EXHIBIT 13.2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS FOR THE 3 YEARS ENDED DECEMBER 31, 1993
F I N A N C I A L R E V I E W
State Street Boston Corporation
This section provides a discussion and analysis of State Street Boston
Corporation's consolidated results of operation for the three years ended
December 31, 1993, its financial condition at year-end 1993, and its approach
to risk management. It should be read in conjunction with the Financial
Statements and Supplemental Financial Data.
RESULTS OF OPERATIONS
SUMMARY
In 1993, earnings per share were $2.33 on a fully diluted basis, up $.26, or
13%, from $2.07 in 1992. Net income was $179.8 million, up from $160.4 million a
year ago. Return on stockholders' equity was 17.4%, compared with 18.1% in 1992.
In 1993, State Street continued to grow rapidly while increasing the level of
strategic spending.
The growth rate of total revenue was 18%, which was higher than the growth
rate in the last several years. Assets of current customers grew from
additional funding and market appreciation. State Street also attracted new
customers and provided additional services to existing customers. A high
customer retention rate and a broad, integrated product line serve as a base
for future revenue growth. The principal markets State Street serves are dynamic
and growing. In 1993, State Street benefitted particularly from the continued,
rapid growth of the mutual fund industry and from increased cross-border
investing by customers.
Total revenue grew $173.4 million to $1.2 billion, driven primarily by a $130.5
million, or 19%, increase in fee revenue. Total revenue is defined as fee
revenue plus taxable equivalent net interest revenue, less the provision for
loan losses.In 1993, fee revenue accounted for an increasing proportion of total
revenue, reaching 72%, among the highest percentages of major banking companies.
Fiduciary compensation, the largest component of fee revenue, was $627.8
million, up $82.4 million, or 15 %, and foreign exchange trading revenue was
$82.7 million, up $24.8 million, or 43%.
Taxable equivalent net interest revenue was $337.9 million, up $42.0 million,
or 14%, over 1992. Net interest revenue reflected the benefit of growth in the
balance sheet and a wider spread between interest rates earned and
paid, which were partially offset by the effect of lower asset yields.
Operating expenses were $862.3 million and grew $145.9 million, or 20%,
supporting growth and a higher level of strategic investment spending in
information technology, product and market development, and the core
processing infrastructure. Strategic investment spending equaled 10% of
revenue. In 1993, State Street increased its rate of spending on strategic
investments to strengthen its leadership position in the markets in which
it participates and to position it for future growth.
The increase in the U.S. corporate income tax rate for 1993 lowered reported
earnings per share for the year by $.03.
FEE REVENUE
In 1993, fee revenue was $833.4 million, up $130.5 million, or 19%, over 1992,
primarily from growth in fiduciary compensation.
The following table shows the categories of fee revenue:
- ----------------------------------------------------------------------------------------------------------------
FEE REVENUE Compound
Growth
Change Rate
(Dollars in millions) 1993 1992 1991 1990 1989 1988 92-93 88-93
- ----------------------------------------------------------------------------------------------------------------
Fiduciary compensation........... $627.8 $545.4 $442.5 $381.3 $336.3 $292.8 15% 16%
Foreign exchange trading ........ 82.7 57.9 39.3 33.0 28.9 23.4 43 29
Processing service fees ......... 46.1 30.4 19.8 20.2 26.3 23.2 52 15
Service fees .................... 40.0 31.3 23.3 18.1 16.2 15.1 28 22
Securities gains (losses), net .. 15.4 12.3 3.3 .2 (3.9) 1.0 25 73
Bank card fees .................. 4.3 4.9 13.3 26.5 26.5 24.6 (12) (29)
Other............................ 17.1 20.7 22.4 23.6 13.3 17.4 (17) --
Total fee revenue......... $833.4 $702.9 $563.9 $502.9 $443.6 $397.5 19 16
FINANCIAL REVIEW
State Street Boston Corporation
FIDUCIARY COMPENSATION. The largest component of fee revenue, fiduciary
compensation, increased $82.4 million, or 15%, to $627.8 million in 1993.
Growth in fiduciary compensation in 1993 came from the growth of current
customers and their use of additional and more complex services. The
installation of new customers also added to revenue and serves as a base for
future growth. In 1993, pricing pressure on the basic custody and accounting
services for large pools of assets partially subsided. While State Street's
custody capabilities attract customers, less than 30% of fiduciary revenue is
derived from mutual funds for whom State Street provides only basic custody,
and custody and portfolio accounting for customers other than mutual funds.
Fiduciary compensation is derived from accounting, custody, information,
investment management and trusteeship services. The fee charged is negotiated
and is usually based on the volume of assets under custody or management, the
number of securities held, portfolio transactions, income collected and other
value-added services such as securities lending and pricing. Asset-based fees
are usually on a sliding scale; as the assets in a portfolio under management or
custody grow, due to market value changes or cash inflows, State Street's fee
may be a smaller percentage of those assets. Thus, changes in portfolio size do
not always have a corresponding impact on State Street's revenue.
State Street's revenue is becoming less sensitive to changes in prices of
securities because of the broadening range of services used by customers. A
decreasing percentage of total revenue is derived from asset-based fees.
If equity values worldwide were to increase or decrease 10%, State Street
estimates that this, by itself, would cause less than a 1% change
in total revenue. Similarly, if bond values were to change by 10%, less than a
1% change in total revenue is anticipated.
In addition to fiduciary revenue, certain financial asset services customers
generate other types of fee revenue, particularly foreign exchange trading
revenue, and net interest revenue. Noninterest-bearing deposits from these
customers comprise about 85% of total noninterest-bearing deposits available
for investment. These customers also invest substantial short-term funds with
State Street in the form of foreign deposits and other liabilities, particularly
repurchase agreements. Revenue from investing these deposits and funds is
reported as interest revenue.
MUTUAL FUNDS. State Street is the largest custodian of mutual funds in the
United States, servicing 37% of registered funds, and provides services to
offshore funds and in-country funds outside the United States. In 1993, over 40%
of the increase in fiduciary compensation came from servicing the explosive
growth in the mutual fund/collective investment fund industry worldwide.
Mutual fund assets serviced increased 22% to $683 billion, reflecting growth in
all types of funds except money market funds, as well as an increase in the
number of funds serviced. The total number of funds serviced increased 18%, from
1,818 at year-end 1992 to 2,140 in 1993. New funds, primarily from existing
customers, totaled 481, and were partially offset by transfers, mergers and
consolidations, and liquidations. The number of trades processed for mutual fund
portfolios increased 20%.
State Street's capabilities and offshore locations also enabled it to benefit
from increasingly complex global custody and accounting requirements.
International assets of U.S.-registered mutual funds more than doubled, the
number of mutual funds offering multiple classes of shares nearly doubled,
offshore funds serviced increased 60% to 192 and assets of offshore funds
increased 111% to $15.8 billion.
MASTER TRUST/MASTER CUSTODY/GLOBAL CUSTODY. State Street provides custody,
portfolio accounting, information and other related services for retirement and
other financial assets of corporations, public funds, endowments, foundations
and nuclear decommissioning trusts. In 1993, the growth in fiduciary
compensation from these services worldwide came primarily from custody and
portfolio accounting fees, particularly from global custody.
