66 %
   
90 days or more
    .84       .64         .50       .32  
   
Nonperforming
    .31       .19         .14       .16  
           
     
Total
    2.82 %     1.66 %       1.52 %     1.14 %
       
Retail
                                 
 
Credit card
                                 
   
30-89 days
    %     %       2.37 %     2.35 %
   
90 days or more
                  1.66       1.75  
   
Nonperforming
                  .16       .36  
           
     
Total
    %     %       4.19 %     4.46 %
 
Retail leasing
                                 
   
30-89 days
    %     %       .53 %     .49 %
   
90 days or more
                  .06       .03  
   
Nonperforming
                         
           
     
Total
    %     %       .59 %     .52 %
 
Home equity and second mortgages
                                 
   
30-89 days
    2.39 %     1.64 %       .22 %     .35 %
   
90 days or more
    1.19       .79         .08       .10  
   
Nonperforming
    .11       .11         .07       .09  
           
     
Total
    3.69 %     2.54 %       .37 %     .54 %
 
Other retail
                                 
   
30-89 days
    5.92 %     4.30 %       .80 %     .71 %
   
90 days or more
    1.19       .76         .28       .26  
   
Nonperforming
                  .02       .02  
           
     
Total
    7.11 %     5.06 %       1.10 %     .99 %
       
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Table 6 Nonperforming Assets (a)
                       
    September 30,   December 31,
(Dollars in Millions)   2007   2006
 
Commercial
               
 
Commercial
  $161     $196  
 
Lease financing
    46       40  
     
   
Total commercial
    207       236  
Commercial real estate
               
 
Commercial mortgages
    73       112  
 
Construction and development
    153       38  
     
   
Total commercial real estate
    226       150  
Residential mortgages
    48       36  
Retail
               
 
Credit card
    17       31  
 
Retail leasing
           
 
Other retail
    15       17  
     
   
Total retail
    32       48  
     
     
Total nonperforming loans
    513       470  
Other real estate (b)
    113       95  
Other assets
    15       22  
     
     
Total nonperforming assets
  $641     $587  
     
Accruing loans 90 days or more past due
  $451     $349  
Nonperforming loans to total loans
    .34 %     .33 %
Nonperforming assets to total loans plus other real estate (b)
    .43 %     .41 %
 
Changes in Nonperforming Assets
                                 
    Commercial and   Retail and    
    Commercial   Residential    
(Dollars in Millions)   Real Estate   Mortgages (d)   Total
 
Balance December 31, 2006
  $406     $181       $587  
 
Additions to nonperforming assets
                       
   
New nonaccrual loans and foreclosed properties
    396       47       443  
   
Advances on loans
    9             9  
     
     
Total additions
    405       47       452  
 
Reductions in nonperforming assets
                       
   
Paydowns, payoffs
    (107 )     (18 )     (125 )
   
Net sales
    (83 )           (83 )
   
Return to performing status
    (43 )     (1 )     (44 )
   
Charge-offs (c)
    (136 )     (10 )     (146 )
     
     
Total reductions
    (369 )     (29 )     (398 )
     
       
Net additions to nonperforming assets
    36       18       54  
     
Balance September 30, 2007
  $442     $199       $641  
 
(a) Throughout this document, nonperforming assets and related ratios do not include accruing loans 90 days or more past due.
(b) Excludes $95 million and $83 million of foreclosed GNMA loans which continue to accrue interest at September 30, 2007, and December 31, 2006, respectively.
(c) Charge-offs exclude actions for certain card products and loan sales that were not classified as nonperforming at the time the charge-off occurred.
(d) Residential mortgage information excludes changes related to residential mortgages serviced by others.
     Within the consumer finance division at September 30, 2007, approximately $206 million and $77 million of these delinquent and nonperforming residential mortgages and other retail loans, respectively, were to customers that may be defined as sub-prime borrowers, compared with $105 million and $50 million, respectively, at December 31, 2006.
Nonperforming Assets The level of nonperforming assets represents another indicator of the potential for future credit losses. At September 30, 2007, total nonperforming assets were $641 million, compared with $587 million at December 31, 2006. The ratio of total nonperforming assets to total loans and other real estate was ..43 percent at September 30, 2007, compared with ..41 percent at December 31, 2006. The change in nonperforming assets reflects higher levels of nonperforming loans resulting from stress in the mortgage lending and homebuilding industries and an increase in other real estate assets primarily representing residential mortgage loan foreclosures.
     Included in nonperforming loans were restructured loans of $20 million at September 30, 2007, compared with $38 million at December 31, 2006. At September 30, 2007, and December 31, 2006, the Company had no commitments to lend additional funds under restructured loans.
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     Other real estate included in nonperforming assets was $113 million at September 30, 2007, compared with $95 million at December 31, 2006, and was primarily related to properties that the Company has taken ownership of that once secured residential mortgages and home equity and second mortgage loan balances.
The following table provides an analysis of other real estate as a percent of their related loan balances, including further detail for residential mortgages and home equity and second mortgage loan balances by geographical location:
                                         
          As a Percent of Ending
    Amount     Loan Balances
     
    September 30,   December 31,     September 30,   December 31,
(Dollars in Millions)   2007   2006     2007   2006
       
Residential mortgages and home equity and second mortgages
                                 
 
Michigan
  $24       $17         4.28 %     2.90 %
 
Ohio
    10       12         .39       .48  
 
Minnesota
    12       11         .23       .21  
 
Colorado
    7       7         .25       .28  
 
Missouri
    6       6         .23       .25  
 
All other states
    52       38         .21       .16  
           
   
Total residential mortgages and home equity and second mortgages
    111       91         .29       .25  
Commercial real estate and construction
    2       4         .01       .01  
           
     
Total
  $113       $95         .08 %     .07 %
       
     Within other real estate in the table above, approximately $62 million at September 30, 2007, and $41 million at December 31, 2006, were from portfolios that may be defined as sub-prime.
     The Company expects nonperforming assets to increase moderately over the next several quarters due to continued stress in the mortgage lending and homebuilding industries.
Restructured Loans Accruing Interest On a case-by-case basis, management determines whether an account that experiences financial difficulties should be modified as to its interest rate or repayment terms to maximize the Company’s collection of its balance.
     Loans restructured at a rate equal to or greater than that of a new loan with comparable risk at the time the contract is modified are excluded from restructured loans once repayment performance, in accordance with the modified agreement, has been demonstrated over several payment cycles. Loans that have interest rates reduced below comparable market rates remain classified as restructured loans; however, interest income is accrued at the reduced rate as long as the customer complies with the revised terms and conditions.
The following table provides a summary of restructured loans that continue to accrue interest:
                                     
          As a Percent of Ending
    Amount     Loan Balances
     
    September 30,   December 31,     September 30,   December 31,
(Dollars in Millions)   2007   2006     2007   2006
       
Commercial
  $20     $18         .04 %     .04 %
Commercial real estate
          1                
Residential mortgages
    100       80         .44       .38  
Credit card
    300       267         2.93       3.08  
Other retail
    48       39         .12       .10  
           
 
Total
  $468     $405         .31 %     .28 %
       
Analysis of Loan Net Charge-Offs Total loan net charge-offs were $199 million and $567 million during the third quarter and first nine months of 2007, respectively, compared with net charge-offs of $135 million and $375 million, respectively, for the same periods of 2006. The ratio of total loan net charge-offs to average loans outstanding on an annualized basis in the third quarter and first nine months of 2007 was .54 percent and ..52 percent, respectively, compared with .38 percent and .36 percent, respectively, for the same periods of 2006. The year-over-year increases in total net charge-offs were due primarily to an anticipated increase in consumer charge-offs, primarily related to credit cards, and somewhat higher commercial loan net charge-offs. In addition, net charge-offs during 2006 reflected the beneficial impact of bankruptcy legislation that went into effect in the fourth quarter of 2005.
     Commercial and commercial real estate loan net charge-offs for the third quarter of 2007 were
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Table 7 Net Charge-offs as a Percent of Average Loans Outstanding
                                         
    Three Months Ended     Nine Months Ended
    September 30,     September 30,
     
    2007   2006     2007   2006
       
Commercial
                                 
 
Commercial
    .25 %     .18 %       .25 %     .12 %
 
Lease financing
    .76       .23         .52       .44  
           
   
Total commercial
    .31       .18         .29       .16  
Commercial real estate
                                 
 
Commercial mortgages
    .02               .06       .01  
 
Construction and development
    .04               .04       .02  
           
   
Total commercial real estate
    .03               .06       .01  
Residential mortgages
    .30       .21         .27       .18  
Retail
                                 
 
Credit card
    3.09       2.85         3.36       2.74  
 
Retail leasing
    .19       .22         .20       .19  
 
Home equity and second mortgages
    .49       .31         .44       .33  
 
Other retail
    1.00       .79         .93       .81  
           
   
Total retail
    1.15       .90         1.13       .87  
           
     
Total loans
    .54 %     .38 %       .52 %     .36 %
       
$39 million (.20 percent of average loans outstanding on an annualized basis), compared with $21 million (.11 percent of average loans outstanding on an annualized basis) for the third quarter of 2006. Commercial and commercial real estate loan net charge-offs for the first nine months of 2007 were $113 million (.20 percent of average loans outstanding on an annualized basis), compared with $55 million (.10 percent of average loans outstanding on an annualized basis) for the first nine months of 2006. Given the continuing stress in the homebuilding industry, the Company expects commercial and commercial real estate net charge-offs to continue to increase moderately over the next several quarters.
     Retail loan net charge-offs for the third quarter of 2007 were $143 million (1.15 percent of average loans outstanding on an annualized basis), compared with $103 million (.90 percent of average loans outstanding on an annualized basis) for the third quarter of 2006. Retail loan net charge-offs for the first nine months of 2007 were $410 million (1.13 percent of average loans outstanding on an annualized basis), compared with $291 million (.87 percent of average loans outstanding on an annualized basis) for the first nine months of 2006. The increase in retail loan net charge-offs reflected growth in the retail portfolios, including an increase in average credit card balances of 26.9 percent in the third quarter and 24.1 percent in the first nine months of 2007, compared with the same periods of the prior year. In addition, net charge-offs for 2006 reflected the beneficial impact of bankruptcy legislation changes that occurred in the fourth quarter of 2005. The Company anticipates higher delinquencies in the retail portfolios and that retail net charge-offs will increase moderately over the next several quarters.
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The following table provides an analysis of net charge-offs as a percent of average loans outstanding managed by the consumer finance division, compared with other retail related loans:
                                                                     
    Three Months Ended September 30,     Nine Months Ended September 30,
     
        Percent of         Percent of
    Average Loans   Average Loans     Average Loans   Average Loans
     
(Dollars in Millions) 2007   2006   2007   2006     2007   2006   2007   2006
       
Consumer Finance (a)
                                                                 
 
Residential mortgages
  $ 9,360     $ 7,627       .64 %     .52 %     $ 8,943     $ 7,245       .58 %     .48 %
 
Home equity and second mortgages
    1,837       1,939       3.02       1.43         1,848       1,993       2.53       1.48  
 
Other retail
    421       397       3.77       5.00         410       401       2.93       4.67  
Other Retail
                                                                 
 
Residential mortgages
  $ 12,898     $ 13,491       .06 %     .03 %     $ 12,945     $ 13,747       .05 %     .03 %
 
Home equity and second mortgages
    14,211       13,227       .17       .15         13,933       13,054       .16       .15  
 
Other retail
    16,619       15,172       .93       .68         16,286       14,815       .88       .70  
Total Company
                                                                 
 
Residential mortgages
  $ 22,258     $ 21,118       .30 %     .21 %     $ 21,888     $ 20,992       .27 %     .18 %
 
Home equity and second mortgages
    16,048       15,166       .49       .31         15,781       15,047       .44       .33  
 
Other retail
    17,040       15,569       1.00       .79         16,696       15,216       .93       .81  
       
(a) Consumer finance category included credit originated and managed by US Bank Consumer Finance as well as home equity and second mortgages with a loan-to-value greater than 100 percent that were originated in the branches.
Within the consumer finance division, the Company originates loans to customers that may be defined as sub-prime borrowers. The following table provides further information on net charge-offs as a percent of average loans outstanding for this division:
                                                                       
    Three Months Ended September 30,     Nine Months Ended September 30,
     
        Percent of         Percent of
    Average Loans   Average Loans     Average Loans   Average Loans
     
