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EXHIBIT 13
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ANNUAL REPORT TO SHAREHOLDERS
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Pursuant to Item 601(b)(13)(ii) of Regulation S-K and SEC Rule 14a-3(c), the
Annual Report is not deemed to be "filed" with the Commission except for those
portions that are expressly incorporated by reference in this filing.
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OLD KENT FINANCIAL
CORPORATION
1997
ANNUAL REPORT
OLD KENT LOGO
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OLD KENT FINANCIAL CORPORATION
1997 Annual Report
Contents Page
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Old Kent Financial Corporation S-2
A Message to our Shareholders S-2
Five-Year Summary of Selected Financial Data S-3
Financial Review S-4
Management's Responsibility for Financial Reporting S-37
Report of Independent Public Accountants S-38
Consolidated Financial Statements S-39
Notes to Consolidated Financial Statements S-44
Board of Directors and Senior Management inside back cover
S-1
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OLD KENT FINANCIAL CORPORATION
Old Kent Financial Corporation is a bank holding company. Its principal banking
subsidiary, Old Kent Bank, serves more than 100 communities in Michigan and
Illinois with 228 banking offices. Old Kent Bank engages in commercial and
retail banking and provides trust and other financial services. Approximately
83% of the Corporation's deposits and 84% of the Corporation's loans are
associated with banking offices serving the lower peninsula of Michigan. The
balance of banking assets are associated with offices serving northeastern
Illinois. Old Kent mortgage companies operate over 100 offices located in 25
states.
A MESSAGE TO OUR SHAREHOLDERS
This 1997 Annual Report contains audited financial statements and a detailed
financial review. This is Old Kent Financial Corporation's 1997 annual report to
shareholders. Although attached to our proxy statement, this report is not part
of our proxy statement, is not deemed to be soliciting material, and is not
deemed to be filed with the Securities and Exchange Commission (the "SEC")
except to the extent that it is expressly incorporated by reference in a
document filed with the SEC.
The 1997 Report to Shareholders accompanies this proxy statement. That report
presents information concerning the business and financial results of Old Kent
Financial Corporation in a format and level of detail that shareholders will
find useful and informative. Shareholders who would like to receive even more
detailed information than that contained in this 1997 Annual Report are invited
to request our Annual Report on Form 10-K.
THE ANNUAL REPORT ON FORM 10-K, AS FILED WITH THE SEC, WILL BE PROVIDED TO ANY
SHAREHOLDER, WITHOUT CHARGE, UPON WRITTEN REQUEST TO OLD KENT FINANCIAL
CORPORATION, ATTN. CORPORATE SECRETARY, 111 LYON STREET N.W., GRAND RAPIDS,
MICHIGAN 49503.
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FIVE-YEAR SUMMARY OF SELECTED FINANCIAL DATA
December 31
(dollars in thousands, except per share data) 1997 1996 1995 1994 1993
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FOR THE YEAR
Net interest income $ 525,927 $ 494,288 $ 476,693 $ 455,635 $ 427,587
Provision for credit losses 45,677 35,236 21,666 22,465 34,822
Net income 180,304 158,701 141,814 137,084 131,324
Cash dividends 64,059 59,122 55,334 49,869 44,984
AVERAGE FOR THE YEAR
Assets $13,298,246 $12,251,860 $11,674,214 $10,761,022 $ 9,718,875
Deposits 10,268,402 9,762,694 9,317,428 8,805,055 8,064,628
Loans 8,419,267 7,795,771 7,230,657 6,060,822 5,216,229
Total interest-earning assets 12,274,791 11,352,830 10,875,345 10,029,250 9,046,820
Subordinated debt 100,000 100,000 12,603 - 5,028
Guaranteed preferred beneficial interest in
the Corporation's junior subordinated
debentures 91,787 - - - -
Total shareholders' equity 1,027,100 1,000,841 960,858 884,415 802,016
AT YEAR-END
Assets $13,773,522 $12,646,828 $12,003,084 $11,477,723 $10,340,037
Deposits 10,228,290 10,080,147 9,357,366 9,429,337 8,411,203
Loans 8,469,477 8,097,056 7,430,552 6,854,849 5,344,712
Subordinated debt 100,000 100,000 100,000 - -
Guaranteed preferred beneficial interest in
the Corporation's junior subordinated
debentures 100,000 - - - -
Total shareholders' equity 1,027,453 993,757 1,015,936 895,997 850,040
PER COMMON SHARE*
Basic earnings $ 1.90 $ 1.63 $ 1.42 $ 1.38 $ 1.33
Diluted earnings 1.88 1.61 1.41 1.37 1.32
Cash dividends 0.674 0.605 0.554 0.509 0.461
Book value at year-end 11.07 10.53 10.15 8.96 8.50
Dividend payout ratio 35.9% 37.6% 39.3% 37.2% 34.9%
PERFORMANCE RATIOS
Return on average total equity 17.55% 15.86% 14.76% 15.50% 16.37%
Return on average assets 1.36% 1.30% 1.21% 1.27% 1.35%
Average equity to average assets 7.72% 8.17% 8.23% 8.22% 8.25%
Yield on average interest-earning assets 8.37% 8.40% 8.44% 7.66% 7.75%
Cost of average interest-bearing liabilities 4.71% 4.71% 4.71% 3.57% 3.44%
Average net interest spread 3.66% 3.69% 3.73% 4.09% 4.31%
Average net interest margin 4.34% 4.41% 4.46% 4.63% 4.82%
CAPITAL RATIOS AT YEAR-END
Equity to assets 7.46% 7.86% 8.46% 7.81% 8.22%
Leverage ratio 7.37% 7.31% 7.88% 7.30% 7.78%
Risk-based capital ratio -- Tier 1 9.52% 9.45% 10.59% 10.84% 12.61%
Risk-based capital ratio -- Tiers 1 & 2 11.73% 11.75% 13.01% 12.11% 13.87%
CREDIT QUALITY RATIOS
Allowance for credit losses to total loans 1.86% 2.05% 2.35% 2.44% 2.72%
Impaired loans to total loans 0.65% 0.53% 0.58% 0.88% 1.12%
Nonperforming assets to total assets 0.45% 0.39% 0.45% 0.63% 0.70%
Allowance to impaired loans 288% 388% 403% 277% 243%
Net charge-offs to average loans 0.58% 0.54% 0.19% 0.16% 0.33%
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*Per share data is shown adjusted for stock dividends and a stock split.
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FINANCIAL REVIEW
This financial review presents management's discussion and analysis of financial
condition and results of operations. It should be read in conjunction with the
consolidated financial statements beginning on page S-39 and the five year
summary of selected financial data on page S-3.
Forward-Looking Statements
This discussion and analysis of financial condition and results of operations,
and other sections of the Annual Report, contain forward-looking statements that
are based on management's beliefs, assumptions, current expectations, estimates
and projections about the financial services industry, the economy, and about
the Corporation itself. Words such as "anticipates", "believes", "estimates",
"expects", "forecasts", "intends", "is likely", "plans", "projects", variations
of such words and similar expressions are intended to identify such
forward-looking statements. These statements are not guarantees of future
performance and involve certain risks, uncertainties and assumptions ("Future
Factors") which are difficult to predict with regard to timing, extent,
likelihood and degree of occurrence. Therefore, actual results and outcomes may
materially differ from what may be expressed or forecasted in such
forward-looking statements. Old Kent undertakes no obligation to update, amend
or clarify forward-looking statements, as a result of new information, future
events, or otherwise.
Future Factors that could cause a difference between an ultimate actual outcome
and a preceding forward-looking statement include, but are not limited to,
changes in interest rates and interest rate relationships; demand for products
and services; the degree of competition by traditional and non-traditional
competitors; changes in banking laws or regulations; changes in tax laws;
changes in prices, levies, and assessments; the impact of technological
advances; government and regulatory policy changes; the outcome of pending and
future litigation and contingencies; trends in customer behaviors as well as
their ability to repay loans; and the vicissitudes of the world and national
economy.
Overview
Net income was $180.3 million for 1997, the thirty-ninth consecutive year of
increased earnings and dividends in Old Kent's history. This represented a 13.6%
increase over net income of $158.7 million for 1996. Diluted net income per
share was $1.88 for 1997, up by 16.8% over the $1.61 of diluted net income per
share for 1996. Diluted net income per common share has increased at an annual
compound rate of 10.5% over the past five years.
Effective with the fourth quarter of 1997, the quarterly cash dividend rate on
common stock was increased to $.18 per share. The new annualized rate of $.72
per share is 11.2% greater than the rate paid in the fourth quarter of 1996 and
includes the effect of a five percent stock dividend paid on July 28, 1997, and
a two-for-one stock split paid on December 15, 1997. Old Kent has paid cash
dividends which have increased each year since its formation as a holding
company in 1972. The compound annual growth rate for the Corporation's per share
dividend payment for the last five years is 11.6% and the dividend payout ratio
has averaged 36.6% over that same period.
Old Kent's mission includes maximizing shareholder value. The charts on pages 12
and 13 of the accompanying proxy statement compares the performance of Old Kent
Common Stock with the S&P 500 and the KBW 50 indices for a one, five and ten
year period ending December 31, 1997. The total return, as shown, is measured
using both stock price appreciation and the effect of reinvestment of cash
dividends paid. The S&P 500 index includes the performance of five hundred
individual stocks selected by Standard & Poor's Corporation to be a
representative indicator of a broad base of industries whose
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stocks are traded and available to the investing public. The KBW 50 index is
based upon the stock performance of 50 large banks selected by Keefe, Bruyette,
and Woods, Inc., specialists in the banking and thrift industries. The total
return of the KBW 50 index is calculated in the same manner as the S&P 500
index. The graph indicates that for each of these three time periods, the total
return on an investment in Old Kent Common Stock surpasses that of the S&P 500.
It also indicates that Old Kent's total return exceeded that of the KBW 50 in
1997, was similar to that of the KBW 50 for the five year period, and was 41%
better than the KBW 50 total return for that past ten year period. The following
table lists the December 31, 1997 value of an initial $100.00 investment made
one, five and ten years prior. It also lists the equivalent compound annual rate
of return.
Equivalent Compound
December 31, 1997 value of a Annual
$100 investment made Rate of Return
--------------------------------------- ---------------------------------
1 yr ago 5 yrs ago 10 yrs ago 1 year 5 year 10 year
- ----------------------------------------------------------------------------------------------------------------
Old Kent Common Stock $178.3 $317.3 $1,000.5 78.3% 26.0% 25.9 %
S&P 500 $133.4 $251.6 $ 524.8 33.4% 20.3% 18.0 %
KBW 50 $146.2 $331.7 $ 710.8 46.2% 27.1% 21.7 %
The Corporation's return on average total equity in 1997 was 17.55%, which
compared to its return on equity of 15.86% for 1996. Old Kent's return on equity
has averaged 16.0% over the past five years. Old Kent's return on average assets
was 1.36% for 1997 compared to 1.30% for 1996, and has averaged 1.30% over the
last five years.
Steady annual earnings increases have been attributable to balance sheet growth
and to increases in non-interest income. Total average interest-earning assets
increased by $922 million, or 8.1% in 1997 and by $477 million, or 4.4%, in
1996. Over the last five years, total average interest-earning assets have
increased at a compound annual growth rate of 7.4%. Interest-earning assets
primarily consist of securities (references to "Securities" include those
classified as available-for-sale and those classified as held-to-maturity) and
loans. Average securities decreased by $203 million or 6.6%, in 1997. This
decrease was primarily the result of Old Kent's use of liquidity to accommodate
loan growth. In 1997, total loans averaged $8,419 million, an increase of $623
million, or 8% more than the average for 1996. This growth in total loans was
the result of business acquisitions as well as internally generated growth. In
1996, total loans averaged $7,796 million and represented an increase of $565
million, or 7.8% more than the average for 1995.
Business of the Corporation
Old Kent Financial Corporation ("Old Kent" or the "Corporation") is a bank
holding company. The services offered by Old Kent's subsidiaries cover a wide
range of banking, fiduciary and other financial services. These include
commercial, mortgage, and retail loans, business and personal checking accounts,
savings and retirement accounts, time deposit instruments, automated teller
machines, debit cards and other electronically accessed banking services, money
transfer services, safe deposit facilities, cash management, real estate and
lease financing, international banking services, investment management and trust
services, personal investment and related advisory services, brokerage services,
and access to insurance products and credit cards.
The principal sources of revenues for Old Kent are interest and fees on loans,
which accounted for 58% of total revenues in 1997, 62% in 1996 and 62% in 1995.
Interest on securities accounted for 14% in 1997, 17% in 1996, and 19% in 1995.
Mortgage banking activities contributed 12% in 1997, 7% in 1996, and 5% in 1995.
Approximately 83% of total deposits and approximately 84% of total loans at
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December 31, 1997 were associated with banking offices serving the lower
peninsula of the State of Michigan.
Old Kent has had no foreign loans at any time during the last five years. The
foreign activities of the Corporation primarily involve time deposits with
banks, and placements and exchange transactions for domestic customers of the
banks. These activities did not significantly impact the Corporation's financial
condition or results of operations. Old Kent's exposure to adverse economic
conditions facing Asian markets at December 31, 1997 is indirect. This means
that Old Kent had no direct credit risk and that its indirect risk is limited to
the effects that events in these markets may have on Old Kent customers and the
U.S. economy in general. Also, certain of Old Kent's customers conduct some
portion of their business with Asian and Pacific Rim counterparties. Old Kent's
management does not believe that the corporation is at material risk due to
foreign activities of its customers within Asian markets.
Line-of-Business Management Approach
Old Kent's primary business activities are administered under a
"line-of-business" management approach. Under this approach, key executives of
the Corporation are individually responsible for optimizing operating results in
each of their respective "lines."
Old Kent has identified these lines as follows:
Line Old Kent Executive Primary Business Activities
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Corporate Banking James A. Hubbard Loans, deposits and other services for
larger corporate customers in metropolitan
markets
Retail Banking Kevin T. Kabat Loans, deposits and other services for
consumers and small businesses in
metropolitan markets
Community Banking Kevin T. Kabat Loans, deposits and other services for all
customers in smaller communities
Investment and Robert H. Warrington Investment management, trust, brokerage,
Insurance Services and insurance services in all markets.
Loans, deposits and other services for
private banking customers in metropolitan
markets
Mortgage Banking Robert H. Warrington Origination and acquisition, sale and
servicing of residential mortgages on
nationwide basis
Treasury William L. Sanders Investment portfolio and funds management
Old Kent established its internal financial reporting practices for the above
lines in 1997. Based on "line" operating results by Old Kent for this inaugural
accounting period, the relative contribution to 1997 net income from each line
is shown below:
Corporate Banking 25%
Retail Banking 20
Community Banking 25
Investment and Insurance Services 8
Mortgage Banking 6
Treasury 16
---
Total 100%
===
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In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures about Segments of an
Enterprise and Related Information" ("131"). Old Kent is required to adopt the
provisions of 131 in 1998. This statement requires that relevant segment
information, as defined in the statement, be disclosed. As of December 31, 1997,
the Corporation is considering how it will ultimately apply the provisions of
131. Hence, the business lines identified above may or may not be defined as
"segments" by Old Kent for purposes of disclosures required by 131.
Mergers and Acquisitions
Much of Old Kent's growth has been through acquisitions. The primary method of
expansion into new markets has been through acquisitions of other financial
institutions or branches. Further expansion into new markets is expected to
continue in a similar fashion. The following is a summary of Old Kent's
significant merger and acquisition activity during the last three years.
On September 1, 1997, Old Kent Insurance Group, Inc. ("OKIG"), (a subsidiary of
Old Kent Bank), acquired Grand Rapids Holland Insurance Agency, Inc., ("GRH") a
provider of commercial and personal insurance products through offices in
western Michigan. Old Kent issued approximately 86 thousand shares to acquire
all of the outstanding common stock of GRH. When acquired, GRH had assets of
approximately $6.2 million.
On January 1, 1997, Old Kent acquired Seaway Financial Corporation ("Seaway"), a
bank holding company headquartered in St. Clair, Michigan. Seaway was the parent
of The Commercial and Savings Bank of St. Clair County (St. Clair, Michigan) and
The Algonac Savings Bank (Algonac, Michigan). When acquired, Seaway had total
assets and total deposits of approximately $345 million and $302 million,
respectively. Old Kent issued approximately 1.9 million shares of Old Kent
Common Stock in exchange for all of the outstanding common stock of Seaway.
These banks were merged into and with Old Kent Bank in 1997.
On December 4, 1996, Guyot, Hicks, Anderson & Associates, Inc. ("GHA"), a
subsidiary of Old Kent Bank, purchased the assets of Insurance Resource Group,
L.L.C., Poggi & Associates, L.L.C., and Insurance Consultants, L.L.C., each of
which provided commercial insurance products and services through one office in
Grand Rapids, Michigan. This agency, along with GHA and GRH, were combined into
OKIG in 1997.
On August 1, 1996, Old Kent acquired National Pacific Mortgage Corporation
("NPMC"), a mortgage company headquartered in Anaheim, California, with 17
branch offices in California and Oregon. When acquired, NPMC had assets of
approximately $150 million and a mortgage servicing portfolio of approximately
$1.8 billion. NPMC is operated as a subsidiary of Old Kent Mortgage Company
("OKMC"), (a wholly owned subsidiary of the Bank).
On January 22, 1996, Old Kent acquired Republic Mortgage Corp. ("RMC"),
headquartered in Salt Lake City, Utah. When acquired, RMC had total assets of
approximately $39 million and serviced residential mortgages totalling
approximately $127 million. RMC is operated as a subsidiary of OKMC and has
regional offices in Boise, Idaho and Las Vegas, Nevada.
On December 1, 1995, the Corporation acquired GHA, a Traverse City, Michigan
based insurance agency with assets of approximately $5 million on that date.
On February 1, 1995, Old Kent acquired First National Bank Corp. ("FNB"), a bank
holding company headquartered in Mount Clemens, Michigan. The merger was
effected through the exchange of
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approximately 2.6 million shares of Old Kent Common Stock for all outstanding
shares of FNB common stock. The merger was accounted for as a
"pooling-of-interests." When acquired, FNB had total assets of approximately
$531 million and deposits of $472 million. FNB's sixteen banking offices which
operate as a component of Old Kent Bank, are located in the attractive suburban
market northeast of Detroit and have enhanced Old Kent's existing presence in
eastern Michigan.
Summary of Operating Results
The following is a summary of the major components of the Corporation's
operating results for the last five years:
Year ended December 31
(in thousands) 1997 1996 1995 1994 1993
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Net interest income $ 525,927 $ 494,288 $ 476,693 $ 455,635 $ 427,587
Add: taxable-equivalent
adjustment 6,291 6,243 7,814 8,704 8,786
--------- --------- --------- --------- ---------
Taxable-equivalent net interest
income 532,218 500,531 484,507 464,339 436,373
Provision for credit losses (45,677) (35,236) (21,666) (22,465) (34,822)
Non-interest income 284,423 212,164 161,718 136,010 134,531
Non-interest expense (490,788) (432,494) (402,132) (363,478) (328,998)
Income taxes, including taxable-
equivalent adjustment (99,872) (86,264) (80,613) (77,322) (75,760)
--------- --------- --------- --------- ---------
Net income $ 180,304 $ 158,701 $ 141,814 $ 137,084 $ 131,324
========= ========= ========= ========= =========
Net Interest Income
In the summaries above, the taxable-equivalent adjustment increases tax-exempt
income to an amount equivalent to interest income subject to income taxes at
statutory rates. The federal income tax rate was 35% for all years presented.
During 1997, total average interest-earning assets increased by $922 million, or
8.1%. In that same period, total average interest-bearing liabilities increased
by $900 million, or 9.4%.
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The following table sets forth the changes in interest income and interest
expense as they relate to changes in volumes and changes in rates:
1997 Compared to 1996 1996 Compared to 1995
Increase (Decrease)* Increase (Decrease)*
------------------------------- ------------------------------
Change in Change in
(Fully taxable-equivalent, Income/ Due to Due to Income/ Due to Due to
in thousands) Expense Volume Rate Expense Volume Rate
- --------------------------------------------------------------------------------------------
Interest-Earning Assets:
Loans (including
mortgages-held-for-sale) $85,190 $102,600 $(17,410) $58,570 $ 62,343 $(3,773)
Taxable securities (10,077) (12,951) 2,874 (5,345) 2,794 (8,139)
Tax-exempt securities (1,300) (1,300) 0 (4,836) (4,141) (695)
Interest-earning deposits 329 364 (35) (2,339) (2,219) (120)
Federal funds sold and
resale agreements (1,132) (1,132) 0 (9,537) (8,254) (1,283)
Trading account securities 1,000 802 198 (596) (606) 10
------- -------- -------- ------- -------- -------
Change in Interest Income 74,010 88,383 (14,373) 35,917 49,917 (14,000)
------- -------- -------- ------- -------- -------
Interest-Bearing
Liabilities:
Savings deposits (105) 1,071 (1,176) (3,622) (3,005) (617)
Time deposits:
Negotiable (15,846) (13,097) (2,749) (21,371) (18,962) (2,409)
Foreign (572) (445) (127) (11,452) (10,347) (1,105)
Consumer 29,834 32,811 (2,977) 56,542 54,588 1,954
Federal funds purchased
and repurchase agreements 9,439 8,581 858 2,207 4,310 (2,103)
Other borrowed funds 13,287 13,933 (646) (8,287) (7,538) (749)
Subordinated and other
long-term debt 4 (14) 18 5,876 5,904 (28)
Guaranteed preferred
beneficial interest in
junior subordinated
debentures 6,282 6,282 0
------- -------- -------- ------- -------- -------
Change in Interest Expense 42,323 49,122 (6,799) 19,893 24,950 (5,057)
------- -------- -------- ------- -------- -------
Change in Net Interest
Income $31,687 $ 39,261 $ (7,574) $16,024 $ 24,967 $(8,943)
======= ======== ======== ======= ======== =======
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*The change in interest due to both volume and rate has been allocated between
the factors in proportion to the relationship of the absolute amounts of the
change in each.
Net interest margin is calculated by dividing taxable-equivalent net interest
income by average interest-earning assets. Interest spread is the difference
between the average yield on earning assets and the average cost of
interest-bearing liabilities. The net interest margin was 4.34% in 1997 compared
to 4.41% for 1996. The interest spread was 3.66% for 1997 and 3.69% for 1996.
The average yield on interest-earning assets also decreased to 8.37% in 1997
from 8.40% in 1996. The primary factor underlying the slight decreases in net
interest margin, interest spread, and yield on total interest-earning assets was
a decline in yield on total loans to 9.09% in 1997 from 9.21% in 1996. The
average cost of interest-bearing liabilities was 4.71% in both 1997 and 1996.
Therefore, the modest decline in net interest margin related entirely to the
change in asset yields.
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The net interest margin was 4.41% in 1996 compared to 4.46% for 1995. The
interest spread was 3.69% for 1996 and 3.73% for 1995. The average yield on
interest-earning assets also decreased to 8.40% in 1996 from 8.44% in 1995. The
primary factor underlying the slight decreases in net interest margin, interest
spread, and yield on total interest-earning assets was a decline in yield on
taxable securities to 6.43% in 1996 from 6.71% in 1995. The average cost of
interest-bearing liabilities was 4.71% in both 1996 and 1995. Therefore, the
slight reduction in net interest margin related entirely to the change in asset
yields.
Three Month U.S.