State Street is ranked as the largest servicer of tax-exempt assets for
corporations and public funds in the United States. In 1993, revenue growth came
from major new public fund customers and growth of corporate
pension funds currently serviced. Revenue grew rapidly from services
facilitating the investment of short-term cash of public funds.
Customers using financial asset services may elect to have State Street lend
their securities to generate revenue to improve total return. In 1993, total
securities on loan in this program increased substantially and the program was
expanded to include securities denominated in 16 currencies, but revenue from
securities lending declined due primarily to lower interest rate spreads.
State Street attracted substantial new custody and portfolio accounting
customers outside the United States. Current customers increased their assets,
and revenue increased from their use of additional services, including
securities lending, and performance measurement and analytics. These positive
factors were slightly offset by the redemption of U.S.-issued mortgage-backed
securities by Japanese investment trusts.
FINANCIAL REVIEW
State Street Boston Corporation
INSTITUTIONAL ASSET MANAGEMENT. Revenue growth from the management of
institutional assets improved as 1993 progressed, with growth across the product
line and around the world. Total institutional assets managed increased to $136
billion, up $30 billion, or 28%, in 1993. In the United States, new customers
and additional allocations to State Street Global Advisors by existing customers
increased assets managed, utilizing both active and passive strategies.
The continued strong performance of a domestic, active strategy, Matrix Equity,
was an important factor in attracting new business. The significant turnaround
in 1993 of the performance of non-U.S. equity markets attracted funds to State
Street's international passive products. Money market products grew as well.
Revenue from non-U.S. offices increased substantially, due in part to investors
seeking to increase their investments in the United States. State Street Banque
in Paris won an award for having the best-performing family of SICAVs
(the equivalent of a mutual fund) in France, which attracted additional funds.
CORPORATE TRUST. Corporate trust revenue was up substantially from a year ago,
due primarily to new trusteeships from existing customers issuing asset-backed
securities, a security in which State Street specializes; corporate securities;
and municipal securities. Lower interest rates and the resulting large volume of
mortgage refinancings resulted in substantial issuance of mortgage-backed debt.
The municipal bond market was active with refinancings. Bonds under trusteeship
increased to $201 billion, up from $136 billion at year-end 1992. This reflected
$49 billion of bonds from a municipal trust and agency unit acquired in the
second quarter and $35 billion in new trusteeships closed, partially offset by
an exceptionally high volume of pre-payments, calls and paydowns.
Included in assets under custody in the table below is $104 billion of corporate
trust-related assets - the collateral of structured bond issues. It is
anticipated that one customer will begin servicing its own collateral in the
first half of 1994, lowering State Street's assets under custody by $47 billion.
OTHER FIDUCIARY SERVICES. Personal trust revenue increased primarily due to new
business. Revenue from servicing defined contribution plans, such as 401(k)
plans, also grew, reflecting new business. The number of participant accounts
serviced increased 17% to 816,000. Fiduciary compensation from servicing
insurance company assets grew rapidly from new customers and an increase in
existing customers' assets and activity.
ASSETS UNDER CUSTODY, TRUSTEESHIP AND MANAGEMENT. Assets under custody,
trusteeship and management serve to indicate the relative size of various types
of customers and, in the context of market value changes, as proxies for
business growth. There is not always a direct correlation between assets and
revenue. This is due to the increasing number of services used by many of State
Street's customers and the declining percentage of revenue coming from asset-
based basic custody fees from some customers, combined with the broad range of
basis-point fees charged depending upon the specific service provided.
ASSETS UNDER CUSTODY, TRUSTEESHIP AND MANAGEMENT Compound
DECEMBER 31, Growth
Change Rate
(Dollars in billions) 1993 1992 1991 1990 1989 1988 92-93 88-93
Assets Under Custody:
Mutual funds/collective
investment funds $ 683.1 $ 560.3 $ 498.4 $429.3 $404.0 $346.0 22% 15%
Customers in:
North America:
Master trust/master
custody/global custody 574.1 465.9 335.2 250.3 242.0 161.8 23 29
Corporate trust 104.0 93.2 66.9 47.0 35.3 34.8 12 24
Insurance 60.4 46.8 37.9 23.1 21.3 19.1 29 26
Other 83.7 83.9 71.3 66.0 61.1 45.4 -- 13
Europe 20.0 13.2 13.2 9.5 11.2 9.4 52 16
Asia/Pacific 46.1 30.7 31.9 16.1 12.1 8.6 50 40
Total assets under
custody $1,571.4 $1,294.0 $1,054.8 $841.3 $787.0 $625.1 21 20
Bonds Under Trusteeship:
Corporate trust $ 201.0 $ 136.0 $ 132.0 $108.4 $ 60.7 $ 52.2 48 31
Assets Under Management:
Institutional:
Equities and bonds $ 64.9 $ 50.3 $ 44.4 $ 34.4 $ 31.9 $ 24.7 29 21
Money market 51.7 37.1 21.9 14.0 10.8 7.0 39 49
Employer securities 19.7 18.8 17.8 13.8 10.6 3.7 5 40
Personal 5.8 5.2 4.8 3.4 3.5 3.0 12 14
Total assets under
management $ 142.1 $ 111.4 $ 88.9 $ 65.6 $ 56.8 $ 38.4 28 30
FINANCIAL REVIEW
State Street Boston Corporation
Equity market values improved worldwide in 1993. From year-end 1992 to year-end
1993, the U.S. equity market, as measured by the S&P 500 index, increased 7%,
compared with an increase of 4% in the previous year. International equity
markets, as measured in dollars by the EAFE index,increased 30%, which compares
with a 14% decline in 1992. As measured by theLehman Brothers Government/
Corporate Bond index, total return in the U.S. bond market was 11% and values
increased 4%. U.S. equity markets were substantially more active in 1993 than
in 1992.
In 1993, total assets under custody increased 21% to $1.6 trillion, although
U.S. market values grew moderately. At year-end, approximately 40% of assets
under custody were fixed income instruments, 30% were equities and 30% were
short-term instruments. Non-U.S. securities comprised 11% of total assets under
custody, up from 7% in 1992. Total bonds under trusteeship increased $65
billion, of which $49 billion was due to an acquisition. Total assets under
management increased 28% to $142.1 billion, due to growth in all types of
assets.
OTHER FEE REVENUE. In 1993, foreign exchange trading revenue was $82.7 million,
up 43% from $57.9 million in 1992. The number of foreign exchange trades grew
rapidly due to more cross-border investing and associated currency risk
management transactions by customers. Additional currencies were traded as
active investors entered emerging markets. New customers were added at an
accelerated pace, most of which were customers who use State Street for other
financial asset services, and their investment managers. The increase in revenue
also reflected volatility in currency markets throughout 1993.
Processing service fees were $46.1 million, up $15.7 million, or 52%. The
increase was due primarily to the full-year impact of the October 1, 1992
acquisition of Wendover Funding, Inc., a mortgage subservicer.
Service fees were $40.0 million, up $8.7 million, or 28%, from 1992. The
increase was due to securities brokerage volume and additional fees from
investment banking, international trade finance services, cash management and
bank service fees. Corporate banking customers chose to pay more in fees rather
than in compensating demand deposit balances, due in part to lower interest
rates.
Securities gains were $15.4 million, compared with $12.3 million in 1992, as
State Street actively managed the available-for-sale portfolio for total return.