(Dollars in Millions)   2007   2006   2007   2006     2007   2006   2007   2006
       
Residential mortgages
                                                                 
 
Sub-prime borrowers
  $ 3,203     $ 2,754       1.24 %     .86 %     $ 3,115     $ 2,523       1.16 %     .85 %
 
Other borrowers
    6,157       4,873       .32       .33         5,828       4,722       .28       .28  
           
   
Total
  $ 9,360     $ 7,627       .64 %     .52 %     $ 8,943     $ 7,245       .58 %     .48 %
Home equity and second mortgages
                                                                 
 
Sub-prime borrowers
  $ 914     $ 850       3.91 %     1.87 %     $ 912     $ 825       3.23 %     1.78 %
 
Other borrowers
    923       1,089       2.15       1.09         936       1,168       1.86       1.26  
           
   
Total
  $ 1,837     $ 1,939       3.02 %     1.43 %     $ 1,848     $ 1,993       2.53 %     1.48 %
       
Analysis and Determination of the Allowance for Credit Losses The allowance for loan losses provides coverage for probable and estimable losses inherent in the Company’s loan and lease portfolio. Management evaluates the allowance each quarter to determine that it is adequate to cover these inherent losses. Several factors were taken into consideration in evaluating the allowance for credit losses at September 30, 2007, including the risk profile of the portfolios, loan net charge-offs during the period, the level of nonperforming assets, accruing loans 90 days or more past due, delinquency ratios and changes in restructured loan balances compared with December 31, 2006. Management also considered the uncertainty related to certain industry sectors, and the extent of credit exposure to specific borrowers within the portfolio. In addition, concentration risks associated with commercial real estate and the mix of loans, including credit cards, loans originated through the consumer finance division and residential mortgage balances, and their relative credit risks were evaluated. Finally, the Company considered current economic conditions that might impact the portfolio.
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Table 8 Summary of Allowance for Credit Losses
                                           
    Three Months Ended     Nine Months Ended
    September 30,     September 30,
     
(Dollars in Millions)   2007   2006     2007   2006
       
Balance at beginning of period
  $2,260     $2,251       $2,256     $2,251  
Charge-offs
                                 
 
Commercial
                                 
   
Commercial
    38       34         117       86  
   
Lease financing
    16       12         45       37  
           
     
Total commercial
    54       46         162       123  
 
Commercial real estate
                                 
   
Commercial mortgages
    3       1         13       7  
   
Construction and development
    1               3       1  
           
     
Total commercial real estate
    4       1         16       8  
 
Residential mortgages
    17       12         45       31  
 
Retail
                                 
   
Credit card
    93       65         280       178  
   
Retail leasing
    5       6         16       19  
   
Home equity and second mortgages
    22       14         58       46  
   
Other retail
    61       51         168       141  
           
     
Total retail
    181       136         522       384  
           
       
Total charge-offs
    256       195         745       546  
Recoveries
                                 
 
Commercial
                                 
   
Commercial
    12       16         38       50  
   
Lease financing
    5       9         23       20  
           
     
Total commercial
    17       25         61       70  
 
Commercial real estate
                                 
   
Commercial mortgages
    2       1         4       6  
   
Construction and development
                         
           
     
Total commercial real estate
    2       1         4       6  
 
Residential mortgages
          1         1       2  
 
Retail
                                 
   
Credit card
    16       9         48       26  
   
Retail leasing
    2       2         6       9  
   
Home equity and second mortgages
    2       2         6       9  
   
Other retail
    18       20         52       49  
           
     
Total retail
    38       33         112       93  
           
       
Total recoveries
    57       60         178       171  
Net Charge-offs
                                 
 
Commercial
                                 
   
Commercial
    26       18         79       36  
   
Lease financing
    11       3         22       17  
           
     
Total commercial
    37       21         101       53  
 
Commercial real estate
                                 
   
Commercial mortgages
    1               9       1  
   
Construction and development
    1               3       1  
           
     
Total commercial real estate
    2               12       2  
 
Residential mortgages
    17       11         44       29  
 
Retail
                                 
   
Credit card
    77       56         232       152  
   
Retail leasing
    3       4         10       10  
   
Home equity and second mortgages
    20       12         52       37  
   
Other retail
    43       31         116       92  
           
     
Total retail
    143       103         410       291  
           
       
Total net charge-offs
    199       135         567       375  
           
Provision for credit losses
    199       135         567       375  
Acquisitions and other changes
          5         4       5  
           
Balance at end of period
  $2,260     $2,256       $2,260     $2,256  
           
Components
                                 
 
Allowance for loan losses
  $2,041     $2,034                    
 
Liability for unfunded credit commitments
    219       222                    
                   
   
Total allowance for credit losses
  $2,260     $2,256                    
                   
Allowance for credit losses as a percentage of
                                 
 
Period-end loans
    1.52 %     1.58 %                  
 
Nonperforming loans
    441       476                    
 
Nonperforming assets
    353       392                    
 
Annualized net charge-offs
    286       421                    
       
    
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At September 30, 2007, the allowance for credit losses was $2,260 million (1.52 percent of loans), compared with an allowance of $2,256 million (1.57 percent of loans) at December 31, 2006. The ratio of the allowance for credit losses to nonperforming loans was 441 percent at September 30, 2007, compared with 480 percent at December 31, 2006. The ratio of the allowance for credit losses to annualized loan net charge-offs was 286 percent at September 30, 2007, compared with 415 percent at December 31, 2006.
Residual Value Risk Management The Company manages its risk to changes in the residual value of leased assets through disciplined residual valuation setting at the inception of a lease, diversification of its leased assets, regular residual asset valuation reviews and monitoring of residual value gains or losses upon the disposition of assets. As of September 30, 2007, no significant change in the amount of residuals or concentration of the portfolios has occurred since December 31, 2006. Refer to “Management’s Discussion and Analysis — Residual Value Risk Management” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, for further discussion on residual value risk management.
Operational Risk Management The Company manages operational risk through a risk management framework and its internal control processes. Within this framework, the Corporate Risk Committee (“Risk Committee”) provides oversight and assesses the most significant operational risks facing the Company within its business lines. Under the guidance of the Risk Committee, enterprise risk management personnel establish policies and interact with business lines to monitor significant operating risks on a regular basis. Business lines have direct and primary responsibility and accountability for identifying, controlling and monitoring operational risks embedded in their business activities. Refer to “Management’s Discussion and Analysis — Operational Risk Management” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, for further discussion on operational risk management.
Interest Rate Risk Management In the banking industry, changes in interest rates are a significant risk that can impact earnings, market valuations and safety and soundness of an entity. To minimize the volatility of net interest income and the market value of assets and liabilities, the Company manages its exposure to changes in interest rates through asset and liability management activities within guidelines established by its Asset Liability Policy Committee (“ALPC”) and approved by the Board of Directors. ALPC has the responsibility for approving and ensuring compliance with ALPC management policies, including interest rate risk exposure. The Company uses net interest income simulation analysis and market value of equity modeling for measuring and analyzing consolidated interest rate risk.
Net Interest Income Simulation Analysis Through this simulation, management estimates the impact on net interest income of gradual upward or downward changes of market interest rates over a one-year period, the effect of immediate and sustained parallel shifts in the yield curve and the effect of immediate and sustained flattening or steepening of the yield curve. The table below summarizes the interest rate risk of net interest income based on forecasts over the succeeding 12 months. At September 30, 2007, the Company’s overall interest rate risk position was liability sensitive to changes in interest rates. ALPC policy guidelines limit the estimated change in net interest income to 4.0 percent of forecasted net interest income over the succeeding 12 months. At September 30, 2007, and December 31, 2006, the Company was within its policy guidelines. Refer to “Management’s Discussion and Analysis — Net Interest Income Simulation Analysis” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, for further discussion on net interest income simulation analysis.
Market Value of Equity Modeling The Company also manages interest rate sensitivity by utilizing market value of equity modeling, which measures the degree to which the market values of the Company’s assets, liabilities and off-balance sheet instruments will change given a change in interest rates. ALPC guidelines limit the change in market value of equity in a 200 basis point parallel rate shock to 15 percent of the market value of equity assuming interest rates at September 30, 2007. The up 200 basis point scenario resulted in a 7.2 percent decrease in the market value of equity at September 30, 2007, compared with a 6.7 percent

Sensitivity of Net Interest Income:
                                                                   
    September 30, 2007     December 31, 2006
     
    Down 50   Up 50   Down 200   Up 200     Down 50   Up 50   Down 200   Up 200
    Immediate   Immediate   Gradual   Gradual     Immediate   Immediate   Gradual   Gradual
  
Net interest income
    .64%       (1.06)%       1.56%       (3.41)%         .42%       (1.43)%       .92%       (2.95)%  
       
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Table 9 Derivative Positions
                                                         
    September 30, 2007     December 31, 2006
     
        Weighted-         Weighted-
        Average         Average
        Remaining         Remaining
    Notional   Fair   Maturity     Notional   Fair   Maturity
(Dollars in Millions)   Amount   Value   In Years     Amount   Value   In Years
  
   
Asset and Liability Management Positions
                                                 
   
 
Interest rate contracts
                                                 
   
Receive fixed/pay floating swaps
  $2,880     $(63 )     50.77       $5,345     $27       22.97  
   
Pay fixed/receive floating swaps
    17,664       (73 )     2.67         12,329             2.33  
   
Futures and forwards
                                                 
     
Buy
    8,876       (41 )     .10         4,008             .22  
     
Sell
    8,841       (11 )     .15         2,816       3       .09  
   
Options
                                                 
     
Written
    12,714             .12         7,544       (1 )     .13  
 
Foreign exchange contracts
                                                 
   
Cross-currency swaps
    1,879       153       9.05         386       14       8.61  
   
Forwards
    1,162       (29 )     .02         318       1       .02  
 
Equity contracts
    78       1       2.47         86       4       2.95  
 
Credit default swaps
    46             4.31         25       (1 )     4.72  
   
Customer-related Positions
                                                 
   
 
Interest rate contracts
                                                 
   
Receive fixed/pay floating swaps
  $12,468     $78       5.25       $10,371     $(42 )     5.42  
   
Pay fixed/receive floating swaps
    12,463       (12 )     5.25         10,341       98       5.42  
   
Options
                                                 
     
Purchased
    2,107       3       2.08         1,899       5       1.92  
     
Written
    2,100             2.08         1,899       (3 )     1.92  
 
Risk participation agreements (a)
                                                 