Prime Interest Rate Treasury Bill Rate
----------------------- -----------------------
Percentage 1997 1996 1995 1997 1996 1995
- -----------------------------------------------------------------------------------------------
Simple average during year 8.44% 8.27% 8.83% 5.19% 5.14% 5.63%
At December 31 8.50% 8.25% 8.50% 5.35% 5.17% 5.07%
As indicated above, interest rates over the past three years have been
relatively stable, but rose slightly in 1997 and did not have a significant
impact on net interest income. As shown in the preceding "rate/volume" table,
the 1997 increase in average total loans was the primary factor underlying the
increase in net interest income for that year. This volume increase was the
result of internally generated loan growth as well as the acquisition of Seaway.
The 1996 increase in net interest income was attributable to changes in volume,
particularly the increase in loans.
The interest rate environment is significantly impacted by the health of the
national economy and the monetary policies of the Federal Reserve. There are a
number of factors which affect net interest income, including the mix of
interest-earning assets, the mix of interest-bearing liabilities, and the
interest rate sensitivity of the various categories. As of December 31, 1997,
Old Kent's management believes that the Corporation is essentially neutral to
directional changes in interest rates. This means that net interest income is
expected to be similarly impacted by upward or downward movements in prevailing
interest rates within anticipated ranges, as discussed later in this report.
Analysis of Net Interest Income
The following table allocates net interest income to interest-earning assets to
show how much was attributable to interest-bearing liabilities, and how much was
attributable to non-interest-bearing liabilities and equity capital. The
interest spread on earning assets funded by interest-bearing liabilities is
simply the difference between the average yield on earning assets and the
average cost of interest-bearing liabilities. The interest spread on earning
assets funded by non-interest-bearing liabilities and equity is the average
yield on earning assets.
1997 1996 1995
------------------------------- ------------------------------- -------------------------------
Average Net Average Net Average Net
(Fully taxable-equivalent, Earning Interest Interest Earning Interest Interest Earning Interest Interest
dollars in millions) Assets Spread Income Assets Spread Income Assets Spread Income
- --------------------------------------------------------------------------------------------------------------------------------
Source of Funding:
Interest-bearing
liabilities $10,510.8 3.66% $384.7 $ 9,610.5 3.69% $354.6 $ 9,186.9 3.73% $342.7
Non-interest-bearing
liabilities and equity 1,764.0 8.37% 147.5 1,742.3 8.40% 145.9 1,688.4 8.44% 141.8
--------- ------ --------- ------ --------- ------
Total $12,274.8 $532.2 $11,352.8 $500.5 $10,875.3 $484.5
========= ====== ========= ====== ========= ======
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The following table shows the relative importance of changes in interest spread,
earning asset volumes and changes in funding sources:
1997 Over (Under) 1996 1996 Over (Under) 1995 1995 Over (Under) 1994
-------------------------------- -------------------------------- --------------------------------
Average Net Average Net Average Net
(Fully taxable-equivalent, Earning Interest Interest Earning Interest Interest Earning Interest Interest
dollars in millions) Assets Spread Income Assets Spread Income Assets Spread Income
- -----------------------------------------------------------------------------------------------------------------------------------
Source of Funding:
Interest-bearing
liabilities $900.3 (0.03)% $30.1 $423.6 (0.04)% $11.9 $686.6 (0.36)% $(5.0)
Non-interest-bearing
liabilities and equity 21.7 (0.03)% 1.6 53.9 (0.04)% 4.1 159.5 0.78% 25.2
------ ----- ------ ----- ------ -----
Total $922.0 $31.7 $477.5 $16.0 $846.1 $20.2
====== ===== ====== ===== ====== =====
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AVERAGE CONSOLIDATED BALANCE SHEETS
1997 1996
-------------------------------- -------------------------------
(Income and rates on fully taxable-equivalent basis, dollars Average Average Average Average
in thousands) Balance Interest Rate Balance Interest Rate
- --------------------------------------------------------------------------------------------------------------------------------
Average Assets:
Loans(1) 8,419,267 764,967 9.09% 7,795,771 718,071 9.21%
Taxable investment securities 2,710,626 177,059 6.53 2,909,593 187,136 6.43
Tax-exempt investment securities(2) 146,426 12,119 8.28 162,076 13,419 8.28
Mortgages held-for-sale 882,085 66,668 7.56 366,380 28,374 7.74
Interest-earning deposits:
Domestic 13,052 675 5.17 1,919 105 5.47
Foreign 2,630 149 5.67 6,885 390 5.66
Federal funds sold and resale agreements 79,159 4,322 5.46 99,926 5,454 5.46
Trading account securities(2) 21,546 1,601 7.43 10,280 601 5.85
---------- --------- ---------- -------
Total earning assets 12,274,791 1,027,560 8.37 11,352,830 953,550 8.40
---------- --------- ---------- -------
Unrealized loss on securities available-for-sale (17,558) (19,275)
Allowance for loan losses (162,070) (173,055)
Cash and due from banks 465,178 501,810
Other Assets 737,905 589,550
---------- ----------
Total Assets 13,298,246 12,251,860
========== ==========
Average Liabilities and Shareholders' Equity:
Savings Deposits 3,021,239 78,815 2.61% 2,981,349 78,920 2.65%
Time Deposits:
Negotiable 907,446 51,607 5.69 1,135,116 67,453 5.94
Foreign 38,792 2,113 5.45 46,841 2,685 5.73
Other time 4,789,534 263,358 5.50 4,191,682 233,524 5.57
---------- --------- ---------- -------
Total interest-bearing deposits 8,757,011 395,893 4.52 8,354,988 382,582 4.58
Federal funds purchased and repurchase agreements 697,704 33,698 4.83 519,580 24,259 4.67
Other borrowed funds 863,520 52,637 6.10 634,953 39,350 6.20
Subordinated and other long-term debt 100,789 6,832 6.78
Floating rate subordinated debentures 91,787 6,282 6.84 100,972 6,828 6.76
---------- --------- ---------- -------
Total interest-bearing funds 10,510,811 495,342 4.71 9,610,493 453,019 4.71
--------- -------
Demand deposits 1,511,391 1,407,706
Other liabilities 248,944 232,820
Shareholders' equity:
Common stock, capital surplus and retained earnings 1,037,958 1,013,370
Unrealized losses on securities available-for-sale (10,858) (12,529)
---------- ----------
Total Liabilities and Shareholders' Equity 13,298,246 12,251,860
========== ==========
Fully Taxable -- Equivalent Net Interest Income 532,218 3.66% 500,531 3.69%
--------- -------
Net Interest Income as a Percentage of Average Earning
Assets 4.34% 4.41%
Percentage of Total Assets:
Foreign Assets 0.02% 0.06%
Foreign Liabilities 0.29% 0.38%
1995 1994
------------------------------- -------------------------------
(Income and rates on fully taxable-equivalent basis, dollars Average Average Average Average
in thousands) Balance Interest Rate Balance Interest Rate
- ------------------------------------------------------------ -----------------------------------------------------------------
Average Assets:
Loans(1) 7,230,657 668,735 9.25% 6,060,822 507,408 8.37%
Taxable investment securities 2,867,365 192,481 6.71 3,346,879 218,707 6.53
Tax-exempt investment securities(2) 211,830 18,255 8.62 241,431 20,010 8.29
Mortgages held-for-sale 247,659 19,140 7.73 224,481 14,781 6.58
Interest-earning deposits:
Domestic 5,635 319 5.66 1,991 97 4.87
Foreign 42,599 2,515 5.90 18,077 894 4.95
Federal funds sold and resale agreements 248,957 14,991 6.02 109,555 4,833 4.41
Trading account securities(2) 20,643 1,197 5.80 26,014 1,160 4.46
---------- ------- ---------- -------
Total earning assets 10,875,345 917,633 8.44 10,029,250 767,890 7.66
---------- ------- ---------- -------
Unrealized loss on securities available-for-sale (18,157) (4,835)
Allowance for loan losses (173,939) (159,719)
Cash and due from banks 448,945 415,999
Other Assets 542,020 480,327
---------- ----------
Total Assets 11,674,214 10,761,022
========== ==========
Average Liabilities and Shareholders' Equity:
Savings Deposits 3,094,220 82,542 2.67% 3,424,799 79,328 2.32%
Time Deposits:
Negotiable 1,453,454 88,824 6.11 1,492,631 66,760 4.47
Foreign 225,964 14,137 6.26 245,109 10,407 4.25
Other time 3,214,003 176,982 5.51 2,403,143 108,451 4.51
---------- ------- ---------- -------
Total interest-bearing deposits 7,987,641 362,485 4.54 7,565,682 264,946 3.50
Federal funds purchased and repurchase agreements 429,881 22,052 5.13 414,589 15,490 3.74
Other borrowed funds 755,748 47,637 6.30 518,869 22,996 4.43
Subordinated and other long-term debt
Floating rate subordinated debentures 13,670 952 6.96 1,202 119 9.90
---------- ------- ---------- -------
Total interest-bearing funds 9,186,940 433,126 4.71 8,500,342 303,551 3.57
------- -------
Demand deposits 1,329,787 1,239,373
Other liabilities 196,629 136,892
Shareholders' equity:
Common stock, capital surplus and retained earnings 972,665 887,541
Unrealized losses on securities available-for-sale (11,807) (3,126)
---------- ----------
Total Liabilities and Shareholders' Equity 11,674,214 10,761,022
========== ==========
Fully Taxable -- Equivalent Net Interest Income 484,507 3.73% 464,339 4.09%
------- -------
Net Interest Income as a Percentage of Average Earning
Assets 4.46% 4.63%
Percentage of Total Assets:
Foreign Assets 0.36% 0.17%
Foreign Liabilities 1.94% 2.28%
1993
------------------------------
(Income and rates on fully taxable-equivalent basis, dollars Average Average
in thousands) Balance Interest Rate
- ------------------------------------------------------------ ------------------------------
Average Assets:
Loans(1) 5,216,229 430,115 8.25%
Taxable investment securities 3,122,184 225,561 7.22
Tax-exempt investment securities(2) 221,467 19,035 8.59
Mortgages held-for-sale 277,841 17,844 6.42
Interest-earning deposits:
Domestic 10,590 575 5.43
Foreign 61,027 3,387 5.55
Federal funds sold and resale agreements 80,344 2,493 3.10
Trading account securities(2) 57,138 1,927 3.37
--------- -------
Total earning assets 9,046,820 700,937 7.75
--------- -------
Unrealized loss on securities available-for-sale 0
Allowance for loan losses (136,149)
Cash and due from banks 403,051
Other Assets 405,153
---------
Total Assets 9,718,875
=========
Average Liabilities and Shareholders' Equity:
Savings Deposits 3,233,037 83,090 2.57%
Time Deposits:
Negotiable 1,126,356 38,123 3.38
Foreign 210,916 6,862 3.25
Other time 2,396,837 114,393 4.77
--------- -------
Total interest-bearing deposits 6,967,146 242,468 3.48
Federal funds purchased and repurchase agreements 452,736 12,810 2.83
Other borrowed funds 273,892 8,771 3.20
Subordinated and other long-term debt
Floating rate subordinated debentures 6,296 515 8.18
--------- -------
Total interest-bearing funds 7,700,070 264,564 3.44
-------
Demand deposits 1,097,482
Other liabilities 119,307
Shareholders' equity:
Common stock, capital surplus and retained earnings 802,016
Unrealized losses on securities available-for-sale 0
---------
Total Liabilities and Shareholders' Equity 9,718,875
=========
Fully Taxable -- Equivalent Net Interest Income 436,373 4.31%
-------
Net Interest Income as a Percentage of Average Earning
Assets 4.82%
Percentage of Total Assets:
Foreign Assets 0.63%
Foreign Liabilities 2.17%
- ------------------------------
(1) Loan fees are included in interest income and are used to calculate average
rates earned. Non-accrual loans are included in the average loan balances.
(2) Yields are computed on a fully taxable-equivalent basis using a federal tax
rate of 35% in all years presented.
S-12
15
LOAN PORTFOLIO
As a financial intermediary, the acceptance and management of credit risk is an
integral part of Old Kent's business activities. The Corporation has established
strict credit underwriting standards. Except for certain loans, these standards
include a policy of granting loans only within Old Kent's defined market areas
and prohibition of foreign loans. Lending standards are codified in a
comprehensive lending policy which is uniform throughout the organization. Old
Kent's lending staff is highly skilled and experienced. The Corporation's
lending philosophy is implemented through strong administrative and reporting
requirements. Old Kent maintains a centralized, independent loan review function
which monitors asset quality at its subsidiary banks. The Corporation also
employs a centralized group of specialists which assists the subsidiaries in
resolving troubled loans.
Percent of
Composition of total loans at December 31, 1997: total
- ------------------------------------------------------------------------------
Commercial, financial, agricultural loans and leases 32%
Real estate loans - commercial and construction 28%
---
Total commercial 60%
Real estate loans - residential mortgages 9%
Consumer home equity loans 11%
Consumer loans (primarily automobile loans) 20%
Credit card loans 0%
---
Total 100%
===
Old Kent has a diversified loan portfolio. Approximately 40% of Old Kent's loan
assets are comprised of credits granted to consumers in the form of residential
mortgages and a variety of other consumer credit products, such as automobile
loans, home equity loans, educational loans and other consumer financings.
During 1997, Old Kent discontinued business activity as an underwriter of credit
card loans. In June 1997, Old Kent sold substantially all of its credit card
loans, as described on pages S-18 and S-21 of this financial review and Note 6
(page S-52) of the Consolidated Financial Statements.
Loans to commercial borrowers represent approximately 60% of Old Kent's loan
portfolio. These loans are grouped by their nature and industry diversification
as non-real estate related and as real estate related.
S-13
16
Commercial loan mix at December 31, 1997:
Real Estate Related
------------------------- Non-Real
Owner Non-owner Estate
(dollars in millions) Total Occupied Occupied Related
- -------------------------------------------------------------------------------------------------------
Contractors & Property Managers $1,604.6 $ 442.8 $ 856.7 $ 305.1
Services 850.8 238.7 174.4 437.7
Manufacturing 728.8 73.6 14.3 640.9
Retail 532.5 99.7 27.8 405.0
Wholesale 389.7 35.0 9.7 345.0
Finance 258.6 64.7 81.4 112.5
Transportation 143.9 23.3 14.8 105.8
Agriculture 65.4 14.3 4.1 47.0
Other 355.0 116.5 61.5 177.0
Leasing 171.5 0.0 0.0 171.5
-------- -------- -------- --------
Total $5,100.8 $1,108.6 $1,244.7 $2,747.5
======== ======== ======== ========
At December 31, 1997, Old Kent's commercial loan and lease portfolio, excluding
real estate related loans, approximated $2.7 billion, or about 32% of total
loans. Loans to manufacturers represented the largest component, at 23% of total
non-real estate commercial loans. These loans are diversified among a large
number of borrowers who produce a wide variety of durable and non-durable goods.
Commercial real estate and construction loans at December 31, 1997 aggregated
approximately $2.4 billion, or 28% of total loans. These loans have been grouped
as owner-occupied (borrowers who occupy and utilize the loan related property in
their respective businesses) and as non-owner-occupied (borrowers whose
principal purpose of ownership lies in the production of rental receipts from
the related property). As indicated, loans to the various categories of
owner-occupied properties were 47% of commercial real estate and construction
loans and loans for non-owner occupied properties were 53% of that total.
Non-owner occupied loans totaled $1.2 billion, or 15% of total loans and are
distributed over a diverse base of borrowers. The largest segment within
non-owner occupied loans was housing related loans at 17% of total commercial
real estate and construction loans.
Old Kent has no foreign loans. In addition, Old Kent's policy is to be highly
restrictive in granting credit to borrowers in businesses which are highly
cyclical, such as agriculture and petroleum production, and the Corporation is
selective in participating in loan syndications.
The following table summarizes the components of the Corporation's total loans
at December 31 for each of the last five years:
December 31 (dollars in millions) 1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------
Commercial, financial and agricultural
loans $2,576.0 $2,205.8 $2,008.6 $1,655.8 $1,390.8
Real estate loans -- commercial 1,796.3 1,719.7 1,627.1 1,326.0 1,297.9
Real estate loans -- construction 557.0 428.0 267.4 397.4 166.1
Real estate loans -- residential
mortgages 766.0 859.3 832.2 1,028.0 665.1
Consumer home equity loans 906.8 728.6 623.7 562.0 608.8
Consumer loans -- other 1,694.1 1,636.7 1,551.8 1,672.2 1,098.5
Credit card loans 1.7 317.6 323.6 102.2 62.4
Lease financing 171.5 201.4 196.2 111.2 55.1
-------- -------- -------- -------- --------
Total loans $8,469.4 $8,097.1 $7,430.6 $6,854.8 $5,344.7
======== ======== ======== ======== ========
S-14
17
PROVISION FOR CREDIT LOSSES
The provision for credit losses is the amount added to the allowance for credit
losses to absorb probable credit losses. The amount of the credit loss provision
is determined by management after reviewing the risk characteristics of the loan
portfolio, historical credit loss experience and economic conditions. These
determinations are reviewed by Old Kent's centralized, independent loan review
function which monitors the credit quality of the Corporation's loan portfolio
through its uniform procedures, credit grading and reporting systems.
The following table summarizes the credit loss provisions, net credit losses and
the allowance for credit losses for the last five years:
Year ended December 31
(dollars in thousands) 1997 1996 1995 1994 1993
- -----------------------------------------------------------------------------------------
Provision for credit losses $ 45,677 $ 35,236 $ 21,666 $ 22,465 $ 34,822
Net credit losses 48,777 42,417 13,408 9,771 16,979
Allowance for credit losses at
year-end 157,417 165,928 174,248 167,253 145,323
Allowance as a percentage of:
Year-end loans 1.86% 2.05% 2.35% 2.44% 2.72%
Year-end loans, excluding loans
secured by residential mortgages 2.04% 2.29% 2.64% 2.87% 3.21%
Impaired loans 288% 388% 403% 277% 243%
Ratio of net charge-offs to average
loans outstanding during the year 0.58% 0.54% 0.19% 0.16% 0.33%
Credit loss recoveries as a
percentage of prior year
charge-offs 28% 54% 60% 44% 25%
The provision for credit losses for 1997 was $10.4 million more than that of
1996. This increase was primarily related to stresses on consumer credit quality
as evidenced by increased net loan charge-offs. Impaired loans at December 31,
1997 totaled $54.7 million, an increase of $11.9 million over $42.8 million at
year-end 1996. At December 31, 1997, the ratio of the allowance to impaired
loans was 288%. Over the past five years, the Corporation's actual loss
experience on residential real estate loans has been negligible. At December 31,
1997, the ratio of the allowance to total loans exclusive of residential
mortgages was 2.04%.
S-15
18
The following table summarizes loan balances at the end of each period and the
daily averages; changes in the allowance for credit losses arising from loans
charged-off and recoveries on loans previously charged-off, by loan
classification; and additions to the allowance which have been charged to
expense:
Year ended December 31
(dollars in thousands) 1997 1996 1995 1994 1993
- -------------------------------------------------------------------------------------------
Loans outstanding at end of
year $8,469,477 $8,097,056 $7,430,552 $6,854,849 $5,344,712
========== ========== ========== ========== ==========
Daily average of loans
outstanding for year $8,419,268 $7,795,771 $7,230,657 $6,060,822 $5,216,229
========== ========== ========== ========== ==========
Balance of allowance for
credit losses at beginning
of year $ 165,928 $ 174,248 $ 167,253 $ 145,323 $ 125,375
Net change in allowance due
to loans (sold) and
purchased (5,411) (1,139) (1,263) 9,236 2,105
Provision for credit losses 45,677 35,236 21,666 22,465 34,822
Loans charged-off:
Commercial, financial and
agricultural loans 11,500 3,798 5,241 3,632 7,916
Real estate loans --
commercial 1,315 3,451 2,805 7,460 7,694
Real estate loans --
construction 911 67 29 605 1,198
Real estate loans --
residential mortgages 1 10 232 641 854
Consumer loans (including
home equity loans) 32,363 18,664 11,005 6,422 5,756
Credit card loans 13,551 20,855 5,626 1,718 1,568
Lease financing 5,021 9,621 1,148 743 1,007
---------- ---------- ---------- ---------- ----------
Total charged-off 64,662 56,466 26,086 21,221 25,993
---------- ---------- ---------- ---------- ----------
Recoveries of loans
previously charged-off:
Commercial, financial and
agricultural loans 4,175 3,199 2,721 3,167 3,275
Real estate loans --
commercial 3,242 4,703 5,779 3,915 2,060
Real estate loans --
construction 73 1,359 469 927 76
Real estate loans --
residential mortgages 0 35 47 229 520
Consumer loans (including
home equity loans) 6,323 3,015 2,875 2,362 2,326
Credit card loans 579 929 600 556 550
Lease financing 1,493 809 187 294 207
---------- ---------- ---------- ---------- ----------
Total recovered 15,885 14,049 12,678 11,450 9,014
---------- ---------- ---------- ---------- ----------
Balance of allowance for
credit losses at end of
year $ 157,417 $ 165,928 $ 174,248 $ 167,253 $ 145,323
========== ========== ========== ========== ==========
S-16
19
The following tables summarize net credit losses (total loans charged-off less
total loans recovered) and their relationship to the daily average balances for
each loan type listed for the last five years:
Net credit losses (recoveries) for the year ended
December 31 (in thousands) 1997 1996 1995 1994 1993
- -------------------------------------------------------------------------------------------------
Commercial, financial and agricultural loans $ 7,325 $ 599 $ 2,520 $ 465 $ 4,641
Real estate loans -- commercial (1,927) (1,252) (2,974) 3,545 5,634
Real estate loans -- construction 838 (1,292) (440) (322) 1,122
Real estate loans -- residential mortgages 1 (25) 185 412 334
Consumer loans (including home equity loans) 26,040 15,649 8,130 4,060 3,430
Credit card loans 12,972 19,926 5,026 1,162 1,018
Lease financing 3,528 8,812 961 449 800
------- ------- ------- ------ -------
Total net credit losses $48,777 $42,417 $13,408 $9,771 $16,979
======= ======= ======= ====== =======
Net credit losses as a percentage of daily
average total loans 0.58% 0.54% 0.19% 0.16% 0.33%
======= ======= ======= ====== =======
The allowance for credit losses has been allocated according to the amount
deemed reasonably necessary to provide for the probable losses inherent within
each of the following categories at the dates indicated:
1997 1996 1995 1994
Allocation of allowance ----------------------- ----------------------- ----------------------- -----------------------
for credit losses at Percent of Percent of Percent of Percent of
December 31 loans to loans to loans to loans to
(dollars in thousands) Allowance total loans Allowance total loans Allowance total loans Allowance total loans
- --------------------------------------------------------------------------------------------------------------------------------
Commercial, financial and
agricultural $ 66,000 30.4% $ 55,000 27.2% $ 60,000 27.0% $ 52,000 24.2%
Real estate -- commercial 26,000 21.2 26,000 21.2 36,000 21.9 34,000 19.3
Real estate --
construction 3,000 6.7 3,000 5.3 3,000 3.6 5,000 5.8
Real estate --
residential 1,000 9.0 1,300 10.6 2,000 11.2 3,000 15.0
Consumer loans (including
home equity loans) 42,000 30.7 40,000 29.3 35,000 29.3 35,000 32.6
Credit card loans - - 16,000 3.9 8,300 4.4 5,000 1.5
Leases 7,600 2.0 11,300 2.5 3,100 2.6 1,660 1.6
Not allocated 11,817 13,328 26,848 31,593
-------- ----- -------- ----- -------- ----- -------- -----
Total allowance for
credit losses $157,417 100.0% $165,928 100.0% $174,248 100.0% $167,253 100.0%
======== ===== ======== ===== ======== ===== ======== =====
1993
Allocation of allowance -----------------------
for credit losses at Percent of
December 31 loans to
(dollars in thousands) Allowance total loans
- --------------------------------------------------------------------------------------------------------------------------------
Commercial, financial and
agricultural $ 46,000 26.0%
Real estate -- commercial 33,000 24.3
Real estate --
construction 3,000 3.1
Real estate --
residential 3,000 12.5
Consumer loans (including
home equity loans) 24,000 31.9
Credit card loans 3,000 1.2
Leases 900 1.0
Not allocated 32,423
-------- -----
Total allowance for
credit losses $145,323 100.0%
======== =====
Net credit losses as a percent of daily average
balance for the year 1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------------
Commercial, financial and agricultural loans 0.30% 0.03% 0.14% 0.03% 0.35%
Real estate loans -- commercial (0.11) (0.08) (0.19) 0.27 0.43
Real estate loans -- construction 0.17 (0.37) (0.19) (0.18) 0.61
Real estate loans -- residential mortgages 0.00 0.00 0.02 0.03 0.02
Consumer loans (including home equity loans) 1.03 0.69 0.37 0.27 0.35
Credit card loans 10.64 5.85 2.32 1.51 1.81
Leases 1.86 4.34 0.57 0.53 1.58
----- ----- ----- ----- ----
Total 0.58% 0.54% 0.19% 0.16% 0.33%
===== ===== ===== ===== ====
In 1997, net charge-offs of commercial, financial and agricultural loans
increased from the lower levels of the years 1994 through 1996. Management
believes that the 1997 level is more representative of long-term credit loss
experience for these types of loans.
