================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------
Form 10-Q/A
Amendment No. 1
to
Form 10-Q
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[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2005
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
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Commission File Number: 001-31369
CIT Group Inc.
(Exact name of Registrant as specified in its charter)
Delaware 65-1051192
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
1211 Avenue of the Americas, New York, New York 10036
(Address of Registrant's principal executive offices) (Zip Code)
(212) 536-1211
(Registrant's telephone number)
----------
(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 (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark whether the registrant is an accelerated filer as
defined in Rule 12b-2 of the Securities Exchange Act of 1934. Yes [X] No [_]
Indicate by check mark whether the registrant is a shell company as
defined in Rule 12b-2 under the Securities Exchange Act of 1934. Yes [_] No [X]
As of October 28, 2005, there were 199,775,814 shares of the Registrant's
common stock outstanding.
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Overview
We are filing this amendment to our Form 10-Q for the quarterly period
ended September 30, 2005 to restate financial statements and corresponding
financial information for certain derivative transactions that do not qualify
for hedge accounting. We are also including other previously identified,
immaterial, in-period financial statement changes (relating to year-to-date
results) in conjunction with this amendment.
The primary impacts of this restatement of non-cash items on our financial
statements and certain key financial ratios are as follows ($ in millions, per
share amounts in dollars):
Quarter Year to Date
------------------------------------- ----------------------------------
At or for the Quarter and Nine Previously Previously
Months Ended September 30, 2005 Reported Restated Change Reported Restated Change
- ------------------------------- ----------- -------- ------ ----------- -------- ------
Income Statement
Finance income ..................... $ 1,153.7 $1,153.7 $ -- $ 3,282.4 $3,282.4 $ --
Interest expense ................... 495.4 495.4 -- 1,356.3 1,354.7 (1.6)
Other revenue ...................... 253.8 239.5 (14.3) 784.2 848.6 64.4
Salaries and general operating
expenses .......................... 281.1 281.1 -- 813.9 813.9 --
Provision for income taxes ......... 93.0 86.8 (6.2) 328.8 357.3 28.5
Net income ......................... 219.5 211.4 (8.1) 650.6 688.1 37.5
Basic earnings per common share .... 1.08 1.04 (0.04) 3.13 3.31 0.18
Diluted earnings per common share .. 1.06 1.02 (0.04) 3.06 3.24 0.18
Balance Sheet
Finance receivables and education
lending receivables............... 42,686.6 42,685.2 (1.4)
Total debt ......................... 44,966.7 44,899.3 (67.4)
Accrued liabilities and payables ... 4,293.7 4,322.2 28.5
Total stockholders' equity ......... 6,574.3 6,611.8 37.5
Financial Ratios
Net finance margin as a percentage
of average earning assets ........ 3.41% 3.41% 3.41% 3.41%
Return on average earning assets ... 1.80% 1.73% 1.84% 1.95%
Return on average common equity .... 14.3% 13.8% 14.0% 14.8%
Return on average tangible
common equity .................... 17.0% 16.4% 16.2% 17.1%
Tangible stockholders' equity
and preferred capital securities
to managed assets ................ 9.44% 9.50%
Efficiency ratio ................... 42.0% 42.9% 42.2% 40.8%
During the fourth quarter of 2005, we learned of an interpretation with
respect to applying the "matched terms" approach in hedge accounting under
Statement of Financial Accounting Standards No. 133, Accounting for Derivative
Instruments and Hedging Activities, as amended ("SFAS 133"). We reviewed our
accounting for certain cross-currency interest rate swaps ("compound swaps" or
"compound derivatives") under SFAS 133.
We determined that seven compound cross-currency and interest rate swaps
with a notional principal of approximately $1.4 billion at September 30, 2005
were not appropriately accounted for, even though these compound swaps were
highly effective economic hedges of the interest rate and currency exchange
risks associated with the corresponding foreign denominated debt. We documented
these swaps originally as "matched terms" hedges, which assumes no hedge
ineffectiveness. The swaps would have qualified for "long-haul" hedge accounting
with ineffectiveness reflected in current earnings. However, the swaps did not
qualify for hedge accounting treatment from their inception, as SFAS 133 does
not allow for subsequent documentation modifications.
i
The elimination of hedge accounting from inception of the compound swaps
resulted in an increase to other revenue and earnings for the nine months ended
September 30, 2005 to reflect the elimination of adjustments to the basis of the
corresponding debt under SFAS 133 fair value hedge accounting for changes in
interest rates during each period. This increase to revenues in the current
period will reduce future earnings by an equal amount through 2015.
As a result of the review of our accounting, we have terminated these
compound cross-currency swaps and replaced each with a pair of individual swaps
(a cross-currency basis swap and an interest rate swap, both with zero fair
value at inception) with the same counterparties and with the same terms as both
the hedged debt and the original compound derivatives. The replacement
derivative contracts achieve the same economics as the original compound
derivatives and will be accounted for as hedges under SFAS 133. Accessing
non-U.S. capital markets is a key element of our funding strategy, and we remain
committed to our risk management strategy to hedge, or significantly mitigate,
our interest and currency risk and to transact derivatives only for risk
management purposes. We plan to utilize stand alone swaps for similar hedge
transactions in the future.
After reviewing the above with the Audit Committee of the Board of
Directors on December 9, 2005, the Audit Committee agreed with management's
recommendation to adjust our financial statements. In light of this decision and
resulting restatement, the previously reported financial statements and other
information included in the CIT Group Inc. Form 10-Q for the quarterly period
ended September 30, 2005 should no longer be relied upon.
ii
CIT GROUP INC. AND SUBSIDIARIES
TABLE OF CONTENTS
- --------------------------------------------------------------------------------
Page
----
Part I--Financial Information:
Item 1. Consolidated Financial Statements................................ 1
Consolidated Balance Sheets (Unaudited).......................... 1
Consolidated Statements of Income (Unaudited).................... 2
Consolidated Statement of Stockholders' Equity (Unaudited)....... 3
Consolidated Statements of Cash Flows (Unaudited)................ 4
Notes to Consolidated Financial Statements (Unaudited)........... 5-22
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations and
Item 3. Quantitative and Qualitative Disclosure about Market Risk........ 23-49
Item 4. Controls and Procedures.......................................... 50
Part II--Other Information:
Item 1. Legal Proceedings................................................ 52
Item 2. Unregistered Sales of Equity Securities and
Use of Proceeds................................................ 52
Item 3. Default Upon Senior Securities................................... 53
Item 4. Submission of Matters to a Vote of Security Holders.............. 53
Item 5. Other Information................................................ 53
Item 6. Exhibits......................................................... 54
Signatures .............................................................. 55
iii
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
CIT GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (Unaudited)
($ in millions -- except share data)
September 30, December 31,
2005 2004
------------- ------------
(Restated)
ASSETS
Financing and leasing assets:
Finance receivables ........................................ $ 38,289.1 $ 35,048.2
Student lending receivables pledged ........................ 4,396.1 --
Reserve for credit losses .................................. (652.8) (617.2)
----------- -----------
Net finance receivables .................................... 42,032.4 34,431.0
Operating lease equipment, net ............................. 9,184.4 8,290.9
Financing and leasing assets held for sale ................. 1,848.4 1,640.8
Cash and cash equivalents, including $347.3 and $0.0 restricted 1,935.4 2,210.2
Retained interest in securitizations and other investments .... 1,180.9 1,228.2
Goodwill and intangible assets, net ........................... 1,003.8 596.5
Other assets .................................................. 2,964.9 2,713.7
----------- -----------
Total Assets .................................................. $ 60,150.2 $ 51,111.3
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Debt:
Commercial paper ........................................... $ 5,185.1 $ 4,210.9
Variable-rate senior unsecured notes ....................... 14,318.1 11,545.0
Fixed-rate senior unsecured notes .......................... 21,405.9 21,715.1
Non-recourse, secured borrowings -- student lending ........ 3,737.7 --
Preferred capital securities ............................... 252.5 253.8
----------- -----------
Total debt .................................................... 44,899.3 37,724.8
Credit balances of factoring clients .......................... 4,267.1 3,847.3
Accrued liabilities and payables .............................. 4,322.2 3,443.7
----------- -----------
Total Liabilities .......................................... 53,488.6 45,015.8
Commitments and Contingencies (Note 10)
Minority interest ............................................. 49.8 40.4
Stockholders' Equity:
Preferred stock: $0.01 par value, 100,000,000 authorized,
Issued and outstanding:
Series A 14,000,000 with a liquidation preference
of $25 per share ..................................... 350.0 --
Series B 1,500,000 with a liquidation preference
of $100 per share .................................... 150.0 --
Common stock: $0.01 par value, 600,000,000 authorized,
Issued: 212,284,056 and 212,112,203 ...................... 2.1 2.1
Outstanding: 200,268,812 and 210,440,170
Paid-in capital, net of deferred compensation of $54.4
and $39.3 ................................................ 10,598.7 10,674.3
Accumulated deficit ........................................ (3,905.7) (4,499.1)
Accumulated other comprehensive loss ....................... (50.6) (58.4)
Less: treasury stock, 12,015,244 and 1,672,033 shares, at cost (532.7) (63.8)
----------- -----------
Total Common Stockholders' Equity ............................. 6,111.8 6,055.1
----------- -----------
Total Stockholders' Equity ................................. 6,611.8 6,055.1
----------- -----------
Total Liabilities and Stockholders' Equity .................... $ 60,150.2 $ 51,111.3
=========== ===========
See Notes to Consolidated Financial Statements.
1
CIT GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
($ in millions -- except per share data)
Quarters Ended Nine Months Ended
September 30, September 30,
---------------------- ----------------------
2005 2004 2005 2004
-------- -------- -------- --------
(Restated) (Restated)
Finance income ................................................. $1,153.7 $ 957.0 $3,282.4 $2,762.8
Interest expense ............................................... 495.4 315.4 1,354.7 913.4
-------- -------- -------- --------
Net finance income ............................................. 658.3 641.6 1,927.7 1,849.4
Depreciation on operating lease equipment ...................... 242.6 248.2 721.4 721.9
-------- -------- -------- --------
Net finance margin ............................................. 415.7 393.4 1,206.3 1,127.5
Provision for credit losses .................................... 69.9 60.2 162.4 211.5
-------- -------- -------- --------
Net finance margin after provision for credit losses ........... 345.8 333.2 1,043.9 916.0
Other revenue .................................................. 239.5 216.7 848.6 684.3
-------- -------- -------- --------
Operating margin ............................................... 585.3 549.9 1,892.5 1,600.3
Salaries and general operating expenses ........................ 281.1 248.1 813.9 740.5
Provision for restructuring .................................... -- -- 25.2 --
Gain on redemption of debt ..................................... -- -- -- 41.8
-------- -------- -------- --------
Income before provision for income taxes ....................... 304.2 301.8 1,053.4 901.6
Provision for income taxes ..................................... (86.8) (117.7) (357.3) (351.6)
Minority interest, after tax ................................... (0.8) (0.2) (2.8) (0.2)
-------- -------- -------- --------
Net income before preferred stock dividends .................... 216.6 183.9 693.3 549.8
Preferred stock dividends ...................................... (5.2) -- (5.2) --
-------- -------- -------- --------
Net income available to common stockholders .................... $ 211.4 $ 183.9 $ 688.1 $ 549.8
======== ======== ======== ========
Earnings per common share
Basic earnings per common share ................................ $ 1.04 $ 0.87 $ 3.31 $ 2.60
Diluted earnings per common share .............................. $ 1.02 $ 0.86 $ 3.24 $ 2.56
Number of common shares -- basic (thousands) ................... 203,103 210,489 208,088 211,286
Number of common shares -- diluted (thousands) ................. 207,952 214,179 212,580 215,116
Dividends per common share ..................................... $ 0.16 $ 0.13 $ 0.45 $ 0.39
See Notes to Consolidated Financial Statements.
2
CIT GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (Unaudited)
($ in millions)
Accumulated
Accumulated Other Total
Preferred Common Paid-in (Deficit)/ Comprehensive Treasury Stockholders'
Stock Stock Capital Earnings (Loss)/Income Stock Equity
--------- ------ ------- ----------- ------------- -------- -------------
(Restated) (Restated)
December 31, 2004....................... $ -- $ 2.1 $10,674.3 $(4,499.1) $(58.4) $ (63.8) $6,055.1
Net income.............................. 688.1 688.1
Foreign currency translation
adjustments .......................... (47.3) (47.3)
Change in fair values of derivatives
qualifying as cash flow hedges ....... 42.6 42.6
Unrealized gain on equity and
securitization investments, net ...... 12.1 12.1
Minimum pension liability
adjustment ........................... 0.4 0.4
--------
Total comprehensive income.............. 695.9
--------
Issuance of Series A and B
preferred stock ...................... 500.0 (10.1) 489.9
Cash dividends.......................... (94.7) (94.7)
Restricted common stock grants
amortization ......................... 32.7 32.7
Shares acquired under stock
repurchase agreement ................. (52.3) (447.7) (500.0)
Treasury stock purchased, at cost ...... (208.5) (208.5)
Exercise of stock option awards......... (45.4) 184.1 138.7
Employee stock purchase plan
participation ....................... (0.5) 3.2 2.7
------ ------ --------- --------- ------ ------- --------
September 30, 2005..................... $500.0 $ 2.1 $10,598.7 $(3,905.7) $(50.6) $(532.7) $6,611.8
====== ====== ========= ========= ====== ======= ========
See Notes to Consolidated Financial Statements.
3
CIT GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
($ in millions)
Nine Months Ended
September 30,
-------------------
2005 2004
------ ------
(Restated)
Cash Flows From Operations
Net income (loss) ............................................. $ 688.1 $ 549.8
Adjustments to reconcile net income (loss) to net cash flows
from operations:
Depreciation and amortization .............................. 752.8 747.5
Provision for deferred federal income taxes ................ 265.3 274.2
Provision for credit losses ................................ 162.4 211.5
Gains on equipment, receivable and investment sales ........ (125.7) (174.3)
Gain on debt redemption .................................... -- (41.8)
Decrease (increase) in finance receivables held for sale ... 93.0 (771.5)
Decrease in other assets ................................... 27.7 133.5
Increase (decrease) in accrued liabilities and payables .... 422.5 (258.1)
Other ...................................................... (93.7) (74.7)
---------- ----------
Net cash flows provided by operations ......................... 2,192.4 596.1
---------- ----------
Cash Flows From Investing Activities
Loans extended ................................................ (41,169.6) (37,978.6)
Collections on loans .......................................... 38,178.4 34,905.9
Proceeds from asset and receivable sales ...................... 4,214.4 3,112.1
Purchase of finance receivable portfolios ..................... (2,817.6) (2,027.4)
Purchases of assets to be leased .............................. (1,687.7) (874.3)
Net decrease in short-term factoring receivables .............. (481.3) (416.1)
Acquisitions, net of cash acquired ............................ (315.1) (724.8)
Goodwill and intangibles assets acquired ...................... (423.0) (114.1)
Other ......................................................... 137.0 69.2
---------- ----------
Net cash flows (used for) investing activities ................ (4,364.5) (4,048.1)
---------- ----------
Cash Flows From Financing Activities
Proceeds from the issuance of variable and fixed-rate notes ... 9,581.4 10,071.7
Repayments of variable and fixed-rate notes ................... (7,818.5) (6,549.8)
Net increase in commercial paper .............................. 974.2 322.6
Net loans extended -- pledged in conjunction with
secured borrowings .......................................... (782.2) --
Issuance of preferred stock ................................... 489.9 --
Treasury stock repurchases .................................... (521.2) --
Cash dividends paid ........................................... (94.7) (83.6)
Net repayments of non-recourse leveraged lease debt ........... 81.6 (38.6)
Other ......................................................... (13.2) (83.9)
---------- ----------
Net cash flows provided by financing activities ............... 1,897.3 3,638.4
---------- ----------
Net (decrease) increase in cash and cash equivalents .......... (274.8) 186.4
Cash and cash equivalents, beginning of period ................ 2,210.2 1,973.7
---------- ----------
Cash and cash equivalents, end of period ...................... $ 1,935.4 $ 2,160.1
========== ==========
Supplementary Cash Flow Disclosure
Interest paid ................................................. $ 1,185.8 $ 911.7
Federal, foreign, state and local income taxes paid, net ...... $ 64.0 $ 74.4
See Notes to Consolidated Financial Statements.
4
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited)
Note 1 -- Summary of Significant Accounting Policies
CIT Group Inc., a Delaware corporation ("we," "CIT" or the "Company"), is
a global commercial and consumer finance company that was founded in 1908. CIT
provides financing and leasing capital for consumers and companies in a wide
variety of industries, offering vendor, equipment, commercial, factoring, home
lending, student lending and structured financing products as well as offering
management advisory services. CIT operates primarily in North America, with
locations in Europe, Latin America, Australia and the Asia-Pacific region.
These financial statements have been prepared in accordance with the
instructions to Form 10-Q, do not include all of the information and note
disclosures required by accounting principles generally accepted in the United
States ("GAAP") and should be read in conjunction with the Company's Annual
Report on Form 10-K for the year ended December 31, 2004. Financial statements
in this Form 10-Q have not been audited by the independent registered public
accounting firm in accordance with the standards of the Public Company
Accounting Oversight Board (U.S.), but in the opinion of management include all
adjustments, consisting only of normal recurring adjustments, necessary for a
fair statement of CIT's financial position and results of operations. Certain
prior period amounts have been reclassified to conform to the current
presentation.
Stock-Based Compensation
CIT has elected to apply Accounting Principles Board Opinion 25 ("APB 25")
rather than the optional provisions of Statement of Financial Accounting
Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), as
amended by SFAS No. 148, "Accounting for Stock-Based Compensation -- Transition
and Disclosure", in accounting for its stock-based compensation plans. Under APB
25, CIT does not recognize compensation expense on the issuance of its stock
options because the option terms are fixed and the exercise price equals the
market price of the underlying stock on the grant date. The following table
presents the proforma information required by SFAS 123 as if CIT had accounted
for stock options granted under the fair value method of SFAS 123, as amended
($in millions, except per share data):
Quarters Ended Nine Months Ended
September 30, September 30,
----------------- ------------------
2005 2004 2005 2004
------ ------ ------ ------
(Restated) (Restated)
Net income available to common stockholders, as reported....... $211.4 $183.9 $688.1 $549.8
Stock-based compensation expense -- fair value method,
after tax.................................................... (4.7) (5.1) (14.6) (15.6)
------ ------ ------ ------
Proforma net income............................................ $206.7 $178.8 $673.5 $534.2
====== ====== ====== ======
Basic earnings per common share as reported.................... $ 1.04 $ 0.87 $ 3.31 $ 2.60
Basic earnings per common share proforma....................... $ 1.02 $ 0.85 $ 3.24 $ 2.53
Diluted earnings per common share as reported.................. $ 1.02 $ 0.86 $ 3.24 $ 2.56
Diluted earnings per common share proforma..................... $ 0.99 $ 0.83 $ 3.17 $ 2.48
For the quarters ended September 30, 2005 and 2004, net income as reported
includes $5.9 million and $3.4 million of after-tax compensation cost related to
restricted stock awards, while the year-to-date costs were $20.0 million for
2005 and $10.9 million for 2004.
Recent Accounting Pronouncements
On January 1, 2005, the Company adopted Statement of Position No. 03-3,
"Accounting for Certain Loans or Debt Securities Acquired in a Transfer" ("SOP
03-3"). SOP 03-3 requires acquired loans to be carried at fair value and
prohibits the establishment of credit loss valuation reserves at acquisition for
loans that have evidence of credit deterioration since origination. The
implementation of SOP 03-3 did not have a material financial statement impact.
In December 2004, the FASB issued a revision to SFAS No. 123, "Share-Based
Payment" ("FAS 123R"). FAS 123R requires the recognition of compensation expense
for all stock-based compensation plans as of the beginning of the first annual
reporting period that begins after June 15, 2005. The current accounting for
employee
5
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited)
stock options is most impacted by this new standard, as costs associated with
restricted stock awards are already recognized in net income and amounts
associated with employee stock purchase plans are not significant. Similar to
the proforma amounts disclosed historically, the compensation cost relating to
options will be based upon the grant-date fair value of the award and will be
recognized over the vesting period. The financial statement impact of adopting
FAS 123R is not expected to differ materially from proforma amounts previously
disclosed.
In December 2004, the FASB issued FASB Staff Position No. FAS 109-2,
"Accounting and Disclosure Guidance for the Foreign Earnings Repatriation
Provision within the American Jobs Creation Act of 2004" ("FSP 109-2"). The
implementation of FSP 109-2 is not expected to have a material financial
statement impact on the Company, as there are no present plans to repatriate
foreign earnings.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity." On
November 7, 2003, certain measurement and classification provisions of SFAS 150,
relating to certain mandatorily redeemable non-controlling interests, were
deferred indefinitely. The implementation of these delayed provisions, which
relate primarily to minority interests associated with finite-lived entities, is
not expected to have a material financial statement impact on the Company.
Restatement Relating to Derivative Hedge Accounting (see Note 15 -- Restatement
Relating to Derivative Hedge Accounting for additional information).
Note 2 -- Earnings Per Common Share
Basic earnings per common share ("EPS") is computed by dividing net income
by the weighted-average number of common shares outstanding for the period. The
diluted EPS computation includes the potential impact of dilutive securities,
including stock options and restricted stock grants. The dilutive effect of
stock options is computed using the treasury stock method, which assumes the
repurchase of common shares by CIT at the average market price for the period.
Options that do not have a dilutive effect (because the exercise price is above
the market price) are not included in the denominator and averaged approximately
15.9 million shares and 18.2 million shares for the quarters ended September 30,
2005 and 2004, and 16.3 million shares and 17.0 million shares for the nine
months ended September 30, 2005 and 2004, respectively.
The reconciliation of the numerator and denominator of basic EPS with that
of diluted EPS is presented ($ in millions, except per common share amounts,
which are in whole dollars; weighted-average common share balances are in
thousands):
Quarter Ended September 30, 2005 Quarter Ended September 30, 2004
------------------------------------ -------------------------------------
Income Shares Per Share Income Shares Per Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
----------- ------------- --------- ----------- ------------- ---------
(Restated) (Restated)
Basic EPS:
Income available to common
stockholders................ $211.4 203,103 $1.04 $183.9 210,489 $0.87
Effect of Dilutive Securities:
Restricted shares............. 960 649
Performance shares............ 893 --
Stock options................. 2,996 3,041
------ ------- ------ -------
Diluted EPS..................... $211.4 207,952 $1.02 $183.9 214,179 $0.86
====== ======= ====== =======
Nine Months Ended September 30, 2005 Nine Months Ended September 30, 2004
------------------------------------ ------------------------------------
(Restated) (Restated)
Basic EPS:
Income available to common
stockholders................ $688.1 208,088 $3.31 $549.8 211,286 $2.60
Effect of Dilutive Securities:..
