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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998. COMMISSION FILE NUMBER 0-6198.
FIRST AMERICAN CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
TENNESSEE 62-0799975
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
FIRST AMERICAN CENTER,
NASHVILLE, TENNESSEE 37237-0700
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: 615/748-2000
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, PAR VALUE $2.50 PER SHARE AND ASSOCIATED
SERIES A JUNIOR PREFERRED STOCK
(Title of Class)
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Indicate by check mark whether the Registrant: (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for at least the past 90 days. Yes X No
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Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value (computed on the basis of the reported last
sale price on February 5, 1999) of shares of Common Stock, par value $2.50 per
share, held by non-affiliates of the Registrant was $4,444,718,851.80. The
aggregate market value calculation assumes (i) that all shares beneficially held
by members of the Board of Directors of the Registrant are shares owned by
"affiliates," a status which each of the directors individually disclaims, and
(ii) that shares beneficially owned by the Registrant's subsidiaries are owned
by "affiliates."
Indicate the number of shares outstanding of each of the Registrant's
classes of common stock, as of the latest practicable date.
Outstanding at
Class February 5, 1999
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Common Stock, $2.50 par value: 116,486,187
DOCUMENTS INCORPORATED BY REFERENCE:
DOCUMENT FROM WHICH PORTIONS ARE PART OF FORM 10-K
INCORPORATED BY REFERENCE TO WHICH INCORPORATED
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1. PROXY STATEMENT DATED MARCH 15, 1999 PART III
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TABLE OF CONTENTS
Page
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PART I
Items 1-2 Business and Properties............................................1
General.................................................... 1
Statistical Information.................................... 7
Supervision and Regulation................................ 8
Competition............................................... 19
Employees..................................................20
Item 3 Legal Proceedings................................................ 20
Item 4 Submission of Matters to a Vote of
Security Holders.......................................... 20
PART II
Item 5 Market for Registrant's Common Equity
and Related Stockholder Matters........................... 21
Item 6 Selected Financial Data.......................................... 21
Items 7; 7A Management's Discussion and Analysis of Financial Condition
and Results of Operations; Quantitative and Qualitative
Disclosures About Market Risk.................................... 22
Item 8 Financial Statements and Supplementary Data...................... 58
Item 9 Changes In and Disagreements with Accountants on
Accounting and Financial Disclosure....................... 58
PART III
Item 10 Directors and Executive Officers of the Registrant............... 58
Item 11 Executive Compensation........................................... 61
Item 12 Security Ownership of Certain Beneficial Owners
and Management............................................ 61
Item 13 Certain Relationships and Related Transactions................... 61
PART IV
Item 14 Exhibits, Financial Statement Schedules, and
Reports on Form 8-K....................................... 62
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PART I
ITEMS 1-2: BUSINESS AND PROPERTIES
GENERAL
First American Corporation ("First American"), a Tennessee corporation,
was incorporated in 1968. First American is registered as a bank holding company
under the Bank Holding Company Act of 1956, as amended ("BHCA"), and as a
savings and loan holding company under the Home Owner's Loan Act, as amended
("HOLA"). Through its banking and thrift subsidiaries, First American operates
in Tennessee, Mississippi, Louisiana, Kentucky, Virginia, Arkansas and Georgia.
First American owns all of the capital stock of First American National Bank
("FANB"), a national bank headquartered in Nashville, Tennessee (which operates
as Deposit Guaranty National Bank in Mississippi, Louisiana and Arkansas);
Peoples Bank, a Tennessee state chartered bank headquartered in Dickson,
Tennessee; First American Federal Savings Bank ("FAFSB"), a federal savings bank
headquartered in Roanoke, Virginia; Pioneer Bank, f.s.b., a federal savings bank
headquartered in East Ridge, Tennessee; and First American Enterprises, Inc.
("FAE"), a Tennessee corporation headquartered in Nashville, Tennessee.
FANB owns 98.75% of the issued and outstanding capital stock of IFC
Holdings, Inc. ("IFC"), a Delaware corporation headquartered in Tampa, Florida,
which is engaged in the distribution of securities, other investment products
and insurance. Through its subsidiaries, IFC is licensed to sell investment
products in all 50 states, the District of Columbia and Puerto Rico. IFC offers
these products under two brand names, INVEST Financial Corporation ("INVEST")
and Investment Centers of America, Inc. ("ICA"). Under the INVEST brand, IFC
markets investment products to financial institutions of various asset sizes
while under the ICA brand, IFC markets investment products primarily to
community banks.
FANB also owns 49% of the capital stock of The SSI Group, Inc.
("SSI"), a Florida corporation headquartered in Mobile, Alabama, which is
engaged in health care claims processing.
First American coordinates the financial resources of the consolidated
enterprise and maintains systems of financial, operational and administrative
controls that allow coordination of policies and activities. First American
derives its income from interest, dividends and management fees received from
its subsidiaries. The mailing address of the principal executive offices of
First American is First American Center, Nashville, Tennessee 37237-0700, and
the telephone number is (615) 748-2000.
As of December 31, 1998, First American had total assets of
approximately $20.7 billion, total deposits of approximately $15.3 billion,
shareholders' equity of approximately $1.8 billion, and net income of
approximately $211 million. As of December 31, 1998, FANB had total assets of
approximately $20 billion, total deposits of approximately $15 billion,
shareholders' equity of approximately $1.9 billion, and net income of
approximately $250 million for 1998. As of June 30, 1998, on the basis of
assets, First American estimates that it ranked as the 36th largest bank holding
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company in the United States and the ninth largest bank holding company
headquartered in the Southeast.
First American operates in two business segments, Banking Services and
Enterprises, based upon management responsibilities. For a discussion of these
segments, see the following section of Management's Discussion and Analysis of
Financial Condition and Results of Operations, included in this Report as Item
7: Business Segment Results, pages 25-28.
First American's subsidiary banks engage in consumer and commercial
lending. The risk involved to First American and its subsidiary banks in making
these loans varies based on, among other things, the amount of the loan, the
length of amortization of the principal, the type of collateral, if any, used to
secure the loan and the characteristics of the borrower. For a further
discussion of lending activities, see the following sections of Management's
Discussion and Analysis of Financial Condition and Results of Operations,
included in this Report as Item 7: Loan Portfolio, pages 37-38; Allowance and
Provision for Loan Losses, pages 45-47; Credit Risk Management, pages 43-44; and
Nonperforming Assets, page 44.
First American's investment securities portfolio is the second largest
component of First American's earning assets. For a discussion of investment
activities, see the following section of Management's Discussion and Analysis of
Financial Condition and Results of Operations, included in this Report as Item
7: Investment Securities Portfolio, pages 38-40.
In addition, First American and its subsidiary banks derive funds from
core deposits, certificates of deposit, foreign deposits, short-term borrowings
and long-term debt. For a further discussion of these activities, see the
following sections of Management's Discussion and Analysis of Financial
Condition and Results of Operations, included in this Report as Item 7: Deposits
and Other Sources of Funds, pages 40-42; and Liquidity Risk Management, pages
51-53.
ACQUISITIONS AND DIVESTITURES
In 1998, First American experienced significant growth through mergers
and acquisitions.
Effective May 1, 1998, Deposit Guaranty Corp. ("Deposit Guaranty"), a
bank holding company headquartered in Jackson, Mississippi, was merged with and
into First American. Deposit Guaranty, the parent company of Deposit Guaranty
National Bank ("DGNB"), had total assets of $7.0 billion and total shareholders'
equity of $635.2 million at December 31, 1997. This transaction was accounted
for as a pooling-of-interests. First American released audited supplemental
consolidated financial statements giving retroactive effect to this merger on
July 14, 1998.
Prior to the Deposit Guaranty merger, Deposit Guaranty announced plans
to acquire Victory Bancshares, Inc., a bank holding company headquartered in
Memphis, Tennessee, with total assets of $131 million as of December 31, 1997.
Deposit Guaranty's acquisition of Victory Bancshares, Inc. closed on March 23,
1998 and was accounted for as a pooling-of-interests.
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Effective September 1, 1998, DGNB was merged with and into FANB. FANB
continues to operate under the Deposit Guaranty brand name in Mississippi,
Louisiana and Arkansas. For a further discussion of FANB, see Commercial
Banking - First American National Bank, included in this Report at pages 4-5.
On October 1, 1998, First American completed its acquisitions of
Peoples Bank, headquartered in Dickson, Tennessee, The Middle Tennessee Bank,
headquartered in Columbia, Tennessee ("MTB") and CSB Financial Corporation,
headquartered in Kingston Springs, Tennessee ("CSB"). Peoples Bank operated six
branches in Dickson and Houston Counties, Tennessee and had approximately $136
million in assets, $118 million in deposit liabilities and $16.8 million in
shareholders' equity as of June 30, 1998. As of the same date, MTB operated
seven branches in Maury County, Tennessee, and had approximately $225 million in
assets, $190 million in deposit liabilities and $30 million in shareholders'
equity. CSB, through its subsidiary Cheatham State Bank, a Tennessee state
chartered bank, operated four branches in Cheatham County, Tennessee, and had
approximately $145 million in assets, $132 million in deposit liabilities and
$11 million in shareholders' equity as of June 30, 1998. MTB and CSB were merged
into FANB effective October 1, 1998 and Peoples Bank is expected to be merged
into FANB by the end of the third quarter of 1999. These transactions were
accounted for as poolings-of-interests.
On October 19, 1998, First American and National Commerce
Bancorporation ("NCBC") announced definitive agreements to exchange a total of
14 existing bank branches in Tennessee and Virginia. Under the terms of the
agreements, NCBC will acquire five existing FAFSB branches in Virginia and FAFSB
will acquire nine existing NCBC branches throughout Tennessee. The branch swaps
and conversions are expected to be complete by the end of the second quarter of
1999.
Effective November 20, 1998, First American acquired Pioneer
Bancshares, Inc. ("Pioneer"), a $990 million bank holding company headquartered
in Chattanooga, Tennessee. Pioneer was the parent company of Pioneer Bank of
Chattanooga, Tennessee, Valley Bank of Sweetwater, Tennessee and Pioneer Bank,
f.s.b. of East Ridge, Tennessee. Pioneer Bank and Valley Bank were merged into
FANB on November 20, 1998. Pioneer Bank, f.s.b. is expected to be merged into
FAFSB in the second quarter of 1999. This transaction was accounted for as a
pooling-of-interests. The restated financial results giving retroactive effect
to this merger are incorporated herein by reference to First American's
Consolidated Financial Statements, included in this Report under Item 8.
First American also divested a number of non-core businesses in 1998.
Effective July 11, 1998, First American sold certain assets of First
Mortgage Corp., a mortgage subsidiary acquired from Deposit Guaranty. First
Mortgage Corp., headquartered in Nebraska, operated throughout Nebraska, Iowa
and Oklahoma. On August 16, 1998, First American completed the sale of McAfee
Mortgage ("McAfee"), a mortgage subsidiary headquartered in Texas. The sale of
McAfee, along with the sale of certain assets of First Mortgage Corp., finalized
the strategic process of focusing First American's mortgage operations on
primarily in-market mortgage businesses.
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In August 1998, DGNB consummated the sale of its corporate trust
business to The Bank of New York. In the transaction, DGNB transferred
approximately 900 bond trustee and agency relationships representing $8 billion
in outstanding securities for municipalities and corporations located primarily
in Mississippi and Louisiana to The Bank of New York and its trust company
affiliates.
For further discussion of these activities, see Note 2 to First
American's Consolidated Financial Statements, included in this Report under Item
8, at pages 78-81.
BANKING SERVICES
FIRST AMERICAN NATIONAL BANK ("FANB")
Founded in 1883, at December 31, 1998, FANB operated in six states
throughout the southeastern United States. At year's end, FANB's banking offices
were located: (1) in 34 Tennessee counties containing approximately 73.9% of
Tennessee's population; (2) in 26 Mississippi counties containing approximately
55.9% of Mississippi's population; (3) in 13 Louisiana parishes containing
approximately 52.9% of Louisiana's population; (4) in two Kentucky counties
containing approximately 2.6% of Kentucky's population; (5) in two Virginia
counties (or cities) containing approximately 1.0% of Virginia's population; and
(6) in one Arkansas county containing approximately 4.2% of Arkansas'
population.
On a pro forma basis as of June 30, 1998, FANB estimates that it
maintained the following market shares in the markets that it serves:
(1) Tennessee. FANB was the largest bank in Tennessee. FANB had
the largest deposit base in the Middle Tennessee Region, the
largest deposit base in the Southeast Tennessee Region and
the largest deposit base in the Tri-Cities Metropolitan
Statistical Area. In the Knoxville Metropolitan Statistical
Area and the West Tennessee Region, FANB held the second and
fourth largest deposit bases, respectively. The Middle
Tennessee Region includes Bedford, Cannon, Cheatham,
Davidson, DeKalb, Dickson, Giles, Houston, Maury,
Montgomery, Putnam, Rutherford, Stewart, Sumner, Trousdale,
Warren, Williamson and Wilson Counties. The Southeast
Tennessee Region includes Bradley, Cumberland, Hamilton,
Marion, McMinn, Meigs, Rhea, Roane and Sequatchie Counties
in addition to Whitfield County, Georgia. The West Tennessee
Region includes Gibson, Henry, Madison and Shelby Counties;
(2) Mississippi. FANB, operating as DGNB, was the second largest
bank in Mississippi. FANB had the largest deposit base in the
South Mississippi Region, excluding Harrison County in which
FANB had the eighth largest deposit base. In the Middle and
North Mississippi Regions, FANB had the second largest
deposit base. The South Mississippi Region includes Adams,
Forrest, Jones, Lamar, Lawrence, Pike and Wilkinson Counties.
The Middle Mississippi Region includes Hinds, Lauderdale,
Madison, Rankin, Warren and Yazoo Counties. The
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North Mississippi Region includes Alcorn, Coahoma, Itawamba,
Lee, Leflore, Lowndes, Oktibbeha, Prentiss, Tishomingo,
Webster and Washington Counties; and
(3) Louisiana. FANB, operating as DGNB, was the fifth largest
bank in Louisiana. FANB had the third largest deposit base in
the North Louisiana Region and the fifth largest deposit base
in the South Louisiana Region. The North Louisiana Region
includes Bossier, Caddo, Madison, Morehouse, Ouachita and
Richland Parishes. The South Louisiana Region includes
Ascension, East Baton Rouge, Jefferson, Livingston, Orleans,
St. Tammany and Tangipahoa Parishes.
At December 31, 1998, FANB had a total of 391 banking offices. In
Tennessee, FANB had banking offices in the ten largest Tennessee counties
(measured by aggregate bank deposits of banks in the county at June 30, 1998)
and in the ten most populous Tennessee cities. In Mississippi, FANB had banking
offices in nine of the ten largest Mississippi counties (measured by aggregate
bank deposits of banks in the county at June 30, 1998) and in nine of the ten
most populous Mississippi cities. In Louisiana, FANB had banking offices in six
of the ten largest Louisiana parishes (measured by aggregate bank deposits of
banks in the parish at June 30, 1998) and in six of the ten most populous
Louisiana cities.
FANB offers the services generally performed by commercial banks of
like size and character. FANB also provides individual trust services and
investment management services for customers of First American's subsidiary
banks. For a discussion of the securities brokerage services provided by FANB,
please see "Investment Product Distribution; Broker/Dealer Services" on page 6
of this Report.
In addition, FANB owns First AmTenn Life Insurance Company, which
underwrites credit life and accident and health insurance on extensions of
credit made by FANB. On July 1, 1998, First AmTenn Life Insurance Company was
merged into G&W Life Insurance Company, a wholly owned subsidiary of FANB
acquired in conjunction with the Deposit Guaranty merger. Immediately following
the merger, the entity's name was changed to First AmTenn Life Insurance
Company.
FANB offers 24-hour banking service through a variety of means,
including PC banking, telephone banking and automated teller machines located at
a majority of its banking offices and at other locations. At December 31, 1998,
FANB operated a total of 699 automated teller machines.
FEDERAL SAVINGS BANK SUBSIDIARIES
FAFSB offers the services generally performed by savings banks of like
size and character. At December 31, 1998, FAFSB had ten branches in the
southwestern region of Virginia and offered 24-hour banking service through 12
automated teller machines. On the basis of deposits at June 30, 1998, First
American estimates that FAFSB had the fifth largest deposit base in the Pulaski
County, Virginia market, the fifth largest deposit base in the Smyth County,
Virginia market and the fifth largest deposit base in the Wythe County, Virginia
market.
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In April, 1998, three FAFSB branches in Virginia, with total deposits
of approximately $37 million, were sold for a pretax gain of $2.7 million. The
sale of these branches was a part of the implementation of First American's
Distribution Management System, which is designed to reconfigure First
American's distribution system to determine the best mix of distribution
alternatives for clients and to maximize return on capital investment.
Pioneer Bank, f.s.b. also offers services generally performed by
savings banks of like size and character. At December 31, 1998, Pioneer Bank,
f.s.b. had one branch in Tennessee, two branches in Georgia and offered 24-hour
banking service through three automated teller machines.
ENTERPRISES
FAE was formed in 1995 for the purpose of developing sources of
non-traditional financial services income. FAE has concentrated its efforts in
exploring potential fee income generation in the areas of health care payment
processing, insurance company relational database services, and third-party
marketing and securities distribution. A division of FANB manages First
American's investments in these areas, including investments in IFC and SSI.
INVESTMENT PRODUCT DISTRIBUTION; BROKER/DEALER SERVICES
IFC (formerly INVEST Financial Corporation) is a securities
broker/dealer registered with the National Association of Securities Dealers,
Inc. ("NASD"). IFC, through the INVEST and ICA brands, is licensed to sell
investment products in all 50 states, the District of Columbia and Puerto Rico.
Headquartered in Tampa, Florida, IFC is a third party marketer of
investment products for financial institutions. Through its Investment Services
Group ("ISG"), IFC also serves as the third party marketer of investment
products for First American's subsidiary banks.
ICA, a North Dakota corporation headquartered in Bismarck, North
Dakota, is a wholly owned subsidiary of IFC. ICA is also a broker/dealer
registered with the NASD and a third-party marketer of its own brand of
investment products through financial institutions. ICA primarily services
community banks with assets of $500 million or less.
On December 16, 1998, IFC completed the purchase of the assets of the
Specialized Investment Division of Financial Service Corporation, a subsidiary
of SunAmerica, Inc. This acquisition gave IFC an entry into the credit union
market and brought additional management and sales experience to IFC. The
purchase added new clients, new representatives, new locations and approximately
$300 million in product sales to IFC's operations.
As of December 31, 1998, IFC serviced more than 330 banks through
approximately 2500 licensed representatives in more than 1334 investment centers
located throughout the United States, making IFC the nation's leading provider
of investment services for banks and financial institutions.
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HEALTH CARE CLAIMS PROCESSING
SSI is a health care claims processing company headquartered in Mobile,
Alabama. SSI uses automated data processing to assist hospitals and physicians
in relaying billing and payment-related information to medical benefits
third-party payors such as government agencies, health maintenance organizations
and insurance carriers. SSI's claims processing services include transmission of
bill payments by both patients and third-party payors to hospitals or
physicians. SSI provides these electronic financial data processing services to
more than 910 hospitals, clinics and physicians in 43 states.
On November 6, 1998, SSI completed the purchase of the assets of Health
Management Technologies, Inc. ("HMT"), a corporation headquartered in Lafayette,
California. HMT developed and marketed healthcare information management
software for workers compensation, occupational health and managed care
organization insurance carriers. HMT's shareholders received 9.16% of SSI's
common stock in the transaction. Simultaneously, FANB exercised a portion of its
option to purchase additional shares from Southern Medical Health Systems, Inc.,
which is wholly owned by Celia A. Wallace, at a cost of approximately $900,000.
FANB currently owns 49% of SSI and has the option to purchase up to a total of
58.5% of the company. The balance of SSI is owned, either directly or
indirectly, by Ms. Wallace, a member of First American's Board of Directors
since 1996, Health Care Insight, L.C., Karen Wolfe and A. Allan Machesney.
STATISTICAL INFORMATION
Management's Discussion and Analysis of Financial Condition and Results
of Operations and the Consolidated Year-End Balance Sheets, which discuss First
American and its subsidiaries from a financial perspective, are contained in
Items 7, 7A, and 8 of this Report and incorporated herein by reference.
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SUPERVISION AND REGULATION
GENERAL
First American is a bank holding company subject to regulation,
supervision and examination by the Federal Reserve Board under the BHCA. The
activities of First American are limited to banking, managing or controlling
banks, furnishing services to or performing services for their subsidiaries or
any other activity which the Federal Reserve Board determines to be an
appropriate activity for a bank holding company because such activity is closely
related to banking or managing or controlling banks. In making such
determinations, the Federal Reserve Board is required to consider whether the
performance of such activities by a bank holding company can reasonably be
expected to produce benefits to the public such as greater convenience,
increased competition or gains in efficiency that outweigh possible adverse
effects, such as undue concentration of resources, decreased or unfair
competition, conflicts of interest or unsound banking practices. Generally, bank
holding companies such as First American are required to obtain prior approval
of the Federal Reserve Board to engage in any new activity or to acquire more
than 5% of any class of voting stock of any company. First American is also a
savings and loan holding company subject to the supervision of the Office of
Thrift Supervision ("OTS") under HOLA.
FANB, a national bank, is subject to regulation, supervision and
examination by the Office of the Comptroller of the Currency ("OCC"). FAFSB and
Pioneer Bank, f.s.b. are federal savings banks and, as such, are subject to
regulation, supervision and examination by the OTS. Peoples Bank, a Tennessee
state-chartered bank, is subject to regulation by the Tennessee Department of
Financial Institutions ("TDFI"). Each of First American's depository institution
subsidiaries is also subject to regulation by the Federal Reserve Board and
insured by, and subject to the regulations of, the Federal Deposit Insurance
Corporation ("FDIC"). In addition, First American's banking subsidiaries are
significantly affected by the actions of the Federal Reserve Board by virtue of
its role in regulating money supply and credit availability, as well as by the
U.S. economy in general. Areas subject to regulation by federal authorities
include loan loss reserves, investments, loans, mergers, issuance of securities,
capital, payment of dividends, establishment and closing of branches, product
offerings and other aspects of operations. In addition to banking laws,
regulations and regulatory agencies, First American and its subsidiaries and
affiliates are subject to various other laws, regulations, supervision and
examination by other regulatory agencies, all of which, directly or indirectly,
affect the operations and management of First American and its ability to make
distributions.
First American's (Enterprises), First American's non-banking
subsidiaries ("Enterprises") are non-banking subsidiaries, are subject to the
supervision of the Federal Reserve Board, and may be subject to the supervision
of other regulatory agencies including the Securities and Exchange Commission
("SEC"), the NASD and state securities and insurance regulators. Subsidiaries
and permitted investments of FANB, such as IFC and SSI, are also subject to
regulation and conditions of acquisition by the OCC.
The following discussion summarizes certain aspects of those laws and
regulations that affect First American. To the extent statutory or regulatory
provisions or proposals are described, the description is qualified in its
entirety by reference to the particular statutory or regulatory provision or
proposal.
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Supervision and regulation of bank holding companies and their
subsidiaries are intended primarily for the protection of depositors, the
deposit insurance funds of the FDIC, and the banking system as a whole, not for
the protection of bank holding company shareholders or creditors. For example,
according to Federal Reserve Board policy, First American is expected to serve
as a source of financial and managerial strength to each of its subsidiary banks
and to commit resources to support each of them. This support may be required at
times when First American would not otherwise be inclined to provide it.
Under the "cross-guarantee" provisions of the Federal Deposit Insurance
Act ("FDIA"), any FDIC-insured subsidiary of First American can be held liable
for any loss incurred by, or reasonably expected to be incurred by, the FDIC in
connection with (i) the default of a commonly controlled FDIC-insured subsidiary
or (ii) any assistance provided by the FDIC to any commonly controlled
FDIC-insured subsidiary "in danger of default." "Default" is defined generally
as the appointment of a conservator or receiver and "in danger of default" is
defined generally as the existence of certain conditions indicating that a
default is likely to occur in the absence of regulatory assistance. The FDIC may
decline to enforce the cross-guarantee provisions if it determines that a waiver
is in the best interest of the Bank Insurance Fund ("BIF") or the Savings
Association Insurance Fund ("SAIF"), or both. The FDIC's claim for damages is
superior to claims of shareholders of the insured depository institution or its
holding company but is subordinate to claims of depositors, secured creditors
and holders of subordinated debt (other than affiliates) of the commonly
controlled insured depository institutions.
The FDIA also provides that amounts received from the liquidation or
other resolution of any insured depository institution by any receiver must be
distributed (after payment of secured claims) to pay the deposit liabilities of
the institution prior to payment of any other general or unsecured senior
liability, subordinated liability, general creditor or shareholder. This
provision would give depositors a preference over general and subordinated
creditors and shareholders in the event a receiver is appointed to distribute
the assets of any of the bank subsidiaries of First American.
Proposals to change the laws and regulations governing the banking
industry are frequently introduced in Congress, in the state legislatures and by
the various bank regulatory agencies. The likelihood and timing of any such
proposals or bills being enacted and the impact they might have on First
American and its subsidiaries cannot be determined at this time.
CAPITAL AND OPERATIONAL REQUIREMENTS
The Federal Reserve Board, the OCC, the OTS and the FDIC have adopted
substantially similar risk-based and leverage capital guidelines applicable to
U.S. banking organizations. In addition, those regulatory agencies may from time
to time require that a banking organization maintain capital above the minimum
levels, whether because of its financial condition or actual or anticipated
growth. The Federal Reserve Board risk-based guidelines applicable to bank
holding companies define a two-tier capital framework. Tier 1 capital generally
consists of common and qualifying preferred shareholders' equity, less goodwill,
certain intangibles and other adjustments. Tier 2 capital consists of
subordinated and other qualifying debt, and the allowance for credit losses
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up to 1.24% of risk-weighted assets. The sum of Tier 1 and Tier 2 capital less
investments in unconsolidated subsidiaries represents qualifying total capital,
at least 50% of which must consist of Tier 1 capital. Risk-based capital ratios
are calculated by dividing Tier 1 and total capital by risk-weighted assets. For
purposes of calculating risk-weighted assets, assets and off-balance sheet
exposures are assigned to one of four categories of risk weights, based
primarily on relative credit risk. The minimum Tier 1 risk-based capital ratio
is 4% and the minimum total risk-based capital ratio is 8%. For a discussion of
First American's Tier 1 and total risk-based capital ratios, please see Note 16
("Legal and Regulatory Matters") to First American's Consolidated Financial
Statements on pages 99-102 herein.
In addition, each of the federal bank regulatory agencies has
established minimum leverage capital ratio guidelines. The leverage ratio is
determined by dividing Tier 1 capital by adjusted average total assets. Although
the stated minimum ratio is 3%, most banking organizations are required to
maintain ratios of at least 100 to 200 basis points above 3%. For information on
First American's leverage ratio, see Note 16 ("Legal and Regulatory Matters") to
First American's Consolidated Financial Statements on pages 99-102 herein.
FAFSB and Pioneer Bank, f.s.b. are subject to similar capital
requirements adopted by the OTS. Under OTS capital guidelines, a federal
savings bank is required to maintain tangible capital of at least 1.5% of
tangible assets, core (leverage) capital of at least 3% of the association's
adjusted total assets and risk-based capital of at least 8% of risk-weighted
assets. For more information on these capital ratios, please see Note 16 ("Legal
and Regulatory Matters") to First American's Consolidated Financial Statements
on pages 99-102 herein.
In 1991, each federal banking agency was required to revise its
risk-based capital standards to ensure that those standards take adequate
account of interest rate risk, concentration of credit risk and the risks of
nontraditional activities. Each of the federal banking agencies subsequently
revised the risk-based capital guidelines to take account of concentration of
credit risk, risk of nontraditional activities, and a bank's exposure to
declines in the economic value of its capital due to changes in interest rates.
In 1996, these agencies adopted a joint policy statement requiring that banks
adopt comprehensive policies and procedures for managing interest rate risk, and
this statement sets forth the general standards that such policies and
procedures must meet. Unlike an earlier proposal, however, the statement does
not contain a standardized measure or explicit capital charge for interest rate
risk.
The OTS regulatory capital requirements, which are applicable to FAFSB
and Pioneer Bank, f.s.b., also incorporate an interest rate risk component.
Under the OTS regulation, a federal savings bank's interest rate risk is
measured by the decline in the net portfolio value of its assets that would
result from a hypothetical 200 basis point increase or decrease in interest
rates, divided by the estimated economic value of the federal savings bank's
assets. A federal savings bank whose interest rate risk exposure exceeds 2%
would be required to deduct an amount equal to one half of the difference
between the federal savings bank's interest rate risk and 2% multiplied by the
estimated economic value of its assets.
At December 31, 1998, each of First American's insured depository
institution subsidiaries
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were in compliance with applicable federal capital adequacy guidelines.
The Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA"), among other things, identifies five capital categories for insured
depository institutions (well capitalized, adequately capitalized,
undercapitalized, significantly undercapitalized and critically
undercapitalized) and requires the respective U.S. federal regulatory agencies
to implement systems for "prompt corrective action" for insured depository
institutions that do not meet minimum capital requirements within such
categories. FDICIA imposes progressively more restrictive constraints on
operations, management and capital distributions, depending on the category in
which an institution is classified. Failure to meet the capital guidelines could
also subject a banking institution to capital raising requirements. An
"undercapitalized" bank must develop a capital restoration plan and its parent
holding company must guarantee that bank's compliance with the plan in order for
the capitalization plan to be accepted by the appropriate bank regulator. The
liability of the parent holding company under any such guarantee is limited to
the lesser of 5% of the bank's assets at the time it became "undercapitalized"
or the amount needed to comply with the plan. Furthermore, in the event of the
bankruptcy of the parent holding company, such guarantee would take priority
over the parent's general unsecured creditors. FDICIA also requires the various
regulatory agencies to prescribe certain non-capital standards for safety and
soundness related generally to operations and management, asset quality and
executive compensation and permits regulatory action against a financial
institution that does not meet such standards.
The federal banking agencies have adopted substantially similar
regulations that define the five capital categories identified by FDICIA, using
the total risk-based capital, Tier 1 risk-based capital and leverage capital
ratios as the relevant capital measures. Such regulations establish successive
degrees of corrective action to be taken when an institution is considered
undercapitalized, including, in the most severe cases, placing an institution
into conservatorship or receivership. Under the regulations, a "well
capitalized" institution must have a Tier 1 capital ratio of at least 6%, a
total capital ratio of at least 10% and a leverage ratio of at least 5% and not
be subject to a capital directive order. An "adequately capitalized" institution
must have a Tier 1 capital ratio of at least 4%, a total capital ratio of at
least 8% and a leverage ratio of at least 4%, or 3% in some cases. For a
discussion of First American's capital ratios, please see Note 16 ("Legal and
Regulatory Matters") to First American's Consolidated Financial Statements on
pages 99-102 herein.
The federal banking agencies have also adopted final regulations that
mandate that regulators take into consideration concentrations of credit risk
and risks from non-traditional activities, as well as an institution's ability
to manage those risks, when determining the adequacy of an institution's
capital. That evaluation is a part of the institution's regular safety and
soundness examination. In addition, the banking agencies have adopted final
regulations requiring regulators to consider interest rate risk (when the
interest rate sensitivity of an institution's assets does not match the
sensitivity of its liabilities or its off-balance sheet position) in the
determination of a bank's capital adequacy. On June 4, 1998, the OTS released a
proposed comprehensive guidance bulletin regarding risk management of interest
rates, investment securities and use of financial derivatives. For a discussion
of the accounting and reporting standards applicable to derivative instruments,
please see "Derivatives" on pages 50-51 of this Report.
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ACQUISITION AND EXPANSION
The BHCA requires any bank holding company to obtain the prior approval
of the Federal Reserve Board before acquiring more than 5% of any class of
voting stock of any bank that is not already majority-owned by the bank holding
company.
The BHCA, as amended by the interstate banking provisions of the
Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the
"Interstate Banking and Branching Act"), permits bank holding companies from any
state to acquire banks and bank holding companies located in any other state,
except that applicable agency and aggregate market share limitations may apply.
Under these market share limitations, a bank holding company which controls more
than 10% of the total amount of deposits of insured depository institutions in
the United States is prohibited from making further acquisitions. The BHCA also
prohibits an acquisition if, upon consummation of the transaction, a bank
holding company would control 30% or more of the total amount of deposits of
insured depository institutions in the state which is the home state of the bank
or bank holding company being acquired. First American estimates that, as of
December 31, 1998, it held the following percentages of all such deposits in
each of the following states: less than 14% in Tennessee; less than 14% in
Mississippi; less than 4% in Louisiana; less than 1% in Arkansas; less than .5%
in Kentucky; less than .5% in Virginia; and less than .5% in Georgia.
Tennessee has adopted conforming legislation incorporating the deposit
caps enacted by Congress. Under the Tennessee Bank Structure Act, a bank or bank
holding company will be prohibited from acquiring any bank in Tennessee if that
bank or bank holding company, on consummation of the acquisition, would control
30% or more of the total deposits in all insured financial institutions in
Tennessee. In addition, a bank holding company, whether incorporated in
Tennessee or elsewhere, may not acquire any bank in Tennessee that has been in
operation less than five years or organize a new bank in Tennessee except in the
case of certain interim bank mergers and acquisitions of banks in financial
difficulty. Under Tennessee laws pertaining to bank mergers, banks in separate
counties in Tennessee which have been in operation at least five years may
merge. Banks with principal offices in the same county may merge without regard
to the five-year aging requirement. The effect of these provisions is that First
American may acquire banks in Tennessee which have been in operation for five
years but may not form or acquire a new bank in any Tennessee county other than
Davidson County, in which the main office of FANB is located.
The Interstate Banking and Branching Act also authorizes banks with
different home states to merge across state lines, unless the home state of a
participating institution has passed legislation prior to June 1, 1997
explicitly prohibiting interstate branching with that state. No states in which
First American's banking subsidiaries are located passed such legislation.
Furthermore, pursuant to the Interstate Banking and Branching Act, a bank is now
able to open new branches in a state in which it does not already have banking
operations if such state has enacted a law permitting such de novo branching.
Tennessee state law currently allows interstate branching by acquisition or
merger, of either a bank or a bank branch, but does not expressly permit the de
novo establishment of a bank branch.
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ENFORCEMENT POWERS OF THE BANKING AGENCIES
Federal and state banking agencies have broad enforcement powers over
bank holding companies and their subsidiaries, including, in the case of federal
agencies, the power to terminate deposit insurance, impose substantial fines and
other civil penalties and, in the most severe cases, to appoint a conservator or
receiver for a depository institution. Failure to maintain adequate capital or
to comply with applicable laws, regulations and supervisory agreements could
subject First American or its subsidiaries to these enforcement provisions.
BANK REGULATION
Payment of Dividends. First American is a legal entity separate and
distinct from its subsidiary banks and its Enterprises. First American's
revenues (on a parent company only basis) result, in part, from dividends paid
to First American by its subsidiaries. The right of First American, and
consequently the right of its creditors and shareholders, to participate in any
distribution of the assets or earnings of any subsidiary through the payment of
dividends is subject to the prior claims of creditors of the subsidiary
(including depositors, in the case of banking subsidiaries), except to the
extent that claims of First American in its capacity as a creditor may be
recognized. In addition, under applicable law, FANB may not pay a dividend
without prior approval of the OCC if the total of all dividends declared in any
calendar year exceeds the total of its net profits of the preceding two calendar
years, less any required transfers to surplus or to a fund for the retirement of
any preferred stock. FAFSB and Pioneer Bank, f.s.b. must provide the OTS with at
least 30 days notice prior to declaring a dividend and are subject to other OTS
regulations governing capital distributions. The ability of Peoples Bank to pay
dividends is subject to the rules and regulations of the TDFI governing the
amount of dividends which may be paid to shareholders, the manner in which
dividends are paid, and the methods, if any, by which capital stock and surplus
may be retired and reduced. Each of the banking subsidiaries is prohibited from
paying a dividend if such payment would cause the subsidiary to fail to maintain
capital within regulatory minimums. Similarly, the appropriate federal
regulatory authority is authorized to determine, under certain circumstances
relating to the financial condition of the bank or bank holding company, that
the payment of dividends would be an unsafe or unsound practice and to prohibit
payment thereof.
Federal Reserve Board policy provides that, as a matter of prudent
banking, a bank holding company generally should not maintain a level of cash
dividends unless its net income available to common shareholders has been
sufficient to fully fund the dividends, and the prospective rate of earnings
retention appears to be consistent with the holding company's capital needs,
asset quality and overall financial condition.
In addition to the foregoing, the ability of First American and its
banking subsidiaries to pay dividends may be affected by the various minimum
capital requirements and the capital and non-capital standards established under
FDICIA, as previously described. The right of First American, its shareholders
and its creditors to participate in any distribution of the assets or earnings
of its subsidiaries is further subject to the prior claims of creditors of the
respective subsidiaries. For more information on "Payment of Dividends," please
see Note 16 ("Legal and Regulatory Matters") to First American's Consolidated
Financial Statements on pages 99-102 herein. For a discussion on the
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impact of First American's long-term debt on its ability to pay dividends to
shareholders, please see Note 10 ("Long-term Debt") to First American's
Consolidated Financial Statements on page 89 herein.
Furthermore, under the FDIA, insured depository institutions are
prohibited from making capital distributions, including the payment of
dividends, if, after making such distribution, the institutions would become
"undercapitalized" (as such term is used in the statute). Based on the current
financial condition of these institutions, First American does not expect that
this provision will have any impact on its ability to obtain dividends from its
bank subsidiaries.
FDIC Insurance. First American's subsidiary depository institutions are
subject to FDIC deposit insurance assessments. The FDIC has promulgated
risk-based deposit insurance assessment regulations which became effective in
1993. Under these regulations, insured institutions (whether members of BIF or
SAIF) are assigned assessment risk classifications based upon capital levels and
supervisory evaluations.