S-17
20
As shown above, in 1997 and 1996, net loans charged-off for both consumer loans
and credit card loans increased to levels above the trend of the preceding
years. This change from the prior trend included a notable increase in losses
due to consumer bankruptcies. Old Kent's management cannot predict whether
consumer credit quality will improve or deteriorate in the near-term. In June
1997, the Corporation discontinued business activities as an underwriter of
credit card loans concurrent with its sale of nearly all such loans
(approximately $266 million) at that time.
Nonperforming Assets
The following is a summary of nonperforming assets for the last five years:
December 31 (dollars in thousands) 1997 1996 1995 1994 1993
- ------------------------------------------------------------------------------------------
Impaired loans:
Nonaccrual loans $52,036 $39,950 $40,173 $54,576 $54,291
Restructured loans 2,688 2,832 3,075 5,838 5,426
------- ------- ------- ------- -------
Total impaired loans 54,724 42,782 43,248 60,414 59,717
Other real estate owned 7,619 7,097 11,287 12,366 12,770
------- ------- ------- ------- -------
Total nonperforming assets $62,343 $49,879 $54,535 $72,780 $72,487
======= ======= ======= ======= =======
Impaired loans as a percentage of total
loans 0.65% 0.53% 0.58% 0.88% 1.12%
Loans past due 90 days or more, but for which interest income continues to be
recognized, are not included in the Corporation's nonperforming assets. The
following table summarizes such loans for the last five years.
December 31 (Dollars in thousands) 1997 1996 1995 1994 1993
- ------------------------------------------------------------------------------------------
Loans past due ninety days or more $13,523 $36,817 $29,080 $11,677 $11,664
Loans past due ninety days or more, as a
percentage of total loans 0.16% 0.45% 0.39% 0.17% 0.22%
The loan portfolio has been reviewed and analyzed for the purpose of estimating
probable credit losses. The management of Old Kent believes that the allowance
for credit losses at December 31, 1997 is adequate to absorb probable credit
losses inherent in the loan portfolio. The Corporation's policy dictates that
specifically identified credit losses be recognized immediately by a charge to
the allowance for credit losses. This determination is made for each loan at the
time of transfer into impaired status after giving consideration to collateral
value and the borrowers' ability to repay loan principal. Since Old Kent
immediately recognizes losses on its impaired loans, it has not become necessary
to separately record a valuation allowance on these assets. Because the ultimate
collection of interest on impaired loans is in doubt, any interest income
recognized on these assets is generally limited to cash collections of interest.
OTHER INCOME
Total non-interest income increased $72.3 million, or 34.1% in 1997 compared to
an increase of $50.4 million, or 31.2% in 1996. Non-interest income (excluding
security transactions and non-recurring gains) has become a proportionally
greater component of Old Kent's total revenues. In 1997, non-interest income was
33.1% of total revenues compared to 29.5% for 1996, and 25.6% for 1995. This
favorable change in revenue mix is a direct result of Old Kent's goal to
diversify its revenue streams. A discussion of non-interest income components
follows.
S-18
21
The following table summarizes the major categories of other income for the last
three years:
Year ended December 31 (in thousands) 1997 1996 1995
- --------------------------------------------------------------------------------------------
Mortgage banking revenues -- net $ 93,841 $ 57,574 $ 32,363
Trust revenues 53,434 46,027 43,281
Service charges on deposit accounts 49,170 45,352 40,266
Transaction processing fees 17,330 13,104 12,417
Non-recurring gains 20,859 4,158 2,202
Retail insurance commissions 9,421 7,832 456
ATM fees 5,873 2,622 3,588
Credit life insurance commissions 4,791 4,565 4,137
Brokerage commissions 3,281 1,543 1,024
Gains on sales of other assets 2,235 1,108 542
Safe deposit box rental income 2,090 2,031 1,774
Securities transactions 743 128 421
Other 21,355 26,120 19,247
-------- -------- --------
Total other income $284,423 $212,164 $161,718
======== ======== ========
Mortgage Banking Revenues
Growth and expansion in Old Kent's mortgage banking business have favorably
influenced non-interest income. Mortgage banking revenues can be significantly
influenced by interest rate cycles and market place demographics. As a result,
these revenues may vary significantly from period to period.
The following summarizes the mortgage banking activity and revenue for the past
three years:
Year ended December 31 (in thousands) 1997 1996 1995
- -----------------------------------------------------------------------------------------
Originations and acquisitions of mortgages
held-for-sale $6,878,737 $3,409,276 $2,060,201
========== ========== ==========
Proceeds from sales of mortgages held-for-sale 6,265,742 3,236,859 1,993,642
========== ========== ==========
Mortgage banking revenue (net), consisted of:
Mortgage banking gains -- originations and sales
of loans 60,492 32,893 14,394
Mortgage banking gains -- sales of servicing 9,054 853 4,003
---------- ---------- ----------
Subtotal -- mortgage banking gains 69,546 33,746 18,397
Mortgage origination fees (net of direct costs) 13,965 14,060 7,301
Mortgage loan servicing revenues (net of direct
costs) 10,330 9,768 6,665
---------- ---------- ----------
Total mortgage banking revenue -- net $ 93,841 $ 57,574 $ 32,363
========== ========== ==========
December 31 (in millions) 1997 1996 1995
- --------------------------------------------------------------------------------------------
Mortgages serviced for third parties $11,805 $ 9,863 $6,859
Mortgages held-for-sale 1,272 589 270
Mortgage loans serviced by Old Kent for its own
portfolio 766 859 832
------- ------- ------
Total $13,843 $11,311 $7,961
======= ======= ======
As shown above, originations and acquisitions of mortgages held-for-sale
increased in 1997 and 1996. These increases were largely due to the described
acquisitions and geographic expansion of Old Kent Mortgage Company ("OKMC)
which, as of December 31, 1997, conducted its business nationwide from over 100
offices in 25 states. At December 31, 1996, OKMC had 79 offices in 17 states.
The
S-19
22
August 1996 acquisition of NPMC and January 1996 acquisition of RMC contributed
to the growth of OKMC along with its other business initiatives such as
establishing offices in the eastern United States.
Mortgage banking activities include the origination and acquisition of
residential mortgage loans, the sale of loans with retention of servicing
rights, the sale of loans accompanied by the sale of servicing rights, the sale
of servicing rights, and acquisitions of servicing rights. In 1997, mortgage
banking gains were $35.8 million more than in 1996. This increase was primarily
attributable to growth and expansion of Old Kent Mortgage Company along with a
higher level of gains on the sales of servicing rights. The sale of servicing
rights has become a more integral part of OKMC's business strategies primarily
as a means of managing the risks associated with the value and volatility of
mortgage servicing rights assets. During the third quarter of 1997, OKMC entered
into an agreement to sell servicing rights of between $1.8 to $3.6 billion
during the period from September 1997 to August 1998. This forward bulk
servicing sale agreement provides for monthly sales of newly originated
conventional mortgage servicing rights. At December 31, 1997 OKMC had sold
servicing rights of approximately $1.0 billion under this agreement. Also, as
discussed in the Notes to Consolidated Financial Statements for December 31,
1997, OKMC from time-to-time may utilize certain financial instruments as a
means of managing risks to the market value of both mortgage servicing rights
and mortgages held-for-sale.
In 1996, mortgage banking gains were $15.3 million greater than those of 1995,
primarily due to business acquisitions.
For the past three years, net mortgage servicing revenue was comprised of:
Year ended December 31 (in thousands) 1997 1996 1995
- ----------------------------------------------------------------------------------------
Mortgage servicing revenues 41,265 28,223 14,718
Amortization and impairment of mortgage servicing rights and
other direct servicing costs (30,935) (18,455) (8,053)
------- ------- ------
Mortgage loan servicing revenues (net of direct costs) 10,330 9,768 6,665
======= ======= ======
The results of operations of OKMC represented approximately 6.2%, 4.5% and 3.0%
of the Corporation's net income for the years 1997, 1996, and 1995,
respectively.
Investment Management and Trust Revenues
Investment Management and Trust activities also generate sizeable revenues for
Old Kent. Trust revenues increased to $53.4 million in 1997, up $7.4 million, or
16.1%, over 1996. This compares to a $2.7 million increase, or 6.3%, in 1996.
These increases also reflect the Corporation's growth and optimization of its
fee-based businesses. The 1997 increase includes the effect of acquiring Seaway
January 1, 1997, and reflects the effects of business development; a favorable
securities market also had a beneficial effect in 1997. The table below
summarizes assets managed in a fiduciary capacity as of the dates indicated.
December 31 (in billions) 1997 1996 1995
- --------------------------------------------------------------------------------
Net assets managed directly by Old Kent for customers $6.8 $5.6 $5.3
Kent Fund Assets $5.1 $4.2 $3.9
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Service Charges on Deposit Accounts
Service charges on deposit accounts increased to $49.2 million in 1997, an
increase of $3.8 million or 8.4%. This compares to an increase of $5.1 million,
or 12.6% in 1996. These increases were due both to an increase in the deposit
base and to Old Kent's continuing focus on improving non-interest revenues. The
1997 increase included the effect of the Seaway acquisition. The increase also
included the beneficial impact of product and pricing changes implemented by Old
Kent during the last quarter of 1997.
Transaction Processing Fees
Transaction processing fees include items such as fees and commissions on money
orders and traveler checks, foreign exchange fees, debit card interchange
income, check cashing fees and collection charges. These revenues totaled $17
million in 1997 and $13 million in 1996. The $4 million increase in comparing
1997 to 1996 was due to increased money order commissions and debit card
interchange income.
Non-recurring Income
Non-recurring and other real estate owned income include those items which Old
Kent considers to be outside the norm of its typical ongoing business
activities. The amount reported for 1997 includes a $16.7 million (pre-tax) gain
on a June 1997 sale of $266 million credit card loan portfolio. This gain
contributed $10.6 million to net income and $.11 to earnings per share for 1997.
This transaction resulted from Old Kent's decision to discontinue business
activity as an underwriter of credit card loans, with the intent of improving
the future profitability of the Corporation.
Retail Insurance Commissions
The increase in retail insurance commissions to $9.4 million in 1997 and $7.8
million in 1996 is due to Old Kent's acquisition of insurance agencies,
beginning in late 1995, as part of the Corporation's emphasis on fee-based
revenues.
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OTHER EXPENSES
The following table summarizes the major categories of other expenses for the
last three years:
Year ended December 31 (in thousands) 1997 1996 1995
- ----------------------------------------------------------------------------------------
Salaries $211,137 $174,429 $153,476
Employee benefits 41,880 37,770 31,682
Occupancy 35,000 30,388 28,635
Equipment 29,590 24,647 24,746
Professional services 15,944 13,430 10,607
Telephone and telecommunications 14,339 11,431 9,183
Stationery and supplies 13,628 7,600 8,605
Taxes other than income taxes 13,559 11,795 10,655
Amortization of goodwill and core deposit intangibles 13,412 10,109 11,864
Postage and courier charges 13,026 12,305 10,495
Advertising and promotion 9,683 24,867 9,918
Legal, audit and examination fees 5,580 4,741 5,600
Nonrecurring and other real estate owned expenses 4,540 988 2,801
FDIC insurance (including $1.7 million SAIF assessment
in 1996) 1,309 2,458 11,123
Restructuring charges - - 18,204
Other 68,161 65,536 54,538
-------- -------- --------
Total other expenses $490,788 $432,494 $402,132
======== ======== ========
Salaries and employee benefits
Salaries and employee benefits represent the largest category of non-interest
expense. These personnel costs increased by $40.8 million in 1997 and $27.0
million in 1996 primarily due to business acquisitions and growth and expansion
of OKMC. Old Kent measures its staff size in terms of full-time equivalent
("FTE") employees. Full-time equivalency expresses staff size by translating the
efforts of part-time employees and overtime hours into the equivalent efforts of
full-time employees.
The following summarizes FTE staff sizes as of the dates indicated:
FTE change
Dec. 31, 1997
Full-time Equivalent Staff vs. Dec. 31, 1996 12/31/97 12/31/96 12/31/95
- -------------------------------------------------------------------------------------------
Banking units 112 4,390 4,278 4,450
Mortgage banking 463 1,622 1,159 426
Insurance, leasing and brokerage units 104 316 212 191
--- ----- ----- -----
Total FTE 679 6,328 5,649 5,067
=== ===== ===== =====
The table above reflects a 112 person increase in staff assigned to banking
units. This increase is primarily the result of Old Kent's purchase of Seaway.
When acquired on January 1, 1997, Seaway's FTE staff totalled 233 persons. The
table also displays a 463 person increase in the staff size of OKMC. This
increase is primarily attributable to geographic expansion of Old Kent's
mortgage banking business as previously discussed. The 104 person increase in
other non-banking units resulted from growth in the Corporation's retail
insurance business, Old Kent Insurance Group, Inc. as well as staff additions
aimed at building the business of Old Kent Brokerage Services, Inc.
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Occupancy and Equipment Expense
Occupancy expense increased by $4.6 million in 1997 due to business acquisitions
and the geographic expansion of OKMC. Occupancy expense increased by $1.8
million, or 6.1%, in 1996 due to the effect of OKMC business acquisitions. The
table below summarizes occupancy expense for the years indicated:
1997 over
Occupancy expense for the year (Dollars in thousands) 1996 1997 1996 1995
- ----------------------------------------------------------------------------------------------
Banking units $2,059 $27,979 $25,920 $26,827
Mortgage banking 2,319 6,076 3,757 1,473
Insurance, leasing and brokerage units 234 945 711 335
------ ------- ------- -------
Total occupancy expense $4,612 $35,000 $30,388 $28,635
====== ======= ======= =======
Equipment expense increased by approximately $5 million in 1997 as compared to
the two preceding years. This increase includes the effects of acquisition and
expansion. It also reflects the effects of changes in Old Kent's retail delivery
system. Old Kent increased its use of ATMs as a means of improving and expanding
retail service access; at December 31, 1997, Old Kent had 380 ATM's in operation
as compared to 295 one year earlier. Management expects that another 40 such
machines may be placed in service in 1998.
Advertising and Promotion Expense
In 1997, these costs totaled $9.7 million. The $15.2 million decrease from 1996
was the result of the discontinuation of a costly promotional program related to
credit cards as discussed below.
Advertising and promotion expense increased substantially in 1996 to $24.9
million. In 1995, these costs totaled $9.9 million. The reason for this increase
was a promotional program known as "CardMiles", for which $17.1 million of
expense was recognized in 1996. This program, a credit card product enhancement,
began in early 1995 and offered cardholders one CardMile for each dollar charged
to their card. After accumulating specified levels of CardMiles, the cardholder
was eligible to redeem certificates issued under the program for airfare and/or
free airline tickets.
The Corporation accounts for its CardMile program obligations via a charge to
earnings as a promotional expense and the maintenance of an "allowance for
redemption reserve" which is included in other liabilities in the consolidated
balance sheets. Old Kent's process for recording the allowance for redemption
reserve is based on estimates. Factors affecting these estimates include, among
others, current and cumulative redemption experience, rates for air travel, and
economic conditions. The Corporation determines its allowance for redemption
reserve using a historical "lag" analysis based upon monthly certificate
redemptions, correlated with the months in which the certificates were actually
earned by eligible cardholders. Because the program was a new program, Old Kent
did not have direct experience on which to base usage estimates in 1995. In
1996, after more than a year of redemption
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experience, the Corporation reviewed its actual costs, adjusted its usage and
redemption estimates, and supplemented its allowance for redemption reserve as
summarized in the table below.
CardMiles allowance for redemption reserve (Dollars in thousands) 1997 1996 1995
- --------------------------------------------------------------------------------------------
Balance of allowance for redemption reserve, January 1 $10,823 $ 320 $ 0
Certificate redemptions during year (7,941) (6,597) (480)
Expense recognized during year 700 17,100 800
------- ------- -----
Balance of allowance for redemption reserve, December 31 $ 3,582 $10,823 $ 320
======= ======= =====
The $0.7 million of 1997 expense shown in the immediate preceding table was
related to Old Kent's adjustment of estimated redemption rates, as no new
certificates were issued during the year.
Amortization of Intangibles
Amortization of goodwill and core deposit intangibles totaled $13.4 million,
$10.1 million, and $11.9 million in 1997, 1996 and 1995, respectively. The 1997
increase was primarily the result of the Seaway acquisition on January 1, 1997.
This amortization represents non-cash charges to operations. The table below
illustrates the pro forma effect on earnings per share as if the effect of these
charges were excluded from net income, sometimes referred to as "cash" earnings
per share.
Year ended December 31 1996 1995 1994
- -------------------------------------------------------------------------------------------
Basic earnings per share (as reported) $1.90 $1.63 $1.42
Pro forma "basic cash earnings per share" 1.99 1.69 1.50
Diluted earnings per share (as reported) 1.88 1.61 1.41
Pro forma "diluted cash earnings per share" 1.97 1.68 1.49
FDIC Insurance
As shown in the consolidated statements of income, FDIC deposit insurance
expense has steadily declined in the last three years. This decline is due to
reductions in assessment rates charged by the Federal Deposit Insurance
Corporation ("FDIC"). In 1997, FDIC assessments totalled only $1.3 million
compared to $2.5 million in 1996 which included a special $1.7 million FDIC levy
which was intended to recapitalize its "Savings Association Insurance Fund"
("SAIF").
For the semiannual assessment period beginning January 1, 1998, the FDIC will
assess an insurance rate of zero for banks meeting the eligibility requirements,
and an additional assessment of $.0126 per $100 of insured deposits. This rate
is intended to finance the interest obligations of the Financing Corporation
("FICO") resultant from the Deposit Insurance Act of 1996.
Year 2000 Issue
The Corporation is currently in the process of addressing a significant issue
facing all users of automated information systems. The problem is that many
computer systems that process transactions based on two digits representing the
year of transaction may recognize a date using "00" as the year 1900 rather than
the year 2000. The problem could affect a wide variety of automated information
systems, such as mainframe applications, personal computers and communication
systems, in the form of software failure, errors or miscalculations. By nature,
the banking and financial services industries are highly dependent
S-24
27
upon computer systems because of significant transaction volumes and a date
dependency for interest measurements on financial instruments such as loans and
deposits.
The Corporation initiated its Year 2000 analysis in early 1995. The assessment
included an inventory of software applications, communications with third party
vendors and suppliers, and certification of compliance from third party
providers. The Corporation has a comprehensive, written plan, which is regularly
updated and monitored by technical personnel. Plan status is regularly reviewed
by management of the Corporation and reported upon to the Board of Directors.
The Company is now in active renovation, with 41% of such efforts completed as
of December 31, 1997.
The Corporation will continue to assess the impact of the Year 2000 issue on the
remainder of its computer-based systems and applications throughout 1998. The
Corporation's goal is to perform tests of its systems and applications during
1998 and to have all systems and applications compliant with the century change
by December 31, 1998, allowing adequate time for testing and system validation
during 1999.
At December 31, 1997, the Corporation estimated it would spend approximately $12
million over the next two years to remediate its Year 2000 issues. These
expenditures will primarily consist of personnel expense for staff dedicated to
the effort, fees paid to third party providers of remedial services and other
project related payments. It is the Corporation's policy to expense such costs
as incurred. The Corporation may also invest in new or upgraded technology which
has definable value lasting beyond 2000. In these instances, where Year 2000
compliance is merely ancillary, the Corporation may capitalize and depreciate
such an asset over its estimated useful life.
In addition to reviewing its own computer operating systems and applications,
the Corporation has initiated formal communications with its significant
suppliers (operating risk) and large customers (credit risk) to determine the
extent to which Old Kent is vulnerable to those third parties' failure to
resolve their own Year 2000 issues. There is no assurance that the systems of
other companies on which the Corporation's systems rely will be timely
converted. If such modifications and conversions are not made, or are not
completed timely, the Year 2000 issue could have an adverse impact on the
operations of the Corporation.
Based on currently available information, management does not presently
anticipate that the costs to address the Year 2000 issues will have a material
adverse impact on the Corporation's financial condition, results of operations,
or liquidity.
The costs of the project, the date on which the Corporation believes it will
complete the Year 2000 modifications, and the related risk exposures are based
on management's best estimates. There can be no guarantee that these estimates
will be achieved and actual results could differ from those anticipated.
Specific factors that might cause differences include, but are not limited to,
the ability of other companies on which the Corporation's systems rely to modify
or convert their systems to be Year 2000 compliant, the ability to locate and
correct all relevant computer codes, and similar uncertainties.
Income Taxes
The income tax provision was $93.6 million in 1997 compared to $80.0 million in
1996 and $72.8 million in 1995. Income tax expense as a percentage of pre-tax
income was 34.2% in 1997. This compares with 33.5% in 1996 and 33.9% in 1995.
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Old Kent Common Stock
Old Kent Common Stock is traded in The NASDAQ Stock Market under the symbol
OKEN. The following table sets forth the range of bid prices for Old Kent Common
Stock for the periods indicated. These quotations reflect inter-dealer prices,
without retail mark-up, mark-down or commission and may not necessarily
represent actual transactions. Prices have been adjusted to reflect 5% stock
dividends distributed in both 1997 and 1996, and a two-for-one stock split
distributed in 1997.
1997 1996
------------------- -------------------
Quarter Low High Low High
- -----------------------------------------------------------------------------------------------
1st. $22.44 $24.88 $17.00 $18.71
2nd 22.14 27.68 16.95 18.81
3rd 26.81 34.25 17.38 20.30
4th 30.81 42.12 20.18 23.28
As of February 20, 1998 there were 91,696,375 shares of Old Kent Financial
Corporation Common Stock issued and outstanding, held by approximately 15,212
holders of record.
Cash Dividends
The Corporation has paid regular cash dividends every quarter since it was
organized as a bank holding company in 1972. The following table summarizes the
quarterly cash dividends paid to common shareholders over the past five years,
adjusted for five percent stock dividends distributed in 1997, 1996 and 1995,
and for a two-for-one stock split distributed in December, 1997.