The $3.6 million decrease in other fee revenue was due to additional writedowns
of investments in tax-advantaged financings, which lowered fee revenue but had
more than offsetting tax benefits; to currency translation losses on the
foreign bond investment portfolio; and to less revenue from the disposition of
leasing residuals. These reductions were partially offset by increased trading
account profits and additional earnings from Boston Financial Data Services, an
affiliate engaged in mutual fund shareholder accounting.
NET INTEREST REVENUE
Net interest revenue is the difference between interest revenue earned on money
market assets, investment securities and loans and the interest paid on
interest-bearing deposits, money market liabilities and other borrowed funds.
State Street manages its balance sheet to support the growth of its financial
asset services business. As a result, net interest revenue growth is being
driven by increasing amounts of customer funds on the balance sheet.
NET INTEREST REVENUE - TAXABLE EQUIVALENT
Compound
Growth
Change Rate
(Dollars in millions) 1993 1992 1991 1990 1989 1988 92-93 88-93
Interest revenue $698.9 $714.3 $737.7 $817.5 $648.3 $499.3
Taxable equivalent adjustment 20.3 13.7 18.8 20.8 15.5 16.1
719.2 728.0 756.5 838.3 663.8 515.4
Interest expense 381.3 432.1 464.2 546.7 431.3 299.7
Net interest revenue $337.9 $295.9 $292.3 $291.6 $232.5 $215.7 14% 9%
FINANCIAL REVIEW
State Street Boston Corporation
In this analysis, net interest revenue is expressed on a fully taxable
equivalent basis to adjust for the tax-exempt status of revenue earned on
certain investment securities and loans. Taxable equivalent net interest revenue
in 1993 was $337.9 million, up $42.0 million, or 14%, over 1992.
The improvement in net interest revenue was primarily due to growth in funding.
State Street accommodated the transaction and short-term investment needs of its
financial asset services customers in the form of noninterest-bearing deposits,
repurchase agreements and foreign deposits. This helped to fund a 17% increase
in interest-earning assets. Also contributing to the increase in net interest
revenue was a wider spread between interest rates earned and paid, which
increased from 141 basis points, or 1.41%, in 1992 to 150 basis points in 1993,
an increase of 9 basis points. See the balance sheet review on page 29.
These two positive factors were partially offset by the effect of the level of
market interest rates. Market interest rates continued to decline in 1993, and
the Treasury yield curve flattened significantly. Overnight rates decreased by
approximately 50 basis points, and the two-year Treasury rate fell 72 basis
points. The prime rate also fell by 25 basis points. State Street's net interest
revenue is sensitive to the level of market interest rates, particularly U.S.
interest rates, due to its large volume of noninterest-bearing deposits.
Generally, low interest rates result in lower net interest revenue caused by the
investment of noninterest-bearing sources of funds at lower rates, all other
variables being the same. Net interest revenue tends to be higher when interest
rates are high. However, because State Street is liability sensitive, a
temporary negative impact is anticipated if short-term interest rates were to
rise. See the interest rate sensitivity management discussion on page 31.
NET INTEREST MARGIN. Net interest margin is defined as taxable equivalent net
interest revenue expressed as a percentage of average interest-earning assets.
The margin declined 6 basis points to 2.08% in 1993 from 2.14% in 1992. The
contribution to the margin from noninterest-bearing sources was 15 basis points
below 1992 as a result of investment of these funds at lower rates. Further
declining market interest rates outweighed the benefits of asset growth and a
wider spread between interest rates earned and paid.
NET INTEREST MARGIN 1993 1992 1991 1990 1989 1988
Yield on interest-earning assets 4.43% 5.26% 7.47% 9.37% 9.55% 8.39%
Rate on interest-bearing liabilities 2.93 3.85 5.87 7.91 8.73 7.10
Excess of rate earned over rate paid 1.50 1.41 1.60 1.46 0.82 1.29
Contribution of noninterest-bearing sources 0.58 0.73 1.29 1.80 2.52 2.22
Net interest margin 2.08% 2.14% 2.89% 3.26% 3.34% 3.51%
PROVISION FOR LOAN LOSSES. The provision for loan losses is the amount charged
to income during the current period to maintain the allowance for loan losses at
a level which management considers appropriate, relative to the level of risk in
the loan portfolio and other extensions of credit. The provision for loan losses
was $11.3 million in 1993, which compares with $12.2 million in 1992. Net
charge-offs were $16.3 million in 1993, compared with $20.1 million in 1992.
Additional discussion of the allowance for loan losses, asset quality, and loan
charge-offs and recoveries is presented in the credit risk section on page 34.
OPERATING EXPENSES
In 1993, operating expenses were $862.3 million, up $145.9 million, or 20%, due
to growth, strategic investment spending and acquisitions. Excluding
acquisitions, operating expenses were up 17%.
The expense increase was primarily in salaries and employee benefits, equipment,
and subcustodian fees. Most of the increase was required to support the rapid
growth of the business. In addition, in 1993 State Street increased its level of
investment spending to strengthen market leadership and to position it for
future growth. Strategic investment spending equaled 10% of total revenue and
is expected to remain at this level through 1994.
Investment spending was for information technology, core processing
infrastructure, and product and market development.
Systems development is the largest category of investment spending. In 1993, one
of the strategic initiatives receiving substantial investment spending was
Global Horizon Interchange, an architecture that provides and integrates data at
the point of use. State Street believes Global Horizon Interchange will position
it to be a leader in information delivery. Applications were also developed to
support the reengineering of core cash and securities processing workflows,
resulting in improved quality and lower unit costs.
Major investments were made in core processing infrastructure in 1993 - going
from three major processing computers to five, and from one data center to two.
Most of this was needed to support current growth, but a portion was designed
to improve 24-hour, on-line reliability and to provide more processing back-up.
State Street invested in geographic and product expansion, increasing the number
of services offered in non-U.S. offices and developing products in the United
States.
FINANCIAL REVIEW
State Street Boston Corporation
OPERATING EXPENSES Compound
Growth
Change Rate
(Dollars in millions) 1993 1992 1991 1990 1989 1988 92-93 88-93
Salaries and employee benefits $479.2 $409.9 $336.8 $300.0 $264.8 $245.1 17% 14%
Occupancy, net 60.6 53.3 45.7 41.7 38.8 35.6 14 11
Equipment 100.3 67.0 48.4 45.3 40.8 38.6 50 21
Contract services 64.1 45.4 47.3 40.7 32.6 23.1 41 23
Professional services 35.4 30.1 24.7 19.2 14.0 11.8 17 25
Telecommunications 21.3 18.1 14.7 13.6 13.0 12.7 18 11
Advertising and sales promotion 18.7 15.1 11.1 10.6 9.7 9.1 24 15
Postage, forms and supplies 17.9 16.8 16.5 16.3 16.4 13.4 7 6
FDIC and other insurance 17.3 16.9 12.4 7.4 7.8 7.5 2 18
Operating and processing losses 4.7 7.0 17.7 15.0 17.4 19.8 (33) (25)
Other 42.8 36.8 33.2 34.8 22.7 20.3 16 16
Total operating expenses $862.3 $716.4 $608.5 $544.6 $478.0 $437.0 20 15
Salaries and employee benefits, the largest component of expense, were $479.2
million, up $69.3 million, or 17%, from 1992, due to an 11% increase in full-
time equivalent staff, higher salaries and rate increases in various benefits.