With the exception of deposits attributable to thrift acquisitions,
FANB and Peoples Bank pay their premiums at the BIF rate. Premiums on deposits
attributable to thrift acquisitions held by non-thrifts are paid at the SAIF
rate based on a percentage of total deposits determined at the time of
acquisition. As federal savings banks, FAFSB and Pioneer Bank, f.s.b. pay their
premiums at the SAIF rate. Thus, First American's overall deposit insurance
premium expenses are affected by changes in both the BIF and the SAIF assessment
rates. For a discussion of First American's assessment rates, please see Note 16
("Legal and Regulatory Matters") to First American's Consolidated Financial
Statements on pages 99-102 herein.
The Deposit Insurance Funds Act of 1996 ("DIFA") requires BIF members
to pay one-fifth of the assessment rate imposed upon thrifts to cover the annual
Financing Corporation ("FICO") bond payments from January 1, 1997 until December
31, 1999 or until the insurance funds are merged, whichever occurs first. DIFA
provides that the insurance funds may only be merged following the merger of the
thrift and banking charters (when the last savings and loan association ceases
to exist). Thereafter, banks and thrifts will pay the assessment on a pro rata
basis. For more information regarding FDIC assessment rates, please see Note 16
("Legal and Regulatory Matters") of First American's Consolidated Financial
Statements on pages 99-102 herein.
Community Reinvestment Act. First American's subsidiary depository
institutions are also subject to the requirements of the Community Reinvestment
Act of 1976 ("CRA"). The CRA imposes on financial institutions an affirmative
and ongoing obligation to meet the credit needs of their local communities,
including low- and moderate-income neighborhoods, consistent with the safe and
sound operation of those institutions. Each financial institution's efforts in
meeting community credit needs currently are evaluated as part of the
examination process, as well as when an institution applies to undertake a
merger, acquisition or to open a branch facility. CRA regulations incorporate an
evaluation system that rates institutions based on their performance in meeting
community credit needs. Under these regulations, each institution is evaluated
based on the degree to which it is providing loans (the lending test), branches
and other services (the service test), and investments (the investment test) to
low and moderate income areas in the communities it serves, based on the
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communities' demographics, characteristics and needs, the institution's
capacity, product offerings and business strategy. Under this evaluation system,
institutions receive one of four composite ratings: Outstanding, Satisfactory,
Needs to Improve or Substantial Noncompliance. As of December 31, 1998, each of
First American's subsidiary depository institutions had a satisfactory rating.
Certain Transactions with Affiliates. Provisions of the Federal Reserve
Act impose restrictions on the type, quantity and quality of transactions
between affiliates of an insured bank (including First American and its non-bank
subsidiaries) and the insured bank (or federal savings bank) itself. Under these
restrictions, an insured bank (or federal savings bank) and its subsidiaries
are, among other things, limited in engaging in "covered transactions" with any
one affiliate to no more than 10% of the capital stock and surplus of the
insured bank (or federal savings bank); and with all affiliates in the
aggregate, to no more than 20% of the capital stock and surplus of the bank (or
federal savings bank). "Covered transactions" are defined by statute to include
a loan or extension of credit, as well as a purchase of securities issued by an
affiliate, a purchase of assets (unless otherwise exempted by the Federal
Reserve Board), the acceptance of securities issued by the affiliate as
collateral for a loan and the issuance of a guarantee, acceptance or letter of
credit on behalf of an affiliate. In addition, any transaction with an
affiliate, including loans, contractual arrangements and purchases, must be on
terms and conditions that are substantially the same or at least as favorable to
the bank (or federal savings bank) as those prevailing at the time for
comparable transactions with non-affiliated companies. The purpose of these
restrictions is to prevent the misuse of resources of the bank by its uninsured
affiliates. An exception to the quantitative restrictions is provided for
transactions between two insured banks or federal savings banks that are within
the same holding company structure where the holding company owns 80% or more of
each bank. If a rule proposed by the Federal Reserve Board on July 15, 1997,
becomes final, it will affect "covered transactions" between banks, such as FANB
and FAFSB, and their operating subsidiaries. The proposed rule, among other
things, limits credit transactions between banks and their subsidiaries.
Transactions with Insiders. Any loans made by First American's
depository institution subsidiaries to their respective executive officers,
directors or shareholders who own 10% or more of First American's common stock,
as well as entities such persons control, are required to be made on terms
substantially the same as those offered to unaffiliated individuals and to
involve not more than the normal risk of repayment. These loans are subject to
individual and aggregate limits depending on the person involved. Further,
provisions of the BHCA prohibit a bank holding company and its subsidiaries from
engaging in certain tie-in arrangements in connection with any extension of
credit, lease or sale of property or furnishing of services.
Other Safety and Soundness Regulations. The federal banking agencies
have broad powers under current federal law to take prompt corrective action to
resolve problems of insured depository institutions. The extent of these powers
depends upon whether the institutions in question are categorized as "well
capitalized," "adequately capitalized," "undercapitalized," "significantly
undercapitalized" or "critically undercapitalized," as such terms are defined
under uniform regulations issued by each of the federal banking agencies.
In addition, FDIC regulations require that management report on its
institution's responsibility for (a) preparing financial statements, (b)
establishing and maintaining an internal control structure
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and procedures for financial reporting, and (c) compliance with designated laws
and regulations concerning safety and soundness. Under these rules, independent
auditors must attest to and report separately on assertions in management's
report concerning the effectiveness of the internal control structure over
financial reporting, using FDIC-approved audit procedures.
FDICIA requires each of the federal banking agencies to develop
regulations addressing certain safety and soundness standards for insured
depository institutions, including operational and managerial standards, asset
quality, earnings and stock valuation standards, as well as compensation
standards (but not dollar levels of compensation). Each of the federal banking
agencies has issued regulations and interagency guidelines implementing these
standards. The regulations and guidelines set forth general operational and
managerial standards in the areas of internal controls, information systems and
internal audit systems, loan documentation, credit underwriting, interest rate
exposure, asset growth and compensation, fees, benefits, asset quality and
earnings standards. These rules require each federal agency to determine
compliance with safety and soundness standards through the examination process
and, if necessary to correct weaknesses, require an institution to file a
written compliance plan.
In September 1995, the OCC implemented the Supervision by Risk program
to ensure OCC regulatory examinations address activities that are most likely to
have a material impact on a bank's safety and soundness. The OCC identified nine
areas of risk to be examined under this program: credit, interest rate,
liquidity, price, foreign currency translation, transaction, compliance,
strategic and reputation. On February 4, 1998, the OCC released guidelines
bringing technology within the Supervision by Risk program. These guidelines
emphasized the importance of technology as an integral part of the financial
services business, focusing on identification, measurement, monitoring and
control of risks associated with the use of technology. On July 22, 1998, the
OCC revised its supervision manual applicable to national banks with total
assets of $1 billion or more, expanding the application of Supervision by Risk
to all aspects of the supervisory process. The revised manual bases its
supervisory framework on three key elements, core knowledge, core assessment and
optional procedures, and is intended to facilitate consistent risk assessments
across geographic lines and products regardless of the diversity or complexity
of the financial institution.
INTEREST RATE LIMITATIONS
The maximum permissible rates of interest on most commercial and
consumer loans made by First American's insured depository institution
subsidiaries are governed by state usury laws in the states where these
subsidiaries operate and by applicable federal statutes and regulations that in
each case set limits on interest rates and impose penalties in the event such
limits are exceeded. In certain circumstances, these federal statutes and
regulations preempt state usury laws that otherwise would apply.
The interest rates in Tennessee are governed by Tennessee's general
usury law and the Tennessee Industrial Loan and Thrift Companies Act
("Industrial Loan Act"). Tennessee's general usury law authorizes a floating
rate of 4% per annum over the average prime or base commercial loan rate, as
published by the Federal Reserve Board from time to time, subject to an absolute
24% per annum limit. The Industrial Loan Act, which is also generally applicable
to most loans made by
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FANB in Tennessee, authorizes an interest rate of 24% per annum and allows
certain loan charges, typically on a more liberal basis than does the general
usury law. Under Mississippi law, the legal rate of interest on all notes,
accounts and contracts is 8% per annum. However, until July 1, 2001, the parties
may agree to pay a higher interest rate. Louisiana's general usury law provides
that the amount of conventional interest may not exceed 12% per annum. In
Kentucky, the legal rate of interest is 8% or less per annum; however, by
written agreement, parties may agree for the payment of interest at any rate
under any written contract or other written obligation where the original
principal amount is in excess of $15,000. For loans where the original principal
amount is $15,000 or less, any rate allowed national banking associations under
federal law is permissible. In Arkansas, the maximum legal rate for consumer
loans and credit sales is 5% over the federal discount rate. Under Virginia law,
usury limits do not generally apply to the type of loans most commonly made by
FANB or federal savings banks such as FAFSB. In Georgia, the legal rate of
interest is 7% per annum unless the rate is established by written contract.
Certain other usury laws affect limited classes of loans, but the laws
referenced above are by far the most significant.
Under the Interstate Banking and Branching Act, the usury or interest
laws of a bank's home state may be applied to that bank's operations in other
states under certain circumstances. However, FANB generally applies the interest
rate of the state in which the transaction occurs to that transaction.
ENVIRONMENTAL REGULATION
As real estate lenders and as owners of real property, financial
institutions such as First American and its subsidiary insured depository
institutions may become subject to liability under various statutes and
regulations applicable to property owners, specifically including those which
impose liability with respect to the environmental condition of real property.
First American's primary exposure under these statutes and regulations stems
from the lending activities of its subsidiary commercial banks, which have
adopted policies and procedures to identify and monitor their exposure to avoid
any material loss or liability related to the environmental condition of
mortgaged property. Environmental liability can also result from mergers and
acquisitions, and First American has implemented procedures to identify and
avoid any material loss or liability related to the acquisition of real property
through mergers and acquisitions.
YEAR 2000
On May 5, 1997, the Federal Financial Institutions Examination Council
("FFIEC"), which consists of the Federal Reserve Board, the OCC, the FDIC, the
OTS, and the National Credit Union Administration, issued a statement (the "May
1997 Interagency Statement") encouraging financial institutions, such as First
American and its subsidiaries, to undertake initiatives to address and resolve
the Year 2000 issue by December 31, 1998. During 1997 and throughout 1998, the
FFIEC expanded on its May 1997 Interagency Statement to provide further guidance
to management of financial institutions in addressing the Year 2000 issue
(collectively, the "FFIEC Interagency Statements"). For example, on May 13,
1998, the FFIEC released a statement requiring each financial institution to
establish a Year 2000 customer awareness program to inform its customers of
steps taken to minimize the risk that its customers may be affected by Year
2000-related computer problems. Also on May
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13, 1998, the FFIEC issued guidance on the Year 2000 business resumption
contingency planning process that should be undertaken by each financial
institution. This process includes four phases: (1) organizational planning
guidelines; (2) assessment of the potential impact of mission-critical system
failures; (3) a contingency plan establishing a timeline for implementation; and
(4) testing. In addition, the FFIEC released a statement in August 1998
regarding the potential risks associated with fiduciary services and the Year
2000 date change. On October 15, 1998, the Interagency Guidelines establishing
Year 2000 Standards for Safety and Soundness were issued, establishing minimum
standards for safety and soundness. The Guidelines address the review of
mission-critical systems for Year 2000 readiness, renovation of internal and
external mission-critical systems, testing of mission-critical systems by
specific deadlines, business-resumption contingency planning, customer risk and
involvement of the board of directors and management.
The FDIC provides that by June 30, 1999, testing of mission-critical
systems should be complete and implementation of the contingency planning
process should be substantially complete. A financial institution's failure to
appropriately address Year 2000 readiness issues may result in supervisory
action, including formal and informal enforcement actions, denials of
applications filed pursuant to the FDIA, civil money penalties, reductions in
the institution's composite ratings and increased risk-related premiums.
For a discussion of First American's initiative undertaken in response
to the FFIEC Interagency Statements, as updated, please see pages 53-55 of
Management's Discussion and Analysis of Financial Condition and Results of
Operations, included in this Report as Item 7.
RIEGLE COMMUNITY DEVELOPMENT AND REGULATORY IMPROVEMENT ACT
The Riegle Community Development and Regulatory Improvement Act
("RCDRIA") is an effort to alleviate certain regulatory burdens imposed on the
banking industry by amending sections of FDICIA and other statutes pertaining to
the regulation of financial institutions and financial institution holding
companies. For example, as amended by the RCDRIA, FDICIA empowers each agency to
adopt its own standards for safety and soundness relating to quality, earnings
and stock valuation as the agency deems appropriate.
The RCDRIA also contains various community development initiatives;
measures to promote the securitization of small business loans; changes to the
National Flood Insurance Program and changes to the Bank Secrecy Act in terms of
money laundering; protection against bank insolvency of the security interests
of public entities in bank assets pledged to secure the entities' deposits;
restrictions on certain high-rate, high-fee mortgages; and disclosure
requirements for reverse mortgages.
BROKER/DEALER REGULATION
The United States securities industry generally is subject to extensive
regulation under federal and state laws. The SEC is the federal agency charged
with administration of the federal securities laws. Much of the regulation of
broker/dealers, however, has been delegated to self-regulatory organizations,
principally the NASD and the national securities exchanges. These
self-regulatory
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organizations adopt rules (subject to approval by the SEC) which govern the
industry and conduct periodic examinations of member broker/dealers. Securities
firms are also subject to regulation by state securities commissions in the
states in which they are registered. IFC and ICA are registered broker/dealers
in securities under the Securities Exchange Act of 1934, as amended, and are
members of the NASD. IFC and ICA are also investment advisers pursuant to the
Investment Advisers Act of 1940, as amended, and members of the Securities
Investor Protection Corporation. IFC is registered as a broker/dealer in 50
states, the District of Columbia and Puerto Rico. As a third-party marketer of
investment products, IFC may, in certain instances, be subject to regulation by
those agencies having supervisory authority over IFC's financial institution
clients, including, for example, the Federal Reserve Board, the OCC, the OTS,
the FDIC and various state banking agencies.
The regulations to which broker/dealers are subject cover all aspects
of the securities business, including sales methods, trade practices among
broker/dealers, capital structure of securities firms, uses and safekeeping of
customers' funds and securities, recordkeeping, and the conduct of directors,
officers and employees. Additional legislation, changes in rules promulgated by
the SEC and by self-regulatory organizations, or changes in interpretation or
enforcement of existing laws and rules, often directly affect the method of
operation and profitability of broker/dealers. The SEC and the self-regulatory
organizations may conduct administrative proceedings which can result in
censure, fines, suspension or expulsion of a broker/dealer, its directors,
officers or employees. The principal purpose of regulation and discipline of
broker/dealers is the protection of the customer and the securities market
rather than the protection of creditors and stockholders of broker/dealers.
COMPETITION
The activities in which First American engages are very competitive.
Generally, the lines of activity and markets served by First American involve
competition with money market mutual funds, national and state banks, mutual
savings banks, savings and loan associations, finance companies, brokerage
firms, credit unions and other financial institutions located primarily in the
southeastern region of the United States. The principal methods of competition
center around such aspects as interest rates on loans and deposits, lending
limits, customer services, location of offices, provision of financial services
and other service delivery systems. Some of First American's competitors are
major corporations with substantially more assets and personnel than First
American and its subsidiaries. Additionally, First American's competitive
environment is subject to future changes in federal and state legislation.
First American's subsidiary banks actively compete for loans and
deposits with other commercial banks, savings and loan associations, and credit
unions. Consumer finance companies, department stores, factors, mortgage brokers
and insurance companies are also significant competitors for various types of
loans. FANB competes for various types of fiduciary and trust business from
other banks, trust and investment companies, investment advisory firms and
others.
Through IFC, FANB competes with other third-party marketers of
investment products and other entities offering securities brokerage services.
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EMPLOYEES
As of December 31, 1998, First American and its subsidiaries employed
7,195 full-time equivalent officers and employees, compared with 7,869 at
December 31, 1997.
ITEM 3: LEGAL PROCEEDINGS
Note 16 to First American's Consolidated Financial Statements, included
in this Report under Item 8 at pages 99-102, is hereby incorporated in this
Item 3 by reference.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders, through the
solicitation of proxies or otherwise, during the quarter ended December 31,
1998.
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PART II
ITEM 5: MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
On July 1, 1998, First American began trading its Common Stock on the
New York Stock Exchange under the symbol "FAM." Prior to July 1, 1998, First
American's Common Stock was traded on the National Association of Securities
Dealers Automated Quotation National Market System (the "Nasdaq National Market
System") under the symbol "FATN."
At the close of business on February 5, 1999, there were approximately
16,790 holders of record of First American's Common Stock. The following table
sets out the quarterly high and low sales prices of First American's Common
Stock. The dividends declared during each quarter for the last two years are
also shown.
STOCK PRICES*
DIVIDENDS
HIGH LOW DECLARED
---- --- --------
1997
----
First Quarter $34.63 $28.00 $.155
Second Quarter 40.00 29.63 .20
Third Quarter 50.13 38.00 .20
Fourth Quarter 55.38 43.75 .20
===== ===== ===
1998
----
First Quarter $49.69 $43.13 $ .20
Second Quarter 54.88 43.13 .25
Third Quarter 51.00 34.75 .25
Fourth Quarter 44.69 33.44 .25
===== ===== ===
(* STOCK PRICES AND DIVIDEND AMOUNTS HAVE BEEN RESTATED TO GIVE RETROACTIVE
EFFECT TO THE 2-FOR-1 SPLIT OF FIRST AMERICAN'S COMMON STOCK EFFECTIVE MAY 9,
1997.)
See SUPERVISION AND REGULATION, PAYMENT OF DIVIDENDS. See also, Notes 10 and 16
to First American's Consolidated Financial Statements, included in this Report
under Item 8, which are incorporated herein by reference.
ITEM 6: SELECTED FINANCIAL DATA
The table "Selected Financial Data: 1994-1998" on page 23 hereof is
incorporated in this Item 6 by reference.
21
24
ITEMS 7 AND 7A:
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS; QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
22
25
TABLE 1: SELECTED FINANCIAL DATA: 1994-1998
==================================================================================================================================
YEAR ENDED DECEMBER 31
- ----------------------------------------------------------------------------------------------------------------------------------
1998 1997 1996 1995 1994
- ----------------------------------------------------------------------------------------------------------------------------------
CONDENSED INCOME STATEMENTS (in thousands):
Net interest income, taxable equivalent basis(1) $ 753,160 $ 712,153 $ 637,283 $ 576,510 $ 513,914
Less taxable equivalent adjustment 19,548 12,993 13,312 11,467 10,996
- ----------------------------------------------------------------------------------------------------------------------------------
Net interest income 733,612 699,160 623,971 565,043 502,918
Provision for loan losses(2) 40,933 16,109 6,437 2,861 (13,212)
Noninterest income 477,612 405,633 311,927 209,987 187,996
Noninterest expense 715,113 699,104 597,403 479,479 438,789
Merger and integration charges 121,725 -- -- 7,269 --
- ----------------------------------------------------------------------------------------------------------------------------------
Income before income tax expense 333,453 389,580 332,058 285,421 265,337
Income tax expense 122,091 142,066 117,879 102,639 92,946
- ----------------------------------------------------------------------------------------------------------------------------------
Net income $ 211,362 $ 247,514 $ 214,179 $ 182,782 $ 172,391
==================================================================================================================================
SELECTED PER SHARE DATA:
Net income:
Basic $ 1.88 $ 2.19 $ 1.93 $ 1.70 $ 1.64
Diluted 1.84 2.15 1.91 1.67 1.62
Cash dividends declared and paid .95 .755 .605 .53 .44
Book value (end of year) 15.30 14.65 13.87 12.86 11.35
Market price (end of year) 44.375 49.75 28.81 23.69 13.44
Market/book (end of year) 2.90 x 3.40 x 2.08 x 1.84 x 1.18 x
==================================================================================================================================
AVERAGES (in thousands):
Assets $19,308,928 $17,910,943 $16,596,260 $14,877,319 $13,398,717
Loans, net of unearned discount 11,729,519 11,794,989 10,746,138 9,228,568 7,746,575
Earning assets 17,513,530 16,225,962 15,120,673 13,531,551 12,147,118
Deposits 14,255,892 13,751,103 12,835,783 11,603,925 10,756,831
Long-term debt 826,795 451,118 434,086 292,455 109,031
Shareholders' equity 1,676,118 1,590,246 1,470,889 1,286,123 1,152,531
==================================================================================================================================
END OF PERIOD (in thousands):
Assets $20,731,770 $18,791,326 $17,673,250 $16,527,158 $14,112,231
Loans, net of unearned discount 11,739,688 12,291,490 11,155,918 10,421,140 8,363,052
Earning assets 18,658,658 16,893,930 15,857,117 14,970,874 12,714,565
Deposits 15,270,756 14,153,878 13,540,935 12,842,282 10,929,688
Long-term debt 1,152,939 614,218 440,562 421,791 271,473
Shareholders' equity 1,779,795 1,643,893 1,543,896 1,422,210 1,189,127
==================================================================================================================================
SIGNIFICANT RATIOS:
Return on average assets 1.09% 1.38% 1.29% 1.23% 1.29%
Return on average equity 12.61 15.56 14.56 14.21 14.96
Dividends declared per share to basic net
income per share (dividend payout ratio) 50.53 34.47 31.35 31.18 26.83
Productivity - banking segment(3) 53.44 57.93 58.98 60.87 62.41
Average equity to average assets 8.68 8.88 8.86 8.64 8.60
Average loans to average deposits 82.28 85.77 83.72 79.53 72.02
Average core deposits to average total deposits 88.08 90.10 90.68 90.56 92.71
Allowance to net loans (end of year) 1.68 1.53 1.71 1.89 2.28
Nonperforming assets to loans and foreclosed
properties (end of year)(4) .47 .37 .43 .57 .66
Net interest margin 4.30 4.39 4.21 4.26 4.23
==================================================================================================================================
OTHER STATISTICS:
Average common shares outstanding (in thousands):
Basic 112,517 112,907 110,727 107,781 104,882
Diluted 114,682 115,249 112,286 109,488 106,379
End of period common shares (in thousands) 116,319 112,187 111,289 110,601 104,782
Number of full-time equivalent employees (end of year) 7,195 7,869 7,713 6,985 6,422
Number of banking offices (end of year) 391 371 349 329 301
Number of automatic teller machines (end of year) 699 671 466 375 313
==================================================================================================================================
(1) Adjusted to a taxable equivalent basis based on the statutory federal income
tax rates, adjusted for applicable state income taxes net of the related
federal tax benefit.
(2) Includes an additional loan loss provision for Pioneer of $9.5 million.
(3) Ratio of operating expenses to taxable equivalent net interest income plus
noninterest income excluding operations related to Enterprises, merger and
integration costs, and certain nonrecurring transactions such as asset sales
and regulatory assessments.
(4) Excludes loans 90 days or more past due on accrual.
23
26
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS
- --------------------------------------------------------------------------------
The following pages contain the First American Corporation's ("First
American") management's discussion and analysis of financial condition and
results of operations for 1998, including comparisons with prior years' results
and identification of possible risks and trends. This section should be read in
conjunction with First American's consolidated financial statements and
accompanying notes which begin on page 68.
- ----------
OVERVIEW
- ----------
The selected financial data set forth in Table 1 presents certain
information highlighting the results of operations and financial condition for
First American for each of the last five years. Unless otherwise indicated, all
earnings per share data included in this section and throughout the remainder of
this discussion are presented on a diluted basis.
Net income was $211.4 million, or $1.84 per share, in 1998 compared to
net income of $247.5 million in 1997, or $2.15 per share. The decrease was
primarily due to merger-related charges associated with 1998 acquisitions offset
by increases in noninterest income.
Net income was $214.2 million, or $1.91 per share, in 1996. The 16
percent increase in net income from 1996 to 1997 was primarily attributable to
increases in noninterest income and net interest income offset by increases in
noninterest expense. On a per share basis, net income increased 13 percent in
1997 from the prior year.
During 1998, First American essentially doubled in size as a result
of several strategic mergers. On May 1, 1998, First American consummated its
merger with Deposit Guaranty Corp. ("Deposit Guaranty") by exchanging
approximately 48.7 million shares of First American common stock for all of the
outstanding shares of Deposit Guaranty. Deposit Guaranty was a $7.2 billion
asset financial services holding company headquartered in Jackson, Mississippi,
with banking offices in Mississippi, Louisiana, Arkansas, and Tennessee. The
transaction was accounted for as a pooling of interests, and accordingly, prior
period financial data has been restated to include the results of Deposit
Guaranty. The strategic decision to acquire Deposit Guaranty was based on the
expectation that leveraging the combined strengths of the two companies would
enable First American to reach its financial goals more quickly.
During the fourth quarter of 1998, First American completed the
acquisitions of The Middle Tennessee Bank ("MTB"), Peoples Bank ("Peoples"), CSB
Financial Corporation ("CSB"), and Pioneer Bancshares, Inc. ("Pioneer"), which
added approximately $1.5 billion in assets. All four transactions were accounted
for using the pooling-of-interests method of accounting. Prior period financial
statements have been restated to include the results of Pioneer for all periods
presented. Operations of MTB, Peoples, and CSB have been included in the
consolidated financial statements from the date of acquisition (October 1, 1998,
in all the cases), as preacquisition amounts were not material to the
consolidated financial statements. These four
24
27
in-market business combinations gave First American the leading deposit market
share in Tennessee.
In 1998, First American recognized merger and integration costs of
$121.7 million ($81.2 million after tax) associated with 1998 acquisitions.
First American currently anticipates recording additional merger and integration
costs of approximately $20 million in 1999 relating primarily to systems and
operations conversion costs associated with 1998 acquisitions and 1999 branch
swaps. Refer to Note 3 to the consolidated financial statements for a discussion
of the merger and integration costs.
Acquisitions of nontraditional financial services businesses are an
integral part of First American's strategy of transforming from a bank to a
financial services company. On December 16, 1998, First American, through its
subsidiary IFC Holdings, Inc. ("IFC"), purchased the assets of the Specialized
Investment Division ("SID") of Financial Service Corporation, a subsidiary of
SunAmerica Inc. SID provides investment products to customers of community banks
and credit unions that do not have their own broker/dealer capabilities. This
acquisition added increased distribution capability to IFC along with an
established position in the credit union market, thus allowing First American to
increase its investment in this high-growth industry. The transaction was
accounted for as a purchase business combination.
On October 19, 1998, First American and National Commerce
Bancorporation ("NCBC") announced the signing of agreements to exchange a total
of 14 existing bank branches in Tennessee and Virginia. The branch swaps and
related systems conversions are planned to be completed by mid-1999 and should
enable First American to increase its presence in markets where there is already
a strong client base with above average growth prospects. First American will
have 178 branches in Tennessee upon completion of the swap.
On August 31, 1998, First American completed the sale of Deposit
Guaranty's corporate trust business to The Bank of New York. The transaction
resulted in a gain of $7 million ($4.4 million after tax) and involved the
transfer of approximately 900 bond trustee and agency relationships representing
$8 billion in outstanding securities for municipalities and corporations located
primarily in Mississippi and Louisiana. This transaction followed the sale of
First American's corporate trust business to The Bank of New York on December
22, 1997, which resulted in an initial gain of $2.4 million and consisted of the
transfer of approximately 250 bond trustee and agency relationships representing
$4 billion of outstanding securities.
Additional information is provided in Note 2 to the consolidated
financial statements regarding acquisitions and divestitures.
- -------------------------
BUSINESS SEGMENT RESULTS
- -------------------------
First American is a financial services company that operates in two
business segments, Banking Services and Enterprises, based upon management
responsibility. First American's reportable segments are strategic business
operations that offer different products and services. They are managed
separately based on the fundamental differences in their operations. Note 20 to
the consolidated financial statements provides additional information about
First American's
25
28
business segments and financial data by segment, including reconciling items to
consolidated totals.
BANKING SERVICES
The Banking Services segment includes the traditional banking
components of First American's wholly-owned banking subsidiaries, operating 391
offices and 699 ATMs. The Banking Services segment makes commercial, consumer,
and real estate loans and provides various banking and mortgage-related services
to its customers located within First American's market, which consists
primarily of the Mid-South region of the United States.
During 1998 the Banking Services segment experienced significant growth
as a result of several banking acquisitions. Following these acquisitions, First
American's Banking Services segment ranked first in deposit market share in
Tennessee and second in deposit market share in Mississippi in 1998. See the
"Overview" section for more information about acquisitions.
First American seeks to distinguish this segment from its competition
by offering tailored solutions to clients at a competitive cost using efficient
and effective distribution methods. First American has set high goals and is
steadily striving to maximize the profitability and contribution from its
traditional banking business, while progressing with the transformation from a
bank to a financial services company.
TABLE 2: BANKING SERVICES SEGMENT
=================================================================================================================================
1998 VS. 1997 1997 vs. 1996
----------------- ------------------
(dollars in thousands) 1998 1997 1996 $ CHANGE % $ Change %
- ---------------------------------------------------------------------------------------------------------------------------------
Net interest income $ 729,584 $ 694,719 $ 619,445 $ 34,865 5% $ 75,274 12%
Provision for loan losses (31,387) (16,109) (6,437) 15,278 95 9,672 150
Noninterest income, external customers 262,442 227,804 204,347 34,638 15 23,457 11
Noninterest expense (540,569) (541,921) (493,690) (1,352) -- 48,231 10
Net pretax contribution 420,070 364,493 323,665 55,577 15 40,828 13
Income tax expense (147,744) (131,823) (114,394) 15,921 12 17,429 15
Net income 272,326 232,670 209,271 39,656 17 23,399 11
Average total assets 19,233,992 17,814,152 16,464,518 1,419,840 8 1,349,634 8
Average shareholders' equity 1,622,849 1,517,712 1,420,618 105,137 7 97,094 7
Return on average assets 1.42% 1.31% 1.27%
Return on average equity 16.78 15.33 14.73
Productivity 53.44 57.93 58.98
================================================================================================================================
Net interest income increased in each year, though at a lesser rate
during 1998 due to the interest rate environment and the mix and volume of
earning assets. See "Net Interest Income" for additional discussion. The level
of First American's provision for loan losses, which is completely in the
Banking Services segment, is discussed under the caption, "Allowance and
Provision for Loan Losses." Noninterest income for the Banking Services segment
grew 15 percent during 1998, and 11 percent during 1997, with the largest
contributing factors being service charges on deposit accounts and mortgage
banking income. Noninterest expense was essentially level during 1998 and
increased 10 percent during 1997, with the favorable change related to synergies
in connection with the merger with Deposit Guaranty. See the "Noninterest
Income" and "Noninterest Expense" sections for more discussion of these topics.
Overall, the net pretax contribution for Banking Services increased 15 percent
in 1998 and 13 percent in
26
29
1997, and the Banking Services segment average total assets rose a steady 8
percent during both 1998 and 1997.
ENTERPRISES
The Enterprises segment provides a variety of financial services. Its
main businesses are offered through:
- IFC Holdings, Inc., the largest third-party marketer of investment
and insurance products in the United States,
- ISG, the investment services group of First American National Bank
("FANB"), which offers clients a wide selection of mutual funds,
fiduciary, and investment products, and
- The SSI Group Inc. ("SSI"), a healthcare payments processing
company in which FANB holds a 49 percent interest.
A key element of First American's strategy to transform from a bank to
a financial services company is the focus on increasing fee-for-service
capabilities in the traditional bank. To this end, over 300 employees were
licensed to sell annuities in First American's markets, which have expanded
through acquisitions. Following the merger with Deposit Guaranty in 1998, First
American merged the AmeriStar mutual funds and the DG Investor Series to form 14
individual ISG Funds, with total assets under management of nearly $3 billion.
Just as the Enterprises segment has developed strong investment products through
ISG with proven track records, First American plans to benefit from the sale of
those products in IFC's distribution network of over 400 financial institution
clients in 50 states, the District of Columbia, and Puerto Rico. Beginning in
1999, the ISG Funds family will be added to the product line of IFC and will be
available to all of IFC's clients.
During 1998 IFC Holdings, Inc. also experienced growth. IFC acquired
the assets of the SID of SunAmerica, expanding its distribution capabilities and
gaining an entrance to a new market. In addition, The SSI Group, Inc., acquired
Health Management Technologies, which is a developer and marketer of healthcare
information management software for workers compensation, occupational health,
and managed care organization insurance carriers.
TABLE 3: ENTERPRISES SEGMENT
============================================================================================================================
1998 VS. 1997 1997 vs. 1996
----------------- ------------------
(dollars in thousands) 1998 1997 1996 $ CHANGE % $ Change %
- ----------------------------------------------------------------------------------------------------------------------------
Net interest income $ 4,028 $ 4,441 $ 4,526 $ (413) (9)% $ (85) (2)%
Noninterest income, external customers 208,145 177,829 107,580 30,316 17 70,249 65
Noninterest expense (174,544) (157,183) (95,613) 17,361 11 61,570 64
Net pretax contribution 37,629 25,087 16,493 12,542 50 8,594 52
Income tax expense (15,148) (10,243) (6,636) 4,905 48 3,607 54
Net income 22,481 14,844 9,857 7,637 51 4,987 51
Average total assets 115,633 134,000 144,311 (18,367) (14) (10,311) (7)
Average shareholders' equity 53,269 72,534 50,271 (19,265) (27) 22,263 44
Return on average assets 19.44% 11.08% 6.83%
Return on average equity 42.20 20.46 19.61
Productivity 82.26 86.24 85.29
=============================================================================================================================
27
30
During mid-1996, First American purchased INVEST Financial Corporation,
which is now IFC. The substantial increases in income statement categories in
1997 over 1996 are due to the full-year benefit of IFC in 1997 compared with the
partial-year benefit of IFC in 1996. During 1998 net interest income showed a
small decline, but noninterest income experienced strong growth, reflecting both
First American's strategy of increased fee-for-service capabilities and also its
expanded markets. Noninterest expense showed similar growth due to subscribers'
commissions expense, which is related to the growth in investment services
income. The net pretax contribution from Enterprises increased steadily in 1998,
1997, and 1996 as this segment's value grew and its contribution to First
American's consolidated results increased, due to successful strategies to
increase fee income through nontraditional sources. The Enterprises segment
average total assets decreased 14 percent during 1998 from 1997 and decreased 7
percent during 1997 from 1996, primarily due to exited businesses.