Quarter 1997 1996 1995 1994 1993
- -------------------------------------------------------------------------------------------------
1st. $0.162 $0.145 $0.134 $0.125 $0.112
2nd 0.162 0.145 0.134 0.125 0.112
3rd 0.170 0.153 0.141 0.125 0.112
4th 0.180 0.162 0.145 0.134 0.125
------ ------ ------ ------ ------
Total $0.674 $0.605 $0.554 $0.509 $0.461
====== ====== ====== ====== ======
The earnings of Old Kent Bank is the principal source of funds to pay cash
dividends. Consequently, cash dividends are dependent upon the earnings, capital
needs, regulatory constraints and other factors affecting the bank. Based on
projected earnings and liquidity, management expects the Corporation to declare
and pay regular quarterly cash dividends on its common shares in 1998.
Capital
At December 31, 1997, the Corporation's total equity was $1,027 million, or 3.4%
more than the preceding year-end total. As shown in the accompanying
consolidated financial statements and described in Note 13 to the consolidated
financial statements, Old Kent repurchased stock in each of the last three years
under authorizations which included reacquiring shares issued in purchase
acquisitions and shares intended for future reissuance in connection with
anticipated stock dividends and certain other purposes. These repurchases have
favorably influenced earnings per share and return on average equity. The
Corporation expects to continue to repurchase its common stock in 1998 under the
(amended) June, 1997 authorization cited in Note 13 to the consolidated
financial statements.
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Statement of Financial Accounting Standards ("SFAS") No. 115, "Accounting for
Certain Investments in Debt and Equity Securities" ("SFAS 115") requires that
the "after-tax" unrealized gain or loss on securities available-for-sale be
carried as a separate component of shareholders' equity. At December 31, 1997
this component was a $1.6 million positive balance compared to a negative
balance of $9.9 million on December 31, 1996. Market values of securities,
particularly those that are of longer terms, are subject to price volatility
depending upon changes in interest rates. Under SFAS 115, total shareholders'
equity will be subject to favorable or unfavorable influences of the financial
markets on the fair values of securities available-for-sale.
Under the "risk-based" capital regulations presently in effect for banks and
bank holding companies, minimum capital levels are based on the perceived risk
of various asset categories and certain off-balance-sheet instruments, such as
loan commitments and letters of credit. Banks and bank holding companies are
required to maintain certain minimum ratios. At December 31, 1997, ratios of Old
Kent and its subsidiary banks exceeded the regulatory guidelines, as shown in
Note 23 to the consolidated financial statements.
At December 31, 1997, the ratio of total shareholders' equity to total assets
was 7.46% compared to 7.86% one year earlier. Book value per common share is
calculated by dividing total shareholders' equity by the number of shares
outstanding as of a given date. The following is a reconciliation of book value
per share:
Per share amount
- ------------------------------------------------------------------------------
Book value per common share at December 31, 1996 $10.53
For the year ended December 31, 1997:
Basic earnings per share 1.90
Dividends per common share (0.67)
Effect of stock repurchases (net of stock issuances) (0.81)
Change in unrealized loss on securities available-for-sale
and other changes 0.12
------
Book value per common share at December 31, 1997 $11.07
======
The Corporation has generally financed its growth through the retention of
earnings and the issuance of long-term debt. It is expected that future growth
can be financed through internal earnings retention, additional long-term debt
offerings, or the issuance of additional common or preferred stock.
LIQUIDITY AND MARKET RISK MANAGEMENT
Liquidity
Old Kent manages its liquidity to ensure that funds are available to each of its
banks to satisfy the cash flow requirements of depositors and borrowers and to
ensure that the Corporation's own cash requirements are met. Old Kent maintains
liquidity by obtaining funds from several sources.
Old Kent's most readily available source of liquidity is its investment
portfolio. Old Kent's securities available-for-sale, which totalled $2.0 billion
at December 31, 1997, represent a highly accessible source of liquidity. The
Corporation's portfolio of securities held-to-maturity, which totalled $821
million at December 31, 1997, provides liquidity from maturities and
amortization payments.
Depositors within Old Kent's defined markets are another source of liquidity.
Core deposits (demand, savings, money market, and consumer time deposits)
totalled $9.6 billion at December 31, 1997, up from $9.2 billion at December 31,
1996. These same markets offer additional liquidity in the form of
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large deposit instruments and other equivalent non-deposit products. The
national capital markets represent a further source of liquidity to Old Kent.
The Corporation may make use of brokers to place large deposit instruments or
bank note offerings when advantageous, or it may access federal funds markets or
utilize collateralized borrowings. Additional liquidity is available through
debt offerings.
Thomson Standard
Credit ratings at December 31, 1997 BankWatch Moody's & Poor's
- ---------------------------------------------------------------------------------------
Old Kent Financial Corporation:
Issuer rating A/B
Short-term rating TBW-1
Subordinated debt rating A+ Baa1 A-
Old Kent Bank:
Senior debt AA-
Short-term debt TBW-1 P1 A-1
Long-term debt A1 A
Old Kent Capital Trust I:
Floating rate subordinated
capital income securities rating a3 BBB+
During 1992, Old Kent filed, and had ordered effective, a shelf registration
with the Securities and Exchange Commission which registered up to $150 million
in debt securities for future sale. In 1995, Old Kent issued $100 million in
subordinated debentures, paying semi-annual coupon interest at 6 5/8% and
maturing on November 15, 2005, under this registration.
Old Kent Bank has implemented a bank note program which permits it to place up
to $1.5 billion of short-term and medium-term notes. This program is intended to
enhance liquidity by enabling Old Kent Bank to sell its debt instruments in the
public markets in the future without the delays which would otherwise be
incurred. As shown in Note 10 to the consolidated financial statements, there
were $961 million of bank notes outstanding at December 31, 1997.
On January 31, 1997, Old Kent Capital Trust I, a Delaware business trust
controlled by Old Kent Financial Corporation, issued $100 million of Floating
Rate Subordinated Capital Income Securities. These securities represent
undivided interests in a debenture which matures February 1, 2027 and is
callable after ten years or upon the occurrence of certain defined events. The
payments adjust based upon a yield of 80 basis points over LIBOR ("London Inter
Bank Offered Rate").
Federal and state banking laws place certain restrictions on the amount of
dividends and loans which a bank may make to its parent company. Such
restrictions have not had, and are not expected to have, any material effect on
the Corporation's ability to meet its cash obligations.
Market Risk Management
Old Kent faces market risk to the extent that the fair values of its financial
instruments are affected by changes in interest rates, foreign currency exchange
rates, commodity prices, equity prices, or other market factors. The
Corporation's market risk exposure is mainly comprised of its vulnerability to
interest rate risk. The asset/liability management discipline as applied at Old
Kent seeks to limit the volatility of both earnings and the value of capital
that can result from changes in market interest rates. This is accomplished by
matching asset and liability principal balances that reprice and mature,
estimating how administered rates adjust, simulating business results under
varying interest rate scenarios, and estimating the change in the net present
value of the Company's assets, liabilities, and off-balance sheet instruments
due to interest rate changes. Principal maturities and repricing profiles are
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monitored through static gap analysis, future business results are simulated
through computer modeling, and the net present value of the Company's financial
instruments is estimated through economic value of equity measurement. While
these three tools utilize different measurement techniques, combined they are
valuable tools to assist management to better understand and mitigate the
possible negative impact that interest rate changes can have on the Company.
STATIC GAP ANALYSIS: The management of interest rate sensitivity includes
monitoring the maturities and repricing opportunities of interest-earning assets
and interest-bearing liabilities. The following table summarizes the interest
rate repricing gaps for selected maturity periods as of December 31, 1997:
0 - 30 31 - 90 91 - 180 181 - 365 1 - 5 Over 5
(In millions) Days Days Days Days Years Years Total
- -------------------------------------------------------------------------------------------------------
Non-loan
interest-earning assets $ 87.6 $ 71.7 $ 132.4 $ 207.3 $1,156.7 $1,251.0 $ 2,906.7
Loans 5,051.6 349.4 440.8 862.5 2,758.9 278.1 9,741.3
-------- --------- -------- -------- -------- -------- ---------
Total interest-earning
assets 5,139.2 421.1 573.2 1,069.8 3,915.6 1,529.1 12,648.0
-------- --------- -------- -------- -------- -------- ---------
Savings & money market
accounts* 753.9 0.0 0.0 0.0 0.0 2,317.0 3,070.9
Domestic time deposits 786.2 1,161.5 1,005.0 1,395.3 1,091.9 18.4 5,458.3
Foreign time deposits 15.0 15.0 0.0 0.0 0.0 0.0 30.0
Purchased funds and
long-term debt 1,964.0 100.0 110.0 0.0 0.0 100.8 2,274.8
-------- --------- -------- -------- -------- -------- ---------
Total interest-bearing
liabilities 3,519.1 1,276.5 1,115.0 1,395.3 1,091.9 2,436.2 10,834.0
Interest-earning assets
less interest-bearing
liabilities 1,620.1 (855.4) (541.8) (325.5) 2,823.7 (907.1) 1,814.0
Impact of interest rate
swaps (200.0) (219.9) 0.0 0.0 419.9 0.0 0.0
-------- --------- -------- -------- -------- -------- ---------
Asset (liability) gap $1,420.1 $(1,075.3) $ (541.8) $ (325.5) $3,243.6 $ (907.1) $ 1,814.0
Cumulative asset gap $1,420.1 $ 344.8 $ (197.0) $ (522.5) $2,721.1 $1,814.0
Cumulative gap as a
percentage of
cumulative earning
assets 27.6% 6.2% (3.2)% (7.3)% 24.5% 14.3%
- ------------------------------
* The placement of indeterminate maturity deposits on the gap analysis
represents an allocation of 25% of the balances to the 0-30 Days period and
75% to the Over 5 Years period. This distribution is based on historical
analyses of the amount by which the rates paid on these deposits changed as
alternative market rates changed, and on the estimated sensitivity of balances
to changes in such alternative market rates.
Total interest-earning assets exceeded interest-bearing liabilities by $1.8
billion at December 31, 1997. This difference was funded through non-interest
bearing liabilities and shareholders' equity. The above table shows that total
liabilities maturing or repricing within one year exceed assets maturing or
repricing within one year by $522.5 million. However, the repricing and cash
flows of certain categories of assets and liabilities are subject to competitive
and other influences that are beyond the control of Old Kent. As a result,
certain assets and liabilities indicated as maturing or repricing within a
stated period may, in fact, mature or reprice in other periods or at different
volumes.
SIMULATION: Old Kent recognizes the limitations of static gap analysis as a tool
for managing its interest rate risk. Old Kent also uses computer-based
simulation to estimate the effects of various interest rate environments on the
balance sheet structure and net interest income. These simulation techniques
involve changes in interest rate relationships, asset and liability mixes, and
prepayment
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32
options inherent in financial instruments, as well as interest rate levels in
order to quantify risk potentials. Based on these analyses, Old Kent's
management believes that future net interest income would be similarly impacted
by directional changes in prevailing interest rates.
The table below illustrates the projected change in Old Kent's net interest
income during the next twelve months if all market rates were to uniformly and
gradually increase or decrease by as much as 2.0% compared to results under a
flat rate environment. These projections, based on Old Kent's balance sheet as
of December 31, 1997, were prepared using the modeling techniques and
assumptions which Old Kent was then using for asset/liability management
purposes. The table indicates that if rates were to gradually and uniformly
increase or decrease by 2.0%, net interest income would be expected to increase
by .8% or decrease by 1.0% compared to results forecasted under a flat rate
environment. This narrow projected exposure to interest rate risk is consistent
with management's desire to limit the sensitivity of net interest income to
changes in interest rates in order to reduce risk to earnings and capital. This
model is based solely on gradual, uniform changes in market rates and does not
reflect the levels of interest rate risk that may arise from other factors such
as changes in the spreads between key market rates or in the shape of the
Treasury yield curve.
Change in interest rates from current level (2.00)% (1.00)% 0.00% 1.00% 2.00%
Change in net interest income versus flat rates (1.0)% (0.5)% 0.0% 0.4% 0.8%
An important component of Old Kent's management of interest rate risk is the
company's use of interest rate swaps. At December 31, 1997 the total notional
amount (the amount used to calculate interest) of outstanding interest rate swap
agreements was $531.2 million. For 1997 and 1996, Old Kent's interest rate swaps
increased net interest income by approximately $3.1 million and $2.4 million
respectively. This improved the Corporation's net interest margin by .03% in
1997 and by .02% in 1996. The following table presents information regarding
swap activity during 1997.
Swap Activity
12/31/96 Matured and Notional New Swap 12/31/97
(in millions) Notional Terminated Amortization* Notional Notional
- ------------------------------------------------------------------------------------------------
Receive Fixed/Pay Floating $386.3 $ 0.0 $(105.1) $225.0 $506.2
Receive Floating/Pay Fixed 75.0 (50.0) 0.0 0.0 25.0
------ ------ ------- ------ ------
$461.3 $(50.0) $(105.1) $225.0 $531.2
====== ====== ======= ====== ======
- ------------------------------
*Note: Certain "Index Amortizing Swaps" have notional amounts for which the
maturity date, or amortization schedule, may vary based on interest rate levels.
Old Kent had no remaining swaps of this type at December 31, 1997.
ECONOMIC VALUE OF EQUITY: As part of the Company's asset/liability management
process, quarterly estimations are conducted that measure the net present value
of Old Kent's financial instruments -- also referred to as the economic value of
equity. The measurement is first conducted under an assumed environment of
unchanged market interest rates. Next, net present value measurements are
conducted under various levels of parallel market interest rate shocks. The
magnitude of the change in the economic value of equity due to interest rate
changes is monitored by the corporate Asset/Liability Committee which has
established limits in the interest rate risk limit policy. Throughout 1997, the
estimated variability of the economic value of equity was within the company's
established policy limits.
The table below presents information about Old Kent's interest rate sensitive
financial instruments. The company's financial instruments have been entered
into for non-trading purposes. Old Kent's trading
S-30
33
portfolio activities involve a limited inventory of investment securities that
are marketed to corporate and institutional clients. The trading account
balance, which totaled $986 thousand at December 31, 1997, is not separately
material and has been included in "fixed rate/fixed maturity securities" below.
For asset and liability instruments, expected principal cash flows are displayed
with weighted average contractual rates for fixed rate instruments and weighted
average forecasted rates assuming unchanged market rates for variable rate
instruments. For interest rate swaps, contractual notional maturities are
displayed with weighted average contractual rates for fixed rate payments and
weighted average forecasted rates assuming unchanged market rates for variable
rate payments. For interest rate caps and floors, contractual notional
maturities are displayed with strike rates. For mortgage forward sales, treasury
bond futures call options, treasury futures put options, and mortgage put
options, contract amounts are displayed by maturity along with weighted average
coupons, weighted average prices, and weighted average strike prices as
applicable. For mortgage servicing rights, expected servicing balance maturities
are displayed with the weighted average servicing fee.
S-31
34
Market Risk Sensitivity of Financial Instruments
Principal/Notional Amounts
Maturing and Related Rates Fair
At December 31, 1997 Value
(in millions of dollars) 1998 1999 2000 2001 2002 Thereafter Total 12/31/97
- ------------------------------------------------------------------------------------------------------------
ASSETS:
Short-term investments $ 50.5 - - - - - $ 50.5 $ 50.5
5.50% - - - - - 5.50%
Fixed rate/fixed maturity
securities 44.5 $ 82.5 $ 37.9 $ 12.6 $136.7 $ 473.4 787.6 791.4
5.82% 5.78% 5.89% 5.36% 6.10% 5.73% 5.80%
Fixed rate mortgage
securities 326.3 277.5 236.7 201.5 171.3 777.6 1,990.9 1,988.2
6.55% 6.55% 6.55% 6.55% 6.55% 6.55% 6.55%
Variable rate mortgage
securities 11.9 10.1 8.6 7.3 6.2 35.1 79.2 79.2
7.05% 7.05% 7.05% 7.05% 7.05% 7.05% 7.05%
Fixed rate commercial
loans 800.5 441.6 266.1 371.5 305.4 93.4 2,278.5 2,326.8
8.15% 8.68% 8.88% 8.58% 8.71% 8.09% 8.48%
Variable rate commercial
loans 1,854.7 419.1 227.0 145.0 108.5 68.1 2,822.4 2,822.3
8.85% 8.85% 8.85% 8.85% 8.85% 8.85% 8.85%
Fixed rate consumer loans 706.2 498.8 344.2 196.1 90.6 106.6 1,942.5 1,986.8
9.69% 9.70% 9.62% 9.46% 9.28% 10.08% 9.66%
Variable rate consumer
loans 127.9 122.0 119.7 118.4 116.5 55.7 660.2 662.2
9.17% 9.17% 9.17% 9.17% 9.17% 9.17% 9.17%
Fixed rate mortgage loans 73.8 62.5 45.5 36.0 26.3 64.5 308.6 316.9
8.00% 7.92% 7.94% 7.94% 8.01% 7.90% 7.95%
Variable rate mortgage
loans 68.6 58.3 49.6 42.1 35.8 202.9 457.3 458.8
8.07% 8.16% 8.19% 8.21% 8.22% 8.23% 8.17%
Mortgages held-for-sale 1,271.8 - - - - - 1,271.8 1,277.9
7.35% - - - - - 7.35%
LIABILITIES:
Non-interest-bearing
checking 210.3 210.3 210.3 210.3 210.3 617.6 1,669.1 1,669.1
- - - - - -
Savings and money market 386.9 386.9 386.9 386.9 386.9 1,136.2 3,070.7 3,070.9
2.63% 2.63% 2.63% 2.63% 2.63% 2.63% 2.63%
Time deposits 4,377.9 661.2 306.3 86.4 38.3 18.4 5,488.5 5,513.0
5.43% 5.56% 6.29% 6.07% 5.85% 6.94% 5.51%
Fixed Rate purchased funds 110.0 - - - - - 110.0 110.4
6.90% - - - - - 6.90%
Variable rate purchased
funds 1,964.8 - - - - - 1,964.8 1,962.5
5.53% - - - - - 5.53%
Fixed rate long term debt - - - - - 100.0 100.0 100.9
- - - - - 6.78% 6.78%
Variable rate long term
instrument - - - - - 100.0 100.0 100.0
- - - - - 6.61% 6.61%
S-32
35
Principal/Notional Amounts
Maturing and Related Rates Fair
At December 31, 1997 Value
(in millions of dollars) 1998 1999 2000 2001 2002 Thereafter Total 12/31/97
- ------------------------------------------------------------------------------------------------------------
OFF-BALANCE-SHEET DERIVATIVE FINANCIAL INSTRUMENT NOTIONAL MATURITIES:
Receive fixed rate swaps $ 86.3 $ 50.0 $200.0 $ 44.9 $125.0 - $ 506.2 $ 6.5
Average pay rate 5.84% 5.81% 5.82% 5.81% 5.81% - 5.82%
Average receive rate 7.10% 7.84% 6.36% 6.36% 6.67% - 6.71%
Receive variable rate swaps 25.0 - - - - - 25.0 (0.1)
Average pay rate 7.17% - - - - - 7.17%
Average receive rate 5.84% - - - - - 5.84%
Interest rate caps bought - - 20.0 - - - 20.0 0.0
Average strike rate - - 10.38% - - - 10.38%
Interest rate caps sold - - 20.0 - - - 20.0 0.0
Average strike rate - - 10.38% - - - 10.38%
Interest rate floors bought - - 20.0 - - - 20.0 0.0
Average strike rate - - 5.00% - - - 5.00%
Interest rate floors sold - - 20.0 - - - 20.0 0.0
Average strike rate - - 5.00% - - - 5.00%
Mortgage forward sales 1,217.5 - - - - - 1,217.5 (5.1)
Weighted average coupon 6.80% - - - - - 6.80%
Weighted average price 99.82 99.82
Treasury bond futures call
options 30.0 - - - - - 30.0 (0.1)
Weighted average strike
price 122.83 - - - - - 122.83
Treasury futures put
options 77.5 77.5 (0.1)
Weighted average strike
price 114.11 114.11
Mortgage put options 735.0 - - - - - 735.0 (0.7)
Weighted average coupon 7.30% 7.30%
Weighted average strike
price 99.25 - - - - - 99.25
12/31/97
Fair
Value of
Servicing
Rights
--------
MORTGAGE SERVICING RIGHTS:
Principal balance serviced 1,829.8 1,546.2 1,306.5 1,104.0 932.9 5,085.6 11,805.0 166.0
Weighted average servicing
fee 0.33% 0.33% 0.33% 0.33% 0.33% 0.33% 0.33%
ASSUMPTIONS:
- -- Tax-free loans and investments are shown at their nominal yield, not their
tax-adjusted yield.
- -- A flat rate environment with 12/31/97 market rates was used to forecast
future variable rates.
- -- Rates represent interest charged/earned without the impact of fees or costs.
- -- Principal maturities reflect prepayments as estimated by management using
market expectations for similar instruments.
- -- "Notional" amounts are used to calculate interest payments to be exchanged
between counterparties, or the value of options contracts relative to their
strike price.
- -- Management estimated the maturity of certain revolving line of credit loans
and non-maturity deposit accounts based on historical experience and market
characteristics.
S-33
36
Because various categories of financial instruments listed above are subject to
prepayment, the above table may not fully reflect Old Kent's market risk
exposure. Maturities presented in the above table reflect prepayments estimated
by management assuming a level interest rate environment. Future changes in
prevailing interest rates may influence prepayment decisions of obligors
resulting in effective maturities longer or shorter than those presented in the
table. Because reported yields take into account purchase premiums and
discounts, payment earlier or later than assumed would affect reported yields.
Securities Held-to-maturity
Securities held-to-maturity are purchased with the intent and ability to hold
for long-term investment for the purpose of generating interest income over the
lives of the investments. Thus they are carried on the books at cost, adjusted
for amortization of premium and accretion of discount. Decisions to purchase
securities are based upon current assessments of economic and financial
conditions, including the interest rate environment.
Securities Available-for-sale
Old Kent's investment strategy stresses relative value. As conditions change
over time, the Corporation's overall interest rate risk, liquidity risk, and
potential return on the investment portfolio will change. Old Kent regularly
re-evaluates the marketable securities in its portfolio based on circumstances
as they evolve. In consideration of these factors, management's objective is to
optimize the ongoing total return of its securities portfolios.
During 1997 and 1996, the principal reason for sales of securities
available-for-sale was to provide liquidity. In 1997, net gains on the sale of
securities were $0.7 million. This compares to net gains of $0.1 million in 1996
and $0.4 million in 1995.
Sources and Uses of Funds Trends
As shown on the accompanying consolidated balance sheets, total assets at
December 31, 1997 were $13.8 billion, up by $1.1 billion, or 8.9%, from the
preceding year-end. In general, Old Kent's management uses daily average
balances, and balances at a period end to analyze trends. Old Kent's average
consolidated balance sheets for the last five years appears on page S-12 of this
report.
S-34
37
Information contained in that statement was the basis for the summarized trends
in sources and uses of funds appearing below.