Restricted shares............. 909 650
Performance shares............ 656 --
Stock options................. 2,927 3,180
------ ------- ------ -------
Diluted EPS..................... $688.1 212,580 $3.24 $549.8 215,116 $2.56
====== ======= ====== =======
6
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
The average common shares outstanding for the quarter ended September 30,
2005 reflects the receipt of 10,063,467 treasury shares in conjunction with a
stock buyback agreement. See Note 6 for additional information.
Note 3 -- Business Segment Information
The selected financial information by business segment presented below is
based upon the allocation of most corporate expenses. For the 2005 periods,
capital is allocated to the segments by applying different leverage ratios to
each business unit using market capitalization and risk criteria. The capital
allocations reflect the relative risk of individual asset classes within
segments and range from approximately 2% of managed assets for U.S. government
guaranteed loans to approximately 15% of managed assets for longer-term assets
such as aerospace and rail.
During the second quarter of 2005, segment reporting was modified in
conjunction with certain business restructuring initiatives. The former
Commercial Finance segment was divided into two segments, Commercial Services
(factoring) and Corporate Finance. Corporate Finance includes the former
Business Credit (asset based lending), Power, Energy and Infrastructure, which
was transferred from Capital Finance, and Healthcare, which was transferred from
Equipment Finance. Prior period balances have been adjusted to conform to
current period presentation, except for the transfer of Healthcare assets and
related income data ($ in millions):
Specialty Specialty Corporate
Finance - Finance - Commercial Corporate Equipment Capital Total and
commercial consumer Services Finance Finance Finance Segments Other Consolidated
---------- ---------- ---------- --------- --------- -------- -------- ---------- ------------
(Restated) (Restated) (Restated) (Restated)
Quarter Ended
September 30, 2005
Net finance income ... $ 294.4 $ 51.9 $ 37.0 $ 78.5 $ 37.6 $ 152.1 $ 651.5 $ 6.8 $ 658.3
Depreciation on
operating lease
equipment .......... 143.0 -- -- 2.9 6.7 90.0 242.6 -- 242.6
Provision for credit
losses ............. 23.7 9.2 6.3 (3.2) 3.4 2.3 41.7 28.2 69.9
Other revenue ........ 67.0 21.4 76.0 31.9 24.5 (75.4) 145.4 94.1 239.5
Income taxes ......... (31.7) (10.0) (29.3) (29.0) (12.9) 44.6 (68.3) (18.5) (86.8)
Net income ........... 74.5 16.8 48.4 46.2 22.1 5.8 213.8 (2.4) 211.4
Quarter Ended
September 30, 2004
Net finance income ... $ 308.8 $ 34.6 $ 29.9 $ 63.5 $ 53.0 $ 130.3 $ 620.1 $ 21.5 $ 641.6
Depreciation on
operating lease
equipment .......... 157.1 -- -- 1.1 12.7 77.4 248.3 (0.1) 248.2
Provision for credit
losses ............. 31.7 7.8 7.3 3.5 7.8 -- 58.1 2.1 60.2
Other revenue ........ 79.5 9.4 74.1 21.2 23.1 5.2 212.5 4.2 216.7
Income taxes ......... (42.9) (8.0) (26.9) (22.5) (12.1) (11.8) (124.2) 6.5 (117.7)
Net income (loss) ... 69.5 12.2 42.6 32.7 20.1 27.9 205.0 (21.1) 183.9
At or for the Nine
Months Ended
September 30, 2005
Net finance income ... $ 871.8 $ 143.0 $ 98.7 $ 224.7 $ 130.6 $ 421.1 $ 1,889.9 $ 37.8 $ 1,927.7
Depreciation on
operating lease
equipment .......... 426.5 -- -- 8.6 28.5 257.9 721.5 (0.1) 721.4
Provision for credit
losses ............. 67.9 26.6 18.4 4.5 16.7 2.7 136.8 25.6 162.4
Other revenue ........ 244.8 59.5 212.4 95.2 94.8 (61.5) 645.2 203.4 848.6
Income taxes ......... (121.5) (30.5) (77.7) (80.3) (47.0) 30.3 (326.7) (30.6) (357.3)
Net income (loss) ... 227.9 49.2 128.3 131.3 77.6 71.3 685.6 2.5 688.1
Total financing and
leasing assets ..... 10,715.8 11,776.7 7,388.9 9,054.2 4,676.1 10,137.4 53,749.1 -- 53,749.1
Total managed assets.. 14,712.0 12,688.1 7,388.9 9,100.3 7,261.8 10,137.4 61,288.5 -- 61,288.5
7
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
Specialty Specialty Corporate
Finance - Finance - Commercial Corporate Equipment Capital Total and
commercial consumer Services Finance Finance Finance Segments Other Consolidated
---------- ---------- ---------- --------- --------- -------- -------- ---------- ------------
At or for the Nine
Months Ended
September 30, 2004
Net finance income .... $ 878.7 $ 90.7 $ 81.2 $ 200.5 $ 163.9 $ 363.3 $ 1,778.3 $ 71.1 $ 1,849.4
Depreciation on
operating lease
equipment ........... 441.6 -- -- 3.2 38.0 239.2 722.0 (0.1) 721.9
Provision for credit
losses .............. 83.2 23.8 17.3 24.5 49.6 7.6 206.0 5.5 211.5
Other revenue ......... 228.3 39.6 212.0 90.1 81.2 24.3 675.5 8.8 684.3
Income taxes .......... (100.9) (22.1) (76.2) (73.6) (33.7) (27.2) (333.7) (17.9) (351.6)
Net income (loss) .... 204.0 33.9 118.9 110.9 55.5 63.6 586.8 (37.0) 549.8
Total financing and
leasing assets ...... 11,289.1 4,427.7 6,764.0 6,628.2 6,844.6 8,465.6 44,419.2 -- 44,419.2
Total managed assets .. 15,006.7 5,780.3 6,764.0 6,628.2 9,769.3 8,465.6 52,414.1 -- 52,414.1
Corporate and Other results for the quarter ended September 30, 2005
include a reserve for credit losses of $34.6 million and a $6.8 million pretax
securitization retained interest impairment charge relating to estimated
Hurricanes Katrina and Rita losses. These amounts reflect management's best
estimate of loss as of September 30, 2005 based on available, relevant
information. Total business segment owned and securitized receivables in the
three most impacted states (Louisiana, Alabama and Mississippi) as of September
30, 2005 were approximately $925 million and $200 million. Of these amounts,
exposure to commercial and consumer customers located in the Federal Emergency
Management Agency ("FEMA") designated disaster areas and other areas that
management determined were significantly impacted were approximately $600
million and $50 million respectively, including approximately $250 million in
the FEMA designated disaster areas relating principally to equipment and vendor
finance assets and home mortgages. For commercial loans, management performed a
loan-by-loan assessment of estimated loss. For the equipment and vendor assets
and home mortgages in the FEMA designated disaster areas, management performed
an analysis of exposure by zip code, including flood versus non-flood designated
locations, supplemented with a range of corresponding estimated damage
assessments. This estimate of loss involves considerable judgment and
assumptions about uncertain matters, including the existence of insurance in
force with respect to damages incurred, insurance claims and proceeds and the
extent of property damage. Management will continue to assess the financial
impact of the hurricanes as more information becomes available.
During the quarter ended September 30, 2005, management initiated actions
to sell $190 million of older, out-of-production aircraft and $125 million in
manufactured housing receivables. These assets were reclassified to Financing
and Leasing Assets Held for Sale and marked to estimated fair value, which
resulted in pretax losses recorded in other revenue during the quarter ended
September 30, 2005 of $86.6 million in Capital Finance related to aircraft and
$20.0 million in Specialty Finance - commercial related to the manufactured
housing receivables. The estimated fair values were developed from relevant
market information, including third party sales for similar equipment, published
appraisal data and other relevant market place data.
8
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
Note 4 -- Concentrations
The following table summarizes the geographic and industry compositions
(by obligor) of financing and leasing portfolio assets ($ in millions):
September 30, 2005 December 31, 2004
Amount Percent Amount Percent
------------------ -----------------
(Restated)
Geographic
North America:
West ............................................ $10,292.4 19.1% $ 8,595.3 19.0%
Northeast ....................................... 10,244.8 19.1% 8,463.4 18.7%
Midwest ......................................... 8,954.6 16.7% 6,907.0 15.3%
Southeast ....................................... 7,626.0 14.2% 6,283.3 14.0%
Southwest ....................................... 5,630.9 10.5% 4,848.3 10.7%
Canada .......................................... 2,968.2 5.5% 2,483.4 5.5%
--------- ----- --------- -----
Total North America ............................. 45,716.9 85.1% 37,580.7 83.2%
Other foreign ................................... 8,032.2 14.9% 7,580.2 16.8%
--------- ----- --------- -----
Total ........................................... $53,749.1 100.0% $45,160.9 100.0%
========= ===== ========= =====
Industry
Manufacturing(1)(7) ............................. $ 7,497.6 13.9% $ 6,932.0 15.4%
Retail(2) ....................................... 7,052.2 13.1% 5,859.4 13.0%
Consumer based lending -- home lending .......... 6,886.4 12.8% 5,069.8 11.2%
Commercial airlines (including regional airlines) 5,998.4 11.2% 5,512.4 12.2%
Consumer based lending -- student lending ....... 4,552.4 8.5% -- --
Service industries .............................. 2,999.2 5.6% 2,854.5 6.3%
Transportation(3) ............................... 2,664.8 5.0% 2,969.6 6.6%
Consumer based lending -- non-real estate(4) .... 2,120.0 3.9% 2,480.1 5.5%
Wholesaling ..................................... 1,877.3 3.5% 1,727.5 3.8%
Healthcare services ............................. 1,782.9 3.3% 992.5 2.2%
Construction equipment .......................... 1,437.1 2.7% 1,603.1 3.5%
Communications(5) ............................... 1,216.1 2.3% 1,292.1 2.9%
Other (no industry greater than 2.2%)(6)(7) ..... 7,664.7 14.2% 7,867.9 17.4%
--------- ----- --------- -----
Total ........................................... $53,749.1 100.0% $45,160.9 100.0%
========= ===== ========= =====
- --------------------------------------------------------------------------------
(1) Includes manufacturers of apparel (2.8%), followed by food and kindred
products, chemical and allied products, textiles, transportation
equipment, industrial machinery and equipment, and other industries.
(2) Includes retailers of apparel (5.7%) and general merchandise (4.1%).
(3) Includes rail (3.6%), followed by over-the-road trucking, shipping, bus
and business aircraft.
(4) Includes receivables from consumers in the Specialty Finance-commercial
segment for products in various industries such as computers and related
equipment and the remaining manufactured housing portfolio.
(5) Includes $297.9 million and $335.2 million of equipment financed for the
telecommunications industry at September 30, 2005 and December 31, 2004,
respectively, but excludes telecommunications equipment financed for other
industries.
(6) The largest concentration included in "Other" is the energy, power and
utilities sectors, which totaled $1.1 billion, or 2.1% of total financing
and leasing assets at September 30, 2005. This amount includes
approximately $696.2 million in project financing and $359.0 million in
rail cars on lease.
(7) Total exposure to manufacturers of automobiles and related suppliers
included in Manufacturing and Other was less than 1% of total financing
and leasing assets at September 30, 2005.
9
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
Note 5 -- Retained Interests in Securitizations and Other Investments
The following table details the components of retained interests in
securitizations and other investments ($ in millions):
September 30, December 31,
2005 2004
------------- ------------
Retained interests in commercial loans:
Retained subordinated securities ........................... $ 402.3 $ 446.2
Interest-only strips ....................................... 390.0 292.4
Cash reserve accounts ...................................... 291.0 323.4
----------- -----------
Total retained interests in commercial loans ............... 1,083.3 1,062.0
----------- -----------
Retained interests in consumer loans:(1)
Retained subordinated securities ........................... 56.3 76.6
Interest-only strips ....................................... 4.8 17.0
Cash reserve accounts ...................................... -- --
----------- -----------
Total retained interests in consumer loans ................. 61.1 93.6
----------- -----------
Total retained interests in securitizations ................... 1,144.4 1,155.6
Aerospace equipment trust certificates and other(2) ........... 36.5 72.6
----------- -----------
Total ...................................................... $ 1,180.9 $ 1,228.2
=========== ===========
- --------------------------------------------------------------------------------
(1) Comprised of amounts related to home lending receivables securitized.
(2) At December 31, 2004 other includes a $4.7 million investment in common
stock received as part of a loan work-out of an aerospace account.
Note 6 -- Stockholders' Equity
Treasury Stock
Pursuant to authorization by the Company's Board of Directors, on July 19,
2005, the Company entered into an agreement to purchase shares of the Company's
common stock for an aggregate purchase price of $500 million under an
accelerated stock buyback program.
On July 28, 2005, the Company paid $500 million and received an initial
delivery of 8,232,655 shares. On August 12, 2005, the Company received an
additional 1,830,812 shares under the program. CIT retains the right to receive
up to a maximum of 1,232,261 additional shares at the conclusion of the program
in the fourth quarter of 2005. The actual amount received will depend on CIT's
common stock price during the remaining term of the repurchase agreement.
Repurchased shares delivered to CIT are held in treasury.
Preferred Stock
On July 26, 2005, the Company issued $500 million aggregate amount of
Series A and Series B preferred equity securities. The proceeds from this
offering were used to fund the repurchase of our common stock in conjunction
with the accelerated stock buyback program. The key terms of the issuances are
as follows:
Series A Series B
- -----------------------------------------------------------------------------------------------------
Securities issued Stated value of $350 million, Stated value of $150 million,
comprised of 14 million shares comprised of 1.5 million
of 6.35% non-cumulative fixed shares of 5.189%
rate preferred stock, $0.01 non-cumulative adjustable rate
par value per share, with a preferred stock, $0.01 par
liquidation value of $25. value per share, with a
liquidation value of $100.
- -----------------------------------------------------------------------------------------------------
10
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
Series A Series B
- -----------------------------------------------------------------------------------------------------
Dividends Annual fixed-rate of 6.35%, Annual fixed-rate of 5.189%,
paid quarterly, when and if paid quarterly, when and if
declared by the Board of declared by the Board of
Directors. Dividends are Directors, through September
non-cumulative. 15, 2010, and thereafter at an
annual floating rate spread
over a pre-specified benchmark
rate. Dividends are
non-cumulative.
- -----------------------------------------------------------------------------------------------------
Redemption / maturity No stated maturity date. Not No stated maturity date. Not
redeemable prior to September redeemable prior to September
15, 2010. Redeemable 15, 2010. Redeemable
thereafter at $25 per share at thereafter at $100 per share
the option of CIT. at the option of CIT.
- -----------------------------------------------------------------------------------------------------
Voting rights No voting rights. No voting rights.
- -----------------------------------------------------------------------------------------------------
Accumulated Other Comprehensive Loss
The following table details the components of accumulated other
comprehensive (loss) / income, net of tax ($ in millions):
September 30, December 31,
2005 2004
------------- ------------
Changes in fair values of derivatives
qualifying as cash flow hedges .................. $ 15.5 $ (27.1)
Foreign currency translation adjustments .......... (84.5) (37.2)
Minimum pension liability adjustments ............. (2.3) (2.7)
Unrealized gain on equity and securitization
investments ..................................... 20.7 8.6
------- -------
Total accumulated other comprehensive loss ........ $ (50.6) $ (58.4)
======= =======
The changes in fair values of derivatives qualifying as cash flow hedges
related to variations in market interest rates during the quarter, as these
derivatives hedge the interest rate variability associated with an equivalent
amount of variable-rate debt, including commercial paper. See Note 7 for
additional information.
During the nine months ended September 30, 2005, $47.5 million in foreign
currency translation losses were reclassified to the foreign currency
translation component of equity from other assets and liabilities, representing
translation adjustments, net of hedging activity, relating to the company's
investments in foreign operations. This reclassification followed the completion
of enhancements in internal controls, including additional proof and control
procedures, with respect to foreign currency accounting.
Total comprehensive income was $190.4 million and $220.9 million for the
quarters ended September 30, 2005 and 2004 and $695.9 million and $610.3 million
for the nine months ended September 30, 2005 and 2004.
Note 7 -- Derivative Financial Instruments
As part of managing exposure to interest rate, foreign currency, and, in
limited instances, credit risk, CIT, as an end-user, enters into various
derivative transactions, all of which are transacted in over-the-counter markets
with other financial institutions. Derivatives are utilized to hedge exposures
and not for speculative purposes. To ensure both appropriate use as a hedge and
to achieve hedge accounting treatment, whenever possible, derivatives entered
into are designated according to a hedge objective against a specific liability,
forecasted transaction or, in limited instances, assets. The critical terms of
the derivatives, including notional amounts, rates, indices, and maturities,
match the related terms of the underlying hedged items.
CIT utilizes interest rate swaps, whereby a fixed rate of interest is paid
and a variable rate of interest is received by the Company. These swaps hedge
the cash flow variability associated with forecasted issuances of
11
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
commercial paper and specific variable-rate debt instruments. These interest
rate swaps are designated as cash flow hedges and changes in fair value of these
swaps, to the extent they are effective as a hedge, are recorded in other
comprehensive income. Amounts related to hedges to the extent ineffective are
recorded in interest expense.
CIT also utilizes interest rate swaps whereby a variable rate of interest
is paid and a fixed rate of interest is received by the Company. These swaps
primarily hedge specific fixed-rate debt instruments and are designated as fair
value hedges. Changes in fair value of these swaps are effectively recorded as
an adjustment to the carrying value of the hedged item, as the offsetting
changes in fair value of the swaps and the hedged items are recorded in
earnings. A limited number of these swaps hedge the cash flow variability
associated with specific variable rate assets and are classified as cash flow
hedges.
The components of the adjustment to Accumulated Other Comprehensive Loss
for derivatives qualifying as hedges of future cash flows are presented in the
following table ($ in millions):
Fair Value Total
Adjustments Income Tax Unrealized
of Derivatives Effects Gain (Loss)
-------------- ----------- -----------
Balance at December 31, 2004 -- unrealized loss .......... ($ 41.3) $ 14.2 ($27.1)
Changes in values of derivatives qualifying as cash
flow hedges ............................................ 69.8 (27.2) 42.6
------- ------- -------
Balance at September 30, 2005 -- unrealized gain ......... $ 28.5 ($ 13.0) $ 15.5
======= ======= =======
The unrealized gain as of and for the nine months ended September 30, 2005
reflects higher market interest rates since the inception of the hedges. The
Accumulated Other Comprehensive Loss (along with the corresponding swap asset or
liability) will be adjusted as market interest rates change over the remaining
life of the swaps. Assuming no change in interest rates, approximately $3.8
million, net of tax, of the Accumulated Other Comprehensive Loss as of September
30, 2005 is expected to be reclassified to earnings over the next twelve months
as contractual cash payments are made.
Hedge ineffectiveness occurs in certain cash flow hedges, and is recorded
as either an increase or decrease to interest expense as presented in the
following table ($ in millions):
Increase/Decrease to
Ineffectiveness Interest Expense
--------------- --------------------
Quarter ended September 30, 2005......... $0.1 Increase
Quarter ended September 30, 2004......... $0.2 Increase
Nine months ended September 30, 2005
(Restated) ............................ $0.5 Decrease
Nine months ended September 30, 2004..... $0.5 Decrease
The following table presents the notional principal amounts of interest
rate swaps by class and the corresponding hedged item ($ in millions):
September 30, December 31,
2005 2004
------------- ------------
Variable to fixed-rate swaps.... $ 6,684.9 $ 3,533.6 Hedge the cash flow variability
associated with forecasted
commercial paper issuances
and specific variable
rate debt (cash flow hedges).
Fixed to variable-rate swaps.... 7,962.9 7,642.6 Hedge specific fixed rate debt (fair
value hedges); and in limited instances,
hedge the cash flow variability
associated with specific variable rate
assets (cash flow hedges)
In addition to the swaps in the table above, in conjunction with
securitizations, at September 30, 2005, CIT has $1.9 billion in notional amount
of interest rate swaps outstanding with the related trusts to protect the trusts
against interest rate risk. CIT entered into offsetting swap transactions with
third parties totaling $1.9 billion in notional amount at September 30, 2005 to
insulate the related interest rate risk.
12
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
CIT also utilizes foreign currency exchange forward contracts and
cross-currency swaps to hedge currency risk underlying foreign currency loans to
subsidiaries and the net investments in foreign operations. These contracts are
designated as foreign currency cash flow hedges or net investment hedges and
changes in fair value of these contracts are recorded in accumulated other
comprehensive loss along with the translation gains and losses on the underlying
hedged items. CIT utilizes cross currency swaps to hedge specific foreign
currency denominated debt or loans to and net investments in foreign operations.
These swaps are designated as foreign currency cash flow hedges or foreign
currency fair value hedges and changes in fair value of these contracts are
recorded in accumulated other comprehensive loss (for cash flow hedges), or
effectively as a basis adjustment (including the impact of the offsetting
adjustment to the carrying value of the hedged item) to the hedged item (for
fair value hedges) along with the transaction gains and losses on the underlying
hedged items.
During 2005 and 2004, CIT entered into credit default swaps, with a
combined notional value of $118.0 million and terms of 5 years, to economically
hedge certain CIT credit exposures. These swaps do not meet the requirements for
hedge accounting treatment under SFAS 133 and therefore are recorded at fair
value, with both realized and unrealized gains or losses recorded in other
revenue in the consolidated statement of income. The change in the fair value
adjustment for the quarter and nine months ended September 30, 2005 amounted to
a $(0.2) million and $5.3 million pretax (loss)/gain. CIT also has certain
cross-currency swaps (with a combined notional principal amount of $1,634
million (Restated)) and certain U.S. dollar interest rate swaps (with notional
principal amount totaling $1,680 million) that are excluded from the preceding
tables. These instruments economically hedge exposures, but do not qualify for
hedge accounting. These derivatives are recorded at fair value, with both
realized and unrealized gains or losses recorded in other revenue in the
consolidated statement of income.
Note 8 -- Certain Relationships and Related Transactions
CIT is a partner with Dell Inc. ("Dell") in Dell Financial Services L.P.
("DFS"), a joint venture that offers financing to Dell's customers. The joint
venture provides Dell with financing and leasing capabilities that are
complementary to its product offerings and provides CIT with a source of new
financings. The joint venture agreement provides Dell with the option to
purchase CIT's 30% interest in DFS in February 2008 based on a formula tied to
DFS profitability, within a range of $100 million to $345 million. CIT has the
right to purchase a minimum percentage of DFS's finance receivables on a
declining scale through January 2010.