The first year of recording costs associated with providing postretirement
health care benefits to employees also contributed to the increase in benefit
costs.
Occupancy expense increased $7.3 million, or 14%, due to a second data center,
the expenses of acquired businesses, additional space and expansion of non-U.S.
offices.
Equipment expense of $100.3 million was up 50%, or $33.3 million, due to
additional computers and related information technology equipment needed to
support business growth and a broader product line. The increase included the
expense associated with equipping the second data center with two large
computers.
Contract services expense includes the cost of subcustodian services in over 60
countries used in delivering global custody services, as well as other outside
services including pricing and processing services. In 1993, contract services
expense increased $18.7 million, or 41%, primarily due to subcustodian services
supporting additional cross-border investing. Also contributing to the growth
were increased transaction volumes and the full-year impact of an acquisition.
Professional services expense was $35.4 million, up 17%, or $5.3 million, due to
the development and enhancement of new application systems and products.
Telecommunications expense was $21.3 million, up 18%, due to the full year of
expenses of an acquisition and a second data center, as well as growth.
Advertising and sales promotion was $18.7 million, up 24%, due to increased
expenses related to additional defined contribution plan business, product
development for defined contribution plans and an expanded sales effort.
State Street incurs costs from errors in securities processing and settlement,
valuations, corporate actions and the usual banking losses. In 1993, the $2.3
million decrease in operating and processing losses was due to further reduction
in securities processing losses.
The $6.0 million increase in ``other'' expense is due to increased costs
associated with operations outside the United States, a non-recurring credit in
1992, and increased charitable contributions. These were partially offset by
lower expenses associated with other real estate owned and lower depository
costs.
INCOME TAXES
Income tax expense charged to earnings was $97.6 million in 1993 and $96.1
million in 1992. The respective effective tax rates were 35.2% and 37.5%. The
negative effect of the 1993 increase in the U.S. corporate income tax rate was
more than offset by a higher level of tax credits from tax-advantaged financings
and more tax-exempt revenue. The increase in the U.S. corporate income tax rate
for 1993 lowered reported earnings per share for the year by $.03.
State Street adopted a new accounting standard for income taxes in 1993. The
impact of the adoption was not material.
COMPARISON OF 1992 VERSUS 1991
In 1992, fully diluted earnings per share were $2.07, up 14% from $1.81 in 1991.
The 1991 results were affected by a $56.2 million gain on the sale of the credit
card loan portfolio, which increased earnings per share by $.43, and a
cyclically high provision for loan losses due to the recession.
FINANCIAL REVIEW
State Street Boston Corporation
In 1992, total revenue was $986.6 million, up 16%, or $134.2 million, from 1991.
Fee revenue increased $139.0 million, or 25%, to $702.9 million. This
increase resulted primarily from continued growth in fiduciary compensation,
up $102.9 million, or 23%. More than half of the year-over-year increase in
fiduciary compensation came from the mutual fund and master trust/master
custody services. Total assets under custody were $1.3 trillion, up 23%. Total
assets under management were $111.4 million, up 25%.
In 1992, net charge-offs declined $25.0 million, or 55%, and the outlook for
credit quality improved, resulting in a $47.8 million reduction in the
provision for loan losses.
In 1992, operating expenses were $716.4 million, up $107.9 million, or 18%,
due to growth and development expense. Salaries and employee benefits, the
largest category of expense, were $409.9 million, up 22%, due primarily to
an increase in full-time staff and merit increases.
LINES OF BUSINESS
The estimated results for State Street's two lines of business are derived from
internal accounting systems, which are continually refined to reflect
organizational performance. These systems allocate to each business revenue and
expenses related to the business, as well as certain corporate overhead,
operations and systems development expenses. They also incorporate processes
for allocating assets and liabilities to each business, including the interest
rates appropriate to each allocation. Capital is allocated using the Federal
regulatory guidelines as a basis, coupled with management's judgment regarding
the operational risks inherent in the businesses. The capital allocations may
not be representative of the capital levels that would be required if these
two lines of business were independent business units.
This section of financial review presents the performance results of State
Street's two lines of business: financial asset services and commercial
lending. The following line-of-business information is based on management
accounting practices that conform to and support the strategic objectives and
management structure of State Street and are not necessarily comparable with
similar information for any other banking company:
LINES OF BUSINESS Financial Commercial
(Taxable equivalent basis, Asset Services Lending Corporate
dollars in millions) 1993 1992 1991 1993 1992 1991 1993 1992 1991
Fee revenue $ 803.6 $ 670.7 $531.5 $ 36.5 $ 34.8 $32.4 $ (6.7) $ (2.6) $ (.1)
Gain on sale of credit
card portfolio 56.2
Net interest revenue 260.1 224.4 204.6 86.1 78.0 90.1 (8.3) (6.4) (2.3)
Provision for loan losses .5 (.2) 10.8 12.2 60.2
Total revenue 1,063.2 895.1 736.3 111.8 100.6 62.3 (15.0) (9.0) 53.8
Operating expenses 769.0 630.7 517.1 64.5 63.6 69.5 28.8 22.1 21.9
Income before income
taxes 294.2 264.4 219.2 47.3 37.0 (7.2) (43.8) (31.1) 31.9
Income taxes 129.0 113.6 95.2 20.1 15.7 (3.0) (31.2) (19.5) 12.4
Net Income $ 165.2 $ 150.8 $124.0 $ 27.2 $ 21.3 $(4.2) $(12.6) $(11.6) $19.5
Percentage contribution 92% 94% 89% 15% 13% (3)% (7)% (7)% 14%
Average assets $15,918 $13,525 $9,476 $2,251 $1,977 $2,098
FINANCIAL ASSET SERVICES. Financial asset services, which contributed 92% of
State Street's net income in 1993, is comprised of the business components that
service and manage financial assets worldwide. These include services for mutual
funds and pension plans, both defined benefit and defined contribution;
corporate trusteeship; and management of institutional financial assets and
personal trust. A broad array of banking services is provided, including
accounting, custody of securities, information services and recordkeeping;
taking short-term customer funds onto State Street's balance sheet; investment
management; foreign exchange trading; and cash management. Revenue for these
services is reflected in fee revenue and net interest revenue.
In 1993, net income of $165.2 million increased $14.4 million, or 10%, from
1992. Total revenue growth of $168.1 million, or 19%, was offset by a $138.3
million, or 22%, increase in operating expenses.
The $168.1 million increase in total revenue was driven by a $132.9 million, or
20%, increase in fee revenue. This was primarily due to an $82.4 million, or
15%, increase in fiduciary compensation from accounting, custody of securities,
information services, recordkeeping, trusteeships and investment management.
Growth occurred across all product lines, with services for mutual funds
contributing substantially to the year-over-year increase. Additional cross-
border investing by customers contributed to a substantial increase in foreign
exchange trading revenue. Growth in taxable equivalent net interest revenue
of $35.7 million, or 16%, reflected an increase in short-term customer funds
on the balance sheet, particularly noninterest-bearing demand deposits,
interest-bearing foreign deposits and repurchase agreements. As interest rates
declined, financial asset services benefitted from a wider spread between
interest rates earned and paid, which was offset by the negative effect of a
lower yield on interest-earning assets.