   
Purchased
    245             6.83         206             6.62  
   
Written
    525       (1 )     5.73         356             6.05  
 
Foreign exchange rate contracts
                                                 
   
Forwards and swaps
                                                 
     
Buy
    2,836       135       .50         2,092       52       .46  
     
Sell
    2,748       (123 )     .51         2,033       (43 )     .47  
   
Options
                                                 
     
Purchased
    173       (4 )     1.03         408       (3 )     .44  
     
Written
    173       4       1.03         408       3       .44  
       
(a) At September 30, 2007, the credit equivalent amount was $2 million and $64 million, compared with $2 million and $50 million at December 31, 2006, for purchased and written risk participation agreements, respectively.
decrease at December 31, 2006. The down 200 basis point scenario resulted in a 4.0 percent decrease in the market value of equity at September 30, 2007, compared with a 1.8 percent decrease at December 31, 2006. At September 30, 2007, and December 31, 2006, the Company was within its policy guidelines.
     The Company also uses duration of equity as a measure of interest rate risk. The duration of equity is a measure of the net market value sensitivity of the assets, liabilities and derivative positions of the Company. At September 30, 2007, the duration of assets, liabilities and equity was 1.8 years, 1.9 years and 1.3 years, respectively, compared with 1.8 years, 1.9 years and 1.6 years, respectively, at December 31, 2006. The duration of equity measures shows that sensitivity of the market value of equity of the Company was liability sensitive to changes in interest rates. Refer to “Management’s Discussion and Analysis — Market Value of Equity Modeling” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, for further discussion on market value of equity modeling.
Use of Derivatives to Manage Interest Rate and Other Risks In the ordinary course of business, the Company enters into derivative transactions to manage its interest rate, prepayment, credit, price and foreign currency risks (“asset and liability management positions”) and to accommodate the business requirements of its customers (“customer-related positions”). Refer to “Management’s Discussion and Analysis — Use of Derivatives to Manage Interest Rate and Other Risks” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, for further discussion
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on the use of derivatives to manage interest rate and other risks.
     By their nature, derivative instruments are subject to market risk. The Company does not utilize derivative instruments for speculative purposes. Of the Company’s $54.1 billion of total notional amount of asset and liability management positions at September 30, 2007, $28.2 billion was designated as either cash flow or fair value hedges or net investment hedges of foreign operations. The cash flow hedge derivative positions are interest rate swaps that hedge the forecasted cash flows from the underlying variable-rate debt. The fair value hedges are primarily interest rate swaps that hedge the change in fair value related to interest rate changes of underlying fixed-rate debt and subordinated obligations.
     In addition, the Company uses forward commitments to sell residential mortgage loans to hedge its interest rate risk related to residential mortgage loans held-for-sale. In connection with its mortgage banking operations, the Company held $2.4 billion of forward commitments to sell mortgage loans and $2.9 billion of unfunded mortgage loan commitments at September 30, 2007, that were derivatives in accordance with the provisions of the Statement of Financial Accounting Standards No. 133, “Accounting for Derivative Instruments and Hedge Activities.” The unfunded mortgage loan commitments are reported at fair value as options in Table 9. The Company also utilizes U.S. Treasury futures, options on U.S. Treasury futures contracts and forward commitments to buy residential mortgage loans to economically hedge the change in fair value of its residential MSRs.
     At September 30, 2007, the Company had $91 million in accumulated other comprehensive income related to realized and unrealized losses on derivatives classified as cash flow hedges. Unrealized gains and losses are reflected in earnings when the related cash flows or hedged transactions occur and offset the related performance of the hedged items. The estimated amount to be reclassified from accumulated other comprehensive income into earnings during the remainder of 2007 and the next 12 months is a loss of $19 million and $62 million, respectively.
     The change in the fair value of all other asset and liability management positions attributed to hedge ineffectiveness recorded in noninterest income was not material for the third quarter and first nine months of 2007. Gains or losses on customer-related positions were not material for the third quarter and first nine months of 2007.
     The Company enters into derivatives to protect its net investment in certain foreign operations. The Company uses forward commitments to sell specified amounts of certain foreign currencies to hedge fluctuations in foreign currency exchange rates. The net amount of gains or losses included in the cumulative translation adjustment for the third quarter and first nine months of 2007 was not material.
Market Risk Management In addition to interest rate risk, the Company is exposed to other forms of market risk as a consequence of conducting normal trading activities. These trading activities principally support the risk management processes of the Company’s customers including their management of foreign currency and interest rate risks. The Company also manages market risk of non-trading business activities including its MSRs and loans held-for-sale. Value at Risk (“VaR”) is a key measure of market risk for the Company. Theoretically, VaR represents the maximum amount that the Company has placed at risk of loss, with a ninety-ninth percentile degree of confidence, to adverse market movements in the course of its risk taking activities. The Company’s market valuation risk for trading and non-trading positions, as estimated by the VaR analysis, was $1 million and $16 million, respectively, at September 30, 2007, compared with $1 million and $30 million, respectively, at December 31, 2006. At September 30, 2007, the Company’s VaR limit was $45 million.
     During the third quarter of 2007, the financial markets experienced significant turbulence as the impact of mortgage delinquencies, defaults and foreclosures has adversely affected investor confidence in a broad range of investment sectors and asset classes. Given that the Company’s owned investments are principally U.S. Treasury securities, notes issued by government-sponsored agencies or privately issued securities with high investment grade credit ratings, the Company believes these securities are not other-than-temporarily impaired as of September 30, 2007, despite being subject to changes in market valuations. The Company’s subsidiary, FAF Advisors, manages an array of money market funds. Like many money market funds, these funds invest a portion of their assets in asset-backed commercial paper and medium-term notes. As problems in the sub-prime mortgage market have emerged, certain securities backed by mortgages have experienced both credit and liquidity issues, and investors have become hesitant to purchase many types of asset-backed securities, even those with little or no exposure to sub-prime mortgages. The money market funds managed by FAF Advisors have some exposure to liquidity and credit issues in the asset-backed commercial paper market. The Company has undertaken, or may take, certain steps with respect to specific investments to
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Table 10 Capital Ratios
                   
    September 30,   December 31,
(Dollars in Millions)   2007   2006
 
Tier 1 capital
  $ 17,368     $ 17,036  
 
As a percent of risk-weighted assets
    8.6 %     8.8 %
 
As a percent of adjusted quarterly average assets (leverage ratio)
    8.1 %     8.2 %
Total risk-based capital
  $ 25,900     $ 24,495  
 
As a percent of risk-weighted assets
    12.8 %     12.6 %
Tangible common equity
  $ 11,645     $ 11,703  
 
As a percent of tangible assets
    5.3 %     5.5 %
 
maintain the credit ratings of the rated money funds managed by FAF Advisors. While not material to the consolidated financial statements, management believes the impact of these steps could range from one to three cents per diluted share over the next few quarters.
     Refer to “Management’s Discussion and Analysis — Market Risk Management” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, for further discussion on market risk management.
Liquidity Risk Management ALPC establishes policies, as well as analyzes and manages liquidity, to ensure that adequate funds are available to meet normal operating requirements in addition to unexpected customer demands for funds in a timely and cost-effective manner. Liquidity management is viewed from long-term and short-term perspectives, as well as from an asset and liability perspective. Management monitors liquidity through a regular review of maturity profiles, funding sources, and loan and deposit forecasts to minimize funding risk. Refer to “Management’s Discussion and Analysis — Liquidity Risk Management” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, for further discussion on liquidity risk management.
     At September 30, 2007, parent company long-term debt outstanding was $10.8 billion, compared with $11.4 billion at December 31, 2006. The $.6 billion decrease was primarily due to repayments of $2.4 billion of convertible senior debentures and $1.4 billion of maturities of subordinated and medium-term notes, partially offset by the issuances of $3.0 billion of convertible senior debentures and $.5 billion of junior subordinated debentures. As of September 30, 2007, there was no parent company debt scheduled to mature during the remainder of 2007.
     Federal banking laws regulate the amount of dividends that may be paid by banking subsidiaries without prior approval. The amount of dividends available to the parent company from its banking subsidiaries after meeting the regulatory capital requirements for well-capitalized banks was approximately $1.3 billion at September 30, 2007.
Capital Management The Company is committed to managing capital for maximum shareholder benefit and maintaining strong protection for depositors and creditors. In the first nine months of 2007, the Company returned 117 percent of earnings to its common shareholders through a combination of dividends and net share repurchases. The Company also manages its capital to exceed regulatory capital requirements for well-capitalized bank holding companies. Table 10 provides a summary of capital ratios as of September 30, 2007, and December 31, 2006. All regulatory ratios continue to be in excess of regulatory “well-capitalized” requirements. Total shareholders’ equity was $20.8 billion at September 30, 2007, compared with $21.2 billion at December 31, 2006. The decrease was the result of share repurchases and dividends, partially offset by corporate earnings.
     On August 3, 2006, the Company announced that the Board of Directors approved an authorization to repurchase 150 million shares of common stock through December 31, 2008.
The following table provides a detailed analysis of all shares repurchased under this authorization during the third quarter of 2007:
                           
            Maximum Number
    Total Number of   Average   of Shares that May
    Shares Purchased   Price Paid   Yet Be Purchased
Time Period   as Part of the Program   per Share   Under the Program
 
July
    2,654,429     $31.92       67,245,044  
August
    2,738,590       29.97       64,506,454  
September
    17,500       33.35       64,488,954  
     
 
Total
    5,410,519     $30.94       64,488,954  
 
LINE OF BUSINESS FINANCIAL REVIEW
     Within the Company, financial performance is measured by major lines of business, which include Wholesale Banking, Consumer Banking, Wealth Management & Securities Services, Payment Services, and Treasury and Corporate Support. These operating segments are components of the Company about which financial information is available and is evaluated regularly in deciding how to allocate resources and assess performance.
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Basis for Financial Presentation Business line results are derived from the Company’s business unit profitability reporting systems by specifically attributing managed balance sheet assets, deposits and other liabilities and their related income or expense. Refer to “Management’s Discussion and Analysis — Line of Business Financial Review” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, for further discussion on the business lines’ basis for financial presentation.
     Designations, assignments and allocations change from time to time as management systems are enhanced, methods of evaluating performance or product lines change or business segments are realigned to better respond to the Company’s diverse customer base. During 2007, certain organization and methodology changes were made and, accordingly, 2006 results were restated and presented on a comparable basis.
Wholesale Banking Wholesale Banking offers lending, equipment finance and small-ticket leasing, depository, treasury management, capital markets, foreign exchange, international trade services and other financial services to middle market, large corporate, commercial real estate and public sector clients. Wholesale Banking contributed $265 million of the Company’s net income in the third quarter and $817 million in the first nine months of 2007, or decreases of $33 million (11.1 percent) and $90 million (9.9 percent), respectively, compared with the same periods of 2006. The decreases were primarily driven by lower total net revenue, higher total noninterest expense and an increase in the provision for credit losses.
     Total net revenue decreased $36 million (5.2 percent) in the third quarter and $78 million (3.7 percent) in the first nine months of 2007, compared with the same periods of 2006. Net interest income, on a taxable-equivalent basis, decreased $27 million (5.6 percent) in the third quarter and $82 million (5.7 percent) in the first nine months of 2007, compared with the same periods of 2006. The decreases were primarily driven by tighter credit spreads and a decline in average noninterest-bearing deposit balances as some customers managed their liquidity to fund business growth or to generate higher returns by investing excess funds in interest-bearing deposit and sweep products. The decreases were partially offset by growth in average loan balances and the margin benefit of deposits. The increase in average loans was driven by commercial loan growth during 2006 and the first nine months of 2007. Noninterest income decreased $9 million (4.1 percent) in the third quarter of 2007 compared with the third quarter of 2006 primarily due to market-related valuation losses in trading securities and a commercial real estate lending joint venture. Noninterest income increased $4 million (.6 percent) in the first nine months of 2007, compared with the same period of 2006, due to increases in treasury management and commercial products revenue. These increases were partially offset by the market-related valuation losses in the third quarter of 2007.
     Total noninterest expense increased $12 million (5.3 percent) in the third quarter and $26 million (3.8 percent) in the first nine months of 2007, compared with the same periods of 2006, primarily as a result of increases in personnel expenses related to investments in select business units. The provision for credit losses increased $4 million in the third quarter and $38 million in the first nine months of 2007, compared with the same periods of 2006. The unfavorable changes were due to an increase in gross charge-offs. Nonperforming assets increased in the third quarter of 2007 due to stress in the mortgage lending industry. Nonperforming assets were $292 million at September 30, 2007, $230 million at June 30, 2007, and $213 million at September 30, 2006. Nonperforming assets as a percentage of period-end loans were ..56 percent at September 30, 2007, .46 percent at June 30, 2007, and .42 percent at September 30, 2006. Refer to the “Corporate Risk Profile” section for further information on factors impacting the credit quality of the loan portfolios.
Consumer Banking Consumer Banking delivers products and services through banking offices, telephone servicing and sales, on-line services, direct mail and ATMs. It encompasses community banking, metropolitan banking, in-store banking, small business banking, consumer lending, mortgage banking, consumer finance, workplace banking, student banking and 24-hour banking. Consumer Banking contributed $455 million of the Company’s net income in the third quarter and $1,343 million in the first nine months of 2007, or decreases of $19 million (4.0 percent) and $32 million (2.3 percent), respectively, compared with the same periods of 2006. The retail banking division contributed $420 million of the total contribution in the third quarter and $1,256 million in the first nine months of 2007, or decreases of 5.2 percent and 3.9 percent, respectively, compared with the same periods in the prior year.
     Total net revenue increased $29 million (2.0 percent) in the third quarter and $95 million (2.3 percent) in the first nine months of 2007, compared with the same periods of 2006. Net interest income, on a taxable-equivalent basis, increased $4 million
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(.4 percent) in the third quarter and $17 million (.6 percent) in the first nine months of 2007, compared with the same periods of 2006. The year-over-year increases in net interest income were due to growth in average loans, higher loan fees and the funding benefit of deposits. Partially offsetting these increases were reduced spreads on commercial and retail loans due to competitive pricing within the Company’s markets. The increases in average loan balances reflected growth in all loan categories, with the largest increase in retail loans. The growth in retail loans was principally driven by an increase in installment and home equity loans, partially offset by a reduction in retail leasing balances due to customer demand for installment loan products and pricing competition. The year-over-year decreases in average deposits reflected a reduction in savings and noninterest-bearing deposit products, partially offset by growth in time deposits and interest checking. Average time deposit balances grew $1.4 billion (7.3 percent) in the third quarter and $1.6 billion (8.8 percent) in the first nine months of 2007, compared with the same periods of 2006, as a portion of noninterest-bearing and money market balances migrated to fixed-rate time deposit products. Average savings balances declined $1.2 billion (5.9 percent) in the third quarter and $1.8 billion (8.4 percent) in the first nine months of 2007, compared with the same periods of 2006, primarily related to a decrease in money market account balances. Fee-based noninterest income increased $25 million (5.5 percent) in the third quarter and $78 million (6.0 percent) in the first nine months of 2007, compared with the same periods of 2006. The increases were driven by mortgage banking revenue, principally related to higher production gains and servicing income, as well as an increase in deposit service charges.
     Total noninterest expense increased $26 million (4.1 percent) in the third quarter and $85 million (4.6 percent) in the first nine months of 2007, compared with the same periods of 2006. The increases were primarily attributable to higher compensation and employee benefits expense which reflected the net addition, including the impact of recent acquisitions, of 31 in-store and 19 traditional branches at September 30, 2007, compared with September 30, 2006. Credit-related costs on other real estate owned were also higher in 2007 compared with 2006.
     The provision for credit losses increased $33 million (56.9 percent) in the third quarter and $61 million (34.7 percent) in the first nine months of 2007, compared with the same periods of 2006. The increases were attributable to higher net charge-offs. As a percentage of average loans outstanding on an annualized basis, net charge-offs increased to ..48 percent in the third quarter of 2007, compared with ..32 percent in the third quarter of 2006. Commercial and commercial real estate loan net charge-offs increased $10 million in the third quarter of 2007, compared with the third quarter of 2006. Retail loan and residential mortgage net charge-offs increased $23 million (46.9 percent) in the third quarter of 2007, compared with the third quarter of 2006. Nonperforming assets were $316 million at September 30, 2007, $300 million at June 30, 2007, and $305 million at September 30, 2006. Nonperforming assets as a percentage of period-end loans were ..44 percent at September 30, 2007, .42 percent at June 30, 2007, and .44 percent at September 30, 2006. Refer to the “Corporate Risk Profile” section for further information on factors impacting the credit quality of the loan portfolios.
Wealth Management & Securities Services Wealth Management & Securities Services provides trust, private banking, financial advisory, investment management, retail brokerage services, insurance, custody and mutual fund servicing through five businesses: Wealth Management, Corporate Trust, FAF Advisors, Institutional Trust & Custody and Fund Services. Wealth Management & Securities Services contributed $165 million of the Company’s net income in the third quarter and $489 million in the first nine months of 2007, or increases of $17 million (11.5 percent) and $52 million (11.9 percent), respectively, compared with the same periods of 2006. The growth was primarily attributable to core account fee growth and improved equity market conditions relative to a year ago.
     Total net revenue increased $29 million (6.0 percent) in the third quarter and $76 million (5.2 percent) in the first nine months of 2007, compared with the same periods of 2006. Net interest income, on a taxable-equivalent basis, decreased $3 million (2.3 percent) in the third quarter and $15 million (3.9 percent) in the first nine months of 2007, compared with the same periods of 2006. The decreases in net interest income were due to the unfavorable impacts of deposit pricing and tightening credit spreads, partially offset by earnings from deposit growth. The increases in total deposits were attributable to growth in noninterest-bearing deposits, interest checking and time deposits, principally due to acquired businesses. Noninterest income increased $32 million (9.0 percent) in the third quarter and $91 million (8.5 percent) in the first nine months of 2007, compared with the same periods of 2006, primarily driven by core account fee growth and favorable equity market conditions.
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Table 11 Line of Business Financial Performance
                                                       