28
31
TABLE 4: CONSOLIDATED AVERAGE BALANCE SHEETS AND TAXABLE EQUIVALENT
INCOME/EXPENSE AND YIELDS/RATES
====================================================================================================================================
1998 1997 1996
------------------------------ ----------------------------- -------------------------
AVERAGE Average Average
AVERAGE INCOME/ YIELD/ Average Income/ Yield/ Average Income/ Yield/
(dollars in millions) BALANCE EXPENSE RATE Balance Expense Rate Balance Expense Rate
- ------------------------------------------------------------------------------------------------------------------------------------
Interest-earning assets:(1)
Taxable securities:
Held to maturity $ 1,198.3 $ 77.9 6.50% $ 889.1 $ 60.1 6.76% $ 1,052.3 $ 70.7 6.72
Available for sale 4,043.8 274.3 6.78 3,060.6 208.9 6.82 2,619.6 171.6 6.55
Tax-exempt securities
Held to maturity 41.9 3.3 7.81 36.4 2.7 7.47 32.2 2.4 7.45
Available for sale 292.6 22.0 7.52 241.9 20.9 8.64 267.8 22.4 8.36
- ------------------------------------------------------------------------------------------------------------------------------------
Total securities 5,576.6 377.5 6.77 4,228.0 292.6 6.92 3,971.9 267.1 6.72
- ------------------------------------------------------------------------------------------------------------------------------------
Federal funds sold and repurchase 127.4 6.6 5.14 117.9 6.6 5.57 333.4 18.0 5.40
agreements
Loans, net of unearned discount
Commercial 4,807.2 402.1 8.37 4,492.6 369.7 8.23 4,015.8 335.1 8.34
Consumer-amortizing mortgages 2,371.1 194.4 8.20 2,906.0 237.1 8.16 2,784.4 220.3 7.91
Consumer-other 2,654.2 238.2 8.98 2,501.3 232.7 9.30 2,247.2 204.2 9.09
Real estate-construction 503.6 41.9 8.32 439.9 36.6 8.31 381.6 31.4 8.23
Real estate-commercial mortgages
and other 1,393.4 121.5 8.72 1,455.2 131.7 9.05 1,317.1 123.2 9.35
- ------------------------------------------------------------------------------------------------------------------------------------
Loans, net of unearned discount 11,729.5 998.1 8.51 11,795.0 1,007.8 8.54 10,746.1 914.2 8.51
- ----------------------------------------------------------------------------------------------------------------------------------
Other 80.0 5.0 6.33 85.1 5.4 6.30 69.3 4.3 6.20
- ------------------------------------------------------------------------------------------------------------------------------------
Total earning assets(1) 17,513.5 $1,387.2 7.92% 16,226.0 $1,312.4 8.09% 15,120.7 $1,203.6 7.96%
- ------------------------------------------------------------------------------------------------------------------------------------
Allowance for loan losses (191.9) (194.5) (197.1)
Cash and due from banks 937.6 888.2 796.1
Other assets 1,049.7 991.2 876.6
- ------------------------------------------------------------------------------------------------------------------------------------
Total assets $19,308.9 $17,910.9 $16,596.3
====================================================================================================================================
Deposits and borrowed funds:
Demand deposits $ 2,750.4 $ 2,577.9 $ 2,338.1
Interest-bearing deposits:
NOW accounts 2,288.2 $ 45.8 2.00% 1,968.0 $ 44.3 2.25% 1,771.7 $ 37.6 2.12%
Money market accounts 2,779.3 110.8 3.99 2,869.5 121.9 4.25 2,670.5 123.0 4.61
Regular savings 955.3 23.0 2.40 989.1 25.2 2.55 998.6 25.3 2.53
Certificates of deposit under
$100,000 3,017.2 157.9 5.23 3,220.0 170.3 5.29 3,102.7 162.8 5.25
Certificates of deposit $100,000
and over 1,542.4 84.8 5.50 1,256.3 68.5 5.45 1,090.4 60.1 5.51
Other time 766.8 41.3 5.39 765.1 42.8 5.59 758.0 43.3 5.71
Foreign 156.3 7.6 4.85 105.2 5.4 5.17 105.8 5.7 5.39
- ------------------------------------------------------------------------------------------------------------------------------------
Total interest-bearing deposits 11,505.5 471.2 4.10 11,173.2 478.4 4.28 10,497.7 457.8 4.36
- ------------------------------------------------------------------------------------------------------------------------------------
Total deposits 14,255.9 13,751.1 12,835.8
- ------------------------------------------------------------------------------------------------------------------------------------
Federal funds purchased and
repurchase agreements 2,007.5 98.6 4.91 1,529.7 75.3 4.92 1,441.6 69.9 4.85
Other short-term borrowings 270.1 15.7 5.81 326.6 18.3 5.61 166.9 9.0 5.39
Long-term debt 826.8 48.6 5.87 451.1 28.2 6.26 434.1 29.6 6.82
- ------------------------------------------------------------------------------------------------------------------------------------
Total interest-bearing deposits
and borrowed funds 14,609.9 $ 634.1 4.34% 13,480.6 $ 600.2 4.45% 12,540.3 $ 566.3 4.52%
- ------------------------------------------------------------------------------------------------------------------------------------
Total deposits and borrowed funds 17,360.3 16,058.5 14,878.4
- ------------------------------------------------------------------------------------------------------------------------------------
Other liabilities 272.5 262.2 247.0
Shareholders' equity 1,676.1 1,590.2 1,470.9
- ------------------------------------------------------------------------------------------------------------------------------------
Total liabilities and shareholders'
equity $19,308.9 $17,910.9 $16,596.3
====================================================================================================================================
Net interest income(1) $ 753.1 $ 712.2 $ 637.3
Provision for loan losses 40.9 16.1 6.4
Noninterest income 477.6 405.6 311.9
Noninterest expense 836.8 699.1 597.4
- ------------------------------------------------------------------------------------------------------------------------------------
Income before income tax expense 353.0 402.6 345.4
Income tax expense 141.6 155.1 131.2
- ------------------------------------------------------------------------------------------------------------------------------------
Net income $ 211.4 $ 247.5 $ 214.2
====================================================================================================================================
Net interest spread 3.58% 3.64% 3.44%
Benefit of interest-free funding .72 .75 .77
- ------------------------------------------------------------------------------------------------------------------------------------
Net interest margin 4.30% 4.39% 4.21%
====================================================================================================================================
(1) Loan fees and amortization of net deferred loan fees (costs), which are
considered an integral part of the lending function and are included in
yields and related interest categories, amounted to $7.7 million in 1998,
$8.3 million in 1997, $9.9 million in 1996, $7.0 million in 1995, and $5.0
million in 1994. Yields/rates and income/expense amounts are presented on a
fully taxable equivalent basis based on the statutory federal income tax
rates, adjusted for applicable state income taxes net of the related
federal tax benefit; related interest income includes taxable equivalent
adjustments of $19.5 million in 1998, $13.0 million in 1997, $13.3 million
in
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====================================================================================================================
1995 1994 AVERAGE BALANCE INCOME/EXPENSE
- ------------------------------ ---------------------------- ------------------------ -----------------------
Average Average COMPOUND COMPOUND
Average Income/ Yield/ Average Income/ Yield/ % CHANGE GROWTH RATE % CHANGE GROWTH RATE
Balance Expense Rate Balance Expense Rate 1998/1997 1998/1993 1998/1997 1998/1993
- --------------------------------------------------------------------------------------------------------------------
$ 2,837.7 $ 191.0 6.73% $ 2,061.6 $ 127.2 6.17% 34.78% (5.90)% 29.62% (6.29)%
954.3 61.4 6.43 1,598.1 89.7 5.61 32.12 10.82 31.31 13.01
129.2 13.2 10.22 210.1 19.1 9.09 15.11 (25.74) 22.22 (28.69)
101.8 7.3 7.17 3.4 .2 5.56 20.96 161.34 5.26 136.08
- --------------------------------------------------------------------------------------------------------------------
4,023.0 272.9 6.78 3,873.2 236.2 6.10 31.90 5.68 29.02 6.56
- --------------------------------------------------------------------------------------------------------------------
211.8 12.5 5.90 364.2 14.8 4.06 8.06 (22.59) -- (14.45)
3,517.7 297.4 8.45 2,929.1 216.4 7.39 7.00 13.89 8.76 18.50
2,327.6 187.2 8.04 1,894.5 147.8 7.80 (18.41) 7.83 (18.01) 7.82
1,920.7 172.3 8.97 1,694.3 141.5 8.35 6.11 11.64 2.36 12.53
292.4 26.2 8.96 210.9 16.2 7.68 14.48 21.60 14.48 23.64
1,170.2 107.9 9.22 1,017.8 83.7 8.22 (4.25) 8.80 (7.74) 10.52
- --------------------------------------------------------------------------------------------------------------------
9,228.6 791.0 8.57 7,746.6 605.6 7.82 (.56) 11.62 (.96) 13.68
- --------------------------------------------------------------------------------------------------------------------
68.2 3.9 5.72 163.1 6.8 4.17 (5.99) (6.62) (7.41) 5.64
- --------------------------------------------------------------------------------------------------------------------
13,531.6 $1,080.3 7.98% 12,147.1 $ 863.4 7.11% 7.93 8.64 5.70% 11.12%
- --------------------------------------------------------------------------------------------------------------------
(194.3) (206.6) (1.34) (5.27)
823.5 829.2 5.56 2.12
716.5 629.1 5.90 11.31
- --------------------------------------------------------------------------------------------------------------------
$14,877.3 $13,398.8 7.81% 8.61%
====================================================================================================================
$ 2,193.8 $ 2,160.3 6.69% 6.22%
1,693.8 $ 37.9 2.24% 1,685.1 $ 33.9 2.01% 16.27 8.40 3.39% 7.30%
2,219.7 96.9 4.37 1,894.9 68.6 3.62 (3.14) 8.87 (9.11) 14.14
1,047.6 28.3 2.70 1,145.5 27.8 2.43 (3.42) (2.63) (8.73) (3.58)
2,667.7 141.3 5.30 2,415.3 99.7 4.13 (6.30) 4.45 (7.28) 8.98
1,004.2 54.5 5.43 743.7 30.4 4.09 22.77 15.25 23.80 23.77
685.7 39.4 5.75 671.0 34.6 5.16 .22 1.90 (3.50) 1.00
91.4 5.3 5.80 41.0 1.7 4.15 48.57 43.37 40.74 61.12
- --------------------------------------------------------------------------------------------------------------------
9,410.1 403.6 4.29 8,596.5 296.7 3.45 2.97 6.63 (1.51) 10.28
- --------------------------------------------------------------------------------------------------------------------
11,603.9 10,756.8 3.67 6.55
- --------------------------------------------------------------------------------------------------------------------
1,367.6 73.2 5.35 1,121.9 41.6 3.71 31.23 12.33 30.94 26.70
115.8 7.0 6.04 87.7 4.1 4.68 (17.30) 37.73 (14.21) 55.99
292.5 20.0 6.81 109.0 7.1 6.51 83.29 68.93 72.34 62.42
- --------------------------------------------------------------------------------------------------------------------
11,186.0 $ 503.8 4.50% 9,915.1 $ 349.5 3.52% 8.38 8.80 5.65% 14.30%
- --------------------------------------------------------------------------------------------------------------------
13,379.8 12,075.4 8.11 8.36
- --------------------------------------------------------------------------------------------------------------------
211.4 170.9 3.93 10.37
1,286.1 1,152.5 5.40 11.00
- --------------------------------------------------------------------------------------------------------------------
$14,877.3 $13,398.8 7.81% 8.61%
====================================================================================================================
$ 576.5 $ 513.9 5.74% 8.82%
2.9 (13.2) 154.04 N/A
210.0 188.0 17.75 22.53
486.7 438.8 19.70 13.79
- --------------------------------------------------------------------------------------------------------------------
296.9 276.3 (12.32) 4.42
114.1 103.9 (8.70) 6.66
- --------------------------------------------------------------------------------------------------------------------
$ 182.8 $ 172.4 (14.59)% 2.93%
====================================================================================================================
3.48% 3.59%
.78 .64
- --------------------------------------------------------------------------------------------------------------------
4.26% 4.23%
====================================================================================================================
1996, $11.5 million in 1995, and $11.0 million in 1994. Nonaccrual and
restructured loans are included in average loans and average earning assets.
Consequently, yields on these items are lower than they would have been if these
loans had earned at their contractual rates of interest. Yields on all
securities are computed based on carrying value.
30
33
- ---------------------------
INCOME STATEMENT ANALYSIS
- ---------------------------
NET INTEREST INCOME (TEB)
Net interest income represented 61 percent of total revenues in 1998
versus 64 percent in 1997 and 67 percent in 1996. The decline in the ratio of
net interest income to total revenues is consistent with management's focus on
increasing fee income in order to diversify revenue production and is in line
with First American's continuing transformation to a financial services company.
Net interest income increased $40.9 million, or 6 percent, to $753.1 million in
1998. As shown in Table 5, the increase resulted primarily from an increase in
the volume of earning assets offset by rate-related decreases. Average earning
assets increased 8 percent in 1998 over 1997.
TABLE 5: RATE-VOLUME RECAP
==================================================================================================================
1998 FROM 1997 1997 from 1996
----------------------------- -------------------------------
TOTAL INCREASE (DECREASE)(1) Total Increase (Decrease)(1)
INCREASE DUE TO Increase Due to
--------------------- ----------------------
(in millions) (DECREASE) VOLUME RATE (Decrease) Volume Rate
- -----------------------------------------------------------------------------------------------------------------------
CHANGE IN INTEREST INCOME:
Securities:
Taxable
Held to maturity $ 17.8 $ 20.9 $ (3.1) $ (10.6) $ (11.0) $ .4
Available for sale 65.4 67.1 (1.7) 37.3 28.9 8.4
Tax-exempt
Held to maturity .6 .4 .2 .3 .3 --
Available for sale 1.1 4.4 (3.3) (1.5) (2.2) .7
------- --------
Total securities 84.9 93.3 (8.4) 25.5 17.2 8.3
------- --------
Loans (9.7) (5.6) (4.1) 93.6 89.2 4.4
Federal funds sold and securities purchased
under agreements to resell -- .5 (.5) (11.4) (11.6) .2
Other (.4) (.3) (.1) 1.1 1.0 .1
------- --------
Total change in interest income 74.8 104.1 (29.3) 108.8 88.0 20.8
------- --------
CHANGE IN INTEREST EXPENSE:
NOW, money market, and savings accounts (11.8) 6.4 (18.2) 5.5 13.2 (7.7)
Certificates of deposit 3.9 4.4 (.5) 15.9 15.1 .8
Other interest-bearing deposits .7 2.9 (2.2) (.8) .4 (1.2)
Short-term borrowings 20.7 21.2 (.5) 14.7 12.2 2.5
Long-term debt 20.4 23.5 (3.1) (1.4) 1.2 (2.6)
------- --------
Total change in interest expense 33.9 50.3 (16.4) 33.9 42.5 (8.6)
------- --------
CHANGE IN NET INTEREST INCOME $ 40.9 53.8 (12.9) $ 74.9 45.5 29.4
==================================================================================================================
(1) Amounts are adjusted to a fully taxable basis, based on the statutory
federal income tax rates, adjusted for applicable state income taxes net of
the related federal tax benefit. The effect of volume change is computed by
multiplying the change in volume by the prior year rate. The effect of rate
change is computed by multiplying the change in rate by the prior year
volume. Rate/volume change is computed by multiplying the change in volume
by the change in rate and included in the rate change.
The net interest spread declined 6 basis points to 3.58 percent in 1998
as yields on earning assets decreased more than rates paid on interest-bearing
liabilities. Table 4 shows yields and rates on earning assets and
interest-bearing liabilities.
The 17 point decrease in the yield on earning assets was essentially
due to decreases in yields on investment securities and to the relative size of
the investment securities portfolio as a percentage of total average earning
assets in 1998 as compared to 1997 as shown in Table 6.
31
34
TABLE 6: MIX OF AVERAGE EARNING ASSETS
================================================================================
1998 1997 1996
- --------------------------------------------------------------------------------
Investment securities 32% 26% 26%
Loans 67 73 71
Other short-term investments 1 1 3
- --------------------------------------------------------------------------------
Total average earning assets 100% 100% 100%
================================================================================
A contributing factor to the increased relative size of the securities portfolio
was the securitization of $1.21 billion of mortgage loans and subsequent
contribution to a real estate investment trust established by First American.
The average yield on investment securities was 15 basis points lower in 1998
compared to 1997. The interest rate environment impacts the rates that First
American earns on investment securities, charges for loans, and pays on
interest-bearing liabilities. For example, the prime rate averaged 8.35 percent
during 1998 versus 8.44 percent during 1997 and the 5-year U.S. Treasury bill
yield averaged 5.15 percent in 1998 compared to 6.22 percent in 1997. As general
market interest rates declined in 1998, mortgage prepayments increased since
mortgage borrowers could refinance at lower rates. This resulted in a decrease
in the average yield on the investment securities portfolio as lower yielding
securities replaced higher yielding mortgage-backed securities. Also
contributing to the lower yield on the investment securities portfolio was the
increase in the average volume of investment securities during the lower
interest rate environment in 1998. The yield on loans was relatively unchanged
in 1998 compared to 1997.
Deposit pricing actions, which were primarily related to the decline in
general market rates, resulted in an 18 basis point decrease in the average rate
paid on interest-bearing deposits. Such actions contributed to the 11 basis
point decrease in the average rate paid on interest-bearing liabilities. A
partial offset to deposit pricing actions was an increase in the average rate
paid on noncore sources of funds and a funding mix change to include more
noncore funds as reflected in Table 11.
The 9 basis point decrease in the net interest margin to 4.30 percent
in 1998 was due primarily to the decline in the net interest spread and a
slightly lower contribution from the benefit of noninterest-bearing deposits.
The decline in general market rates during 1998, which resulted in accelerated
loan prepayments and refinancings at lower rates and lower reinvestment rates
for investment securities, contributed to the decline in the net interest spread
and the corresponding decrease in the net interest margin. First American
responded to this trend by lowering rates on deposits and strategically
increasing the investment securities portfolio.
Net interest income increased $74.9 million, or 12 percent, in 1997
from $637.3 million in 1996. The increase in net interest income during 1997
resulted primarily from an increase in the volume of earning assets (mainly
loans) over interest-bearing liabilities and an improvement in the net interest
spread. Changes attributable to volume and rate are shown in Table 5. The net
interest spread improved 20 basis points during 1997 as average yields on
earning assets increased while the average rates paid on interest-bearing
liabilities decreased. The 18 basis point increase in the net interest margin
between 1997 and 1996 was primarily due to a better earning asset mix, pricing
actions on loans and deposits, and a decrease in hedging expense.
32
35
PROVISION FOR LOAN LOSSES
This topic is addressed under the caption, "Allowance and Provision for
Loan Losses."
NONINTEREST INCOME
Noninterest income is a growing component of First American's total
revenues. Noninterest income represented 39 percent of total revenues during
1998 compared with 36 percent in 1997 and 33 percent in 1996. Noninterest income
totaled $477.6 million in 1998, up $72 million, or 18 percent, from the prior
year. Noninterest income, excluding the 1998 gain on the sale of a corporate
trust business of $7 million, was up 16 percent in 1998 from the prior year.
All major categories of noninterest income experienced growth in 1998
over 1997. As shown in Table 7, increases from the prior year came principally
from investment services income, service charges on deposit accounts, and
mortgage banking. These increases resulted from First American's continued
emphasis on increasing and diversifying sources of noninterest income, improving
the pricing of fee-based services, and the growing impact of mortgage banking
activities.
TABLE 7: NONINTEREST INCOME
========================================================================================================================
1998 VS. 1997 1997 vs. 1996
----------------------------- ---------------- -----------------
(dollars in thousands) 1998 1997 1996 $ CHANGE % $ Change %
- ------------------------------------------------------------------------------------------------------------------------
Noninterest income:
Investment services income $151,027 $124,003 $ 68,820 $27,024 22% $55,183 80%
Service charges on deposit accounts 131,926 118,113 97,189 13,813 12 20,924 22
Commissions and fees on fiduciary activities 42,979 40,412 35,875 2,567 6 4,537 13
Mortgage banking 48,265 36,787 29,488 11,478 31 7,299 25
Merchant discount fees 4,027 3,766 4,602 261 7 (836) (18)
Net realized gain on sale of securities 7,999 4,528 2,882 3,471 77 1,646 57
Trading account revenue 7,250 4,414 6,939 2,836 64 (2,525) 36
Other:
Open-end credit fees 12,228 9,716 7,950 2,512 26 1,766 22
Other service fees 12,243 10,600 6,576 1,643 16 4,024 61
Collection, exchange and related bank fees 11,117 10,767 9,148 350 3 1,619 18
Insurance and acceptance commissions 5,707 6,265 6,614 (558) (9) (349) (5)
Fees and service charges on letters of credit 5,183 5,734 4,834 (551) (10) 900 19
Gain on sale of corporate trust business 7,025 2,387 -- 4,638 194 2,387 100
Gain on sale of HONORS Technologies, Inc. stock -- 1,960 -- (1,960) (100) 1,960 100
Gain on sale of branches 2,681 -- -- 2,681 100 -- --
Gain on sale of subsidiaries 73 2,105 -- (2,032) (97) 2,105 100
Loss on sale of First Mortgage Corp.'s assets (2,385) -- -- (2,385) (100) -- --
Miscellaneous 30,267 24,076 31,010 6,191 26 (6,934) (22)
- ------------------------------------------------------------------------------------------------------------------------
Total other income 84,139 73,610 66,132 10,529 14 7,478 11
- ------------------------------------------------------------------------------------------------------------------------
Total noninterest income $477,612 $405,633 $311,927 $71,979 18% $93,706 30%
========================================================================================================================
In 1998, the largest contribution to the increase in First American's
noninterest income came from Enterprises. Investment services income increased
$27 million, or 22 percent, in 1998 over the prior year and comprised 38 percent
of the increase in noninterest income between 1998 and 1997. The increase in
investment services income was primarily attributable to retail brokerage
commissions of IFC. Growth in investment services income is an indicator of how
33
36
First American is succeeding in implementing its strategy of transforming from a
bank to a financial services company.
Other increases from 1997 to 1998 in other categories of noninterest
income were:
- Service charges on deposit accounts. The increase reflected fee
increases and product changes in conjunction with the utilization
of a customer information system called VISION. Overdraft charges
and commercial analysis fees made up most of the increase.
- Mortgage banking income. The substantial increase in mortgage
banking income was due to a larger volume of mortgage loans
processed and to an increase in net gains on the sale of mortgage
warehouse loans in the secondary market.
- Other. As First American took steps to target profitable customer
segments and take advantage of business opportunities, decisions
were made to sell:
- corporate trust businesses
- three branches with assets of $16 million in Virginia
- $3.5 million of assets of First Mortgage Corp. headquartered in
Nebraska
- McAfee Mortgage, a $22.8 million asset mortgage banking subsidiary
in Texas
- a consumer finance subsidiary with $11.9 million of assets
acquired with the purchase of First City Bancorp, Inc.
- a $.1 million equity ownership in a bank-card network company
called HONORS Technologies, Inc.
Details of the gains or losses associated with these divestitures are presented
in Table 7. Also contributing to increases in other income were interchange fees
generated by the "Check Card" product, which pushed up open-end credit fees.
Other service fees were up due to ATM surcharge fees.
Noninterest income increased $93.7 million, or 30 percent, in 1997 over
1996. Noninterest income for 1997 included a full year of IFC's noninterest
income, whereas 1996 included IFC's income from its date of acquisition of July
1, 1996. Growth in investment services income comprised 59 percent of the
increase in noninterest income between 1997 and 1996 and was primarily due to
the activities of IFC. In addition to growth in investment services income,
service charges on deposit accounts and mortgage banking income were primary
contributors to the increase in noninterest income in 1997 over 1996.
NONINTEREST EXPENSE
Noninterest expense, as shown in Table 8, totaled $836.8 million in
1998 compared with $699.1 million for 1997. The 1998 amount included
nonrecurring charges of $121.7 million recorded in connection with the
integration of the 1998 acquisitions into First American. Excluding merger and
integration costs, noninterest expense increased $16 million, or 2 percent. The
modest increase in noninterest expense demonstrates First American's success in
lowering the costs of distribution and the effect of cost savings related to the
merger with Deposit Guaranty.
34
37
TABLE 8: NONINTEREST EXPENSE
==================================================================================================================
1998 VS. 1997 1997 vs. 1996
---------------------------- ----------------- ---------------
(dollars in thousands) 1998 1997 1996 $ CHANGE % $ Change %
- ------------------------------------------------------------------------------------------------------------------
Noninterest expense:
Salaries and employee benefits $342,927 $346,024 $310,985 $ (3,097) (1)% $ 35,039 11%
Subscribers' commissions 89,918 70,785 35,075 19,133 27 35,710 102
Net occupancy 52,769 50,276 44,135 2,493 5 6,141 14
Equipment 48,896 45,563 38,333 3,333 7 7,230 19
Systems and processing 15,461 15,662 14,755 (201) (1) 907 6
Communication 30,450 27,194 21,804 3,256 12 5,390 25
Marketing 20,742 22,129 21,334 (1,387) (6) 795 4
Supplies 12,411 15,523 13,073 (3,112) (20) 2,450 19
Goodwill amortization 17,410 16,815 12,429 595 4 4,386 35
FDIC insurance 2,188 1,798 10,488 390 22 (8,690) (83)
Other:
Software 12,419 11,120 9,169 1,299 12 1,951 21
Loan/credit 10,682 10,499 10,173 183 2 326 3
Amortization of mortgage servicing rights 9,569 7,079 3,753 2,490 35 3,326 89
Noninterest deposit 9,446 8,620 8,260 826 10 360 4
Other real estate income (6,175) (3,598) (5,015) (2,577) (72) 1,417 28
Miscellaneous 46,000 53,615 48,652 (7,615) (14) 4,963 10
- ------------------------------------------------------------------------------------------------------------------
Total other expense 81,941 87,335 74,992 (5,394) (6) 12,343 16
- ------------------------------------------------------------------------------------------------------------------
Subtotal noninterest expense 715,113 699,104 597,403 16,009 2 101,701 17
Merger and integration costs 121,725 -- -- 121,725 100 -- --
- ------------------------------------------------------------------------------------------------------------------
Total noninterest expense $836,838 $699,104 $597,403 $137,734 20% $101,701 17%
==================================================================================================================
In 1998 the largest increase in noninterest expense, exclusive of the
merger and integration costs, came from IFC's subscribers' commissions.
Subscribers' commissions were up $19.1 million in 1998, or 27 percent, over the
prior year. The increase in subscribers' commissions is directly related to the
increase in IFC's brokerage activities which resulted in the $27 million
increase in investment services income during 1998.
Other significant changes in noninterest expense from 1998 to 1997
were:
- Salaries and employee benefits. The $3.1 million decrease in
salaries and employee benefits was attributable to synergies
achieved in connection with the merger with Deposit Guaranty. The
number of employees was down 9 percent at December 31, 1998 from
one year ago.
- Equipment. Equipment expense was up $3.3 million, or 7 percent,
due to increased rental of personal computers and to the expansion
of branch teller automation equipment.
- Communication. The 12 percent increase resulted from higher
expenditures for network telecommunications and courier services.
- Supplies. The 20 percent decrease in supplies expense reflected
(a) the effect of higher expenditures in 1997 related to purchase
acquisitions and (b) a reduction in 1998 expenditures associated
with operations after the merger with Deposit Guaranty.
- Other. Other expense includes software expense, loan/credit
expense, amortization of mortgage servicing rights, noninterest
deposit expense, other real estate income,
35
38
and many smaller categories, such as legal fees, directors' fees,
contributions, and travel and entertainment expenses. The $5.4
million, or 6 percent, decrease in other expenses was primarily
due to the effect of synergies achieved in connection with the
Deposit Guaranty merger and $6.2 million net gains realized on
sales of foreclosed properties. Amortization of mortgage servicing
rights was up $2.5 million, or 35 percent, due to an increase in
the portfolio of servicing rights.
A key measure of operating efficiency is the productivity ratio, which
is the ratio of noninterest expenses to taxable equivalent net interest income
plus noninterest income. As shown in Table 1, First American's productivity
ratio has been improving over the past few years. The productivity ratio was
58.98 percent in 1996. The productivity ratio improved from 57.93 percent in
1997 to 53.44 percent in 1998. The improvement in the productivity ratio was the
result of improved expense control and the effect of cost savings achieved in
connection with the Deposit Guaranty merger.
During 1997 noninterest expense increased $101.7 million, or 17
percent, from 1996. A primary reason for the increase was that in 1997 a full
year of IFC's expenses were included, whereas in 1996, IFC's expenses for only
six months from its date of acquisition of July 1, 1996, were included. Of the
$101.7 million increase, $52.4 million was attributable to IFC. Most of the
increase from IFC was due to increases in subscribers' commissions ($35.7
million), salaries and employee benefits ($7.6 million), and general and
administrative expenses ($7.4 million). Excluding IFC, noninterest expense
increased 8 percent in 1997 over 1996. The 1996 results include a $8.1 million
one-time SAIF assessment. Excluding IFC and the one-time SAIF assessment,
noninterest expense increased $57.6 million, or 10 percent. This increase was
primarily attributable to the effects of bank acquisitions in 1997 and 1996. In
addition to increases resulting from acquisitions, salaries and employee
benefits, equipment, and net occupancy expenses were up in 1997 from 1996.
Salaries and employee benefits expense increased due to merit adjustments,
incentive programs, related payroll taxes, and the increased cost of medical
benefits. Equipment expense and net occupancy expense were up due to steps taken
by First American to improve operations and banking facilities.
INCOME TAXES
Income tax expense in 1998 was $122.1 million, which resulted in an
effective tax rate of 36.6 percent of pretax income versus $142.1 million, or
36.5 percent of pretax income, for 1997. The increase in the effective tax rate
for 1998 was attributable to nondeductible acquisition expenses offset by a
lower overall effective state income tax rate due to the realignment of certain
corporate entities. Income tax expense for 1996 was $117.9 million, or 35.5
percent, of pretax income. The increase in the tax rate for 1997 versus 1996 was
attributable to an increase in nondeductible goodwill. For additional
information on income taxes of First American, see Note 12 to the consolidated
financial statements.
36
39
- ------------------------
BALANCE SHEET ANALYSIS
- ------------------------
LOAN PORTFOLIO
Loans comprise the largest component of First American's earning
assets. Average loans were $11.73 billion in 1998 compared to $11.80 billion in
1997, a decrease of .6 percent. During 1998 First American securitized
approximately $1.21 billion of mortgage loans and contributed them to a real
estate investment trust established by First American. Excluding the effect of
securitizations, loan sales, loan purchases, divestitures, and business
combinations except Deposit Guaranty and Pioneer, average loans increased $390.2
million, or 3 percent, in 1998 from 1997. Total average loans exclusive of
consumer-amortizing mortgages increased $469.4 million, or 5 percent, in 1998
over 1997.
Loan growth in 1998 was primarily due to growth in commercial loans.
Commercial loans are loans that are made for business purposes and consist
primarily of single payment loans and loans secured by real estate. As shown in
Table 9, commercial loans are the largest category of loans and have been
growing as a percentage of the total loan portfolio. Commercial loans were 41
percent of the portfolio in 1998 compared to 38 percent in 1997. Average
commercial loans increased $314.6 million, or 7 percent, in 1998 from 1997. The
increase in commercial loans occurred throughout the major industry groups and
markets served by First American.
TABLE 9: AVERAGE LOANS
==========================================================================================================================
1998 1997 1996 1998 VS. 1997 1997 vs. 1996
--------------- -------------- -------------- ------------- ---------------
(dollars in millions) AMOUNT % Amount % Amount % AMOUNT % Amount %
- --------------------------------------------------------------------------------------------------------------------------
Commercial $ 4,807.2 41% $ 4,492.6 38% $ 4,015.8 37% $ 314.6 7% $ 476.8 12%
Consumer - amortizing mortgages 2,371.1 20 2,906.0 25 2,784.4 26 (534.9) (18) 121.6 4
Consumer - other 2,654.2 23 2,501.3 21 2,247.2 21 152.9 6 254.1 11
Real estate - construction 503.6 4 439.9 4 381.6 4 63.7 14 58.3 15
Real estate - commercial
mortgages and other 1,393.4 12 1,455.2 12 1,317.1 12 (61.8) (4) 138.1 10
- --------------------------------------------------------------------------------------------------------------------------
Total $11,729.5 100% $11,795.0 100% $10,746.1 100% $ (65.5) (1)% $1,048.9 10%
==========================================================================================================================
During 1998, First American continued to maintain a leadership position
in the state of Tennessee in small business (revenues under $10 million) and
middle market lending (revenues of $10 million to $100 million). First American
increased its market effectiveness in middle market lending in Tennessee in
1998, as evidenced by increases in First American's percentage of lead
relationships in middle market lending; in addition, First American had the
largest percentage of lead relationships in Tennessee in middle market lending
in 1998.
Average consumer-amortizing mortgages decreased $534.9 million, or 18
percent, in 1998 compared to 1997, which was essentially due to the
securitization of $1.21 billion of 1-4 family mortgage loans. The decline in
average consumer-amortizing mortgages, due to securitizations, was consistent
with First American's plan to manage the balance sheet. Excluding the 1998
securitizations, average consumer-amortizing mortgages increased 5 percent.
37
40
The increase in average consumer-other loans of $152.9 million, or 6
percent, was primarily attributable to the purchase of $200 million of loans on
June 30, 1997, with recourse, from a wholly-owned corporate agency and
instrumentality of the United States Government.
First American did not experience any problems in 1998 related to
foreign markets due to limited foreign exposure. First American is monitoring
the turbulence in foreign markets (particularly Asia, Latin America, and
Russia), limiting direct exposure, and continually evaluating indirect exposure.
Substantially all exposure to Asian-related companies is in the form of credit
facilities extended to United States-based affiliates of Asian companies. All of
these affiliates generate a majority of their revenues from the United States
marketplace. At December 31, 1998, total committed exposure to Asian affiliates
was $77 million, which was primarily comprised of short-term working capital
lines of credit. Under these committed credit facilities, First American had
total outstandings of $17.4 million. First American's total Asian exposure,
which includes committed credit facilities, uncommitted credit facilities,
foreign exchange internal credit limits, and automated clearing house internal
credit limits, was $105.2 million at December 31, 1998. First American had no
direct exposure related to Latin American or Russian companies.
To facilitate the foreign trade needs of our customers, First American
maintains relationships with a number of foreign banks. As of December 31, 1998,
approved exposure limits to Asian banks amounted to $4.9 million. As of December
31, 1998, $.3 million was funded and committed under the internally set limits.
The total approved exposure limit to Latin American banks, which was $.4 million
during 1998, expired on December 31, 1998. As of December 31, 1998, First
American had no commitments to Latin American or Russian banks.
Table 22 presents end of period loan balances by category for the past
five years.
INVESTMENT SECURITIES PORTFOLIO
At December 31, 1998, First American's investment securities portfolio
totaled $6.2 billion, consisting of $4.5 billion of securities available for
sale and $1.7 billion of securities classified as held to maturity. This
compares with a total portfolio at year-end 1997 of $4.3 billion, comprised of
$3.5 billion of available for sale securities and $.8 billion of held to
maturity securities. The composition of the two securities portfolios by type of
security, as of each of these dates, is presented in Note 5 to the consolidated
financial statements. In addition, Table 10 presents certain information
pertaining to the composition, yields, and maturities of the available for sale
and held to maturity portfolios at December 31, 1998.
First American's securities portfolio is the second largest component
of First American's earning assets, representing 32 percent of average earning
assets in 1998. As an integral component of asset/liability strategy, First
American manages the investment securities portfolio to maintain liquidity,
balance interest rate risk, and augment interest income. The portfolio is also
used to meet pledging requirements for deposits and borrowings.
38
41
TABLE 10: SECURITY PORTFOLIO ANALYSIS
====================================================================================================================================
ESTIMATED MATURITY AT DECEMBER 31, 1998
-----------------------------------------------------------------------------------------------------
TOTAL FAIR AVERAGE
WITHIN 1 YEAR 1-5 YEARS 5-10 YEARS AFTER 10 YEARS AMORTIZED COST VALUE MATURITY
-----------------------------------------------------------------------------------------------------
(dollars in millions) AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD AMOUNT YEARS
- ------------------------------------------------------------------------------------------------------------------------------------
SECURITIES HELD TO MATURITY:(1)
U.S. Treasury $ 5.9 5.30% $ 4.6 6.04% $ .9 5.81% $ -- -- % $ 11.4 5.64% $ 11.4 1.5
U.S. Gov. agencies and
corporations:
Mortgage-backed 65.3 6.58 443.9 6.30 65.9 6.13 1.2 6.45 576.3 6.31 579.6 3.5
Other 44.7 5.35 -- -- -- -- .7 6.88 45.4 5.38 45.6 .3
Obligations of states and
political subdivisions(2) 2.2 7.17 50.7 5.40 12.5 7.86 25.7 7.77 91.1 6.45 95.5 7.6
Other debt securities:
Mortgage-backed 4.6 5.02 363.2 6.98 577.3 6.75 -- -- 945.1 6.83 944.3 5.0
Other .2 10.37 .3 7.17 60.7 5.01 -- -- 61.2 5.04 63.5 5.4
- ----------------------------------------------------------------------------------------------------------------------------------
Total debt securities
held to maturity $122.9 6.03% $ 862.7 6.53% $ 717.3 6.56% $ 27.6 7.69% $1,730.5(3) 6.53% $1,739.9 4.5
==================================================================================================================================
SECURITIES AVAILABLE FOR
SALE:(1)
U.S. Treasury $ 17.5 6.22% $ 45.9 4.55% $ -- -- % $ -- -- % $ 63.4 5.01% $ 63.1 2.6
U.S. Gov. agencies and
corporations:
Mortgage-backed 254.3 6.63 2,425.1 6.60 210.2 6.99 23.2 6.16 2,912.8 6.63 2,904.8 3.2
Other 38.5 5.87 59.8 6.02 114.8 6.31 76.2 7.21 289.3 6.43 287.9 9.4
Obligations of states and
political subdivisions(2) 12.0 8.27 35.9 7.46 68.4 8.04 258.8 6.98 375.1 7.26 379.3 11.9
Other debt securities:
Mortgage-backed 270.0 6.36 307.6 6.53 56.4 6.41 99.0 6.64 733.0 6.47 728.6 4.5
Other .5 6.68 5.8 6.14 -- -- 12.8 5.32 19.1 5.60 18.7 13.6
- ----------------------------------------------------------------------------------------------------------------------------------
Total debt securities
available for sale $592.8 6.48% $2,880.1 6.55% $ 449.8 6.90% $470.0 6.86% 4,392.7 6.61% 4,382.4 4.6
================================================================================================ ======= ====
Total equity securities 113.0 112.8
-------- ---------
Total securities available
for sale $4,505.7 $4,495.2(3)
======== ========
TOTAL SECURITIES:
Total debt securities $715.7 6.56% $3,742.8 6.55% $1,167.1 6.69% $497.6 6.91% $6,123.2 6.59% $6,122.3 4.6
================================================================================================ ====== ====
Total equity securities 113.0 112.8
-------- --------
Total securities $6,236.2 $6,235.1
=================================================================================================================================
(1) Yields on all securities were computed based on carrying value.
(2) Yields presented on a taxable equivalent basis, based on the statutory
federal income tax rate, adjusted for applicable state income taxes net
of the related federal tax benefit.
(3) Securities held to maturity were reported on the consolidated balance
sheet at amortized cost and securities available for sale were reported
on the consolidated balance sheet at fair value for a combined carrying
value of $6,226 million.
At year-end 1998, First American had $3.63 billion invested in
mortgage-backed securities within the available for sale portfolio, representing
81 percent of the total. First American's held to maturity portfolio held $1.52
billion of mortgage-backed securities, or 88 percent of its total. First
American also held a high percentage of mortgage-backed securities within its
total security portfolio one year earlier. Substantially all of the
mortgage-backed securities held at December 31, 1998 and 1997, were issued or
guaranteed by federal agencies, and as such, management considers these
investments to be sound and well-suited to First American's objectives.
Mortgage-backed security holdings at December 31, 1998, included $113.3 million
floating rate mortgage-backed securities, of which $14.2 million were classified
as available for sale and $99.1 million were classified as held to maturity.
39
42
At December 31, 1998, over 99.9 percent of First American's debt
securities were investment grade, with the remaining unrated. Of the securities
which are rated, none are below investment grade (BBB).
DEPOSITS AND OTHER SOURCES OF FUNDS
Table 11 provides information on deposits and other sources of funds.
Core deposits are First American's primary source of funding and consist of
total deposits less certificates of deposit $100,000 and over and foreign
deposits. Core deposits increased 1 percent in 1998 from the prior year and
averaged $12.6 billion in 1998 compared to $12.4 billion in 1997. The increase
in average core deposits reflected increases in NOW accounts and demand deposit
accounts offset by decreases in certificates of deposit under $100,000 and money
market accounts. The 1998 acquisitions contributed to the increase in core
deposits.