1997 1996
------------------------------------ -----------------------------------
Increase (Decrease) Increase (Decrease)
Average --------------------- Average --------------------
(Dollars in millions) Balance Amount Percent Balance Amount Percent
- ------------------------------------------------------------------------------------------------------
Funding Uses:
Loans $ 8,419.3 $ 623.5 8.0% $ 7,795.8 $ 565.1 7.8%
Mortgages
held-for-sale 882.1 515.7 140.8 366.4 118.6 47.9
Taxable securities 2,710.6 (199.0) (6.8) 2,909.6 42.2 1.5
Tax-exempt securities 146.4 (15.6) (9.6) 162.0 (49.7) (23.5)
Interest-earning
deposits 15.7 6.9 78.4 8.8 (39.4) (81.7)
Federal funds sold and
resale agreements 79.2 (20.7) (20.7) 99.9 (149.1) (59.9)
Trading account
securities 21.5 11.2 108.7 10.3 (10.3) (50.1)
--------- ------- ----- --------- ------- -----
Total Uses $12,274.8 $ 922.0 8.1% $11,352.8 $ 477.4 4.4%
========= ======= ===== ========= ======= =====
Funding Sources:
Demand deposits $ 1,511.4 $ 103.7 7.4% $ 1,407.7 $ 77.9 5.9%
Savings deposits 3,021.2 39.9 1.3 2,981.3 (112.9) (3.6)
Time deposits:
Negotiable 907.4 (227.7) (20.1) 1,135.1 (318.4) (21.9)
Foreign 38.8 (8.0) (17.1) 46.8 (179.2) (79.3)
Consumer 4,789.6 597.9 14.3 4,191.7 977.7 30.4
Federal funds
purchased and
repurchase
agreements 697.7 178.1 34.3 519.6 89.7 20.9
Other borrowed funds 863.5 228.5 36.0 635.0 (120.7) (16.0)
Preferred beneficial
interest in the
Corporations' junior
subordinated
debentures 91.8 91.8 - - - -
Long-term debt 100.8 (0.2) (0.2) 101.0 87.3 637.2
Other 252.6 (82.0) (24.5) 334.6 (24.0) (6.7)
--------- ------- ----- --------- ------- -----
Total Sources $12,274.8 $ 922.0 8.1% $11,352.8 $ 477.4 4.4%
========= ======= ===== ========= ======= =====
In 1997, average total loans and total interest earning assets increased by 8%.
This growth included the effect of acquiring Seaway. The growth also included a
sizeable increase in average mortgages held-for-sale which increased by 140% due
to continued growth in Old Kent Mortgage Company. Dependent upon economic
conditions and management strategies employed by the Corporation, mortgages
held-for-sale may significantly increase or decrease from period to period.
Funding for loan growth was provided by a similar dollar increase in core
deposits (demand, savings and consumer time). Funding for the increase in
mortgages held-for-sale was provided by increases in the various categories of
other borrowings as well as reductions in taxable securities.
Growth in average total loans for 1996 amounted to nearly $.6 billion, or about
7.8%, and total interest earning assets increased 4.4%. This growth was
primarily funded through growth in average total deposits, particularly consumer
time deposits. Over the past two years, mortgages held-for sale have
S-35
38
increased due to the previously mentioned growth of OKMC. Mortgages
held-for-sale generally consist of recently originated and acquired residential
mortgage loans intended to be sold.
Lower interest rates over the years preceding 1994 had an effect on the relative
mix in Old Kent's core deposits. During the periods of lower rates, savings
deposits became a greater proportion of total core deposits. Since 1994,
consumer time deposits have grown to become a proportionally greater component
of average core deposits as shown in the table below. Because consumer time
deposits typically pay interest at rates higher than savings and demand
deposits, the growth in consumer time deposits has had the effect of increasing
interest expense in years after 1994.
Based on annual averages
-----------------------------------------
Relative core deposit mix 1997 1996 1995 1994 1993
- -------------------------------------------------------------------------------------------------
Demand deposits 16.2% 16.4% 17.4% 17.5% 16.3%
Savings deposits 32.4 34.7 40.5 48.5 48.1
Consumer time deposits 51.4 48.9 42.1 34.0 35.6
----- ----- ----- ----- -----
Total core deposits 100.0% 100.0% 100.0% 100.0% 100.0%
===== ===== ===== ===== =====
Quarterly Financial Data
The following is a summary of selected quarterly results of operations for the
years ended December 31, 1997 and 1996:
(In thousands, except per share data) Three Months Ended
- --------------------------------------------------------------------------------------------
1997 March 31 June 30 Sept. 30 Dec. 31
- --------------------------------------------------------------------------------------------
Interest Income $245,108 $255,198 $259,059 $261,904
Net Interest Income 128,890 131,491 132,766 132,780
Provision for Credit Losses 10,221 11,741 11,639 12,076
Income Before Income Taxes 61,644 80,373 66,174 65,694
Net Income 41,004 52,811 43,475 43,014
Basic Earnings Per Share $0.43 $0.55 $0.46 $0.46
Diluted Earnings Per Share $0.42 $0.55 $0.45 $0.46
(In thousands, except per share data) Three Months Ended
- --------------------------------------------------------------------------------------------
1996 March 31 June 30 Sept. 30 Dec. 31
- --------------------------------------------------------------------------------------------
Interest Income $229,151 $235,645 $240,467 $242,044
Net Interest Income 118,166 124,977 125,969 125,176
Provision for Credit Losses 6,252 9,723 9,168 10,093
Income Before Income Taxes 59,613 56,299 60,398 62,412
Net Income 39,234 37,561 40,297 41,609
Basic Earnings Per Share $0.39 $0.38 $0.42 $0.44
Diluted Earnings Per Share $0.39 $0.38 $0.41 $0.43
Net income for the fourth quarter of 1997 was not dissimilar to that of the
third quarter of 1997.
Net income for the last quarter of 1996 was more than any of the three preceding
calendar quarters. The primary reason for the increase was an increase in
mortgage banking revenues which included the effect of NPMC acquired on August
1, 1996.
S-36
39
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING
The management of Old Kent Financial Corporation is responsible for the
preparation of the financial statements and other related financial information
included in the annual report. The financial statements have been prepared in
accordance with generally accepted accounting principles and include amounts
based on management's estimates and judgments where applicable. Financial
information appearing throughout this annual report is consistent with the
financial statements.
The Corporation maintains a system of internal controls to provide reasonable
assurance that assets are safeguarded and that transactions are executed in
accordance with management's authorization and are recorded properly to permit
the preparation of financial statements in accordance with generally accepted
accounting principles. Management continually monitors the internal control
structure for compliance with established policies and procedures. As an
integral part of the internal control system, the Corporation maintains an
internal audit program to monitor compliance with internal controls and
coordinate audit coverage with the independent public accountants.
The Audit Committee of the board of directors, composed entirely of outside
directors, oversees the Corporation's financial reporting process and has
responsibility for recommending the independent public accountants who are
appointed by the board of directors to audit the Corporation's annual financial
statements.
The financial statements in this annual report have been audited by Arthur
Andersen LLP and their report appears on page S-38.
The Audit Committee of the board of directors meets regularly with management,
internal auditors, independent public accountants and regulatory examiners to
review matters relating to financial reporting and internal controls. The
internal auditors, independent public accountants and regulatory examiners have
direct access to the Audit Committee.
The Corporation assesses its internal control structure over financial reporting
in relation to the criteria described in the "Internal Control -- Integrated
Framework" issued by the Committee of Sponsoring Organizations of the Treadway
Commission. Based on this assessment, management of the Corporation believes
that as of December 31, 1997, in all material respects, the Corporation
maintained an effective internal control structure over financial reporting.
/s/ DAVID J. WAGNER
David J. Wagner
Chairman, President and
Chief Executive Officer
/s/ WILLIAM L. SANDERS
William L. Sanders
Sr. Executive Vice President, Chief Financial Officer and Treasurer
/s/ ALBERT T. POTAS
Albert T. Potas
Senior Vice President and Controller
January 14, 1998
S-37
40
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders and the Board of Directors of Old Kent Financial
Corporation:
We have audited the accompanying consolidated balance sheets of Old Kent
Financial Corporation (a Michigan corporation) and subsidiaries as of December
31, 1997 and 1996, and the related consolidated statements of income, cash flows
and shareholders' equity for each of the three years in the period ended
December 31, 1997. These financial statements are the responsibility of the
Corporation's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Old Kent Financial Corporation
and subsidiaries as of December 31, 1997 and 1996, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1997, in conformity with generally accepted accounting principles.
/s/ Arthur Andersen LLP
Chicago, Illinois,
January 14, 1998
S-38
41
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets
December 31 (dollars in thousands) 1997 1996
- ------------------------------------------------------------------------------------------
ASSETS:
Cash and due from banks $ 501,912 $ 530,444
Federal funds sold and resale agreements 48,330 107,353
----------- -----------
Total cash and cash equivalents 550,242 637,797
Interest-earning deposits 2,152 803
Mortgages held-for-sale 1,271,784 589,245
Trading account securities 986 19,009
Securities available-for-sale:
Collateralized mortgage obligations and other
mortgage-backed securities 1,403,726 673,722
Other securities 633,141 1,221,476
----------- -----------
Total securities available-for-sale (amortized cost of
$2,034,435 and $1,910,367 in 1997 and 1996,
respectively) 2,036,867 1,895,198
Securities held-to-maturity:
Collateralized mortgage obligations and other
mortgage-backed securities 666,978 746,355
Other securities 153,861 162,975
----------- -----------
Total securities held-to-maturity (market values of
$820,902 and $911,592 in 1997 and 1996, respectively) 820,839 909,330
Loans 8,469,477 8,097,056
Less allowance for credit losses 157,417 165,928
----------- -----------
Net loans 8,312,060 7,931,128
Leasehold improvements, premises and equipment 184,738 173,916
Other assets 593,854 490,402
----------- -----------
TOTAL ASSETS $13,773,522 $12,646,828
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY:
Liabilities:
Deposits:
Non-interest-bearing $ 1,669,063 $ 1,580,960
Interest-bearing 8,529,215 8,474,754
Foreign-interest bearing 30,012 24,433
----------- -----------
Total deposits 10,228,290 10,080,147
Other borrowed funds 2,074,791 1,235,867
Subordinated debt: 6 5/8% due November 15, 2005 100,000 100,000
Other liabilities 242,988 237,057
----------- -----------
TOTAL LIABILITIES 12,646,069 11,653,071
----------- -----------
Guaranteed preferred beneficial interest in the
Corporation's junior subordinated debentures 100,000 -
----------- -----------
SHAREHOLDERS' EQUITY:
Preferred stock: 25,000,000 shares authorized and unissued - -
Common stock, par value $1: 150,000,000 shares authorized;
92,779,772 and 44,944,321 shares issued and outstanding
in 1997 and 1996, respectively 92,780 44,944
Capital surplus 204,788 175,842
Retained earnings 728,304 782,830
----------- -----------
Total common stock, capital surplus and retained earnings 1,025,872 1,003,616
Unrealized gains (losses) on securities available-for-sale 1,581 (9,859)
----------- -----------
TOTAL SHAREHOLDERS' EQUITY 1,027,453 993,757
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $13,773,522 $12,646,828
=========== ===========
The accompanying notes to consolidated financial statements are an integral part
of these statements.
S-39
42
Consolidated Statements of Income
Year ended December 31
(dollars in thousands, except per share data) 1997 1996 1995
- -------------------------------------------------------------------------------------------------
INTEREST INCOME:
Interest and fees on loans $ 762,913 $715,982 $666,790
Interest on mortgages held-for-sale 66,668 28,374 19,140
Interest on securities available-for-sale 125,855 130,793 77,139
Interest on securities held-to-maturity 59,488 65,683 127,728
Interest on deposits 824 495 2,834
Interest on federal funds sold and resale agreements 4,322 5,453 14,991
Interest on trading account securities 1,199 527 1,197
---------- ---------- -----------
Total interest income 1,021,269 947,307 909,819
---------- ---------- -----------
INTEREST EXPENSE:
Interest on domestic deposits 393,780 379,898 348,348
Interest on foreign deposits 2,113 2,685 14,137
Interest on other borrowed funds 86,423 63,710 69,798
Interest on long term obligations 13,026 6,726 843
---------- ---------- -----------
Total interest expense 495,342 453,019 433,126
---------- ---------- -----------
NET INTEREST INCOME 525,927 494,288 476,693
PROVISION FOR CREDIT LOSSES 45,677 35,236 21,666
---------- ---------- -----------
NET INTEREST INCOME AFTER PROVISION FOR CREDIT LOSSES 480,250 459,052 455,027
---------- ---------- -----------
OTHER INCOME:
Mortgage banking revenue -- net 93,841 57,574 32,363
Trust income 53,434 46,027 43,281
Service charges on deposit accounts 49,170 45,352 40,266
Transaction processing fees 17,330 13,104 12,417
Insurance sales commissions 14,212 12,397 4,593
ATM fees 5,873 2,622 3,588
Brokerage commissions 3,281 1,543 1,024
Credit card transaction revenue 1,412 7,847 9,709
Securities transactions 743 128 421
Nonrecurring and other real estate owned income 20,859 4,158 2,202
Other 24,268 21,412 11,854
---------- ---------- -----------
Total other income 284,423 212,164 161,718
---------- ---------- -----------
OTHER EXPENSES:
Salaries and employee benefits 253,017 212,199 185,158
Occupancy 35,000 30,388 28,635
Equipment 29,590 24,647 24,746
Professional services 15,944 13,430 10,607
Telephone and telecommunications 14,339 11,431 9,183
Stationery and supplies 13,628 7,600 8,605
Taxes other than income 13,559 11,795 10,655
Amortization of goodwill and intangibles 13,412 10,109 11,864
Advertising and promotion 9,683 24,867 9,918
FDIC deposit insurance 1,309 2,458 11,123
Restructuring charges - - 18,204
Nonrecurring and other real estate owned expenses 4,540 988 2,801
Other 86,767 82,582 70,633
---------- ---------- -----------
Total other expenses 490,788 432,494 402,132
---------- ---------- -----------
INCOME BEFORE INCOME TAXES 273,885 238,722 214,613
Income taxes 93,581 80,021 72,799
---------- ---------- -----------
NET INCOME $ 180,304 $158,701 $141,814
========== ========== ===========
Average number of shares used to compute:
Basic earnings per share 94,962,920 97,631,592 99,804,580
Diluted earnings per share 95,729,980 98,368,635 100,559,630
Earnings Per Share:
Basic $1.90 $1.63 $1.42
Diluted $1.88 $1.61 $1.41
The accompanying notes to consolidated financial statements are an integral part
of these statements.
S-40
43
Consolidated Statements of Cash Flows
Year ended December 31 (dollars in thousands) 1997 1996 1995
- -----------------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 180,304 $ 158,701 $ 141,814
Adjustments to reconcile net income
to net cash provided by operating activities:
Provision for credit losses 45,677 35,236 21,666
Depreciation, amortization and accretion 47,390 59,361 49,528
Deferred income taxes 19,627 (1,913) (7,224)
Net gains on sales of assets (90,694) (45,896) (16,370)
Net change in trading account securities 61,523 (5,058) 1,174
Originations and acquisitions of mortgages
held-for-sale (6,878,737) (3,409,276) (2,060,201)
Proceeds from sales of mortgages held-for-sale 6,265,742 3,236,859 1,993,642
Net increase in other assets (85,803) (54,421) (72,107)
Net change in other liabilities (31,111) 14,720 51,683
----------- ----------- -----------
Net cash (used for) provided by operating
activities (466,082) (11,687) 103,605
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from maturities and prepayments of
securities available-for-sale 166,065 342,487 459,051
Proceeds from sales of securities
available-for-sale 2,828,392 4,004,625 1,323,828
Purchases of securities available-for-sale (3,049,027) (4,068,631) (1,297,725)
Proceeds from maturities and prepayments of
securities held-to-maturity 427,323 168,642 373,903
Proceeds from sales of securities
held-to-maturity - 860 -
Purchases of securities held-to-maturity (339,055) (212,505) (373,491)
Net change in interest-earning deposits (1,350) 174,611 (170,158)
Proceeds from sales of loans 351,112 - 242,127
Net increase in loans (535,747) (744,263) (830,799)
Purchases of leasehold improvements, premises
and equipment, net (30,020) (19,813) (25,142)
Acquisition of business units (net of cash
acquired) 17,204 (23,598) -
Sale of business units (net of cash sold) 1,234 7,123 -
----------- ----------- -----------
Net cash used for investing activities (163,869) (370,462) (298,406)
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Change in time deposits (198,265) 817,300 44,955
Change in demand and savings deposits 44,602 (11,818) (116,925)
Change in other borrowed funds 838,924 (178,099) 296,848
Issuance of subordinated debt - - 100,000
Proceeds of guaranteed preferred beneficial
interests in the Corporation's junior
subordinated debentures 100,000 - -
Repurchases of common stock (189,605) (135,792) (20,805)
Proceeds from common stock issuances 10,799 10,421 8,110
Dividends paid to shareholders (64,059) (59,122) (55,334)
----------- ----------- -----------
Net cash provided by financing activities 542,396 442,890 256,849
----------- ----------- -----------
Net change in cash and cash equivalents (87,555) 60,741 62,048
Cash and cash equivalents at beginning of year 637,797 577,056 515,008
----------- ----------- -----------
Cash and cash equivalents at December 31 $ 550,242 $ 637,797 $ 577,056
=========== =========== ===========
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Year ended December 31 (dollars in thousands) 1997 1996 1995
- -----------------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid on deposits, other borrowed funds
and subordinate debt $ 505,333 $ 453,413 $ 420,246
Federal income taxes paid 70,701 78,709 71,250
Significant non-cash transactions:
Stock dividend issued 124,009 83,596 71,651
Stock split issued 46,447 - -
Stock issued to acquire businesses 76,938 8,431 -
The accompanying notes to consolidated financial statements are an integral part
of these statements.
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Consolidated Statements of Shareholders' Equity
Valuation
Adjustment Total
Securities Share-
Common Capital Retained Available- holders'
(dollars in thousands, except per share data) Stock Surplus Earnings For-Sale Equity
- ----------------------------------------------------------------------------------------------------------------
BALANCE AT JANUARY 1, 1995 $43,177 $ 141,247 $ 751,164 $ (39,591) $ 895,997
Net income for the year 141,814 141,814
Cash dividends:
$.554 per common share (55,334) (55,334)
Common stock issued in payment of 5% stock
dividend -- 2,157,241 shares (cash in lieu of
fractionals -- $187,000) 2,157 69,494 (71,838) (187)
Common stock issued for Guyot, Hicks, Anderson &
Associates, Inc. acquisition -- 198,803 shares 199 (30) 169
Common stock repurchased for dividend reinvestment
plan and employee stock plans -- 588,742 shares (589) (20,216) (20,805)
Common stock issued under dividend reinvestment
plan, employee stock plans, and other -- 438,930
shares 439 9,368 9,807
Tax benefit relating to employee stock plans 238 238
Other 1,279 1,279
Valuation adjustment on securities
available-for-sale 42,958 42,958
-------- ---------- --------- --------- -----------
BALANCE AT DECEMBER 31, 1995 45,383 200,101 767,085 3,367 1,015,936
Net income for the year 158,701 158,701
Cash dividends:
$.605 per common share (59,122) (59,122)
Common stock issued in payment of 5% stock
dividend -- 2,229,606 shares (cash in lieu of
fractionals -- $238,000) 2,230 81,366 (83,834) (238)
Common stock issued for Republic Mortgage
Corporation acquisition -- 216,160 shares 216 8,215 8,431
Common stock repurchased for dividend reinvestment
plans, employee stock plans, acquisitions, stock
dividends and other purposes -- 3,341,520 shares (3,342) (132,450) (135,792)
Common stock issued under dividend reinvestment
plan, employee stock plans, and other -- 456,953
shares 457 13,464 13,921
Tax benefit relating to employee stock plans 5,146 5,146
Valuation adjustment on securities
available-for-sale (13,226) (13,226)
-------- ---------- --------- --------- -----------
BALANCE AT DECEMBER 31, 1996 44,944 175,842 782,830 (9,859) 993,757
Net income for the year 180,304 180,304
Cash dividends:
$.674 per common share (64,059) (64,059)
Common stock issued in payment of 5% stock
dividend -- 2,269,430 shares (cash in lieu of
fractionals -- $315,000) 2,270 121,739 (124,324) (315)
Common stock issued for Seaway Financial
Corporation acquisition -- 1,924,177 shares 1,924 69,843 71,767
Common stock issued for Grand Rapids Holland
Insurance Agency, Inc. acquisition -- 86,246
shares 86 5,085 5,171
Common stock repurchased for dividend reinvestment
plans, employee stock plans, acquisitions, stock
dividends and other purposes -- 3,422,477 shares (3,422) (186,183) (189,605)
Common stock issued under dividend reinvestment
plan, employee stock plans, and other -- 530,614
shares 531 13,485 14,016
Common stock issued in payment of 2-for-1 stock
split -- 46,447,461 shares 46,447 (46,447)
Tax benefit relating to employee stock plans 4,977 4,977
Valuation adjustment on securities
available-for-sale 11,440 11,440
-------- ---------- --------- --------- -----------
BALANCE AT DECEMBER 31, 1997 $92,780 $ 204,788 $ 728,304 $ 1,581 $ 1,027,453
======== ========== ========= ========= ===========
The accompanying notes to consolidated financial statements are an integral part
of these statements.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The consolidated financial statements have been prepared in conformity with
generally accepted accounting principles and reporting practices prescribed for
the banking industry. A description of significant accounting policies follows:
Basis of Presentation
The consolidated financial statements for the Corporation include the accounts
of Old Kent Financial Corporation (Parent Company) and its wholly owned
subsidiaries (collectively, "Old Kent" or the "Corporation"). Significant
intercompany balances and transactions have been eliminated in consolidation.
Nature of Operations
The Corporation operates two commercial banks with 204 full service offices
throughout Michigan and 24 such offices in the metropolitan markets in and
around Chicago, Illinois. It also operates a mortgage banking company with over
100 offices located in twenty-five states. Other business activities include
investment management and trust services, as well as brokerage and insurance
services. Old Kent's revenue is mainly derived by providing financial services
to commercial and retail customers located within those markets. The financial
services primarily consist of the extension of credit and acceptance of
deposits.
Use of Estimates
Conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities, and the disclosure of contingent assets and liabilities at the date
of the financial statements, as well as the amounts of revenues and expenses
during the reporting period. Actual results may differ from those estimates.
Financial Instruments
Old Kent uses certain off-balance sheet derivative financial instruments,
principally interest rate swaps, in connection with its asset/liability
management activities. Purchased interest rate options (including caps and
floors) and forwards are also used to manage interest rate risk and currency
risk. Provided these instruments meet specific criteria, they are considered
hedges and accounted for under the accrual or deferral methods.
Old Kent uses the accrual method for substantially all of its interest rate
swaps as well as for interest rate options. Amounts receivable or payable under
these agreements are recognized as an adjustment to the interest income or
expense of the hedged item. There is no recognition on the balance sheet for
changes in the fair value of the hedging instrument. Premiums paid for interest
rate options are deferred as a component of other assets and amortized to
interest income or expense over the contract term. Gains and losses associated
with forwards are deferred as an adjustment to the carrying value of the related
asset or liability and are recognized in the corresponding interest income or
expense accounts over the remaining life of the hedged item. Gains and losses on
terminated hedging instruments are also deferred and amortized over the
remaining life of the hedged item.
S-44
47
Derivative financial instruments, such as caps and floors, that do not meet the
required criteria are carried on the balance sheet at fair value with realized
and unrealized changes in that value recognized in earnings. If the hedged item
is sold or its outstanding balance otherwise declines below that of the related
hedging instrument, the derivative product (or applicable excess portion
thereof) is marked-to-market and the resulting gain or loss is included in net
income.
Trading Account Securities
Trading account securities are carried at market value. Gains and losses on
trading activities are included in other income in the consolidated statements
of income.
Securities Available-for-Sale
Securities available-for-sale include those securities which might be sold as
part of Old Kent's management of interest rate risk, in response to changes in
interest rates, prepayment or credit risk or due to a desire to increase capital
or liquidity. While Old Kent has no current intention to sell these securities,
they may not be held for long-term investment. These assets are carried on the
balance sheet at their estimated fair values, with corresponding (after-tax)
valuation adjustments included as a component of shareholders' equity. Gains and
losses realized on sales of such securities are determined using the specific
identification method and are classified as other income in the consolidated
statements of income.