    Wholesale     Consumer
    Banking     Banking
     
        Percent         Percent
Three Months Ended September 30 (Dollars in Millions)   2007   2006   Change     2007   2006   Change
       
Condensed Income Statement
                                                 
Net interest income (taxable-equivalent basis)
  $451     $478       (5.6 )%     $988     $984       .4 %
Noninterest income
    211       220       (4.1 )       481       456       5.5  
Securities gains (losses), net
                                     
                       
 
Total net revenue
    662       698       (5.2 )       1,469       1,440       2.0  
Noninterest expense
    235       223       5.4         651       625       4.2  
Other intangibles
    4       4               12       12        
                       
 
Total noninterest expense
    239       227       5.3         663       637       4.1  
                       
   
Income before provision and income taxes
    423       471       (10.2 )       806       803       .4  
Provision for credit losses
    6       2       *         91       58       56.9  
                       
Income before income taxes
    417       469       (11.1 )       715       745       (4.0 )
Income taxes and taxable-equivalent adjustment
    152       171       (11.1 )       260       271       (4.1 )
                       
Net income
  $265     $298       (11.1 )     $455     $474       (4.0 )
                       
   
Average Balance Sheet Data
                                                 
Commercial
  $34,339     $33,754       1.7 %     $6,473     $6,436       .6 %
Commercial real estate
    16,671       17,117       (2.6 )       11,047       10,810       2.2  
Residential mortgages
    79       57       38.6         21,724       20,590       5.5  
Retail
    69       43       60.5         36,025       34,182       5.4  
                       
 
Total loans
    51,158       50,971       .4         75,269       72,018       4.5  
Goodwill
    1,329       1,329               2,218       2,131       4.1  
Other intangible assets
    36       51       (29.4 )       1,694       1,490       13.7  
Assets
    56,053       56,339       (.5 )       86,390       82,133       5.2  
Noninterest-bearing deposits
    10,116       11,298       (10.5 )       11,955       12,616       (5.2 )
Interest checking
    5,359       3,724       43.9         17,659       17,451       1.2  
Savings products
    5,372       5,489       (2.1 )       19,330       20,550       (5.9 )
Time deposits
    10,677       12,069       (11.5 )       20,161       18,790       7.3  
                       
 
Total deposits
    31,524       32,580       (3.2 )       69,105       69,407       (.4 )
Shareholders’ equity
    5,704       5,740       (.6 )       6,430       6,534       (1.6 )
       
                                                       
    Wholesale     Consumer
    Banking     Banking
     
        Percent         Percent
Nine Months Ended September 30 (Dollars in Millions)   2007   2006   Change     2007   2006   Change
       
Condensed Income Statement
                                                 
Net interest income (taxable-equivalent basis)
  $1,359     $1,441       (5.7 )%     $2,916     $2,899       .6 %
Noninterest income
    674       668       .9         1,383       1,305       6.0  
Securities gains (losses), net
          2       *                      
                       
 
Total net revenue
    2,033       2,111       (3.7 )       4,299       4,204       2.3  
Noninterest expense
    704       678       3.8         1,912       1,829       4.5  
Other intangibles
    12       12               39       37       5.4  
                       
 
Total noninterest expense
    716       690       3.8         1,951       1,866       4.6  
                       
   
Income before provision and income taxes
    1,317       1,421       (7.3 )       2,348       2,338       .4  
Provision for credit losses
    32       (6 )     *         237       176       34.7  
                       
Income before income taxes
    1,285       1,427       (10.0 )       2,111       2,162       (2.4 )
Income taxes and taxable-equivalent adjustment
    468       520       (10.0 )       768       787       (2.4 )
                       
Net income
  $817     $907       (9.9 )     $1,343     $1,375       (2.3 )
                       
   
Average Balance Sheet Data
                                                 
Commercial
  $34,486     $33,154       4.0 %     $6,441     $6,372       1.1 %
Commercial real estate
    16,725       17,237       (3.0 )       11,066       10,699       3.4  
Residential mortgages
    70       56       25.0         21,357       20,477       4.3  
Retail
    67       41       63.4         35,619       33,748       5.5  
                       
 
Total loans
    51,348       50,488       1.7         74,483       71,296       4.5  
Goodwill
    1,329       1,329               2,214       2,115       4.7  
Other intangible assets
    40       55       (27.3 )       1,657       1,425       16.3  
Assets
    56,555       56,003       1.0         85,170       80,982       5.2  
Noninterest-bearing deposits
    10,683       11,806       (9.5 )       12,069       12,651       (4.6 )
Interest checking
    4,896       3,332       46.9         17,808       17,628       1.0  
Savings products
    5,389       5,458       (1.3 )       19,580       21,385       (8.4 )
Time deposits
    10,604       12,521       (15.3 )       20,052       18,434       8.8  
                       
 
Total deposits
    31,572       33,117       (4.7 )       69,509       70,098       (.8 )
Shareholders’ equity
    5,738       5,655       1.5         6,402       6,417       (.2 )
       
* Not meaningful
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Wealth Management &     Payment     Treasury and     Consolidated    
Securities Services     Services     Corporate Support     Company    
 
    Percent         Percent         Percent         Percent    
2007   2006   Change     2007   2006   Change     2007   2006   Change     2007   2006   Change    
                   
       
$125     $128       (2.3 )%     $185     $164       12.8 %     $(64 )   $(81 )     21.0 %     $1,685     $1,673       .7 %    
  386       354       9.0         748       673       11.1         11       45       (75.6 )       1,837       1,748       5.1      
                                          7             *         7             *      
                                               
  511       482       6.0         933       837       11.5         (46 )     (36 )     (27.8 )       3,529       3,421       3.2      
  227       230       (1.3 )       344       312       10.3         77       59       30.5         1,534       1,449       5.9      
  23       20       15.0         55       53       3.8                             94       89       5.6      
                                               
  250       250               399       365       9.3         77       59       30.5         1,628       1,538       5.9      
                                               
  261       232       12.5         534       472       13.1         (123 )     (95 )     (29.5 )       1,901       1,883       1.0      
  1             *         100       74       35.1         1       1               199       135       47.4      
                                               
  260       232       12.1         434       398       9.0         (124 )     (96 )     (29.2 )       1,702       1,748       (2.6 )    
  95       84       13.1         158       145       9.0         (139 )     (126 )     (10.3 )       526       545       (3.5 )    
                                               
$165     $148       11.5       $276     $253       9.1       $15     $30       (50.0 )     $1,176     $1,203       (2.2 )    
                                               
       
       
$2,094     $1,868       12.1 %     $4,341     $3,880       11.9 %     $143     $130       10.0 %     $47,390     $46,068       2.9 %    
  680       711       (4.4 )                           64       63       1.6         28,462       28,701       (.8 )    
  452       466       (3.0 )                           3       5       (40.0 )       22,258       21,118       5.4      
  2,350       2,410       (2.5 )       10,924       8,927       22.4         39       42       (7.1 )       49,407       45,604       8.3      
                                               
  5,576       5,455       2.2         15,265       12,807       19.2         249       240       3.8         147,517       141,491       4.3      
  1,553       1,379       12.6         2,497       2,477       .8               1       *         7,597       7,317       3.8      
  402       452       (11.1 )       1,087       1,157       (6.1 )       (1 )           *         3,218       3,150       2.2      
  8,095       7,853       3.1         21,227       17,855       18.9         51,740       49,909       3.7         223,505       214,089       4.4      
  4,353       4,028       8.1         381       339       12.4         142       (61 )     *         26,947       28,220       (4.5 )    
  3,018       2,412       25.1         13       5       *         3       3               26,052       23,595       10.4      
  5,531       5,628       (1.7 )       21       20       5.0         47       27       74.1         30,301       31,714       (4.5 )    
  3,492       3,243       7.7         5       3       66.7         1,510       2,341       (35.5 )       35,845       36,446       (1.6 )    
                                               
  16,394       15,311       7.1         420       367       14.4         1,702       2,310       (26.3 )       119,145       119,975       (.7 )    
  2,460       2,340       5.1         4,911       4,799       2.3         1,236       1,504       (17.8 )       20,741       20,917       (.8 )    
                   
                                                                                                       
 
Wealth Management &     Payment     Treasury and     Consolidated    
Securities Services     Services     Corporate Support     Company    
 
    Percent         Percent         Percent         Percent    
2007   2006   Change     2007   2006   Change     2007   2006   Change     2007   2006   Change    
                   
       
$366     $381       (3.9 )%     $520     $483       7.7 %     $(160 )   $(109 )     (46.8 )%     $5,001     $5,095       (1.8 )%    
  1,164       1,073       8.5         2,140       1,917       11.6         23       151       (84.8 )       5,384       5,114       5.3      
                                          11       1       *         11       3       *      
                                               
  1,530       1,454       5.2         2,660       2,400       10.8         (126 )     43       *         10,396       10,212       1.8      
  691       702       (1.6 )       1,004       904       11.1         219       192       14.1         4,530       4,305       5.2      
  69       64       7.8         163       150       8.7                             283       263       7.6      
                                               
  760       766       (.8 )       1,167       1,054       10.7         219       192       14.1         4,813       4,568       5.4      
                                               