FINANCIAL REVIEW
State Street Boston Corporation
Operating expenses were $769.0 million and grew 22% over 1992, primarily in
support of growth. In 1993, expenses also reflected an increase in strategic
investments and the operating expenses resulting from acquisitions. Nearly all
categories of expenses increased, with salaries and employee benefits,
equipment, and subcustodian fees contributing substantially to the year-over-
year increase.
COMMERCIAL LENDING. In 1993, commercial lending contributed 15% of net income.
Net income increased $5.9 million, or 28%, due to higher net interest revenue
and a $1.4 million lower provision for loan losses. Loan growth and wider loan
spreads increased taxable equivalent net interest revenue $8.1 million, or 10%.
Commercial and financial loans increased, due in part to additional secured
overnight loans to securities brokers. Foreign loans grew from the expansion of
trade finance, and lease financing loans increased.
CORPORATE. Corporate includes the impact of long-term debt; investment of
corporate cash; tax credits from tax-advantaged financings, including writedowns
of these investments in fee revenue; a gain on the sale of the credit card
portfolio in 1991; operating expenses; and other corporate items. In 1993,
these corporate items reduced net income by 7%.
COMPARISON OF 1992 VERSUS 1991. In 1992, net income from financial asset
services increased $26.8 million, or 22%, due to a $158.8 million increase in
revenue, partially offset by a $113.6 increase in expenses. Revenue growth was
driven by a $139.2 million increase in fee revenue. Net income from commercial
lending was $21.3 million in 1992, up from a loss of $4.2 million in 1991 due
to a $60.2 million provision for loan losses in 1991. In 1992, corporate net
income declined $31.1 million due to the sale of the credit card loan portfolio
in 1991, which contributed $32.6 million to net income.
BALANCE SHEET REVIEW
State Street manages its balance sheet to support the needs of the financial
asset services business. In 1993, deposits and liabilities increased from
additional customers' funds, and short-term loans increased. While the balance
sheet was expanded to meet customer needs, State Street continued to place high
priority on maintaining its high credit and deposit ratings. The Corporation's
unusual business mix results in a balance sheet with low credit risk. The
business mix also affects State Street's approach to managing interest
rate sensitivity, liquidity and risk.
LIABILITIES
State Street's balance sheet is liability driven. Growth in interest-earning
assets is determined by growth in interest-bearing liabilities, stockholders'
equity and other noninterest-bearing sources. State Street accommodates
customers' transaction processing needs, which increases demand deposits, and
their short-term investment needs through foreign deposits and repurchase
agreements.
SOURCES OF FUNDS Average Volume Average Rate
(Dollars in millions) 1993 1992 1991 1993 1992 1991
Interest-bearing deposits:
Savings $ 2,167 $ 2,154 $ 1,819 2.41% 3.16% 5.22%
Time 157 162 307 2.88 3.86 6.00
Foreign 4,954 3,955 2,648 2.95 4.42 6.55
Total interest-bearing deposits 7,278 6,271 4,774 2.79 3.97 6.01
Federal funds purchased 741 919 837 2.84 3.35 5.48
Securities sold under repurchase agreements 4,134 3,290 1,766 2.89 3.42 5.08
Other short-term borrowings 216 194 156 3.78 4.27 5.29
Notes payable 511 389 234 3.90 4.74 8.69
Long-term debt 122 146 146 8.19 9.10 9.04
Total interest-bearing liabilities 13,002 11,209 7,913 2.93 3.85 5.87
Other noninterest-bearing sources 2,187 1,758 1,445
Stockholders' equity 1,033 887 773
Total sources $16,222 $13,854 $10,131
Interest-bearing liabilities increased $1.8 billion, or 16%, in 1993. Most of
the growth was in interest-bearing deposits, which increased $1.0 billion, or
16%, over 1992. This increase was due to a higher balance of foreign deposits,
up $1.0 billion, or 25%, reflecting additional deposits from investment managers
of global portfolios. Savings deposits, primarily insured money market accounts
held by corporate customers, remained stable, even in the declining interest
rate environment.
Securities sold under repurchase agreements increased $844 million, or 26%, due
to additional demand by customers, particularly mutual fund managers.
FINANCIAL REVIEW
State Street Boston Corporation
Notes payable increased $122 million. Bank notes were issued during the year
under a program through which State Street Bank may issue up to $750 million of
uninsured notes having maturities of 14 days to five years.
In September, State Street issued $100 million of 5.95% senior notes with a
10-year maturity. These notes were rated A1 by Moody's and AA- by Standard &
Poor's. Proceeds from this issuance were used in part to retire $75 million of
8.50% senior notes. As a result of this and another refinancing, the average
rate on long-term debt declined 91 basis points from 1992.
Growth in noninterest-bearing sources of funds contributed importantly to net
interest revenue in 1993. Non-interest-bearing deposits increased $671 million,
or 23%. The increase was due in part to two acquisitions, a mortgage
subservicer and a municipal trust and agency unit, and to activity of mutual
fund customers. Stockholders' equity increased $146 million, or 16%, over 1992.
ASSETS
These additional funds and deposits enabled State Street to increase interest-
earning assets. In 1993, average interest-earning assets increased $2.4 billion,
or 17%. Growth was mainly in investment securities, securities purchased under
resale agreements and loans. Money market assets and investment securities
constitute the major elements of State Street's assets. These assets, in
comparison to loans, have less credit risk and are more marketable.
INTEREST-EARNING ASSETS Average Volume Average Rate
(Dollars in millions) 1993 1992 1991 1993 1992 1991
Interest-bearing deposits with banks $ 5,022 $ 5,102 $ 3,646 4.01% 5.05% 7.19%
Securities purchased under resale agreements 3,255 2,603 913 3.14 3.75 5.63
Federal funds sold 413 330 305 3.06 3.51 5.83
Trading account assets 369 226 152 4.21 4.45 7.80
Investment securities:
U.S. Treasury and Federal agencies 2,077 1,703 1,417 5.75 6.80 8.16
State and political subdivisions 683 376 378 5.54 7.72 9.09
Other investments 1,827 1,444 1,212 5.33 6.09 8.32
Total investment securities 4,587 3,523 3,007 5.55 6.60 8.34
Loans:
Commercial and financial 1,865 1,556 1,583 4.81 5.64 7.88
Real estate 97 114 144 6.97 7.11 8.47
Consumer 53 66 90 6.81 7.65 10.39
Foreign 282 117 87 5.82 6.08 7.43
Lease financing 279 217 204 5.61 4.84 4.84
Total loans 2,576 2,070 2,108 5.14 5.72 7.72
Total interest-earning assets $16,222 $13,854 $10,131 4.43 5.26 7.47
Interest-bearing deposits with banks are short-term instruments, primarily
Eurocurrency placements, invested with foreign banks in Western Europe and the
Asia/Pacific region. As of December 31, 1993, the average maturity of the
Eurocurrency placements was 49 days.
In 1993, securities purchased under resale agreements increased $652 million as
a result of satisfying customer demand for securities sold under repurchase
agreement. These assets are fully collateralized by U.S. Treasury and
Federal agency securities, and at year-end had an average maturity of 22 days.
The investment securities portfolio continued to expand during 1993 to $4.6
billion, or 25% of assets. State Street classifies its investment securities
into two categories, held-for-investment and available-for-sale. The held-for-
investment portfolio is used to invest depositors' funds, provide asset
diversity and stabilize revenue. The available-for-sale portfolio is managed
for total return.