CIT regularly purchases finance receivables from DFS at a premium,
portions of which are typically securitized within 90 days of purchase from DFS.
CIT has limited recourse to DFS on defaulted contracts. In accordance with the
joint venture agreement, net income and losses generated by DFS as determined
under GAAP are allocated 70% to Dell and 30% to CIT. The DFS board of directors
voting representation is equally weighted between designees of CIT and Dell,
with one independent director. DFS is not consolidated in CIT's financial
statements and is accounted for under the equity method. At September 30, 2005
and December 31, 2004, financing and leasing assets related to the DFS program
included in the CIT Consolidated Balance Sheet (but excluding certain related
international receivables originated directly by CIT) were approximately $2.1
billion and $2.0 billion, and securitized assets included in managed assets were
approximately $2.5 billion at both period ends. CIT's equity investment in and
loans to the joint venture was approximately $204 million and $267 million at
September 30, 2005 and December 31, 2004.
CIT also has a joint venture arrangement with Snap-on Incorporated
("Snap-on") that has a similar business purpose and model to the DFS arrangement
described above, including limited credit recourse on defaulted receivables. The
agreement with Snap-on was recently extended until January 2009. CIT and Snap-on
have 50% ownership interests, 50% board of directors' representation, and share
income and losses equally. The Snap-on joint venture is accounted for under the
equity method and is not consolidated in CIT's financial statements. Financing
and leasing assets were approximately $1.1 billion and securitized assets
included in managed assets were $0.1 billion at both September 30, 2005 and
December 31, 2004. In addition to the owned and securitized assets purchased
from the Snap-on joint venture, CIT's equity investment in and loans to the
joint venture were approximately $10 million and $16 million at September 30,
2005 and December 31, 2004.
13
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
Since December 2000, CIT has been a joint venture partner with Canadian
Imperial Bank of Commerce ("CIBC") in an entity that is engaged in asset-based
lending in Canada. Both CIT and CIBC have a 50% ownership interest in the joint
venture, and share income and losses equally. This entity is not consolidated in
CIT's financial statements and is accounted for under the equity method. CIT's
investment in and loans to the joint venture were approximately $278 million and
$191 million at September 30, 2005 and December 31, 2004.
CIT invests in various trusts, partnerships, and limited liability
corporations established in conjunction with structured financing transactions
of equipment, power and infrastructure projects. CIT's interests in certain of
these entities were acquired by CIT in a 1999 acquisition, and others were
subsequently entered into in the normal course of business. Other assets
included approximately $17 million and $19 million of investments in
non-consolidated entities relating to such transactions that are accounted for
under the equity or cost methods at September 30, 2005 and December 31, 2004.
Certain shareholders of CIT provide investment management, banking and
investment banking services in the normal course of business.
Note 9 -- Postretirement and Other Benefit Plans
The following table discloses various components of pension expense ($ in
millions):
For the Quarters For the Nine Months
Ended September 30, Ended September 30,
-------------------- -------------------
2005 2004 2005 2004
---- ---- ---- ----
Retirement Plans
Service cost......................................... $ 4.9 $ 4.4 $14.7 $13.3
Interest cost........................................ 4.2 3.9 12.9 11.7
Expected return on plan assets....................... (4.8) (4.0) (14.4) (12.1)
Amortization of net (gain) loss...................... 0.7 0.7 2.1 2.1
----- ----- ----- -----
Net periodic benefit cost............................ 5.0 5.0 15.3 15.0
(Gain) Loss due to Settlements & Curtailments........ -- -- 0.5 --
Cost for Special Termination Benefits................ -- -- 2.3 --
----- ----- ----- -----
Net amount recognized................................ $ 5.0 $ 5.0 $18.1 $15.0
===== ===== ===== =====
Postretirement Plans
Service cost......................................... $ 0.6 $ 0.5 $ 1.7 $ 1.4
Interest cost........................................ 0.8 0.8 2.4 2.5
Amortization of net (gain) loss...................... 0.2 -- 0.7 0.5
----- ----- ----- -----
Net periodic benefit cost............................ $ 1.6 $ 1.3 $ 4.8 $ 4.4
===== ===== ===== =====
CIT previously disclosed in the notes to consolidated financial statements
for the year ended December 31, 2004, that it expected to contribute $4.0
million to its pension plans in 2005. CIT contributed $7.7 million to the
pension plans for the nine months ended September 30, 2005, and currently
expects to fund approximately an additional $15 million during the last quarter
of 2005.
14
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
Note 10 -- Commitments and Contingencies
Financing and leasing asset commitments, referred to as loan commitments
or lines of credit, are agreements to lend to customers subject to the
customers' compliance with contractual obligations. The accompanying table
summarizes these and other credit-related commitments, as well as purchase and
funding commitments ($ in millions):
September 30, 2005
--------------------------------------
Due to Expire December 31,
---------------------- 2004
Within After Total Total
One Year One Year Outstanding Outstanding
-------- -------- ----------- -----------
Financing Commitments
Financing and leasing assets............................ $1,674.0 $7,849.1 $9,523.1 $8,428.3
Letters of credit and acceptances:
Standby letters of credit............................. 406.5 106.5 513.0 618.3
Other letters of credit............................... 503.8 0.2 504.0 588.3
Acceptances........................................... 24.7 -- 24.7 16.4
Guarantees.............................................. 200.9 12.1 213.0 133.1
Purchase and Funding Commitments
Aerospace purchase commitments.......................... 716.0 2,375.0 3,091.0 2,168.0
Other equipment purchase commitments.................... 372.8 -- 372.8 397.0
Sale-leaseback payments................................. 31.0 433.7 464.7 495.4
Venture capital fund investment commitments............. -- -- -- 79.8
In addition to the amounts shown in the table above, unused, cancelable
lines of credit to consumers in connection with a third-party vendor program,
which may be used to finance additional technology product purchases, amounted
to approximately $15.6 billion and $9.8 billion at September 30, 2005 and
December 31, 2004. These uncommitted vendor-related lines of credit can be
reduced or canceled by CIT at any time without notice. Our experience indicates
that customers typically will not exercise their entire available line of credit
at any point in time.
In the normal course of meeting the needs of its customers, CIT also
enters into commitments to provide financing, letters of credit and guarantees.
Standby letters of credit obligate CIT to pay the beneficiary of the letter of
credit in the event that a CIT client to whom the letter of credit was issued
does not meet its related obligation to the beneficiary. These financial
instruments generate fees and involve, to varying degrees, elements of credit
risk in excess of the amounts recognized in the consolidated balance sheets. To
minimize potential credit risk, CIT generally requires collateral and other
forms of credit support from the customer.
Guarantees are issued primarily in conjunction with CIT's factoring
product, whereby CIT provides the client with credit protection for its trade
receivables without actually purchasing the receivables. The trade terms are
generally sixty days or less. If the customer is unable to pay according to the
contractual terms, then CIT purchases the receivables from the client. As of
September 30, 2005, there were no outstanding liabilities relating to these
credit-related commitments or guarantees, as amounts are generally billed and
collected on a monthly basis.
CIT's firm purchase commitments relate predominantly to purchases of
commercial aircraft and rail equipment. The commitments to purchase commercial
aircraft are with both Airbus Industrie and The Boeing Company. These purchase
commitments are fixed price, but are subject to customary price increases for
future changes in inflation and manufacturing components. The aerospace
equipment purchases are contracted for a specific model aircraft using a
baseline aircraft specification at fixed prices, which reflect discounts from
fair market purchase prices prevailing at the time of commitment. The delivery
price of an aircraft may also change depending on the final specifications of
the aircraft, including engine thrust, aircraft weight and seating
configuration. Equipment purchases are recorded at delivery date at the final
purchase price paid, which includes purchase price discounts, price changes
relating to specification changes and price increases relating to inflation and
manufacturing components. Accordingly, the commitment amounts detailed in the
preceding table are based
15
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
on estimated values. Pursuant to existing contractual commitments, 62 aircraft
remain to be purchased (17 within the next twelve months). Lease commitments are
in place for fourteen of the remaining aircraft to be delivered over the next
twelve months. The order amount excludes CIT's options to purchase additional
aircraft. CIT entered into a purchase commitment with Airbus Industrie for an
additional 29 aircraft to be delivered between 2007 and 2013 during the quarter
ended September 30, 2005, which are included in the preceding table.
Outstanding commitments to purchase equipment to be leased to customers,
other than aircraft, relates primarily to rail equipment. Rail equipment
purchase commitments are at fixed prices subject to price increases for
inflation and manufacturing components. The time period between commitment and
purchase for rail equipment is generally less than 18 months. Additionally, CIT
is party to railcar sale-leaseback transactions under which it is obligated to
pay a remaining total of $464.7 million, or approximately $31 million per year
through 2010 and declining thereafter through 2024, which is more than offset by
CIT's re-lease of the assets, provided CIT can maintain railcar usage. In
conjunction with this sale-leaseback transaction, CIT has guaranteed all
obligations of the related consolidated lessee entity.
CIT has guaranteed the public and private debt securities of a number of
its wholly-owned, consolidated subsidiaries, including those disclosed in Note
14 -- Summarized Financial Information of Subsidiaries. In the normal course of
business, various consolidated CIT subsidiaries have entered into other credit
agreements and certain derivative transactions with financial institutions that
are guaranteed by CIT. These transactions are generally used by CIT's
subsidiaries outside of the U.S. to allow the local subsidiary to borrow funds
in local currencies.
Note 11 -- Legal Proceedings
On September 9, 2004, Exquisite Caterers Inc., et al. v. Popular Leasing
Inc., et al. ("Exquisite Caterers"), a putative national class action, was filed
in the Superior Court of New Jersey against 13 financial institutions, including
CIT, which had acquired equipment leases ("NorVergence Leases") from
NorVergence, Inc., a reseller of telecommunications and Internet services to
businesses. The complaint alleged that NorVergence misrepresented the
capabilities of, and overcharged for, the equipment leased to its customers and
that the NorVergence Leases are unenforceable. Plaintiffs seek rescission,
punitive damages, treble damages and attorneys' fees. In addition, putative
class action suits in Illinois and Texas, all based upon the same core
allegations and seeking the same relief, were filed by NorVergence customers
against CIT and other financial institutions and remain pending. The Court in
Exquisite Caterers certified a New Jersey-only class, and a motion for
decertification is pending.
On July 14, 2004, the U.S. Bankruptcy Court ordered the liquidation of
NorVergence under Chapter 7 of the Bankruptcy Code. Thereafter, the Attorneys
General of several states commenced investigations of NorVergence and the
financial institutions, including CIT, that purchased NorVergence Leases. CIT
has entered into settlement agreements with the Attorneys General in each of
these states, except for Texas. Under those settlements, lessees have had an
opportunity to resolve all claims by and against CIT by paying a percentage of
the remaining balance on their leases. CIT has also produced documents related
to NorVergence at the request of the Federal Trade Commission ("FTC") and
pursuant to a subpoena in a grand jury proceeding being conducted by the U.S.
Attorney for the Southern District of New York in connection with an
investigation of transactions related to NorVergence.
In addition, there are various proceedings that have been brought against
CIT in the ordinary course of business. While the outcomes of the NorVergence
related litigation and the ordinary course legal proceedings, and the related
activities, are not certain, based on present assessments, management does not
believe that they will have a material adverse effect on the financial condition
of CIT.
16
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
Note 12 -- Severance and Facility Restructuring Reserves
The following table summarizes previously established purchase accounting
liabilities (pre-tax) related to severance of employees and closing of
facilities, as well as restructuring activities during 2005 ($ in millions):
Severance Facilities
--------------------- --------------------
Number of Number of Total
Employees Reserve Facilities Reserve Reserves
--------- ------- ---------- ------- --------
Balance at December 31, 2004................ 129 $12.2 15 $ 5.7 $17.9
2005 additions, foreign currency
translation and other 191 21.3 -- 2.2 23.5
2005 utilization............................ (279) (22.5) (5) (2.3) (24.8)
---- ----- -- ---- -----
Balance at September 30, 2005............... 41 $11.0 10 $5.6 $16.6
==== ===== == ==== =====
The beginning severance reserves relate primarily to the 2004 acquisition
of a Western European vendor finance and leasing business, and include amounts
payable within the year after the acquisition to individuals who chose to
receive payments on a periodic basis. Severance and facilities restructuring
liabilities were established under purchase accounting in conjunction with fair
value adjustments to acquired assets and liabilities. The additions during 2005
are largely employee termination benefits related to the realignment of the
Commercial Finance Group business segments and other business streamlining
activities ($20.3 million, which was recorded in the quarter ended June 30, 2005
as a component of the $25.2 million restructuring charge within Corporate and
Other). The 2005 addition also included facility exit plan refinements relating
to the acquired Western European vendor finance and leasing business, which were
recorded as fair value adjustments to purchased liabilities / adjustments to
goodwill. The employee termination benefits were largely paid during the quarter
ended September 30, 2005. The facility reserves relate primarily to shortfalls
in sublease transactions and will be utilized over the remaining lease terms,
generally 6 years.
Note 13 -- Goodwill and Intangible Assets, Net
Goodwill and intangible assets totaled $1,003.8 million at September 30,
2005, which consisted of $780.9 million of goodwill, and $222.9 million of
intangible assets by segment ($ in millions):
Specialty Specialty
Finance -- Finance -- Commercial Corporate
commercial consumer Services Finance Total
---------- -------- -------- ------- -----
Goodwill
Balance at December 31, 2004 ................. $ 62.3 $ -- $ 261.6 $ 108.8 $ 432.7
Additions, foreign currency translation, other (8.1) 257.2 (0.1) 99.2 348.2
------- -------- -------- -------- --------
Balance at September 30, 2005 ................ $ 54.2 $ 257.2 $ 261.5 $ 208.0 $ 780.9
======= ======== ======== ======== ========
Intangible Assets
Balance at December 31, 2004 ................. $ 68.0 $ -- $ 95.8 $ -- $ 163.8
Additions, foreign currency translation, other (12.3) 29.4 30.3 27.4 74.8
Amortization ................................. (7.3) (0.4) (7.8) (0.2) (15.7)
------- -------- -------- -------- --------
Balance at September 30, 2005 ................ $ 48.4 $ 29.0 $ 118.3 $ 27.2 $ 222.9
======= ======== ======== ======== ========
In accordance with SFAS No. 142, "Goodwill and Other Intangible Assets"
("SFAS 142"), goodwill is no longer amortized but instead is assessed
periodically for impairment. The Company periodically reviews and evaluates its
goodwill and intangible assets for potential impairment at a minimum annually,
or more frequently if circumstances indicate that impairment is possible. The
most recent goodwill and intangible asset impairment analyses indicated that the
fair values of each were in excess of the carrying values.
Other intangible assets, net, are comprised primarily of acquired customer
relationships (Specialty Finance and Commercial Services), as well as
proprietary computer software and related transaction processes (Commercial
Services). The increase was primarily related to acquisitions: a student lending
acquisition in Specialty Finance - consumer, a healthcare acquisition in
Corporate Finance and a factoring acquisition in Commercial Services. Other
intangible assets are being amortized over their corresponding lives ranging
from five
17
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
to twenty years in relation to the related cash flows, where applicable.
Amortization expense totaled $5.5 million and $15.7 million for the quarter and
nine months ended September 30, 2005 versus $3.3 million and $7.8 million for
the respective prior year periods. Accumulated amortization totaled $39.4
million and $23.7 million at September 30, 2005 and December 31, 2004. The
projected amortization for the years ended December 31, 2005 through December
31, 2009 is: $21.5 million for 2005; $21.6 million for 2006; $18.5 million for
2007; $18.8 million for 2008 and $19.2 million for 2009.
The increase in goodwill during the period was primarily due to the
student lending acquisition in Specialty Finance - consumer and a healthcare
acquisition in Corporate Finance, both detailed below.
Healthcare Acquisition
In July 2005, CIT acquired, for cash, Healthcare Business Credit
Corporation ("HBCC"), a full service health care financing company that
specializes in asset-based and cash flow financing to U.S. healthcare providers.
The HBCC acquisition was accounted for under the purchase method, with the
acquired assets and liabilities recorded at their estimated fair values as of
the acquisition date. The assets acquired included approximately $500 million of
finance receivables and $127 million of goodwill and intangible assets.
Education Lending Acquisition
In February 2005, CIT acquired Education Lending Group, Inc. ("EDLG"), a
specialty finance company principally engaged in providing education loans
(primarily U.S. government guaranteed), products and services to students,
parents, schools and alumni associations. The shareholders of EDLG received
$19.05 per share or approximately $383 million in cash. The acquisition was
accounted for under the purchase method, with the acquired assets and
liabilities recorded at their estimated fair values as of the February 17, 2005
acquisition date. The assets acquired included approximately $4.4 billion of
finance receivables and $287 million of goodwill and intangible assets. This
business is largely funded with "Education Loan Backed Notes," which are
accounted for under SFAS No. 140 "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities." The assets related to
these borrowings are owned by a special purpose entity that is consolidated in
the CIT financial statements, and the creditors of that special purpose entity
have received ownership and / or security interests in the assets. As EDLG
retains certain call features with respect to these borrowings, the transactions
do not meet the SFAS 140 requirements for sales treatment and are therefore
recorded as secured borrowings and are reflected in the Consolidated Balance
Sheet as "Education lending receivables pledged" and "Non-recourse, secured
borrowings -- education lending." Certain cash balances, included in cash and
cash equivalents, are restricted in conjunction with these borrowings.
During 2005, segment reporting was modified in conjunction with various
business realignments. The December 31, 2004 balances have been conformed to the
current presentation. See Note 3 -- Business Segment Information for additional
information.