TABLE 11: AVERAGE DEPOSITS AND OTHER SOURCES OF FUNDS
==================================================================================================================================
1998 1997 1996 1998 VS. 1997 1997 vs. 1996
--------------- ---------------- ---------------- ---------------- ----------------
(dollars in millions) AMOUNT % Amount % Amount % $ CHANGE % $ Change %
- ----------------------------------------------------------------------------------------------------------------------------------
Demand deposits (noninterest bearing) $ 2,750.4 16% $ 2,577.9 16% $ 2,338.1 16% $ 172.5 7% $ 239.8 10%
NOW accounts 2,288.2 13 1,968.0 12 1,771.7 12 320.2 16 196.3 11
Money market accounts 2,779.3 16 2,869.5 18 2,670.5 18 (90.2) (3) 199.0 7
Regular savings 955.3 6 989.1 6 998.6 7 (33.8) (3) (9.5) (1)
Certificates of deposit under $100,000 3,017.2 17 3,220.0 20 3,102.7 20 (202.8) (6) 117.3 4
Other time deposits 766.8 4 765.1 5 758.0 5 1.7 -- 7.1 1
- ----------------------------------------------------------------------------------------------------------------------------------
Total core deposits 12,557.2 72 12,389.6 77 11,639.6 78 167.6 1 750.0 6
- ----------------------------------------------------------------------------------------------------------------------------------
Certificates of deposit $100,000 and
over 1,542.4 9 1,256.3 8 1,090.4 7 286.1 23 165.9 15
Foreign 156.3 1 105.2 1 105.8 1 51.1 49 (.6) (1)
- ----------------------------------------------------------------------------------------------------------------------------------
Total deposits 14,255.9 82 13,751.1 86 12,835.8 86 504.8 4 915.3 7
- ----------------------------------------------------------------------------------------------------------------------------------
Short-term borrowings:
Federal funds purchased and
repurchase agreements 2,007.5 12 1,529.7 9 1,441.6 10 477.8 31 88.1 6
FHLB advances 179.9 1 206.7 1 68.1 -- (26.8) (13) 138.6 204
Other 90.2 -- 119.9 1 98.8 1 (29.7) (25) 21.1 21
- ----------------------------------------------------------------------------------------------------------------------------------
Total short-term borrowings 2,277.6 13 1,856.3 11 1,608.5 11 421.3 23 247.8 15
- ----------------------------------------------------------------------------------------------------------------------------------
Long-term debt:
Subordinated and senior notes 200.8 1 199.8 1 167.2 1 1.0 1 32.6 19
FHLB advances 625.3 4 250.0 2 264.7 2 375.3 150 (14.7) (6)
Other .7 -- 1.3 -- 2.2 -- (.6) (46) (.9) (41)
- ----------------------------------------------------------------------------------------------------------------------------------
Total long-term debt 826.8 5 451.1 3 434.1 3 375.7 83 17.0 4
- ----------------------------------------------------------------------------------------------------------------------------------
Total $17,360.3 100% $16,058.5 100% $14,878.4 100% $1,301.8 8% $1,180.1 8%
==================================================================================================================================
Core deposits as a percent of
earning assets 71.70% 76.36% 76.98%
=================================================================================================================================
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The mix of average core deposits shifted slightly in 1998 compared to
1997 as shown in Table 12.
TABLE 12: MIX OF AVERAGE CORE DEPOSITS
==================================================================================
1998 1997 1996
- ----------------------------------------------------------------------------------
Demand deposits (noninterest-bearing) 22% 21% 20%
NOW accounts 18 16 15
Money market accounts 22 23 23
Regular savings 8 8 9
Certificates of deposit under $100,000 24 26 27
Other time deposits 6 6 6
- ----------------------------------------------------------------------------------
Total average core deposits 100% 100% 100%
==================================================================================
The change in the mix of average core deposits was attributable to a
proactive deposit strategy aimed at providing more competitive flexible products
for customers and improving profitability. During 1998 First American introduced
the "Tailored Money Sweep" account, an interest-bearing checking account that
provides for unlimited checking privileges while allowing for money market
returns. Increases in NOW accounts and decreases in money market accounts were
partially attributable to this new product. The decrease in certificates of
deposit $100,000 and under reflected an overall industry trend of funds moving
out of certificates of deposit into alternative investment products in the stock
and bond market. First American responded to this industry trend by introducing
a new mutual fund family or product array, ISG Funds. ISG Funds is made up of 14
individual funds in a wide selection of asset classes, including equity, taxable
fixed income, tax-exempt fixed income, and money market funds.
In addition to the introduction of the Tailored Money Sweep account and
the ISG Funds, steps being taken by First American to strengthen customer
relationships in order to maintain its core deposit funding base include:
- offering updated deposit products, including the First American
Platinum Account and High Yield Savings;
- continuation of the Select Rewards program, a relationship
oriented program which is similar to the airline industry's
frequent flyer programs. This program rewards customers for
banking with First American with redeemable points based on the
number, size, and longevity of accounts; and
- utilization of the Distribution Management System ("DMS") and
VISION, a customer information system, to consider client
preference in providing the best mix of distribution
channels--branches, mini branches, ATMs, telephone, and PC
banking--as well as the best mix of products and pricing.
Average core deposits as a percentage of average earning assets was
71.7 percent in 1998 compared to 76.36 percent in 1997. The decrease was due to
the strategic increase in the investment securities portfolio using sources of
funding other than core deposits. Further discussion of the balance sheet
realignment in 1998 is found in the "Net Interest Income" and "Investment
Securities Portfolio" sections of this management's discussion and analysis.
41
44
In order to fund an increased level of earning assets in the most
economically desirable manner in 1998, First American placed more reliance on
sources of funds other than core deposits, including certificates of deposit
$100,000 and over, federal funds purchased and repurchase agreements, and
advances from the Federal Home Loan Bank ("FHLB"). Average certificates of
deposit $100,000 and over increased $286.1 million, or 23 percent, in 1998 over
1997. The $421.3 million increase in average short-term borrowings was
attributable to increases in federal funds purchased and repurchase agreements.
Average long-term debt was up 83 percent, reflecting the addition of borrowings
from the FHLB.
Table 13 presents maturities of certificates of deposit $100,000 and
over.
TABLE 13: MATURITIES OF CERTIFICATES OF DEPOSIT $100,000 AND OVER
==================================================================================
MATURITIES AT DECEMBER 31
------------------------------
(IN THOUSANDS) 1998 1997
- ----------------------------------------------------------------------------------
3 months or less $ 991,335 $ 737,285
Over 3 through 6 months 405,005 335,705
Over 6 through 12 months 332,463 256,635
Over 12 months 112,781 126,622
- ----------------------------------------------------------------------------------
Total $1,841,584 $1,456,247
==================================================================================
CAPITAL
Capital adequacy is important to the continued soundness,
profitability, and growth of First American. The principal objectives of First
American's strategy in managing capital are to (1) protect shareholders and
depositors, (2) comply with all regulatory requirements, (3) improve
profitability, and (4) effectively utilize excess capital. Plans to effectively
utilize excess capital include investing in financial service businesses that
yield returns in excess of 20 percent, focusing on bank acquisitions to further
enhance the branch network and lower distribution costs, and, when appropriate,
returning excess capital to shareholders in the form of increased dividends and
repurchases of First American's common stock.
First American's capital position remained strong during 1998. The
ratio of average equity to average assets was 8.68 percent in 1998 compared to
8.88 percent in 1997 and 8.86 percent in 1996.
TABLE 14: CAPITAL ANALYSIS DATA
=================================================================================
YEAR ENDED DECEMBER 31
----------------------------------
1998 1997 1996
- ---------------------------------------------------------------------------------
Average equity to average assets 8.68% 8.88% 8.86%
Dividend payout ratio (1) 50.53 34.47 31.35
Dividends per common share $ .95 $ .755 $ .605
=================================================================================
(1) Dividends declared per share to basic earnings per share.
On April 16, 1998, the Board of Directors increased the quarterly cash
dividend by 25 percent to $.25 per share. In 1998, First American paid dividends
at the rate of $.95 per common share, up 26 percent from $.755 per share during
1997. The rate of dividends paid
42
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per common share in 1997 was up 25 percent over 1996. The increase in the
dividend payout ratio to 50.53 percent in 1998 over 1997, as shown in Table 14,
reflected the decrease in net income for 1998 due to the merger-related charges.
Excluding merger-related charges, the payout ratio for 1998 was 35.71 percent.
Total shareholders' equity at December 31, 1998, increased $135.9
million, or 8 percent, from December 31, 1997. This followed a 1997 increase of
6 percent from the balance at the end of 1996. During both 1998 and 1997 the
overall increase was primarily due to increases in comprehensive income and
issuance of shares for employee benefit plans, reduced by dividends paid to
shareholders and common stock repurchases. Common stock repurchases were $65.4
million in 1998 compared to $197.7 million in 1997. The "Consolidated Statements
of Changes in Shareholders' Equity" detail the changes in shareholders' equity
during 1998, 1997, and 1996. Notes 1 and 5 to the consolidated financial
statements provide further information on unrealized gains and losses on
securities available for sale included in comprehensive income.
Risk-based capital rules and definitions for bank holding companies and
national banks are established by the Federal Reserve Board ("FRB") and the
Office of the Comptroller of the Currency ("OCC"). These rules require minimum
levels of capital and capital ratios. The required minimum levels of capital are
based on calculations that apply various risk ratings to defined categories of
assets and off-balance-sheet items. As prescribed by the FRB and the OCC, total
capital consists of Tier I capital (essentially realized common equity reduced
by disallowed intangible assets) plus Tier II capital (essentially Tier I
capital plus qualifying long-term debt and a portion of the allowance for loan
losses). Note 16 to the consolidated financial statements summarizes the
risk-based capital and related ratios for First American and its principal
subsidiary, FANB. As of December 31, 1998, First American and its banking
subsidiaries had ratios which exceeded the regulatory requirements to be
classified as "well capitalized," the highest regulatory capital rating.
First American Federal Savings Bank ("FAFSB") and Pioneer f.s.b. are
subject to capital requirements adopted by the Office of Thrift Supervision
("OTS"). These requirements are similar but not identical to those issued by the
FRB and the OCC. As of December 31, 1998, both FAFSB and Pioneer f.s.b. had
capital ratios that exceeded the regulatory requirements to be classified as
"well capitalized."
- --------------
RISK ELEMENTS
- --------------
CREDIT RISK MANAGEMENT
First American exercises prudent credit risk management in lending,
including diversification of the loan portfolio by loan category and by industry
segment, as well as by identification of credit risks. Accordingly, First
American places particular importance on industry specialization and
relationship management so that relationship managers (loan officers) are better
able to understand the complexities of an industry's characteristics.
Specialization by relationship managers permits First American to provide
expertise in structuring the original credit facility and enables continuous
risk evaluation.
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First American's loans are predominantly to borrowers from its primary
market territory, an area in which First American's relationship managers are
knowledgeable. First American's primary market territory includes Arkansas,
Georgia, Kentucky, Louisiana, Mississippi, Tennessee, and Virginia. Based on
Standard Industrial Classification codes, there were no concentrations within
the commercial loan category in excess of 10 percent of total loans at December
31, 1998, or at December 31, 1997. First American's ten largest outstanding loan
relationships at December 31, 1998, amounted to $300.4 million, or 2.6 percent
of total loans, compared to $265.3 million, or 2.2 percent of total loans, at
year end 1997. At December 31, 1998, the largest loan relationship had $36.2
million outstanding. Under the regulatory legal lending limit as calculated at
December 31, 1998, FANB could make loans to a single customer relationship up to
$240.2 million.
NONPERFORMING ASSETS
Table 15 summarizes changes in nonperforming assets for each of the
past five years and presents the composition of the nonperforming assets balance
at the end of each year. The ratio of nonperforming assets to total loans and
foreclosed properties was .47 percent at December 31, 1998, compared to .37
percent at December 31, 1997. Nonperforming assets totaled $55 million at
December 31, 1998, up $9.2 million from $45.8 million at December 31, 1997. The
$9.2 million increase in nonperforming assets since year end 1997 was from the
commercial and real estate nonaccrual loan portfolios.
Loans contractually past due 90 days or more as to interest or
principal payments that have not been put on nonaccrual status amounted to $38.7
million at year end 1998 compared to $29 million at year end 1997. The ratio of
these past due loans to total loans was .33 percent at December 31, 1998, and
.24 percent at December 31, 1997.
TABLE 15: NONPERFORMING ASSET ACTIVITY
=====================================================================================================================
YEAR ENDED DECEMBER 31
------------------------------------------------------------
(in thousands) 1998 1997 1996 1995 1994
- ---------------------------------------------------------------------------------------------------------------------
Balance, January 1 $ 45,840 $ 47,554 $ 59,279 $ 55,545 $ 89,169
Transfers in and new foreclosed properties 57,823 49,986 25,905 35,741 26,441
Change in nonperforming assets due to subsidiaries
purchased 2,305 1,279 2,348 6,393 2,045
Payments received (23,812) (20,018) (23,803) (29,495) (21,821)
Proceeds from sales of foreclosed properties (14,579) (13,184) (10,874) (11,917) (26,467)
Net gains on sales 6,252 5,194 5,113 5,963 7,561
Charge-offs and writedowns (14,399) (13,655) (8,433) (2,202) (11,835)
Return to earning status (3,819) (11,316) (1,981) (749) (8,400)
Other (613) -- -- -- (969)
Adjustment for change in fiscal year for pooled company -- -- -- -- (179)
- ---------------------------------------------------------------------------------------------------------------------
Balance, December 31 $ 54,998 $ 45,840 $ 47,554 $ 59,279 $ 55,545
=====================================================================================================================
DECEMBER 31
----------------------------------------------------------
(dollars in thousands) 1998 1997 1996 1995 1994
- ---------------------------------------------------------------------------------------------------------------------
Nonaccrual loans $ 47,913 $ 38,130 $ 34,461 $ 42,275 $ 38,151
Restructured loans -- -- 694 -- --
- ---------------------------------------------------------------------------------------------------------------------
Total nonperforming loans 47,913 38,130 35,155 42,275 38,151
Foreclosed properties 7,085 7,710 12,399 17,004 17,394
- ---------------------------------------------------------------------------------------------------------------------
Total nonperforming assets $ 54,998 $ 45,840 $ 47,554 $ 59,279 $ 55,545
=====================================================================================================================
Nonperforming assets to total loans plus other real
estate owned .47% .37% .43% .57% .66%
=====================================================================================================================
90 days or more past due on accrual $ 38,696 $ 28,995 $ 22,561 $ 11,273 $ 8,559
=====================================================================================================================
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ALLOWANCE AND PROVISION FOR LOAN LOSSES
As a financial institution which assumes lending and credit risks as a
principal element of its business, First American recognizes that credit losses
will be experienced in the normal course of business. Accordingly, First
American consistently applies a comprehensive methodology and procedural
discipline which is updated on a quarterly basis at the subsidiary bank and
thrift level to determine both the adequacy of the allowance for loan losses and
the necessity for charging provisions against earnings. The allowance for loan
losses is based on assessments of the probable estimated losses inherent in the
loan portfolio. The allowance for loan losses includes an allocated and
unallocated portion. Both portions of the allowance are available to absorb
losses. The allocated allowance is determined for each classification of
performing and nonperforming loans within the portfolio. This methodology
includes:
- The allocations for commercial loans are calculated by using a
trailing twelve-quarter migration analysis of the average actual net
loan losses incurred within the entire commercial loan portfolio by
loan quality grade. First American has established minimum loss
factors for certain loan grade categories.
- The allocations for consumer loans are based upon a migration
analysis of First American's historical average of actual net loan
losses experienced for the last twelve quarters in each consumer
loan category. First American has established minimum loss factors
for certain loan categories.
- A detailed review of criticized and impaired loans is performed to
determine if specific allocations are required for individual loans
where management has identified significant conditions or
circumstances exist that indicate the probability that a loss has
been incurred in excess of the amount determined by the application
of the migration loss methodology.
The unallocated allowance is established for loss exposure that may
exist in the remainder of the loan portfolio but has yet to be specifically
identified and to compensate for uncertainty in estimating loan losses,
including the possibility of changes in risk ratings of loans. The unallocated
allowance is based upon management's evaluation of various conditions, the
effects of which are not directly measured in determining the allocated
allowance. The evaluation of the inherent loss related to these conditions
involves a higher degree of uncertainty because they are not associated with
specific problem loans or portfolio segments. The conditions evaluated in
connection with establishing the unallocated allowance include the following:
- Credit concentrations
- Recent levels of, and trends in, delinquencies and nonaccruals
- Trends in loan volumes and terms of loans and the portfolio
- New credit products and/or geographic distribution of those products
- Changes in lending policies and procedures
- Loan review evaluation of the credit process
- Changes in experience of personnel
- National and local economic conditions
- Ratios of recoveries to prior year's charge-offs
- Accrued income receivable on loans
45
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Management reviews these conditions quarterly in discussion with its
senior credit officers. Management believes that in most instances, the impact
of these conditions may not yet be reflected in the level of nonperforming loans
or in the internal risk grading process regarding these loans. Accordingly, the
evaluation of the probability of additional losses related to these factors is
reflected in the unallocated allowance. The unallocated allowance is not
weighted among segments of the portfolio. The following specific factors were
reflected in management's estimate of the unallocated allowance:
- An increase in loans 90 days or more past due from $29 million at
December 31, 1997 to $38.7 million at December 31, 1998
- Uncertainty in loan portfolio performance within markets
experiencing potentially weakening economies
- Perceived risks in new markets entered into through recent mergers
- Declining performance in certain industries such as healthcare
While the rate of charge-offs has been low, management is aware that
First American has been operating in a favorable economic environment.
Management, along with a number of economists, perceives increasing instability
in the national and mid-south economies and a worldwide economic slowdown that
could contribute to job losses and otherwise adversely affect a broad variety of
business sectors in our markets. In addition, as First American has grown
through acquisitions, its aggregate risk profile of loans has increased. Also,
by virtue of its increased capital levels, First American is able to make larger
loans, thereby increasing the possibility of a loan having a larger adverse
impact than before. Accordingly, management believes that the maintenance of an
unallocated allowance in the current amount is prudent and consistent with
regulatory requirements.
First American believes that the allocation of its allowance for credit
losses is reasonable. Table 16 provides an analysis of the changes in the
allowance for the past five years, including the provision and the charge-offs
and recoveries by loan category.
At December 31, 1998, the allowance for loan losses was $197.7 million,
or 1.68 percent of net loans, versus $187.9 million, or 1.53 percent of net
loans, at December 31, 1997. The $9.8 million change in the allowance during
1998 from year-end 1997 was due to (1) a $40.9 million provision for loan losses
which exceeded $37.3 million of net loan charge-offs by $3.6 million and (2) a
$6.2 million net increase due to the business combinations with MTB, Peoples and
CSB, and the sale of McAfee. Included in the provision for loan losses and the
net loan charge-offs for 1998 was an additional loan loss provision of $9.5
million to restore the allowance to appropriate levels following $7.5 million of
loan charge-offs to align the loss recognition and loan loss reserve standards
of Pioneer with those of First American. The allowance as a percentage of
nonperforming loans decreased to 413 percent at December 31, 1998 from 493
percent at December 31, 1997.
Net loan charge-offs were $37.3 million, or .32 percent of average
loans in 1998 and $27.5 million or .23 percent of average loans in 1997. Net
loan charge-offs, excluding the $7.5 million of Pioneer charge-offs, were .25
percent of average loans in 1998. On a gross basis, total recoveries of $27.7
million in 1998 did not change significantly from total recoveries of $28.9
million in 1997, while the change in gross charge-offs from 1997 to 1998, of
$8.6
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million, is attributable to the $7.5 million charge-offs associated with the
Pioneer business combination discussed above.
Of the major loan categories, consumer-other loans had the highest
level of net charge-offs in 1998, 1997, and 1996 and experienced the largest
increase, or $5 million, from December 31, 1997 to December 31, 1998.
Consumer-other loan charge-offs were .79 percent and .64 percent of average
consumer-other loans in 1998 and 1997, respectively. This increase was due to
higher consumer losses following national trends. The largest increase in net
charge-offs, or $15.3 million, between December 31, 1996 and December 31, 1997
was related to commercial loans. The predominant factor contributing to this
increase was large recoveries in 1996.
TABLE 16: ALLOWANCE FOR LOAN LOSSES
==================================================================================================================
YEAR ENDED DECEMBER 31
-------------------------------------------------------------
(dollars in thousands) 1998 1997 1996 1995 1994
- ------------------------------------------------------------------------------------------------------------------
Allowance for loan losses, January 1 $187,880 $191,228 $197,006 $190,664 $203,915
Loans charged off:
Commercial 21,113 19,852 11,110 4,794 13,656
Consumer--amortizing mortgages 2,939 2,432 2,604 1,690 1,993
Consumer--other 35,925 32,758 32,899 24,005 16,264
Real estate--construction 280 625 119 732 132
Real estate--commercial mortgages and other 4,716 725 1,616 380 1,684
- ------------------------------------------------------------------------------------------------------------------
Total charge-offs 64,973 56,392 48,348 31,601 33,729
- ------------------------------------------------------------------------------------------------------------------
Recoveries of loans previously charged off:
Commercial 7,433 6,793 13,315 7,767 13,837
Consumer--amortizing mortgages 920 1,421 1,907 1,639 1,918
Consumer--other 15,022 16,826 14,622 12,703 12,935
Real estate--construction 30 133 76 652 764
Real estate--commercial mortgages and other 4,272 3,762 2,025 1,096 2,278
- ------------------------------------------------------------------------------------------------------------------
Total recoveries 27,677 28,935 31,945 23,857 31,732
- ------------------------------------------------------------------------------------------------------------------
Net charge-offs 37,296 27,457 16,403 7,744 1,997
- ------------------------------------------------------------------------------------------------------------------
Net change in allowance due to subsidiaries
purchased/sold 6,164 8,000 4,188 11,225 1,547
Provision charged (credited) to operating expenses 40,933 16,109 6,437 2,861 (13,212)
Adjustment for change in fiscal year of pooled company -- -- -- -- 411
- ------------------------------------------------------------------------------------------------------------------
Balance, December 31 $197,681 $187,880 $191,228 $197,006 $190,664
==================================================================================================================
Allocation of allowance for loan losses, end of year:
Commercial $ 81,770 $ 61,824 $ 59,867 $ 56,729 $ 53,684
Consumer loans 40,291 43,997 44,604 38,982 38,289
Real estate 15,334 18,427 17,188 19,073 21,114
Unallocated/general 60,286 63,632 69,569 82,222 77,577
- ------------------------------------------------------------------------------------------------------------------
Balance, December 31 $197,681 $187,880 $191,228 $197,006 $190,664
==================================================================================================================
Net charge-offs as a percent of average loans, net .32% .23% .15% .08% .03%
Allowance to net loans (end of year) 1.68 1.53 1.71 1.89 2.28
==================================================================================================================
Percent of total year-end loans:
Commercial 47.3% 38.5% 37.8% 37.5% 39.1%
Consumer--amortizing mortgages 17.0 24.0 25.6 26.0 24.0
Consumer--other 22.9 21.4 20.8 20.8 21.4
Real estate--construction 3.8 3.7 3.6 3.2 2.9
Real estate--commercial mortgages and other 9.0 12.4 12.2 12.5 12.6
- ------------------------------------------------------------------------------------------------------------------
Total percent of year-end loans 100.0% 100.0% 100.0% 100.0% 100.0%
==================================================================================================================
MARKET RISK MANAGEMENT
Interest Rate Sensitivity
In the normal course of business, First American is exposed to market
risk arising from fluctuations in interest rates. The Asset/Liability Committee
("ALCO") measures and evaluates interest rate risk so that First American can
meet customer demands for various types of loans
47
50
and deposits. Asset/Liability management determines the most appropriate amounts
of on-balance-sheet and off-balance-sheet items. Measurements used to help
First American manage interest rate risk include an earnings simulation model,
an economic value of equity model, and gap analysis computations. These
measurement tools are used in conjunction with the competitive pricing analysis.
Earnings Simulation Modeling: First American believes that interest
rate risk is best measured by its earnings simulation modeling. Forecasted
levels of earning assets, interest-bearing liabilities, and off-balance-sheet
financial instruments are combined with ALCO's forecasts of interest rates for
the next twelve to twenty-four months and are combined with other factors in
order to produce various earnings simulations. To limit interest rate risk,
First American has guidelines for its earnings at risk which state that net
income will not vary by more than 5 percent for a 150 basis point change in
rates from management's most likely interest rate forecast over the next twelve
months. During 1998, First American operated within these guidelines.
Economic Value of Equity: First American's economic value of equity
model measures the extent that estimated economic values of First American's
assets, liabilities, and off-balance-sheet-items will change as a result of a
change in interest rates. Economic values are determined by discounting the
expected future cash flows from assets, liabilities, and off-balance-sheet
items, which establishes a base case economic value of equity. To help limit
interest risk, First American has a guideline stating that for an instantaneous
150 basis point change in interest rates, the economic value of equity will not
change by more than 20 percent from the base case. During 1998, First American
operated within these limits.
Gap Analysis: First American's interest rate sensitivity gap model
measures the difference between assets and liabilities repricing or maturing
within specified time periods. Table 17 shows that First American has a net
liability sensitive position for a cumulative one-year period of negative 15.6
percent at December 31, 1998. First American's guideline for its one-year
cumulative interest rate sensitivity ratio is negative 4 percent (net liability
sensitive) to negative 24 percent. First American classifies all NOW and regular
savings and money market deposit accounts as immediately rate sensitive. If NOW
and savings accounts are reflected as sensitive beyond one year, the interest
sensitive position for a cumulative one-year period would be a positive 3.8
percent. A cumulative net liability sensitivity (negative amount) indicates that
First American's net interest income has a tendency to increase if interest
rates decline. An interest rate gap sensitivity analysis is limited in its
usefulness since the interest rate gap position presents a snapshot of interest
sensitivity for one point in time (interest gap sensitivity can change on a
daily basis).
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TABLE 17: INTEREST RATE SENSITIVITY ANALYSIS
====================================================================================================================================
INTEREST-SENSITIVE PERIODS
--------------------------------------------------------------------------------
MONTHS
--------------------------------
OVER OVER
THREE SIX TOTAL
WITHIN THROUGH THROUGH ONE 1-5 OVER 5
(dollars in millions) THREE SIX TWELVE YEAR YEARS YEARS TOTAL
- ------------------------------------------------------------------------------------------------------------------------------------
DECEMBER 31, 1998
EARNING ASSETS:
Securities held to maturity $ 298.3 $ 71.2 $ 120.3 $ 489.8 $ 1,087.0 $ 153.7 $ 1,730.5
Securities available for sale 331.9 204.4 378.9 915.2 3,143.3 436.7 4,495.2
- ------------------------------------------------------------------------------------------------------------------------------------
Total securities 630.2 275.6 499.2 1,405.0 4,230.3 590.4 6,225.7
Loans 5,661.6 634.3 964.0 7,259.9 3,707.2 772.6 11,739.7
Other earning assets 693.3 -- -- 693.3 -- -- 693.3
- ------------------------------------------------------------------------------------------------------------------------------------
Total earning assets $ 6,985.1 $ 909.9 $ 1,463.2 $ 9,358.2 $ 7,937.5 $ 1,363.0 $18,658.7
====================================================================================================================================
INTEREST-BEARING LIABILITIES:
Interest-bearing deposits:
NOW, money market, and savings accounts $ 6,277.9 $ -- $ -- $ 6,277.9 $ -- $ -- $ 6,277.9
Certificates of deposit 1,761.4 1,084.9 1,178.3 4,024.6 741.8 5.7 4,772.1
Other interest-bearing deposits 581.2 103.4 138.6 823.2 313.3 37.6 1,174.1
- ------------------------------------------------------------------------------------------------------------------------------------
Total interest-bearing deposits 8,620.5 1,188.3 1,316.9 11,125.7 1,055.1 43.3 12,224.1
Other borrowed funds 2,675.4 81.6 6.7 2,763.7 400.7 202.2 3,366.6
- ------------------------------------------------------------------------------------------------------------------------------------
Total interest-bearing liabilities 11,295.9 1,269.9 1,323.6 13,889.4 1,455.8 245.5 15,590.7
Net effect of swaps (629.7) (550.0) (450.0) (1,629.7) 1,525.0 104.7 -
- ------------------------------------------------------------------------------------------------------------------------------------
Adjusted interest-bearing liabilities $10,666.2 $ 719.9 $ 873.6 $12,259.7 $ 2,980.8 $ 350.2 $15,590.7
====================================================================================================================================
INTEREST-SENSITIVITY GAP:
For the indicated period $(3,681.1) $ 190.0 $ 589.6 $(2,901.5) $ 4,956.7 $ 1,012.8 $ 3,068.0
Cumulative (3,681.1) (3,491.1) (2,901.5) (2,901.5) 2,055.2 3,068.0 3,068.0
Cumulative, as a percent of total earning
assets (19.7)% (18.7)% (15.6)% (15.6)% 11.0% 16.4% 16.4%
====================================================================================================================================
DECEMBER 31, 1997
EARNING ASSETS:
Securities held to maturity $ 82.7 $ 40.7 $ 79.4 $ 202.8 $ 380.2 $ 180.4 $ 763.4
Securities available for sale 330.0 137.9 256.3 724.2 2,005.9 822.1 3,552.2
- ------------------------------------------------------------------------------------------------------------------------------------
Total securities 412.7 178.6 335.7 927.0 2,386.1 1,002.5 4,315.6
Loans 5,055.3 932.1 1,338.7 7,326.1 4,299.1 666.3 12,291.5
Other earning assets 286.8 -- -- 286.8 -- -- 286.8
- ------------------------------------------------------------------------------------------------------------------------------------
Total earning assets $ 5,754.8 $ 1,110.7 $ 1,674.4 $ 8,539.9 $ 6,685.2 $ 1,668.8 $16,893.9
====================================================================================================================================
INTEREST-BEARING LIABILITIES:
Interest-bearing deposits:
NOW, money market, and savings accounts $ 5,908.9 $ -- $ -- $ 5,908.9 $ -- $ -- $ 5,908.9
Certificates of deposit 1,512.5 1,070.3 1,150.5 3,733.3 871.4 3.1 4,607.8
Other interest-bearing deposits 232.1 90.7 113.1 435.9 416.5 10.3 862.7
- ------------------------------------------------------------------------------------------------------------------------------------
Total interest-bearing deposits 7,653.5 1,161.0 1,263.6 10,078.1 1,287.9 13.4 11,379.4
Other borrowed funds 2,316.8 11.4 4.9 2,333.1 44.1 287.1 2,664.3
- ------------------------------------------------------------------------------------------------------------------------------------
Total interest-bearing liabilities 9,970.3 1,172.4 1,268.5 12,411.2 1,332.0 300.5 14,043.7
Net effect of swaps 78.8 125.6 (1,124.3) (919.9) 834.0 85.9 --
- ------------------------------------------------------------------------------------------------------------------------------------
Adjusted interest-bearing liabilities $10,049.1 $ 1,298.0 $ 144.2 $11,491.3 $ 2,166.0 $ 386.4 $14,043.7
====================================================================================================================================
INTEREST-SENSITIVITY GAP:
For the indicated period $(4,294.3) $ (187.3) $ 1,530.2 $(2,951.4) $ 4,519.2 $ 1,282.4 $ 2,850.2
Cumulative (4,294.3) (4,481.6) (2,951.4) (2,951.4) 1,567.8 2,850.2 2,850.2
Cumulative, as a percent of total earning
assets (25.4)% (26.5)% (17.5)% (17.5)% 9.3% 16.9% 16.9%
====================================================================================================================================
Each column includes earning assets and interest-bearing liabilities that are
estimated to mature or reprice within the respective time frame. All floating
rate balance sheet items are included as "within three months" regardless of
maturity. Nonearning assets (cash and due from banks, premises and equipment,
foreclosed properties, and other assets), noninterest-bearing liabilities
(demand deposits and other liabilities), and shareholders' equity are considered
to be noninterest-sensitive for purposes of this presentation and thus are not
included in the above table.
In the table, all NOW, money market, and savings accounts are reflected as
interest-sensitive within three months. NOW accounts, savings, and certain money
market accounts are not totally interest-sensitive in all interest rate
environments. If NOW and regular savings accounts were not considered
interest-sensitive, the one year cumulative positive interest-sensitive gap
position and percent of earning assets would be $713.5 million and 3.8 percent,
respectively, for 1998, as compared to a positive interest-sensitive gap
position and percent of earning assets of $31.7 and .2 percent, respectively,
for 1997.
49
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Derivatives
Derivative financial instruments are used by First American to improve
the balance between interest-sensitive assets and interest-sensitive
liabilities. First American uses derivatives as one means to manage its interest
rate sensitivity while continuing to meet the credit and deposit needs of
customers.
At December 31, 1998, First American held interest rate swaps with
notional values totaling $3.18 billion. One year earlier, First American held
$2.43 billion of interest rate swaps and $300 million of interest rate floors.
All of these were hedges of interest-bearing assets or liabilities, in
conjunction with First American's management of its exposure to changes in the
interest rate environment. Note 15 to the consolidated financial statements
presents more detail about the derivative financial instruments outstanding at
December 31, 1998 and 1997.
For a number of years, First American has used interest rate swap
contracts primarily to convert certain deposits and long-term debt to fixed
interest rates and to convert certain groups of customer loans to fixed interest
rates. During 1997 and 1998, First American continued this use of derivative
instruments and also increased its use of pay-fixed interest rate swaps to hedge
market value fluctuations of available for sale securities. These strategies
help First American's interest-sensitivity gap position and also protect market
values in a rising rate environment. The table below summarizes, by notional
amounts, the activity for each major category of derivative financial
instruments.
TABLE 18: DERIVATIVE FINANCIAL INSTRUMENT ACTIVITY
- -------------------------------------------------------------------------------------------------------------------
FORWARD
INTEREST RATE SWAPS SWAPS
---------------------- ---------
INTEREST INTERESTS BASIS PAY RECEIVE PAY FUTURES
(in thousands) RATE CAPS RATE FLOORS SWAP FIXED FIXED FIXED CONTRACTS
- ------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1995 $100,000 $115,000 $ -- $1,213,910 $ 40,000 $ 300,000 $ 140,000
Additions -- 185,000 -- -- 400,000 700,000 --
Maturities/terminations -- -- -- (891,288) (140,000) (500,000) (140,000)
- ------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1996 100,000 300,000 -- 322,622 300,000 500,000 --
Additions -- -- 50,000 135,000 775,000 1,300,000 --
Maturities/terminations (100,000) -- -- (201,397) (300,000) (450,000) --
- ------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1997 -- 300,000 50,000 256,225 775,000 1,350,000 --
Additions -- -- -- 300,000 50,000 1,300,000 --
Maturities/terminations -- (300,000) (50,000) (51,525) (200,000) (600,000) --
- ------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1998 $ -- $ -- $ -- $ 504,700 $ 625,000 $2,050,000 $ --
==================================================================================================================
Net interest income for 1998 included derivative products pretax net
income of $3.8 million, compared with $.8 million in 1997. In 1996 net interest
income included derivative products pretax net expense of $13.6 million.
Although the stand-alone effect of First American's derivative products on net
interest income can vary, hedges are intended to improve First American's
overall exposure to changes in the interest rate environment and therefore
should not be evaluated on a stand-alone basis.
As First American's individual derivative contracts approach maturity,
they may be terminated and replaced with derivatives with longer maturities,
which offer more interest rate risk protection. Note 15 to the consolidated
financial statements presents the net deferred gain related to terminated
derivative contracts. The net deferred gain at December 31, 1998, totaled
50
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$14.7 million and at year-end 1997 was $5.4 million. The higher net deferred
gain at year-end 1998 over 1997 reflects $9.8 million deferred gains on two
swaps closed in 1998 related to loans. Deferred gains and losses on terminated
off-balance-sheet derivative contracts are recognized as interest income or
interest expense over the original covered periods. Of the $14.7 million of net
deferred gain at year-end 1998, $2.5 million will increase net interest income
during 1999 and $12.2 million will be recognized in the years from 2000 to 2006.
First American's derivatives had net negative fair values (unrealized
net pretax losses) of $9.7 million at year-end 1998 and net positive fair values
(unrealized net pretax gains) of $12.0 million at year-end 1997. The change in
net fair values is largely related to interest rate swaps hedging available for
sale securities. For estimated fair value information related to all financial
instruments, see Note 17 to the consolidated financial statements.
All derivatives activity is conducted under ALCO and Board of
Directors' supervision and according to detailed policies and procedures
governing these activities. Policy prohibits the use of leveraged and complex
derivatives. The Board of Directors also sets interim limitations on the total
notional amount of derivatives contracts that may be outstanding at any time.
Credit risk exposure due to off-balance-sheet derivative activities is
closely monitored, and counterparties to these contracts are selected based on
their creditworthiness as well as their market-making ability. As of December
31, 1998, all outstanding derivative transactions were with counterparties with
credit ratings of A-2 or better. Enforceable bilateral netting contracts between
First American and its counterparties allow for the netting of gains and losses
in determining net credit exposure to the counterparty. First American's net
credit exposure on outstanding interest rate swaps was $14.8 million at December
31, 1998.
In June 1998 the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards ("SFAS") No. 133, Accounting for Derivative
Instruments and Hedging Activities, effective for fiscal years beginning after
June 15, 1999. SFAS No. 133 establishes accounting and reporting standards for
derivative instruments and for hedging activities. It requires an entity to
recognize all derivatives as either assets or liabilities in the statement of
financial position and to measure those instruments at fair value. Under certain
conditions, a derivative may be specifically designated as a fair value hedge or
a cash flow hedge. The accounting for changes in the fair value of a derivative
will depend on the intended use of the derivative and the resulting designation.
At this time, management has not fully evaluated the impact of SFAS No. 133.
First American plans to adopt SFAS No. 133 prospectively on January 1, 2000.