The held-for-investment portfolio, which is carried at cost, is composed of
investment-quality, asset-backed securities, U.S. Treasury and Federal agency
securities, and bonds and notes of state and political subdivisions.
Based upon the expected principal payments, as of December 31, 1993, the
weighted average life of the asset-backed securities portfolio was 1.3 years.
Securities in this portfolio are highly rated; 96% were AAA as of December
31, 1993. U.S. Treasury and Federal agency securities had a weighted average
life of 1.5 years. Bonds of state and political subdivisions were also of
high quality, with a rating of A or better on 87% of the portfolio. The
majority of the rest of the portfolio consisted of small, unrated issues of
communities with ratings of A or better on their rated issues. The total
portfolio of held-for-investment securities had net unrealized appreciation
of $23.1 million at December 31, 1993.
The available-for-sale portfolio is composed of securities acquired with the
intent to hold for an indefinite period of time, not necessarily until final
maturity. At December 31, 1993, this portfolio had a balance of $1.2
billion and was comprised of U.S. Treasury and foreign government bonds.
Available-for-sale securities are carried at the lower of cost or market. At
December 31, 1993, the market value of these securities was $4.8 million
higher than cost.
FINANCIAL REVIEW
State Street Boston Corporation
At year-end 1993, loans comprised 14% of State Street's assets, compared with
over 55% for other banking companies of comparable size. One-third of the loan
portfolio supports the short-term needs of financial asset services customers
and securities brokers in conjunction with their trading and settlement
activity. These are generally short-term, usually overnight, and are
structured to have relatively low credit exposure.
In 1993, loans increased by $506 million, or 24%, with most of the growth in
relatively low-risk loans to customers of the financial asset services business
and to securities brokers. Foreign loans increased $165 million due to expanding
trade finance activities, including a second-quarter acquisition of an
Australian merchant bank, which added $68 million in loans, and an increase
in transaction loans associated with cross-border investing. Lease financing
increased $62 million.
INTEREST RATE SENSITIVITY MANAGEMENT
The objective of interest rate sensitivity management is to provide sustainable
and stable net interest revenue under various economic environments and to
protect asset values from adverse effects of changes in interest rates. State
Street manages the structure of interest-earning assets and interest-bearing
liabilities to meet revenue goals by adjusting the mix, yields and maturity or
repricing characteristics based on changing market conditions. Interest-rate
risk arises from differences in the timing of repricing assets and liabilities.
Depending on the degree of difference, changes in interest rates and yield
curves can result in an increase or decrease in net interest revenue and
affect the valuation of assets and liabilities. Under policy guidelines approved
by the Board of Directors, State Street seeks to limit interest-rate risk while
using timing differences to manage net interest revenue.
One measure of interest-rate risk, as shown below, is the difference in asset
and liability repricing on a cumulative basis within a specified time frame.
State Street monitors the three-month, six-month and one-year cumulative net
interest-earning assets, or gaps.
INTEREST SENSITIVITY POSITION AT DECEMBER 31, 1993 Interest Sensitivity Period
in Months
(Dollars in millions) Balance 0-3 4-6 7-12 over 12
Interest-Earning Assets:
Interest-bearing deposits with banks $ 5,148 $ 4,113 $ 999 $ 36 $
Other money market assets (1)<F1> 1,624 1,618 6
Investment securities:
Held for investment 4,484 1,070 629 987 1,798
Available for sale 1,217 1,217
Loans 2,202 1,597 42 50 513
Total interest-earning assets 14,675 9,615 1,670 1,073 2,317
Interest-Bearing Liabilities:
Domestic deposits 2,141 1,969 9 12 151
Foreign deposits (2)<F2> 5,427 5,276 150 1
Federal funds purchased and repurchase agreements 3,242 3,236 6
Other interest-bearing liabilities (2)<F2> 748 394 150 204
Total interest-bearing liabilities 11,558 10,875 315 13 355
Interest rate sensitivity position (1,260) 1,355 1,060 1,962
Cumulative interest rate sensitivity position (1,260) 95 1,155 3,117
Cumulative gap percentage (3)<F3> (9)% 1% 8% 21%
<FN>
- ------------
<F1>(1) Includes adjustment to normalize the one-day position.
<F2>(2) Includes financial futures and interest-rate swaps.
<F3>(3) Cumulative interest rate sensitivity position as a percent of earning assets.
The table shows State Street's year-end interest rate sensitivity position,
measured by the earlier of repricing date or maturity, for various assets and
liabilities. Non-maturity items, such as asset-backed securities and deposits,
are reported in time periods based on management's evaluations of prepayments
and repricing. Available-for-sale investment securities are reported in 0-3
months. The analysis indicates that the Corporation was liability sensitive in
the short term - that interest-bearing liabilities are repricing faster than
interest-earning assets - and that net interest revenue would improve when
interest rates are falling and decrease when interest rates are rising. The
level of rates is also an important determinant of net interest revenue.
F I N A N C I A L R E V I E W
State Street Boston Corporation
State Street uses simulation models in managing interest-rate risk. The
Corporation also uses duration and market valuation analyses to estimate and
manage the changes in the value of equity due to changes in interest
rates. These models and analyses indicate that the Corporation has low exposure
to changes in interest rates.
State Street maintains flexibility in its balance sheet to adjust interest
sensitivity. Since interest-bearing sources of funds are predominantly
short-term, State Street maintains a generally short-term structure for
interest-earning assets, including money market assets, investments and loans.
Off-balance sheet financial instruments are used as part of overall asset and
liability management. Financial futures and interest-rate swaps were used
modestly during the year to maintain the Corporation's interest-rate exposure
within policy limits. At December 31, 1993, $150 million of financial futures
and $75 million of interest-rate swaps reduced short-term liability sensitivity.
LIQUIDITY
The primary objective of State Street's liquidity management is to ensure that
the Corporation has sufficient funds to replace maturing liabilities,
accommodate the transaction and cash management requirements of its customers,
meet loan commitments and accommodate other corporate needs. Liquidity is
provided from the ability to access global market sources of funding and gather
additional deposits, and from maturing short-term assets, sale of
available-for-sale securities and payment of loans.
State Street manages its assets and liabilities to maintain a high level of
liquidity. The Corporation has an extensive and diverse funding base inside and
outside the United States. A significant percentage of funding comes from
customers who have other relationships with State Street, particularly those
using financial asset services world-wide. Deposits are accessed through
domestic as well as international treasury centers, providing a cost-effective
geographically diverse source of funding. Significant funding is also provided
from institutional customers' demand for repurchase agreements for their
short-term investment needs. State Street maintains other funding alternatives,
ensuring access to additional sources of funds if needed. Relationships are
maintained with a variety of investors for a range of financial instruments,
in various markets and time zones.
State Street maintains a large portfolio of liquid assets. At December 31, 1993,
the portfolio included $5.1 billion of interest-bearing deposits with banks and
$2.3 billion of securities purchased under resale agreements. Of the total $7.4
billion, $2.2 billion matures within one week, and nearly all matures within
six months. Although not relied on for daily liquidity needs, the $1.2 billion
available-for-sale portfolio of marketable securities provides a significant
secondary source of liquidity.