18
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
Note 14 -- Summarized Financial Information of Subsidiaries
The following presents condensed consolidating financial information for
CIT Holdings LLC. CIT has guaranteed on a full and unconditional basis the
existing debt securities that were registered under the Securities Act of 1933
and certain other indebtedness of this subsidiary. CIT has not presented related
financial statements or other information for this subsidiary on a stand-alone
basis. The remaining debt associated with Capita Corporation (formerly AT&T
Capital Corporation), a subsidiary previously disclosed, matured in 2005 and
prior period amounts associated with this subsidiary are included in the "Other
Subsidiaries" column in the tables below. Also included under "Other
Subsidiaries" is a 100%-owned finance subsidiary of CIT Group Inc., Canadian
Funding Company LLC, for which CIT has fully and unconditionally guaranteed the
debt securities. ($ in millions):
CIT
CONSOLIDATING CIT Holdings Other
BALANCE SHEETS Group Inc. LLC Subsidiaries Eliminations Total
-------------- ---------- -------- ------------ ------------ -----
September 30, 2005 (Restated)
ASSETS
Net finance receivables .............................. $ 1,013.3 $ 2,161.9 $ 38,857.2 $ -- $ 42,032.4
Operating lease equipment, net ....................... -- 194.9 8,989.5 -- 9,184.4
Finance receivables held for sale .................... -- 64.5 1,783.9 -- 1,848.4
Cash and cash equivalents ............................ 711.7 144.1 1,079.6 -- 1,935.4
Other assets ......................................... 10,000.1 307.2 1,454.1 (6,611.8) 5,149.6
----------- ---------- ----------- ---------- -----------
Total Assets ....................................... $ 11,725.1 $ 2,872.6 $ 52,164.3 $ (6,611.8) $ 60,150.2
=========== ========== =========== ========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Debt ................................................. $ 37,621.4 $ 4,254.1 $ 3,023.8 $ -- $ 44,899.3
Credit balances of factoring clients ................. -- -- 4,267.1 -- 4,267.1
Accrued liabilities and payables ..................... (32,508.1) (1,789.4) 38,619.7 -- 4,322.2
----------- ---------- ----------- ---------- -----------
Total Liabilities .................................. 5,113.3 2,464.7 45,910.6 -- 53,488.6
Minority interest .................................... -- -- 49.8 -- 49.8
Total Stockholders' Equity ........................... 6,611.8 407.9 6,203.9 (6,611.8) 6,611.8
----------- ---------- ----------- ---------- -----------
Total Liabilities and
Stockholders' Equity ............................... $ 11,725.1 $ 2,872.6 $ 52,164.3 $ (6,611.8) $ 60,150.2
=========== ========== =========== ========== ===========
December 31, 2004
ASSETS
Net finance receivables .............................. $ 1,121.1 $ 1,682.7 $ 31,627.2 $ -- $ 34,431.0
Operating lease equipment, net ....................... -- 130.8 8,160.1 -- 8,290.9
Finance receivables held for sale .................... -- 72.0 1,568.8 -- 1,640.8
Cash and cash equivalents ............................ 1,311.4 127.5 771.3 -- 2,210.2
Other assets ......................................... 9,536.8 316.2 740.5 (6,055.1) 4,538.4
----------- ---------- ----------- ---------- -----------
Total Assets ....................................... $ 11,969.3 $ 2,329.2 $ 42,867.9 $ (6,055.1) $ 51,111.3
=========== ========== =========== ========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Debt ................................................. $ 34,699.1 $ 1,383.8 $ 1,641.9 $ -- $ 37,724.8
Credit balances of factoring clients ................. -- -- 3,847.3 -- 3,847.3
Accrued liabilities and payables (including
inter-company payables and receivables) ............ (28,784.9) (591.3) 32,819.9 -- 3,443.7
----------- ---------- ----------- ---------- -----------
Total Liabilities .................................. 5,914.2 792.5 38,309.1 -- 45,015.8
Minority interest .................................... -- -- 40.4 -- 40.4
Total Stockholders' Equity ........................... 6,055.1 1,536.7 4,518.4 (6,055.1) 6,055.1
----------- ---------- ----------- ---------- -----------
Total Liabilities and
Stockholders' Equity ............................... $ 11,969.3 $ 2,329.2 $ 42,867.9 $ (6,055.1) $ 51,111.3
=========== ========== =========== ========== ===========
19
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
CIT
CONSOLIDATING CIT Holdings Other
STATEMENTS OF INCOME Group Inc. LLC Subsidiaries Eliminations Total
-------------------- ---------- -------- ------------ ------------ -----
Nine Months Ended September 30, 2005 (Restated)
Finance income ......................................... $ 30.8 $ 174.4 $ 3,077.2 $ -- $ 3,282.4
Interest expense ....................................... (23.9) 57.4 1,321.2 -- 1,354.7
--------- -------- --------- -------- ---------
Net finance income ..................................... 54.7 117.0 1,756.0 -- 1,927.7
Depreciation on operating lease equipment .............. -- 34.3 687.1 -- 721.4
--------- -------- --------- -------- ---------
Net finance margin ..................................... 54.7 82.7 1,068.9 -- 1,206.3
Provision for credit losses ............................ 22.8 8.5 131.1 -- 162.4
--------- -------- --------- -------- ---------
Net finance margin, after provision for credit losses .. 31.9 74.2 937.8 -- 1,043.9
Equity in net income of subsidiaries ................... 721.9 -- -- (721.9) --
Other revenue .......................................... 63.1 85.4 700.1 -- 848.6
--------- -------- --------- -------- ---------
Operating margin ....................................... 816.9 159.6 1,637.9 (721.9) 1,892.5
Operating expenses ..................................... 130.6 65.8 617.5 -- 813.9
Provision for restructuring ............................ -- -- 25.2 -- 25.2
--------- -------- --------- -------- ---------
Income (loss) before provision for income taxes ........ 686.3 93.8 995.2 (721.9) 1,053.4
Benefit (provision) for income taxes ................... 7.0 (34.5) (329.8) -- (357.3)
Minority interest, after tax ........................... -- -- (2.8) -- (2.8)
Preferred stock dividends .............................. (5.2) -- -- -- (5.2)
--------- -------- --------- -------- ---------
Net income available to common stockholders ............ $ 688.1 $ 59.3 $ 662.6 $ (721.9) $ 688.1
========= ======== ========= ======== =========
Nine Months Ended September 30, 2004
Finance income ......................................... $ 24.5 $ 143.8 $ 2,594.5 $ -- $ 2,762.8
Interest expense ....................................... (62.5) 10.9 965.0 -- 913.4
--------- -------- --------- -------- ---------
Net finance income ..................................... 87.0 132.9 1,629.5 -- 1,849.4
Depreciation on operating lease equipment .............. -- 32.5 689.4 -- 721.9
--------- -------- --------- -------- ---------
Net finance margin ..................................... 87.0 100.4 940.1 -- 1,127.5
Provision for credit losses ............................ 13.9 8.5 189.1 -- 211.5
--------- -------- --------- -------- ---------
Net finance margin, after provision for credit losses .. 73.1 91.9 751.0 -- 916.0
Equity in net income of subsidiaries ................... 533.5 -- -- (533.5) --
Other revenue .......................................... (3.0) 70.3 617.0 -- 684.3
--------- -------- --------- -------- ---------
Operating margin ....................................... 603.6 162.2 1,368.0 (533.5) 1,600.3
Operating expenses ..................................... 94.5 69.7 576.3 -- 740.5
Gain on redemption of debt ............................. 41.8 -- -- 41.8
--------- -------- --------- -------- ---------
Income (loss) before provision for income taxes ........ 550.9 92.5 791.7 (533.5) 901.6
Provision benefit for income taxes ..................... (1.1) (36.1) (314.4) -- (351.6)
Minority interest, after tax ........................... -- -- (0.2) -- (0.2)
--------- -------- --------- -------- ---------
Net income available to common stockholders ............ $ 549.8 $ 56.4 $ 477.1 $ (533.5) $ 549.8
========= ======== ========= ======== =========
20
CIT GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Unaudited) (Continued)
CIT
CONSOLIDATING CIT Holdings Other
STATEMENTS OF CASH FLOWS Group Inc. LLC Subsidiaries Eliminations Total
------------------------ ---------- -------- ------------ ------------ -----
Nine Months Ended September 30, 2005 (Restated)
Cash Flows From Operating Activities:
Net cash flows provided by (used for) operations ....... $ 3,513.5 $ 209.6 $ (1,530.7) $ -- $ 2,192.4
--------- --------- ----------- ---------- -----------
Cash Flows From Investing Activities:
Net increase (decrease) in financing and leasing
assets ............................................... 84.8 (555.7) (4,030.6) -- (4,501.5)
Decrease in inter-company loans and investments ........ (6,994.3) -- -- 6,994.3 --
Other .................................................. -- -- 137.0 -- 137.0
--------- --------- ----------- ---------- -----------
Net cash flows (used for) provided by
investing activities ................................. (6,909.5) (555.7) (3,893.6) 6,994.3 (4,364.5)
--------- --------- ----------- ---------- -----------
Cash Flows From Financing Activities:
Net increase (decrease) in debt ........................ 2,922.3 2,870.3 (2,973.9) -- 2,818.7
Net loans extended -- pledged in conjunction
with secured borrowings .............................. -- -- (782.2) -- (782.2)
Inter-company financing ................................ -- (2,507.6) 9,501.9 (6,994.3) --
Cash dividends paid .................................... (94.7) -- -- -- (94.7)
Other .................................................. (31.3) -- (13.2) -- (44.5)
--------- --------- ----------- ---------- -----------
Net cash flows provided by (used for)
financing activities ................................. 2,796.3 362.7 5,732.6 (6,994.3) 1,897.3
--------- --------- ----------- ---------- -----------
Net (decrease) increase in cash and cash equivalents ... (599.7) 16.6 308.3 -- (274.8)
Cash and cash equivalents, beginning of period ......... 1,311.4 127.5 771.3 -- 2,210.2
--------- --------- ----------- ---------- -----------
Cash and cash equivalents, end of period ............... $ 711.7 $ 144.1 $ 1,079.6 $ -- $ 1,935.4
========= ========= =========== ========== ===========
Nine Months Ended September 30, 2004
Cash Flows From Operating Activities:
Net cash flows provided by (used for) operations ....... $ (177.8) $ (91.9) $ 865.8 $ -- $ 596.1
--------- --------- ----------- ---------- -----------
Cash Flows From Investing Activities:
Net increase (decrease) in financing and leasing assets 490.9 (147.0) (4,461.2) -- (4,117.3)
Decrease in inter-company loans and investments ........ (4,359.0) -- -- 4,359.0 --
Other .................................................. -- -- 69.2 -- 69.2
--------- --------- ----------- ---------- -----------
Net cash flows (used for) provided by
investing activities ................................. (3,868.1) (147.0) (4,392.0) 4,359.0 (4,048.1)
--------- --------- ----------- ---------- -----------
Cash Flows From Financing Activities:
Net increase (decrease) in debt ........................ 4,114.9 (43.6) (265.4) -- 3,805.9
Inter-company financing ................................ -- 307.6 4,051.4 (4,359.0) --
Cash dividends paid .................................... (83.6) -- -- -- (83.6)
Other .................................................. -- -- (83.9) -- (83.9)
--------- --------- ----------- ---------- -----------
Net cash flows provided by (used for)
financing activities ................................. 4,031.3 264.0 3,702.1 (4,359.0) 3,638.4
--------- --------- ----------- ---------- -----------
Net (decrease) increase in cash and cash equivalents ... (14.6) 25.1 175.9 -- 186.4
Cash and cash equivalents, beginning of period ......... 1,479.9 227.5 266.3 -- 1,973.7
--------- --------- ----------- ---------- -----------
Cash and cash equivalents, end of period ............... $ 1,465.3 $ 252.6 $ 442.2 $ -- $ 2,160.1
========= ========= =========== ========== ===========
21
Note 15 -- Restatement Relating to Derivative Hedge Accounting
During the fourth quarter of 2005, we learned of an interpretation with
respect to applying the "matched terms" approach in hedge accounting under
Statement of Financial Accounting Standards No. 133, Accounting for Derivative
Instruments and Hedging Activities, as amended ("SFAS 133"). We reviewed our
accounting for certain cross-currency interest rate swaps ("compound swaps" or
"compound derivatives") under SFAS 133.
We determined that certain compound swaps were not appropriately accounted
for, even though these compound swaps were highly effective economic hedges of
the interest rate and currency exchange risks associated with foreign
denominated debt. We documented these swaps originally as "matched terms"
hedges, which assumes no hedge ineffectiveness. The swaps would have qualified
for "long-haul" hedge accounting with ineffectiveness reflected in current
earnings. However, the swaps did not qualify for hedge accounting treatment from
their inception, as SFAS 133 does not allow for subsequent documentation
modifications.
The elimination of hedge accounting from inception of the compound swaps
resulted in a $14.3 million decrease and $65.8 million increase in pre-tax
income for the three and nine months ended September 30, 2005, to reflect the
elimination of adjustments to the basis of the corresponding debt under SFAS 133
fair value hedge accounting for changes in interest rates during the period.
This amount includes a year to date increase in other revenue for 2004 and prior
derivative hedge accounting adjustments that management determined to be
immaterial to the 2004 annual and interim financial statements. This increase to
revenues for the nine-month period will reduce future earnings by an equal
amount through 2015. We are also including other previously identified,
immaterial, in-period financial statement changes for various revenue and
expense accruals in conjunction with this restatement with respect to year to
date results.
The primary impacts of this restatement of non-cash items on our financial
statements are as follows ($ in millions, per share amounts in dollars):
Quarter Year to Date
------------------------------------- ----------------------------------
At or for the Quarter and Nine Previously Previously
Months Ended September 30, 2005 Reported Restated Change Reported Restated Change
- ------------------------------- ----------- -------- ------ ----------- -------- ------
Income Statement
Finance income ..................... $ 1,153.7 $1,153.7 $ -- $ 3,282.4 $3,282.4 $ --
Interest expense ................... 495.4 495.4 -- 1,356.3 1,354.7 (1.6)
Other revenue ...................... 253.8 239.5 (14.3) 784.2 848.6 64.4
Salaries and general operating
expenses .......................... 281.1 281.1 -- 813.9 813.9 --
Provision for income taxes ......... 93.0 86.8 (6.2) 328.8 357.3 28.5
Net income ......................... 219.5 211.4 (8.1) 650.6 688.1 37.5
Basic earnings per common share .... 1.08 1.04 (0.04) 3.13 3.31 0.18
Diluted earnings per common share .. 1.06 1.02 (0.04) 3.06 3.24 0.18
Balance Sheet
Finance receivables and education
lending receivables............... 42,686.6 42,685.2 (1.4)
Total debt ......................... 44,966.7 44,899.3 (67.4)
Accrued liabilities and payables ... 4,293.7 4,322.2 28.5
Total stockholders' equity ......... 6,574.3 6,611.8 37.5
The effect of the restatement on our statement of financial position at
the end of the reported periods is immaterial and the restatement has no effect
on our cash flows.
22
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
and
Item 3. Quantitative and Qualitative Disclosure about Market Risk
Certain data within this section has been "Restated" as detailed in Note
15 -- Restatement Relating to Derivative Hedge Accounting to the financial
statements.
CIT Group Inc., a Delaware corporation, is a global commercial and
consumer finance company that was founded in 1908. CIT provides financing and
leasing capital for consumers and companies in a wide variety of industries, as
well as offering management advisory services.
The Company's Annual Report on Form 10-K for the year ended December 31,
2004 contains a glossary of key terms and an overview of profitability drivers
and related metrics for our business.
This "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and "Quantitative and Qualitative Disclosure about Market
Risk" contain certain non-GAAP financial measures. See "Non-GAAP Financial
Measurements" for additional information.
Profitability
Profitability measurements for the respective periods are presented in the
table below:
Quarters Ended Nine Months Ended
September 30, September 30,
------------------------- -------------------------
2005 2004 2005 2004
------- ------- ------- -------
(Restated) (Restated)
Net income ($ in millions) ................................. $ 211.4 $ 183.9 $ 688.1 $ 549.8
Net income per diluted share ............................... $ 1.02 $ 0.86 $ 3.24 $ 2.56
Net income as a percentage of AEA .......................... 1.73% 1.88% 1.95% 1.92%
Return on average tangible common equity ................... 16.4% 14.1% 17.1% 14.3%
Return on average common equity ............................ 13.8% 12.8% 14.8% 13.0%
- --------------------------------------------------------------------------------
Net income for the quarter ended September 30, 2005 includes the following
items:
o A pre-tax gain of $115.0 million on the sale of a real estate
investment ($0.34 diluted EPS increase);
o Pre-tax charges of $86.6 million on certain aircraft held for sale
and $20.0 million on certain manufactured housing assets held for
sale (total $0.31 diluted EPS decrease);
o Total pre-tax hurricane provisions of $41.3 million, including
credit losses of $34.6 million and a $6.8 million impairment on
securitization retained interests due to Hurricanes Katrina and Rita
($0.13 diluted EPS decrease); and
o A $17.6 million tax liability reversal corresponding to the
conclusion of a tax return filing matter in our international
operations for which reserves were previously taken ($0.08 diluted
EPS increase).
o A $14.3 million pre-tax mark-to-market loss for the quarter (pre-tax
year to date gain of $65.8 million) relating to derivatives that do
not qualify for hedge accounting treatment ($0.05 diluted EPS
decrease for the quarter, $0.19 increase year to date).
In addition to the items above, year to date 2005 net income includes:
o A pre-tax $25.2 million restructuring charge corresponding to the
termination benefits of approximately 200 employees in conjunction
with the realignment of Commercial Finance and other business
streamlining activities (detailed further in Note 12 -- Severance
and Facility Restructuring Reserves) and
o A pre-tax $22.0 million gain on the sale of a significant portion of
the business aircraft portfolio.
Prior year to date net income included a pre-tax $41.8 million gain on
early debt redemption specified above. Excluding all the noteworthy transactions
specified above, the improved 2005 results reflected lower charge-offs, strong
non-spread revenues and a lower effective tax rate.
23
Results by Business Segment
The tables that follow summarize selected financial information by
business segment. See Note 3 -- Business Segment Information for details on 2005
realignment initiatives and measuring segment performance using risk-adjusted
capital. The 2004 results have been conformed to the current presentation
reflecting the revised 2005 capital allocation methodology and certain asset
transfers, as described in Note 3 ($ in millions):
Quarters Ended September 30,
----------------------------------------------------------------------------
2005 2004
----------------------------------- -----------------------------------
Return Return on Return Return on
Net on Risk-Adjusted Net on Risk-Adjusted
Income AEA Capital Income AEA Capital
------ ------ ------------- ------ ------- -------------
(Restated) (Restated) (Restated)
Specialty Finance - commercial .................. $ 74.5 2.71% 22.7% $ 69.5 2.62% 22.4%
Specialty Finance - consumer .................... 16.8 0.59% 8.9% 12.2 1.24% 16.3%
------ ------
Total Specialty Finance ...................... 91.3 1.63% 17.3% 81.7 2.25% 21.2%
------ ------
Commercial Services ............................. 48.4 6.50% 27.2% 42.6 6.25% 27.3%
Corporate Finance ............................... 46.2 2.14% 19.3% 32.7 1.99% 19.9%
Equipment Finance ............................... 22.1 1.88% 12.4% 20.1 1.17% 7.9%
Capital Finance ................................. 5.8 0.23% 1.7% 27.9 1.35% 13.4%
------ ------
Total Commercial Finance ..................... 122.5 1.86% 13.0% 123.3 2.02% 15.9%
------ ------
Corporate, including certain charges ............ (2.4) (0.02)% -- (21.1) (0.23)% --
------ ------
Net income and return on tangible
common stockholders' equity .................. $211.4 1.73% 16.4% $183.9 1.88% 14.1%
====== ======
Nine Months Ended September 30,
----------------------------------------------------------------------------
2005 2004
----------------------------------- -----------------------------------
Return Return on Return Return on
Net on Risk-Adjusted Net on Risk-Adjusted
Income AEA Capital Income AEA Capital
------ ------ ------------- ------ ------- -------------
(Restated) (Restated) (Restated)
Specialty Finance - commercial .................. $227.9 2.74% 23.2% $204.0 2.68% 21.5%
Specialty Finance - consumer .................... 49.2 0.67% 9.7% 33.9 1.30% 15.6%
------ ------
Total Specialty Finance ...................... 277.1 1.76% 18.2% 237.9 2.33% 20.3%
------ ------
Commercial Services ............................. 128.3 6.32% 25.8% 118.9 5.93% 25.8%
Corporate Finance ............................... 131.3 2.17% 20.0% 110.9 2.26% 22.1%
Equipment Finance ............................... 77.6 1.84% 12.5% 55.5 1.07% 7.2%
Capital Finance ................................. 71.3 0.99% 7.4% 63.6 1.04% 10.3%
------ ------
Total Commercial Finance ..................... 408.5 2.09% 14.9% 348.9 1.92% 15.0%
------ ------
Corporate, including certain charges ............ 2.5 -- -- (37.0) (0.14)% --
------ ------
Net income and return on tangible
common stockholders' equity .................. $688.1 1.95% 17.1% $549.8 1.92% 14.3%
====== ======
Capital is allocated to the segments by applying different leverage ratios
to each business using market and risk criteria. The capital allocations reflect
the relative risk of individual asset classes within the segments and range from
approximately 2% of managed assets for U.S. government guaranteed education
loans to approximately 15% of managed assets for longer-term assets such as
aerospace. The targeted risk-adjusted capital allocations by segment (as a
percentage of average managed assets) are as follows: Specialty Finance -
commercial 9%, Specialty Finance - consumer 5%, Commercial Services, Corporate
Finance and Equipment Finance 10% and Capital Finance 14%.
Results by segment were as follows:
o Specialty Finance - commercial net income for the current quarter
includes a pre-tax $20.0 million mark-to-market charge on the
portion of our manufactured housing receivables transferred to held
for sale. Net income for the quarter outpaced the prior year
primarily due to improved vendor finance earnings, while year to
date earnings improvements were driven by the international units
and small business lending.
o Specialty Finance - consumer reported strong results over the prior
year. The improvement over last year for both quarter and year to
date is primarily driven by a higher asset base in the home lending
business
24
and the addition of the student lending business in 2005. Returns in
this segment were below last year due to the addition of the student
lending business. Student lending return rates are low reflecting
the low risk of loss due to the related guarantees by the U.S.
government.
o Commercial Services earnings are driven by factoring commissions,
which continued to grow along with the asset level. However,
commission rates declined modestly from the prior year (as a
percentage of factoring volume).
o Corporate Finance earnings improvement from the prior year was
particularly strong in the Capital Markets and the Communications,
Media & Entertainment units, reflecting higher risk-adjusted
margins, including higher recoveries, and non-spread revenue.
o Equipment Finance returns improved over the prior year driven by
stronger margins and improvement in the level of charge-offs.
o Capital Finance earnings reflect an $86.6 million pre-tax charge in
the quarter on a mark-to-market adjustment on aircraft transferred
to held for sale. However, earnings remained positive due to the
following: (1) the release of an international tax liability; (2)
the lower effective tax rate resulting from aircraft transfers to
Ireland; and (3) improved operating results, reflecting stronger
operating lease margins in both aerospace and rail. See "Income
Taxes" for additional information.
Corporate included amounts as shown in the table below (after tax) ($ in
millions):
Quarters Ended Nine Months Ended
September 30, September 30,
----------------------- -----------------------
2005 2004 2005 2004
------ ------ ------ ------
(Restated) (Restated)
Unallocated expenses ........................................... $(33.1) $(17.8) $(63.9) $(57.1)
Real estate investment gain .................................... 69.7 -- 69.7 --
Hurricane charges .............................................. (25.6) -- (25.6) --
(Loss) gain on derivatives ..................................... (8.1) -- 37.3 --
Preferred stock dividends ...................................... (5.2) -- (5.2) --
Restructuring charges .......................................... -- -- (15.4) --
Gain on debt redemption ........................................ -- -- -- 25.5
Venture capital operating income / (losses)(1) ................. (0.1) (3.3) 5.6 (5.4)
------ ------ ------ ------
Total ....................................................... $ (2.4) $(21.1) $ 2.5 $(37.0)
====== ====== ====== ======
- --------------------------------------------------------------------------------
(1) Venture capital operating income / (losses) include realized and
unrealized gains and losses related to venture capital investments, as
well as interest costs and other operating expenses associated with these
portfolios.
25
Net Finance Margin
A table summarizing the components of net finance margin is set forth
below ($ in millions):
Quarters Ended Nine Months Ended
September 30, September 30,
---------------------------- ----------------------------
2005 2004 2005 2004
---------- ---------- ---------- ----------
(Restated)
Finance income -- loans and capital leases ......... $ 777.0 $ 596.5 $ 2,177.3 $ 1,730.1
Rental income on operating leases .................. 376.7 360.5 1,105.1 1,032.7
Interest expense ................................... 495.4 315.4 1,354.7 913.4
---------- ---------- ---------- ----------
Net finance income .............................. 658.3 641.6 1,927.7 1,849.4
Depreciation on operating lease equipment .......... 242.6 248.2 721.4 721.9
---------- ---------- ---------- ----------
Net finance margin .............................. $ 415.7 $ 393.4 $ 1,206.3 $ 1,127.5
========== ========== ========== ==========
As a % of AEA:
Finance income -- loans and capital leases ......... 6.37% 6.08% 6.16% 6.05%
Rental income on operating leases .................. 3.09% 3.68% 3.13% 3.62%
Interest expense ................................... 4.06% 3.22% 3.84% 3.20%
---------- ---------- ---------- ----------
Net finance income .............................. 5.40% 6.54% 5.45% 6.47%
Depreciation on operating lease equipment .......... 1.99% 2.53% 2.04% 2.53%
---------- ---------- ---------- ----------
Net finance margin .............................. 3.41% 4.01% 3.41% 3.94%
========== ========== ========== ==========
As a % of AOL:
Rental income on operating leases .................. 16.97% 18.32% 17.14% 17.84%
Depreciation on operating lease equipment .......... 10.93% 12.61% 11.19% 12.47%
---------- ---------- ---------- ----------
Net operating lease margin ...................... 6.04% 5.71% 5.95% 5.37%
========== ========== ========== ==========
Average Earning Assets (Restated) .................. $ 48,781.2 $ 39,195.6 $ 47,091.0 $ 38,119.0
========== ========== ========== ==========
Average Operating Lease Equipment ("AOL") .......... $ 8,878.7 $ 7,873.2 $ 8,597.2 $ 7,720.1
========== ========== ========== ==========
Analysis of net finance margin is as follows:
o Finance income improved in 2005 benefited from higher asset levels
and assets repricing at higher market interest rates.
o Interest expense increased from 2004, reflecting debt assumed during
acquisitions, incremental debt to fund portfolio growth and higher
2005 market interest rates to fund the growth, as well as the effect
of extending the maturity of the debt portfolio, which exceeded the
savings from refinancing higher-cost debt at tighter 2005 spreads.
o The decline in net finance margin as a percentage of AEA reflects
the blending of the lower-margin student lending receivables into
the portfolio, lower yield-related fees, as well as pricing
pressure, reflecting liquidity in many of our lending businesses,
particularly in Corporate Finance and Equipment Finance. Lease
margin trends were favorable as discussed below.
o Rental income increased over the prior year periods on higher asset
levels and strong rates in aerospace and rail. Depreciation expense
declined as a percentage of AOL from 2004, reflecting the continued
asset mix change from shorter-term small to mid-ticket leasing
assets in Specialty Finance and Equipment Finance to longer-lived
assets in Capital Finance. The 2004 year to date depreciation
expense includes a $14.8 million impairment charge. See
"Concentrations -- Operating Leases" for additional information
regarding our operating lease assets.