LIQUIDITY RISK MANAGEMENT
First American's goal in liquidity management is to ensure that
sufficient funds are available to meet the demands of depositors, borrowers, and
creditors. ALCO is responsible for structuring the balance sheet to meet those
demands and regularly reviews current and forecasted funding needs. Liquid
assets, which include cash and cash equivalents (less Federal Reserve Bank
reserve requirements), money market instruments, and securities that are
estimated to mature within one year, amounted to:
- $2.3 billion, or 13 percent of earning assets, at December 31, 1998,
versus
- $1.48 billion, or 9 percent of earning assets, at December 31, 1997.
51
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The increase in the ratio of liquid assets to earning assets between
year-end 1998 and 1997 was primarily attributable to increases in securities
that are estimated to mature in one year and time deposits with other banks. In
addition to assets included in liquid assets, available-for-sale securities
maturing after one year, which can be sold to meet liquidity needs, had a
balance of $3.90 billion at December 31, 1998, compared to $3.41 billion at
December 31, 1997. As presented in Table 19, loans (exclusive of consumer loans)
that mature within one year amounted to $2.77 billion at December 31, 1998. The
maturity of securities is also discussed under the caption "Investment
Securities" and provided in Table 10.
TABLE 19: MATURITIES OF LOANS, EXCLUSIVE OF CONSUMER LOANS
====================================================================================
MATURITIES AT DECEMBER 31, 1998
-----------------------------------------------
WITHIN 1-5 AFTER
(in millions) 1 YEAR YEARS 5 YEARS TOTAL
- ------------------------------------------------------------------------------------
Commercial loans $2,250.7 $2,764.8 $ 542.6 $5,558.1
Real estate--construction loans 231.1 171.8 49.3 452.2
Real estate--commercial mortgages
and other 289.2 611.7 152.2 1,053.1
- ------------------------------------------------------------------------------------
Total $2,771.0 $3,548.3 $ 744.1 $7,063.4
====================================================================================
For maturities over one year:
Loans with fixed interest rates $1,824.7 $ 433.2 $2,257.9
Loans with floating interest rates 1,723.6 310.9 2,034.5
- ------------------------------------------------------------------------------------
Total $3,548.3 $ 744.1 $4,292.4
====================================================================================
First American's primary sources of liquidity are core deposits, short-
and long-term borrowings, and cash flows from operations. First American's
strategy is to fund assets to the maximum extent possible with core deposits.
Additional funds can be raised from regional, national, and international money
markets as certificates of deposit $100,000 and over, federal funds purchased,
and securities sold under agreements to repurchase. First American can also
borrow from the Federal Home Loan Bank to meet both short-term and long-term
funding needs. As shown in Table 20, First American increased its reliance on
noncore interest-bearing liabilities to fund earning assets during 1998. An
additional source of liquidity is First American's three year $100 million
revolving credit agreement, which was put in place in July 1998 following the
expiration of a $70 million revolving credit agreement. The credit facility
agreement expires in July 2001. First American had no borrowings under either
credit facility in 1998.
TABLE 20: LIQUIDITY RATIOS
===================================================================================
YEAR ENDED DECEMBER 31
----------------------------------
1998 1997 1996
- -----------------------------------------------------------------------------------
Average core deposits to average total deposits 88.08% 90.10% 90.68%
Average core deposits to average earning assets 71.70 76.36 76.98
Long-term debt to total assets (end of period) 5.56 3.27 2.49
===================================================================================
The "Consolidated Statements of Cash Flows" show net cash provided or
used by operating, investing, and financing activities and the net effect of
those activities on cash and cash equivalents. As such, it is a tool that
management uses in analyzing liquidity. During 1998 cash provided by operating
activities was $155.4 million compared to $263.4 million in 1997 and $351.3
million in 1996. The largest component of cash provided by operating
52
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activities in both years was net income. The decrease in cash provided by
operating activities between 1998 and 1997 was primarily attributable to
increases in mortgage loans held for sale. Investing activities utilized $705.5
million of cash in 1998, $509.9 million in 1997, and $965.3 million in 1996. The
largest component of cash used in investing activities was purchases of
securities available for sale, which used $4.8 billion of cash in 1998 and $3.31
billion in 1997. Financing activities provided $1,146.6 million in net cash in
1998, $182 million in 1997, and $249.5 million in 1996. During 1998 financing
activities included an increase in deposits of $590.3 million, an increase in
FHLB advances of $461.5 million, and an increase in short-term borrowings of
$230.9 million.
First American had no material capital expenditure commitments at
year-end.
First American's cash requirements consist primarily of debt service,
dividends to shareholders, operating expenses, income taxes and share
repurchases, if any. These cash needs are routinely met through dividends from
subsidiaries, proportionate shares of current income taxes, management and other
fees, unaffiliated bank lines, and debt issuance.
Management believes that First American has adequate liquidity to meet
all known commitments including loan commitments, dividend payments, debt
service, and reasonable borrower, depositor, and creditor requirements over the
next twelve months.
YEAR 2000 ISSUE
The term "Year 2000 issue" refers to the necessity of converting
computer information systems so that such systems recognize four digits to
identify a year in any given date field and are able to differentiate between
years in the twentieth and twenty-first centuries (e.g. 1900 and 2000). To
address the Year 2000 issue, First American has adopted a broad-based approach
designed to encompass First American's total environment.
First American has appointed a project manager from its information
technology ("IT") group and a project team comprised of managers from various
areas of the organization to address the Year 2000 issue. Overseeing the project
is a steering committee made up of senior management. The project team is
responsible for evaluating Year 2000 impact to each area's products and systems,
developing a plan for bringing those products and systems to compliant levels,
and testing or verifying that compliance. First American's project team is using
a 5-phase approach comprised of awareness, assessment, remediation, validation,
and implementation phases. Areas of risk being addressed by the project team
include:
- Business Systems Applications--This involves Year 2000 remediation
of application software that is used to perform specific business
functions such as deposits or loan systems.
- Technical Infrastructure--This involves Year 2000 remediation of the
hardware and software environment used to run application software
and includes PC networks, telecommunications, mainframe computers,
operating systems, and productivity software.
53
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- Credit Administration--In this area, the project team is reviewing
and addressing the risk associated with Year 2000 status of First
American's clients and depositors.
- Facilities Systems--This involves Year 2000 remediation of
microprocessor-controlled systems such as elevators, HVAC systems,
security systems, lighting systems, and utilities.
- Vendor and Third Party Assessment--In this area, the project team
has conducted an inventory of the systems and products provided by
third parties and has contacted the providers regarding the status
of their Year 2000 compliance. This has been a broad-based effort
including IT vendors, non-IT vendors, and public utilities.
In the areas of business systems applications and technical
infrastructure, First American has made substantial progress in the remediation
and testing of mission critical applications, which were substantially complete
by the end of 1998. As of December 31, 1998, 90 percent of First American's
mission critical applications were completed and 100 percent were anticipated to
be completed by March 31, 1999. In the first quarter of 1999, First American
plans to conduct an end-to-end re-certification test to re-verify the results
from individual application tests. By June 1999 other mission critical
applications are expected to be remediated and tested.
First American has an extensive program focused on facilities systems.
All buildings and equipment were inventoried and assessed for critical Year 2000
remediation. A small number of systems were identified that required upgrades or
replacements. These projects are underway, with facilities remediation projects
scheduled to be completed by March 31, 1999.
First American completed its initial credit risk review of significant
borrowers in September 1998. Clients have been evaluated for Year 2000 risk and
preparedness through a survey and interview process. First American continues to
monitor large borrowers throughout 1999 with more emphasis being placed on
borrowers in the higher risk category.
First American continues to focus on three areas of Year 2000
contingency planning. Remediation contingency plans have been developed for
mission critical applications that remain to be completed at December 31, 1998.
Very few systems fall into this category and there are currently no expectations
to need to execute these plans. A Year 2000 element for the existing corporate
business continuity plan is a second layer of contingency planning that is
underway. The project team is evaluating a number of possible Year 2000
contingencies against core banking processes to determine any additional
elements or process changes to the existing plan that would be required. The
third element of contingency is Event Planning. This is focused on operational
issues just before and during the rollover to the Year 2000, including the
creation of a central "command center," to monitor systems and track issues.
Contingency plans are scheduled to be complete by June 30, 1999.
First American does not expect Year 2000 costs to exceed $5 million in
the aggregate. External expenses are expected to total $2.2 million. Internal
allocation of existing staff to work on the Year 2000 Project is estimated to
total $2.5 million, bringing the total estimated Year 2000 expenditures to
approximately $4.7 million dollars.
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First American management believes its approach to the Year 2000 issue
to be comprehensive and does not expect the Year 2000 issue to have a material
impact on its results of operations, liquidity or financial condition.
- ---------
OUTLOOK
- ---------
To the extent that statements in this discussion relate to the plans,
objectives, or future performance of First American, these statements may be
deemed to be forward looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Such statements are based on
management's current expectations and the current economic environment. Actual
strategies and results in future periods may differ materially from those
currently expected due to various assumptions, risks, and uncertainties.
Although future performance cannot be predicted, we believe
opportunities exist for sustained, profitable growth with continued emphasis on
fee-based financial services. Acquisition of banking businesses during 1998
expanded First American's geographical presence primarily in Mississippi,
Louisiana, Arkansas, and Georgia and provides the distribution network to
deliver fee-based financial products and services emanating from First
American's nontraditional financial services businesses.
Management anticipates net interest income will increase in 1999
primarily due to continuing growth in loans. Loans are expected to increase in
the 5 percent to 10 percent range. Although management is not expecting a
recession, a slow down in some sectors of the economy is anticipated. First
American's most likely interest rate scenario at December 31, 1998, assumes that
short-term interest rates will remain relatively stable and that there will be a
slight steepening of the yield curve throughout 1999.
Management anticipates a provision for loan losses during 1999,
although a specific amount cannot be determined at this time. Management expects
net charge-offs for loans will be slightly higher in 1999. The appropriate level
of the allowance for loan losses and the provision for loan losses will be
determined quarterly in accordance with the established allowance assessment
methodology.
Noninterest income is expected to increase in excess of 10 percent
during 1999. This growth is anticipated due to continued emphasis on fee-based
products and from the integration of products and services through the companies
acquired and merged during 1998.
Cost synergies, efficiencies, and controls continue to be an emphasis
of management. Total integration of the 1998 acquisitions will be a driver in
improving the productivity ratio in 1999. First American is striving for a ratio
of 50 percent or less by the end of the year 2000.
First American's capital ratios during 1998 exceeded the bank holding
companies and national banks regulatory requirements to be classified as "well
capitalized," and management anticipates the ratios will continue to meet the
regulatory requirements to be "well capitalized" in 1999.
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- -------
OTHER
- -------
Additional financial information is presented in Tables 21 and 22.
Table 21 presents selected quarterly financial data for 1998 and 1997. Table 22
presents consolidated year-end balance sheets for each of the past five years.
TABLE 21: QUARTERLY FINANCIAL DATA
==================================================================================================================
Three Months Ended
---------------------------------------------------------
(dollars in thousands except per share amounts) DECEMBER 31 SEPTEMBER 30 JUNE 30 MARCH 31
- ------------------------------------------------------------------------------------------------------------------
1998
Net interest income $188,626 $182,090 $182,417 $180,479
Net interest income, taxable equivalent basis(1) 194,041 187,360 187,343 184,416
Provision for loan losses 19,054 8,604 6,337 6,938
Noninterest income 115,632 128,140 124,441 109,399
Noninterest expense, excluding merger and integration costs 168,307 175,270 189,585 181,951
Merger and integration costs 12,523 37,159 72,043 --
Net income 67,831 57,497 21,688 64,346
- ------------------------------------------------------------------------------------------------------------------
SELECTED PER SHARE DATA:
Net income:
Basic $ .59 $ .51 $ .19 $ .58
Diluted .58 .50 .19 .57
Cash dividends paid .25 .25 .25 .20
Common stock price
High 44.69 51.00 54.88 49.69
Low 33.44 34.75 43.13 43.13
Last trade 44.38 38.38 48.13 49.00
- ------------------------------------------------------------------------------------------------------------------
SELECTED RATIOS:
Return on average assets (annualized) 1.32% 1.18% .46% 1.41%
Return on average equity (annualized) 15.41 13.65 5.26 16.08
Net interest margin 4.18 4.21 4.38 4.45
==================================================================================================================
1997
Net interest income $180,782 $175,730 $171,316 $171,332
Net interest income, taxable equivalent basis(1) 184,161 178,913 174,491 174,588
Provision for loan losses 7,741 2,997 3,030 2,341
Noninterest income 109,998 102,838 97,795 95,002
Noninterest expense 179,624 175,448 172,339 171,693
Net income 65,539 63,606 59,330 59,039
- ------------------------------------------------------------------------------------------------------------------
SELECTED PER SHARE DATA:
Net income:
Basic $ .58 $ .57 $ .52 $ .52
Diluted .57 .56 .52 .51
Cash dividends paid .20 .20 .20 .16
Common stock price
High 55.38 50.13 40.00 34.63
Low 43.75 38.00 29.63 28.00
Last trade 49.75 48.88 38.38 31.81
- ------------------------------------------------------------------------------------------------------------------
SELECTED RATIOS:
Return on average assets (annualized) 1.42% 1.41% 1.35% 1.35%
Return on average equity (annualized) 16.00 15.87 15.42 14.98
Net interest margin 4.41 4.37 4.66 4.41
==================================================================================================================
(1) Adjusted to a taxable equivalent basis based on the statutory federal
income tax rates, adjusted for applicable state income taxes net of the
related federal tax benefit.
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TABLE 22: CONSOLIDATED YEAR-END BALANCE SHEETS
===================================================================================================================
December 31
---------------------------------------------------------------
(in thousands) 1998 1997 1996 1995 1994
- -------------------------------------------------------------------------------------------------------------------
ASSETS
Cash and due from banks $ 1,203,358 $ 1,033,865 $ 1,053,737 $ 920,288 $ 910,307
Securities:
U.S. Treasury and other U.S. Government
agencies and corporations 3,888,823 3,371,920 3,638,371 3,132,356 3,493,027
Obligations of states and political
subdivisions 470,447 287,600 301,096 261,001 211,093
Other 1,866,350 656,088 432,036 365,652 235,008
- ---------------------------------------------------------------------------------------------------------------------
Total securities 6,225,620 4,315,608 4,371,503 3,759,009 3,939,128
- ---------------------------------------------------------------------------------------------------------------------
Federal funds sold and securities
purchased under agreements to resell 351,989 208,372 210,952 737,992 259,883
Loans:
Commercial 5,558,099 4,738,596 4,224,121 3,912,956 3,278,749
Consumer-amortizing mortgages 1,998,780 2,955,221 2,856,088 2,717,222 2,009,870
Consumer-other 2,690,227 2,626,060 2,324,915 2,170,638 1,794,021
Real estate-construction 452,191 455,181 398,775 327,935 241,859
Real estate-commercial mortgages and other 1,053,147 1,530,009 1,368,081 1,306,149 1,059,845
- ---------------------------------------------------------------------------------------------------------------------
Total loans 11,752,444 12,305,067 11,171,980 10,434,900 8,384,344
Unearned discount (12,756) (13,577) (16,062) (13,760) (21,292)
- ---------------------------------------------------------------------------------------------------------------------
Loans, net of unearned discount 11,739,688 12,291,490 11,155,918 10,421,140 8,363,052
Allowance for loan losses (197,681) (187,880) (191,228) (197,006) (190,664)
- ---------------------------------------------------------------------------------------------------------------------
Total net loans 11,542,007 12,103,610 10,964,690 10,224,134 8,172,388
- ---------------------------------------------------------------------------------------------------------------------
Premises and equipment, net 383,865 384,787 330,826 290,169 256,869
Other assets 1,024,931 745,084 741,542 595,566 573,656
- ---------------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $20,731,770 $18,791,326 $17,673,250 $16,527,158 $14,112,231
=====================================================================================================================
LIABILITIES
Deposits:
Demand (noninterest-bearing) $ 3,046,651 $ 2,774,449 $ 2,690,613 $ 2,505,922 $ 2,333,508
Interest-bearing 12,224,105 11,379,429 10,850,322 10,336,360 8,596,180
- ---------------------------------------------------------------------------------------------------------------------
Total deposits 15,270,756 14,153,878 13,540,935 12,842,282 10,929,688
- ---------------------------------------------------------------------------------------------------------------------
Federal funds purchased and securities sold
under agreements to repurchase 1,988,161 1,675,370 1,535,616 1,397,346 1,453,867
Other short-term borrowings 225,476 374,708 225,124 182,338 79,232
Long-term debt 1,152,939 614,218 440,562 421,791 271,473
Other liabilities 314,643 329,259 387,117 261,191 188,844
- ---------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES 18,951,975 17,147,433 16,129,354 15,104,948 12,923,104
- ---------------------------------------------------------------------------------------------------------------------
SHAREHOLDERS' EQUITY
Common stock 290,797 280,468 278,221 276,502 261,955
Additional paid-in capital 241,333 212,311 288,560 290,048 249,354
Retained earnings 1,286,512 1,161,877 981,833 834,652 697,959
Deferred compensation on restricted stock (31,781) (13,341) (2,066) (1,263) (2,161)
Employee Stock Ownership Plan -- (163) (443) (661) (781)
Accumulated other comprehensive income (loss),
net of tax (7,066) 2,741 (2,209) 22,932 (17,199)
- ---------------------------------------------------------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY 1,779,795 1,643,893 1,543,896 1,422,210 1,189,127
- ---------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $20,731,770 $18,791,326 $17,673,250 $16,527,158 $14,112,231
=====================================================================================================================
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ITEM 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements listed in Item 14(a)(1) and (2) are included
in this Report beginning on page 68 and are incorporated in this Item 8 by
reference. The table "Quarterly Financial Data" on page 56 hereof, "Consolidated
Year-End Balance Sheets" on page 57 hereof, and "Consolidated Average Balance
Sheets and Taxable Equivalent Income/Expense and Yields/Rates" on pages 29-30
hereof are incorporated in this Item 8 by reference.
ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10: DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Executive Officers of the Registrant
The following is a list of First American's executive officers, their
ages and their positions and offices during the last five years (listed
alphabetically).
Officer Age Business Experience - Past 5 years
- ------- --- ----------------------------------
Dennis C. Bottorff 54 Mr. Bottorff serves as Chairman and Chief
Executive Officer of First American and FANB.
He has served as Chief Executive Officer since
1991 and as Chairman since 1994. He also served
as First American's President from 1991 until
August 1997. Throughout 1994, Mr. Bottorff
served as President and Chief Executive Officer
of First American and Chief Executive Officer
of FANB. Mr. Bottorff also serves as a
director of First American's affiliates SSI and IFC.
Melissa J. Buffington 41 Since August 1996, Ms. Buffington has served as
Executive Vice President and Director of Human
Resources of First American and FANB. From June
1993 through August 1996, she served as First
American's Director of Quality Management.
R. Booth Chapman 58 Since September 1991, Mr. Chapman has served as
Executive Vice President - Independent Loan
Review of FANB.
Brian L. Cooper 40 Mr. Cooper is President of Retail Banking for
FANB. From November 1997 to May 1998, he served
as President of AmeriStar Investments. Mr.
Cooper served as Executive Vice
58
61
President - Marketing of FANB from September 1995
until November 1998. From March 1992 through August
1995, he served as Senior Vice President -
Marketing & Electronic Banking of Banc One Corporation.
Emery F. Hill 55 Mr. Hill is Executive Vice President and Director
of Operations and Technology of First American
and FANB and has served in this position since 1992.
Rufus B. King 53 Mr. King is Executive Vice President and Chief
Credit Officer of FANB and has served in such
position since July 1989.
Allan R. Landon 50 Mr. Landon is Executive Vice President, Chief
Financial Officer and Principal Financial Officer
of First American and FANB and has served in this
capacity since September 1998. From 1970 until
September 1998, Mr. Landon was associated with
Ernst & Young LLP, serving as a partner in the
firm since 1984.
Robert A. McCabe, Jr. 48 Mr. McCabe is President - FAE and Vice Chairman of
First American and FANB and has served in such
positions since January 1994. He also serves as
Director of First American and FANB. From January
1992 until January 1994, he served as President,
General Bank of FANB. Mr. McCabe has also served
as a director of First American's affiliates SSI
and IFC since April 1, 1996, and July 1, 1996,
respectively.
Dale W. Polley 49 Mr. Polley has served as President of First American
since July 1997 and as Vice Chairman of FANB since
May 1998. He also serves as Director of First
American and FANB. From 1994 through July 1997,
Mr. Polley served as Vice Chairman of First
American. He also served as President of FANB
from 1994 until May 1998. From November 1992
through 1994 and from August 1997 through August
1998, he served as Principal Financial Officer of
First American and FANB.
Joe J. Powell, III 45 Mr. Powell is Executive Vice President, Bank
Investments and Investor Relations for First
American and FANB and has served in such
capacity since May 1998. From 1977 until its
merger into First American in May 1998, Mr. Powell
served in various capacities at Deposit Guaranty
and DGNB, including Senior Vice President and
Treasurer from 1993 until May 1998.
Mary Neil Price 38 Ms. Price is Executive Vice President, General
Counsel, and Corporate Secretary of First American
and FANB and has
59
62
served in such capacity since August 1997. From
July 1996 until July 1997, she served as
Deputy General Counsel, Executive Vice President
and Assistant Corporate Secretary. Ms. Price
served as Senior Counsel, Senior Vice President
and Assistant Corporate Secretary from February
1995 until July 1996. From October 1993 to February
1995, she served as Associate General Counsel,
Senior Vice President and Assistant Corporate
Secretary. She is also the corporate secretary and
a director of IFC.
E.B. Robinson, Jr. 57 Mr. Robinson has served as Vice Chairman and Chief
Operating Officer of First American and President
of FANB since May 1998. From 1984 until its merger
into First American in May 1998, Mr. Robinson
served as Chairman and CEO of Deposit Guaranty
and DGNB.
Terry S. Spencer 42 Mr. Spencer serves as Executive Vice President
and Treasurer of First American and as Executive
Vice President of FANB. From September 1993
until March 1995, he served as Executive Vice
President - Development of FANB.
Claire W. Tucker 45 Ms. Tucker is President - Corporate Bank of FANB
and has served in such capacity since January 1997.
From January 1995 through January 1997, she served
as the Manager of FANB's Specialized Lending Group
and Commercial Real Estate Group. She was appointed
Executive Vice President in April 1995. From August
1991 through January 1995, Ms. Tucker served as Senior
Vice President - Manager of FANB's HealthCare
and Manufacturers Divisions.
M. Terry Turner 43 Mr. Turner serves as President - Investment Services
Group and has served in such capacity since
November 1998. From January 1994 until November 1998,
he served as President of the Retail Bank of FANB.
Mr. Turner served as Executive Vice President -
Business and Professional Banking of FANB from
January 1991 until January 1994.
Marvin J. Vannatta, Jr. 55 Mr. Vannatta serves as Executive Vice President,
Controller and Principal Accounting Officer of
First American and FANB and as Cashier of FANB
and has served in such positions since March 1995.
From October 1982 until March 1995, he served as
Senior Vice President and Controller of First
American and FANB.
60
63
Steven C. Walker 49 Since May 1998, Mr. Walker has served as President
of FANB's Commercial and Private Banking Group.
Until its merger into First American in May 1998,
Mr. Walker served in various capacities with
Deposit Guaranty and DGNB, including Executive
Vice President of Corporate Banking from 1996
to May 1998 and President & CEO of Commercial
National Bank, a wholly owned subsidiary based in
Shreveport, LA, from 1989 to 1996.
James W. Weakley 36 Mr. Weakley serves as Executive Vice President
and Director of Marketing of FANB and has served
in such position since November 1998. Prior to
November 1998, he served in various capacities
at General Electric Company, including Senior
Vice President of Marketing and Vice President
of Product Development and Ventures in the Vendor
Financial Services Division ("VFS") of GE Capital,
Director General of VFS in Mexico City and General
Manager of VFS in Toronto.
The additional information required by Item 401 and Item 405 of
Regulation S-K is contained in First American's Notice of 1999 Annual Meeting of
Shareholders and Proxy Statement (the "1999 Proxy Statement") filed with the
Securities and Exchange Commission within 120 days of First American's year-end
pursuant to Regulation 14A. Such information appears in the sections entitled
"Election of Directors" and "Reports of Beneficial Ownership" in the 1999 Proxy
Statement and is incorporated herein by reference.
ITEM 11: EXECUTIVE COMPENSATION
This information appears in the sections entitled "Executive
Compensation", "Human Resources Committee Interlocks and Insider Participation",
"Compensation of Directors" and "Retirement Plans" in the 1999 Proxy Statement,
and is incorporated herein by reference.
ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
This information appears in the section entitled "Security Ownership of
Management" in the 1999 Proxy Statement, and is incorporated herein by
reference.
ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
This information appears in the sections entitled "Certain
Transactions" and "Human Resources Committee Interlocks and Insider
Participation" in the 1999 Proxy Statement, and is incorporated herein by
reference.
61
64
PART IV
ITEM 14: EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this Report:
1. Financial Statements
The Report of KPMG LLP, Independent Auditors
Consolidated Income Statements of First American Corporation
and Subsidiaries for each of the years in the three year
period ended December 31, 1998
Consolidated Balance Sheets of First American Corporation
and Subsidiaries at December 31, 1998 and 1997
Consolidated Statements of Changes in Shareholders' Equity
of First American Corporation and Subsidiaries for each of
the years in the three year period ended December 31, 1998
Consolidated Statements of Cash Flows of First American
Corporation and Subsidiaries for each of the years in the
three year period ended December 31, 1998
Notes to Consolidated Financial Statements
2. Financial Statement Schedules
All schedules are omitted because they are not applicable.
The following reports and consents are submitted herewith:
Accountants' Consent by
KPMG LLP -- Exhibit 23
3. Exhibits
Exhibit
Number Description
------ -----------
3.1 Amended and Restated Charter of First American effective
April 21, 1998, and corrections thereto (previously filed as
Exhibit 3.1 to First American's Form 10-Q for the quarter
ending March 31, 1998 and incorporated herein by reference).
62
65
3.2 By-Laws of First American currently in effect as amended
September 17, 1998 (previously filed as Exhibit 3.2 to
First American's Form 10-Q for the quarter ending
September 30, 1998 and incorporated herein by reference).
4.1 First American agrees to provide the Securities and Exchange
Commission, upon request, copies of instruments defining the
rights of holders of long-term debt of First American, and
all of its subsidiaries for which consolidated or
unconsolidated financial statements are required to be
filed with the Securities and Exchange Commission.
4.2 Rights Agreement dated as of July 16, 1998 between First
American Corporation and First Chicago Trust Company of
New York, as Rights Agent (previously filed as
Exhibit 1 under Item 2 on First American's Form 8-A filed
November 10, 1998 and incorporated herein by reference).
4.3(a) Indenture, dated as of April 22, 1993, between First American
Corporation and Chemical Bank, as Trustee (previously filed as
Exhibit 4.1 to First American's Form S-3, Registration Statement
No. 33-59844, and incorporated herein by reference).
4.3(b) Supplemental Indenture, dated as of April 22, 1993, between
First American Corporation and Chemical Bank, as Trustee
(previously filed as Exhibit 4.2 to First American's Form S-3,
Registration Statement No. 33-59844, and incorporated herein
by reference).
4.3(c) Indenture, dated as of April 26, 1996, between Deposit
Guaranty Corp. and SunTrust Bank, Atlanta, as Trustee
(previously filed as Exhibit 4.2 to Deposit Guaranty's Form
8-K, Registration Statement No. 000-04518, and incorporated
herein by reference).
4.3(d) Credit Agreement among First American Corporation, Lenders
named in the Agreement and the First National Bank of
Chicago dated July 17, 1998 (previously filed as Exhibit 10
to First American's Form 10-Q for the quarter ending
June 30, 1998 and incorporated herein by reference).
10.1(a) First American STAR Award Plan (previously filed as Exhibit
10.03(b) to First American's Annual Report on Form 10-K for the
year ended December 31, 1986 and incorporated herein by
reference).
10.1(b) First American Corporation 1991 Employee Stock Incentive Plan
(previously filed as part of First American's Notice of Annual
Meeting
63
66
and Proxy Statement dated March 18, 1991 for the annual
meeting of shareholders held April 18, 1991, amended as of
April 21, 1994 and April 17, 1997, and incorporated herein
by reference).
10.1(c) 1993 Non-Employee Director Stock Option Plan (previously
filed as part of First American's Notice of Annual Meeting
and Proxy Statement dated March 18, 1993 for the annual
meeting of shareholders held April 15, 1993 and incorporated
herein by reference).
10.1(d) First American Corporation 1992 Executive Early Retirement
Program (previously filed as Exhibit 10.4(a) to First American's
Annual Report on Form 10-K for the year ended December 31, 1992
and incorporated herein by reference).
10.1(e) First American Corporation Directors' Deferred Compensation
Plan as amended on October 18, 1996 (previously filed as Exhibit
10.3(e) to First American's Annual Report on Form 10-K for the
year ended December 31, 1996 and incorporated herein by
reference).
10.1(f) First American Corporation Supplemental Executive Retirement
Program dated as of January 1, 1989 (previously filed as Exhibit
19.2 to First American's Annual Report on Form 10-K for the year
ended December 31, 1992 and incorporated herein by reference).
10.1(g) Form of Deferred Compensation Agreement approved by the Human
Resources Committee of the Board of Directors of First American
on December 19, 1996, entered into by First American and
Brian L. Cooper effective December 31, 1998 (previously
filed as Exhibit 10.3(g) to First American's Annual Report
on Form 10-K for the year ended December 31, 1996 and
incorporated herein by reference).
10.1(h) Amended and Restated First American Corporation First
Incentive Reward Savings Thrift Plan (previously filed as
Exhibit 4 to First American's Form S-8, Registration
Statement No. 33-57385, filed January 20, 1995 and
incorporated herein by reference).
10.1(i) Form of Key Employee Change in Control Agreement by and between
First American and certain of its Executive Officers (previously
filed as Exhibit 10.3(j) to First American's Annual Report on
Form 10-K for the year ended December 31, 1995 and incorporated
herein by reference).
10.1(j) Agreement effective August 1, 1997 by and between First
American and Martin E. Simmons (previously filed as Exhibit
10 to First
64
67
American's Form 10-Q for the quarter ending September 30,
1997 and incorporated herein by reference).
10.1(k) Deposit Guaranty Corp. Stock-Based, Long-Term Incentive Plan,
dated April 15, 1986, and Stock-Based, Long-Term Incentive
Plan II, dated April 20, 1993 (previously filed as
Exhibit 4 to First American's Form S-8 filed on May 8,
1998 and incorporated herein by reference).
10.1(l) Pioneer Bancshares, Inc. 1994 Long-Term Incentive Plan
(previously filed as Exhibit 4 to First American's Post-Effective
Amendment No. 1 on Form S-8 to Registration Statement on Form S-4
filed November 30, 1998 and incorporated herein by reference).
10.1(m) Employment Agreement dated December 7, 1997 by and
between First American Corporation and E.B. Robinson,
Jr., effective May 1, 1998, as amended July 1, 1998,
included herein.
10.1(n) Consulting Agreement by and between First American
National Bank and George M. Clark, III, effective
March 1, 1999, included herein.
11 Calculation of basic and diluted earnings per share is
included in Note 14 to the consolidated financial statements
contained herein on page 96, included in this Report.
13 First American Corporation's Annual Report to Shareholders
for the fiscal year ended December 31, 1998. Such report,
except for the portions included herein, is furnished for
the information of the Securities and Exchange Commission
and is not "filed" as part of this Report.
21 List of Subsidiaries, included herein.
23 Consent of KPMG LLP, independent auditors, included herein.
27 Financial Data Schedule, included herein.
Upon written or oral request, a copy of the above exhibits will be
furnished at cost.
(b) No reports on Form 8-K were filed in the last quarter of 1998.
65
68
FIRST AMERICAN CORPORATION AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND
SUPPLEMENTAL DATA
Page
----
Independent Auditors' Report 67
Financial Statements:
Consolidated Income Statements of First American Corporation
and Subsidiaries for each of the years in the three year
period ended December 31, 1998 68
Consolidated Balance Sheets of First American Corporation
and Subsidiaries at December 31, 1998 and 1997 69
Consolidated Statements of Changes in Shareholders' Equity
of First American Corporation and Subsidiaries for each
of the years in the three year period ended December 31, 1998 70
Consolidated Statements of Cash Flows of First American
Corporation and Subsidiaries for each of the years in the
three year period ended December 1998 71
Notes to Consolidated Financial Statements 72
Supplemental Data:
Consolidated Average Balance Sheets and Taxable Equivalent
Income/Expense and Yields/Rates for each of the years ended
December 31, 1998, 1997, 1996, 1995, and 1994 29
Consolidated Year-End Balance Sheets of First American
Corporation and Subsidiaries at December 31, 1998, 1997,
1996, 1995, and 1994 57
66
69
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Shareholders
First American Corporation:
We have audited the accompanying consolidated balance sheets of First
American Corporation and subsidiaries as of December 31, 1998 and 1997, and the
related consolidated income statements, changes in shareholders' equity, and
cash flows for each of the years in the three-year period ended December 31,
1998. These consolidated financial statements are the responsibility of the
Corporation's management. Our responsibility is to express an opinion on these
consolidated 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 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of First
American Corporation and subsidiaries as of December 31, 1998 and 1997, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1998, in conformity with generally accepted
accounting principles.
/s/ KPMG LLP
--------------------------------------
KPMG LLP
Nashville, Tennessee
January 21, 1999
67
70
- --------------------------------------------------------------------------------
CONSOLIDATED INCOME STATEMENTS
First American Corporation and Subsidiaries
- --------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31
--------------------------------------------------
(in thousands except per share amounts) 1998 1997 1996
- ---------------------------------------------------------------------------------------------------------------------------
INTEREST INCOME
Loans $ 994,353 $1,002,783 $ 908,967
Securities
Taxable 344,643 269,004 242,008
Tax-exempt 17,175 15,762 17,233
Federal funds sold and securities purchased under agreements to resell 6,552 6,560 18,011
Time deposits with other banks and other interest 4,943 5,258 4,045
- ---------------------------------------------------------------------------------------------------------------------------
Total interest income 1,367,666 1,299,367 1,190,264
- ---------------------------------------------------------------------------------------------------------------------------
INTEREST EXPENSE
Deposits 471,230 478,357 457,784
Short-term borrowings 114,294 93,599 78,934
Long-term debt 48,530 28,251 29,575
- ---------------------------------------------------------------------------------------------------------------------------
Total interest expense 634,054 600,207 566,293
- ---------------------------------------------------------------------------------------------------------------------------
NET INTEREST INCOME 733,612 699,160 623,971
PROVISION FOR LOAN LOSSES 40,933 16,109 6,437
- ---------------------------------------------------------------------------------------------------------------------------
Net interest income after provision for loan losses 692,679 683,051 617,534
- ---------------------------------------------------------------------------------------------------------------------------
NONINTEREST INCOME
Investment services income 151,027 124,003 68,820
Service charges on deposit accounts 131,926 118,113 97,189
Commissions and fees on fiduciary activities 42,979 40,412 35,875
Mortgage banking 48,265 36,787 29,488
Merchant discount fees 4,027 3,766 4,602
Net realized gain on sales of securities 7,999 4,528 2,882
Trading account revenue 7,250 4,414 6,939
Other 84,139 73,610 66,132
- ---------------------------------------------------------------------------------------------------------------------------
Total noninterest income 477,612 405,633 311,927
- ---------------------------------------------------------------------------------------------------------------------------
NONINTEREST EXPENSE
Salaries and employee benefits 342,927 346,024 310,985
Subscribers' commissions 89,918 70,785 35,075
Net occupancy 52,769 50,276 44,135
Equipment 48,896 45,563 38,333
Systems and processing 15,461 15,662 14,755
Communication 30,450 27,194 21,804
Marketing 20,742 22,129 21,334
Supplies 12,411 15,523 13,073
Goodwill amortization 17,410 16,815 12,429
FDIC insurance 2,188 1,798 10,488
Merger and integration costs 121,725 -- --
Other 81,941 87,335 74,992
- ---------------------------------------------------------------------------------------------------------------------------
Total noninterest expense 836,838 699,104 597,403
- ---------------------------------------------------------------------------------------------------------------------------
INCOME BEFORE INCOME TAX EXPENSE 333,453 389,580 332,058
Income tax expense 122,091 142,066 117,879
- ---------------------------------------------------------------------------------------------------------------------------
NET INCOME $ 211,362 $ 247,514 $ 214,179
===========================================================================================================================
PER COMMON SHARE:
Net income:
Basic $ 1.88 $ 2.19 $ 1.93
Diluted 1.84 2.15 1.91
Dividends declared .95 .755 .605
===========================================================================================================================
AVERAGE COMMON SHARES OUTSTANDING:
Basic 112,517 112,907 110,727
Diluted 114,682 115,249 112,286
===========================================================================================================================
See accompanying notes to consolidated financial statements.