State Street maintains strong liquidity ratios. When liquidity is measured by
the ratio of liquid assets to total assets, State Street ranks among the
highest of U.S. banking companies. Liquid assets consist of cash and due from
banks, interest-bearing deposits with banks, Federal funds sold, securities
purchased under resale agreements trading account assets and investment
securities. At December 31, 1993, the Corporation's liquid assets were
80% of total assets.
State Street's high ratings as a corporation and depository enhance its
liquidity. The Corporation's senior debt is rated AA- by Standard & Poor's,
A1 by Moody's Investor Services and AA by IBCA, Inc. Depending upon the
rating service, five or fewer of the largest 100 bank holding companies in
the United States have higher ratings. State Street Bank's long-term
certificate of deposit ratings are AA by Standard & Poor's, Aa2 by Moody's
Investor Services and AA+ by IBCA, Inc. These ratings, as well as strong
capital ratios, enhance State Street's liquidity by making its liabilities
attractive to a large number of investors worldwide.
In August, 1993, a shelf registration became effective that allows the
Corporation to issue up to $250 million of debt securities with maturities
not to exceed 10 years. Proceeds from the first tranche of $100 million
were used to redeem existing debt and will be used for general corporate
purposes.
In 1994, State Street plans to begin issuing up to $200 million of commercial
paper. This will be a source of additional funding for the Corporation and
State Street Bank. The Consolidated Statements of Cash Flows on page 38
provide additional information.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The short maturity structure of State Street's assets and liabilities results
in the fair value of its financial instruments equating to or closely
approximating book value, with the exception of investment securities, which
had appreciation of $28 million as of December 31, 1993. See Note S, page 50,
for a further discussion.
FINANCIAL REVIEW
State Street Boston Corporation
CAPITAL
State Street maintains strong capital levels to support current operations and
continued growth. State Street continues to generate capital internally at a
high rate. In 1993, and in each of the preceding six years, capital was
generated internally through the retention of earnings at a rate of 14% or
higher. On December 31, 1988, stockholders' equity was $506 million. By December
31, 1993, it had increased to $1.1 billion, a 14% annual growth rate. In 1993,
stockholders' equity increased $152 million, $140 million from retention of
earnings and $12 million related to exercise of stock options and the
conversions of debentures.
The Federal Reserve Board, State Street's principal regulator, has established
risk-based capital guidelines that require minimum ratios of capital to
risk-weighted assets and certain off-balance sheet exposures. The Board also
maintains a leverage ratio that is a measure of capital to total average balance
sheet assets.
The following table shows State Street's regulatory capital ratios as they
compare to the minimum guidelines:
REGULATORY CAPITAL Minimum
December 31, Regulatory
(Dollars in millions) 1993 1992 Guidelines
Risk-based ratios:
Tier 1 capital 12.1% 13.2% 4%
Total capital 12.7 14.6 8
Leverage ratio 5.3 5.9 3
Tier 1 capital $1,070 $ 938
Total capital 1,122 1,043
Risk-adjusted assets 8,842 7,131
State Street has developed internal capital adequacy policies that focus on risk
exposure rather than on asset levels. These policies place primary importance on
the risk-based guidelines, particularly the Tier 1 risk-based capital ratio.
This emphasis is appropriate to State Street's unusual balance sheet, which has
a high degree of liquidity and low credit risk exposure. At year-end 1993, State
Street's Tier 1 capital ratio of 12.1% significantly exceeded the regulatory
guidelines and was among the strongest for large U.S. banking companies.
The significant increase in balance sheet assets during 1993 caused State
Street's leverage ratio to decline to 5.3% from 5.9% in 1992. Because most
balance sheet growth was in low-risk assets, which are assigned risk weights of
0% and 20%, the impact of this growth to the risk-based ratios was less.
Moderate growth in off-balance sheet activity, which is included in the risk-
based calculations, contributed to the decline in the risk-based ratios.
During 1992, bank regulators adopted five capital categories that are based on
capital ratios and other factors and are applicable to banks for certain
regulatory supervisory purposes. These categories range from ``well
capitalized'' to ``critically undercapitalized.'' The ``well capitalized''
category requires that a bank maintain a minimum Tier 1 risk-based ratio of 6%,
a minimum total risk-based capital ratio of 10% and a minimum leverage ratio
of 5%. State Street manages and monitors its capital ratios to assure that
they exceed the minimum standards for ``well capitalized.'' At December 31,
1993, State Street Bank had a Tier 1 risk-based capital ratio of 11.8%, a
total risk-based capital ratio of 12.2% and a leverage ratio of 5.1%.
DIVIDENDS AND COMMON STOCK
State Street increased the quarterly dividend to stockholders twice during
1993, continuing the pattern of dividend increases that began in 1978. At
year-end 1993, the dividend rate was 17% higher than at year-end 1992. Since
1988, dividends per share have increased at an annual rate of 15%. State
Street's policy is to increase dividends at a rate that is consistent with
long-term earnings growth and that will permit levels of internal capital
generation sufficient to allow for the full development of strategic business
opportunities. The dividend payout ratio was 22% for 1993.
FINANCIAL REVIEW
State Street Boston Corporation
There were 5,926 stockholders of record at year-end 1993.
The following table shows the quarterly dividends and market value per share for
1992 and 1993:
DIVIDENDS AND COMMON STOCK
MARKET PRICE Market Price
DIVIDENDS END OF Dividends End of
DECLARED LOW HIGH PERIOD Declared Low High Period
1993 1992
First $.120 $41 $49 1/8 $44 1/2 First $.105 $29 1/4 $33 1/8 $32 1/8
Second .130 29 1/4 45 3/4 33 1/8 Second .110 30 1/4 38 3/4 35 3/4
Third .130 31 3/4 35 3/4 35 5/8 Third .110 33 5/8 39 36 7/8
Fourth .140 35 3/8 39 3/4 37 1/2 Fourth .120 35 3/8 44 7/8 43 3/4
RISK MANAGEMENT
In providing financial asset services globally, there are certain inherent risks
which must be managed and controlled. These include counterparty credit risk,
operations and settlement risk, and market risk. Risk management is an integral
part of the Corporation's business activities. The credit and risk management
function is centrally organized with close ties to the business units in order
to identify and manage risks effectively. This structure allows for corporate
risk management across the business areas while individual line areas remain
responsible for risk management in their units. Continuing a trend of recent
years, risk management resources are increasingly devoted to financial asset
services.
Emphasis in risk management is placed on experienced staff and on establishing
specific authorization levels and limits. Counterparties are subject to a
rigorous credit approval process which covers the traditional lending services
and global financial asset services for foreign exchange, credit facilities,
placements, credit enhancement services, securities lending and securities
clearing facilities. Concentration is managed in terms of business risk
concentration, including specific industry lending concentrations and country
limits, as well as limits on individual counterparties. Operating risk
management cuts across most of the securities-related business areas of the
Corporation and focuses on payment system risk management, overdraft
monitoring and control, and global securities clearing and settlement.
In addition to specific authorization levels and limits, operating risk
is also controlled through extensive automation, operating procedures and
insurance. Market risk arises from price changes in various markets. Market
risk from foreign exchange and trading activities is monitored and controlled
through established limits on positions and aggregate limits based on
estimates of potential loss of earnings under assumptions about changes
in market conditions.