We regularly monitor and simulate our degree of interest rate sensitivity
by measuring the repricing characteristics of interest-sensitive assets,
liabilities, and derivatives. The Capital Committee reviews the results of this
modeling periodically. The interest rate sensitivity modeling techniques we
employ include the creation of prospective twelve month "baseline" and "rate
shocked" net finance income simulations.
At the date that interest rate sensitivity is modeled, "baseline" net
finance income is derived using the current level of interest-sensitive assets,
the current level of interest-sensitive liabilities and related maturities, and
the current level of derivatives. The "baseline" simulation assumes that, over
the next successive twelve months,
26
market interest rates (as of the date of simulation) are held constant and that
no new loans or leases are extended. Once the "baseline" net finance income is
calculated, market interest rates, which were previously held constant, are
raised instantaneously 100 basis points across the entire yield curve, and a
"rate shocked" simulation is run. Interest rate sensitivity is then measured as
the difference between calculated "baseline" and "rate shocked" net finance
income.
An immediate hypothetical 100 basis point increase in the yield curve on
October 1, 2005 would reduce net income by an estimated $14 million after-tax
over the next twelve months. A corresponding decrease in the yield curve would
cause an increase in net income of a like amount. A 100 basis point increase in
the yield curve on October 1, 2004 would have reduced net income by an estimated
$15 million after tax, while a corresponding decrease in the yield curve would
have increased net income by a like amount. Although management believes that
this static analysis provides an estimate of our interest rate sensitivity, it
does not account for potential changes in the credit quality, size, composition
and prepayment characteristics of the balance sheet and other business
developments that could affect net income. Accordingly, no assurance can be
given that actual results would not differ materially from the estimated
outcomes of our simulations. Further, such simulations do not represent
management's current view of future market interest rate movements.
A comparative analysis of the weighted average principal outstanding and
interest rates on our debt before and after the effect of interest rate swaps is
shown in the following table ($ in millions):
Before Swaps After Swaps
------------------ --------------------
Quarter Ended September 30, 2005 (Restated)
Commercial paper, variable-rate senior
notes and bank credit facilities ...................... $17,780.3 3.72% $21,514.3 4.04%
Fixed-rate senior and subordinated notes ................ 25,959.7 5.11% 22,225.7 5.00%
--------- ---------
Composite ............................................... $43,740.0 4.55% $43,740.0 4.53%
========= =========
Quarter Ended September 30, 2004
Commercial paper, variable-rate senior notes
and bank credit facilities ............................ $15,855.5 1.78% $17,661.7 2.54%
Fixed-rate senior and subordinated notes ................ 19,357.5 5.76% 17,551.3 4.96%
--------- ---------
Composite ............................................... $35,213.0 3.97% $35,213.0 3.75%
========= =========
Nine Months Ended September 30, 2005 (Restated)
Commercial paper, variable-rate senior notes
and bank credit facilities ............................ $16,595.6 3.29% $20,449.7 3.67%
Fixed-rate senior and subordinated notes ................ 25,626.5 5.05% 21,772.4 4.85%
--------- ---------
Composite ............................................... $42,222.1 4.36% $42,222.1 4.28%
========= =========
Nine Months Ended September 30, 2004
Commercial paper, variable-rate senior notes
and bank credit facilities ............................ $14,742.5 1.69% $17,842.5 2.43%
Fixed-rate senior and subordinated notes ................ 19,206.0 5.72% 16,106.0 5.16%
--------- ---------
Composite ............................................... $33,948.5 3.97% $33,948.5 3.72%
========= =========
The weighted average interest rates before swaps do not necessarily
reflect the interest expense that would have been incurred over the life of the
borrowings had the interest rate risk been managed without the use of such
swaps.
27
Net Finance Margin after Provision for Credit Losses (Risk-Adjusted Margin)
The following table summarizes risk-adjusted margin, both in amount and as
a percentage of AEA ($ in millions):
Quarters Ended Nine Months Ended
September 30, September 30,
--------------------------- -----------------------------
2005 2004 2005 2004
--------- --------- --------- ---------
(Restated)
Net finance margin ..................................... $ 415.7 $ 393.4 $ 1,206.3 $ 1,127.5
Provision for credit losses ............................ 69.9 60.2 162.4 211.5
--------- --------- --------- ---------
Net finance margin after provision for
credit losses (risk adjusted margin) ................. $ 345.8 $ 333.2 $ 1,043.9 $ 916.0
========= ========= ========= =========
As a % of AEA:
Net finance margin ..................................... 3.41% 4.01% 3.41% 3.94%
Provision for credit losses ............................ 0.57% 0.61% 0.46% 0.74%
--------- --------- --------- ---------
Net finance margin after provision for
credit losses (risk adjusted margin) ................. 2.84% 3.40% 2.95% 3.20%
========= ========= ========= =========
The provision for the 2005 quarter includes $34.6 million for credit
losses due to the hurricanes, which reflects managements best current estimate
of such losses. The decline in the year to date provision mirrors the lower
charge-off trend and helped mitigate the previously discussed decline in net
finance margin in relation to 2004. Charge-off trends are discussed further in
"Credit Metrics".
Other Revenue
The components of other revenue are set forth in the following table ($ in
millions):
Quarters Ended Nine Months Ended
September 30, September 30,
----------------------- -----------------------
2005 2004 2005 2004
------- ------- ------- -------
(Restated) (Restated)
Fees and other income .......................................... $ 149.6 $ 119.6 $ 467.0 $ 387.3
Factoring commissions .......................................... 63.5 59.5 174.6 168.0
Gains on sales of leasing equipment ............................ 20.7 23.5 64.2 77.9
Gains on securitizations ....................................... 11.3 9.9 34.2 43.2
Gain on sale of real estate investment ......................... 115.0 -- 115.0 --
Charge related to aircraft held for sale ....................... (86.6) -- (86.6) --
Gain on sale of business aircraft .............................. -- -- 22.0 --
Charge related to manufactured housing assets
held for sale................................................. (20.0) -- (20.0) --
(Loss) gain on derivatives ..................................... (14.3) -- 65.8 --
Gain on venture capital investments ............................ 0.3 4.2 12.4 7.9
------- ------- ------- -------
Total other revenue ......................................... $ 239.5 $ 216.7 $ 848.6 $ 684.3
======= ======= ======= =======
Other revenue as a percentage of AEA ........................... 1.96% 2.21% 2.40% 2.39%
======= ======= ======= =======
o Fees and other income include securitization-related servicing fees
and accretion, syndication fees, miscellaneous fees, gains from
asset sales. The improvement from 2004 reflected gains from
receivable sales in Specialty Finance - consumer, including the sale
of student lending assets, as well as strong fees in Corporate
Finance. This was in part offset by lower securitization related
fees as those asset balances declined from last year.
o Factoring commissions increased over last year on higher factoring
asset balances, but reflected slightly lower factoring rates (as a
percentage of factoring volume).
28
The following table presents information regarding gains on
securitizations ($ in millions):
Quarters Ended Nine Months Ended
September 30, September 30,
--------------------------- ---------------------------
2005 2004 2005 2004
-------- ------- -------- --------
Total volume securitized ................................ $1,396.5 $783.8 $3,378.2 $2,867.4
Gains ................................................... $ 11.3 $ 9.9 $ 34.2 $ 43.2
Gains as a percentage of volume securitized ............. 0.81% 1.26% 1.01% 1.51%
Gains as a percentage of pre-tax income (Restated)....... 3.71% 3.28% 3.25% 4.79%
Securitized assets ...................................... $7,539.4 $7,994.9
Retained interest in securitized assets ................. $1,144.4 $1,124.9
The lower gain percentage of volume securitized during the quarter ended
September 30, 2005 reflects a greater proportion of vendor program assets sold,
which have lower yields.
o During the quarter, we sold an interest in a real estate investment,
Waterside Plaza, a residential complex in New York City, and
recognized a pre-tax gain of approximately $115 million.
o During the quarter, certain aircraft with a net carrying value
totaling approximately $190 million were classified as assets held
for sale based on management's decision to actively market these
assets, and a mark-to-market charge of $86.6 million was recorded in
Capital Finance. These aircraft types included commercial, regional
and business aircraft. Year to date results also reflect a $22.0
million gain on the sale of a majority of the Equipment Finance
business aircraft portfolio (approximately $900 million). During the
quarter ended September 30, 2005, the remaining business aircraft
portfolio was transferred to Capital Finance. See "Concentration"
and "Financing and Leasing Assets" sections for further detail.
o During the quarter, we accelerated the liquidation of approximately
$125 million in manufactured housing assets. These assets were
reclassified as held for sale on the financial statements and marked
to estimated fair value resulting in a $20.0 million charge.
Reserve for Credit Losses
The changes to the reserve for credit losses, including related
provisions, are presented in the following table ($ in millions):
Quarters Ended Nine Months Ended
September 30, September 30,
----------------------- -------------------
2005 2004 2005 2004
------ ------ ------ ------
Balance beginning of period ................................ $622.3 $621.0 $617.2 $643.7
------ ------ ------ ------
Provision for credit losses -- finance receivables ......... 35.3 60.2 127.8 211.5
Provision for credit losses -- hurricane losses ............ 34.6 -- 34.6 --
Reserves relating to acquisitions, other ................... 8.6 29.0 24.2 37.9
------ ------ ------ ------
Additions to reserve for credit losses, net ............. 78.5 89.2 186.6 249.4
------ ------ ------ ------
Net credit losses
Specialty Finance - commercial .......................... 24.1 32.2 69.6 84.2
Specialty Finance - consumer ............................ 15.1 10.3 39.6 30.4
Commercial Services ..................................... 6.3 7.2 18.4 17.2
Corporate Finance ....................................... (3.2) 14.8 4.0 66.2
Equipment Finance ....................................... 3.4 7.8 16.7 49.6
Capital Finance ......................................... 2.3 -- 2.7 7.6
------ ------ ------ ------
Total net credit losses .................................... 48.0 72.3 151.0 255.2
------ ------ ------ ------
Balance end of period ...................................... $652.8 $637.9 $652.8 $637.9
====== ====== ====== ======
Reserve for credit losses as a percentage
of finance receivables .................................. 1.53% 1.85%
===== ======
Reserve for credit losses as a percentage of
past due receivables (60 days or more)(1) ............... 87.0% 111.3%
====== ======
Reserve for credit losses as a percentage of
non-performing assets(1) ................................ 119.4% 120.7%
====== ======
- --------------------------------------------------------------------------------
(1) The reserve for credit losses as a percentage of past due receivables and
non-performing accounts, excluding telecommunications reserves and account
balances, were 100.7% and 113.5% at September 30, 2004, respectively.
(2) At September 30, 2005, the reserve to non-performing asset percentage
exceeded the reserve to delinquency percentage due to the fact that the
student lending portfolio has no non-performing assets, as student lending
past due receivables are not classified as non-performing assets to the
extent such loans are subject to the U.S. government guarantee.
29
The reserve for credit losses was $652.8 million (1.53% of finance
receivables) at September 30, 2005, compared to $617.2 million (1.76%) at
December 31, 2004. The increase in reserve amount from December 31, 2004 was due
to a $34.6 million provision for estimated hurricane damage (see table below),
portfolio growth, and increased risk related to U.S. commercial airline hub
carriers, reflecting the continuation of high fuel costs and airline industry
operating losses, as well as the potential for additional bankruptcies in this
sector. The decline as a percentage of receivables represents credit quality
improvements across portfolios and asset mix changes, including the addition of
$4.4 billion of U.S. government-guaranteed education lending loans. The reserve
includes specific reserves, excluding telecommunication accounts, relating to
impaired loans of $68.3 million and $42.4 million at September 30, 2005 and
December 31, 2004. The increase from 2004 relating to impaired loans reflects
amounts related to bankrupt U.S. hub carriers.
During the quarter, we established a $34.6 million reserve for credit
losses related to Hurricanes Katrina and Rita. This amount reflects management's
best estimate of loss as of September 30, 2005 based on available, relevant
information. Total business segment owned and securitized receivables in the
three most impacted states (Louisiana, Alabama and Mississippi) as of September
30, 2005 were approximately $925 million and $200 million. Of these amounts,
exposure to commercial and consumer customers located in the Federal Emergency
Management Agency ("FEMA") designated disaster areas and other areas that
management determined were significantly impacted were approximately $600
million and $50 million respectively, including approximately $250 million in
the FEMA designated disaster areas relating principally to equipment and vendor
finance assets and home mortgages. For commercial loans management performed a
loan-by-loan assessment of estimated loss. For equipment and vendor assets and
home mortgages the FEMA designated disaster areas, management performed an
analysis of exposure by zip code, including flood versus non-flood designated
locations, supplemented with a range of corresponding estimated damage
assessments. This estimate of loss involves considerable judgment and
assumptions about uncertain matters, including the existence of insurance in
force with respect to damages incurred, insurance claims and proceeds and the
extent of property damage. Management will continue to assess the financial
impact of the hurricanes as more information becomes available.
A summary of the estimated hurricane charges is as follows ($ in
millions):
Reserve for
Credit Losses
-------------
Specialty Finance - commercial..................... $ 4.2
Specialty Finance - consumer....................... 16.9
-----
Total Specialty Finance Group................... 21.1
-----
Commercial Services................................ 3.0
Corporate Finance.................................. 6.5
Equipment Finance.................................. 4.0
Capital Finance.................................... --
-----
Total Commercial Finance Group.................. 13.5
-----
Total........................................... $34.6
=====
The reserve for credit losses is determined based on three key components:
(1) specific reserves for collateral and cash flow dependent loans that are
impaired under SFAS 114; (2) reserves for estimated losses inherent in the
portfolio based upon historical and projected credit trends; and (3) reserves
for economic environment and other factors. The portion of the reserve related
to inherent estimated loss and estimation risk reflects our evaluation of trends
in our key credit metrics, as well as our assessment of risk in certain industry
sectors, including commercial aerospace, and inherent uncertainty with respect
to our estimate of hurricane losses.
The consolidated reserve for credit losses is intended to provide for
losses inherent in the portfolio, which requires the application of estimates
and significant judgment as to the ultimate outcome of collection efforts and
realization of collateral values, among other things. Therefore, changes in
economic conditions or credit metrics, including past due and non-performing
accounts, or other events affecting specific obligors or industries may
necessitate additions or reductions to the consolidated reserve for credit
losses. Management continues to believe that the credit risk characteristics of
the portfolio are well diversified by geography, industry, borrower and
equipment type. Refer to "Concentrations" for more information.
30
Based on currently available information, management believes that our
total reserve for credit losses is adequate.
See "Concentrations" for additional information on the commercial
aerospace portfolio.
Credit Metrics
Net Charge-offs
Net charge-offs, both in amount and as a percentage of average finance
receivables, are shown in the following table ($ in millions):
Quarters Ended September 30, Nine Months Ended September 30,
--------------------------------------- ---------------------------------------
2005 2004 2005 2004
------------------ ----------------- ------------------ ------------------
Specialty Finance - commercial .............. $24.1 1.10% $32.2 1.56% $ 69.6 1.04% $ 84.2 1.38%
Specialty Finance - consumer ................ 15.1 0.55% 10.3 1.10% 39.6 0.56% 30.4 1.23%
----- ----- ------ ------
Total Specialty Finance Group ............ 39.2 0.79% 42.5 1.42% 109.2 0.79% 114.6 1.34%
----- ----- ------ ------
Commercial Services ......................... 6.3 0.36% 7.2 0.46% 18.4 0.37% 17.2 0.37%
Corporate Finance ........................... (3.2) (0.15)% 14.8 0.90% 4.0 0.07% 66.2 1.36%
Equipment Finance ........................... 3.4 0.31% 7.8 0.49% 16.7 0.43% 49.6 1.05%
Capital Finance ............................. 2.3 0.39% -- -- 2.7 0.15% 7.6 0.58%
----- ----- ------ ------
Total Commercial Finance Group ........... 8.8 0.16% 29.8 0.57% 41.8 0.25% 140.6 0.90%
----- ----- ------ ------
Total .................................... $48.0 0.46% $72.3 0.88% $151.0 0.50% $255.2 1.06%
===== ===== ====== ======
Charge-offs for the quarter and nine months ended September 30, 2004,
excluding amounts related to liquidating and specifically-reserved
telecommunication accounts, were $57.6 million (0.72%) and $186.3 million
(0.80%). The most notable improvements from the prior year were in Capital
Finance, Equipment Finance and the Communications, Media & Entertainment,
Capital Markets, and Global Sponsor Finance units within Corporate Finance.
Additional analysis by segment follows:
o Specialty Finance - commercial charge-offs for the quarter improved
from 2004 primarily in the vendor program.
o Specialty Finance - consumer charge-offs, while up in amount, were
down as a percentage of average finance receivables from the prior
year, reflecting portfolio growth, improved credit performance and
the addition of the student lending assets.
o Commercial Services charge-offs were modestly above the prior year.
o Corporate Finance charge-off improvement was driven by recoveries
from previously written-off accounts in the Communications, Media &
Entertainment, Capital Markets, and Global Sponsor Finance units.
o Equipment Finance charge-off improvement continued, as current
quarter charge-offs remained very low, particularly in the
construction business.
o Capital Finance charge-offs were below 2004 due to a project finance
write-off in the prior year.
Net charge-offs on a managed basis, including securitized receivables,
both in amount and as a percentage of average managed receivables, are shown in
the following table ($ in millions):
Quarters Ended September 30, Nine Months Ended September 30,
--------------------------------------- ---------------------------------------
2005 2004 2005 2004
------------------ ----------------- ------------------ ------------------
Specialty Finance - commercial ............. $33.8 1.09% $43.5 1.45% $ 99.1 1.05% $118.4 1.29%
Specialty Finance - consumer ............... 23.3 0.78% 15.6 1.21% 59.9 0.76% 45.3 1.23%
----- ----- ------ ------
Total Specialty Finance Group ........... 57.1 0.93% 59.1 1.38% 159.0 0.92% 163.7 1.28%
----- ----- ------ ------
Commercial Services ........................ 6.3 0.36% 7.2 0.46% 18.4 0.37% 17.2 0.37%
Corporate Finance .......................... (3.1) (0.14)% 14.8 0.90% 4.6 0.08% 66.2 1.36%
Equipment Finance .......................... 5.9 0.34% 17.5 0.77% 27.6 0.47% 86.5 1.25%
Capital Finance ............................ 2.3 0.39% -- -- 2.7 0.15% 7.6 0.58%
----- ----- ------ ------
Total Commercial Finance Group .......... 11.4 0.18% 39.5 0.66% 53.3 0.29% 177.5 1.00%
----- ----- ------ ------
Total ................................... $68.5 0.56% $98.6 0.96% $212.3 0.59% $341.2 1.11%
===== ===== ====== ======
31
The changes in managed portfolio charge-offs are consistent with the
previously discussed changes in charge-offs on an owned basis.
Past Due Loans and Non-performing Assets
The following table sets forth certain information concerning past due
(sixty days or more) and non-performing assets, and the related percentages of
finance receivables ($ in millions):
September 30, 2005 December 31, 2004
------------------ -----------------
Past due accounts:
Specialty Finance - commercial ............................ $303.0 3.52% $283.3 3.22%
Specialty Finance - consumer .............................. 283.4 2.55% 116.4 2.27%
------ ------
Total Specialty Finance Group ........................... 586.4 2.97% 399.7 2.87%
------ ------
Commercial Services ....................................... 36.6 0.50% 88.0 1.42%
Corporate Finance(1) ...................................... 58.0 0.65% 43.3 0.65%
Equipment Finance(1) ...................................... 48.0 1.08% 50.1 0.79%
Capital Finance ........................................... 21.6 1.02% 26.9 1.47%
------ ------
Total Commercial Finance Group .......................... 164.2 0.72% 208.3 0.99%
------ ------
Total ................................................... $750.6 1.76% $608.0 1.73%
====== ======
Non-performing accounts:
Specialty Finance - commercial ............................ $162.8 1.89% $165.9 1.88%
Specialty Finance - consumer .............................. 146.4 1.31% 119.3 2.32%
------ ------
Total Specialty Finance Group ........................... 309.2 1.57% 285.2 2.05%
------ ------
Commercial Services ....................................... 6.4 0.09% 56.8 0.92%
Corporate Finance(1) ...................................... 67.3 0.75% 61.8 0.92%
Equipment Finance(1) ...................................... 67.0 1.50% 131.2 2.06%
Capital Finance ........................................... 96.7 4.56% 4.6 0.25%
------ ------
Total Commercial Finance Group .......................... 237.4 1.03% 254.4 1.21%
------ ------
Total ................................................... $546.6 1.28% $539.6 1.54%
====== ======
Non-accrual loans ............................................ $487.6 $458.4
Repossessed assets ........................................... 59.0 81.2
------ ------
Total non-performing accounts ........................... $546.6 $539.6
====== ======
- --------------------------------------------------------------------------------
(1) Corporate Finance and Equipment Finance non-performing assets include
accounts that are less than sixty days past due.
Delinquency levels as of September 30, 2005 increased from December 31,
2004 primarily due to the student lending acquisition in Specialty Finance -
consumer. Excluding these assets, delinquency was $619.2 million (1.62%) at
September 30, 2005. Although delinquency is higher in this portfolio, this
metric is not indicative of ultimate loss, given the U.S. government guarantee
of these loans. Additional analysis follows:
o Specialty Finance - commercial delinquency level was higher than
last quarter and the fourth quarter of 2004 in the vendor program.
o Specialty Finance - consumer delinquency increased from December 31,
2004, due to the student lending acquisition. Excluding student
lending receivables, delinquencies were $152.0 million (2.26%),
versus $116.4 million (2.27%) last year-end, reflecting the home
lending portfolio growth.
o Commercial Services delinquency was down from 2004 due to the
work-out of one significant account.
o Corporate Finance, Equipment Finance and Capital Finance
delinquencies remained at the relatively low year end 2004 levels.
o Capital Finance non-performing increase is due to two commercial
airline carriers declaring bankruptcy during the current quarter
(see "Concentrations" section)
32
Non-performing assets increased from the prior quarter mainly in Capital
Finance due to the bankruptcies and in Specialty Finance - consumer due to the
home lending growth as mentioned above. The percentage trends were impacted by
the student lending acquisition, which had no non-performing accounts at
September 30, 2005.