Premiums and discounts on securities available-for-sale, as well as securities
held-to-maturity, are amortized over the estimated lives of the related
securities. This amortization and adjustments stemming from changes in estimated
lives, is included in interest income on the accompanying consolidated
statements of income.
Securities Held-to-Maturity
Securities held-to-maturity are stated at amortized cost. Designation as such a
security is made at the time of acquisition and is based on intent and ability
to hold the security to maturity.
Mortgage Banking Activities
The Corporation routinely sells to investors its originated residential mortgage
loans, as well as those acquired from third parties. The Corporation may or may
not retain the servicing rights related to the mortgages sold. Gains on sales of
mortgages are recorded to the extent proceeds exceed the carrying value of the
loans. Mortgage loans held-for-sale are carried at the lower of cost or market,
which is determined under the aggregate method. In determining the lower of cost
or market, the gains and losses associated with the corresponding financial
instruments, used to hedge against increases in interest rates, are considered.
When a definitive plan exists to sell the loan and retain the servicing, the
cost of the mortgage is allocated between the loan and its related mortgage
servicing right based on their fair values at the date of origination or
purchase.
The fair value of the Corporation's mortgage servicing rights is determined
based on quoted market prices for comparable transactions, if available, or a
valuation model that calculates the present value of expected future cash flows.
Mortgage servicing rights are amortized ratably in relation to the associated
S-45
48
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
servicing revenue over the estimated lives of the serviced loans. The
Corporation evaluates and measures impairment of its capitalized servicing
rights using stratifications based on the risk characteristics of the underlying
loans. Management has determined those risk characteristics to include loan type
(conventional and governmental) and interest rate. Impairment is recognized
through a valuation allowance.
Loans
Loans are generally stated at their principal amount outstanding, net of
unearned income. Loan performance is reviewed regularly by loan review
personnel, loan officers and senior management. A loan is placed on nonaccrual
status and evaluated for impairment when principal or interest is past due 90
days or more and the loan is not well secured and in the process of collection,
or when, in the opinion of management, there is sufficient reason to doubt
collectibility of principal or interest. Interest previously accrued, but not
collected, is reversed and charged against interest income at the time the loan
is placed on nonaccrual status. Generally, the terms of loans that resulted from
troubled debt restructurings are at interest rates considered below current
market rates for comparable loans and are evaluated for impairment. The
Corporation considers loans which are on nonaccrual or restructured status as
impaired.
Old Kent's policy is to review impaired loans to determine the need for a
valuation allowance. The Corporation determines this need using the most
appropriate of the following methods: (1) the present value of the expected
future cash flows discounted at the loan's effective rate of interest, (2) the
loan's observable market price, or (3) the fair value of the collateral, if the
loan is collateral dependent. Large groups of smaller balance homogenous loans
with common risk characteristics are aggregated and collectively evaluated for
impairment. These large groups of smaller balance homogenous loans include
residential mortgages, consumer loans, and certain commercial loans, such as
those to small businesses.
Interest payments received on nonaccrual loans are recorded as principal
reductions if principal repayment is doubtful. Loans are no longer classified as
impaired when principal and interest payments are current and collectibility is
no longer in doubt. Interest income on restructured loans is recognized
according to the terms of the restructure, subject to the nonaccrual policy
described above.
Certain commitment and loan origination fees are deferred and amortized as an
adjustment of the related loan's yield over its contractual life using the
interest method, or other sufficiently similar methods. All remaining commitment
and loan origination fees and all direct costs associated with originating or
acquiring loans are recognized currently, which is not materially different than
the prescribed method.
Allowance for Credit Losses
The allowance for credit losses is maintained at a level that, in management's
judgment, is adequate to absorb probable losses in the loan portfolio. The
amount is based on management's specific review and analysis of the loan
portfolio, and evaluation of the effects of current economic conditions on the
loan portfolio. This process is based on estimates, and ultimate losses may
materially differ in the near term from the current estimates. As changes in
estimates occur, adjustments to the level of the allowance are recorded in the
provision for credit losses in the period in which they become known.
S-46
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Leasehold Improvements, Premises and Equipment
Leasehold improvements, premises and equipment are stated at original costs,
less accumulated depreciation and amortization computed on the straight-line
method over the estimated useful lives of the assets or terms of the leases,
whichever period is shorter. For income tax purposes, minimum lives and
accelerated methods are used.
Other Real Estate Owned
Other real estate owned consists of properties acquired in partial or total
satisfaction of debt. Other real estate owned is stated at fair value. Losses
arising at acquisition are charged against the allowance for credit losses.
Reductions in fair value subsequent to acquisition are recorded in other expense
in the consolidated statements of income. Any gains realized on dispositions are
included in other income.
Intangible and Other Long-lived Assets
Goodwill, representing the cost of investments in subsidiaries in excess of the
fair value of the net assets at acquisition, is amortized over periods ranging
from ten to twenty years. Other acquired intangible assets, such as those
associated with acquired core deposits, are amortized over periods not exceeding
fifteen years.
When factors indicate that a long-lived asset or identifiable intangible asset
should be evaluated for impairment, the Corporation estimates the undiscounted
future cash flows over the remaining life of the asset in assessing whether
impairment should be recognized.
Trust Assets
Property, other than cash deposits, held in a fiduciary or agency capacity is
not included in the consolidated balance sheets, since such assets are not owned
by the Corporation.
Pension Benefits
The defined benefit pension plan covers substantially all employees. The plan
provides for normal and early retirement, deferred benefits for vested employees
and, under certain circumstances, survivor benefits in the event of death.
Benefits are based on the employees' years of service and their five highest
consecutive years of compensation over the last ten years of service, subject to
certain limits. The proportion of average compensation paid as a pension is
determined by age and length of service as defined in the plan. Contributions to
the plan satisfy or exceed the minimum funding requirement of the Employee
Retirement Income Security Act (ERISA). Assets held by the plan consist
primarily of investments in several of Old Kent's proprietary mutual funds.
Old Kent also maintains a noncontributory, nonqualified pension plan for certain
participants whose retirement benefit payments under the qualified plan are
expected to exceed the limits imposed by the Internal Revenue code. Old Kent
maintains nonqualified trusts, referred to as "rabbi" trusts, primarily to fund
and secure the benefits in excess of those permitted in certain of the Old Kent
qualified pension plans. These arrangements offer certain officers of the
Corporation a degree of assurance for ultimate payment of benefits. The assets
remain subject to the claims of creditors of Old Kent and are not the property
of the employees. Hence, they are accounted for as assets of the Corporation in
the consolidated balance sheets.
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50
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Retirement Savings Plans
Old Kent maintains a defined contribution retirement savings plan covering
substantially all employees. The Corporation's contribution is equal to 50% of
the amount contributed by the participating employees. Old Kent's contribution
is limited to a maximum of 3% of compensation as described under the terms of
the plans. The estimated contribution by Old Kent is charged to expense during
the year in which the employee contribution is received and is included in
employee benefits in the consolidated statements of income.
Income Taxes
Deferred tax assets and liabilities are recognized for future tax consequences
attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases. Deferred tax
assets and liabilities are measured using the enacted tax rates expected to
apply to taxable income in the years in which those temporary differences are
expected to be reversed. Old Kent and its subsidiaries file a consolidated
federal income tax return.
Earnings per share
Effective December 31, 1997, Old Kent adopted the provisions of Statement of
Financial Accounting Standards No. 128, "Earnings per Share." Accordingly, all
prior period "earnings per share" amounts included in this report have been
restated to conform to this standard. Basic earnings per share is computed by
dividing net income by the average number of common shares outstanding. Diluted
earnings per share is computed by dividing net income by the average number of
common shares outstanding plus all potential common shares. Dilutive potential
common shares include all shares which may become contractually issuable. For
Old Kent, dilutive potential common shares are primarily comprised of shares
issuable under employee stock plans.
Reclassification
Certain reclassifications have been made to prior periods' financial statements
to place them on a basis comparable with the current period's financial
statements.
NOTE 2. BUSINESS ACQUISITIONS AND DISPOSITIONS
On September 1, 1997, Old Kent Insurance Group, Inc.(a subsidiary of Old Kent
Bank), acquired Grand Rapids Holland Insurance Agency, Inc., ("GRH") a provider
of commercial and personal insurance products through offices in western
Michigan. Old Kent issued approximately 86 thousand shares to acquire all of the
outstanding common stock of GRH. When acquired, GRH had assets of approximately
$6.2 million. This acquisition was accounted for as a purchase. Accordingly, the
results of operations of GRH are included in Old Kent's consolidated results of
operations from the date of acquisition. Had this purchase been effective
January 1, 1996, there would have been no material effect on Old Kent's
consolidated results of operations and financial condition.
On January 1, 1997, Old Kent acquired Seaway Financial Corporation ("Seaway"), a
bank holding company headquartered in St. Clair, Michigan. Seaway was the parent
of The Commercial and Savings Bank of St. Clair County (St. Clair, Michigan) and
The Algonac Savings Bank (Algonac, Michigan). When acquired, Seaway had total
assets and total deposits of approximately $345 million and
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51
$302 million, respectively. Old Kent issued approximately 1.9 million shares of
Old Kent Common Stock in exchange for all of the outstanding common stock of
Seaway. This acquisition was accounted for as a purchase. Accordingly, the
results of Seaway's operations are included in Old Kent's consolidated results
of operations from the date of acquisition. If this purchase had been effective
January 1, 1996, there would have been no material effect on Old Kent's
consolidated results of operations and financial condition.
During January, 1997, Old Kent sold its commercial mortgage banking subsidiary,
Hartger & Willard Mortgage Associates, Inc. for approximately $1.3 million in
cash.
On December 4, 1996, Old Kent purchased the assets of Insurance Resource Group,
L.L.C., Poggi & Associates, L.L.C., and Insurance Consultants, L.L.C., each of
which provide commercial insurance products and services through one office in
Grand Rapids, Michigan, for cash of $1.8 million. This agency is now operated as
Old Kent Insurance Group, Inc. As a purchase, the results of operations of
Insurance Resource Group, L.L.C., Poggi & Associates, L.L.C., and Insurance
Consultants, L.L.C., are included in Old Kent's consolidated results of
operations from the date of acquisition. If this purchase had been effective
January 1, 1996, there would have been no material effect on Old Kent's
consolidated results of operations or financial condition.
On August 1, 1996, Old Kent acquired National Pacific Mortgage Corporation
("NPMC"), a mortgage company headquartered in Anaheim, California, with 17
branch offices in California and Oregon, for approximately $29 million in cash
and other consideration. When acquired, NPMC had assets of approximately $150
million and a mortgage servicing portfolio of approximately $1.8 billion. The
acquisition of NPMC was accounted for as a purchase. Accordingly, its results of
operations are included in Old Kent's consolidated results of operations from
the date of acquisition. Had this purchase been effective January 1, 1996, there
would have been no material effect on the consolidated results of operations or
financial condition.
On February 2, 1996, Old Kent sold its wholly owned subsidiary First National
Bank of Lockport for cash of approximately $17 million. When sold, the bank had
total assets of $102 million and deposits of $81 million.
On January 22, 1996, Old Kent acquired Republic Mortgage Corp. ("Republic"),
headquartered in Salt Lake City, Utah with 19 branch offices. The acquisition
was treated as a purchase for accounting purposes and, accordingly, the results
of operations of Republic are included in Old Kent's consolidated results of
operations from the acquisition date. Republic's shareholders were issued
approximately 0.2 million shares of Old Kent common stock in exchange for all of
the outstanding shares of Republic. When acquired, Republic had assets of $39
million and serviced approximately $127 million of residential mortgages.
NOTE 3. PLEDGED AND RESTRICTED ASSETS
The Federal Reserve requires the banking subsidiaries to maintain certain
average non-interest bearing cash balances in accordance with stated reserve
requirements. These average reserves approximated $44 million during 1997 and
$100 million during 1996.
At December 31, 1997, securities having an aggregate amortized cost of
approximately $1.0 billion were pledged to secure public and trust deposits and
for other purposes as required by law. These pledged assets primarily consisted
of securities available-for-sale and securities held-to-maturity.
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NOTE 3. PLEDGED AND RESTRICTED ASSETS (CONTINUED)
The average Securities Sold Under Agreements to Repurchase was $564 million in
1997, and $441 million in 1996. The maximum amount of outstanding agreements at
any month-end during 1997 was $632 million. The average Securities Purchased
Under Agreements to Resell was $2 million in 1997, and $5 million in 1996. The
maximum amount of outstanding agreements at any month-end during 1997 was $8
million. It is Old Kent's policy to take possession of securities purchased
under agreements to resell.
NOTE 4. SECURITIES AVAILABLE-FOR-SALE
The following summarizes amortized cost and market values of securities
available-for-sale at December 31, 1997 and 1996:
Gross Gross Estimated
Amortized Unrealized Unrealized Market
December 31, 1997 (in thousands) Cost Gains Losses Value
- ----------------------------------------------------------------------------------------------------
U.S. Treasury and federal agency securities $ 519,016 $2,186 $ 1,975 $ 519,227
Collateralized mortgage obligations:
U.S. Government issued 1,030,220 5,830 2,337 1,033,713
Privately issued 237,363 1,066 2,688 235,741
Mortgage-backed pass-through securities 134,127 280 135 134,272
Other securities 113,709 205 - 113,914
---------- ------ ------- ----------
Total $2,034,435 $9,567 $ 7,135 $2,036,867
========== ====== ======= ==========
December 31, 1996 (in thousands)
- --------------------------------------------
U.S. Treasury and federal agency securities $1,167,775 $ 298 $ 7,891 $1,160,182
Collateralized mortgage obligations:
U.S. Government issued 419,499 433 3,064 416,868
Privately issued 189,347 465 4,277 185,535
Mortgage-backed pass-through securities 72,452 46 1,179 71,319
Other securities 61,294 - - 61,294
---------- ------ ------- ----------
Total $1,910,367 $1,242 $16,411 $1,895,198
========== ====== ======= ==========
The amortized cost and market values of securities available-for-sale at
December 31, 1997, are shown below by their contractual maturity. Expected
maturities may differ from contractual maturities because issuers may have the
right to call or prepay the obligation with or without call or prepayment
penalties.
Estimated
Amortized Market
December 31, 1997 (in thousands) Cost Value
- ----------------------------------------------------------------------------------------
U.S. Treasury and federal agency securities:
Due in one year or less $ 30,532 $ 30,522
Due after one year through five years 201,633 203,722
Due after five years through ten years 286,851 284,983
Due after ten years - -
---------- ----------
Total U.S. Treasury and federal agency securities 519,016 519,227
Collateralized mortgage obligations and other
mortgage-backed securities 1,401,710 1,403,726
Other securities 113,709 113,914
---------- ----------
Total $2,034,435 $2,036,867
========== ==========
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NOTE 5. SECURITIES HELD-TO-MATURITY
The following summarizes amortized cost and market values of securities
held-to-maturity at December 31, 1997 and 1996:
Gross Gross Estimated
Amortized Unrealized Unrealized Market
December 31, 1997 (in thousands) Cost Gains Losses Value
- ---------------------------------------------------------------------------------------------
U.S. Treasury and federal agency securities $ 15,248 $ 48 $ 11 $ 15,285
Collateralized mortgage obligations:
U.S. Government issued 453,556 682 4,377 449,861
Privately issued 119,526 329 992 118,863
Mortgage-backed pass-through securities 93,896 1,307 294 94,909
State and political subdivision securities 138,613 4,517 1,146 141,984
-------- ------ ------ --------
Total $820,839 $6,883 $6,820 $820,902
======== ====== ====== ========
December 31, 1996 (in thousands)
- --------------------------------------------
U.S. Treasury and federal agency securities $ 6,116 $ 9 $ 1 $ 6,124
Collateralized mortgage obligations:
U.S. Government issued 462,778 1,878 3,444 461,212
Privately issued 160,699 - 1,885 158,814
Mortgage-backed pass-through securities 122,878 2,320 247 124,951
State and political subdivision securities 156,859 4,730 1,098 160,491
-------- ------ ------ --------
Total $909,330 $8,937 $6,675 $911,592
======== ====== ====== ========
The amortized cost and market values of securities held-to-maturity at December
31, 1997, are shown below by their contractual maturity. Expected maturities may
differ from contractual maturities because issuers may have the right to call or
prepay the obligation with or without call or prepayment penalties.
Estimated
Amortized Market
December 31, 1997 (in thousands) Cost Value
- -----------------------------------------------------------------------------------
U.S. Treasury and federal agency securities:
Due in one year or less $ 4,001 $ 3,991
Due after one year through five years 11,247 11,294
-------- --------
Total U.S. Treasury and federal agency securities 15,248 15,285
-------- --------
State and Political subdivision securities:
Due in one year or less 21,741 22,410
Due after one year through five years 60,863 62,571
Due after five years through ten years 38,003 38,586
Due after ten years 18,006 18,417
-------- --------
Total state and political subdivision securities 138,613 141,984
Collateralized mortgage obligations and other
mortgage-backed securities 666,978 663,633
-------- --------
Total $820,839 $820,902
======== ========
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NOTE 6. LOANS AND NONPERFORMING ASSETS
The following summarizes loans:
December 31 (in thousands) 1997 1996
- ----------------------------------------------------------------------------------------
Commercial $2,576,008 $2,205,837
Real estate -- Commercial 1,796,308 1,719,699
Real estate -- Construction 557,007 428,001
Real estate -- Residential mortgages 766,047 859,318
Real estate -- Consumer home equity 906,824 728,530
Consumer 1,694,136 1,636,719
Credit card loans 1,694 317,554
Lease financing 171,453 201,398
---------- ----------
Total Loans $8,469,477 $8,097,056
========== ==========
Loans made by Old Kent to its directors and executive officers, including their
family members and associated entities, aggregated $70 million and $62 million
at December 31, 1997 and 1996, respectively. During 1997, new loans and other
additions amounted to $65 million and repayments and other reductions were $57
million. These loans were made in the ordinary course of business under normal
credit terms, including interest rate and collateralization and do not represent
more than a normal risk of collection.
The table below summarizes impaired loans and other nonperforming assets:
December 31 (in thousands) 1997 1996
- -------------------------------------------------------------------------------------
Impaired loans:
Nonaccrual loans $52,036 $39,950
Restructured loans 2,688 2,832
------- -------
Total impaired loans 54,724 42,782
Other real estate owned 7,619 7,097
------- -------
Total nonperforming assets $62,343 $49,879
======= =======
Loans past due 90 days or more for which interest income continues to be
recognized totalled $13.5 million and $36.8 million at December 31, 1997 and
1996, respectively. Gross interest income that would have been recorded in 1997
for nonaccrual and restructured loans as of December 31, 1997, assuming interest
had been accrued throughout the year in accordance with original terms, was $4.3
million. The comparable total for 1996 was $3.3 million. The amount of interest
included in income on these loans was $1.9 million and $.9 million in 1997 and
1996, respectively. During the years 1997 and 1996, impaired loans averaged
$47.4 million and $44.4 million, respectively. At December 31, 1997, there was
no specific valuation allowance associated with impaired loans.
At December 31, 1997, the Corporation's management has also identified loans
totalling approximately $25.9 million as potential problem loans. These loans
are not included as nonperforming assets in the table above. While these loans
were in compliance with repayment terms at December 31, 1997, other
circumstances caused management to seriously doubt the ability of the borrowers
to continue to remain in compliance with existing loan repayment terms.
During June, 1997, Old Kent sold approximately $266 million of credit card
loans. This sale resulted from the Corporation's decision to discontinue
business activity as an underwriter of credit card loans. Old Kent will continue
to be an issuer, but will no longer carry credit card loans on its balance
sheet.
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After related costs, Old Kent recognized a pre-tax gain on this sale of $16.7
million, or approximately $.11 per common share after taxes. In November, 1997,
the Corporation sold approximately $60 million of consumer loans collateralized
by boats and other marine assets. As a result, Old Kent recognized a gain of
approximately $0.3 million.
Although Old Kent has a diversified loan portfolio, a substantial natural
geographic concentration of credit risk exists within the Corporation's defined
customer market areas. These geographic market areas are the State of Michigan,
the greater Grand Rapids, Michigan area, and the Chicago, Illinois metropolitan
and suburban markets. There are no significant concentrations of credit where
customers' ability to honor loan terms is dependent upon a single economic
sector.
NOTE 7. ALLOWANCE FOR CREDIT LOSSES
The following summarizes the changes in the allowance for credit losses:
Year ended December 31 (in thousands) 1997 1996 1995
- --------------------------------------------------------------------------------------------
Balance at beginning of year $165,928 $174,248 $167,253
Additions:
Provision charged to operations 45,677 35,236 21,666
Business acquisitions and loan purchases 3,184 41 438
-------- -------- --------
Total additions 48,861 35,277 22,104
-------- -------- --------
Deductions:
Credit losses (64,662) (56,466) (26,087)
Less recoveries 15,885 14,049 12,678
-------- -------- --------
Net credit losses (48,777) (42,417) (13,409)
Loan sales and other dispositions (8,595) (1,180) (1,700)
-------- -------- --------
Total deductions (57,372) (43,597) (15,109)
-------- -------- --------
Balance at end of year $157,417 $165,928 $174,248
======== ======== ========
NOTE 8. LEASEHOLD IMPROVEMENTS, PREMISES AND EQUIPMENT
The following summarizes leasehold improvements, premises and equipment:
December 31 (in thousands) 1997 1996
- ---------------------------------------------------------------------------------
Land $ 29,676 $ 28,477
Land improvements 8,570 6,570
Buildings and improvements 173,450 167,906
Leasehold improvements 21,079 18,439
Furniture and equipment 162,005 135,083
-------- --------
394,780 356,475
Less accumulated depreciation and amortization 210,042 182,559
-------- --------
Net leasehold improvements, premises and equipment $184,738 $173,916
======== ========
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NOTE 9. OTHER ASSETS
Other assets shown on the consolidated balance sheets include the following
intangible assets (net of accumulated amortization):
December 31, (in thousands) 1997 1996
- --------------------------------------------------------------------------------
Goodwill $108,813 $84,318
Core deposit intangibles 23,130 14,557
-------- -------
Total $131,943 $98,875
======== =======
Other assets shown on the consolidated balance sheets includes mortgage
servicing rights ("MSRs") as follows:
December 31, (in thousands) 1997 1996
- ---------------------------------------------------------------------------------
MSR's, net of amortization $150,988 $100,588
Less servicing impairment reserve (4,629) (4,482)
-------- --------
Carrying value of MSR's $146,359 $ 96,106
======== ========
Estimated aggregate fair value of capitalized MSR's $150,000 $116,000
Estimated aggregate fair value of MSR's originated prior to
1995 16,000 19,000
-------- --------
Total $166,000 $135,000
======== ========
MSR's originated prior to Old Kent's prospective adoption of Statement of
Financial Accounting Standards No. 122 (as amended by FASB No. 125) represent
"off-balance sheet" assets because no MSR values had been capitalized prior to
the adoption dates. The estimated fair values shown above for these MSR's, as
well as those which had been capitalized, were determined based upon quoted
market prices for comparable transactions, where available, or the present value
of expected future cash flows.