68
71
- --------------------------------------------------------------------------------
CONSOLIDATED BALANCE SHEETS
First American Corporation and Subsidiaries
- --------------------------------------------------------------------------------
DECEMBER 31
------------------------------------
(dollars in thousands except per share amounts) 1998 1997
- ---------------------------------------------------------------------------------------------------------------------------
ASSETS
Cash and due from banks $ 1,203,358 $ 1,033,865
Time deposits with other banks 297,374 13,991
Federal funds sold and securities purchased under agreements to resell 351,989 208,372
- ---------------------------------------------------------------------------------------------------------------------------
Total cash and cash equivalents 1,852,721 1,256,228
- ---------------------------------------------------------------------------------------------------------------------------
Securities held to maturity (fair value $1,739,852 and $771,815, respectively) 1,730,460 763,423
Securities available for sale (amortized cost $4,505,730 and $3,547,537, respectively) 4,495,160 3,552,185
- ---------------------------------------------------------------------------------------------------------------------------
Total securities 6,225,620 4,315,608
- ---------------------------------------------------------------------------------------------------------------------------
Trading account securities 43,987 64,469
Loans:
Commercial 5,558,099 4,738,596
Consumer--amortizing mortgages 1,998,780 2,955,221
Consumer--other 2,690,227 2,626,060
Real estate--construction 452,191 455,181
Real estate--commercial mortgages and other 1,053,147 1,530,009
- ---------------------------------------------------------------------------------------------------------------------------
Total loans 11,752,444 12,305,067
Unearned discount (12,756) (13,577)
- ---------------------------------------------------------------------------------------------------------------------------
Loans, net of unearned discount 11,739,688 12,291,490
Allowance for loan losses (197,681) (187,880)
- ---------------------------------------------------------------------------------------------------------------------------
Total net loans 11,542,007 12,103,610
- ---------------------------------------------------------------------------------------------------------------------------
Premises and equipment, net 383,865 384,787
Other assets 683,570 666,624
- ---------------------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $20,731,770 $18,791,326
===========================================================================================================================
LIABILITIES
Deposits:
Noninterest-bearing $ 3,046,651 $ 2,774,449
Interest-bearing 12,224,105 11,379,429
- ---------------------------------------------------------------------------------------------------------------------------
Total deposits 15,270,756 14,153,878
- ---------------------------------------------------------------------------------------------------------------------------
Short-term borrowings 2,213,637 2,050,078
Long-term debt 1,152,939 614,218
Other liabilities 314,643 329,259
- ---------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES 18,951,975 17,147,433
- ---------------------------------------------------------------------------------------------------------------------------
Commitments and contingencies
SHAREHOLDERS' EQUITY
Preferred stock, without par value; authorized 2,500,000 shares -- --
Common stock, $2.50 par value; authorized 200,000,000 shares; issued and
outstanding: 116,318,734 shares at December 31, 1998; 112,187,227
shares at December 31, 1997 290,797 280,468
Additional paid-in capital 241,333 212,311
Retained earnings 1,286,512 1,161,877
Deferred compensation on restricted stock (31,781) (13,341)
Employee stock ownership plan obligation -- (163)
- ---------------------------------------------------------------------------------------------------------------------------
Realized shareholders' equity 1,786,861 1,641,152
Accumulated other comprehensive (loss) income, net of tax (7,066) 2,741
- ---------------------------------------------------------------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY 1,779,795 1,643,893
- ---------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $20,731,770 $18,791,326
===========================================================================================================================
See accompanying notes to consolidated financial statements.
69
72
- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
First American Corporation and Subsidiaries
- --------------------------------------------------------------------------------
Common Deferred Employee Accumulated
Shares Compensation Stock Other
Issued Additional on Ownership Comprehensive
and Common Paid-in Retained Restricted Plan Income (Loss),
(in thousands except per share amounts) Outstanding Stock Capital Earnings Stock Obligation Net of Tax Total
- -----------------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1995 110,601 $276,502 $290,048 $ 834,652 $ (1,263) (661) $ 22,932 $1,422,210
Comprehensive income:
Net income -- -- -- 214,179 -- -- -- 214,179
Other comprehensive loss, net of tax -- -- -- -- -- -- (25,141) (25,141)
---------
Comprehensive income 189,038
Cash dividends declared ($.605 per common
share) -- -- -- (35,694) -- -- -- (35,694)
Cash dividends declared by pooled companies -- -- -- (31,272) -- -- -- (31,272)
Repurchase of common stock (4,976) (12,439) (96,980) -- -- -- -- (109,419)
Issuance of common stock:
Acquisitions 4,122 10,306 73,449 (32) -- -- -- 83,723
Employee Benefit Plans, net of discount
on Dividend Reinvestment Plan 1,449 3,623 15,572 -- -- -- -- 19,195
Restricted common stock, net of forfeitures 93 232 1,958 -- (2,190) -- -- --
Amortization of deferred compensation on
restricted stock -- -- -- -- 1,387 -- -- 1,387
Reduction in employee stock ownership plan
obligation -- -- -- -- -- 218 -- 218
Tax benefit from stock option and award plans -- -- 4,530 -- -- -- -- 4,530
Other (1) (3) (17) -- -- -- -- (20)
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1996 111,288 278,221 288,560 981,833 (2,066) (443) (2,209) 1,543,896
- ------------------------------------------------------------------------------------------------------------------------------------
Net income -- -- -- 247,514 -- -- -- 247,514
Other comprehensive income, net of tax -- -- -- -- -- -- 4,950 4,950
---------
Comprehensive income 252,464
Cash dividends declared ($.755 per common
share) -- -- -- (44,393) -- -- -- (44,393)
Cash dividends declared by pooled company -- -- -- (37,017) -- -- -- (37,017)
Repurchase of common stock (6,321) (15,802) (181,891) -- -- -- -- (197,693)
Issuance of common stock:
Acquisitions 5,511 13,776 66,921 13,940 -- -- -- 94,637
Employee Benefit Plans, net of discount
on Dividend Reinvestment Plan 1,263 3,158 19,552 -- -- -- -- 22,710
Restricted common stock, net of forfeitures 446 1,114 13,564 -- (14,678) -- -- --
Amortization of deferred compensation on
restricted stock -- -- -- -- 3,403 -- -- 3,403
Reduction in employee stock ownership plan
obligation -- -- -- -- -- 280 -- 280
Tax benefit from stock option and award plans -- -- 5,603 -- -- -- -- 5,603
Other -- 1 2 -- -- -- -- 3
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1997 112,187 280,468 212,311 1,161,877 (13,341) (163) 2,741 1,643,893
- ------------------------------------------------------------------------------------------------------------------------------------
Comprehensive income:
Net income -- -- -- 211,362 -- -- -- 211,362
Other comprehensive loss, net of tax -- -- -- -- -- -- (9,825) (9,825)
---------
Comprehensive income 201,537
Cash dividends declared ($.95 per common
share) -- -- -- (81,794) -- -- -- (81,794)
Cash dividends declared by pooled companies -- -- -- (12,203) -- -- -- (12,203)
Repurchase of common stock (1,211) (3,028) (62,347) (9) -- -- -- (65,384)
Issuance of common stock:
Acquisitions 3,889 9,723 45,926 7,280 -- -- 18 62,947
Employee Benefit Plans, net of discount
on Dividend Reinvestment Plan 896 2,238 15,993 -- -- -- -- 18,231
Restricted common stock, net of forfeitures 558 1,396 24,269 -- (25,665) -- -- --
Amortization of deferred compensation on
restricted stock -- -- -- -- 7,225 -- -- 7,225
Reduction in employee stock ownership plan
obligation -- -- -- -- -- 163 -- 163
Tax benefit from stock option and award plans -- -- 5,183 -- -- -- -- 5,183
Other -- -- (2) (1) -- -- -- (3)
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1998 116,319 $290,797 $241,333 $1,286,512 $(31,781) $ -- $ (7,066) $1,779,795
- -----------------------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
70
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- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
First American Corporation and Subsidiaries
- --------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31
-------------------------------------------
(in thousands) 1998 1997 1996
- ---------------------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net income $ 211,362 $ 247,514 $ 214,179
Adjustments to reconcile net income to net cash provided by
operating activities:
Provision for loan losses 40,933 16,109 6,437
Depreciation and amortization of premises and equipment 41,493 40,774 36,986
Amortization of intangible assets 23,816 23,351 17,287
Other amortization (accretion), net 19,094 9,534 2,922
Noncash portion of merger and integration costs 5,900 -- --
Deferred income tax expense 24,738 17,911 24,231
Net loss (gain) on sales and write-downs of other real estate owned 7,240 (4,226) (4,833)
Net realized gains on sales and write-downs of securities (7,999) (4,528) (2,882)
Net gain on sales and write-downs of premises and equipment (972) (796) (370)
Net gain on disposition of branches, business operations, subsidiaries
and other assets (9,528) (7,088) (162)
Change in assets and liabilities, net of effects from acquisitions
and dispositions:
(Increase) decrease in mortgage loans held for sale (97,629) 337 9,088
(Increase) decrease in accrued interest receivable (2,737) (10,953) 3,834
Increase (decrease) in accrued interest payable 384 11,326 (11,258)
Decrease (increase) in trading account securities 20,482 (7,077) (22,619)
Increase in other assets (93,165) (46,910) (5,569)
(Decrease) increase in other liabilities (28,020) (21,834) 84,009
- ---------------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 155,392 263,444 351,280
- ---------------------------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES
Proceeds from sales of securities available for sale 2,094,870 2,708,554 2,177,300
Proceeds from maturities of securities available for sale 1,961,886 565,799 954,494
Purchases of securities available for sale (4,795,290) (3,306,227) (3,683,418)
Proceeds from maturities of securities held to maturity 648,271 463,500 278,945
Purchases of securities held to maturity (443,604) (212,131) (168,211)
Proceeds from sales of other real estate owned 18,491 16,373 16,009
Acquisitions, net of cash and cash equivalents acquired 96,418 76,697 25,156
Sales of branches, business operations, subsidiaries and other assets,
net of cash and cash equivalents disposed of 13,927 8,187 573
Net increase in loans, net of repayments and sales (274,155) (754,305) (499,080)
Proceeds from sales of premises and equipment 17,999 7,092 6,230
Purchases of premises and equipment (44,286) (83,484) (73,272)
- ---------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (705,473) (509,945) (965,274)
- ---------------------------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES
Net increase (decrease) in deposits 590,259 (34,766) 227,533
Net increase in short-term borrowings 230,937 135,894 128,042
Net (repayment of)/proceeds from long-term debt (139) 1,688 99,255
Advances from (repayments to) Federal Home Loan Bank 461,484 328,753 (54,166)
Issuance of common stock under Employee Benefit and Dividend
Reinvestment Plans 18,231 22,710 19,195
Repurchase of common stock (65,384) (197,693) (109,419)
Tax benefit related to stock option and award plans 5,183 5,603 4,530
Cash dividends paid (93,997) (80,177) (65,472)
- ---------------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 1,146,574 182,012 249,498
- ---------------------------------------------------------------------------------------------------------------------------
Increase (decrease)in cash and cash equivalents 596,493 (64,489) (364,496)
Cash and cash equivalents, beginning of year 1,256,228 1,320,717 1,685,213
- ---------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of year $ 1,852,721 $ 1,256,228 $ 1,320,717
===========================================================================================================================
Cash paid during the year for:
Interest expense $ 633,670 $ 588,881 $ 577,551
Income taxes 52,587 103,543 93,845
Non-cash investing activities:
Mortgage loans securitized and retained 1,206,958 -- --
Foreclosures 7,029 5,812 4,247
Change in unrealized gain (loss) on available for sale
securities, net of tax (9,807) 4,950 (25,141)
Stock issued for acquisitions 62,947 94,637 83,723
===========================================================================================================================
See accompanying notes to consolidated financial statements.
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- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
NOTE 1: DESCRIPTION OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF OPERATIONS
First American Corporation ("First American"), a bank holding company
headquartered in Nashville, Tennessee, is a financial services company. Its
major subsidiaries, First American National Bank ("FANB") and First American
Enterprises, Inc. ("Enterprises"), provide a wide range of financial services to
corporate, individual, and institutional customers. Banking services are
provided primarily across the Mid-South region of the United States. Other
financial services are provided throughout the United States through its
Enterprises segment.
See Note 20 for more information about First American's business
segments.
CONSOLIDATION AND BASIS OF PRESENTATION
The consolidated financial statements of First American have been
prepared in conformity with generally accepted accounting principles, including
general practices of the banking industry. In preparing the financial
statements, management makes estimates and assumptions that affect the reported
amounts of certain assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the reported amounts
of related revenues and expenses during the reporting period. Actual results
could differ from those estimates.
The consolidated financial statements include the accounts of First
American and its subsidiaries more than 50 percent owned. Subsidiaries not more
than 50 percent owned are recorded under the equity method and included in other
assets. All significant intercompany accounts and transactions have been
eliminated in consolidation. The consolidated financial statements for prior
periods also reflect certain reclassifications to conform to the 1998
presentation.
CASH AND CASH EQUIVALENTS
Cash and highly liquid investments with maturities of three months or
less when purchased are considered cash and cash equivalents. Cash and cash
equivalents consist primarily of cash and due from banks, time deposits with
other banks, and federal funds sold.
SECURITIES
First American classifies investments in equity securities that have a
readily determinable fair value and investments in debt securities into three
categories: held to maturity debt securities, securities available for sale, and
trading account securities.
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Classification of a debt security as held to maturity is based on First
American's intent and ability to hold such security to maturity. Securities held
to maturity are stated at cost adjusted for amortization of premiums and
accretion of discounts, unless there is a decline in value which is considered
to be other than temporary, in which case the cost basis of such security is
written down to fair value and the amount of the write-down is included in
earnings.
Securities classified as available for sale are reported at fair value
with unrealized gains and losses excluded from earnings and reported, net of
tax, in a separate component of shareholders' equity in other comprehensive
income. All securities not classified as trading account securities or
securities held to maturity are classified as available for sale. These include
securities used as part of First American's asset/liability strategy which may
be sold in response to changes in interest rates, prepayment risk, liquidity
needs, and other similar factors. Gains or losses on the sale of securities
available for sale are recognized at the time of sale (trade date), based upon
the specific identification of the security sold, and are included in
noninterest income in the consolidated income statements. Declines in value that
are considered other than temporary are recorded in noninterest income as a loss
on investment securities.
Securities that are bought and held principally for the purpose of
selling them in the near term are classified as trading account securities,
which are valued at fair value with unrealized gains and losses included in
earnings as trading account revenue. Gains or losses on sales and adjustments to
the fair value of trading account securities are included in noninterest income
as trading account revenue in the consolidated income statements.
Purchased premiums and discounts are amortized and accreted into
interest income on a constant yield basis over the lives of the securities,
taking into consideration current prepayment projections.
DERIVATIVE FINANCIAL INSTRUMENTS
First American enters into interest rate swap and forward interest rate
swap transactions (swaps), as well as interest rate caps, floors, and futures
contracts, in connection with its asset/liability management program in managing
interest rate exposure arising out of nontrading assets and liabilities.
Interest rate impacts of derivative instruments are correlated with interest
rate movements of underlying assets or liabilities. The earnings impact of a
derivative is accrued over the life of the agreement based on expected
settlement payments and is recorded as an adjustment to interest income or
expense in the period in which it accrues and in the category appropriate to the
related asset or liability. The related amount receivable from or payable to the
derivative counterpart is included in other assets or liabilities in the
consolidated balance sheets. Realized and unrealized gains and losses on futures
contracts which are designated as hedges of interest rate exposure arising out
of nontrading assets and liabilities are deferred and recognized as interest
income or interest expense, in the category appropriate to the related asset or
liability, over the covered periods or lives of the hedged assets or
liabilities. Gains or losses on early terminations of derivative financial
instruments that relate to specific assets or liabilities are deferred and
amortized as an adjustment to the yield or rate of the related assets or
liabilities over the remaining covered period. At such time that there is no
longer correlation of interest rate movements between the derivative instrument
and the underlying asset or liability, or if the underlying assets or
liabilities specifically related to a derivative instrument
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matures, are sold or terminated, then the related derivative instrument would be
closed out or marked to market as an element of noninterest income on an ongoing
basis.
Interest rate derivatives used in connection with the securities
available for sale portfolio are carried at fair value with gains and losses,
net of applicable deferred income taxes, reported in stockholders' equity in
other comprehensive income, consistent with the reporting of unrealized gains
and losses on such securities. Premiums paid for interest rate floors qualifying
for hedge accounting are deferred and classified with the assets and liabilities
hedged and are amortized into interest income or expense over the life of the
instrument.
On a limited basis, First American also enters into interest rate swap
agreements, as well as interest rate cap and floor agreements, with customers
desiring protection from possible adverse future fluctuations in interest rates.
As an intermediary, First American generally maintains a portfolio of matched
offsetting interest rate contract agreements. At the inception of such
agreements, the portion of the compensation related to credit risk and ongoing
servicing, if any, is deferred and taken into income over the term of the
agreements.
LOANS
Loans are carried at the principal amount outstanding, including net
deferred loan fees and costs. Unearned discount and the allowance for loan
losses are shown as reductions of loans. Loan origination and commitment fees
and certain loan-related costs are being deferred and the net amount amortized
as an adjustment of the related loan's yield over the contractual life of the
loan. Unearned discount represents the unamortized amount of finance charges,
principally related to certain installment loans. Interest income on loans is
primarily accrued based on the principal amount outstanding.
First American identifies a loan as impaired when it is probable that
First American will be unable to collect the scheduled payments of principal and
interest due under the contractual terms of the loan agreement. The value of
impaired loans is measured at the present value of expected future cash flows
discounted at the loan's effective interest rate, at the loan's observable
market price, or the fair value of the collateral if the loan is collateral
dependent. If the value of the impaired loan is less than the recorded
investment in the loan, First American recognizes this impairment by creating a
valuation allowance with a corresponding charge to the provision for loan losses
or by adjusting an existing valuation allowance for the impaired loan with a
corresponding charge or credit to the provision for loan losses. First
American's consumer loans are divided into various groups that are collectively
evaluated for impairment.
First American considers all loans on nonaccrual status to be impaired.
Commercial loans are placed on nonaccrual status when doubt as to timely
collection of principal or interest exists, or when principal or interest is
past due 90 days or more, unless such loans are well-secured and in the process
of collection. Delays or shortfalls in loan payments are evaluated along with
other factors to determine if a loan should be placed on nonaccrual status.
Generally, loans with delinquencies under 90 days are placed on nonaccrual
status only if specific conditions indicate impairment is probable. The decision
to place a loan on nonaccrual status is also based on an evaluation of the
borrower's financial condition, collateral, liquidation value, and other factors
that affect the borrower's ability to pay.
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Generally, at the time a loan is placed on nonaccrual status, interest
accrued and uncollected on the loan in the current fiscal year is reversed from
income, and interest accrued and uncollected from the prior year is charged off
against the allowance for loan losses. Thereafter, interest on nonaccrual loans
is recognized as interest income only to the extent that cash is received and
future collection of principal is not in doubt. If the collectibility of
outstanding principal is doubtful, such interest received is applied as a
reduction of principal. A nonaccrual loan may be restored to an accruing status
when principal and interest are no longer past due and unpaid and future
collection of principal and interest on a timely basis is not in doubt.
Mortgage loans originated and intended for sale in the secondary market
are carried at the lower of cost or estimated market value in the aggregate. Net
unrealized losses are recognized through a valuation allowance through charges
to earnings.
ALLOWANCE FOR LOAN LOSSES
The provision for loan losses represents a charge to earnings
necessary, after loan charge-offs and recoveries, to maintain the allowance for
loan losses at an appropriate level which is adequate to absorb potential losses
in the portfolio. Such estimated losses arise primarily from the loan portfolio
but may also be derived from other sources, including commitments to extend
credit and standby letters of credit. The level of the allowance for loan losses
is determined on a quarterly basis using procedures which include: (1)
categorizing commercial and commercial real estate loans into risk categories to
estimate loss probabilities based primarily on the historical loss experience of
those risk categories; (2) analyzing significant commercial and commercial real
estate credits and calculating specific reserves as necessary; (3) assessing
various homogeneous consumer loan categories to estimate loss probabilities
based primarily on historical loss experience; (4) reviewing unfunded
commitments; and (5) considering various other factors, such as changes in
credit concentrations, loan mix, and economic conditions.
OTHER REAL ESTATE OWNED
Other real estate owned is reported in other assets and consists
primarily of foreclosed properties. Foreclosed properties include property
acquired in situations in which First American has physical possession of a
debtor's assets (collateral), regardless of whether formal foreclosure
proceedings have taken place. Other real estate owned also includes premises no
longer used for business operations.
Other real estate is valued at the lower of cost or fair value of the
assets minus estimated costs to sell. The fair value of the assets is the amount
that First American could reasonably expect to receive for them in a current
sale between a willing buyer and a willing seller, that is, other than in a
forced or liquidation sale. Cost includes loan principal, foreclosure expense,
and expenditures for subsequent improvements. The excess of cost over fair value
minus estimated costs to sell at the time of foreclosure is charged to the
allowance for loan losses. Subsequent write-downs to fair value minus estimated
costs to sell are included in other real estate owned expense.
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PREMISES AND EQUIPMENT
Premises and equipment are stated at cost less accumulated depreciation
and amortization, which is computed principally on the straight-line method
based on the estimated useful lives of the assets or the lease terms, whichever
is shorter.
Premises and equipment used by First American are reviewed for
impairment when events or changes in circumstances indicate the carrying amount
may not be recoverable. In performing a review for recoverability, First
American estimates the future cash flows expected to result from the use of an
asset and its eventual disposition. If the sum of the expected future cash
flows, undiscounted and without interest charges, is less than the carrying
amount of the asset, an impairment loss is recognized. Measurement of an
impairment loss for assets that First American expects to hold and use is based
on the fair market value of the asset. Assets to be disposed of are reported at
the lower of carrying amount or fair value less cost to sell. Impairment losses
are included as a component of noninterest expense.
OTHER ASSETS
For business combinations accounted for as purchases, the net assets
have been adjusted to their estimated fair values as of the respective
acquisition dates. The value of core deposit rights and the excess of the
purchase price over net assets acquired (goodwill) are recorded in other assets
and are being amortized on a straight-line basis over periods ranging from ten
to fifteen years.
The carrying value of the excess of the purchase price over net assets
acquired is periodically reviewed for impairment. If this review indicates that
the goodwill will not be recoverable, as determined based on the undiscounted
cash flows of the entity acquired over the remaining amortization period, First
American's carrying value of the goodwill will be reduced by the estimated
shortfall of discounted cash flows with a corresponding charge to earnings.
Separate assets are recognized for the rights to service mortgage
loans. The value of mortgage servicing rights is determined by calculating the
net present value of estimated future net cash flows. The mortgage servicing
rights are amortized in proportion to and over the estimated period of the net
servicing revenues. The carrying values of mortgage servicing rights are
periodically evaluated in relation to the fair value of estimated future net
servicing revenues. For purposes of impairment evaluation and measurement, the
risk characteristics used to stratify the mortgage servicing rights are loan
type, payment type, and interest rate stratum, which results in groups of loans
that have similar credit and prepayment risk characteristics. Impairment of
mortgage servicing rights is recorded through a valuation allowance with changes
reflected in earnings.
COMPUTER SOFTWARE COSTS
External direct costs of materials, services utilized in developing or
obtaining internal-use computer software, and payroll-related costs for
employees directly associated with an internal-use computer software project
are capitalized in other assets. Computer software costs that represent research
and development and training costs included in the price of purchased
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computer software are expensed as incurred. Maintenance fees included in the
purchase price are recognized in expense over the maintenance period.
Capitalized computer software costs are amortized over the estimated useful life
of the software on a straight-line basis.
EMPLOYEE BENEFIT PLANS
First American provides a variety of benefit plans to eligible
employees. Retirement plan expense is accrued each year and plan funding
represents at least the minimum amount required by the Employee Retirement
Income Security Act of 1974, as amended. Differences between expense and funded
amounts are carried in other assets or other liabilities. First American
recognizes postretirement benefits other than pensions on an accrual basis and
other postemployment benefits are also recognized on an accrual basis. First
American also makes contributions to an employee thrift and profit-sharing plans
based on employee contributions and performance levels of First American.
INCOME TAXES
First American files a consolidated federal income tax return, with the
exception of its life insurance subsidiaries, which file separate returns. The
provision for income tax expense is determined under the asset and liability
method. Under this method, deferred tax assets and liabilities are determined
based on the differences between financial reporting and tax bases of assets and
liabilities, and are measured using enacted tax rates and laws expected to apply
to taxable income in the years in which these temporary differences are expected
to be recovered or settled. The effect of changes in tax rates is recognized
when the rate is enacted.
EARNINGS PER COMMON SHARE
Basic earnings per share ("EPS") is computed by dividing net income by
the weighted average common shares outstanding. Diluted EPS reflects the
dilution that could occur if securities or other contracts to issue common stock
were exercised or converted.
TREASURY STOCK
Under Tennessee law, when a corporation purchases its common stock in
the open market, such repurchased shares become authorized but unissued.
Accordingly, First American reduces the par value and reflects the excess of the
purchase price over par of any such repurchased shares as a reduction of
additional paid-in capital.
REVENUE RECOGNITION
Commission revenues (included in investment services income) and
subscribers' commissions for IFC are recorded as of trade date. Certain revenues
and subscribers' commissions, such as trailer fee commissions earned from mutual
funds, are estimated based upon historical experience.
Subscribers' commissions are commissions on sales of investment
products marketed by IFC and are paid to subscribing institutions. These
commissions are accrued monthly based
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upon a percentage of gross commissions after deduction of certain contractual
charges, and paid to subscribing institutions in the month following settlement
of the transactions.
STOCK-BASED COMPENSATION
First American accounts for stock-based compensation plans under
Accounting Principles Board Opinion ("APB") No. 25, "Accounting for Stock Issued
to Employees." Compensation cost for fixed and variable stock-based awards is
measured by the excess, if any, of the fair market price of the underlying stock
over the amount the individual is required to pay. Compensation cost for fixed
awards is measured at the grant date, while compensation cost for variable
awards is estimated until both the number of shares an individual is entitled to
receive and the exercise or purchase price are known (measurement date).
ACCOUNTING CHANGE
Statement of Financial Accounting Standards ("SFAS") No. 131,
"Disclosures about Segments of an Enterprise and Related Information," was
adopted at December 31, 1998. SFAS No. 131 requires disclosure of information
about operating segments in financial statements. Operating segments are
business components of an enterprise about which separate financial information
is available that is evaluated regularly by the chief operating decision maker
in deciding how to allocate resources and in assessing performance. Financial
information is required to be reported on the basis that it is used internally
for evaluating segment performance and deciding how to allocate resources.
Adoption of SFAS No. 131 expands disclosures included in the consolidated
financial statements.
RECENT ACCOUNTING PRONOUNCEMENTS
SFAS No. 133, "Accounting for Derivative Instruments and for Hedging
Activities," establishes accounting and reporting standards for derivative
instruments and hedging activities. SFAS No. 133 requires that an entity
recognize the value of derivatives as assets or liabilities on the balance
sheet. Gains or losses resulting from changes in the values of derivatives will
be accounted for depending on the use of the derivative and whether it qualifies
for hedge accounting. The key criterion for hedge accounting is that the hedging
relationship must be highly effective in achieving offsetting changes in fair
value or cash flows. SFAS No. 133 is effective for fiscal years beginning after
June 15, 1999, and shall not be applied retroactively to financial statements of
prior periods. At this time, management has not fully evaluated the impact of
SFAS No. 133. First American plans to adopt SFAS No. 133 prospectively on
January 1, 2000.
NOTE 2: ACQUISITIONS AND DIVESTITURES
Acquisitions
Effective May 1, 1998, First American consummated the acquisition of
Deposit Guaranty by exchanging approximately 48.7 million shares of First
American common stock for all of the outstanding shares of Deposit Guaranty
(based on an exchange ratio of 1.17 shares of First American common stock for
each share of Deposit Guaranty common stock). Deposit Guaranty
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was a $7.2 billion asset financial services holding company headquartered in
Jackson, Mississippi, with banking offices in Mississippi, Louisiana, Arkansas,
and Tennessee. The transaction was accounted for as a pooling of interests, and
accordingly, the consolidated financial statements have been restated to include
the results of Deposit Guaranty for all periods presented.
In April 1998, and in conjunction with the Deposit Guaranty business
combination, the Board of Directors increased the number of authorized shares
from 100 million to 200 million.
Effective November 20, 1998, First American completed the acquisition
of Pioneer by exchanging approximately 6.2 million shares of First American
common stock for all of the outstanding shares of Pioneer (based on an exchange
ratio of 1.65 shares of First American common stock for each share of Pioneer
common stock). Pioneer was a $990 million asset financial services holding
company headquartered in Chattanooga, Tennessee. The transaction was accounted
for as a pooling of interests, and accordingly, the consolidated financial
statements have been restated to include the results of Pioneer for all periods
presented.
Other business combinations completed by First American during the
three years ended December 31, 1998, are presented in the following table (in
millions):
Common
Shares Cash Accounting
Acquiree Location Date Assets Issued Paid Treatment
- ---------------------------------------------------------------------------------------------------------------------
First City Bancorp, Inc. TN Mar. 1996 $ 366 2.1 $ -- Purchase
- ---------------------------------------------------------------------------------------------------------------------
Bank of Gonzolas Holding Company LA June 1996 126 1.5 -- Purchase
- ---------------------------------------------------------------------------------------------------------------------
IFC Holdings, Inc. (formerly INVEST) FL July 1996 29 -- 26 Purchase
- ---------------------------------------------------------------------------------------------------------------------
Tuscaloosa Bancshares, Inc. LA Nov. 1996 41 0.5 -- Purchase
- ---------------------------------------------------------------------------------------------------------------------
Jefferson Guaranty Bancorp, Inc. LA Jan. 1997 299 2.1 10 Purchase
- ---------------------------------------------------------------------------------------------------------------------
Hartsville Bancshares, Inc. TN Jan. 1997 90 0.4 -- Purchase
- ---------------------------------------------------------------------------------------------------------------------
First Capital Bancorp, Inc. LA Mar. 1997 186 1.8 -- Pooling
- ---------------------------------------------------------------------------------------------------------------------
NBC Financial Corporation LA July 1997 69 0.5 -- Purchase
- ---------------------------------------------------------------------------------------------------------------------
Citisave Financial Corporation LA Aug. 1997 75 -- 19 Purchase
- ---------------------------------------------------------------------------------------------------------------------
Victory Bancshares, Inc. TN Mar. 1998 131 0.9 -- Pooling
- ---------------------------------------------------------------------------------------------------------------------
Peoples Bank TN Oct. 1998 142 0.9 -- Pooling
- ---------------------------------------------------------------------------------------------------------------------
The Middle Tennessee Bank TN Oct. 1998 225 1.2 -- Pooling
- ---------------------------------------------------------------------------------------------------------------------
CSB Financial Corporation TN Oct. 1998 148 0.9 -- Pooling
=====================================================================================================================
For the acquisitions accounted for as poolings of interests in the
above table, the results of operations have been included in the consolidated
financial statements from the date of the acquisition as preacquisition amounts
were not material. Accordingly, prior period financial statements have not been
restated since the changes to prior years would have been immaterial. For
acquisitions accounted for as purchases, the results of operations have been
included in the consolidated financial statements from the respective dates of
acquisition. The purchase price in excess of the net assets acquired has been
recorded as goodwill and is being amortized on a straight-line basis over 15
years. The proforma effect on prior financial statements of these acquisitions
is not significant.
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Net interest income and net income as originally reported by First
American, Deposit Guaranty, and Pioneer for the years ended December 31, 1997
and 1996, are presented in the table below:
-----------------------------------------------------------------------------------
Year Ended December 31, 1997 Year Ended December 31, 1996
-------------------------------------- ----------------------------------------
First Deposit First Deposit
(in thousands) American Guaranty Pioneer Combined American Guaranty Pioneer Combined
- -----------------------------------------------------------------------------------------------------------------------
Net interest income $383,410 $278,713 $37,037 $699,160 $349,698 $243,563 $ 30,710 $623,971
Noninterest income 259,594 136,167 9,872 405,633 180,533 123,216 8,178 311,927
Net income 145,472 92,280 9,762 247,514 121,572 83,610 8,997 214,179
=======================================================================================================================
In 1998, Deposit Guaranty had net interest income of $91.4 million,
noninterest income of $49 million, and net income of $32.5 million prior to its
acquisition date. In 1998, Pioneer had net interest income of $38.1 million,
noninterest income of $9.8 million, and net income of $3.1 million prior to its
acquisition date.
On December 16, 1998, First American through its subsidiary IFC
purchased the assets of the Specialized Investment Division (SID) of Financial
Service Corporation. A subsidiary of SunAmerica Inc., SID provides investment
products to customers of community banks and credit unions that do not have
their own broker/dealer capabilities. The $9 million purchase price was
primarily for goodwill and other intangible assets. The goodwill is being
amortized on a straight-line basis over 10 years.
Effective April 1, 1996, FANB purchased 49 percent of the stock of The
SSI Group ("SSI"), a healthcare payments processing company, for $8.6 million.
This investment is being accounted for under the equity method of accounting.
Divestitures
Divestitures by First American during the past three years are
presented below:
- On August 17, 1998, First American completed the sale of Deposit
Guaranty's corporate trust business to The Bank of New York. The
transaction resulted in an initial gain of $7 million ($4.4 million
net of tax) and involved the transfer of approximately 900 bond
trustee and agency relationships representing $8 billion in
outstanding securities for municipalities and corporations located
primarily in Mississippi and Louisiana.
- On August 16, 1998, First American completed the sale of McAfee
Mortgage, a mortgage subsidiary in Texas, and recognized a pretax
gain of $73 thousand.
- Effective July 11, 1998, First American sold certain assets of First
Mortgage Corp., a mortgage subsidiary operating in Nebraska, Iowa,
and Oklahoma, and recognized a pretax loss of approximately $2.4
million.
- On April 3, 1998, First American completed the sale of three
branches in Virginia with total deposits of approximately $37
million for a pretax gain of $2.7 million.
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- On December 22, 1997, First American completed the sale of its
corporate trust business to The Bank of New York for an initial gain
of $2.4 million in 1997. The sale consisted of the transfer of
approximately 250 bond trustee and agency relationships representing
$4 billion of outstanding securities.
- On July 17, 1997, First American completed the sale of Tennessee
Credit Corporation and First City Life Insurance with total assets
of $13.6 million to Norwest Financial Tennessee, Inc. The
transaction resulted in a net gain of $2.1 million.
NOTE 3: MERGER AND INTEGRATION COSTS
First American recorded merger and integration costs of $121.7 million
in 1998. These charges were associated with the acquisitions of Deposit
Guaranty, Pioneer, MTB, CSB, and Peoples. The merger and integration costs
included: $45.8 million of systems and operations conversion costs; $29.1
million of investment banking and other transaction costs; $32.9 million in
termination and personnel-related costs reduced by a $7 million pension
curtailment gain resulting from a reduction in active plan participants in
Deposit Guaranty's Master Retirement Plan; $15 million to fund a charitable
foundation for the Deposit Guaranty market; $3.3 million of compliance costs;
and $2.7 million of occupancy and equipment writedowns.
Termination and personnel-related costs include payments for severance,
retention, change-of-control, outplacement, and other benefits associated with
the termination of employees primarily in corporate support and data processing
functions. Occupancy and equipment writedowns reflect write-offs for duplicate
or abandoned equipment, branches, and office space. Systems and operations
conversion costs result from the conversions and integration of the acquired
branches and operations; such costs are primarily for contract labor, outside
consultants, direct and indirect customer communications, training, and
associated travel.
In connection with the Deposit Guaranty merger and the resulting plan
to consolidate operations, business line locations, and administrative
functions, management approved and communicated employee termination benefits
including severance and retention bonuses of $18.2 million to approximately 900
employees to be involuntarily terminated. Pursuant to the plan, 760 employees
have been terminated and paid $20.5 million in the form of severance, retention
bonuses, outplacement, and change in control payments. With regards to Pioneer,
approximately 140 employees have been notified of employee termination benefits
of $2.9 million. No terminations were made as of December 31, 1998 and such
terminations are anticipated in 1999.
The $18.8 million liability at December 31, 1998, will be paid in 1999
and represents costs that have been incurred primarily for severance and
personnel-related benefits, compliance- related issues, and system conversions.
The following table presents a summary of activity with respect to the merger
and integration costs:
YEAR ENDED
(in millions) DECEMBER 31, 1998
- -----------------------------------------------------------------------------
Charged against income $121.7
Cash outlays (97.0)
Noncash charges, net (5.9)
- -----------------------------------------------------------------------------
Balance at December 31, 1998 $ 18.8
=============================================================================
81
84
NOTE 4: CASH AND DUE FROM BANKS
First American's bank and thrift subsidiaries are required to maintain
reserves, in the form of cash and balances with the Federal Reserve Bank.
Approximately $263.0 and $228.6 million of the cash and due from banks balance
at December 31, 1998 and 1997, respectively, represented reserves maintained in
order to meet Federal Reserve requirements.
NOTE 5: SECURITIES
SECURITIES HELD TO MATURITY
The amortized cost, gross unrealized gains, gross unrealized losses,
and approximate fair values of securities held to maturity at December 31, 1998
and 1997, are presented in the following table:
UNREALIZED
AMORTIZED --------------------------- FAIR
(in thousands) COST GROSS GAINS GROSS LOSSES VALUE
- ------------------------------------------------------------------------------------------------------------------------
DECEMBER 31, 1998
U.S. Treasury and U.S. Government agencies and corporation $ 633,056 $ 5,284 $ 1,737 $ 636,603
Obligations of states and political subdivisions 91,100 4,398 4 95,494
Other debt securities (primarily mortgage-backed securities 1,006,304 2,621 1,170 1,007,755
- ------------------------------------------------------------------------------------------------------------------------
Total securities held to maturity $1,730,460 $ 12,303 $ 2,911 $1,739,852
========================================================================================================================
December 31, 1997
U.S. Treasury and U.S. Government agencies and corporation $ 498,029 $ 3,487 $ 1,228 $ 500,288
Obligations of states and political subdivisions 42,723 1,588 48 44,263
Other debt securities (primarily mortgage-backed securities) 222,671 5,088 495 227,264
- ------------------------------------------------------------------------------------------------------------------------
Total securities held to maturity $ 763,423 $ 10,163 $ 1,771 $ 771,815
========================================================================================================================
The amortized cost and approximate fair values of held to maturity
mortgage-backed securities at December 31, 1998 and 1997, included in U.S.