  770       688       11.9         1,493       1,346       10.9         (345 )     (149 )     *         5,583       5,644       (1.1 )    
  1       2       (50.0 )       294       199       47.7         3       4       (25.0 )       567       375       51.2      
                                               
  769       686       12.1         1,199       1,147       4.5         (348 )     (153 )     *         5,016       5,269       (4.8 )    
  280       249       12.4         437       417       4.8         (399 )     (261 )     (52.9 )       1,554       1,712       (9.2 )    
                                               
$489     $437       11.9       $762     $730       4.4       $51     $108       (52.8 )     $3,462     $3,557       (2.7 )    
                                               
       
       
$2,018     $1,644       22.7 %     $4,114     $3,726       10.4 %     $141     $133       6.0 %     $47,200     $45,029       4.8 %    
  681       704       (3.3 )                           64       64               28,536       28,704       (.6 )    
  457       455       .4                             4       4               21,888       20,992       4.3      
  2,343       2,414       (2.9 )       10,272       8,589       19.6         40       44       (9.1 )       48,341       44,836       7.8      
                                               
  5,499       5,217       5.4         14,386       12,315       16.8         249       245       1.6         145,965       139,561       4.6      
  1,552       1,377       12.7         2,481       2,410       2.9         9       1       *         7,585       7,232       4.9      
  426       474       (10.1 )       1,099       1,125       (2.3 )       14             *         3,236       3,079       5.1      
  8,053       7,635       5.5         19,954       17,214       15.9         51,962       50,354       3.2         221,694       212,188       4.5      
  4,298       3,786       13.5         401       312       28.5         80       111       (27.9 )       27,531       28,666       (4.0 )    
  2,948       2,391       23.3         11       4       *         3       3               25,666       23,358       9.9      
  5,439       5,596       (2.8 )       21       19       10.5         54       31       74.2         30,483       32,489       (6.2 )    
  3,686       2,716       35.7         4       3       33.3         1,584       2,269       (30.2 )       35,930       35,943            
                                               
  16,371       14,489       13.0         437       338       29.3         1,721       2,414       (28.7 )       119,610       120,456       (.7 )    
  2,477       2,340       5.9         4,833       4,637       4.2         1,497       1,494       .2         20,947       20,543       2.0      
                   
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     Total noninterest expense was unchanged in the third quarter and decreased $6 million (.8 percent) in the first nine months of 2007, compared with the same periods of 2006. The decrease was primarily due to the completion of certain acquisition integration activities.
Payment Services Payment Services includes consumer and business credit cards, stored-value cards, debit cards, corporate and purchasing card services, consumer lines of credit, ATM processing and merchant processing. Payment services are highly inter-related with banking products and services of the other lines of business and rely on access to the settlement network, lower cost funding available to the Company, cross-selling opportunities and operating efficiencies. Payment Services contributed $276 million of the Company’s net income in the third quarter and $762 million in the first nine months of 2007, or increases of $23 million (9.1 percent) and $32 million (4.4 percent), respectively, compared with the same periods of 2006. The increases were due to growth in total net revenue driven by loan growth and higher transaction volumes, partially offset by an increase in total noninterest expense and a higher provision for credit losses.
     Total net revenue increased $96 million (11.5 percent) in the third quarter and $260 million (10.8 percent) in the first nine months of 2007, compared with the same periods of 2006. Net interest income, on a taxable-equivalent basis, increased $21 million (12.8 percent) in the third quarter and $37 million (7.7 percent) in the first nine months of 2007, compared with the same periods of 2006. The increases were primarily due to growth in higher yielding retail credit card loan balances, partially offset by the margin impact of recent acquisitions and growth in corporate payment card balances. Noninterest income increased $75 million (11.1 percent) in the third quarter and $223 million (11.6 percent) in the first nine months of 2007, compared with the same periods of 2006. The increases in fee-based revenue were driven by account growth, higher transaction volumes and business expansion initiatives. The increase in noninterest income for the first nine months of 2007, compared with the same period of the prior year, was partially offset by a merchant processing settlement recorded in the first quarter of 2006.
     Total noninterest expense increased $34 million (9.3 percent) in the third quarter and $113 million (10.7 percent) in the first nine months of 2007, compared with the same periods of 2006. The increases were primarily attributable to new business initiatives, including costs associated with marketing programs, transaction processing and acquisitions.
     The provision for credit losses increased $26 million (35.1 percent) in the third quarter and $95 million (47.7 percent) in the first nine months of 2007, compared with the same periods of 2006, due to higher net charge-offs, which reflected portfolio growth and a higher level of losses due to changes in bankruptcy legislation that went into effect in the fourth quarter of 2005. As a percentage of average loans outstanding on an annualized basis, net charge-offs were 2.60 percent in the third quarter of 2007, compared with 2.29 percent in the third quarter of 2006.
Treasury and Corporate Support Treasury and Corporate Support includes the Company’s investment portfolios, funding, capital management and asset securitization activities, interest rate risk management, the net effect of transfer pricing related to average balances and the residual aggregate of those expenses associated with corporate activities that are managed on a consolidated basis. Treasury and Corporate Support contributed $15 million of the Company’s net income in the third quarter and $51 million in the first nine months of 2007, compared with net income of $30 million and $108 million in the same periods of 2006, respectively.
     Total net revenue decreased $10 million in the third quarter and $169 million in the first nine months of 2007, compared with the same periods of 2006. The decline in total net revenue in the third quarter of 2007 compared to the same period of 2006 was due primarily to lower noninterest income. The decline in total net revenue in the first nine months of 2007 compared to the same period of 2006 was due to unfavorable variances in both net interest income and noninterest income. The decline in net interest income reflected the impact of issuing higher cost wholesale funding to support earning asset growth. Noninterest income decreased $27 million (60.0 percent) in the third quarter and $118 million (77.6 percent) in the first nine months of 2007, compared with the same periods of 2006. The decreases were primarily due to a gain recognized in the third quarter of 2006 related to the sale of equity interests in a cardholder association. In addition, the decrease for the first nine months of 2007, compared with the same period of the prior year, was also due to a gain recognized in the second quarter of 2006 related to the initial public offering of a cardholder association and trading gains realized in the first quarter of 2006 related to terminating certain interest rate derivatives.
     Total noninterest expense increased $18 million (30.5 percent) in the third quarter and $27 million (14.1 percent) in the first nine months of 2007, compared with the same periods of 2006. The increases
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were primarily driven by higher costs related to investments in affordable housing and other tax-advantaged projects.
     The provision for credit losses for this business unit represents the residual aggregate of the net credit losses allocated to the reportable business units and the Company’s recorded provision determined in accordance with accounting principles generally accepted in the United States. Refer to the “Corporate Risk Profile” section for further information on the provision for credit losses, nonperforming assets and factors considered by the Company in assessing the credit quality of the loan portfolio and establishing the allowance for credit losses.
     Income taxes are assessed to each line of business at a managerial tax rate of 36.4 percent with the residual tax expense or benefit to arrive at the consolidated effective tax rate included in Treasury and Corporate Support. The consolidated effective tax rate of the Company was 30.2 percent in the third quarter and first nine months of 2007, compared with 30.7 percent and 32.1 percent in the same periods of 2006, respectively. The decreases in the effective tax rate primarily reflected higher tax exempt income from municipal securities, incremental tax credits generated from investments in affordable housing and similar tax-advantaged projects, and expansion of a bank-owned life insurance program.
CRITICAL ACCOUNTING POLICIES
     The accounting and reporting policies of the Company comply with accounting principles generally accepted in the United States and conform to general practices within the banking industry. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions. The financial position and results of operations can be affected by these estimates and assumptions, which are integral to understanding the Company’s financial statements. Critical accounting policies are those policies that management believes are the most important to the portrayal of the Company’s financial condition and results, and require management to make estimates that are difficult, subjective or complex. Most accounting policies are not considered by management to be critical accounting policies. Those policies considered to be critical accounting policies relate to the allowance for credit losses, MSRs, goodwill and other intangibles and income taxes. Management has discussed the development and the selection of critical accounting policies with the Company’s Audit Committee. These accounting policies are discussed in detail in “Management’s Discussion and Analysis — Critical Accounting Policies” and the Notes to Consolidated Financial Statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.
CONTROLS AND PROCEDURES
     Under the supervision and with the participation of the Company’s management, including its principal executive officer and principal financial officer, the Company has evaluated the effectiveness of the design and operation of its disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)). Based upon this evaluation, the principal executive officer and principal financial officer have concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures were effective.
     During the most recently completed fiscal quarter, there was no change made in the Company’s internal controls over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
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U.S. Bancorp
Consolidated Balance Sheet
                       
    September 30,   December 31,
(Dollars in Millions)   2007   2006
 
    (Unaudited)    
Assets
               
Cash and due from banks
  $6,636     $8,639  
Investment securities
               
 
Held-to-maturity (fair value $82 and $92, respectively)
    78       87  
 
Available-for-sale
    40,293       40,030  
Loans held for sale
    4,601       3,256  
Loans
               
 
Commercial
    48,012       46,190  
 
Commercial real estate
    28,517       28,645  
 
Residential mortgages
    22,563       21,285  
 
Retail
    49,947       47,477  
     
   
Total loans
    149,039       143,597  
     
Less allowance for loan losses
    (2,041 )     (2,022 )
     
     
Net loans
    146,998       141,575  
Premises and equipment
    1,779       1,835  
Goodwill
    7,604       7,538  
Other intangible assets
    3,150       3,227  
Other assets
    16,489       13,045  
     
   
Total assets
  $227,628     $219,232  
     
Liabilities and Shareholders’ Equity
               
Deposits
               
 
Noninterest-bearing
  $28,272     $32,128  
 
Interest-bearing
    70,916       70,330  
 
Time deposits greater than $100,000
    23,560       22,424  
     
   
Total deposits
    122,748       124,882  
Short-term borrowings
    28,868       26,933  
Long-term debt
    45,241       37,602  
Other liabilities
    10,005       8,618  
     
   
Total liabilities
    206,862       198,035  
Shareholders’ equity
               
 
Preferred stock, par value $1.00 a share (liquidation preference of $25,000 per share) authorized:
50,000,000 shares; issued and outstanding: 40,000 shares
    1,000       1,000  
 
Common stock, par value $0.01 a share — authorized: 4,000,000,000 shares; issued: 9/30/07 and 12/31/06 — 1,972,643,007 shares
    20       20  
 
Capital surplus
    5,748       5,762  
 
Retained earnings
    22,580       21,242  
 
Less cost of common stock in treasury: 9/30/07 — 247,231,503 shares; 12/31/06 — 207,928,756 shares
    (7,554 )     (6,091 )
 
Other comprehensive income
    (1,028 )     (736 )
     
   
Total shareholders’ equity
    20,766       21,197  
     
   
Total liabilities and shareholders’ equity
  $227,628     $219,232  
 
See Notes to Consolidated Financial Statements.
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U.S. Bancorp
Consolidated Statement of Income
                                     
    Three Months Ended     Nine Months Ended
    September 30,     September 30,
(Dollars and Shares in Millions, Except Per Share Data)    
(Unaudited)   2007   2006     2007   2006
       
Interest Income
                                 
Loans
  $2,703     $2,545       $7,897     $7,277  
Loans held for sale
    76       64         205       172  
Investment securities
    522       500         1,554       1,490  
Other interest income
    33       40         101       119  
           
 
Total interest income
    3,334       3,149         9,757       9,058  
Interest Expense
                                 
Deposits
    694       640         2,032       1,721  
Short-term borrowings
    374       321         1,081       861  
Long-term debt
    599       528         1,696       1,415  
           
 
Total interest expense
    1,667       1,489         4,809       3,997  
           
Net interest income
    1,667       1,660         4,948       5,061  
Provision for credit losses
    199       135         567       375  
           
Net interest income after provision for credit losses
    1,468       1,525         4,381       4,686  
Noninterest Income
                                 
Credit and debit card revenue
    235       206         668       590  
Corporate payment products revenue
    164       150         466       416  
ATM processing services
    62       63         183       183  
Merchant processing services
    287       253         822       719  
Trust and investment management fees
    331       305         995       916  
Deposit service charges
    271       268         786       764  
Treasury management fees
    118       111         355       334  
Commercial products revenue
    107       100         312       311  
Mortgage banking revenue
    76       68         211       167  
Investment products fees and commissions
    36       34         108       114  
Securities gains (losses), net
    7               11       3  
Other
    150       190         478       600  
           