Managed past due loans in dollar amount and as a percentage of managed
financial assets are shown in the table below ($ in millions):
September 30, 2005 December 31, 2004
------------------ -----------------
Managed past due accounts:
Specialty Finance - commercial ............................ $399.4 2.94% $402.1 2.82%
Specialty Finance - consumer .............................. 369.2 2.91% 227.8 3.45%
------ ------
Total Specialty Finance Group ........................... 768.6 2.92% 629.9 3.02%
------ ------
Commercial Services ....................................... 36.6 0.50% 88.0 1.42%
Corporate Finance ......................................... 58.7 0.65% 43.3 0.65%
Equipment Finance ......................................... 66.8 0.93% 90.3 0.96%
Capital Finance ........................................... 21.6 0.97% 26.9 1.47%
------ ------
Total Commercial Finance Group .......................... 183.7 0.71% 248.5 1.03%
------ ------
Total ................................................... $952.3 1.83% $878.4 1.95%
====== ======
The trends in the table above largely reflect the previously discussed
changes in the owned portfolios.
Salaries and General Operating Expenses
The efficiency ratio and the ratio of salaries and general operating
expenses to average managed assets ("AMA") are summarized in the following table
($ in millions):
Quarters Ended Nine Months Ended
September 30, September 30,
---------------------------- ----------------------------
2005 2004 2005 2004
---------- ---------- ---------- ----------
(Restated) (Restated)
Salaries and employee benefits ........................ $ 177.7 $ 148.2 $ 508.7 $ 450.4
Other general operating expenses ...................... 103.4 99.9 305.2 290.1
---------- ---------- ---------- ----------
Salaries and general operating expenses ............ 281.1 248.1 813.9 740.5
Provision for restructuring ........................... -- -- 25.2 --
---------- ---------- ---------- ----------
Total .............................................. $ 281.1 $ 248.1 $ 839.1 $ 740.5
========== ========== ========== ==========
Efficiency ratio(1) ................................... 42.9% 40.7% 40.8% 40.9%
Salaries and general operating expenses
as a percentage of AMA(2) .......................... 2.01% 2.10% 2.05% 2.11%
Average Managed Assets ................................ $ 56,011.0 $ 47,166.8 $ 54,466.8 $ 46,737.1
- --------------------------------------------------------------------------------
(1) Efficiency ratio is the ratio of salaries and general operating expenses
to operating margin, excluding the provision for credit losses. Excluding
the gain on sale of real estate investment, fair value mark-downs on
aircraft and manufactured housing receivables, and hurricane related
estimated losses in the quarter and the restructuring charge and the gain
on sale of business aircraft year to date, as well as the gain/loss on
derivatives for both periods, the efficiency ratios for the 2005 quarter
and nine months were 43.5% and 41.4%.
(2) "AMA" means average managed assets, which is average earning assets plus
the average of finance receivables previously securitized and still
managed by us. Excluding the restructuring charge, the ratio of salaries
and general operating expenses to managed assets was 1.99% for the nine
months ended September 30, 2005.
Salaries and general operating expenses for the quarter ended September
30, 2005 increased from 2004 due to incremental salaries and other operating
expenses related to recent acquisitions and additions to our sales and marketing
functions, as well as higher incentive-based costs (driven primarily by higher
sales incentive plans), consistent with the improved volume, fees and
profitability. Operating expenses for student lending were $18.8 million and
$42.5 million for the quarter and nine months ended September 30, 2005.
Personnel totaled approximately 6,165 at September 30, 2005, versus 6,110
last quarter and 5,700 last year. The increase from 2004 was largely due to the
acquisitions and upfront investments made in our sales and marketing functions.
Improvement in the efficiency ratio remains one of management's goals, and
several initiatives are underway to reduce costs, including system
consolidations and process efficiency improvements. Accordingly, a $25.2 million
restructuring charge was established last quarter, reflecting the realignment of
Commercial Finance and
33
back-office streamlining and consolidation activities in Specialty Finance. The
charge consists largely of employee termination costs related to approximately
200 personnel. We anticipate reinvesting the savings from these initiatives in
sales and growth initiatives, as well as the continuation of streamlining
initiatives. We expect the streamlining initiatives to reduce costs by
approximately $25 million in 2006.
Income Taxes
The effective tax rate differs from the U.S. federal tax rate of 35%
primarily due to state and local income taxes, the domestic and international
geographic distribution of taxable income and corresponding foreign income
taxes, as well as differences between book and tax treatment of certain items.
The effective tax rate was 28.5% and 39.0% for the quarters ended
September 30, 2005 and 2004 and 33.9% and 39.0% for the respective year to date
periods. The reduction in the 2005 effective tax rate, which is based on our
revised estimate of annual effective tax rate of approximately 35%, reflects the
following: (1) improved profitability in our international operations; (2) the
relocation of certain aerospace assets in Ireland with offshore funding, as
provisions of the American Jobs Creation Act of 2004 provide favorable tax
treatment for certain aircraft leasing operations conducted offshore and (3) the
release of a tax liability of $17.6 million relating to our international
operations. The improved profitability in international operations resulted from
our initiative to grow our international profitability via better platform
efficiency coupled with asset growth. During the quarter ended September 30,
2005 we concluded our evaluation with respect to an international tax filing
position based on a favorable opinion received from the local tax authorities,
resulting in the release of a previously provided for tax liability of $17.6
million. This reduced the effective tax rate by approximately 5% for the quarter
ended September 30, 2005.
During the quarter, we filed our U.S. federal income tax return for the
year ended December 31, 2004. The return reported taxable income of
approximately $400 million, which reduced the U.S. federal net operating losses
("NOL's") to approximately $1.5 billion. These NOL's expire in various years
beginning in 2011. In addition, we have various state NOL's that will expire in
various years beginning in 2005. Federal and state operating losses may be
subject to annual use limitations under section 382 of the Internal Revenue Code
of 1986, as amended, and other limitations under certain state laws. Management
believes that CIT will have sufficient taxable income in future years and can
avail itself of tax planning strategies in order to utilize these federal losses
fully. Accordingly, we do not believe a valuation allowance is required with
respect to these federal NOL's. As of September 30, 2005, based on management's
assessment as to realizability, the net deferred tax liability includes a
valuation allowance of approximately $10 million relating to state NOL's.
We have open tax years in the U.S., Canada and other jurisdictions that
are currently under examination by the applicable taxing authorities, and
certain tax years that may in the future be subject to examination. Management
periodically evaluates the adequacy of our related tax reserves, taking into
account our open tax return positions, tax assessments received, tax law changes
and third party indemnifications. We believe that our tax reserves are
appropriate. The final determination of tax audits could affect our tax
reserves.
See Item 4. Controls and Procedures for a discussion of internal controls
relating to income taxes.
34
Financing and Leasing Assets
The managed assets of our business segments and the corresponding
strategic business units are presented in the following table ($ in millions):
September 30, December 31, Percentage
2005 2004 Change
------------- ------------ ----------
(Restated)
Specialty Finance Group
Specialty Finance - commercial
Finance receivables .................................................... $ 8,605.1 $ 8,805.7 (2.3)%
Operating lease equipment, net ......................................... 1,116.7 1,078.7 3.5%
Financing and leasing assets held for sale ............................. 994.0 1,288.4 (22.9)%
--------- ---------
Owned assets ......................................................... 10,715.8 11,172.8 (4.1)%
Finance receivables securitized and managed by CIT ..................... 3,996.2 4,165.5 (4.1)%
--------- ---------
Managed assets ....................................................... 14,712.0 15,338.3 (4.1)%
--------- ---------
Specialty Finance - consumer
Finance receivables -- home lending .................................... 6,447.5 4,896.8 31.7%
Finance receivables -- education lending ............................... 4,396.1 -- N/A
Finance receivables -- other ........................................... 289.9 236.0 22.8%
Financing and leasing assets held for sale ............................. 643.2 241.7 166.1%
--------- ---------
Owned assets ......................................................... 11,776.7 5,374.5 119.1%
Home lending finance receivables securitized
and managed by CIT ................................................... 911.4 1,228.7 (25.8)%
--------- ---------
Managed assets ....................................................... 12,688.1 6,603.2 92.2%
--------- ---------
Commercial Finance Group
Commercial Services
Finance receivables .................................................... 7,388.9 6,204.1 19.1%
--------- ---------
Corporate Finance
Finance receivables .................................................... 8,978.0 6,702.8 33.9%
Operating lease equipment, net ......................................... 76.1 35.1 116.8%
Financing and leasing assets held for sale ............................. 0.1 --
--------- ---------
Owned assets ......................................................... 9,054.2 6,737.9 34.4%
Finance receivables securitized and managed by CIT ..................... 46.1 -- N/A
--------- ---------
Managed assets ....................................................... 9,100.3 6,737.9 35.1%
--------- ---------
Equipment Finance
Finance receivables .................................................... 4,461.2 6,373.1 (30.0)%
Operating lease equipment, net ......................................... 109.1 440.6 (75.2)%
Financing and leasing assets held for sale ............................. 105.8 110.7 (4.4)%
--------- ---------
Owned assets ......................................................... 4,676.1 6,924.4 (32.5)%
Finance receivables securitized and managed by CIT ..................... 2,585.7 2,915.5 (11.3)%
--------- ---------
Managed assets ....................................................... 7,261.8 9,839.9 (26.2)%
--------- ---------
Capital Finance
Finance receivables .................................................... 2,118.5 1,829.7 15.8%
Operating lease equipment, net ......................................... 7,882.5 6,736.5 17.0%
Financing and leasing assets held for sale ............................. 105.3 -- N/A
--------- ---------
Owned assets ......................................................... 10,106.3 8,566.2 18.0%
--------- ---------
Other -- Equity Investments .............................................. 31.1 181.0 (82.8)%
--------- ---------
Total
Finance receivables .................................................... $42,685.2 $35,048.2 21.8%
Operating lease equipment, net ......................................... 9,184.4 8,290.9 10.8%
Financing and leasing assets held for sale ............................. 1,848.4 1,640.8 12.7%
--------- ---------
Financing and leasing assets excl. equity investments .................. 53,718.0 44,979.9 19.4%
Equity investments (included in other assets) .......................... 31.1 181.0 (82.8)%
--------- ---------
Owned assets ......................................................... 53,749.1 45,160.9 19.0%
Finance receivables securitized and managed by CIT ..................... 7,539.4 8,309.7 (9.3)%
--------- ---------
Managed assets ....................................................... $61,288.5 $53,470.6 14.6%
========= =========
35
The 2005 year to date activity reflects strong volumes and the
acquisitions in the student lending and healthcare businesses, offset by asset
sales and syndications done largely for risk management and capital allocation
purposes, particularly in the third quarter. Additional trends by segment
follow:
o Specialty Finance - commercial declined despite strong volume, as
runoff / liquidations were higher and the sale of over $300 million
of liquidating manufactured housing assets in the first quarter of
2005.
o Specialty Finance - consumer increased, reflecting the $4.6 billion
student lending unit in addition to continued strength in the home
equity lending market, where originations and purchases were
partially offset by sales to balance certain portfolio demographics
and risk characteristics.
o Commercial Services increased due to seasonal growth, as retailers
build inventories ahead of the back to school and holiday seasons
and the first quarter 2005 acquisition.
o The increase in Corporate Finance reflects strong volumes and the
transfer of approximately $850 million of sports and gaming
portfolio assets and healthcare assets from Equipment Finance as
well as approximately $500 million from the HBCC acquisition in the
third quarter of 2005.
o Equipment Finance, essentially unchanged from the June 30 quarter,
declined from year-end 2004 reflecting the sale of $923 million in
business aircraft assets, the transfer of the remaining portfolio
(approximately $600 million) to Capital Finance, and the transfer of
approximately $450 million in healthcare assets to Corporate Finance
in the second quarter of 2005. In addition, the $400 million sports
and gaming portfolio was transferred to Corporate Finance in the
first quarter of 2005.
o Capital Finance's increase reflected the growth in our railcar
portfolio as well as commercial aerospace deliveries and the
transfer of the remaining business aircraft portfolio from Equipment
Finance during the second quarter of 2005.
Consistent with our capital optimization activities during the current
period, we will consider other opportunities for more rapid liquidation of
non-strategic and under-performing assets to the extent available.
Business Volumes
The following table presents new business origination volume by segment ($
in millions):
Quarters Ended Nine Months Ended
September 30, September 30,
---------------------------- -----------------------------
2005 2004 2005 2004
--------- --------- --------- ---------
Specialty Finance - commercial ....................... $2,843.9 $2,504.0 $ 7,866.6 $ 7,433.0
Specialty Finance - consumer ......................... 2,434.7 1,319.4 6,103.5 3,244.6
Commercial Services .................................. 108.2 107.6 280.3 361.1
Corporate Finance .................................... 1,196.8 621.8 3,355.9 1,913.2
Equipment Finance .................................... 729.9 1,115.1 2,689.6 3,086.4
Capital Finance ...................................... 669.9 299.6 1,562.8 850.5
-------- -------- --------- ---------
Total new business volume ......................... $7,983.4 $5,967.5 $21,858.7 $16,888.8
======== ======== ========= =========
o Specialty Finance - commercial volume increase was broad-based
across units, including strength in the vendor programs.
o Specialty Finance - consumer volume increase included strong
origination volume, including bulk receivable purchases in home
lending as well as strong volume in student lending.
o Commercial Services' current quarter volume was essentially flat
with the prior year's.
o Corporate Finance's Global Sponsor Finance and Communications and
Media units posted strong volumes and drove the favorable trends.
o Capital Finance year-over-year volume increases reflected additional
aircraft fundings.
36
Concentrations
Ten Largest Accounts
Our ten largest financing and leasing asset accounts in the aggregate
represented 4.5% of our total financing and leasing assets at September 30, 2005
(the largest account being less than 1.0%), compared to 5.3% at December 31,
2004. The decline is due to asset growth, including the addition of the student
lending receivables.
Operating Leases
The following table summarizes the total operating lease portfolio by
segment ($ in millions):
September 30, December 31,
2005 2004
------------- ------------
Capital Finance -- Aerospace ................... $4,894.4 $4,461.0
Capital Finance -- Rail and Other .............. 2,988.1 2,275.5
Specialty Finance .............................. 1,116.7 1,078.7
Equipment Finance .............................. 109.1 440.6
Corporate Finance .............................. 76.1 35.1
-------- --------
Total ....................................... $9,184.4 $8,290.9
======== ========
The increases in the Capital Finance aerospace portfolio reflected
deliveries of eleven new commercial aircraft, partially offset by the
disposition of eight aircraft.
Management strives to maximize the profitability of the lease equipment
portfolio by balancing equipment utilization levels with market rental rates and
lease terms. Equipment not subject to lease agreements totaled $227.2 million
and $118.3 million at September 30, 2005 and December 31, 2004, respectively.
Weakness in the commercial airline industry could adversely impact prospective
rental and utilization rates.
Leveraged Leases
The major components of net investments in leveraged leases include: (1)
commercial aerospace transactions (including tax-optimized leveraged leases,
which generally have increased risk of loss in default for lessors in contrast
to conventional lease structures due to additional leverage and the third party
lender priority recourse to the equipment in these transactions); (2) project
finance transactions, primarily in the power and utility sectors and (3) rail
transactions. The balances are as follows ($ in millions):
September 30, December 31,
2005 2004
------------- ------------
Commercial aerospace -- non-tax optimized ........ $ 342.6 $ 336.6
Commercial aerospace -- tax optimized ............ 182.5 221.0
Project finance .................................. 354.6 334.9
Rail ............................................. 209.5 233.9
Other ............................................ 87.4 115.4
-------- --------
Total leveraged lease transactions ............ $1,176.6 $1,241.8
======== ========
As a percentage of finance receivables ........... 2.8% 3.5%
======== ========
Joint Venture Relationships
Our strategic relationships with industry-leading equipment vendors are a
significant origination channel for our financing and leasing activities. These
vendor alliances include traditional vendor finance programs, joint ventures and
profit sharing structures. Our vendor programs with Dell, Snap-on and Avaya are
among our largest alliances. The agreements with Dell provide Dell with the
option to purchase CIT's 30% interest in Dell Financial Services L.P. ("DFS") in
February 2008 and extends CIT's right to purchase a percentage of DFS finance
receivables through January 2010. The joint venture agreement with Snap-on was
recently extended until January 2009, pursuant to an automatic renewal provision
in the agreement. The Avaya agreement, which relates to profit sharing on a CIT
direct origination program, extends through September 2006.
37
Our financing and leasing assets include amounts related to the Dell,
Snap-on and Avaya joint venture programs. These amounts include receivables
originated directly by CIT as well as receivables purchased from joint venture
entities. The asset balances for these programs are as follows ($ in millions):
September 30, December 31,
2005 2004
------------- ------------
Owned Financing and Leasing Assets
Dell ............................................. $3,551.8 $3,389.4
Snap-on .......................................... 1,052.1 1,114.7
Avaya Inc. ....................................... 542.6 620.7
Securitized Financing and Leasing Assets
Dell ............................................. $2,519.8 $2,489.2
Snap-on .......................................... 55.8 64.8
Avaya Inc. ....................................... 515.9 599.6
Dell International Financing and Leasing
Assets included above
Dell -- owned .................................... $1,437.3 $1,403.6
Dell -- securitized .............................. 39.8 5.1
Returns relating to the joint venture relationships (i.e., net income as a
percentage of average managed assets) for 2005 were somewhat in excess of CIT's
consolidated returns. A significant reduction in origination volumes from any of
these alliances could have a material impact on our asset and net income levels.
For additional information regarding certain of our joint venture activities,
see Note 8 -- Certain Relationships and Related Transactions.
Home Lending Portfolio
The Specialty Finance - consumer home lending business is largely
originated through a broker network. As part of originating business through
this core channel, we employ an active portfolio management approach, whereby we
target desired portfolio mix / risk attributes in terms of product type, lien
position, and geographic concentrations, among other factors. We supplement
business with opportunistic purchases in the secondary market when market
conditions are favorable from a credit and price perspective. The interest rate
environment over the last 18 months, combined with substantial volume growth in
the industry, have made these bulk asset purchases attractive.
The home lending portfolio totaled $6.9 billion (owned) and $7.8 billion
(managed) at September 30, 2005, representing 12.8% and 12.7% of owned and
managed assets, respectively. Selected statistics for our managed home lending
portfolio are as follows:
o 92% first mortgages.
o Average loan size of approximately $112.4 thousand.
o Top 5 state concentrations (California, Texas, Florida, Ohio, and
Pennsylvania) represented an aggregate 42% of the managed portfolio.
o 47% fixed-rate.
o Average loan-to-value of 81%.
o Average FICO score of 631.
o Delinquencies (sixty days or more) were 3.01% and 3.59% at September
30, 2005 and December 31, 2004.
o Charge-offs were 1.14% and 1.09% for the quarters ended September
30, and June 30, 2005.
During the quarter ended September 30, 2005, a reserve for credit losses
of $16.9 million and a securitization retained interest impairment charge of
$4.6 million pretax related to estimated hurricane losses in the home lending
portfolio was recorded. See Reserve for Credit Losses and Note 3 for additional
information.
38
Student Lending Portfolio (Student Loan Xpress)
The Specialty Finance - consumer student lending portfolio, which is
marketed as Student Loan Xpress, totaled $4.6 billion at September 30, 2005,
representing 8.5% of owned and 7.4% of managed assets. Loan origination volumes
for the September 2005 quarter were $945.1 million, and $1.5 billion for the
period of CIT ownership. Student Loan Xpress has arrangements with certain
financial institutions to sell selected loans and works jointly with these
financial institutions to promote this relationship.
Selected statistics for our student lending portfolio are as follows ($ in
millions):
September 30, December 31,
2005 2004
------------- ------------
Finance receivables by product type
Consolidation loans................................ $4,121.8 $3,954.8
Other U.S. Government guaranteed loans............. 414.8 322.6
Private (non-guaranteed) loans and other........... 15.8 14.1
-------- --------
Total........................................... $4,552.4 $4,291.5
======== ========
o Delinquencies (sixty days or more) were $131.4 million, 2.89% of
finance receivables at September 30, 2005 and $114.3 million, 2.66%
at June 30, 2005.
o Top 5 state concentrations (California, New York, Pennsylvania,
Texas, and Ohio) represented an aggregate 37.5% of the portfolio.
Geographic Composition
The following table summarizes significant state concentrations greater
than 5.0% and foreign concentrations in excess of 1.0% of our owned financing
and leasing portfolio assets. For each period presented, our managed asset
geographic composition did not differ significantly from our owned asset
geographic composition.
September 30, December 31,
2005 2004
------------- ------------
State
California ................................... 10.0% 10.3%
Texas ........................................ 7.6% 7.8%
New York ..................................... 6.7% 6.8%
All other states ............................. 55.2% 52.8%
---- ----
Total U.S. ................................ 79.5% 77.7%
==== ====
Country
Canada ....................................... 5.5% 5.5%
England ...................................... 3.5% 3.9%
Australia .................................... 1.1% 1.3%
China ........................................ 1.1% 1.2%
France ....................................... 1.0% 1.4%
Germany ...................................... 1.0% 1.2%
All other countries .......................... 7.3% 7.8%
---- ----
Total Outside U.S. ........................ 20.5% 22.3%
==== ====
During August and September 2005, hurricanes damaged our customers' places
of business and homes along the Gulf coast from Texas to the panhandle of
Florida. Our owned and securitized asset exposure in the three most impacted
states (Louisiana, Mississippi, and Alabama) was $925 million and $200 million
at September 30, 2005. See Reserve for Credit Losses and Note 3 for additional
information.
Industry Composition
The following discussions provide information with respect to selected
industry compositions.
39
Aerospace
Our commercial and regional aerospace portfolios reside in the Capital
Finance segment.
The commercial aircraft all comply with Stage III noise regulations. The
following table summarizes the composition of the commercial aerospace portfolio
($ in millions):
September 30, 2005 December 31, 2004
----------------------- -----------------------
Net Net
Investment Number Investment Number
---------- ------ ---------- ------
By Region:
Europe .................................................... $2,217.2 72 $2,160.0 72
North America ............................................. 1,061.4 59 1,057.7 66
Asia Pacific .............................................. 1,467.6 50 1,242.4 46
Latin America ............................................. 531.7 21 611.3 25
Africa / Middle East ...................................... 255.6 6 54.2 3
-------- --- -------- ---
Total ........................................................ $5,533.5 208 $5,125.6 212
======== === ======== ===
By Manufacturer:
Boeing .................................................... $2,603.7 124 $2,558.8 133
Airbus .................................................... 2,886.6 76 2,536.9 70
Other ..................................................... 43.2 8 29.9 9
-------- --- -------- ---
Total ........................................................ $5,533.5 208 $5,125.6 212
======== === ======== ===
By Body Type(1):
Narrow body ............................................... $4,091.6 163 $3,894.9 168
Intermediate .............................................. 1,101.8 21 842.7 18
Wide body ................................................. 296.9 16 358.1 17
Other ..................................................... 43.2 8 29.9 9
-------- --- -------- ---
Total ........................................................ $5,533.5 208 $5,125.6 212
======== === ======== ===
By Product:
Operating lease ........................................... $4,799.2 168 $4,324.6 167
Leverage lease (other) .................................... 342.6 12 336.6 12
Leverage lease (tax optimized) ............................ 182.5 8 221.0 9
Capital lease ............................................. 126.3 6 137.4 6
Loan ...................................................... 82.9 14 106.0 18
-------- --- -------- ---
Total ........................................................ $5,533.5 208 $5,125.6 212
======== === ======== ===
Other Data:
Off-lease aircraft ........................................... 2 2
Number of accounts ........................................... 97 92
Weighted average age of fleet (years) ........................ 6 6
Largest customer net investment .............................. $ 279.3 $ 286.4
- --------------------------------------------------------------------------------
(1) Narrow body are single aisle design and consist primarily of Boeing 737
and 757 series and Airbus A320 series aircraft. Intermediate body are
smaller twin aisle design and consist primarily of Boeing 767 series and
Airbus A330 series aircraft. Wide body are large twin aisle design, which
consist primarily of Boeing 747 and 777 series and McDonnell Douglas DC10
series aircraft.