Treasury and U.S. Government agencies and corporations, and in other debt
securities, are presented in the following table:
AMORTIZED FAIR
(in thousands) COST VALUE
- -----------------------------------------------------------------------------------------------------------
DECEMBER 31, 1998
U.S. Treasury and U.S. Government agencies and corporations $ 576,351 $ 579,593
Other debt securities 945,162 944,298
- -----------------------------------------------------------------------------------------------------------
Total mortgage-backed securities held to maturity $1,521,513 $1,523,891
===========================================================================================================
December 31, 1997
U.S. Treasury and U.S. Government agencies and corporations $ 438,463 $ 440,499
Other debt securities 104,927 104,603
- -----------------------------------------------------------------------------------------------------------
Total mortgage-backed securities held to maturity $ 543,390 $ 545,102
===========================================================================================================
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SECURITIES AVAILABLE FOR SALE
The amortized cost, gross unrealized gains, gross unrealized losses,
and approximate fair values of securities available for sale at December 31,
1998 and 1997, are presented in the following table:
UNREALIZED
AMORTIZED --------------------------- FAIR
(in thousands) COST GROSS GAINS GROSS LOSSES VALUE
- --------------------------------------------------------------------------------------------------------------------------
DECEMBER 31, 1998
U.S. Treasury and U.S. Government agencies and corporations $3,265,370 $ 19,241 $ 28,844 $3,255,767
Obligations of states and political subdivisions 375,100 7,577 3,330 379,347
Other debt securities 752,284 3,224 8,236 747,272
- --------------------------------------------------------------------------------------------------------------------------
Total debt securities 4,392,754 30,042 40,410 4,382,386
Equity securities (primarily Federal Reserve
Bank and Federal Home Loan Bank stock) 112,976 -- 202 112,774
- --------------------------------------------------------------------------------------------------------------------------
Total securities available for sale $4,505,730 $ 30,042 $ 40,612 $4,495,160
==========================================================================================================================
December 31, 1997
U.S. Treasury and U.S. Government agencies and corporations $2,873,330 $ 13,215 $ 12,653 $2,873,892
Obligations of states and political subdivisions 239,738 5,335 196 244,877
Other debt securities 349,184 1,356 2,409 348,131
- --------------------------------------------------------------------------------------------------------------------------
Total debt securities 3,462,252 19,906 15,258 3,466,900
Equity securities (primarily Federal Reserve
Bank and Federal Home Loan Bank stock) 85,285 -- -- 85,285
- --------------------------------------------------------------------------------------------------------------------------
Total securities available for sale $3,547,537 $ 19,906 $ 15,258 $3,552,185
==========================================================================================================================
The amortized cost and approximate fair values of available for sale
mortgage-backed securities at December 31, 1998 and 1997, included in U.S.
Treasury and U.S. Government agencies and corporations, and in other debt
securities, are presented in the following table:
AMORTIZED FAIR
(in thousands) COST VALUE
- ----------------------------------------------------------------------------------------------------------------
DECEMBER 31, 1998
U.S. Treasury and U.S. Government agencies and corporations $2,912,703 $2,904,795
Other debt securities 733,139 728,617
- ----------------------------------------------------------------------------------------------------------------
Total mortgage-backed securities available for sale $3,645,842 $3,633,412
================================================================================================================
December 31, 1997
U.S. Treasury and U.S. Government agencies and corporations $2,249,097 $2,250,005
Other debt securities 338,772 337,694
- ----------------------------------------------------------------------------------------------------------------
Total mortgage-backed securities available for sale $2,587,869 $2,587,699
================================================================================================================
The sale of securities available for sale resulted in gross realized
gains and losses as follows:
YEAR ENDED DECEMBER 31
---------------------------------------
(in thousands) 1998 1997 1996
- -----------------------------------------------------------------------------------------------------------
Gross realized gains $12,123 $14,782 $14,861
Gross realized losses (4,124) (10,254) (11,979)
- -----------------------------------------------------------------------------------------------------------
Net realized gains on sales of securities available for sale $ 7,999 $ 4,528 $ 2,882
===========================================================================================================
83
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TOTAL SECURITIES
The amortized cost and approximate fair values of debt securities at
December 31, 1998, by average estimated maturity are shown below. The expected
maturity for governmental and corporate securities is the stated maturity, and
the expected maturity for mortgage-backed securities and other asset-backed
securities is based on current estimates of average maturities, which include
prepayment assumptions.
SECURITIES HELD TO MATURITY SECURITIES AVAILABLE FOR SALE
------------------------------- -----------------------------------
AMORTIZED FAIR AMORTIZED FAIR
(in thousands) COST VALUE COST VALUE
- -----------------------------------------------------------------------------------------------------------------
Due in one year or less $ 122,860 $ 123,223 $ 592,820 $ 595,717
Due after one year through five years 862,677 867,757 2,880,094 2,863,078
Due after five years through ten years 717,280 720,294 449,772 454,233
Due after ten years 27,643 28,578 470,068 469,359
- -----------------------------------------------------------------------------------------------------------------
Total debt securities 1,730,460 1,739,852 4,392,754 4,382,387
Equity securities -- -- 112,976 112,773
- -----------------------------------------------------------------------------------------------------------------
Total securities $1,730,460 $1,739,852 $4,505,730 $4,495,160
=================================================================================================================
At December 31, 1998 and 1997, First American held securities with
amortized cost amounting to $1,273.5 million and $1,443.7 million, respectively,
which were issued or guaranteed by the Federal National Mortgage Association and
$1,651.0 million and $1,120.5 million, respectively, which were issued or
guaranteed by the Federal Home Loan Mortgage Corporation.
Securities carried in the consolidated balance sheets at approximately
$4,635.6 million and $3,197.4 million at December 31, 1998 and 1997,
respectively, were pledged to secure public and trust deposits, repurchase
transactions, and for other purposes as required or permitted by law.
NOTE 6: LOANS AND ALLOWANCE FOR LOAN LOSSES
First American's bank and thrift subsidiaries have a diversified loan
portfolio consisting of commercial, consumer, and real estate loans primarily
with customers located within First American's market, which is the Mid-South
region of the United States. Mortgage loans held for sale at December 31, 1998
and 1997, were $214.2 million and $116.6 million, respectively, and related net
gains amounted to $13.5 million in 1998 and $11 million in 1997. Total mortgage
loans serviced, including mortgage loans serviced on behalf of First American's
banking subsidiaries, approximated $5.9 billion and $6.4 billion at December 31,
1998 and 1997, respectively.
Loans are either secured or unsecured based on the type of loan and the
financial condition of the borrower. The loans are generally expected to be
repaid from cash flow or proceeds from the sale of selected assets of the
borrower; however, First American is exposed to risk of loss on loans due to the
borrower's difficulties, which may arise from any number of factors including
problems within the respective industry or economic conditions, including those
within First American's market.
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87
Transactions in the allowance for loan losses were as follows:
YEAR ENDED DECEMBER 31
---------------------------------------------
(in thousands) 1998 1997 1996
- ----------------------------------------------------------------------------------------------------------
Balance, January 1 $187,880 $191,228 $197,006
Provision for loan losses 31,387 16,109 6,437
Additional Pioneer loan loss provision 9,546 -- --
Allowance of subsidiary sold -- (252) --
Additions due to business combinations 6,164 8,252 4,188
- ----------------------------------------------------------------------------------------------------------
Subtotal 234,977 215,337 207,631
- ----------------------------------------------------------------------------------------------------------
Loans charged off 64,973 56,392 48,348
Recoveries of loans previously charged off (27,677) (28,935) (31,945)
- ----------------------------------------------------------------------------------------------------------
Net charge-offs 37,296 27,457 16,403
- ----------------------------------------------------------------------------------------------------------
Balance, December 31 $197,681 $187,880 $191,228
==========================================================================================================
Net charge-offs (recoveries) by major loan categories were as follows:
YEAR ENDED DECEMBER 31
---------------------------------------------
(in thousands) 1998 1997 1996
- -----------------------------------------------------------------------------------------------------------
Commercial $ 13,680 $ 13,059 $ (2,205)
Consumer--amortizing mortgages 2,019 1,011 697
Consumer--other 20,903 15,932 18,277
Real estate--construction 250 492 43
Real estate--commercial mortgages and other 444 (3,037) (409)
- -----------------------------------------------------------------------------------------------------------
Total net charge-offs $ 37,296 $ 27,457 $ 16,403
===========================================================================================================
At December 31, 1998 and 1997, loans on a nonaccrual status amounted to
$47.9 million and $38.1 million, respectively. Interest income not recognized on
nonaccrual loans was approximately $2.7 million in 1998, $2.5 million in 1997,
and $2.1 million in 1996.
Certain First American directors and executive officers (and their
associates), were engaged in loan transactions with First American during 1998
and 1997. Such loans are at normal credit terms, including interest rates and
collateral, and do not represent more than a normal risk of collection.
Outstanding balances and activity are presented below:
(in millions) 1998 1997
- -------------------------------------------------------------------------------------
Balance, January 1 $ 98.3 $ 113.6
Additions 4,417.1 3,138.4
Repayments (4,329.1) (3,116.6)
No longer related (20.9) (37.1)
- -------------------------------------------------------------------------------------
Balance, December 31 $ 165.4 $ 98.3
=====================================================================================
Impaired loans and related allocated allowance amounts at December 31,
1998, 1997 and 1996 were as follows:
DECEMBER 31
------------------------------------------------------------------------
1998 1997 1996
----------------------- --------------------- ----------------------
RECORDED ALLOCATED Recorded Allocated Recorded Allocated
(in thousands) INVESTMENT ALLOWANCE Investment Allowance Investment Allowance
- -------------------------------------------------------------------------------------------------------------------
Impaired loans with allocated allowance $21,338 $ 9,581 $23,779 $ 7,333 $12,998 $ 3,187
Impaired loans with no allocated allowance 28,343 -- 18,319 -- 25,511 --
- -------------------------------------------------------------------------------------------------------------------
Total $49,681 $ 9,581 $42,098 $ 7,333 $38,509 $ 3,187
===================================================================================================================
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88
The average recorded investment in impaired loans and related interest
income for the years ended December 31, 1998, 1997, and 1996, were as follows:
(in thousands) 1998 1997 1996
- ------------------------------------------------------------------------------------
Average impaired loans - recorded investment $41,146 $36,159 $45,029
- ------------------------------------------------------------------------------------
Interest income recognized on an accrual basis
during period loans were impaired 375 382 798
====================================================================================
NOTE 7: PREMISES AND EQUIPMENT AND LEASE COMMITMENTS
Premises and equipment are summarized as follows:
DECEMBER 31
---------------------------
(in thousands) 1998 1997
- ------------------------------------------------------------------------------------
Land $ 58,419 $ 60,864
Buildings 318,345 311,324
Furniture and equipment 284,004 305,089
Leasehold improvements 67,020 54,430
Premises leased under capital leases 3,008 3,008
- ------------------------------------------------------------------------------------
Subtotal 730,796 734,715
Accumulated depreciation and amortization (346,931) (349,928)
- ------------------------------------------------------------------------------------
Net book value $383,865 $384,787
====================================================================================
Depreciation and amortization expense of premises and equipment for
1998, 1997, and 1996 was $41.5 million, $40.8 million, and $37.0 million,
respectively.
Rent expense, net of rental income, on bank premises for 1998, 1997,
and 1996 was $5.7 million, $4.5 million, and $3.7 million, respectively. Rental
income on bank premises for 1998, 1997, and 1996 was $12.3 million, $11.3
million, and $10.8 million, respectively. First American is obligated under a
number of noncancelable operating leases for premises and equipment with varying
terms which may include the payment of taxes, insurance, and maintenance costs.
At December 31, 1998, the future minimum lease payments under operating
and capital leases were as follows:
Operating Capital
(in thousands) Total Leases Leases
- ------------------------------------------------------------------------------------
1999 $ 33,527 $ 33,247 $ 280
2000 30,467 30,197 270
2001 22,450 22,180 270
2002 13,763 13,493 270
2003 10,578 10,307 271
Thereafter 65,442 63,913 1,529
- ------------------------------------------------------------------------------------
Total $176,227 $173,337 2,890
- ------------------------------------------------------------------------------------
Purchase option 110
Amounts representing interest at 6.75% (1,720)
- ------------------------------------------------------------------------------------
Total capitalized lease obligations 1,280
Amounts included in short-term borrowings (127)
- ------------------------------------------------------------------------------------
Capitalized lease obligations included in
long-term debt $ 1,153
====================================================================================
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89
First American has a data processing outsourcing agreement expiring in
2001 with an average annual base expense of $11.3 million for future years.
Total annual fees vary with cost of living adjustments and changes in services
provided by the vendor, which depend upon First American's volume of business
and system needs. The related expense is included in system and processing
expense in the consolidated income statements.
NOTE 8: OTHER ASSETS
Goodwill and Other Intangible Assets
Following is a summary of changes in goodwill and other intangible
assets, net of accumulated amortization, included in other assets on the
consolidated balance sheets.
TOTAL TOTAL
OTHER INTANGIBLE
(in thousands) GOODWILL INTANGIBLES ASSETS
- ---------------------------------------------------------------------------------------
Balance, December 31, 1995 $111,279 $ 34,516 $145,795
Additions 71,973 7,042 79,015
Dispositions -- -- --
Amortization (12,429) (4,858) (17,287)
- ---------------------------------------------------------------------------------------
Balance, December 31, 1996 170,823 36,700 207,523
Additions 51,717 15,036 66,753
Dispositions (319) -- (319)
Amortization (16,815) (6,536) (23,351)
- ---------------------------------------------------------------------------------------
Balance, December 31, 1997 205,406 45,200 250,606
Additions 9,694 -- 9,694
Dispositions (6,195) (834) (7,029)
Amortization (17,410) (6,406) (23,816)
- ---------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1998 $191,495 $ 37,960 $229,455
=======================================================================================
Mortgage Servicing Rights
Following is a summary of changes in capitalized mortgage servicing
rights, net of accumulated amortization, included in other assets on the
consolidated balance sheets.
(in thousands) 1998 1997 1996
- --------------------------------------------------------------------------------------
Balance, January 1 $41,729 $36,616 $27,920
Additions 29,567 14,938 13,461
Dispositions -- (2,746) (1,012)
Amortization (9,569) (7,079) (3,753)
- --------------------------------------------------------------------------------------
BALANCE, DECEMBER 31 $61,727 $41,729 $36,616
======================================================================================
Changes in the valuation allowance for capitalized mortgage servicing
rights were as follows:
(in thousands) 1998 1997 1996
- --------------------------------------------------------------------------------------
Balance, January 1 $ (310) $ (259) $ --
Additions (3,543) (51) (259)
- --------------------------------------------------------------------------------------
BALANCE, DECEMBER 31 $ (3,853) $ (310) $ (259)
======================================================================================
87
90
The estimated aggregate fair value of the capitalized mortgage
servicing rights at December 31, 1998 and 1997, was $57.9 million and $46.2
million, respectively.
NOTE 9: SHORT-TERM BORROWINGS
Short-term borrowings are issued on normal banking terms and consisted
of the following:
DECEMBER 31
----------------------------------
(in thousands) 1998 1997
- -------------------------------------------------------------------------------------------------------------------
Federal funds purchased and securities sold under agreements to repurchase $1,988,161 $1,675,370
Other short-term borrowings 225,476 374,708
- -------------------------------------------------------------------------------------------------------------------
Total short-term borrowings $2,213,637 $2,050,078
===================================================================================================================
Other short-term borrowings included U.S. Treasury tax and loan
accounts of $42.7 million and $112.7 million at December 31, 1998 and 1997,
respectively, and advances from the Federal Home Loan Bank ("FHLB") of $148.2
million and $244.4 million at December 31, 1998, and 1997, respectively.
The balance of short-term FHLB advances, weighted-average interest
rates, and maturities at December 31, 1998, are listed below:
AMOUNT MATURING IN:
WEIGHTED- -------------------------------------
AVERAGE
(dollars in millions) INTEREST RATE BALANCE 3 MONTHS 6 MONTHS 12 MONTHS
- -------------------------------------------------------------------------------------------------------------------
Interest rate:
Tied to 3-month LIBOR 5.27% $110.0 $ 10.0 $ -- $100.0
Fixed rate 5.46 38.2 25.0 .2 13.0
-----------------------------------------------------
Total $148.2 $ 35.0 $ .2 $113.0
===================================================================================================================
First American's FHLB advances are collateralized by a blanket pledge on $707
million of 1-4 family mortgage loans and $819 million of investment securities.
The following table presents information regarding federal funds
purchased and securities sold under agreements to repurchase:
DECEMBER 31
---------------------------------------------------
(dollars in thousands) 1998 1997 1996
- -----------------------------------------------------------------------------------------------------------------
Federal funds purchased and securities sold under agreements
to repurchase:
Amount outstanding at December 31 $1,988,161 $1,675,370 $1,535,616
Average rate at December 31 4.49% 4.69% 4.68%
Average amount outstanding during the year $2,007,509 $1,529,640 $1,441,554
Average rate paid for the year 4.91% 4.92% 4.85%
Maximum amount outstanding at any month-end $2,471,737 $1,795,793 $1,558,096
=================================================================================================================
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NOTE 10: LONG-TERM DEBT
Long-term debt consisted of the following:
DECEMBER 31
----------------------------------
(in thousands) 1998 1997
- -------------------------------------------------------------------------------------------------------------------
FHLB advances $ 950,748 $412,090
6 7/8% noncallable subordinated notes (effective rate of 6.965%) due 2003,
interest payable semiannually (less unamortized discount of $137 in
1998 and $169 in 1997) 49,863 49,831
6 5/8% noncallable subordinated notes (effective rate of 6.761%) due 2005,
interest payable semiannually (less unamortized discount of $340 in 1998
and $389 in 1997) 49,660 49,611
7 1/4% noncallable senior notes (effective rate of 7.375%) due 2006, interest
payable semiannually (less unamortized discount of $501 in 1998 and $550
in 1997) 101,212 101,397
8% mortgage note, due 2012, monthly payments of principal and interest 303 --
Capitalized lease obligations 1,153 1,289
- -------------------------------------------------------------------------------------------------------------------
Total long-term debt $1,152,939 $614,218
===================================================================================================================
The balance of long-term FHLB advances, weighted-average interest
rates, and maturities at December 31, 1998, are listed below:
WEIGHTED-
AVERAGE AMOUNT MATURING IN:
INTEREST --------------------------------------------------------
(dollars in millions) RATE BALANCE 2000 2001 2002 2003 2004 THEREAFTER
- ---------------------------------------------------------------------------------------------------------------
Interest rate:
Tied to 1-month LIBOR 5.56% $270.0 $200.0 $ 70.0 $ -- $ -- $ -- $ --
Tied to 3-month LIBOR 5.53 560.0 145.0 -- -- 330.0 85.0 --
Fixed rate 5.42 120.7 .3 .8 7.1 3.0 1.1 108.4
--------------------------------------------------------------------
Total $950.7 $345.3 $ 70.8 $7.1 $333.0 $ 86.1 $108.4
===============================================================================================================
First American's FHLB advances are collateralized by a blanket pledge on $707
million of 1-4 family mortgage loans and $819 million of investment securities.
First American entered into a $100 million unsecured revolving credit
agreement in 1998 which replaced the 1994 $70 million revolving credit
agreement. Under the terms of the agreement, which expires in July 2001, First
American pays a facility fee for the availability of these funds computed at a
rate ranging from 1/10 to 1/4 of 1 percent per annum on the commitment with the
rate depending on First American's Moody's and S&P ratings of its senior
unsecured long-term debt securities. The agreement also provides for First
American to pay a utilization fee computed at 1/20 to 3/20 percent per annum on
the average daily principal amount of borrowings exceeding 50 percent of the
aggregate commitment with the rate depending on First American's credit ratings
of its unsecured long-term debt securities. Interest to be paid on the
outstanding balances will be computed based on the corporate base rate of the
lending bank, federal funds effective rates or Eurodollar rates. First American
had no revolving credit borrowings outstanding at December 31, 1998, or 1997.
The terms of the credit agreements provide for, among other things,
restrictions on payment of cash dividends and purchases, redemptions, and
retirement of capital shares. Under First American's most restrictive debt
covenant, approximately $215.7 million of retained earnings was available to pay
dividends as of December 31, 1998.
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92
NOTE 11: EMPLOYEE BENEFIT PLANS
RETIREMENT PLAN AND OTHER POSTRETIREMENT BENEFITS
First American and its subsidiaries participate in noncontributory
retirement plans with death and disability benefits covering substantially all
employees (except the employees of IFC) with one or more years of service. The
benefits are based on years of service and average monthly earnings of a
participant for the 60 consecutive months which produce the highest average
earnings.
In addition to pension benefits, First American and its subsidiaries
have postretirement benefit plans that provide medical insurance and death
benefits for substantially all retirees (except the retirees of IFC) and
eligible dependents. Because the death benefit plan, which was terminated during
1998, is not significant, it is combined with the medical insurance plans for
disclosure purposes.
The following table presents a reconciliation of (a) the benefit
obligation between the beginning and the end of the year, (b) the fair value of
plan assets between the beginning and the end of the year, and (c) the funded
status of the plan with amounts recognized in First American's consolidated
balance sheets for 1998 and 1997 for the retirement plans and the other
postretirement benefit plans. The table includes the retirement and other
postretirement plans of the 1998 business combinations. No additional minimum
pension liability was required to be recognized in either 1998 or 1997.
RETIREMENT PLAN OTHER POSTRETIREMENT BENEFITS
------------------------------- ------------------------------
(in thousands) 1998 1997 1998 1997
- ----------------------------------------------------------------------------------------------------------------
CHANGE IN BENEFIT OBLIGATION
Benefit obligation at beginning of year $238,058 $216,863 $ 20,354 $ 18,703
Service cost 8,642 7,946 449 434
Interest cost 16,973 15,918 1,442 1,423
Plan participants' contributions -- -- 978 849
Amendments 1,445 59 (7,505) --
Actuarial loss 21,398 6,413 1,034 1,123
Acquisitions -- 944 -- --
Curtailment (7,924) -- (1,445) --
Benefits paid (11,824) (10,085) (2,619) (2,178)
- -----------------------------------------------------------------------------------------------------------------
Benefit obligation at end of year $266,768 $238,058 $ 12,688 $ 20,354
=================================================================================================================
CHANGE IN PLAN ASSETS
Fair value of plan assets at beginning of year $307,734 $255,343 $ -- $ --
Actual return on plan assets 63,474 60,048 -- --
Acquisitions -- 2,429 -- --
Employer contribution -- -- 1,641 1,329
Plan participants' contributions -- -- 978 849
Benefits paid (11,824) (10,085) (2,619) (2,178)
- -----------------------------------------------------------------------------------------------------------------
Fair value of plan assets at end of year $359,384 $307,735 $ -- $ --
=================================================================================================================
Funded status at end of year $ 92,616 $ 69,676 $(12,688) $(20,354)
Unrecognized net actuarial loss (gain) (57,234) (46,046) 119 (717)
Unrecognized prior service cost 2,597 2,055 (6,085) --
Unrecognized net transition asset (obligation) (1,853) (2,754) 172 229
- -----------------------------------------------------------------------------------------------------------------
Prepaid (accrued) benefit cost $ 36,126 $ 22,931 $(18,482) $(20,842)
=================================================================================================================
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93
Of the year-end benefit obligation for postretirement benefits, amounts
attributable to life insurance benefits were $.8 million and $1.1 million at
December 31, 1998 and 1997, respectively.
Components of the net periodic benefit cost were as follows:
RETIREMENT PLAN OTHER POSTRETIREMENT BENEFITS
-------------------------------- ----------------------------------
1998 1997 1996 1998 1997 1996
- -------------------------------------------------------------------------------------------------------------------
COMPONENTS OF NET PERIODIC BENEFIT COST
(BENEFIT)
Service cost $ 8,642 $ 7,946 $ 7,250 $ 449 $ 434 $ 330
Interest cost 16,973 15,918 14,659 1,441 1,423 1,339
Expected return on plan assets (28,095) (23,071) (20,603) -- -- --
Amortization of prior service cost 381 421 412 -- -- --
Amortization of net gain (2,793) (275) -- (9) (14) (1,449)
Amortization of transition (asset) obligation (901) (901) (849) 57 57 57
Amortization of plan amendment -- -- -- (1,420) -- --
Change due to acquisition -- -- 43 -- -- --
Curtailment gain (7,402) -- -- (1,237) -- --
- -------------------------------------------------------------------------------------------------------------------
Net periodic benefit cost (benefit) $(13,195) $ 38 $ 912 $ (719) $ 1,900 $ 277
===================================================================================================================
During 1998 the Corporation experienced a $7.4 million curtailment gain
in its retirement plan due to the estimated effect of significant employee
terminations associated with the Deposit Guaranty merger. The curtailment gain
was recorded as a reduction of merger and integration costs. Also during 1998,
the Corporation terminated and settled its postretirement death benefits plan,
resulting in a curtailment gain of $1.2 million.
Weighted-average assumptions at December 31 used in accounting for the
plans were as follows:
1998 1997 1996
- --------------------------------------------------------------------------------------
Discount rate 6.75% 7.25% 7.25 - 7.75%
Expected return on plan assets 9.30 9.00 - 9.30 9.00 - 9.30
Rate of compensation increase 5.40 5.00 - 5.30 5.00 - 5.15
======================================================================================
For measurement purposes, an 8 percent annual rate of increase in the
per capita cost of covered health care benefits was assumed for 1999. The rate
was assumed to decrease gradually to 5.5 percent for 2010 and remain at that
level thereafter.
Assumed healthcare cost trend rates have a significant effect on the
amounts reported for the medical insurance plans. A one-percentage-point change
in assumed health care cost trend rates would have the following effects:
1-Percentage- 1-Percentage-
(in thousands) Point Increase Point Decrease
- ------------------------------------------------------------------------------------------------
Effect on total of service and interest cost components $ 1,856 $ 1,712
Effect on postretirement benefit obligation 13,179 12,255
================================================================================================
First American continues to fund medical benefit costs principally on a
pay-as-you-go basis.
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SUPPLEMENTAL RETIREMENT PLAN
First American has a retirement plan which provides supplemental
retirement benefits to certain executives. The expense was $.4 million in 1998,
$.3 million in 1997, and $.3 million in 1996. Benefit payments from the plan are
made from general assets of First American. The weighted average discount rate
and rate of increase in future compensation levels used in determining the
actuarial present value of the projected benefit obligation at December 31, 1998
were 6.75 percent and 5.4 percent, respectively, and at December 31, 1997 were
7.25 percent and 5.3 percent, respectively.
OTHER EMPLOYEE BENEFITS
- - First American has a combination savings thrift and profit-sharing plan
("FIRST Plan") available to all employees (except the employees of IFC and
hourly paid and special exempt-salaried employees). The plan is funded by
employee and employer contributions. First American's annual contribution
to the plan is based upon the amount of basic contributions of
participants, participants' compensation, and the achievement of certain
corporate performance standards and may be made in the form of cash or
First American's common stock with a market value equal to the cash
contribution amount. Total plan expense was $8.8 million in 1998, $8.4
million in 1997 and $7.2 million in 1996. During 1998, 1997 and 1996 First
American matched employees' qualifying contributions at 100 percent.
- - In 1983, IFC formed the Salary Savings Retirement Plan. IFC has also
established a profit sharing plan covering certain employees. Contributions
to both plans totaled $.4 million in 1998 and $.5 million in 1997.
- - Certain of the companies which First American acquired during 1998 sponsored
various employee benefit plans. Such plans, including the 401(k) plans,
ESOPs, and deferred compensation plans, are in the process of being
terminated or frozen and their employees are participating or will be
participating in First American's retirement and other benefit plans. The
liabilities, if any, for such terminations have been recorded as of December
31, 1998.
NOTE 12: INCOME TAXES
The components of income tax expense are presented below:
YEAR ENDED DECEMBER 31
-------------------------------------
(in thousands) 1998 1997 1996
- ----------------------------------------------------------------------------------------------
Income tax expense from continuing operations:
Current federal income taxes $ 95,709 $110,423 $ 83,766
Current state income taxes 1,644 13,732 9,882
Deferred federal income tax expense 22,297 15,639 20,533
Deferred state income tax expense 2,441 2,272 3,698
- ----------------------------------------------------------------------------------------------
Total income tax expense from continuing operations 122,091 142,066 117,879
- ----------------------------------------------------------------------------------------------
Income tax expense (benefit) reported in
shareholders' equity related to:
Securities available for sale (7,806) 2,857 (15,818)
Employee stock option and award plans (5,043) (5,603) (4,530)
- ----------------------------------------------------------------------------------------------
Total income tax expense (benefit) reported in
shareholders' equity (12,849) (2,746) (20,348)
- ----------------------------------------------------------------------------------------------
Total income taxes $109,242 $139,320 $ 97,531
==============================================================================================
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The following table presents a reconciliation of income tax expense as
shown in the consolidated income statements with that which would be computed by
applying the statutory federal income tax rate of 35 percent to income before
income tax expense.
YEAR ENDED DECEMBER 31
-------------------------------------------
(in thousands) 1998 1997 1996
- -------------------------------------------------------------------------------------------------------------------
Tax expense at statutory rates $116,709 $136,213 $116,100
Increase (decrease) in taxes resulting from:
Tax-exempt interest income (8,631) (7,667) (8,576)
Cash surrender value of life insurance (1,779) (1,680) (1,461)
Amortization of intangibles 5,863 5,618 4,096
Acquisition expenses 6,301 (12) (352)
State income taxes, net of federal income tax benefit 2,656 10,469 8,880
Other, net 972 (875) (808)
- -------------------------------------------------------------------------------------------------------------------
Total income tax expense from continuing operations $122,091 $142,066 $117,879
===================================================================================================================
The 1998 and 1997 net deferred tax liability is included in other
liabilities on the consolidated balance sheets. Management believes that it is
more likely than not that the deferred tax asset will be realized. Significant
components of the deferred tax asset and liability are as follows:
YEAR ENDED DECEMBER 31
------------------------
(in thousands) 1998 1997
- -------------------------------------------------------------------------------------------------------
Deferred tax asset
Allowance for loan losses $ 69,842 $ 68,733
Deferred compensation 14,535 14,829
Postretirement benefit obligation 7,901 9,124
Unrealized loss on securities available for sale 4,907 --
Other 17,934 19,120
- -------------------------------------------------------------------------------------------------------
Total deferred tax asset 115,119 111,806
- -------------------------------------------------------------------------------------------------------
Deferred tax liability
Property, plant, and equipment 20,242 12,610
Direct lease financing 64,510 54,000
Unrealized gain on securities available for sale -- 1,584
Purchase accounting 13,363 15,284
Intercompany dividend 7,350 --
Mortgage servicing rights 12,675 10,031
Retirement plan 7,159 8,568
Other 14,314 10,958
- -------------------------------------------------------------------------------------------------------
Total deferred tax liability 139,613 113,035
- -------------------------------------------------------------------------------------------------------
Net deferred tax liability $(24,494) $ (1,229)
=======================================================================================================
NOTE 13: CAPITAL STOCK
On July 16, 1998, the Board of Directors authorized a new Rights
Agreement between First American and First Chicago Trust Company of New York, as
Rights Agent (the "1998 Rights Plan"). The 1998 Rights Plan replaced First
American's Rights Agreement, dated December 14, 1988, which expired on December
27, 1998 (the "1988 Rights Plan"). The primary purpose of the 1998 Rights Plan,
like that of the 1988 Rights Plan, is to enhance the ability of First American's
Board of Directors to protect the interests of all shareholders in connection
with any effort to acquire control of First American.
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First American has stock-based compensation plans for certain officers
and other key employees. The plans provide for restricted stock incentives based
on the attainment of annual and long-term performance goals. Stock-based
compensation plans also include stock option programs, which provide for the
granting of statutory incentive stock options and nonstatutory options to key
employees. Additionally, First American has a stock option plan for nonemployee
directors. As of December 31, 1998, First American had 20.8 million shares of
common stock reserved for issuance under these plans.
Since 1991, First American has issued restricted common stock to
certain executive officers. The restrictions lapse within primarily 10 years of
issuance; however, if certain performance criteria are met, restrictions will
lapse earlier. The amount recorded for the restricted stock issued is based on
the market value of First American's common stock on the award dates and is
shown as deferred compensation in shareholders' equity. Such compensation
expense is recognized over periods ranging from three to ten years. The amount
of compensation expense recognized from awards of restricted stock in First
American's consolidated financial statements for 1998, 1997, and 1996 was $7.2
million, $3.4 million, and $1.4 million, respectively.
The following table summarizes First American's restricted stock grants
and the weighted-average fair values at grant date:
YEAR ENDED DECEMBER 31
------------------------------------------
1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------
Restricted stock granted during the year 632,248 470,594 97,776
Weighted-average fair value of restricted stock granted during the year $45.47 $34.65 $23.14
==================================================================================================================
As discussed under Note 1, First American has chosen to follow APB
Opinion No. 25 and related interpretations in accounting for employee stock
options, and accordingly, no compensation expense has been recognized for
options granted during 1998, 1997, and 1996. Had First American used the
provisions under SFAS No. 123, the fair value of each option granted would be
estimated on the date of grant using the Black-Scholes option-pricing model.
Based on this fair value calculation of compensation expense, net income and
earnings per share on a proforma basis have been computed and are compared with
reported amounts in the table below:
YEAR ENDED DECEMBER 31
----------------------------------
(dollars in millions, except per share amounts) 1998 1997 1996
- -------------------------------------------------------------------------------------------------
Net income, as reported $211.4 $247.5 $214.2
Net income, proforma 208.2 245.5 213.1
- -------------------------------------------------------------------------------------------------
Basic earnings per share, as reported 1.88 2.19 1.93
Basic earnings per share, proforma 1.85 2.17 1.92
- -------------------------------------------------------------------------------------------------
Diluted earnings per share, as reported 1.84 2.15 1.91
Diluted earnings per share, proforma 1.82 2.14 1.90
=================================================================================================
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The effects of applying SFAS No. 123, for either recognizing or
disclosing compensation cost under such pronouncement, may not be representative
of the effects on reported net income in future years. The following
weighted-average assumptions were used in the Black-Scholes option-pricing
model:
YEAR ENDED DECEMBER 31
----------------------------------
1998 1997 1996
- ------------------------------------------------------------------------------------------------------------
Risk-free interest rate during the life of the option 5.50% 6.49% 5.69%
Expected life of the option (in years) 6.1 6.1 6.1
Expected dividend yield over the expected life of the option 2.12% 2.56% 2.75%
Expected volatility of the stock over the option's life 23.75 22.50 22.45
============================================================================================================
A summary of First American's stock option plans as of December 31,
1998, 1997, and 1996, and changes during the years ended on those dates is
presented below:
1998 1997 1996
----------------------- ----------------------- -----------------------
TOTAL WEIGHTED- Total Weighted- Total Weighted-
OPTION AVERAGE Option Average Option Average
SHARES EXERCISE Shares Exercise Shares Exercise
OUTSTANDING PRICE Outstanding Price Outstanding Price
- -------------------------------------------------------------------------------------------------------------------
Options outstanding at beginning of year 4,534,363 $18.66 4,576,823 $15.55 4,434,667 $12.24
Options granted 775,163 47.19 926,726 29.20 1,202,840 22.68
Options exercised (697,155) 46.85 (829,966) 12.47 (997,654) 9.24
Options cancelled (192,739) 30.47 (139,220) 23.80 (63,030) 17.39
Options expired -- -- -- -- -- --
- -------------------------------------------------------------------------------------------------------------------
Options outstanding at end of year 4,419,632 $23.68 4,534,363 $18.66 4,576,823 $15.55
- -------------------------------------------------------------------------------------------------------------------
Options exercisable at end of year 2,387,399 $16.64 2,382,978 $14.60 2,434,238 $12.41
Weighted-average fair value of options
granted during year $13.07 $10.20 $6.02
===================================================================================================================
The following table summarizes information about stock options
outstanding at December 31, 1998:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------- ----------------------------
OPTIONS WEIGHTED- OPTIONS
OUTSTANDING AVERAGE WEIGHTED- EXERCISABLE WEIGHTED-
Range of AT REMAINING AVERAGE AT AVERAGE
Exercise DECEMBER 31, CONTRACTUAL LIFE EXERCISE DECEMBER 31, EXERCISE
Prices 1998 (YEARS) PRICE 1998 PRICE
- -----------------------------------------------------------------------------------------------------------------
$ 4.625 - $10.940 394,926 2.47 $ 7.88 394,926 $ 7.88
$10.950 - $14.750 829,187 4.43 13.01 695,307 12.72
$14.760 - $20.000 758,314 5.05 17.15 615,693 17.12
$20.001 - $24.625 957,865 6.90 22.55 431,125 22.06
$24.626 - $29.563 701,113 8.02 28.75 208,412 27.86
$29.564 - $44.999 71,670 8.65 34.17 8,730 32.81
$45.000 - $55.000 706,557 9.03 47.49 33,206 49.32
- -----------------------------------------------------------------------------------------------------------------
$ 4.625 - $55.000 4,419,632 6.27 $23.68 2,387,399 $16.64
=================================================================================================================
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NOTE 14: COMPUTATION OF EARNINGS PER COMMON SHARE
YEAR ENDED DECEMBER 31
-----------------------------------------------
(in thousands, except per share amounts) 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------
Basic
Average common shares outstanding 112,517 112,907 110,727
==================================================================================================================
Net income $211,362 $247,514 $214,179
==================================================================================================================
Per share amount $1.88 $2.19 $1.93
==================================================================================================================
Diluted
Average common shares outstanding 112,517 112,907 110,727
Forward purchase commitment -- 21 --
Dilutive common stock options at average market price 2,165 2,321 1,559
- ------------------------------------------------------------------------------------------------------------------
Average diluted shares outstanding 114,682 115,249 112,286
==================================================================================================================
Net income $211,362 $247,514 $214,179
==================================================================================================================
Per share amount $1.84 $2.15 $1.91
==================================================================================================================
The effect from assumed exercise of .5 million and .6 million of stock
options was not included in the computation of diluted earnings per share for
1998 and 1996, respectively, because such shares would have had an antidilutive
effect on earnings.