The following reflects capitalized mortgage servicing rights and related
impairment transactions for the years indicated:
Year ended December 31, (in thousands) 1997 1996
- ---------------------------------------------------------------------------------
MSR's:
Balance at beginning of period $100,588 $ 57,947
Additions 111,192 62,612
Sales (30,457) (2,587)
Amortization (30,335) (17,384)
-------- --------
Balance at end of period $150,988 $100,588
======== ========
Related impairment reserve:
Balance at beginning of period $ (4,482) $ (4,818)
Servicing impairment (provision)/benefit (147) 336
-------- --------
Balance at end of period $ (4,629) $ (4,482)
======== ========
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NOTE 10. OTHER BORROWED FUNDS
The following summarizes other borrowed funds:
December 31 (in thousands) 1997 1996
- -------------------------------------------------------------------------------------
Bank notes $ 960,500 $ 445,000
Securities sold under agreements to repurchase 608,000 441,734
Treasury tax and loan demand notes 90,273 111,123
Federal funds purchased 189,670 40,765
Other borrowed funds 226,348 197,245
---------- ----------
Total other borrowed funds $2,074,791 $1,235,867
========== ==========
Of the $960.5 million bank notes outstanding at December 31, 1997, all of the
notes mature during 1998 at interest rates ranging from 5.62% to 7.15%.
NOTE 11. GUARANTEED PREFERRED BENEFICIAL INTERESTS IN THE CORPORATION'S JUNIOR
SUBORDINATED DEBENTURES
On January 31, 1997, Old Kent issued a floating rate junior subordinated
debenture (the "Debenture") having a principal amount of $103,092,784 to Old
Kent Capital Trust I (the "Trust"). Cumulative interest on the principal sum of
the Debenture accrues from January 31, 1997, and it is payable quarterly in
arrears on the first day of February, May, August and November of each year at a
variable rate per annum equal to LIBOR (London Interbank Offering Rate) plus
.80% until paid. Interest is computed on the actual number of days elapsed in a
year of twelve 30 day months. The Debentures rank subordinate and junior in
right of payment to all Indebtedness (as defined) of Old Kent. The Debenture
matures on February 1, 2027, but may be redeemed in whole or in part beginning
on February 1, 2007, or earlier upon the occurrence of certain special events
defined in the Indenture governing the Debenture.
On January 31, 1997, the Trust sold Floating Rate Subordinated Capital Income
Securities ("Preferred Securities") having an aggregate liquidation amount of
$100 million to investors and issued Common Capital Securities ("Common
Securities") having an aggregate liquidation amount of $3,092,784 to Old Kent.
All of the proceeds from sale of Preferred Securities and Common Securities were
invested in the Debenture. Preferred Securities and Common Securities represent
undivided beneficial interests in the Debenture, which is the sole asset of the
Trust. Holders of Preferred Securities and Common Securities are entitled to
receive distributions from the Trust on terms which correspond to the interest
and principal payments due on the Debenture. Payment of distributions by the
Trust and payments on liquidation of the Trust or redemption of Preferred
Securities are guaranteed by Old Kent to the extent the Trust has funds
available (the "Guarantee"). Old Kent's obligations under the Guarantee, taken
together with its obligations under the Debenture and the Indenture, constitute
a full and unconditional guarantee of all of the Trust's obligations under the
Preferred Securities issued by the Trust. Because the Common Securities held by
Old Kent represent all of the outstanding voting securities of the Trust (in the
absence of a default or other specified event), the Trust is considered to be a
wholly owned subsidiary of Old Kent for reporting purposes and its accounts are
reflected in the consolidated financial statements of Old Kent.
The Preferred Securities qualify as Tier I capital for regulatory capital
purposes. Issuance of the Preferred Securities by the Trust had the effect of
increasing Old Kent's regulatory capital. Proceeds from the sale of the
Debenture to the Trust were available for general corporate purposes, including
repurchase of shares.
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NOTE 12. PREFERRED STOCK AND PREFERRED STOCK PURCHASE RIGHTS
At December 31, 1997 and 1996, there were 25,000,000 shares of preferred stock
authorized but not issued. At December 31, 1997 and 1996, 3,000,000 of these
shares were designated Series A Preferred Stock and 500,000 shares were
designated Series B Preferred Stock. At December 31, 1997, 1,000,000 shares of
authorized but unissued preferred stock were designated Series C Preferred
Stock.
On December 31, 1997, approximately 44.2 million Series C Preferred Stock
Purchase Rights ("Series C Rights") were outstanding. The Series C Rights were
issued as an updated replacement of similarly featured Series B Preferred Stock
Purchase Rights which were redeemed by the Corporation concurrently with the
issue of the Series C Rights. A Series C Preferred Stock Purchase Rights Plan
(the "Rights Agreement") was adopted by the Board on January 20, 1997. Series C
Rights were issued on February 14, 1997 as a dividend to holders of the
Corporation's common stock at the rate of one right for each share of common
stock outstanding. As a result of a two-for-one stock split and a 5% stock
dividend paid in 1997, each share of the Corporation's common stock carried .476
of a Series C Right at December 31, 1997. Each full Series C Right entitled the
holder to buy 1/100 of a share of Series C Preferred Stock at a price of
$160.00. The exercise price and the number of shares of Series C Preferred Stock
issuable upon the exercise of the Series C Rights are subject to adjustment in
certain cases to prevent dilution. Series C Rights are attached to and evidenced
by common stock certificates and are not transferable apart from the common
stock until the occurrence of certain events set forth in the Rights Agreement.
Series C Rights do not have any voting rights. Series C Rights are redeemable at
the option of the Corporation, at a price of $.01 per Series C Right, prior to
the time of any person or group acquires beneficial ownership of 15% or more of
the then outstanding common stock, commences a tender offer for 15% or more of
the then outstanding common stock, or is declared by the board of directors to
be an "adverse person" under the plan. Series C Rights expire on February 13,
2007. So long as the Rights are not separately transferable, the Corporation
will issue .476 of a Right (subject to possible future adjustment) with each
newly issued share of common stock.
NOTE 13. COMMON STOCK
During the three years ended December 31, 1997, the Corporation has issued
shares for stock dividends as follows:
Amount of Number of Payment Record Declaration
Year Stock Dividend Shares Issued Date Date Date
- -------------------------------------------------------------------------
1997 5 percent 2,269,430 July 28 June 27 June 16
1996 5 percent 2,229,606 July 25 June 25 June 17
1995 5 percent 2,157,241 August 15 July 19 June 19
On December 15, 1997, the Corporation issued 46,447,461 shares of its common
stock in a two-for-one stock split, effected as a 100 percent stock dividend, to
shareholders of record on November 14, 1997. All per share amounts included in
this report have been retroactively adjusted to reflect the effect of the stock
dividends and the stock split.
On June 17, 1996, the Board of Directors of the Corporation authorized
repurchase of up to 2.5 million shares of Old Kent Common Stock, which would be
reserved for later reissue in connection with future stock dividends, employee
benefit plans and other corporate purposes. The directors also authorized
repurchase of Old Kent Common Stock for reissue in connection with Old Kent's
acquisition of Seaway Financial Corporation. These programs were concluded on
July 28, 1997. On June 16, 1997, the Board of Directors of the Corporation
authorized repurchase of up to 3.0 million shares of Old Kent Common Stock,
which would be reserved for later reissue in connection with future stock
dividends, employee
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59
benefit plans and other corporate purposes. This authorization was amended by
the board of directors on October 20, 1997 to give effect to the two-for-one
stock split on December 15, 1997. The amended authorization doubled the number
of shares authorized for repurchase but not yet repurchased on the payment date
of the stock split.
The table below summarizes shares repurchased and reserved with the intent of
future reissuance at December 31, 1997:
Dividend
Reinvestment Acquisitions
Stock and Employee Accounted for
Total Dividends Stock Plans as Purchases
- ---------------------------------------------------------------------------------------------
Shares reserved at December 31, 1996 2,821,758 1,370,000 450,000 1,001,758
Shares repurchased under 1996
authorization 1,854,367 705,814 226,134 922,419
Shares issued for related stated
purposes (4,216,125) (2,075,814) (216,134) (1,924,177)
---------- ---------- --------- ----------
Subtotal 460,000 0 460,000 0
Shares repurchased under 1997
authorization 1,561,762 960,000 515,516 86,246
Shares issued for related stated
purposes (372,426) 0 (286,180) (86,246)
Effect of two-for-one stock split
paid December 15, 1997 1,540,207 960,000 580,207 0
---------- ---------- --------- ----------
Shares reserved at December 31, 1997 3,189,543 1,920,000 1,269,543 0
========== ========== ========= ==========
At December 31, 1997, Old Kent had remaining authorization to repurchase
approximately 3.1 million shares of its common stock over the ensuing seven
month period. Shares intended for anticipated future stock dividends are
reacquired ratably on a quarterly basis; shares intended for reissue in
connection with dividend reinvestment and employee stock plans are reacquired
quarterly as needed to maintain shares reserved for those purposes at a level
consistent with anticipated permissible needs; shares for use in connection with
purchase accounting business acquisitions are reacquired based upon need.
NOTE 14. STOCK BASED COMPENSATION
Old Kent has stock option plans under which options may be granted to certain
officers and employees at not less than the market price of Old Kent's common
stock on the date of grant. The options granted are exercisable immediately, or
are subject to a vesting schedule where one third of the shares vests
immediately, one third vests at the first anniversary date of the grant, and the
final third vests at the second anniversary date. Options granted expire within
ten years of the date of grant, subject to certain cancelation provisions
relating to employment. At December 31, 1997, a total of 4,440,710 shares were
reserved for options, including 2,813,880 shares available for future option
grants under stock option
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NOTE 14. STOCK BASED COMPENSATION (CONTINUED)
plans. The following table summarizes stock option transactions and the related
average exercise prices for the last three years.
(adjusted for stock splits and dividends)
---------------------------------------------------------------------------
1997 1996 1995
----------------------- ----------------------- -----------------------
Weighted Weighted Weighted
No. of Average No. of Average No. of Average
Shares Exer. Price Shares Exer. Price Shares Exer. Price
- -------------------------------------------------------------------------------------------------------
Options outstanding at
beginning of year 2,059,312 $ 12.20 2,278,443 $10.33 2,529,637 $10.12
Options granted 384,858 27.59 307,543 17.69 479,436 13.70
Options exercised (817,340) (11.25) (460,316) (7.25) (708,404) (11.76)
Options forfeited 0 - (66,358) (7.68) (22,226) 14.30
--------- --------- ---------
Options outstanding at end
of year 1,626,830 $ 16.31 2,059,312 $12.20 2,278,443 $10.33
========= ========= =========
Weighted average estimated
fair value of options
granted in year $ 6.37 $ 3.49 $ 2.52
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model. The following weighted average assumptions
were used to estimate the fair value of options granted for:
1997 1996 1995
- -----------------------------------------------------------------------------------------------
Dividend Yield 2.5% 3.3% 3.3%
Expected Average Life (in years) 5 5 5
Expected Volatility 20.0% 17.6% 17.6%
Risk Free Interest Rate 5.7-6.2% 6.6% 5.9%
Options were outstanding at December 31, 1997 as follows:
Weighted
Weighted Average
Average Remaining
Lowest Highest Number of Exercise Contractual
Exercise Price per share: Price Price Options Price Life (years)
- ------------------------------------------------------------------------------------------
Under $14 $ 6.11 $13.66 565,332 $ 9.52 3.3
Over $14 $14.63 $40.19 1,061,498 19.93 8.2
--------- ------ ---
All options $ 6.11 $40.19 1,626,830 $16.31 6.5
========= ====== ===
The Corporation accounts for its option plans under the provisions of Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB
25), under which no compensation cost has been recognized in the accompanying
consolidated statements of income. The table below displays pro forma amounts
for net income and net income per common share which reflects the effects of
additional compensation cost for 1996 and 1995 option grants as if they had been
recognized under Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" (SFAS 123).
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1997 1996 1995
------------------------------- ------------------------------- -------------------------------
Net Net Net
Income Basic Diluted Income Basic Diluted Income Basic Diluted
(in millions) EPS EPS (in millions) EPS EPS (in millions) EPS EPS
- ---------------------------------------------------------------------------------------------------------------------------
As Reported $180.3 $1.90 $1.88 $158.7 $1.63 $1.61 $141.8 $1.42 $1.41
Pro forma $179.0 $1.88 $1.87 $158.0 $1.62 $1.61 $141.0 $1.41 $1.40
Old Kent also has restricted stock plans under which certain officers and
employees may be awarded restricted stock. The plans provide for the issuance of
a maximum of 2,584,472 authorized but previously unissued shares of Old Kent's
common stock, subject to certain antidilution adjustments, as defined in the
plans. Shares issued pursuant to the plans are restricted as to sale or transfer
for a period of up to five years and are forfeitable (subject to certain
exceptions) upon termination of employment, but provide the recipients with all
other rights and benefits of ownership. During 1997, 1996, and 1995, Old Kent
issued 182,272 shares, 149,784 shares and 109,368 shares of its common stock
with total market values of $5,071,000, $2,656,000 and $1,705,000, respectively,
which are being amortized ratably to expense over the period of restriction. At
December 31, 1997, there were 179,339 shares reserved for future restricted
stock plan awards.
Old Kent also has a deferred stock compensation plan under which key employees
may be awarded shares of stock as deferred compensation to be received at a
specified later date, which may be up to five years after the date of the award.
The plan provides for the issuance of a maximum of 695,100 authorized but
previously unissued shares of Old Kent's common stock. Shares awarded under the
plan would not be issued until the end of the deferral period, unless there is a
change of control of the Corporation, in which case the shares would be issued
to a trust where they are to be held and distributed at the end of the deferral
period. Employees who receive awards under this plan will receive additional
compensation equal to the dividends which would have been paid on the shares
awarded if they were outstanding during the deferral period. During 1997, 1996
and 1995, Old Kent awarded 27,972 shares, 38,089 shares and 40,341 shares of its
common stock valued at $755,000, $674,000 and $629,000 respectively at their
award dates. Deferred stock compensation is ratably charged to expense from the
date of award to the end of the deferral period based on current market value.
At December 31, 1997, there were 434,310 shares reserved for future deferred
stock compensation plan awards.
NOTE 15. OTHER INCOME AND OTHER EXPENSE
Other income, as shown on the consolidated statements of income, includes the
following:
Year ended December 31 (in thousands) 1997 1996 1995
- ---------------------------------------------------------------------------------------------
Mutual fund sale and service income $ 2,759 $ 599 $ 154
Gains on sales of assets 2,235 5,086 542
Safe deposit box rental income 2,090 2,031 1,774
Trading account gains 1,661 2,253 2,222
Other revenues 15,523 11,443 7,162
------- ------- -------
Total other income $24,268 $21,412 $11,854
======= ======= =======
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NOTE 15. OTHER INCOME AND OTHER EXPENSE (CONTINUED)
Other expense, as shown on the consolidated statements of income, includes the
following:
Year ended December 31 (in thousands) 1997 1996 1995
- ---------------------------------------------------------------------------------------------
Postage and courier charges $13,026 $12,305 $10,495
Legal audit and examination fees 5,580 4,741 5,600
Other expenses 68,161 65,536 54,538
------- ------- -------
Total other expenses $86,767 $82,582 $70,633
======= ======= =======
Securities transactions for available-for-sale and held-to-maturity securities,
as shown on the consolidated statements of income, includes gross gains and
gross losses as follows:
Year ended December 31 (in thousands) 1997 1996 1995
- --------------------------------------------------------------------------------------------
Gross gains on sales of securities $ 4,267 $ 11,151 $ 12,245
Gross losses on sales of securities (3,524) (11,023) (11,824)
------- -------- --------
Securities transactions $ 743 $ 128 $ 421
======= ======== ========
Income tax applicable to securities transactions $ 260 $ (45) $ (131)
======= ======== ========
NOTE 16. EMPLOYEE BENEFITS
The Corporation provides pension benefits to substantially all of its employees
under the terms of the "Old Kent Retirement Income Plan." Old Kent also provides
its key executives with pension benefits under the provisions of the "Old Kent
Executive Retirement Income Plan." The following table sets forth the funded
status of the pension plans and the amounts included in Old Kent's consolidated
balance sheets.
December 31 (in thousands) 1997 1996
- ----------------------------------------------------------------------------------------
Actuarial present value of benefit obligations:
Accumulated benefit obligation, including vested benefits
of $87,366 and $74,923 $ 89,616 $ 76,460
========= =========
Projected benefit obligation for service rendered to date $(127,344) $(131,246)
Plan assets at fair value 111,094 102,376
--------- ---------
Plan assets less than projected benefit obligation (16,250) (28,870)
Unrecognized net actuarial loss 9,776 32,514
Unrecognized prior service cost being recognized over 19
years 4,506 4,929
Unrecognized net transition assets being recognized over 15
to 19 years (12,285) (14,023)
--------- ---------
Accrued Pension cost $ (14,253) $ (5,450)
========= =========
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Net pension expense (income) included the following components:
Year ended December 31 (in thousands) 1997 1996 1995
- ----------------------------------------------------------------------------------------------
Service cost (benefits earned during the year) $ 8,664 $ 7,850 $ 7,371
Interest cost on projected benefit obligation 9,541 9,565 9,509
Actual return on plan assets (19,134) (10,243) (19,793)
Net amortization and deferral 10,795 1,853 10,547
Loss from curtailment and settlement - - 621
-------- -------- --------
Net periodic pension expense $ 9,866 $ 9,025 $ 8,255
======== ======== ========
The following assumptions were used in determining the actuarial present value
of the projected benefit obligations as of December 31 for each of the following
years:
1997 1996 1995
- -----------------------------------------------------------------------------------------------
Discount rate 7.00% 7.75% 7.75%
Rate of increase in future compensation levels 4.25% 4.50% 4.70%
Expected long-term rate of return on plan assets 10.00% 9.00% 9.00%
Old Kent has adopted amended assumptions, as shown above, for use in the
actuarial determination of its projected benefit obligations at December 31,
1997. The amended assumptions reflect a change in outlook based on management's
assessment of expected economic conditions for the foreseeable future.
Eligible employees may elect to participate in Old Kent's retirement savings
plans whereby the Company contributes a 50% matching contribution for each
amount contributed by participating employees, within limits as defined in the
plans. The cost of these retirement savings plans was $4,411,000, $3,637,000,
and $2,975,000 for 1997, 1996 and 1995, respectively.
The Corporation provides post-retirement benefits other than pensions for a
small group of employees who were entitled to such benefits under plans of
predecessor banking organizations acquired by Old Kent. These benefits primarily
consist of health care and life insurance. The costs of these benefits are not
material and are recognized in the financial statements during the employees'
years of service.
NOTE 17. TAXES ON INCOME
Components of the provision for income taxes are as follows:
Year ended December 31 (in thousands) 1997 1996 1995
- ---------------------------------------------------------------------------------------------
Current $73,954 $81,934 $77,482
Deferred expense (benefit) 19,627 (1,913) (4,683)
------- ------- -------
Total provision $93,581 $80,021 $72,799
======= ======= =======
The preceding table excludes tax expense (benefit) of $6.2 million and ($7.1
million) for 1997 and 1996 respectively, related to the market value adjustments
on investment securities available-for-sale, which is recorded directly in
shareholders' equity.
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NOTE 17. TAXES ON INCOME (CONTINUED)
Income tax expense differs from that computed at the federal statutory rate as
follows:
Year ended December 31 (in thousands) 1997 1996 1995
- ---------------------------------------------------------------------------------------------
Tax at 35% statutory rate $95,860 $83,553 $75,114
Tax effect of:
Tax-exempt interest (4,057) (4,009) (5,019)
Amortization of goodwill 2,765 2,225 2,640
Other, net (987) (1,748) 64
------- ------- -------
Income tax expense $93,581 $80,021 $72,799
======= ======= =======
Effective tax rate 34.2% 33.5% 33.9%
======= ======= =======
Components of the deferred tax assets and liabilities were as follows:
Year ended December 31 (in thousands) 1997 1996
- ----------------------------------------------------------------------------------
Deferred tax assets:
Allowance for credit losses $53,537 $59,951
Deferred compensation 16,771 12,236
Accrued expenses 5,869 7,694
Unrealized loss on securities available-for-sale - 5,309
Other 9,376 8,402
------- -------
Total deferred tax assets 85,553 93,592
Valuation allowance - -
------- -------
Deferred tax assets 85,553 93,592
------- -------
Deferred tax liabilities:
Mortgage servicing rights 32,317 16,375
Business combinations 2,471 2,347
Prepaid pension - 1,739
Depreciation 598 1,595
Accretion 2,188 1,454
Unrealized gain on securities available-for-sale 851 -
Other 6,344 3,511
------- -------
Deferred tax liabilities 44,769 27,021
------- -------
Net deferred tax assets $40,784 $66,571
======= =======
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NOTE 18. EARNINGS PER SHARE
The following table reconciles the numerators and denominators used in the
calculations of basic and diluted earnings per share for each of the last three
years:
1997 1996 1995
- ---------------------------------------------------------------------------------------------
Numerators:
Numerator for both basic and diluted earnings
per share, net income $180,304,000 $158,701,000 $141,814,000
============ ============ ============
Denominators:
Denominator for basic earnings per share,
average outstanding common shares 94,962,920 97,631,592 99,804,580
Potential dilutive shares resulting from
employee stock plans 767,060 737,043 755,050
------------ ------------ ------------
Denominator for diluted earnings per share 95,729,980 98,368,635 100,559,630
============ ============ ============
Earnings per Share:
Basic $1.90 $1.63 $1.42
------------ ------------ ------------
Diluted $1.88 $1.61 $1.41
============ ============ ============
NOTE 19. COMMITMENTS AND CONTINGENCIES
Certain facilities and equipment are leased under noncancelable operating lease
agreements which expire at various dates through the year 2014. The aggregate
minimum rental commitments are as follows:
Year ending December 31 (in thousands) Premises Equipment Total
- -----------------------------------------------------------------------------------------
1998..................................................... $10,346 $3,105 $13,451
1999..................................................... 9,432 2,260 11,692
2000..................................................... 6,785 1,790 8,575
2001..................................................... 5,267 371 5,638
2002..................................................... 4,059 257 4,316
Thereafter............................................... 6,226 0 6,226
------- ------ -------
Total minimal payments................................... $42,115 $7,783 $49,898
======= ====== =======
Rental expense charged to operations in 1997, 1996, and 1995, amounted to
approximately $15,308,000, $11,706,000, and $11,835,000, respectively, including
amounts paid under short-term cancelable leases. Certain leases contain
provisions for renewal and purchase options, and require payment of property
taxes, insurance and related expenses.
Included as a reduction of Old Kent's occupancy expense is building rental
income of approximately $3,353,000, $3,222,000, and $3,761,000, for 1997, 1996,
and 1995, respectively.
At December 31, 1997, Old Kent and its subsidiaries were parties, both as
plaintiff and as defendant, to a number of lawsuits which arose in the ordinary
course of business. In the opinion of management, after consultation with the
Corporation's counsel, the ultimate resolution of these matters will not have a
material effect on the Corporation's consolidated financial position and results
of operations.
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NOTE 20. FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
Old Kent utilizes various derivative financial instruments in the normal course
of business both as part of its risk management strategy and as a means to meet
customer needs. The activities which currently employ financial derivatives are
interest rate risk management, corporate banking, mortgage banking, and foreign
exchange operations. Old Kent also enters into commitments to extend credit and
letters of credit in connection with its lending activities.
Interest Rate Risk Management
The Corporation's asset/liability management focuses on limiting the volatility
of both earnings and the value of capital that can result from changes in market
interest rates. Interest rate risk exists to the extent that interest-earning
assets and interest-bearing liabilities have different maturity or repricing
characteristics. The Corporation's traditional banking operations result in an
asset-sensitive position, where assets reprice more rapidly than liabilities.
This asset-sensitive profile has been moderated through the strategic use of the
investment portfolio. Interest rate swap contracts are also used as a means to
manage interest rate risk.