 
Total noninterest income
    1,844       1,748         5,395       5,117  
Noninterest Expense
                                 
Compensation
    656       632         1,950       1,892  
Employee benefits
    119       123         375       379  
Net occupancy and equipment
    175       168         511       494  
Professional services
    56       54         162       130  
Marketing and business development
    66       58         178       156  
Technology and communications
    127       128         378       372  
Postage, printing and supplies
    70       66         210       198  
Other intangibles
    94       89         283       263  
Debt prepayment
                        11  
Other
    265       220         766       673  
           
 
Total noninterest expense
    1,628       1,538         4,813       4,568  
           
Income before income taxes
    1,684       1,735         4,963       5,235  
Applicable income taxes
    508       532         1,501       1,678  
           
Net income
  $1,176     $1,203       $3,462     $3,557  
           
Net income applicable to common equity
  $1,161     $1,187       $3,417     $3,524  
           
Earnings per common share
  $.67     $.67       $1.97     $1.98  
Diluted earnings per common share
  $.67     $.66       $1.94     $1.95  
Dividends declared per common share
  $.40     $.33       $1.20     $.99  
Average common shares outstanding
    1,725       1,771         1,737       1,784  
Average diluted common shares outstanding
    1,745       1,796         1,762       1,809  
       
See Notes to Consolidated Financial Statements.
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U.S. Bancorp
Consolidated Statement of Shareholders’ Equity
                                                                     
                            Other   Total
(Dollars and Shares in Millions)   Common Shares   Preferred   Common   Capital   Retained   Treasury   Comprehensive   Shareholders’
(Unaudited)   Outstanding   Stock   Stock   Surplus   Earnings   Stock   Income   Equity
 
Balance December 31, 2005
    1,815     $—     $20     $5,907     $19,001     $(4,413 )   $(429 )   $20,086  
Change in accounting principle
                                    4                       4  
Net income
                                    3,557                       3,557  
Unrealized loss on securities available-for-sale
                                                    (52 )     (52 )
Unrealized gain on derivatives
                                                    39       39  
Foreign currency translation
                                                    5       5  
Realized loss on derivatives
                                                    (199 )     (199 )
Reclassification for realized losses
                                                    28       28  
Income taxes
                                                    67       67  
                                                 
   
          Total comprehensive income
                                                            3,445  
Cash dividends declared
                                                               
 
Preferred
                                    (33 )                     (33 )
 
Common
                                    (1,759 )                     (1,759 )
Issuance of common and treasury stock
    28                       (95 )             812               717  
Purchase of treasury stock
    (80 )                                     (2,488 )             (2,488 )
Stock option and restricted stock grants
                            9                               9  
Shares reserved to meet deferred compensation obligations
                            1               (4 )             (3 )
Issuance of preferred stock
            1,000               (52 )                             948  
     
Balance September 30, 2006
    1,763     $1,000     $20     $5,770     $20,770     $(6,093 )   $(541 )   $20,926  
 
Balance December 31, 2006
    1,765     $1,000     $20     $5,762     $21,242     $(6,091 )   $(736 )   $21,197  
Net income
                                    3,462                       3,462  
Unrealized loss on securities available-for-sale
                                                    (482 )     (482 )
Unrealized loss on derivatives
                                                    (73 )     (73 )
Foreign currency translation
                                                    11       11  
Reclassification for realized losses
                                                    72       72  
Change in retirement obligation
                                                    1       1  
Income taxes
                                                    179       179  
                                                 
   
          Total comprehensive income
                                                            3,170  
Cash dividends declared
                                                               
 
Preferred
                                    (45 )                     (45 )
 
Common
                                    (2,079 )                     (2,079 )
Issuance of common and treasury stock
    18                       (34 )             544               510  
Purchase of treasury stock
    (58 )                                     (2,003 )             (2,003 )
Stock option and restricted stock grants
                            20                               20  
Shares reserved to meet deferred compensation obligations
                                            (4 )             (4 )
     
Balance September 30, 2007
    1,725     $1,000     $20     $5,748     $22,580     $(7,554 )   $(1,028 )   $20,766  
 
See Notes to Consolidated Financial Statements.
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U.S. Bancorp
Consolidated Statement of Cash Flows
                   
    Nine Months Ended
    September 30,
     
(Dollars in Millions)        
(Unaudited)   2007   2006
 
Operating Activities
               
 
Net cash provided by operating activities
    $2,018       $4,716  
Investing Activities
               
Proceeds from sales of available-for-sale investment securities
    1,269       1,132  
Proceeds from maturities of investment securities
    3,419       3,174  
Purchases of investment securities
    (5,389 )     (5,094 )
Net increase in loans outstanding
    (3,661 )     (4,721 )
Proceeds from sales of loans
    382       456  
Purchases of loans
    (1,907 )     (2,171 )
Acquisitions, net of cash acquired
    (73 )     (587 )
Other, net
    (1,182 )     (305 )
     
 
Net cash used in investing activities
    (7,142 )     (8,116 )
Financing Activities
               
Net decrease in deposits
    (2,442 )     (4,313 )
Net increase in short-term borrowings
    1,869       4,462  
Proceeds from issuance of long-term debt
    21,077       13,379  
Principal payments or redemption of long-term debt
    (13,590 )     (9,103 )
Proceeds from issuance of preferred stock
          948  
Proceeds from issuance of common stock
    374       613  
Repurchase of common stock
    (1,983 )     (2,480 )
Cash dividends paid on preferred stock
    (45 )     (17 )
Cash dividends paid on common stock
    (2,095 )     (1,777 )
     
 
Net cash provided by financing activities
    3,165       1,712  
     
 
Change in cash and cash equivalents
    (1,959 )     (1,688 )
Cash and cash equivalents at beginning of period
    8,805       8,202  
     
 
Cash and cash equivalents at end of period
    $6,846       $6,514  
 
See Notes to Consolidated Financial Statements.
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Notes to Consolidated Financial Statements
(Unaudited)
Note 1 Basis of Presentation
The accompanying consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and, therefore, do not include all information and notes necessary for a complete presentation of financial position, results of operations and cash flow activity required in accordance with accounting principles generally accepted in the United States. In the opinion of management of U.S. Bancorp (the “Company”), all adjustments (consisting only of normal recurring adjustments) necessary for a fair statement of results for the interim periods have been made. For further information, refer to the consolidated financial statements and notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006. Certain amounts in prior periods have been reclassified to conform to the current presentation.
     Accounting policies for the lines of business are generally the same as those used in preparation of the consolidated financial statements with respect to activities specifically attributable to each business line. However, the preparation of business line results requires management to establish methodologies to allocate funding costs and benefits, expenses and other financial elements to each line of business. Table 11 “Line of Business Financial Performance” provides details of segment results. This information is incorporated by reference into these Notes to Consolidated Financial Statements.
Note 2 Significant Accounting Matters
Fair Value Option for Financial Assets and Financial Liabilities In February 2007, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 159 (“SFAS 159”), “The Fair Value Option for Financial Assets and Financial Liabilities”, effective for the Company beginning on January 1, 2008. This Statement provides entities with an option to report selected financial assets and liabilities at fair value, with the objective to reduce both the complexity in accounting for financial instruments and the volatility in earnings caused by measuring related assets and liabilities differently. The Company is currently assessing the impact of this guidance on its financial statements.
Fair Value Measurements In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157 (“SFAS 157”), “Fair Value Measurements”, effective for the Company beginning on January 1, 2008. This Statement defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. This statement establishes a fair value hierarchy that distinguishes between valuations obtained from sources independent of the entity and those from the entity’s own unobservable inputs that are not corroborated by observable market data. SFAS 157 expands disclosures about the use of fair value to measure assets and liabilities in interim and annual periods subsequent to initial recognition. The disclosures focus on the inputs used to measure fair value, and for recurring fair value measurements using significant unobservable inputs, the effect of the measurements on earnings or changes in net assets for the period. The Company is currently assessing the impact of this guidance on its financial statements.
Accounting for Uncertainty in Income Taxes In June 2006, the FASB issued Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109, Accounting for Income Taxes”, effective for the Company beginning on January 1, 2007. FIN 48 clarifies the recognition threshold a tax position is required to meet before being recognized in the financial statements. FIN 48 also provides guidance on disclosure and other matters. The adoption of FIN 48 did not have a material impact on the Company’s financial statements.
Visa Restructuring and Card Association Litigation The Company’s Payment Services line of business issues and acquires credit and debit card transactions through the Visa U.S.A. Inc. card association or its affiliates (collectively “Visa”). On October 3, 2007, Visa completed a restructuring and issued shares of Visa Inc. common stock to its financial institution members in contemplation of an initial public offering in 2008 (the “Visa Reorganization”). In addition, the Company and certain of its subsidiaries are defendants along with Visa U.S.A. Inc. and MasterCard International (the “Card Associations”), as well as several other banks, in antitrust lawsuits challenging the practices
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of the Card Associations (the “Litigation”). The Company has entered into judgment and loss sharing agreements with Visa and certain other banks in order to apportion financial responsibilities arising from any potential adverse judgment or negotiated settlements related to the Litigation.
     In connection with the Visa Reorganization and the Litigation, there are a number of significant accounting matters that must be considered by the financial institution members that have ownership interests in Visa, are parties to the Litigation, or have executed judgment and loss sharing agreements. These matters include the nature and timing of the financial gain recognition arising from the Visa Reorganization, the implications of the judgment and loss sharing agreements, and the timing and amount of recognition of any future obligations of Visa and/or its financial institution members arising as a result of the ultimate resolution of the Litigation. Given the complexity of the Visa Reorganization and the related accounting matters, the Company, along with several other financial institution members, has requested guidance from the Office of the Chief Accountant of the Securities and Exchange Commission regarding the appropriate accounting treatment for these matters. Such guidance is expected to be received in the fourth quarter of 2007. Although the resolution of these accounting matters may have a significant impact on the Company’s financial statements in future accounting periods (including the potential for both gains and accruals), the Company believes the impact of these matters will not be materially adverse to its financial condition and results of operations.
Note 3 Loans
The composition of the loan portfolio was as follows:
                                         
    September 30, 2007     December 31, 2006
     
        Percent         Percent
(Dollars in Millions)   Amount   of Total     Amount   of Total
  
Commercial
                                 
 
Commercial
  $42,126       28.3 %     $40,640       28.3 %
 
Lease financing
    5,886       3.9         5,550       3.9  
           
   
Total commercial
    48,012       32.2         46,190       32.2  
Commercial real estate
                                 
 
Commercial mortgages
    19,650       13.2         19,711       13.7  
 
Construction and development
    8,867       5.9         8,934       6.2  
           
   
Total commercial real estate
    28,517       19.1         28,645       19.9  
Residential mortgages
                                 
 
Residential mortgages
    16,799       11.3         15,316       10.7  
 
Home equity loans, first liens
    5,764       3.9         5,969       4.1  
           
   
Total residential mortgages
    22,563       15.2         21,285       14.8  
Retail
                                 
 
Credit card
    10,251       6.9         8,670       6.0  
 
Retail leasing
    6,282       4.2         6,960       4.9  
 
Home equity and second mortgages
    16,210       10.9         15,523       10.8  
 
Other retail
                                 
   
Revolving credit
    2,679       1.8         2,563       1.8  
   
Installment
    5,203       3.5         4,478       3.1  
   
Automobile
    8,883       5.9         8,693       6.1  
   
Student
    439       .3         590       .4  
           
     
Total other retail
    17,204       11.5         16,324       11.4  
           
   
Total retail
    49,947       33.5         47,477       33.1  
           
     
Total loans
  $149,039       100.0 %     $143,597       100.0 %
       
Loans are presented net of unearned interest and deferred fees and costs, which amounted to $1.3 billion at September 30, 2007, and December 31, 2006.
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Note 4 Mortgage Servicing Rights
The Company’s portfolio of residential mortgages serviced for others was $94.4 billion and $82.9 billion at September 30, 2007, and December 31, 2006, respectively. The Company records mortgage servicing rights (“MSRs”) initially at fair value and at each subsequent reporting date, and records changes in fair value in noninterest income in the period in which they occur. In conjunction with its MSRs, the Company may utilize derivatives, including futures and option contracts to manage the volatility of changes in the fair value of MSRs. The net impact of assumption changes on the fair value of MSRs, excluding decay, and the related derivatives included in mortgage banking revenue was a net gain of $4 million and $7 million for the three months ended September 30, 2007, and 2006, respectively, and a net loss of $1 million and $3 million for the nine months ended September 30, 2007 and 2006, respectively. Loan servicing fees, not including valuation changes, included in mortgage banking revenue were $87 million and $79 million for the three months ended September 30, 2007, and 2006, respectively, and $260 million and $235 million for the nine months ended September 30, 2007, and 2006, respectively.
Changes in fair value of capitalized MSRs are summarized as follows:
                                       