CREDIT RISK
Credit risk results from the possibility that a loss may occur if a counterparty
becomes unable to meet the terms of a contract. State Street has policies and
procedures to monitor and manage carefully all aspects of credit risk. These
include a comprehensive credit review and approval process which involves the
assignment of risk ratings to all loans and off-balance sheet credit exposures.
The allowance for loan losses is available to cover potential losses from
current credit exposure in the loan portfolio and certain off-balance sheet
commitments.
At December 31, 1993, total non-performing assets were $37.9 million, a $14.9
million decrease from year-end 1992. Non-performing assets include $26.8 million
of non-accrual loans, which was 1% of total volume, and $11.1 million of other
real estate owned. It is State Street's policy to place a loan on non-accrual
when either principal or interest becomes 60 days past due. In 1993, loans
placed on non-accrual status were more than offset by charge-offs, payments, and
the return to accrual status of several loans. Loans are returned to accrual
status only when interest and principal payments are brought current and future
payments are assured. The decline in other real estate owned resulted from
property sales.
At December 31, 1993, non-accrual loans were being carried at 41% of their
original value. Fully diluted earnings per share would have been $.xx higher had
non-accrual loans performed according to their original terms.
In 1993, net charge-offs declined to $16.4 from $20.1 million in 1992. Net
charge-offs as a percentage of average loans were .63% as compared to .97% for
1992.
The allowance for loan losses is increased by the provision for loan losses,
which is a charge to current income. The appropriate level of the allowance is
determined based on a thorough analysis of credit risk. At December 31, 1993,
the allowance for loan losses was $54.3 million, or 2.03% of loans. This
compares to an allowance of $57.9 million, or 2.89% of loans a year ago.
This decline reflects improvement in measures of credit quality, discussed
above, and improvement in the outlook for general economic conditions and
its effect on borrowers. The decline in the allowance for loan losses as a
percentage of loans is also attributable to the growth in low-risk loan
exposures to financial asset services customers.
FINANCIAL REVIEW
State Street Boston Corporation
The following table details the provision for loan losses and credit experience
by type of loan:
CREDIT EXPERIENCE
(Dollars in millions) 1993 1992 1991 1990 1989 1988
Provision for loan losses $11.3 $12.2 $60.0 $45.7 $19.4 $15.6
Charge-offs 18.5 23.5 47.8 48.1 23.7 14.3
Recoveries 2.2 3.4 2.7 3.1 4.6 4.4
Net loan charge-offs 16.3 20.1 45.1 45.0 19.1 9.9
Allowance of subsidiary purchased 1.4
Allowance for loan losses, year-end 54.3 57.9 65.9 51.0 50.3 50.0
Net loan charge-offs by loan type:
Commercial and financial $14.0 $ 8.4 $32.2 $12.0 $ 5.2 $ (.2)
Real estate 1.3 9.8 10.9 9.3 1.5 3.2
Consumer .9 .9 1.6 22.4 9.9 7.3
Foreign .1 1.0 .4 1.3 2.5 (.4)
Total net charge-offs $16.3 $20.1 $45.1 $45.0 $19.1 $ 9.9
Non-performing loans:
Commercial and financial $25.0 $37.2 $30.6 $31.5 $ 5.5 $ 2.4
Real estate .5 .9 7.9 22.7 13.5 7.3
Other 1.3 2.2 2.4 2.3 2.8
Total non-performing loans $26.8 $40.3 $40.9 $56.5 $21.8 $ 9.7
Other real estate owned $11.1 $12.5 $15.4 $15.5
Ratios:
Allowance to ending loans 2.03% 2.89% 3.46% 2.42% 2.04% 2.30%
Net charge-offs to average loans .63 .97 2.14 1.72 .77 .46
Non-performing loans to total loans 1.00 2.01 2.15 2.68 .88 .44
OFF-BALANCE SHEET RISK
A description of State Street's management of the market and credit risk
associated with off-balance sheet financial instruments such as foreign
exchange contracts, indemnified securities lent, loan commitments and
standby letters of credit is presented in Note P, page 49.
COUNTRY RISK
Country risk arises from borrowers' possible inability to repay because of the
inconvertibility of their assets into dollars. At December 31, 1993, assets and
commitments with country risk were $5.6 billion and included $4.8 billion of
Eurocurrency placements with the balance consisting of loans, letters of credit,
and foreign government bonds.
NEW ACCOUNTING DEVELOPMENTS
Statement of Financial Accounting Standards No. 115, ``Accounting for Certain
Investments in Debt and Equity Securities'' is effective for fiscal years
beginning after December 15, 1993. This statement requires that available-for-
sale securities be reported at fair value, with any unrealized gains and
losses, net of taxes, reflected as a separate component of stockholders' equity.
Through December 31, 1993, State Street reported available-for-sale securities
at the lower of amortized cost or market with any valuation adjustments
reflected in fee revenue. At December 31, 1993, the fair value of the available-
for-sale portfolio exceeded its aggregate amortized cost by $4.8 million. State
Street will adopt this new statement in 1994. This could create variability in
stockholders' equity.
Statement of Financial Accounting Standards No. 114, ``Accounting by Creditors
for Impairment of a Loan,'' is effective for fiscal years beginning after
December 15, 1994. This statement addresses how creditors should establish
allowances for credit losses on individual loans determined to be impaired.
State Street plans to adopt this new statement in 1995, and it is not expected
to have a material impact.
APPENDIX TO EXHIBIT 13.2
Narrative description of graphic and image material appearing in paper
format version of Form 10-K.
Pages 22, 23, 26 and 33 contain line graphs (bar charts) of Earnings Per
Share, (Page 22); Fee Revenue Compared to Fiduciary Compensation, (Page 23);
Net Interest Revenue -- Taxable Equivalent, (Page 26); Stockholders' Equity at
Year-End and Dividends Per Share, (Page 33).
The Data points comprising these graphs appear below in tabular format.
Page 22:
Earnings Per Share
(Fully Diluted)
(Dollars)
Earnings
Year Per Share
1988 ......................................... $1.20
1989 ......................................... 1.38
1990 ......................................... 1.55
1991 ......................................... 1.81
1992 ......................................... 2.07
1993 ......................................... 2.33
Page 23:
Fee Revenue Compared to Fiduciary Compensation
(Millions of Dollars)
Fiduciary Fee
Year Compensation Revenue
1988 ........................ $292.8 $397.5
1989 ........................ 336.3 443.6
1990 ........................ 381.3 502.9
1991 ........................ 442.5 563.9
1992 ........................ 545.4 702.9
1993 ........................ 627.8 833.4
Page 26:
Net Interest Revenue -- Taxable Equivalent
(Millions of Dollars)
Net Interest Revenue
Year Taxable Equivalent
1988 .................................... $215.7
1989 .................................... 232.5
1990 .................................... 291.6
1991 .................................... 292.3
1992 .................................... 295.9
1993 .................................... 337.9
Page 33:
Stockholders' Equity at Year-End
(Millions of Dollars)
Stockholders' Equity
Year at Year-End
1988 .................................... $505.6
1989 .................................... 597.2
1990 .................................... 695.1
1991 .................................... 816.6
1992 .................................... 953.1
1993 .................................... 1,105.0
Dividends Per Share
(Dollars)
Dividends
Year Per Share
1988 .................................... $.260
1989 .................................... .300
1990 .................................... .340
1991 .................................... .385
1992 .................................... .445
1993 .................................... .520