The top five commercial aerospace exposures, which totaled $1,064.3
million at September 30, 2005, are to carriers outside of the U.S. The largest
exposure to a U.S. carrier at September 30, 2005 was $158.9 million. Future
revenues and aircraft values could be impacted by the actions of the carriers,
management's actions with respect to re-marketing the aircraft, airline industry
performance and aircraft utilization levels.
The profitability of the commercial aerospace portfolio has improved over
the past year reflecting a number of positive factors including: improving
global demand for commercial aircraft, continued recovery in rental rates and
lower tax rates. Additionally, the risk-based capital returns on new aircraft
deliveries (from our existing order book) exceed our targeted hurdle rate.
The regional aircraft portfolio at September 30, 2005 consisted of 117
planes and a net investment of $291.4 million. The carriers are primarily
located in North America and Latin America. Operating leases account for about
32.7% of the portfolio, with the balance capital leases or loans. At December
31, 2004, the portfolio consisted of 121 planes with a net investment of $302.6
million.
40
At September 30, 2005, two commercial aircraft were off-lease (book value
of $47.6 million). Generally, commercial aerospace leases are being written for
terms between three and five years. There were two aircraft off-lease with a
total book value of approximately $2.8 million within the regional aircraft
portfolio at September 30, 2005.
The following is a list of our exposure to aerospace carriers that have
filed for bankruptcy protection and the current status of our related aircraft
at September 30, 2005:
o UAL Corp. -- United Airlines leases two CIT-owned narrow body
aircraft (Boeing 757 aircraft) with a net investment of $44.9
million. We hold Senior A tranche Enhanced Equipment Trust
Certificates ("EETCs") issued by United Airlines, which are debt
instruments collateralized by aircraft operated by the airline, with
a fair value of $32.3 million. Further, we have an outstanding
balance of $9.6 million (with a commitment of $31.3 million)
relating to a debtor-in-possession facility in connection with
United Airlines' filing under Chapter 11.
o US Airways -- US Airways exited its second Chapter 11 filing via a
merger with America West. One CIT-owned 737-300 remains with the
airline through 2007, for a total net investment of $5.8 million.
o Delta Air Lines -- On September 14, 2005, Delta Air Lines announced
that it had filed for reorganization under Chapter 11 of the U.S.
Bankruptcy Code. We are currently in negotiations under Section 1110
of the Code. We have loans and leases secured by eight aircraft for
a total net investment of $88.5 million.
o Northwest Airlines -- On September 14, 2005, Northwest Airlines
announced that it had filed for reorganization under Chapter 11 of
the U.S. Bankruptcy Code. We are currently in negotiations under
Section 1110 of the Code with respect to one aircraft and have been
notified that two other aircraft will be returned. As of September
30, 2005, we had $49.7 million in finance receivables from Northwest
Airlines.
In total, we have exposures to U.S. commercial airline hub carriers of
approximately $389 million at September 30, 2005. See "Reserve for Credit
Losses" for additional information regarding our reserves and the applicability
to commercial aerospace.
Our aerospace assets include both operating leases and capital leases.
Management considers current lease rentals as well as relevant and available
market information (including third party sales for similar equipment, published
appraisal data and other marketplace information) both in determining
undiscounted future cash flows when testing for the existence of impairment and
in determining estimated fair value in measuring impairment. We adjust the
depreciation schedules of commercial aerospace equipment on operating leases or
residual values underlying capital leases when required. Aerospace assets are
reviewed for impairment annually, or more often should events or circumstances
warrant. An aerospace asset is defined as impaired when the expected
undiscounted cash flow over its expected remaining life is less than its book
value. Both historical information and current economic trends are factored into
the assumptions and analyses used when determining the expected undiscounted
cash flow. Included among these assumptions are the following:
o Lease terms
o Remaining life of the asset
o Lease rates
o Remarketing prospects
o Maintenance costs
In conjunction with capital optimization and risk management activities,
we are actively managing the composition of the commercial aerospace portfolio
in terms of type and age of aircraft, among other factors. As a result, we may
consider sales of certain aircraft and new aircraft deliveries in the future.
See table in "Risk Management" section and Note 10 -- Commitments and
Contingencies for additional information regarding commitments to purchase
additional aircraft. See Note 4 -- Concentrations for further discussion on
concentrations.
41
Risk Management
Our risk management process is described in more detail in our 2004 Annual
Report on Form 10-K. Our processes remained substantially the same as outlined
in our 2004 Form 10-K.
Interest Rate Risk Management -- We monitor our interest rate sensitivity on a
regular basis by analyzing the impact of interest rate changes upon the
financial performance of the business. We also consider factors such as the
strength of the economy, customer prepayment behavior and re-pricing
characteristics of our assets and liabilities.
We evaluate and monitor various risk metrics:
o Margin at Risk, which measures the impact of changing interest rates
upon interest income over the subsequent twelve months. See Net
Finance Margin section for discussion and results of this
simulation.
o Value at Risk, which measures the net economic value of assets by
assessing the duration of assets and liabilities.
The following table summarizes the composition of our interest rate
sensitive assets and liabilities before and after swaps:
Before Swaps After Swaps
-------------------------- ---------------------------
Fixed rate Floating rate Fixed rate Floating rate
---------- ------------- ---------- -------------
September 30, 2005
Assets................................................. 49% 51% 49% 51%
Liabilities............................................ 49% 51% 43% 57%
December 31, 2004
Assets................................................. 55% 45% 55% 45%
Liabilities............................................ 60% 40% 46% 54%
Total interest sensitive assets were $49.9 billion and $41.7 billion at
September 30, 2005 and December 31, 2004. Total interest sensitive liabilities
were $44.0 billion and $35.9 billion at September 30, 2005 and December 31,
2004. The addition of the education lending receivables and related debt during
first quarter increased the proportions of floating-rate assets and liabilities
at September 30, 2005, as compared to December 31, 2004.
Foreign Exchange Risk Management -- CIT utilizes foreign currency exchange
forward contracts to hedge or mitigate currency risk underlying foreign currency
loans to subsidiaries and the net investments in foreign operations to the
extent local foreign currency borrowings are not raised. These contracts are
designated as foreign currency cash flow hedges or net investment hedges and
changes in fair value of these contracts are recorded in accumulated other
comprehensive loss along with the translation gains and losses on the underlying
hedged items. Translation gains and losses of the underlying foreign net
investment, as well as offsetting derivative gains and losses on designated
hedges, are reflected in accumulated other comprehensive loss in the
Consolidated Balance Sheets. CIT also utilizes cross currency swaps to hedge
currency risk underlying foreign currency debt and selected foreign currency
assets. These swaps are designated as foreign currency cash flow hedges or
foreign currency fair value hedges and changes in fair value of these contracts
are recorded in accumulated other comprehensive loss (for cash flow hedges), or
effectively as a basis adjustment (including the impact of the offsetting
adjustment to the carrying value of the hedged item) to the hedged item (for
fair value hedges) along with the transaction gains and losses on the underlying
hedged items. CIT also has certain cross-currency swaps which economically hedge
exposures, but do not qualify for hedge accounting.
Liquidity Risk Management and Capital Resources -- Liquidity risk refers to the
risk of being unable to meet potential cash outflows promptly and
cost-effectively. Factors that could cause such a risk to arise might be a
disruption of a securities market or other source of funds. We actively manage
and mitigate liquidity risk by maintaining diversified sources of funding and
committed alternate sources of funding, and we maintain and periodically review
a contingency funding plan to be implemented in the event of any form of market
disruption. Additionally, we target our debt issuance strategy to achieve a
maturity profile designed to reduce refinancing risk. The primary funding
sources are commercial paper (U.S., Canada and Australia), long-term debt (U.S.
and International) and asset-backed securities (U.S. and Canada).
42
Outstanding commercial paper totaled $5.2 billion at September 30, 2005,
compared with $4.2 billion at December 31, 2004. Our targeted U.S. program size
remains at $5.0 billion with modest programs aggregating approximately $500
million to be maintained in Canada and Australia. Our goal is to maintain
committed bank lines in excess of aggregate outstanding commercial paper. We
have aggregate bank facilities of $6.3 billion in multi-year facilities. We also
have a 5-year unsecured committed line of credit of $750 million, of which $306
million has been drawn as of September 30, 2005. In addition, we have a separate
364-day unsecured committed line of credit of $152 million, which supports the
Australian commercial paper program.
We maintain registration statements with the Securities and Exchange
Commission ("SEC") covering debt securities that we may sell in the future. At
September 30, 2005, our registration statements had $4.5 billion of registered,
but unissued, securities available, under which we may issue debt securities and
other capital market securities. Term-debt issued during 2005 totaled $9.4
billion: $4.9 billion in variable-rate medium-term notes and $4.5 billion in
fixed-rate notes. Included with the fixed rate notes are issuances under a
retail note program in which we offer fixed-rate senior, unsecured notes
utilizing numerous broker-dealers for placement to retail accounts. During 2005,
we issued $0.3 billion under this program having maturities of between 2 and 10
years.
To further strengthen our funding capabilities, we maintain committed
asset backed facilities and shelf registration statements, which cover a range
of assets from equipment to consumer home lending and student lending
receivables and trade accounts receivable. While these are predominately in the
U.S., we also maintain facilities for Canadian domiciled assets. As of September
30, 2005, we had approximately $5.0 billion of availability in our committed
asset-backed facilities and $5.0 billion of registered, but unissued, securities
available under public shelf registration statements relating to our
asset-backed securitization program.
Our committed asset-backed commercial paper programs in the U.S. and
Canada provide a substantial source of alternate liquidity. We also maintain
committed bank lines of credit to provide backstop support of commercial paper
borrowings and local bank lines to support our international operations.
Additional sources of liquidity are loan and lease payments from customers,
whole-loan asset sales and loan syndications.
We also target and monitor certain liquidity metrics to ensure both a
balanced liability profile and adequate alternate liquidity availability as
outlined in the following table:
Liquidity Measurement Current Target September 30, 2005 December 31, 2004
- --------------------- -------------- ------------------ -----------------
Commercial paper to total debt.......................... Maximum of 15% 12% 11%
Short-term debt to total debt........................... Maximum of 45% 34% 31%
Bank lines to commercial paper.......................... Minimum of 100% 134% 150%
Aggregate alternative liquidity* to short-term debt..... Minimum of 75% 94% 108%
- --------------------------------------------------------------------------------
* Aggregate alternative liquidity includes available bank facilities,
asset-backed facilities and cash.
Our credit ratings are an important factor in meeting our earnings and
margin targets as better ratings generally correlate to lower cost of funds (see
Net Finance Margin, interest expense discussion). The following credit ratings
have been in place since September 30, 2002:
Short-Term Long-Term Outlook
---------- --------- -------
Moody's.................................... P-1 A2 Stable
Standard & Poor's.......................... A-1 A Stable
Fitch...................................... F1 A Stable
DBRS....................................... R-1L A Stable
The credit ratings stated above are not a recommendation to buy, sell or
hold securities and may be subject to revision or withdrawal by the assigning
rating organization. Each rating should be evaluated independently of any other
rating.
We have certain covenants contained in our legal documents that govern our
funding sources. The most significant covenant in CIT's indentures and credit
agreements is a minimum net worth requirement defined as total equity of $4.0
billion.
43
The following tables summarize significant contractual obligations and projected
cash receipts, and contractual commitments at September 30, 2005 ($ in
millions):
Payments and Collections(3) by Twelve Month Period Ending September 30,
-----------------------------------------------------------------------------
Total 2006 2007 2008 2009 2010+
--------- --------- --------- --------- --------- ---------
(Restated) (Restated) (Restated)
Commercial Paper ................................. $ 5,185.1 $ 5,185.1 $ -- $ -- $ -- $ --
Variable-rate senior unsecured notes ............. 14,318.1 7,007.2 4,169.8 1,964.5 833.0 343.6
Fixed-rate senior unsecured notes ................ 21,405.9 3,108.6 2,585.5 2,457.5 1,660.6 11,593.7
Non-recourse, secured borrowings ................. 3,737.7 11.6 -- -- -- 3,726.1
Preferred capital security ....................... 252.5 -- -- -- -- 252.5
Lease rental expense ............................. 316.9 54.6 51.8 44.6 25.9 140.0
--------- --------- --------- --------- --------- ---------
Total contractual obligations ................. 45,216.2 15,367.1 6,807.1 4,466.6 2,519.5 16,055.9
--------- --------- --------- --------- --------- ---------
Finance receivables(1) ........................... 42,685.2 13,328.2 4,580.4 3,989.2 2,680.1 18,107.3
Operating lease rental income .................... 3,617.1 1,237.0 882.9 588.8 386.9 521.5
Finance receivables held for sale(2) ............. 1,848.4 1,848.4 -- -- -- --
Cash -- current balance .......................... 1,935.4 1,935.4 -- -- -- --
Retained interest in securitizations
and other investments ......................... 1,180.9 864.7 133.2 71.8 81.0 30.2
--------- --------- --------- --------- --------- ---------
Total projected cash receipts ................. 51,267.0 19,213.7 5,596.5 4,649.8 3,148.0 18,659.0
--------- --------- --------- --------- --------- ---------
Net projected cash inflow (outflow) .............. $ 6,050.8 $ 3,846.6 $(1,210.6) $ 183.2 $ 628.5 $ 2,603.1
========= ========= ========= ========= ========= =========
- --------------------------------------------------------------------------------
(1) Based upon contractual cash flows; actual amounts could differ due to
prepayments, extensions of credit, charge-offs and other factors.
(2) Based upon management's intent to sell rather than the contractual
maturities of underlying assets.
(3) Projected proceeds from the sale of operating lease equipment, interest
revenue from finance receivables, debt interest expense and other items
are excluded. Obligations relating to postretirement programs are also
excluded.
Commitment Expiration by September 30,
--------------------------------------------------------------------------------
Total 2006 2007 2008 2009 2010+
--------- --------- --------- --------- --------- ---------
Credit extensions(1) ........................ $ 9,523.1 $ 1,674.0 $ 723.8 $ 987.6 $ 897.6 $ 5,240.1
Aircraft purchases .......................... 3,091.0 716.0 819.0 687.0 308.0 561.0
Letters of credit ........................... 1,017.0 910.3 3.3 27.8 64.6 11.0
Sale-leaseback payments ..................... 464.7 31.0 31.0 31.0 31.0 340.7
Manufacturer purchase commitments ........... 372.8 372.8 -- -- -- --
Guarantees .................................. 213.0 200.9 -- 10.5 1.6 --
Acceptances ................................. 24.7 24.7 -- -- -- --
--------- --------- --------- --------- --------- ---------
Total contractual commitments ............ $14,706.3 $ 3,929.7 $ 1,577.1 $ 1,743.9 $ 1,302.8 $ 6,152.8
========= ========= ========= ========= ========= =========
- --------------------------------------------------------------------------------
(1) Excludes amounts related to a third-party vendor program that are
cancelable at any time or for any reason by the Company. See Note 10 for
additional explanation.
Off-Balance Sheet Arrangements
Securitization Program
We fund asset originations on our balance sheet by accessing various
sectors of the capital markets, including the term debt and commercial paper
markets. In an effort to broaden funding sources and provide an additional
source of liquidity, we use an array of securitization programs, including both
asset-backed commercial paper and term structures, to access both the public and
private asset-backed securitization markets. Current products in these programs
include receivables and leases secured by equipment as well as consumer loans
secured by residential real estate. The following table summarizes data relating
to our securitization balance and activity ($ in millions):
September 30, December 31,
2005 2004
------------- ------------
Securitized Assets:
Specialty Finance - commercial.................. $3,996.2 $4,165.5
Specialty Finance - home lending................ 911.4 1,228.7
Equipment Finance............................... 2,585.7 2,915.5
Corporate Finance............................... 46.1 --
-------- --------
Total securitized assets...................... $7,539.4 $8,309.7
======== ========
Securitized assets as a % of managed assets..... 12.3% 15.5%
======== ========
44
Quarters Ended Nine Months Ended
September 30, September 30,
-------------------- ---------------------
2005 2004 2005 2004
-------- -------- -------- --------
Volume Securitized:
Specialty Finance - commercial ........................ $1,036.2 $ 458.4 $2,498.5 $1,897.2
Equipment Finance ..................................... 360.3 325.4 879.7 970.2
-------- -------- -------- --------
Total volume securitized ............................ $1,396.5 $ 783.8 $3,378.2 $2,867.4
======== ======== ======== ========
Under our typical asset-backed securitization, we sell a "pool" of secured
loans or leases to a special-purpose entity ("SPE"), typically a trust. SPEs are
used to achieve "true sale" requirements for these transactions in accordance
with SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets
and Extinguishment of Liabilities." The special-purpose entity, in turn, issues
certificates and/or notes that are collateralized by the pool and entitle the
holders thereof to participate in certain pool cash flows. Accordingly, CIT has
no legal obligations to repay the securities in the event of a default by the
SPE. CIT retains the servicing rights of the securitized contracts, for which we
earn a servicing fee. We also participate in certain "residual" cash flows (cash
flows after payment of principal and interest to certificate and/or note
holders, servicing fees and other credit-related disbursements). At the date of
securitization, we estimate the "residual" cash flows to be received over the
life of the securitization, record the present value of these cash flows as a
retained interest in the securitization (retained interests can include bonds
issued by the special-purpose entity, cash reserve accounts on deposit in the
special-purpose entity or interest only receivables) and typically recognize a
gain. Assets securitized are shown in our managed assets and our capitalization
ratios on a managed basis.
In estimating residual cash flows and the value of the retained interests,
we make a variety of financial assumptions, including pool credit losses,
prepayment speeds and discount rates. These assumptions are supported by both
our historical experience and anticipated trends relative to the particular
products securitized. Subsequent to recording the retained interests, we review
them quarterly for impairment based on estimated fair value. These reviews are
performed on a disaggregated basis. Fair values of retained interests are
estimated utilizing current pool demographics, actual note/certificate
outstandings, current and anticipated credit losses, prepayment speeds and
discount rates.
Our retained interests had a carrying value at September 30, 2005 of $1.1
billion. Retained interests are subject to credit and prepayment risk. As of
September 30, 2005, approximately 50% of our outstanding securitization pool
balances are in conduit structures. Securitized assets are subject to the same
credit granting and monitoring processes which are described in the "Credit Risk
Management" section.
The key assumptions used in measuring the retained interests at the date
of securitization for transactions completed during 2005 were as follows:
Commercial Equipment
-----------------------
Specialty Equipment
Finance Finance
--------- ---------
Weighted average prepayment speed..................... 40.04% 12.48%
Weighted average expected credit losses............... 0.38% 0.73%
Weighted average discount rate........................ 6.58% 9.00%
Weighted average life (in years)...................... 1.26 2.04
The key assumptions used in measuring the fair value of retained interests
in securitized assets at September 30, 2005 were as follows:
Commercial Equipment Home Lending
------------------------ and Recreational
Specialty Equipment Manufactured Vehicles
Finance Finance(1) Housing and Boats
--------- ---------- ------------ ------------
Weighted average prepayment speed...................... 21.8% 11.7% 25.7% 21.5%
Weighted average expected credit losses................ 0.86% 1.22% 1.52% 1.13%
Weighted average discount rate......................... 7.74% 9.30% 13.10% 15.00%
Weighted average life (in years)....................... 1.16 1.49 3.13 2.63
- --------------------------------------------------------------------------------
(1) Includes retained interests transferred to Corporate Finance during 2005.
45
The student lending business, which was acquired in February 2005, is
funded largely with securitization structures that do not meet the accounting
requirements for sales treatment, and are therefore accounted for as secured
borrowings. Accordingly, the related receivables, restricted cash and debt are
"on balance sheet," and there are no gains on sale or retained interests in
securitizations related to these transactions. See disclosure in Item 1.
Consolidated Financial Statements, Note 1 -- Summary of Significant Accounting
Policies.
See Profitability and Other Revenue for additional information regarding
estimated hurricane losses relating to securitized assets.
Joint Venture Activities
We utilize joint ventures organized through distinct legal entities to
conduct financing activities with certain strategic vendor partners. Receivables
are originated by the joint venture and purchased by CIT. The vendor partner and
CIT jointly own these distinct legal entities, and there is no third-party debt
involved. These arrangements are accounted for using the equity method, with
profits and losses distributed according to the joint venture agreement. See
disclosure in Item 1. Consolidated Financial Statements, Note 8 -- Certain
Relationships and Related Transactions.
Capitalization
The following table presents information regarding our capital structure
($ in millions):
September 30, December 31,
2005 2004
------------- ------------
(Restated)
Commercial paper and term debt ............... $44,646.8 $37,471.0
--------- ---------
Total common stockholders' equity(1) ......... 6,075.8 6,073.7
Preferred stock .............................. 500.0 --
--------- ---------
Total stockholders' equity(1) ............. 6,575.8 6,073.7
Preferred capital securities ................. 252.5 253.8
--------- ---------
Total stockholders' equity(1) and
preferred capital securities ............ 6,828.3 6,327.5
Goodwill and other intangible assets ......... (1,003.8) (596.5)
--------- ---------
Total tangible stockholders' equity(1)
and preferred capital securities ........ 5,824.5 5,731.0
--------- ---------
Total tangible capitalization ................ $50,471.3 $43,202.0
========= =========
Tangible stockholders' equity(1) and
preferred capital securities to
managed assets ............................ 9.50% 10.72%
Tangible book value per common share(2) ...... $ 25.33 $ 26.03
- --------------------------------------------------------------------------------
(1) Stockholders' equity excludes the impact of the changes in fair values of
derivatives qualifying as cash flow hedges and certain unrealized gains or
losses on retained interests and investments, as these amounts are not
necessarily indicative of amounts that will be realized. See "Non-GAAP
Financial Measurements."