    Three Months Ended     Nine Months Ended
    September 30,     September 30,
     
(Dollars in Millions)   2007   2006     2007   2006
  
Balance at beginning of period
  $1,649     $1,323       $1,427     $1,123  
 
Rights purchased
    4       3         10       50  
 
Rights capitalized
    130       108         316       278  
 
Rights sold
    (130 )             (130 )      
 
Changes in fair value of MSRs
                                 
   
Due to change in valuation assumptions (a)
    (86 )     (68 )       38       3  
   
Other changes in fair value (b)
    (45 )     (42 )       (139 )     (130 )
           
Balance at end of period
  $1,522     $1,324       $1,522     $1,324  
       
(a) Principally reflects changes in discount rates and prepayment speed assumptions, primarily arising from interest rate changes.
(b) Primarily represents changes due to collection/realization of expected cash flows over time (decay).
     The Company determines fair value by estimating the present value of the asset’s future cash flows utilizing market-based prepayment rates, discount rates, and other assumptions validated through comparison to trade information, industry surveys, and independent third party appraisals. Risks inherent in the valuation of MSRs include higher than expected prepayment rates and/or delayed receipt of cash flows. The estimated sensitivity to changes in interest rates of the fair value of the MSRs portfolio and the related derivative instruments at September 30, 2007, was as follows:
                                   
    Down Scenario     Up Scenario
     
(Dollars in Millions)   50 bps   25 bps     25 bps   50 bps
  
Net fair value
  $(29 )   $(6 )     $(17 )   $(56 )
       
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Note 5 Earnings Per Common Share
The components of earnings per common share were:
                                   
    Three Months Ended     Nine Months Ended
    September 30,     September 30,
     
(Dollars and Shares in Millions, Except Per Share Data)   2007   2006     2007   2006
  
Net income
  $1,176     $1,203       $3,462     $3,557  
Preferred dividends
    (15 )     (16 )       (45 )     (33 )
           
Net income applicable to common equity
  $1,161     $1,187       $3,417     $3,524  
Average common shares outstanding
    1,725       1,771         1,737       1,784  
Net effect of the exercise and assumed purchase of stock awards and conversion of outstanding convertible notes
    20       25         25       25  
           
Average diluted common shares outstanding
    1,745       1,796         1,762       1,809  
           
Earnings per common share
  $.67     $.67       $1.97     $1.98  
Diluted earnings per common share
  $.67     $.66       $1.94     $1.95  
       
Options to purchase 14 million and 3 million common shares for the three months ended September 30, 2007 and 2006, respectively, and 10 million and 4 million common shares for the nine months ended September 30, 2007 and 2006, respectively, were outstanding but not included in the computation of diluted earnings per common share because they were antidilutive.
Note 6 Employee Benefits
The components of net periodic benefit cost for the Company’s retirement plans were:
                                                                     
    Three Months Ended September 30,     Nine Months Ended September 30,
     
        Postretirement         Postretirement
    Pension Plans   Medical Plan     Pension Plans   Medical Plan
     
(Dollars in Millions)   2007   2006   2007   2006     2007   2006   2007   2006
  
Service cost
  $18     $18     $1     $1       $53     $54     $4     $3  
Interest cost
    31       29       4       3         94       88       11       10  
Expected return on plan assets
    (50 )     (48 )     (2 )             (149 )     (143 )     (5 )      
Prior service credit and transition obligation amortization
    (1 )     (2 )                   (4 )     (5 )            
Actuarial loss amortization
    16       23                     47       68              
           
 
Net periodic benefit cost
  $14     $20     $3     $4       $41     $62     $10     $13  
       
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Note 7 Income Taxes
The components of income tax expense were:
                                     
    Three Months Ended     Nine Months Ended
    September 30,     September 30,
     
(Dollars in Millions)   2007   2006     2007   2006
  
Federal
                                 
Current
  $486     $530       $1,423     $1,742  
Deferred
    (46 )     (63 )       (114 )     (299 )
           
 
Federal income tax
    440       467         1,309       1,443  
State
                                 
Current
    72       70         203       258  
Deferred
    (4 )     (5 )       (11 )     (23 )
           
 
State income tax
    68       65         192       235  
           
 
Total income tax provision
  $508     $532       $1,501     $1,678  
       
A reconciliation of expected income tax expense at the federal statutory rate of 35 percent to the Company’s applicable income tax expense follows:
                                     
    Three Months Ended     Nine Months Ended
    September 30,     September 30,
     
(Dollars in Millions)   2007   2006     2007   2006
  
Tax at statutory rate (35 percent)
  $590     $607       $1,737     $1,832  
State income tax, at statutory rates, net of federal tax benefit
    44       43         125       153  
Tax effect of
                                 
 
Tax credits
    (75 )     (97 )       (215 )     (216 )
 
Tax-exempt income
    (39 )     (23 )       (97 )     (66 )
 
Other items
    (12 )     2         (49 )     (25 )
           
Applicable income taxes
  $508     $532       $1,501     $1,678  
       
Effective January 1, 2007, the Company adopted the provisions of FIN 48. The adoption of FIN 48 did not result in a cumulative-effect accounting adjustment for the Company. The Company elected to classify interest and penalties related to unrecognized tax positions as components of income tax expense. At January 1, 2007, the Company’s total amount of unrecognized tax positions were $364 million, of which $237 million related to unrecognized tax positions that if recognized, would affect the effective tax rate. In addition, the amount accrued for the payment of interest on unrecognized tax positions was $22 million.
     The Company’s income tax returns are subject to review and examination by federal, state, local and foreign government authorities. On an ongoing basis, numerous federal, state, local and foreign examinations are in progress and cover multiple tax years. As of September 30, 2007, the federal taxing authority has completed its examination of the Company through the fiscal year ended December 31, 2004. The years open to examination by foreign, state and local government authorities vary by jurisdiction.
     The Company’s net deferred tax liability was $1,192 million at September 30, 2007, and $1,483 million at December 31, 2006.
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Note 8 Guarantees and Contingent Liabilities
The following table is a summary of the guarantees and contingent liabilities of the Company at September 30, 2007:
                 
        Maximum
        Potential
    Carrying   Future
(Dollars in Millions)   Amount   Payments
 
Standby letters of credit
    $70     $12,211  
Third-party borrowing arrangements
    2       332  
Securities lending indemnifications
          15,768  
Asset sales (a)
    6       426  
Merchant processing
    47       79,096  
Other guarantees
    28       1,369  
Other contingent liabilities
          2,001  
 
(a) The maximum potential future payments does not include loan sales where the Company provides standard representations and warranties to the buyer against losses related to loan underwriting documentation. For these types of loan sales, the maximum potential future payments are not readily determinable because the Company’s obligation under these agreements depends upon the occurrence of future events.
     The Company, through its subsidiaries, provides merchant processing services. Under the rules of credit card associations, a merchant processor retains a contingent liability for credit card transactions processed. This contingent liability arises in the event of a billing dispute between the merchant and a cardholder that is ultimately resolved in the cardholder’s favor. In this situation, the transaction is “charged-back” to the merchant and the disputed amount is credited or otherwise refunded to the cardholder. If the Company is unable to collect this amount from the merchant, it bears the loss for the amount of the refund paid to the cardholder.
     The Company currently processes card transactions in the United States, Canada and Europe for airlines, cruise lines and large tour operators. In the event of liquidation of these merchants, the Company could become financially liable for refunding tickets purchased through the credit card associations under the charge-back provisions. Charge-back risk related to these merchants is evaluated in a manner similar to credit risk assessments and, as such, merchant processing contracts contain various provisions to protect the Company in the event of default. At September 30, 2007, the value of airline, cruise line and large tour operator tickets purchased to be delivered at a future date was $4.9 billion, with airline tickets representing 90 percent of that amount. The Company held collateral of $1.1 billion in escrow deposits, letters of credit and indemnities from financial institutions, and liens on various assets.
     The Company is subject to various other litigation, investigations and legal and administrative cases and proceedings that arise in the ordinary course of its businesses. Due to their complex nature, it may be years before some matters are resolved. While it is impossible to ascertain the ultimate resolution or range of financial liability with respect to these contingent matters, the Company believes that the aggregate amount of such liabilities will not have a material adverse effect on the financial condition, results of operations or cash flows of the Company.
     For additional information on the nature of the Company’s guarantees and contingent liabilities, please refer to Note 21 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.
U.S. Bancorp 35


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U.S. Bancorp
Consolidated Daily Average Balance Sheet and Related Yields and Rates (a)
                                                                       
    For the Three Months Ended September 30,          
    2007     2006          
 
            Yields         Yields     % Change    
(Dollars in Millions)   Average       and     Average       and     Average    
(Unaudited)   Balances   Interest   Rates     Balances   Interest   Rates     Balances    
 
Assets
                                                               
Investment securities
  $ 41,128     $ 559       5.44 %     $ 39,806     $ 519       5.22 %       3.3 %    
Loans held for sale
    4,547       76       6.63         3,851       64       6.70         18.1      
Loans (b)
                                                               
 
Commercial
    47,390       792       6.63         46,068       769       6.63         2.9      
 
Commercial real estate
    28,462       525       7.33         28,701       538       7.44         (.8 )    
 
Residential mortgages
    22,258       345       6.18         21,118       313       5.90         5.4      
 
Retail
    49,407       1,049       8.42         45,604       932       8.10         8.3      
                                   
   
Total loans
    147,517       2,711       7.30         141,491       2,552       7.16         4.3      
Other earning assets
    1,694       33       7.92         2,042       40       7.73         (17.0 )    
                                   
   
Total earning assets
    194,886       3,379       6.90         187,190       3,175       6.74         4.1      
Allowance for loan losses
    (2,041 )                       (2,056 )                       .7      
Unrealized gain (loss) on available-for-sale securities
    (1,206 )                       (1,185 )                       (1.8 )    
Other assets
    31,866                         30,140                         5.7      
                                                   
   
Total assets
  $ 223,505                       $ 214,089                         4.4      
                                                   
Liabilities and Shareholders’ Equity
                                                               
Noninterest-bearing deposits
  $ 26,947                       $ 28,220                         (4.5 )    
Interest-bearing deposits
                                                               
 
Interest checking
    26,052       93       1.41         23,595       66       1.10         10.4      
 
Money market savings
    25,018       168       2.67         26,116       151       2.30         (4.2 )    
 
Savings accounts
    5,283       5       .37         5,598       5       .40         (5.6 )    
 
Time certificates of deposit less than $100,000
    14,590       163       4.42         13,867       137       3.93         5.2      
 
Time deposits greater than $100,000
    21,255       265       4.95         22,579       281       4.93         (5.9 )    
                                   
   
Total interest-bearing deposits
    92,198       694       2.99         91,755       640       2.77         .5      
Short-term borrowings
    29,155       401       5.46         23,601       334       5.60         23.5      
Long-term debt
    46,452       599       5.12         41,892       528       5.00         10.9      
                                   
   
Total interest-bearing liabilities
    167,805       1,694       4.01         157,248       1,502       3.79         6.7      
Other liabilities
    8,012                         7,704                         4.0      
Shareholders’ equity
                                                               
 
Preferred equity
    1,000                         1,000                              
 
Common equity
    19,741                         19,917                         (.9 )    
                                                   
   
Total shareholders’ equity
    20,741                         20,917                         (.8 )    
                                                   
     
Total liabilities and shareholders’ equity
  $ 223,505                       $ 214,089                         4.4 %    
                                             
Net interest income
          $ 1,685                       $ 1,673                        
                                                   
Gross interest margin
                    2.89 %                       2.95 %              
                                                   
Gross interest margin without taxable-equivalent increments
                    2.85                         2.92                
                                                   
Percent of Earning Assets
                                                               
Interest income
                    6.90 %                       6.74 %              
Interest expense
                    3.46                         3.18                
                                                   
Net interest margin
                    3.44 %                       3.56 %              
                                                   
Net interest margin without taxable-equivalent increments
                    3.40 %                       3.53 %              
                   
(a) Interest and rates are presented on a fully taxable-equivalent basis utilizing a tax rate of 35 percent.
(b) Interest income and rates on loans include loan fees. Nonaccrual loans are included in average loan balances.
36 U.S. Bancorp