NOTE 15: OFF-BALANCE-SHEET AND DERIVATIVE FINANCIAL INSTRUMENTS
In the normal course of business, First American is a party to
financial transactions which have off-balance-sheet risk. Such transactions
arise in meeting customers' financing needs and from First American's activities
in reducing its own exposure to fluctuations in interest rates.
Off-balance-sheet items involving customers consist primarily of commitments to
extend credit and letters of credit, which generally have fixed expiration
dates. These instruments may involve, to varying degrees, elements of credit and
interest rate risk. To evaluate credit risk, First American uses the same credit
policies in making commitments and conditional obligations on these instruments
as it does for instruments reflected on the balance sheet. Collateral obtained,
if any, varies but may include deposits held in financial institutions; U.S.
Treasury securities or other marketable securities; income-producing commercial
properties; accounts receivable; property, plant, and equipment; and inventory.
First American's exposure to credit risk under commitments to extend credit and
letters of credit is the contractual (notional) amount of the instruments.
Interest rate contract transactions may have credit and interest rate risk
significantly less than the contractual amount.
COMMITMENTS
Commitments to extend secured or unsecured credit are contractual
agreements to lend money provided there is no violation of any condition.
Commitments may require payment of a fee. Since many of the commitments are
expected to expire without being drawn upon, the total commitment amounts do not
necessarily represent future cash requirements. At December 31, 1998 and 1997,
respectively, First American had $4.8 billion and $5.2 billion of unfunded
commitments to extend credit. Of these amounts, unfunded commitments for
borrowers with loans on nonaccrual status were $1.8 million at December 31,
1998, and $.1 million at December 31, 1997.
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Standby letters of credit are commitments issued by First American to
guarantee the performance of a customer to a third party. As of December 31,
1998 and 1997, First American had standby letters of credit issued amounting to
approximately $406.9 million and $406 million, respectively. First American also
had commercial letters of credit of $51 million and $40.9 million at December
31, 1998 and 1997, respectively. Commercial letters of credit are conditional
commitments issued by First American to facilitate trade for corporate
customers. The credit risk involved in issuing letters of credit is essentially
the same as that involved in extending loan facilities to customers.
Forward commitments are contracts for the delayed delivery of
securities in which the seller agrees to make delivery of a specified instrument
at a specified future date and at a specified price or yield. Credit risk may
arise from the possibility that counterparties may not have the ability to
fulfill their commitments, while market risk may arise from movements in
interest rates and security values. As of December 31, 1998, the contract
amounts for forward commitments totaled $99 million compared to $139 million at
December 31, 1997.
First American contracts to buy and sell foreign exchange primarily to
meet the currency needs of its customers and to hedge any resulting exposure
against market risk. At December 31, 1998 and 1997, First American had $15.3
million and $30.6 million, respectively, of foreign exchange forward contracts,
which is the sum of customers' contracts and First American's offsetting
contracts to minimize its exposure.
DERIVATIVES
First American's principal objective in holding or issuing derivative
financial instruments is the management of interest rate exposure arising out of
nontrading assets and liabilities. First American's earnings are subject to risk
of interest rate fluctuations to the extent that interest-earning assets and
interest-bearing liabilities mature or reprice at different times or in
differing amounts. First American's objective is to manage the interest
sensitivity position so that net income will not be impacted more than 5 percent
for interest rates varying up to 150 basis points from the most likely interest
rate forecast over the next 12 months.
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To achieve its risk management objective, First American uses a
combination of derivative financial instruments, particularly interest rate
swaps. The instruments utilized are noted in the following table along with
their notional amounts and fair values at year-end 1998 and 1997:
WEIGHTED-
AVERAGE
WEIGHTED-AVERAGE RATE MATURITY
RELATED VARIABLE RATE NOTIONAL --------------------- -------- FAIR
(dollars in thousands) ASSET/LIABILITY AMOUNT PAID RECEIVED YEARS VALUE
- ----------------------------------------------------------------------------------------------------------------------------------
DECEMBER 31, 1998
Interest rate swaps Money market deposits $ 200,000 5.49%(1) 5.27% (2) 2.5 $ (1,052)
Interest rate swaps Commercial loans 625,000 5.30 (2) 6.57 (1) 3.4 24,933
Interest rate swaps Mortgage loans 19,700 6.65 (1) 5.59 (3) 8.6 (1,132)
Interest rate swaps FHLB advances 85,000 6.33 (1) 5.25 (2) 5.7 (4,811)
Interest rate swaps Available for sale securities 200,000 5.30 (1) 5.36 (2) 3.0 (1,999)
Forward interest rate swaps Money market deposits 350,000 5.78 (1) N/A (2,4) 2.4 (4,101)
Forward interest rate swaps Available for sale securities 1,700,000 5.88 (1) 5.31 (2,5) 2.0 (21,541)
---------- ----------
Total interest rate contracts $3,179,700 $ (9,703)
==================================================================================================================================
December 31, 1997
Interest rate swaps Money market deposits $ 150,000 5.97%(1) 5.91% (2) 2.1 $ 164
Interest rate swaps Commercial loans 775,000 5.82 (2) 6.61 (1) 4.3 17,507
Interest rate swaps Mortgage loans 21,225 6.65 (1) 6.00 (3) 9.5 (545)
Interest rate swaps FHLB advances 85,000 6.33 (1) 5.88 (2) 6.7 (1,439)
Interest rate swaps Available for sale securities 50,000 5.75 (2) 5.77 (6) 4.8 (693)
Forward interest rate swaps Money market deposits 600,000 6.46 (1) 5.89 (2,7) 1.3 (1,821)
Forward interest rate swaps Available for sale securities 750,000 6.24 (1) N/A (2,8) 2.5 (2,755)
---------- ----------
Total interest rate swaps 2,431,225 10,418
Interest rate floors Commercial loans 300,000 5.37 (9) N/A 2.9 1,604
---------- ----------
Total interest rate contracts $2,731,225 $ 12,022
==================================================================================================================================
(1) Fixed rate.
(2) Variable rate which reprices quarterly based on 3-month LIBOR.
(3) Variable rate which reprices monthly based on 1-month LIBOR.
(4) Forward swap periods will begin at various dates during 1999. Variable
rates were unknown at December 31, 1998.
(5) Forward swap periods have become effective for $750 million and will begin
at various dates during 1999 for $950 million. Variable rates were unknown
at December 31, 1998, for forward swaps which were not yet effective.
Variable rates are based on LIBOR and will reprice quarterly except $400
million which will reprice semi-annually.
(6) Variable rate which reprices quarterly based on the constant maturity
treasury index.
(7) Forward swap periods have become effective for $150 million and will begin
at various dates during 1998 for $450 million. Variable rates
were unknown at December 31, 1997, for forward swaps which were not yet
effective.
(8) Forward swap periods began at various dates during 1998. Variable rates
were unknown at December 31, 1997, for forward swaps which were not yet
effective.
(9) Fixed rate strike price, based on the 3-month LIBOR rate.
Notional amounts are key elements of derivative financial instrument
agreements. However, notional amounts do not represent the amounts exchanged by
the parties to derivatives and do not measure First American's exposure to
credit or market risks. The amounts exchanged are based on the notional amounts
and the other terms of the underlying derivative agreements. First American's
credit exposure at the reporting date from derivative financial instruments is
represented by the fair value of instruments with a positive fair value at that
date offset by the effect of master netting agreements and by any collateral
held. Credit risk disclosures, however, relate to losses that would be
recognized if counterparties failed completely to perform their obligations.
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The risk that counterparties to derivative financial instruments might
default on their obligations is monitored on an ongoing basis. To manage the
level of credit risk, First American reviews the credit standing of its
counterparties and enters into master netting agreements whenever possible, and
when appropriate, obtains collateral. Master netting agreements incorporate
rights of setoff that provide for the net settlement of subject contracts with
the same counterparties in the event of default.
Interest rate swap contracts are used to convert certain deposits and
long-term debt to fixed interest rates, to convert certain groups of customer
loans to fixed rates, and to hedge market value fluctuations of available for
sale securities. First American's net credit exposure with interest rate
contract counterparties, considering master netting agreements and collateral
held, totaled $14.8 million at December 31, 1998, and $14.1 million at December
31, 1997.
At December 31, 1998, First American did not have any outstanding
interest rate floors. However, during 1995, interest rate floors were purchased
in anticipation of decreases in interest rates. These floors limited First
American's exposure to unfavorable interest rate fluctuations below a particular
rate for commercial loans. A premium was paid for this protection. The risk
assumed by First American was limited to the amount of the premium and not the
notional amount of the interest rate floor. At December 31, 1997, the
unamortized portion of the interest rate floor was $1.9 million.
The table below presents the net deferred gains related to terminated
derivative financial instruments at December 31, 1998 and 1997, and their
locations within the consolidated balance sheets. All of the net deferred gains
are related to interest rate swaps.
DECEMBER 31
------------------------------
(in thousands) 1998 1997
- -------------------------------------------------------------------------------------
Related to interest rate swaps
Deferred gains included in other liabilities $20,828 $11,189
Deferred losses included in other assets (6,163) (5,787)
- -------------------------------------------------------------------------------------
Total net deferred gains $14,665 (1) $ 5,402 (2)
=====================================================================================
(1) $2.5 million of net deferred gains to be recognized during 1999 and $12.2
million of net deferred gains to be recognized during 2000 through 2006.
(2) $1.1 million of net deferred gains recognized during 1998 and $4.3 million
of net deferred gains to be recognized during 1999 through 2006.
NOTE 16: LEGAL AND REGULATORY MATTERS
First American is subject to various regulatory capital requirements
administered by the federal 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 direct
material effect on First American's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, First
American must meet specific capital guidelines that involve quantitative
measures of assets, liabilities, and certain off-balance-sheet items as
calculated under regulatory accounting practices. Capital amounts and
classification are also subject to qualitative judgments by the regulators about
components, risk weightings, and other factors.
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Quantitative measures established by regulation to ensure capital
adequacy require First American to maintain minimum ratios of Tier I and total
capital to risk-weighted assets, and of Tier I capital to average assets of 4
percent, 8 percent, and 4 percent, respectively. Management believes as of
December 31, 1998, that First American met all capital adequacy requirements to
which it was subject.
As of December 31, 1998, the most recent notification from the OCC
categorized FANB as well capitalized under the regulatory framework for prompt
corrective action. To be categorized as well capitalized, FANB must maintain
minimum Tier I risk-based capital, total risk-based capital, and Tier I leverage
ratios of 6 percent, 10 percent, and 5 percent, respectively. There are no
conditions or events since that notification that management believes would
change FANB's well capitalized status. The actual capital amounts and ratios for
First American and FANB are presented in the table below:
CORPORATION FIRST AMERICAN NATIONAL BANK
--------------------------- -----------------------------
DECEMBER 31 DECEMBER 31
-------------------------------------------------------------
(dollars in thousands) 1998 1997 1998 1997
- -----------------------------------------------------------------------------------------------------------------
CAPITAL COMPONENTS
Tier I capital:
Realized shareholders' common equity $ 1,786,861 $ 1,641,152 $ 1,894,448 $ 1,726,527
Less disallowed intangibles (234,933) (247,983) (216,404) (229,188
- -----------------------------------------------------------------------------------------------------------------
Total Tier I capital 1,551,928 1,393,169 1,678,044 1,497,339
- -----------------------------------------------------------------------------------------------------------------
Tier II capital:
Allowable allowance for loan losses 189,394 187,880 188,199 184,553
Unsecured holding company debt 99,523 99,442 -- --
- -----------------------------------------------------------------------------------------------------------------
Total Tier II capital 288,917 287,322 188,199 184,553
- -----------------------------------------------------------------------------------------------------------------
Total capital $ 1,840,845 $ 1,680,491 $ 1,866,243 $ 1,681,892
=================================================================================================================
Risk-adjusted assets $15,143,202 $14,960,708 $15,050,807 $14,948,812
Quarterly average assets 20,102,703 18,063,561 18,889,642 17,692,611
=================================================================================================================
CAPITAL RATIOS(1)
Total risk-based capital ratio 12.16% 11.23% 12.40% 11.25%
Tier I risk-based capital ratio 10.25 9.31 11.15 10.02
Tier I leverage ratio 7.72 7.71 8.88 8.46
=================================================================================================================
(1) Risk-based capital ratios were computed using realized equity (total
shareholders' equity exclusive of net unrealized gains (losses) on
securities available for sale, net of tax).
The extent to which dividends may be paid to First American from its
subsidiaries is governed by applicable laws and regulations. For First
American's national bank subsidiary, the approval of the OCC is required if
dividends declared in any year exceed net profits for that year (as defined
under the National Bank Act) combined with the retained net profits of the two
preceding years. In addition, a national bank may not pay a dividend, make any
other capital distribution, or pay management fees if such payment would cause
it to fail to satisfy certain minimum capital requirements. Under the
regulations of the OTS, a savings association that exceeds its fully phased-in
capital requirements both immediately prior to and on a proforma basis after
giving effect to a proposed capital distribution is generally permitted without
prior approval of the OTS to make a capital distribution during a calendar year
equal to the greater of (i) 100 percent of net earnings to date during the
calendar year, plus the amount that would reduce by one-half its "surplus
capital ratio" (i.e., the excess capital over its fully phased-in capital
requirements) at the beginning of the calendar year; or (ii) 75 percent of its
net income for the previous four quarters. In accordance with the most
restrictive regulations, at December 31,
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1998, the above subsidiaries had $257.6 million available for distribution as
dividends to First American.
On September 30, 1996, special legislation was enacted which required
many financial institutions to pay a one-time assessment on deposits insured by
the Savings Association Insurance Fund ("SAIF") at the rate of $.657 per $100 of
deposits held as of March 31, 1995. First American's assessment was $8.1 million
or $5 million, net of tax ($.05 per share). The purpose of the legislation was
to recapitalize the thrift fund up to the statutorily prescribed 1.25 percent.
Effective January 1, 1997, the normal SAIF deposit insurance rate for
well-capitalized institutions dropped to 0 basis points per $100 of deposits.
Beginning January 1, 1997, a separate 1.3 basis point annual charge will be
assessed through 1999 on Bank Insurance Fund deposits and a 6.4 basis point
annual charge will be assessed on SAIF deposits in order to service debt
incurred by the Financing Corporation, a corporation established by the Federal
Housing Finance Board to issue stock and debt principally to assist in funding
the Federal Savings and Loan Insurance Corporation Resolution Fund. Starting in
the year 2000 until the Financial Corporation debt is retired, banks and thrifts
will pay such assessment on a pro rata basis, which is estimated to run
approximately 2.5 basis points.
Following the adoption of the Financial Institutions Reform, Recovery
and Enforcement Act of 1989, Charter Federal Savings Bank ("Charter" or now
"FAFSB" which was subsequently acquired by First American), brought an action
against the Office of Thrift Supervision and the Federal Deposit Insurance
Corporation seeking injunctive and other relief, contending that Congress'
elimination of supervisory goodwill required rescission of certain supervisory
transactions. The Federal District Court found in Charter's favor, but in 1992
the Fourth Circuit Court of Appeals reversed, and the U.S. Supreme Court denied
Charter's petition for certiorari. In 1995, the Federal Circuit Court found in
favor of another thrift institution in a similar case (Winstar Corp. v. United
States) in which the association sought damages for breach of contract. Charter
also filed suit against the United States Government ("Government") in the Court
of Federal Claims based on breach of contract. Pending the Supreme Court's
review of the Winstar decision, FAFSB's action was stayed. In July 1996, the
Supreme Court affirmed the lower court's decision in Winstar. The stay was
automatically lifted and FAFSB's suit is now proceeding. The Government filed a
motion to dismiss the suit based on the prior Fourth Circuit decision, and FAFSB
filed a Motion for Partial Summary Judgment. These motions have not yet been
decided by the Federal Claims Court.
The value of FAFSB's claims against the Government, as well as their
ultimate outcome, are contingent upon a number of factors, some of which are
outside of FAFSB's control, and are highly uncertain as to substance, timing and
the dollar amount of any damages which might be awarded should FAFSB finally
prevail. Under the Agreement and Plan of Reorganization as amended by and
between FAFSB and First American, in the event that FAFSB is successful in this
litigation, the Charter shareholders as of December 1, 1995, will be entitled to
receive additional consideration equal in value to 50 percent of any recovery,
net of all taxes and certain other expenses, including the costs and expenses of
such litigation, received on or before December 1, 2000, subject to certain
limitations in the case of certain business combinations. Such additional
consideration, if any, is payable in the common stock of First American, based
on the average per share closing price on the date of receipt by FAFSB of the
last payment constituting a recovery from the Government.
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Deposit Guaranty National Bank ("DGNB"), now a division of FANB, is a
defendant in an action brought in Pike County, Mississippi by a land owner and a
gaming corporation, alleging that DGNB and the two defendant casinos entered
into an agreement, expressed or implied, to oppose an application to operate a
casino on the Big Black River in Mississippi. The plaintiffs contend that DGNB
used its influence to cause the Mississippi Gaming Commission to deny the
casino's application. The plaintiffs seek actual damages for injury to property
and business in the total amount of $38 million and punitive damages in the
amount of $200 million. DGNB denies all liability. It is the opinion of
management and counsel that ultimate disposition of the case should not have a
material effect on First American's consolidated financial statements.
There are from time to time other legal proceedings pending against
First American and its subsidiaries. In the opinion of management and counsel,
liabilities, if any, arising from such proceedings presently pending would not
have a material adverse effect on the consolidated financial statements of First
American.
NOTE 17: FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments,"
requires disclosure of fair value information about financial instruments for
both on- and off-balance-sheet assets and liabilities for which it is
practicable to estimate fair value. The techniques used for this valuation are
significantly affected by the assumptions used, including the amount and timing
of future cash flows and the discount rate. Such estimates involve uncertainties
and matters of judgment and therefore cannot be determined with precision. In
that regard, the derived fair value estimates cannot be substantiated by
comparison to independent markets. Accordingly, the aggregate fair value amounts
presented are not meant to represent the underlying value of First American.
DECEMBER 31
-------------------------------------------------------------
1998 1997
--------------------------- ------------------------------
ESTIMATED Estimated
CARRYING FAIR Carrying Fair
(in thousands) AMOUNT VALUE Amount Value
- -------------------------------------------------------------------------------------------------------------------
Financial instruments (assets):
Cash and short-term investments $ 1,500,732 $ 1,500,732 $ 1,047,856 $ 1,047,856
Securities held to maturity 1,730,460 1,739,852 763,423 771,815
Securities available for sale 4,495,160 4,495,160 3,552,185 3,552,185
Federal funds sold and securities purchased
under agreements to resell 351,989 351,989 208,372 208,372
Trading account securities 43,987 43,987 64,469 64,469
Loans, net of unearned discount and allowance
for loan losses 11,542,007 11,530,395 12,103,610 12,217,964
Financial instruments (liabilities):
Noninterest-bearing deposits 3,046,651 3,046,651 2,774,449 2,774,449
Interest-bearing deposits 12,224,105 12,267,146 11,379,429 11,382,988
Short-term borrowings 2,213,637 2,213,637 2,050,078 2,050,078
Long-term debt 1,152,939 1,162,053 614,218 618,622
===================================================================================================================
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The estimated fair values for First American's off-balance-sheet
financial instruments are summarized as follows:
DECEMBER 31
-------------------------------------------------------------
1998 1997
--------------------------- ------------------------------
CONTRACTUAL ESTIMATED Contractual Estimated
OR NOTIONAL FAIR or Notional Fair
(in thousands) AMOUNT VALUE Amount Value
- -----------------------------------------------------------------------------------------------------------
Commitments to extend credit $4,849,770 $ 889 $5,262,018 $ 9,021
Standby letters of credit 406,947 1,023 406,049 1,282
Commercial letters of credit 51,005 128 40,930 95
Interest rate swaps 1,129,700 15,939 1,081,225 14,994
Forward interest rate swaps 2,050,000 (25,642) 1,350,000 (4,576)
Interest rate floors -- -- 300,000 1,604
===========================================================================================================
The following methods and assumptions were used in estimating the fair value
disclosures for financial instruments:
Short-term financial instruments -- The carrying amounts of short-term
financial instruments, including cash, federal funds sold and purchased and
resell and repurchase agreements approximate fair value. These instruments
expose First American to limited credit risk and have no stated maturity or
mature within one year or less and carry interest rates which approximate
market.
Securities held to maturity, securities available for sale, and trading
account securities -- Fair values are based on quoted market prices or
dealer quotes. If a quoted market price is not available, fair value is
estimated using quoted market prices for similar securities.
Loans -- For variable-rate loans that reprice frequently, fair values are
based on carrying values. The fair values for certain homogeneous categories
of loans, such as residential mortgages, are estimated using quoted market
prices for securities backed by similar loans, adjusted for differences in
loan characteristics. The fair values for other performing loans are
estimated by discounting estimated future cash flows using the current rates
at which similar loans would be made to borrowers with similar credit risk
and for similar maturities. Included within financial assets are certain
nonperforming assets, consisting primarily of nonperforming loans, the fair
values of which are based principally on the lower of the amount due from
customers or the fair value of the loans' collateral, which is the amount
First American could reasonably expect to receive in a current sale between
a willing buyer and seller other than in a forced or liquidation sale.
Deposits -- The fair value of deposits with no stated maturity, such as
demand deposits, NOW accounts, money market accounts, and regular savings
accounts, is equal to the amount payable on demand at the reporting date.
The fair value of certificates of deposit and other fixed maturity time
deposits is estimated using the rates currently offered for deposits of
similar remaining maturities. Any foreign deposits are valued at the
carrying value due to the frequency with which rates for such deposits are
adjusted to a market rate.
Short-term borrowings -- Fair value is estimated to equal the carrying
amount since these instruments have a relatively short maturity.
Long-term debt -- Rates for long-term debt with similar terms and remaining
maturities are used to estimate fair value of existing debt.
Off-balance-sheet instruments -- The fair value of commitments to extend
credit is based on unamortized deferred loan fees and costs. For letters of
credit, fair value is estimated using fees currently charged to enter into
similar agreements with similar maturities. The fair value of First
American's outstanding interest rate floors is based on quoted market
prices, and the estimated fair value of interest rate swaps and forward
interest rate swaps is based on estimated costs to settle the obligations
with the counterparties at the reporting date.
NOTE 18: COMPREHENSIVE INCOME
SFAS No. 130, "Reporting Comprehensive Income," was adopted by First
American on January 1, 1998. SFAS No. 130 establishes standards for reporting
comprehensive income. Comprehensive income includes net income and other
comprehensive income, which is defined as nonowner related transactions in
equity. Prior periods have been reclassified to reflect the application of the
provisions of SFAS No. 130. The statement requires First American's unrealized
gains or losses (net of tax) on securities available for sale to be included in
other
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comprehensive income. The amounts of other comprehensive income included in
equity along with the related tax effect are set forth in the table below:
GAIN (LOSS) TAX
BEFORE (EXPENSE)
(in thousands) TAX BENEFIT NET OF TAX
- ------------------------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, 1998
- ------------------------------------------------------------------------------------------------------------------
Net unrealized loss on securities available for sale arising during 1998 $(15,298) $ 10,402 $ (4,896)
Less: Reclassification adjustment for net gains included in net income 7,999 (3,070) 4,929
- ------------------------------------------------------------------------------------------------------------------
Other comprehensive loss $(23,297) $ 13,472 $ (9,825)
==================================================================================================================
Year ended December 31, 1997
- ------------------------------------------------------------------------------------------------------------------
Net unrealized gain on securities available for sale arising during 1997 $ 12,554 $ (4,728) $ 7,826
Less: Reclassification adjustment for net gains included in net income 4,528 (1,652) 2,876
- ------------------------------------------------------------------------------------------------------------------
Other comprehensive income $ 8,026 $ (3,076) $ 4,950
==================================================================================================================
Year ended December 31, 1996
- ------------------------------------------------------------------------------------------------------------------
Net unrealized loss on securities available for sale arising during 1996 $(37,812) $ 14,435 $(23,377)
Less: Reclassification adjustment for net gains included in net income 2,882 (1,118) 1,764
- ------------------------------------------------------------------------------------------------------------------
Other comprehensive loss $(40,694) $ 15,553 $(25,141)
==================================================================================================================
NOTE 19: PARENT COMPANY FINANCIAL INFORMATION
Condensed financial information for First American (Parent Company
only) was as follows:
CONDENSED INCOME STATEMENTS
YEAR ENDED DECEMBER 31
------------------------------------------------
(in thousands) 1998 1997 1996
- -------------------------------------------------------------------------------------------------------------------
Income
Dividends from subsidiaries:
Banks $158,856 $267,018 $ 79,795
Fees from subsidiaries 7,324 42,821 41,465
Interest from subsidiaries 1,419 1,407 3,734
Interest on time deposits with other banks and other income 1,281 4,461 257
- -------------------------------------------------------------------------------------------------------------------
Total income 168,880 315,707 125,251
- -------------------------------------------------------------------------------------------------------------------
Expenses
Interest expense 14,054 14,701 11,627
Salaries and employee benefits 12,159 27,627 28,234
Other expenses 45,668 24,939 23,903
- -------------------------------------------------------------------------------------------------------------------
Total expenses 71,881 67,267 63,764
- -------------------------------------------------------------------------------------------------------------------
Income before income taxes 96,999 248,440 61,487
Reduction to consolidated income taxes arising from parent
company loss 20,208 9,099 8,129
- -------------------------------------------------------------------------------------------------------------------
Income before equity in undistributed earnings of subsidiaries 117,207 257,539 69,616
- -------------------------------------------------------------------------------------------------------------------
Equity in undistributed earnings (dividends in excess of earnings)
of subsidiaries:
Banks 94,089 (10,373) 144,037
Nonbanks 66 348 526
- -------------------------------------------------------------------------------------------------------------------
Net income $211,362 $247,514 $214,179
===================================================================================================================
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CONDENSED BALANCE SHEETS
DECEMBER 31
----------------------------------
(in thousands) 1998 1997
- -------------------------------------------------------------------------------------------------------------------
Assets
Cash $ 443 $ 5,003
Interest-bearing deposit with unaffiliated bank -- 7,600
Short-term investments with subsidiary 38,162 24,356
- -------------------------------------------------------------------------------------------------------------------
Total cash and cash equivalents 38,605 36,959
- -------------------------------------------------------------------------------------------------------------------
Securities available for sale 72 --
Note receivable from nonbank subsidiary 390 --
Employee stock ownership plan loan -- 163
Investment in subsidiaries, at cost adjusted for equity in earnings and
net unrealized gains (losses) on securities available for sale:
Bank 1,953,174 1,797,639
Nonbank 1,965 8,091
Other assets 25,186 53,764
- -------------------------------------------------------------------------------------------------------------------
Total assets $ 2,019,392 $ 1,896,616
===================================================================================================================
Liabilities and shareholders' equity
Long-term debt $ 200,735 $ 200,839
Other liabilities 38,862 51,884
- -------------------------------------------------------------------------------------------------------------------
Total liabilities 239,597 252,723
- -------------------------------------------------------------------------------------------------------------------
Preferred stock, without par value -- --
Common stock, $2.50 par value 290,797 280,468
Additional paid-in capital 241,333 212,311
Retained earnings 1,286,512 1,161,877
Deferred compensation on restricted stock (31,781) (13,341)
Employee stock ownership plan obligation -- (163)
- -------------------------------------------------------------------------------------------------------------------
Realized shareholders' equity 1,786,861 1,641,152
Accumulated other comprehensive income (loss), net of tax (7,066) 2,741
- -------------------------------------------------------------------------------------------------------------------
Total shareholders' equity 1,779,795 1,643,893
- -------------------------------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $ 2,019,392 $ 1,896,616
===================================================================================================================
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CONDENSED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31
-----------------------------------------------------
(in thousands) 1998 1997 1996
- -----------------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net income $ 211,362 $ 247,514 $ 214,179
Adjustments to reconcile net income to net cash provided
by operating activities:
(Undistributed income) dividends in excess of income of subsidiaries (94,155) 9,675 (144,563)
Depreciation and amortization 541 2,296 3,470
Deferred income tax expense 2,277 113 1,614
Net gain on sale of other assets -- (2,258) --
Change in assets and liabilities
Decrease (increase) in interest receivable and other assets 17,617 (8,241) (13,528)
(Decrease) increase in interest payable and other liabilities (8,071) 1,156 7,543
- ----------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 129,571 250,255 68,715
- ----------------------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES
Net decrease in employee stock ownership plan loan 163 280 218
Acquisitions, net of cash and cash equivalents acquired 979 (29,587) (1,477)
Sale of other assets -- 2,830 --
Purchases of premises and equipment -- (4,255) (2,071)
Net (increase) decrease in notes receivable from nonbank subsidiary (390) -- 2,990
Net decrease (increase) in investment in subsidiaries 7,290 (8,000) --
- -----------------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) investing activities 8,042 (38,732) (340)
- -----------------------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES
Net decrease in short-term borrowings -- -- (27,600)
Net proceeds from long-term debt -- 2,038 96,647
Issuance of common shares for Employee Benefit and Dividend
Reinvestment Plans 18,231 22,710 19,195
Repurchase of common stock (65,384) (197,693) (109,419)
Tax benefit related to stock options and award plans 5,183 5,603 4,530
Cash dividends paid (93,997) (80,177) (65,472)
- -----------------------------------------------------------------------------------------------------------------------
Net cash used in financing activities (135,967) (247,519) (82,119)
- -----------------------------------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents 1,646 (35,996) (13,744)
Cash and cash equivalents, beginning of year 36,959 72,955 86,699
- -----------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of year $ 38,605 $ 36,959 $ 72,955
=======================================================================================================================
Cash paid during the year for:
Interest expense $ 14,000 $ 14,715 $ 10,419
Income taxes 49,392 103,581 96,370
Noncash investing activities:
Stock issued for acquisitions (note 2) 62,947 94,637 83,723
=======================================================================================================================
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NOTE 20: SEGMENT INFORMATION
First American is a diversified financial services company that
operates in two business segments, Banking Services and Enterprises, based upon
management responsibility. First American's reportable segments are strategic
business operations that offer different products and services. They are managed
separately based on the fundamental differences in their operations.
The Banking Services segment consists of the traditional banking
components of First American's wholly-owned banking subsidiaries. The Banking
Services segment operates 391 offices and has 699 ATM's. This segment makes
commercial, consumer, and real estate loans and provides various banking and
mortgage-related services to its customers located within First American's
market, which consists primarily of the Mid-South region of the United States.
The Enterprises segment includes:
- IFC, which distributes securities, investment, and insurance
products to customers of subscribing financial institutions located
throughout the United States;
- ISG, the investment services group of FANB;
- First American Network, Inc., a subsidiary of FANB; and
- SSI, a healthcare payments processing company in which FANB holds
a 49 percent interest.
The Enterprises segment provides a variety of financial services not available
through traditional banking channels.
First American evaluates the performance of its business segments based
on net pre-tax contribution. First American accounts for intersegment sales and
transfers, if any, as if the sales or transfers were to third parties, that is,
at current market prices. The accounting policies of the segments are the same
as those described in the summary of significant accounting policies.
No single customer provides more than 10 percent of First American's
revenue. First American derives essentially all of its revenues from markets
within the United States. First American has no long-lived assets outside of the
United States. The following table presents certain financial data by business
segment, including reconciling items to consolidated totals.
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110
BANKING
(in thousands) SERVICES ENTERPRISES OTHER TOTAL
- ----------------------------------------------------------------------------------------------------------------------
Net interest income
1998 $ 729,584 $ 4,028 $ -- $ 733,612
1997 694,719 4,441 -- 699,160
1996 619,445 4,526 -- 623,971
Provision for loan losses
1998 (31,387) -- (9,546(a) (40,933)
1997 (16,109) -- -- (16,109)
1996 (6,437) -- -- (6,437)
Noninterest income, external customers
1998 262,442 208,145 7,025(b) 477,612
1997 227,804 177,829 -- 405,633
1996 204,347 107,580 -- 311,927
Noninterest expense
1998 (540,569) (174,544) (121,725(c) (836,838)
1997 (541,921) (157,183) -- (699,104)
1996 (493,690) (95,613) (8,100(d) (597,403)
Net pretax contribution
1998 420,070 37,629 (124,246(a)(b)(c) 333,453
1997 364,493 25,087 -- 389,580
1996 323,665 16,493 (8,100(d) 332,058
Equity in net income of equity method investees
1998 423 740 -- 1,163
1997 996 119 -- 1,115
1996 1,156 304 -- 1,460
Depreciation and amortization
1998 80,634 3,769 -- 84,403
1997 69,994 3,665 -- 73,659
1996 54,645 2,550 -- 57,195
Purchases of premises and equipment
1998 40,475 3,811 -- 44,286
1997 81,957 1,527 -- 83,484
1996 67,310 5,962 -- 73,272
Investment in equity method investees
1998 942 -- -- 942
1997 667 -- -- 667
1996 8,575 -- -- 8,575
Average total assets
1998 19,233,992 115,633 (40,697(E) 19,308,928
1997 17,814,152 134,000 (37,209(e) 17,910,943
1996 16,464,518 144,311 (12,569(e) 16,596,260
=======================================================================================================================
(a) Pioneer merger-related provision
(b) Gain on sale of corporate trust services
(c) Merger and integration costs
(d) One-time SAIF assessment
(e) Effect of intersegment loan, due from bank, and investment in subsidiary
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
FIRST AMERICAN CORPORATION
(Registrant)
BY: /s/ Dennis C. Bottorff
--------------------------------
DENNIS C. BOTTORFF,
CHAIRMAN, CHIEF
EXECUTIVE OFFICER, AND
DIRECTOR
Date: March 25, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
/s/ Dennis C. Bottorff /s/ Dale W. Polley
- ---------------------------------------- ------------------------------
Dennis C. Bottorff Dale W. Polley
Chairman, Chief Executive Officer and President and
Director Director
Dated: March 25, 1999 Dated: March 23, 1999
/s/ Allan R. Landon /s/ Marvin J. Vannatta, Jr.
- ----------------------------------------- -----------------------------
Allan R. Landon Marvin J. Vannatta, Jr.
Executive Vice President, Chief Financial Executive Vice President and
Officer and Principal Financial Officer Principal Accounting Officer
Dated: March 19, 1999 Dated: March 19, 1999
109
112
/s/ Dennis C. Bottorff /s/ James R. Martin
- -------------------------------- ----------------------------------
DENNIS C. BOTTORFF JAMES R. MARTIN
Director Director
Dated: March 18, 1999 Dated: March 18, 1999
/s/ George M. Clark, III /s/ Robert A. McCabe, Jr.
- -------------------------------- ----------------------------------
GEORGE M. CLARK, III ROBERT A. MCCABE, JR.
Director Director
Dated: March 18, 1999 Dated: March 18, 1999
/s/ Earnest W. Deavenport, Jr. /s/ John N. Palmer
- -------------------------------- ----------------------------------
EARNEST W. DEAVENPORT, JR. JOHN N. PALMER
Director Director
Dated: March 18, 1999 Dated: March 18, 1999
/s/ Reginald D. Dickson /s/ Dale W. Polley
- -------------------------------- ----------------------------------
REGINALD D. DICKSON DALE W. POLLEY
Director Director
Dated: March 18, 1999 Dated: March 18, 1999
/s/ James A. Haslam, II /s/ E.B. Robinson, Jr.
- -------------------------------- ----------------------------------
JAMES A. HASLAM, II E.B. ROBINSON, JR.
Director Director
Dated: March 18, 1999 Dated: March 18, 1999
/s/ Warren A. Hood, Jr. /s/ Roscoe R. Robinson
- -------------------------------- ----------------------------------
WARREN A. HOOD, JR. ROSCOE R. ROBINSON
Director Director
Dated: March 18, 1999 Dated: March 18, 1999
/s/ Martha R. Ingram /s/ James F. Smith, Jr.
- -------------------------------- ----------------------------------
MARTHA R. INGRAM JAMES F. SMITH, JR.
Director Director
Dated: March 18, 1999 Dated: March 18, 1999
/s/ Walter G. Knestrick /s/ Cal Turner, Jr.
- -------------------------------- ----------------------------------
WALTER G. KNESTRICK CAL TURNER, JR.
Director Director
Dated: March 18, 1999 Dated: March 18, 1999
/s/ Gene C. Koonce /s/ Celia A. Wallace
- --------------------------------- ----------------------------------
GENE C. KOONCE CELIA A. WALLACE
Director Director
Dated: March 18, 1999 Dated: March 18, 1999
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113
/s/ Ted H. Welch
- -------------------------------------
TED H. WELCH
Director
Dated: March 18, 1999
/s/ J. Kelley Williams, Sr.
- -------------------------------------
J. KELLEY WILLIAMS, SR.
Director
Dated: March 18, 1999
/s/ David K. Wilson
- -------------------------------------
DAVID K. WILSON
Director
Dated: March 18, 1999
/s/ Toby S. Wilt
- ------------------------------------
TOBY S. WILT
Director
Dated: March 18, 1999
/s/ William S. Wire, II
- ------------------------------------
WILLIAM S. WIRE, II
Director
Dated: March 18, 1999
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EXHIBIT INDEX
NUMBER NAME
- ------ ----
Exhibit 10.1(m) Employment Agreement dated December 7, 1997
by and between First American Corporation
and E.B. Robinson, Jr., effective May 1, 1998,
as amended July 1, 1998.
Exhibit 10.1(n) Consulting Agreement by and between First
American National Bank and George M. Clark, III,
effective March 1, 1999.
Exhibit 21 List of Subsidiaries.
Exhibit 23 Accountants' Consent.
Exhibit 27 Financial Data Schedule (for SEC use only).
112