(2) Tangible book value per common share outstanding is the sum of total
common stockholders' equity less goodwill and other intangible assets
divided by outstanding common stock.
The student lending acquisition in Specialty Finance - consumer, a
factoring purchase in Commercial Services and a healthcare acquisition in
Corporate Finance drove the increase in goodwill and acquired intangibles from
December 2004.
During the September 2005 quarter, CIT issued $500 million aggregate
amount of Series A and Series B preferred equity securities. Series A has a
stated value of $350 million, comprised of 14 million shares of 6.35%
non-cumulative fixed rate preferred stock, with a liquidation value of $25 per
share. Series B has a stated value of $150 million, comprised of 1.5 million
shares of 5.189% non-cumulative adjustable rate preferred stock, with a
liquidation value of $100 per share. (See Note 6 -- Stockholders' Equity for
further detail on preferred stock.)
The preferred capital securities are 7.7% Preferred Capital Securities
issued in 1997 by CIT Capital Trust I, a wholly-owned subsidiary. CIT Capital
Trust I invested the proceeds of that issue in Junior Subordinated Debentures of
CIT having identical rates and payment dates. Both Preferred Stock and Preferred
Capital Securities are included in tangible equity in our leverage ratios. See
"Non-GAAP Financial Measurements" for additional information.
See "Liquidity Risk Management and Capital Resources" for discussion of
risks impacting our liquidity and capitalization.
46
Critical Accounting Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States ("GAAP") requires management
to use judgment in making estimates and assumptions that affect reported amounts
of assets and liabilities, the reported amounts of income and expense during the
reporting period and the disclosure of contingent assets and liabilities at the
date of the financial statements. We consider accounting estimates relating to
the following to be critical in applying our accounting policies:
o Investments
o Charge-off of Finance Receivables
o Impaired Loans
o Reserve for Credit Losses
o Retained Interests in Securitizations
o Lease Residual Values
o Goodwill and Intangible Assets
o Income Tax Reserves and Deferred Income Taxes
There have been no significant changes to the methodologies and processes
used in developing estimates relating to these items from what is described in
our 2004 Annual Report on Form 10-K.
Statistical Data
The following table presents components of net income as a percentage of
AEA, along with other selected financial data ($ in millions):
Nine Months Ended
September 30,
-------------------------
2005 2004
---------- ----------
(Restated)
Finance income ................................... 9.29% 9.67%
Interest expense ................................. 3.84% 3.20%
---------- ----------
Net finance income ............................... 5.45% 6.47%
Depreciation on operating lease equipment ........ 2.04% 2.53%
---------- ----------
Net finance margin ............................... 3.41% 3.94%
Provision for credit losses ...................... 0.46% 0.74%
---------- ----------
Net finance margin after provision
for credit losses .............................. 2.95% 3.20%
Other revenue .................................... 2.40% 2.39%
---------- ----------
Operating margin ................................. 5.35% 5.59%
Salaries and general operating expenses .......... 2.30% 2.58%
Provision for restructuring ...................... 0.07% --
Gain on redemption of debt ....................... -- 0.14%
---------- ----------
Income before provision for income taxes ......... 2.98% 3.15%
Provision for income taxes ....................... (1.01)% (1.23)%
Minority interest, after tax ..................... (0.01)% --
---------- ----------
Net income .................................... 1.96% 1.92%
Preferred stock dividends ........................ (0.01)% --
---------- ----------
Net income available to common stockholders ... 1.95% 1.92%
========== ==========
Average Earning Assets ........................... $ 47,091.0 $ 38,119.0
========== ==========
47
Non-GAAP Financial Measurements
The SEC adopted Regulation G, which applies to any public disclosure or
release of material information that includes a non-GAAP financial measure. The
accompanying Management's Discussion and Analysis of Financial Condition and
Results of Operations and Quantitative and Qualitative Disclosure about Market
Risk contain certain non-GAAP financial measures. The SEC defines a non-GAAP
financial measure as a numerical measure of a company's historical or future
financial performance, financial position, or cash flows that excludes amounts,
or is subject to adjustments that have the effect of excluding amounts, that are
included in the most directly comparable measure calculated and presented in
accordance with GAAP in the financial statements or includes amounts, or is
subject to adjustments that have the effect of including amounts, that are
excluded from the most directly comparable measure so calculated and presented.
Non-GAAP financial measures disclosed in this report are meant to provide
additional information and insight relative to historical operating results and
financial position of the business and in certain cases to provide financial
information that is presented to rating agencies and other users of financial
information. These measures are not in accordance with, or a substitute for,
GAAP and may be different from or inconsistent with non-GAAP financial measures
used by other companies.
Selected non-GAAP disclosures are presented and reconciled in the table
below ($ in millions):
September 30, December 31,
2005 2004
------------- ------------
(Restated)
Managed assets(1):
Finance receivables .............................. $42,685.2 $35,048.2
Operating lease equipment, net ................... 9,184.4 8,290.9
Financing and leasing assets held for sale ....... 1,848.4 1,640.8
Equity and venture capital investments
(included in other assets) .................... 31.1 181.0
--------- ---------
Total financing and leasing portfolio assets ..... 53,749.1 45,160.9
Securitized assets ............................... 7,539.4 8,309.7
--------- ---------
Managed assets ................................ $61,288.5 $53,470.6
========= =========
Earning assets(2):
Total financing and leasing portfolio assets ..... $53,749.1 $45,160.9
Credit balances of factoring clients ............. (4,267.1) (3,847.3)
--------- ---------
Earning assets ................................ $49,482.0 $41,313.6
========= =========
Total tangible stockholders' equity(3):
Total common stockholders' equity ................ $ 6,111.8 $ 6,055.1
Other comprehensive (income) loss relating
to derivative financial instruments ........... (15.5) 27.1
Unrealized gain on securitization investments .... (20.5) (8.5)
Goodwill and intangible assets ................... (1,003.8) (596.5)
--------- ---------
Tangible common stockholders' equity ............. 5,072.0 5,477.2
Preferred stock .................................. 500.0 --
Preferred capital securities ..................... 252.5 253.8
--------- ---------
Total tangible stockholders' equity ........... $ 5,824.5 $ 5,731.0
========= =========
Debt, net of overnight deposits(4):
Total debt ....................................... $44,899.3 $37,724.8
Overnight deposits ............................... (962.0) (1,507.3)
Preferred capital securities ..................... (252.5) (253.8)
--------- ---------
Debt, net of overnight deposits ............... $43,684.8 $35,963.7
========= =========
- --------------------------------------------------------------------------------
(1) Managed assets are utilized in certain credit and expense ratios.
Securitized assets are included in managed assets because CIT retains
certain credit risk and the servicing related to such assets.
(2) Earning assets are utilized in certain revenue and earnings ratios.
Earning assets are net of credit balances of factoring clients. This net
amount, which corresponds to amounts funded, is a basis for revenues
earned.
(3) Total tangible stockholders' equity is utilized in leverage ratios, and is
consistent with certain rating agency measurements. Other comprehensive
income/losses and unrealized gains on securitization investments (both
included in the separate component of equity) are excluded from the
calculation, as these amounts are not necessarily indicative of amounts
which will be realized.
(4) Debt, net of overnight deposits is utilized in certain leverage ratios.
Overnight deposits are excluded from these calculations, as these amounts
are retained by the Company to repay debt. Overnight deposits are
reflected in both debt and cash and cash equivalents.
48
Forward-Looking Statements
Certain statements contained in this document are "forward-looking
statements" within the meaning of the U.S. Private Securities Litigation Reform
Act of 1995. All statements contained herein that are not clearly historical in
nature are forward-looking and the words "anticipate," "believe," "expect,"
"estimate," "target" and similar expressions are generally intended to identify
forward-looking statements. Any forward-looking statements contained herein, in
press releases, written statements or other documents filed with the Securities
and Exchange Commission or in communications and discussions with investors and
analysts in the normal course of business through meetings, webcasts, phone
calls and conference calls, concerning our operations, economic performance and
financial condition are subject to known and unknown risks, uncertainties and
contingencies. Forward-looking statements are included, for example, in the
discussions about:
o our liquidity risk management,
o our credit risk management,
o our asset/liability risk management,
o our funding, borrowing costs and net finance margin,
o our capital, leverage and credit ratings,
o our operational and legal risks,
o our ability to remediate the material weakness in internal controls
related to income taxes,
o our growth rates,
o our commitments to extend credit or purchase equipment, and
o how we may be affected by legal proceedings.
All forward-looking statements involve risks and uncertainties, many of
which are beyond our control, which may cause actual results, performance or
achievements to differ materially from anticipated results, performance or
achievements. Also, forward-looking statements are based upon management's
estimates of fair values and of future costs, using currently available
information. Therefore, actual results may differ materially from those
expressed or implied in those statements. Factors that could cause such
differences include, but are not limited to:
o risks of economic slowdown, downturn or recession,
o industry cycles and trends,
o demographic trends,
o risks inherent in changes in market interest rates and quality
spreads,
o funding opportunities and borrowing costs,
o changes in funding markets, including commercial paper, term debt
and the asset-backed securitization markets,
o uncertainties associated with risk management, including credit,
prepayment, asset/liability, interest rate and currency risks,
o adequacy of reserves for credit losses, including amounts related to
hurricane losses and U.S. hub-carrier airlines,
o risks associated with the value and recoverability of leased
equipment and lease residual values,
o changes in laws or regulations governing our business and
operations,
o changes in competitive factors, and
o future acquisitions and dispositions of businesses or asset
portfolios.
49
Item 4. Controls and Procedures
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
Under the supervision and with the participation of our management,
including our principal executive officer and principal financial officer, we
conducted an evaluation of our disclosure controls and procedures as such term
is defined under Rule 13-a15(e) promulgated under the Securities Exchange Act of
1934, as amended (the "Exchange Act"). Based on this evaluation, our principal
executive officer and our principal financial officer concluded that our
disclosure controls and procedures were not effective as of the end of the
period covered by this interim quarterly report because of the material
weaknesses discussed below.
Changes in Internal Control Over Financial Reporting
Income Tax Accounting
As previously disclosed, management has determined that the lack of a
control capability to reconcile the difference between the tax basis and book
basis of each component of the Company's balance sheet with the deferred tax
asset and liability accounts constitutes a material weakness. Management has
performed alternative analyses and reconciliations of the income tax balance
sheet and income statement accounts and based thereon believes that the income
tax provision is appropriate and that the remediation will not result in a
material adjustment to the Company's reported balance sheet or net income.
In connection with the June 2001 acquisition by Tyco, our income tax
compliance, reporting and planning function was transferred to Tyco. This caused
a lapse in maintaining, developing and implementing changes to various income
tax financial reporting processes that are currently required. Following our
2002 IPO, we classified our tax reporting as a "reportable condition", as
defined by standards established by the American Institute of Certified Public
Accountants. As previously reported, we have made substantial progress with
respect to the reportable condition by hiring and training personnel, rebuilding
tax reporting systems, preparing amendments to prior U.S. Federal income tax
returns, and implementing processes and controls with respect to income tax
reporting and compliance. We continued to develop the processes and controls to
complete an analysis of our income tax asset and liability accounts, including
the refinement of, and reconciliation to transactional-level detail of, book to
tax differences. During the quarter ended September 30, 2005, we continued
developing the transactional-level reconciliations of book to tax differences of
our business units and legal entities, which in turn validated our current
methodology in connection with remediating the material weakness.
These transactional-level reconciliations cover the balance sheet amounts
at December 31, 2003 and 2004, and certain interim periods therein. In addition,
we initiated the 2005 interim period transaction-level reconciliations of book
to tax differences using the validated methodology. During the fourth quarter,
we will: (1) continue completion of this reconciliation work, (2) continue
completion of computations of other balance sheet tax assets and liabilities,
including the net operating loss carry forward, (3) assess the results of this
work with respect to the previously reported balances of our deferred tax assets
and liabilities and other tax assets and liabilities, and (4) proceed with
testing the internal controls over tax reporting in connection with our 2005
overall management assessment of internal controls.
Accordingly, as of the end of the period covered by this report, we have
not fully remediated the material weakness in the Company's internal control
over income tax deferred assets and liabilities but anticipate a resolution in
connection with issuing our 2005 financial statements.
Derivative Hedge Accounting
During the fourth quarter of 2005, we learned of an interpretation with
respect to applying the "matched terms" approach in hedge accounting under
Statement of Financial Accounting Standards No. 133, Accounting for Derivative
Instruments and Hedging Activities, as amended ("SFAS 133"). We reviewed our
accounting for certain cross-currency interest rate swaps ("compound swaps" or
"compound derivatives") under SFAS 133.
We determined that certain compound swaps were not appropriately accounted
for, even though these compound swaps were highly effective economic hedges of
the interest rate and currency exchange risks associated with corresponding
foreign denominated debt. We documented these swaps originally as "matched
50
terms" hedges, which assumes no hedge ineffectiveness. The swaps would have
qualified for "long-haul" hedge accounting with ineffectiveness reflected in
current earnings. However, the swaps did not qualify for hedge accounting
treatment from their inception, as SFAS 133 does not allow for subsequent
documentation modifications.
The elimination of hedge accounting from inception of the compound swaps
resulted in adjustments to originally reported earnings in each of the quarterly
periods of 2005 to reflect a significant component of the mark-to-market on
these swaps in earnings, which was previously reported as an adjustment to the
basis of the corresponding debt. These adjustments to earnings will reduce
future earnings by an equal amount through 2015.
A material weakness is a control deficiency, or combination of control
deficiencies, that results in more than a remote likelihood that a material
misstatement of the annual or interim financial statements will not be prevented
or detected.
As of December 31, 2004, the Company did not maintain effective controls
over the valuation and documentation of certain of its compound derivative
transactions. Specifically, the Company recognized certain derivative financial
instruments as hedges of interest rate risk without sufficient documentation as
required by accounting principles generally accepted in the United States.
Furthermore, the Company did not perform required periodic hedge effectiveness
testing because it was inappropriately assumed that the hedges were effective.
This control deficiency did not result in a material misstatement to the 2004
annual or interim consolidated financial statements. However, this control
deficiency resulted in the restatement of the Company's 2005 first, second and
third quarter interim consolidated financial statements. In addition, this
control deficiency could result in the misstatement of derivative related
accounts including other revenue, debt and other comprehensive income that would
result in a material misstatement of the annual or interim financial statements
that would not be prevented or detected. Accordingly, management has concluded
that this control deficiency constitutes a material weakness as of September 30,
2005.
In connection with this restatement, under the direction of our principal
executive officer and our principal financial officer, we determined that the
above constituted a material weakness in internal control with respect to our
accounting treatment and related hedge documentation for certain cross-currency
swaps as of September 30, 2005.
Remediation of Derivative Hedge Accounting Material Weakness in Internal Control
Over Financial Reporting
As of the date of this filing, we have fully remediated this material
weakness relating to derivative documentation and hedge accounting treatment.
Our remediation actions included the following:
o All of the subject compound swaps have been replaced with corresponding
stand alone replacement swaps (a cross-currency basis swap and an interest
rate swap, both with zero fair value at inception), which qualify for
hedge accounting treatment under SFAS 133.
o We do not intend to transact compound swaps prospectively and have
communicated a formal prohibition against such transactions to the
appropriate treasury, accounting, legal and internal audit personnel.
o We have updated our derivative policy manual to specifically prohibit the
use of compound swaps.
o We have conducted training sessions with the appropriate treasury,
accounting, legal and internal audit personnel with respect to the above
to ensure that we evaluate and document derivative transactions in
compliance with SFAS 133.
Other than the changes discussed above with respect to income tax
accounting and derivative hedge accounting, there have been no changes to the
Company's internal controls over financial reporting that occurred since the
beginning of the Company's first quarter of 2005 that have materially affected,
or are reasonably likely to materially affect, the Company's internal control
over financial reporting.
51
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
NorVergence Related Litigation
On September 9, 2004, Exquisite Caterers Inc., et al. v. Popular Leasing
Inc., et al. ("Exquisite Caterers"), a putative national class action, was filed
in the Superior Court of New Jersey against 13 financial institutions, including
CIT, which had acquired equipment leases ("NorVergence Leases") from
NorVergence, Inc., a reseller of telecommunications and Internet services to
businesses. The complaint alleged that NorVergence misrepresented the
capabilities of, and overcharged for, the equipment leased to its customers and
that the NorVergence Leases are unenforceable. Plaintiffs seek rescission,
punitive damages, treble damages and attorneys' fees. In addition, putative
class action suits in Illinois and Texas, all based upon the same core
allegations and seeking the same relief, were filed by NorVergence customers
against CIT and other financial institutions and remain pending. The Court in
Exquisite Caterers certified a New Jersey-only class, and a motion for
decertification is pending.
On July 14, 2004, the U.S. Bankruptcy Court ordered the liquidation of
NorVergence under Chapter 7 of the Bankruptcy Code. Thereafter, the Attorneys
General of several states commenced investigations of NorVergence and the
financial institutions, including CIT, that purchased NorVergence Leases. CIT
has entered into settlement agreements with the Attorneys General in each of
these states, except for Texas. Under those settlements, lessees have had an
opportunity to resolve all claims by and against CIT by paying a percentage of
the remaining balance on their leases. CIT has also produced documents related
to NorVergence at the request of the Federal Trade Commission ("FTC") and
pursuant to a subpoena in a grand jury proceeding being conducted by the U.S.
Attorney for the Southern District of New York in connection with an
investigation of transactions related to NorVergence.
Other Litigation
In addition, there are various legal proceedings that have been brought
against CIT in the ordinary course of business. While the outcomes of the
NorVergence related litigation and the ordinary course legal proceedings, and
the related activities, are not certain, based on present assessments,
management does not believe that they will have a material adverse effect on the
financial condition of CIT.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
The following table details the repurchase activity of CIT common stock
during the September 30, 2005 quarter:
Total Number of Maximum Number
Total Average Shares Purchased of Shares that May
Number of Price as Part of Publicly Yet be Purchased
Shares Paid Announced Plans Under the Plans
Purchased Per Share or Programs or Programs
----------- --------- ------------------- ------------------
Balance at June 30, 2005 ...................... 2,208,805 3,905,900
----------
July 1 - 31 2005 ........................... 510,800 $44.05 510,800 3,395,100
August 1 - 31, 2005 ........................ 374,503 $45.16 374,503 3,020,597
September 1 - 30, 2005 ..................... 594,600 $45.79 594,600 2,425,997
Accelerated stock buyback .................. 10,063,467 $44.48 10,063,467 (1)
----------
Total Purchases ............................ 11,543,370
----------
Reissuances(2) ................................ (1,736,931)
----------
Balance at September 30, 2005 ................. 12,015,244
==========
- --------------------------------------------------------------------------------
(1) On July 28, 2005, the Company paid $500 million and received an initial
delivery of 8,232,655 shares. On August 12, 2005, the Company received an
additional 1,830,812 shares under the program. CIT retains the right to
receive up to a maximum of 1,232,261 additional shares at the conclusion
of the program in the fourth quarter of 2005. The actual amount received
will depend on CIT's common stock price during the remaining term of the
repurchase agreement.
(2) Includes the issuance of common stock held in treasury upon exercise of
stock options, payment of employee stock purchase plan obligations and the
vesting of restricted stock.
52
In connection with a share repurchase program authorized by the Company's
Board of Directors, on July 19, 2005, the Company entered into an agreement to
purchase shares of the Company's common stock for an aggregate purchase price of
$500 million under an accelerated stock buyback program, which provided for the
upfront delivery of $500 million and the initial receipt of 8,232,655 shares by
CIT. The agreement also provides for two subsequent share deliveries, the first
of which occurred on August 12, 2005 when the Company received an additional
1,830,812 shares. The final delivery to CIT at the conclusion of the program
during the fourth quarter of 2005, which could be a maximum of 1,232,261
additional shares, will depend on the price of CIT common stock during the
remaining term of the agreement. The shares received are held in treasury.
Item 3. Default Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
53
Item 6. Exhibits
(a) Exhibits
3.1 Second Restated Certificate of Incorporation of the Company
(incorporated by reference to Form 10-Q filed by CIT on August
12, 2003).
3.2 Amended and Restated By-laws of the Company (incorporated by
reference to Form 10-Q filed by CIT on August 12, 2003).
3.3 Certificate of Designations relating to the Company's 6.350%
Non-Cumulative Preferred Stock, Series A (incorporated by
reference to Exhibit 3 to Form 8-A filed by CIT on July 29,
2005).
3.4 Certificate of Designations relating to the Company's
Non-Cumulative Preferred Stock, Series B (incorporated by
reference to Exhibit 3 to Form 8-A filed by CIT on July 29,
2005).
4.1 Indenture dated as of August 26, 2002 by and among CIT Group
Inc., Bank One Trust Company, N.A., as Trustee and Bank One
NA, London Branch, as London Paying Agent and London
Calculation Agent, for the issuance of unsecured and
unsubordinated debt securities (incorporated by reference to
Exhibit 4.18 to Form 10-K filed by CIT on February 26, 2003).
4.2 Indenture dated as of October 29, 2004 between CIT Group Inc.
and J.P. Morgan Trust Company, National Association for the
issuance of senior debt securities (incorporated by reference
to Exhibit 4.4 to Form S-3/A filed by CIT on October 28,
2004).
4.3 Certain instruments defining the rights of holders of CIT's
long-term debt, none of which authorize a total amount of
indebtedness in excess of 10% of the total amounts outstanding
of CIT and its subsidiaries on a consolidated basis have not
been filed as exhibits. CIT agrees to furnish a copy of these
agreements to the Commission upon request.
10.1* Master Confirmation Agreement and the related Supplemental
Confirmation dated as of July 19, 2005 between Goldman, Sachs
and Co. and CIT Group Inc. relating to CIT's accelerated stock
repurchase program (incorporated by reference to Exhibit 10.1
to Form 10-Q filed by CIT on August 5, 2005).
12.1 CIT Group Inc. and Subsidiaries Computation of Earnings to
Fixed Charges.
31.1 Certification of Jeffrey M. Peek pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
31.2 Certification of Joseph M. Leone pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
32.1 Certification of Jeffrey M. Peek pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
32.2 Certification of Joseph M. Leone pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
- --------------------------------------------------------------------------------
* Portions of this exhibit have been redacted and are subject to a
confidential treatment request filed with the Secretary of the Securities
and Exchange Commission pursuant to rule 24b-2 under the Securities and
Exchange Act of 1934, as amended.
54
SIGNATURES
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.
CIT GROUP INC.
By: /s/ JOSEPH M. LEONE
.........................................
Joseph M. Leone
Vice Chairman and Chief Financial Officer
By: /s/ WILLIAM J. TAYLOR
.........................................
William J. Taylor
Executive Vice President, Controller
and Principal Accounting Officer
December 13, 2005
55