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U.S. Bancorp
Consolidated Daily Average Balance Sheet and Related Yields and Rates (a)
                                                                       
    For the Nine Months Ended September 30,          
    2007     2006          
 
            Yields         Yields     % Change    
(Dollars in Millions)   Average       and     Average       and     Average    
(Unaudited)   Balances   Interest   Rates     Balances   Interest   Rates     Balances    
 
Assets
                                                               
Investment securities
  $ 40,904     $ 1,653       5.39 %     $ 39,858     $ 1,528       5.11 %       2.6 %    
Loans held for sale
    4,244       205       6.43         3,560       172       6.43         19.2      
Loans (b)
                                                               
 
Commercial
    47,200       2,347       6.64         45,029       2,193       6.51         4.8      
 
Commercial real estate
    28,536       1,569       7.35         28,704       1,563       7.28         (.6 )    
 
Residential mortgages
    21,888       999       6.09         20,992       909       5.78         4.3      
 
Retail
    48,341       3,004       8.31         44,836       2,631       7.85         7.8      
                                   
   
Total loans
    145,965       7,919       7.25         139,561       7,296       6.99         4.6      
Other earning assets
    1,675       101       8.09         2,096       119       7.55         (20.1 )    
                                   
   
Total earning assets
    192,788       9,878       6.85         185,075       9,115       6.58         4.2      
Allowance for loan losses
    (2,039 )                       (2,056 )                       .8      
Unrealized gain (loss) on available-for-sale securities
    (867 )                       (1,140 )                       23.9      
Other assets
    31,812                         30,309                         5.0      
                                                   
   
Total assets
  $ 221,694                       $ 212,188                         4.5      
                                                   
Liabilities and Shareholders’ Equity                                                                
Noninterest-bearing deposits
  $ 27,531                       $ 28,666                         (4.0 )    
Interest-bearing deposits
                                                               
 
Interest checking
    25,666       253       1.32         23,358       161       .92         9.9      
 
Money market savings
    25,108       490       2.61         26,820       405       2.02         (6.4 )    
 
Savings accounts
    5,375       15       .38         5,669       14       .34         (5.2 )    
 
Time certificates of deposit less than $100,000
    14,693       483       4.39         13,688       377       3.68         7.3      
 
Time deposits greater than $100,000
    21,237       791       4.98         22,255       764       4.59         (4.6 )    
                                   
   
Total interest-bearing deposits
    92,079       2,032       2.95         91,790       1,721       2.51         .3      
Short-term borrowings
    28,465       1,149       5.40         23,398       884       5.05         21.7      
Long-term debt
    44,696       1,696       5.07         40,462       1,415       4.67         10.5      
                                   
   
Total interest-bearing liabilities
    165,240       4,877       3.95         155,650       4,020       3.45         6.2      
Other liabilities
    7,976                         7,329                         8.8      
Shareholders’ equity
                                                               
 
Preferred equity
    1,000                         688                         45.3      
 
Common equity
    19,947                         19,855                         .5      
                                                   
   
Total shareholders’ equity
    20,947                         20,543                         2.0      
                                                   
     
Total liabilities and shareholders’ equity
  $ 221,694                       $ 212,188                         4.5 %    
                                             
Net interest income
          $ 5,001                       $ 5,095                        
                                                   
Gross interest margin
                    2.90 %                       3.13 %              
                                                   
Gross interest margin without taxable-equivalent increments
                    2.86                         3.11                
                                                   
Percent of Earning Assets
                                                               
Interest income
                    6.85 %                       6.58 %              
Interest expense
                    3.39                         2.90                
                                                   
Net interest margin
                    3.46 %                       3.68 %              
                                                   
Net interest margin without taxable-equivalent increments
                    3.42 %                       3.66 %              
                   
(a) Interest and rates are presented on a fully taxable-equivalent basis utilizing a tax rate of 35 percent.
(b) Interest income and rates on loans include loan fees. Nonaccrual loans are included in average loan balances.
U.S. Bancorp 37


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Part II — Other Information
Item 1A. Risk Factors — There are a number of factors that may adversely affect the Company’s business, financial results or stock price. Refer to “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, for discussion of these risks. The risks described in the Company’s Annual Report on Form 10-K are not the only risks facing the Company. Additional risks that the Company currently does not know about or currently views as immaterial may also impair the Company’s business or adversely impact its financial results or stock price.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds — Refer to the “Capital Management” section within Management’s Discussion and Analysis in Part I for information regarding shares repurchased by the Company during the third quarter of 2007.
Item 6. Exhibits
     
10.1
  Form of 2007 U.S. Bancorp Director Restricted Stock Unit Award Agreement under U.S. Bancorp 2007 Stock Incentive Plan
12
  Computation of Ratio of Earnings to Fixed Charges
31.1
  Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934
31.2
  Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934
32
  Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. section 1350 as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002
38 U.S. Bancorp


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SIGNATURE
     Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
  U.S. BANCORP
  By:  /s/ Terrance R. Dolan
 
 
  Terrance R. Dolan
  Executive Vice President and Controller
  (Chief Accounting Officer and Duly Authorized Officer)
DATE: November 8, 2007
U.S. Bancorp 39


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EXHIBIT 12
Computation of Ratio of Earnings to Fixed Charges
                         
    Three Months Ended   Nine Months Ended
(Dollars in Millions)   September 30, 2007   September 30, 2007
 
Earnings
1.
  Net income   $1,176     $3,462  
2.
  Applicable income taxes, including interest expense related to unrecognized tax positions     508       1,501  
             
3.
  Income before income taxes (1 + 2)   $1,684     $4,963  
             
4.
  Fixed charges:                
    a.   Interest expense excluding interest on deposits*   $973     $2,777  
    b.   Portion of rents representative of interest and amortization of debt expense     19       57  
             
    c.   Fixed charges excluding interest on deposits (4a + 4b)     992       2,834  
    d.   Interest on deposits     694       2,032  
             
    e.   Fixed charges including interest on deposits (4c + 4d)   $1,686     $4,866  
             
5.
  Amortization of interest capitalized   $—     $—  
6.
  Earnings excluding interest on deposits (3 + 4c + 5)     2,676       7,797  
7.
  Earnings including interest on deposits (3 + 4e + 5)     3,370       9,829  
8.
  Fixed charges excluding interest on deposits (4c)     992       2,834  
9.
  Fixed charges including interest on deposits (4e)     1,686       4,866  
Ratio of Earnings to Fixed Charges
10.
  Excluding interest on deposits (line 6/line 8)     2.70       2.75  
11.
  Including interest on deposits (line 7/line 9)     2.00       2.02  
 
* Excludes interest expense related to unrecognized tax positions.
40 U.S. Bancorp


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EXHIBIT 31.1
CERTIFICATION PURSUANT TO
RULE 13a-14(a) UNDER THE SECURITIES EXCHANGE ACT OF 1934
I, Richard K. Davis, certify that:
(1)  I have reviewed this Quarterly Report on Form 10-Q of U.S. Bancorp;
 
(2)  Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
 
(3)  Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
 
(4)  The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
  (a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
  (b) designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
  (c) evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
  (d) disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
(5)  The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):
  (a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
  (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
  /s/ Richard K. Davis
 
 
  Richard K. Davis
  Chief Executive Officer
Dated: November 8, 2007
U.S. Bancorp 41


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EXHIBIT 31.2
CERTIFICATION PURSUANT TO
RULE 13a-14(a) UNDER THE SECURITIES EXCHANGE ACT OF 1934
I, Andrew Cecere, certify that:
(1)  I have reviewed this Quarterly Report on Form 10-Q of U.S. Bancorp;
 
(2)  Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
 
(3)  Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
 
(4)  The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
  (a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
  (b) designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
  (c) evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
  (d) disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
(5)  The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):
  (a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
  (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
  /s/ Andrew Cecere
 
 
  Andrew Cecere
  Chief Financial Officer
Dated: November 8, 2007
42 U.S. Bancorp


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EXHIBIT 32
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned, Chief Executive Officer and Chief Financial Officer of U.S. Bancorp, a Delaware corporation (the “Company”), do hereby certify that:
(1)  The Quarterly Report on Form 10-Q for the quarter ended September 30, 2007 (the “Form 10-Q”) of the Company fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
 
(2)  The information contained in the Form 10-Q fairly presents, in all material respects, the financial condition and results of operations of the Company.
     
/s/ Richard K. Davis   /s/ Andrew Cecere
     
Richard K. Davis   Andrew Cecere
Chief Executive Officer   Chief Financial Officer
Dated: November 8, 2007
U.S. Bancorp 43


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  Minneapolis, MN
 
 
corporate information
Executive Offices
U.S. Bancorp
800 Nicollet Mall
Minneapolis, MN 55402
Common Stock Transfer Agent and Registrar
Mellon Investor Services acts as our transfer agent and registrar, dividend paying agent and dividend reinvestment plan administrator, and maintains all shareholder records for the corporation. Inquiries related to shareholder records, stock transfers, changes of ownership, lost stock certificates, changes of address and dividend payment should be directed to the transfer agent at:
Mellon Investor Services
P.O. Box 3315
South Hackensack, NJ 07606-1915
Phone: 888-778-1311 or 201-680-4000
Internet: melloninvestor.com
For Registered or Certified Mail:
Mellon Investor Services
480 Washington Boulevard
Jersey City, NJ 07310
Telephone representatives are available weekdays from 8:00 a.m. to 6:00 p.m. Central Time, and automated support is available 24 hours a day, 7 days a week. Specific information about your account is available on Mellon’s internet site by clicking on For Investors and then the Investor ServiceDirect® link.
Independent Auditor
Ernst & Young LLP serves as the independent auditor for U.S. Bancorp’s financial statements.
Common Stock Listing and Trading
U.S. Bancorp common stock is listed and traded on the New York Stock Exchange under the ticker symbol USB.
Dividends and Reinvestment Plan
U.S. Bancorp currently pays quarterly dividends on our common stock on or about the 15th day of January, April, July and October, subject to approval by our Board of Directors. U.S. Bancorp shareholders can choose to participate in a plan that provides automatic reinvestment of dividends and/or optional cash purchase of additional shares of U.S. Bancorp common stock. For more information, please contact our transfer agent, Mellon Investor Services.
Investor Relations Contacts
Judith T. Murphy
Senior Vice President, Investor Relations
judith.murphy@usbank.com
Phone: 612-303-0783 or 866-775-9668
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Financial Information
U.S. Bancorp news and financial results are available through our website and by mail.
Website For information about U.S. Bancorp, including news, financial results, annual reports and other documents filed with the Securities and Exchange Commission, access our home page on the internet at usbank.com, click on About U.S. Bancorp, then Investor/Shareholder Information.
Mail At your request, we will mail to you our quarterly earnings, news releases, quarterly financial data reported on Form 10-Q and additional copies of our annual reports. Please contact:
U.S. Bancorp Investor Relations
800 Nicollet Mall
Minneapolis, MN 55402
investorrelations@usbank.com
Phone: 866-775-9668
Media Requests
Steven W. Dale
Senior Vice President, Media Relations
steve.dale@usbank.com
Phone: 612-303-0784
Privacy
U.S. Bancorp is committed to respecting the privacy of our customers and safeguarding the financial and personal information provided to us. To learn more about the U.S. Bancorp commitment to protecting privacy, visit usbank.com and click on Privacy Pledge.
Code of Ethics
U.S. Bancorp places the highest importance on honesty and integrity. Each year, every U.S. Bancorp employee certifies compliance with the letter and spirit of our Code of Ethics and Business Conduct, the guiding ethical standards of our organization. For details about our Code of Ethics and Business Conduct, visit usbank.com and click on About U.S. Bancorp, then Ethics at U.S. Bank.
Diversity
U.S. Bancorp and our subsidiaries are committed to developing and maintaining a workplace that reflects the diversity of the communities we serve. We support a work environment where individual differences are valued and respected and where each individual who shares the fundamental values of the company has an opportunity to contribute and grow based on individual merit.
Equal Employment Opportunity/Affirmative Action
U.S. Bancorp and our subsidiaries are committed to providing Equal Employment Opportunity to all employees and applicants for employment. In keeping with this commitment, employment decisions are made based upon performance, skill and abilities, not race, color, religion, national origin or ancestry, gender, age, disability, veteran status, sexual orientation or any other factors protected by law. The corporation complies with municipal, state and federal fair employment laws, including regulations applying to federal contractors.
U.S. Bancorp, including each of our subsidiaries, is an Equal Opportunity Employer committed to creating a diverse workforce.
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       U.S. Bancorp
       Member FDIC
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