Interest rate swap contracts involve the exchange of interest payments at
specified intervals between two parties without the exchange of any underlying
principal. Notional amounts are used in such contracts to calculate interest
payments due to each counterparty and do not represent credit exposure. Old Kent
pays a floating rate and receives a fixed rate for the majority of its swaps,
which are hedges related to Prime rate-based loans and certain fixed rate
liabilities. Old Kent pays a fixed rate and receives a floating rate on swaps
that hedge certain floating rate liabilities.
Old Kent's credit risk in these contracts relates to the failure of a
counterparty to pay according to the contractual terms of the swap agreement.
The Corporation controls the credit risk of its interest rate swap agreements
through credit approvals, risk control limits and ongoing monitoring procedures.
Credit exposure is represented by the fair value of interest rate swaps with a
positive fair value, adjusted for accrued interest.
1997 1996
-------------------- --------------------
Notional Credit Notional Credit
December 31 (in thousands) Amount Exposure Amount Exposure
- -----------------------------------------------------------------------------------------------
Swap Categories:
Receive fixed/pay floating $506,231 $10,172 $386,314 $4,156
Receive floating/pay fixed 25,000 0 75,000 0
-------- ------- -------- ------
$531,231 $10,172 $461,314 $4,156
Corporate Banking
Old Kent entered into interest rate cap and floor agreements during 1995 with a
corporate client to assist them in managing their business risks. The
Corporation mitigated its exposure to risk in this contract by entering into
offsetting positions with an authorized counterparty. The credit risk from such
agreements represents the possibility of a counterparty not paying according to
the terms of the contract. This credit risk is controlled through credit
approvals, risk control limits, and ongoing
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monitoring procedures. Credit exposure is represented by the fair value of
interest rate caps and floors with a positive fair value.
1997 1996
------------------- -------------------
Notional Credit Notional Credit
December 31 (in thousands) Amount Exposure Amount Exposure
- ------------------------------------------------------------------------------------------------------
Interest rate caps sold $20,000 $ - $20,000 $ -
Interest rate caps bought 20,000 0 20,000 27
Interest rate floors sold 20,000 - 20,000 -
Interest rate floors bought 20,000 24 20,000 77
Mortgage Banking
The Corporation uses both forward sales and option contracts to protect the
value of residential mortgage loans that are being underwritten for future sale
to investors in the secondary market. Adverse market interest rate changes,
between the time that a customer receives a rate-lock commitment and when the
fully-funded mortgage loan is sold to an investor, can erode the value of that
mortgage. Therefore, Old Kent enters into forward sales contracts and purchases
exchange-traded option contracts to mitigate the interest rate risk associated
with the origination and sale of mortgage loans. Old Kent accepts credit risk in
forward sales contracts to the extent of nonperformance by a counterparty, in
which case Old Kent would be compelled to sell the mortgages to another party at
the current market price. The credit exposure of forward sales contracts and
options represents the aggregate value of contracts with a positive fair value.
1997 1996
---------------------- ----------------------
Contractual Credit Contractual Credit
December 31 (in thousands) Amount Exposure Amount Exposure
- ------------------------------------------------------------------------------------------------------------
Mortgage forward sales $1,217,500 $264 $598,000 $2,316
Mortgage & treasury options 842,500 286 110,500 13
Old Kent began utilizing interest rate floors in 1995 to hedge the Corporation's
risk to decreases in the value of its mortgage servicing rights that could
result from falling mortgage rates and increased mortgage prepayments. The
credit risk inherent in these transactions relates to the possibility of a
counterparty not paying according to the terms of the contract. The Corporation
controls the credit risk of its interest rate floor agreements through credit
approvals, risk control limits and ongoing monitoring procedures. The credit
exposure is represented by the aggregate value of interest rate floors with a
positive fair value.
1997 1996
------------------- -------------------
Notional Credit Notional Credit
December 31 (in thousands) Amount Exposure Amount Exposure
- ------------------------------------------------------------------------------------------------------
Interest rate floors $ 0 $ 0 $168,000 $423
Foreign Exchange Contracts
Old Kent enters into foreign exchange forward contracts to purchase or sell
foreign currencies at a future date at a predetermined exchange rate. These
contracts are used to assist customers with international transactions based
upon foreign denominated currencies. The Corporation manages its exposure to
foreign currency fluctuations by entering into offsetting contracts with
authorized counterparties, usually
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NOTE 20. FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK (CONTINUED)
foreign banks. The credit risk inherent in these transactions relates to the
possibility of failure by a counterparty to fulfill its purchase or delivery
responsibility, whereby Old Kent would execute the transaction with another
counterparty at the prevailing currency valuation, which may be different than
the value in the original contract. The credit exposure of Old Kent's foreign
exchange contracts represents the aggregate value of contracts with a positive
fair value. The extension of foreign exchange credit facilities to
counterparties follows the same approval process as other credit facilities. The
majority of Old Kent's foreign exchange contracts relate to major currencies
such as Canadian Dollars, Pounds Sterling, Deutschemarks, Japanese Yen, Italian
Lira, and French Francs.
1997 1996
---------------------- ----------------------
Contractual Credit Contractual Credit
December 31 (in thousands) Amount Exposure Amount Exposure
- ------------------------------------------------------------------------------------------------------------
Foreign exchange forward contracts $19,262 $323 $29,975 $490
Commitments
Commitments to extend credit are agreements to lend cash to a customer as long
as there is no breach of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require the payment of a fee. The majority of Old Kent's loan commitments have
maturities that are less than one year and reflect the prevailing market rates
at the time of the commitment. Since many of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The amount of collateral obtained, if deemed
necessary by Old Kent, upon extension of credit is based upon management's
credit evaluation of the counterparty. Standby and commercial letters of credit
are Old Kent's conditional commitments to guarantee the performance of a
customer to another party. The Corporation's exposure to credit loss in the
event of nonperformance by the other party is represented by the contractual
amount of those instruments. Old Kent uses the same credit underwriting policies
in making commitments and issuing letters of credit as it does for its other
lending activities.
Contractual Amount at December 31 (in millions) 1997 1996
- -----------------------------------------------------------------------------
Commitments to extend credit $4,252 $3,875
Standby and commercial letters of credit 421 427
NOTE 21. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
In accordance with Statement of Financial Accounting Standards No. 107,
"Disclosures about Fair Value of Financial Instruments" ("SFAS No. 107"), the
following methods and assumptions were used to estimate the fair value of each
significant class of financial instrument, as defined by SFAS No. 107, for which
it is practicable to estimate that value.
The estimated fair values of financial instruments, as shown below, are not
intended to reflect the estimated liquidation or market value of the Corporation
taken as a whole. The disclosed fair value estimates are limited to Old Kent's
significant financial instruments. These include financial instruments
recognized as assets and liabilities on and off the consolidated balance sheet.
The estimated fair values shown below do not include any value for assets and
liabilities which are not financial instruments as defined by SFAS No. 107, such
as the value of real property, the value of "core deposit intangibles", the
value of mortgage servicing rights, nor the value of anticipated future
business.
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The estimated fair value amounts were determined using available market
information, current pricing information applicable to Old Kent and various
valuation methodologies. Where market quotations were not available for
financial instruments, considerable management judgment was involved in the
determination of estimated fair values. Therefore, the estimated fair value of
financial instruments shown below may not be representative of the amounts at
which they could be exchanged in a current or future transaction. Due to the
inherent uncertainties of expected cash flows of financial instruments, the use
of alternate valuation assumptions and methods could have a significant effect
on the derived estimated fair value amounts.
Cash and cash equivalents, interest receivable and interest payable
For these short-term instruments, the carrying amount was deemed to be a
reasonable estimate of fair value.
Interest-earning deposits
The estimated fair value of these holdings was calculated by discounting the
expected future cash flows using rates applicable to similar instruments with
the same remaining maturity.
Trading account securities, securities available-for-sale and securities
held-to-maturity
The estimated fair values were based upon quoted market or dealer prices.
Net loans and mortgages held-for-sale
Generally, the fair value of loans was estimated by discounting the expected
future cash flows using current interest rates at which similar loans would be
made to borrowers with similar credit ratings and remaining maturities. For
certain variable rate loans that reprice frequently the estimated fair value is
equal to the carrying value. For mortgages held-for-sale the estimated fair
value is equal to the carrying value adjusted for any price appreciation or
depreciation due to changes in secondary market prices.
Deposit liabilities
The fair value of fixed-maturity time deposits was estimated using the rates
currently offered for deposits of similar remaining maturities. The fair value
of demand and savings deposits is the amount payable on demand at the reporting
date.
Other borrowed funds
For all instruments except bank notes, the carrying amount was deemed to be a
reasonable estimate of fair value. The estimated fair value of bank notes was
calculated by discounting the expected future cash flows using rates applicable
to similar instruments of comparable maturity.
Subordinated Debt
The fair value of subordinated debt was based on quoted market prices.
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NOTE 21. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
Guaranteed preferred beneficial interests in the Corporation's junior
subordinated debentures
The carrying amount of these debentures was deemed to be a reasonable estimate
of their fair value due to their adjustable rate structure.
Off-balance sheet financial instruments
The carrying value of Old Kent's interest rate contracts represents accrued
interest as reflected in the consolidated balance sheets. The estimated fair
value of interest rate contracts was based upon dealer or third-party quotations
for the amount which might be realized from a transfer, sale or termination of
such agreements. The fair value of Old Kent's commitments to extend credit, its
outstanding letters of credit and foreign exchange contracts are insignificant.
The following summarizes the carrying value and estimated fair value of
financial instruments.
1997 1996
----------------------- -----------------------
Carrying Estimated Carrying Estimated
December 31 (in thousands) Value Fair Value Value Fair Value
- ------------------------------------------------------------------------------------------
Financial Assets:
Cash and cash equivalents $ 550,242 $ 550,242 $ 637,797 $ 637,797
Interest-earning deposits 2,152 2,152 803 802
Trading account securities 986 986 19,009 19,009
Securities available-for-sale 2,036,867 2,036,867 1,895,198 1,895,198
Securities held-to-maturity 820,839 820,902 909,330 911,592
Mortgages held-for-sale 1,271,784 1,277,868 589,245 589,245
Net loans 8,312,060 8,573,828 7,931,128 8,164,247
Interest receivable 100,384 100,384 87,328 87,328
Financial Liabilities:
Non-interest-bearing deposits 1,669,063 1,669,063 1,580,960 1,580,960
Interest-bearing deposits -- no
maturities 3,070,892 3,070,892 2,935,632 2,935,632
Interest-bearing deposits -- fixed
maturities 5,488,335 5,513,017 5,563,555 5,596,868
Other borrowed funds 2,074,009 2,072,864 1,235,867 1,238,288
Interest payable 56,385 56,385 66,376 66,376
Subordinated debt 100,000 100,870 100,000 96,920
Guaranteed preferred beneficial
interests in the Corporation's junior
subordinated debentures 100,000 100,000 - -
Interest Rate Contracts Relating To:
Assets: Commercial Loans 3,705 6,467 752 2,004
Mortgages held-for-sale 0 (5,981) 0 1,630
Liabilities 88 71 341 469
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NOTE 22. CONDENSED FINANCIAL INFORMATION OF THE PARENT COMPANY
The condensed financial information of the parent company, Old Kent Financial
Corporation, is summarized as follows:
CONDENSED BALANCE SHEETS
December 31 (in thousands) 1997 1996
- ----------------------------------------------------------------------------------------
Assets:
Cash and cash equivalents $ 5,550 $ 8,149
Interest-earning deposits and other securities 123,908 115,462
Leasehold improvements, premises and equipment 8,281 7,667
Investment in and advances to subsidiaries 1,139,041 992,236
Other assets 51,866 41,167
---------- ----------
Total Assets $1,328,646 $1,164,681
========== ==========
Liabilities and Shareholders' Equity:
Subordinated debt $ 203,093 $ 100,000
Accrued expenses and other liabilities 98,100 70,924
---------- ----------
Total liabilities 301,193 170,924
Shareholders' equity 1,027,453 993,757
---------- ----------
Total Liabilities and Shareholders' Equity $1,328,646 $1,164,681
========== ==========
CONDENSED STATEMENTS OF INCOME
Year ended December 31 (in thousands) 1997 1996 1995
- --------------------------------------------------------------------------------------------
Income:
Dividends from subsidiaries $155,600 $ 89,925 $106,300
Service fees from subsidiaries 60,459 56,032 54,982
Interest and other 9,998 10,705 9,833
-------- -------- --------
Total income 226,057 156,662 171,115
-------- -------- --------
Expenses:
Interest 16,086 8,634 2,570
Salaries and benefits 50,112 43,102 37,350
Occupancy 4,760 4,551 4,467
Equipment 7,559 6,838 9,244
Other 31,437 28,058 42,458
-------- -------- --------
Total expenses 109,954 91,183 96,089
-------- -------- --------
Income before income taxes and equity in undistributed
net income of subsidiaries 116,103 65,479 75,026
Income tax benefit 14,353 10,044 9,141
-------- -------- --------
Income before equity in undistributed net income of
subsidiaries 130,456 75,523 84,167
Equity in undistributed net income of subsidiaries 49,848 83,178 57,647
-------- -------- --------
Net Income $180,304 $158,701 $141,814
======== ======== ========
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NOTE 22. CONDENSED FINANCIAL INFORMATION OF THE PARENT COMPANY (CONTINUED)
CONDENSED STATEMENTS OF CASH FLOWS
Year ended December 31 (in thousands) 1997 1996 1995
- -------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net income $ 180,304 $ 158,701 $ 141,814
Adjustments to reconcile net income
to net cash provided by operating activities:
Equity in undistributed net income of
subsidiaries (49,848) (83,178) (57,647)
Depreciation, amortization and accretion 12,277 9,193 11,301
Net gains on sales of assets (1) (199) (1,420)
Net change in other assets (9,118) (2,376) (1,505)
Net change in other liabilities 24,925 12,413 15,083
--------- --------- ---------
Net cash provided by operating activities 158,539 94,554 107,626
--------- --------- ---------
Cash flows from investing activities:
Net change in interest-earning assets (7,296) 76,249 (138,473)
Net change in investment in and advances to
subsidiaries (5,510) 16,658 (4,208)
Purchases of leasehold improvements, premises &
equipment, net (3,216) (3,361) (1,834)
--------- --------- ---------
Net cash provided by (used for) investing
activities (16,022) 89,546 (144,515)
--------- --------- ---------
Cash flows from financing activities:
Payments on long-term debt obligations (123) (61) (57)
Issuance of subordinated debt, net 97,872 0 100,000
Proceeds from common stock issuances 10,799 10,421 8,110
Repurchases of common stock (189,605) (135,792) (20,805)
Dividends paid to shareholders (64,059) (59,122) (55,334)
--------- --------- ---------
Net cash (used for) provided by financing
activities (145,116) (184,554) 31,914
--------- --------- ---------
Net decrease in cash and cash equivalents (2,599) (454) (4,975)
Cash and cash equivalents at beginning of year 8,149 8,603 13,578
--------- --------- ---------
Cash and cash equivalents at end of year $ 5,550 $ 8,149 $ 8,603
========= ========= =========
Federal and state banking laws and regulations place certain restrictions on the
amount of dividends and loans a bank may make to its parent company. As of
January 1998, the subsidiary banks may distribute to the parent company, in
addition to their 1998 net income, approximately $129 million in dividends
without written approval from bank regulatory agencies. The remaining net assets
of subsidiary banks, approximating $981 million at December 31, 1997, are
unavailable for transfer to the parent company without prior regulatory consent.
NOTE 23. RISK BASED CAPITAL
The Corporation and its subsidiary banks are subject to various regulatory
capital requirements administered by federal and other banking agencies. Failure
to meet minimum capital requirements can initiate certain mandatory, and
possibly additional discretionary, actions by regulators that, if undertaken,
could have a material effect on the Corporation's financial statements.
Under capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Corporation and its subsidiary banks' must meet specific
capital guidelines that involve quantitative measures of the Corporation's
assets, liabilities, and certain off-balance-sheet items as calculated under
regulatory accounting practices. The Corporation and its subsidiary banks
capital amounts and
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classification are also subject to qualitative judgments by the regulators about
components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Corporation to maintain minimum amounts and ratios of Core (Tier 1)
capital, Total capital and Leverage ratios. Management believes, as of December
31, 1997, that the Corporation and its subsidiary banks meet all capital
adequacy requirements to which it is subject.
In the most recent examinations by Federal and State regulatory agencies, the
Corporation and its subsidiary banks were categorized as "well capitalized"
under the regulatory framework for prompt corrective action. To be categorized
as well capitalized the Corporation and its subsidiary banks must maintain
minimum risk-based ratios as set forth in the table below. There are no
conditions or events since that notification that management believes have
changed the Corporation's or its subsidiary banks' categories.
The following summarizes the Corporation's, and its subsidiary banks' regulatory
capital ratios at December 31, 1997 and 1996:
To Be "Well
Capitalized"
Under
Prompt
For Capital Corrective
Adequacy Action
Actual Purposes Provisions
--------------- --------------- ---------------
(dollars in millions) Amount Ratio Amount Ratio Amount Ratio
- -------------------------------------------------------------------------------------------------
As of December 31, 1997:
Total Capital (to Risk Weighted Assets)
Consolidated $1,231 11.73% $840 8.00% $1,050 10.00%
Old Kent Bank 1,126 11.14 809 8.00 1,011 10.00
Old Kent Bank, N.A. 9 10.71 7 8.00 9 10.00
Tier 1 Capital (to Risk Weighted Assets)
Consolidated 999 9.52 420 4.00 630 6.00
Old Kent Bank 999 9.88 404 4.00 606 6.00
Old Kent Bank, N.A. 8 9.46 4 4.00 5 6.00
Leverage Ratio (to Average Assets)
Consolidated 999 7.37 407 3.00 678 5.00
Old Kent Bank 999 7.48 534 4.00 668 5.00
Old Kent Bank, N.A. 8 7.48 3 3.00 6 5.00
As of December 31, 1996:
Total Capital (to Risk Weighted Assets)
Consolidated $1,127 11.75% $767 8.00% $ 959 10.00%
Old Kent Bank (Michigan) 841 10.53 639 8.00 799 10.00
Old Kent Bank (Illinois) 183 13.18 111 8.00 139 10.00
Tier 1 Capital (to Risk Weighted Assets)
Consolidated 907 9.45 384 4.00 576 6.00
Old Kent Bank (Michigan) 741 9.28 319 4.00 479 6.00
Old Kent Bank (Illinois) 166 11.92 56 4.00 83 6.00
Leverage Ratio (to Average Assets)
Consolidated 908 7.31 372 3.00 620 5.00
Old Kent Bank (Michigan) 741 7.19 412 4.00 515 5.00
Old Kent Bank (Illinois) 166 7.89 84 4.00 105 5.00
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Board of Directors and Senior Management
BOARD OF DIRECTORS
Richard L. Antonini
Chairman, President and
Chief Executive Officer,
Foremost Corporation of America
(a specialty property and casualty insurer)
John M. Bissell
Chairman of the Board,
BISSELL Inc.
(manufacturer of homecare, healthcare and graphics products)
John D. Boyles
Attorney-at-Law,
Verspoor, Waalkes, Lalley, Slotsema & Talen, P.C.
William P. Crawford
President and Chief Executive Officer,
Steelcase Design Partnership
(manufacturer of office systems)
Dick DeVos
President, Amway Corporation
(manufacturer of home and personal care products)
William G. Gonzalez
Chief Health System Officer,
Spectrum Health
(integrated healthcare network)
James P. Hackett
President and Chief Executive Officer,
Steelcase Inc.
(manufacturer of office systems)
Erina Hanka
President, Suspa Inc.
(manufacturer of gas cylinders for industry)
Earl D. Holton
President, Meijer, Inc.
(food and general merchandise retailer)
Robert L. Hooker
Vice Chairman and Chief Executive Officer,
Mazda Great Lakes
(wholesale distributor of Mazda vehicles and parts)
Michael J. Jandernoa
Chairman and Chief Executive Officer,
Perrigo Company
(manufacturer of store-brand health and personal care products)
Kevin T. Kabat
Vice Chairman of the Corporation and
President of Old Kent Bank
Fred P. Keller
Chairman and Chief Executive Officer,
Cascade Engineering, Inc.
(manufacturer of plastic injection molded automotive, seating and container
products)
John P. Keller
President, Keller Group, Inc.
(a diversified manufacturer)
Hendrik G. Meijer
Co-Chairman, Meijer, Inc.
(food and general merchandise retailer)
Percy A. Pierre, Ph.D.
Professor of Electrical Engineering,
Michigan State University
Patrick M. Quinn
Former Chief Executive Officer,
Spartan Stores, Inc.
(food wholesaler)
Marilyn J. Schlack
President,
Kalamazoo Valley Community College
Peter F. Secchia
Chairman,
Universal Forest Products, Inc.
(manufacturer and distributor of building supplies)
David J. Wagner
Chairman, President and Chief Executive Officer of the Corporation and Chairman
and Chief Executive Officer of Old Kent Bank
Margaret Sellers Walker
Professor of Public Administration,
Grand Valley State University
Robert H. Warrington
Vice Chairman of the Corporation and
Chairman and Chief Executive Officer of
Old Kent Mortgage Company
CORPORATE OFFICERS
David J. Wagner
Chairman, President and Chief
Executive Officer
Kevin T. Kabat
Vice Chairman
Robert H. Warrington
Vice Chairman
James A. Hubbard
Senior Executive Vice President
William L. Sanders
Senior Executive Vice President,
Chief Financial Officer and Treasurer
E. Philip Farley
Executive Vice President,
Community Bank Administration
Ralph W. Garlick
Executive Vice President
David L. Kerstein
Executive Vice President,
Retail Banking and Marketing
Steven D. Crandall
Senior Vice President,
Human Resources
Gregory K. Daniels
Senior Vice President,
Chief Information Officer
Richard L. Haug
Senior Vice President,
General Auditor
Mary E. Tuuk
Senior Vice President and Secretary,
Legal Coordinator
Michael J. Whalen
Senior Vice President,
Senior Credit Officer
MANAGEMENT COMMITTEE
David J. Wagner
Chairman, President and
Chief Executive Officer,
Old Kent Financial Corporation;
Chairman and Chief Executive Officer,
Old Kent Bank
Kevin T. Kabat
Vice Chairman,
Old Kent Financial Corporation;
President,
Old Kent Bank
Robert H. Warrington
Vice Chairman,
Old Kent Financial Corporation;
Chairman and Chief Executive Officer,
Old Kent Mortgage Company
James A. Hubbard
Senior Executive Vice President,
Old Kent Financial Corporation;
President,
Old Kent Bank-Illinois
William L. Sanders
Senior Executive Vice President,
Chief Financial Officer and Treasurer,
Old Kent Financial Corporation
David A. Dams
Executive Vice President,
Corporate Banking,
Old Kent Bank
E. Philip Farley
Executive Vice President,
Community Bank Administration,
Old Kent Financial Corporation
Ralph W. Garlick
Executive Vice President,
Old Kent Financial Corporation
David L. Kerstein
Executive Vice President,
Retail Banking and Marketing,
Old Kent Financial Corporation
Kenneth C. Krei
Executive Vice President,
Investment Services,
Old Kent Bank
Daniel W. Terpsma
Executive Vice President,
Old Kent Bank;
President,
Old Kent Bank-East
Steven D. Crandall
Senior Vice President,
Human Resources,
Old Kent Financial Corporation
Gregory K. Daniels
Senior Vice President,
Chief Information Officer,
Old Kent Financial Corporation
Larry S. Magnesen
Senior Vice President,
Retail Administration,
Old Kent Bank
Michael J. Whalen
Senior Vice President,
Senior Credit Officer,
Old Kent Financial Corporation
75
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